10-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)
x	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the fiscal year ended December 31, 2006
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: 001-32330

NorthStar Realty Finance Corp.

(Exact Name of Registrant as Specified in its Charter)

Maryland	11-3707493
(State or other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification No.)
527 Madison Avenue, 16th Floor New York, New York	10022
(Address of Principal Executive Offices)	(Zip Code)

(212) 319-8801
(Registrant’s telephone number, including area code)

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

Title of Each Class	Name of Each Exchange on Which Registered
Common Stock, $0.01 par value	New York Stock Exchange
Preferred Stock, $0.01 par value 8.75% Series A Cumulative Redeemable	New York Stock Exchange
Preferred Stock, $0.01 par value 8.25% Series B Cumulative Redeemable	New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:
None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x  No o

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes o  No x

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. Yes x  No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

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

Large accelerated filer o   Accelerated filer x   Non-accelerated filer o

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

The aggregate market value of the registrant’s voting and non-voting common equity held by non-affiliates of the registrant as of June 30, 2006, was $496,883,521. As of March 13, 2007, the registrant had issued and outstanding 61,344,601 shares of common stock, par value $0.01 per share.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive proxy statement for the registrant’s 2007 Annual Meeting of Stockholders (the “2007 Proxy Statement”), to be filed within 120 days after the end of the registrant’s fiscal year ending December 31, 2006, are incorporated by reference into this Annual Report on Form 10-K in response to Part III, Items 10, 11, 12, 13 and 14.

INDEX

		Page
PART I
Item 1.	Business	3
Item 1A.	Risk Factors	13
Item 1B.	Unresolved Staff Comments	35
Item 2.	Properties	35
Item 3.	Legal Proceedings	36
Item 4.	Submission of Matters to a Vote of Security Holders	36
PART II
Item 5.	Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	37
Item 6.	Selected Financial Data	39
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	41
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk	62
Item 8.	Financial Statements and Supplementary Data	65
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	118
Item 9A.	Controls and Procedures	118
Item 9B.	Other Information	119
PART III
Item 10.	Directors, Executive Officers and Corporate Governance	120
Item 11.	Executive Compensation	120
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	120
Item 13.	Certain Relationships and Related Transactions and Directors Independence	120
Item 14.	Principal Accountant Fees and Services	120
PART IV
Item 15.	Exhibits and Financial Statement Schedules	121

1

FORWARD LOOKING STATEMENTS

This Annual Report on Form 10-K contains certain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements relate to, among other things, the operating performance of our investments and financing needs. Forward-looking statements are generally identifiable by use of forward-looking terminology such as “may,” “will,” “should,” “potential,” “intend,” “expect,” “endeavor,” “seek,” “anticipate,” “estimate,” “overestimate,” “underestimate,” “believe,” “could,” “project,” “predict,” “continue” or other similar words or expressions. Forward-looking statements are not guarantees of performance and are based on certain assumptions, discuss future expectations, describe plans and strategies, contai n projections of results of operations or of financial condition or state other forward-looking information. Our ability to predict results or the actual effect of plans or strategies is inherently uncertain. Although we believe that the expectations reflected in such forward-looking statements are based on reasonable assumptions, our actual results and performance could differ materially from those set forth in the forward-looking statements. These forward-looking statements involve risks, uncertainties and other factors that may cause our actual results in future periods to differ materially from those forward looking statements. We are under no duty to update any of the forward-looking statements after the date of this report to conform these statements to actual results.

Factors that could have a material adverse effect on our operations and future prospects are set forth in “Risk Factors” in this Annual Report on Form 10-K beginning on page 13. The factors set forth in the Risk Factors section could cause our actual results to differ significantly from those contained in any forward-looking statement contained in this report.

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PART I

Item 1. Business

Our Company

We are an internally-managed real estate finance company that focuses primarily on originating and acquiring real estate debt, real estate securities and net lease properties. We conduct our operations so as to qualify as a real estate investment trust, or a REIT, for federal income tax purposes. We invest in those areas of commercial real estate finance that enable us to leverage our real estate investment expertise, utilize our broad capital markets knowledge, and capitalize on our ability to employ innovative financing structures.

We believe that our three principal business lines are complementary to each other due to their overlapping sources of investment opportunities, common reliance on real estate fundamentals and ability to utilize securitizations to finance assets and enhance returns. We seek to match fund our real estate securities and real estate debt investments primarily by issuing collateralized debt obligations, or CDOs. CDOs are a securitization structure whereby multiple classes of debt are issued to finance a portfolio of assets. We utilize non-recourse first mortgage financing to fund our net leased properties. We allocate capital to these businesses in such a way as to diversify our credit risk and optimize our returns. Our primary objectives are to produce attractive risk-adjusted returns and to generate predictable cash flow for distribution to our stockholders.

Real Estate Debt

Overview

We acquire, originate and structure senior and subordinate debt investments generally secured by commercial and multifamily properties, which we finance primarily by issuing CDOs. The predominance of these debt investments are directly originated for our customers, although at times we also co-originate loans with other lenders such as Wall Street firms and commercial banks.

Through our origination offices located in New York, NY, Dallas, TX, and Los Angeles, CA, we have built a franchise with a reputation for providing capital to high quality real estate investors who want a responsive and flexible balance sheet lender. Given that we are a lender who does not generally seek to sell or syndicate the loans we originate, we are able to maintain flexibility in how we structure loans that meet the unique needs of our borrowers. For example, we can make a loan to a borrower that can be increased in size over the loan term if the borrower increases the value of the collateral property. Typical Commercial Mortgage-Backed Securities, or CMBS, and other conduit securitization lenders cannot generally provide these types of loans because of constraints within their funding structures and because they usually originate loans with the intent to sell them to third parties. Additionally, our centralized investment organization enables senior management to review potential new loans early in the origination process which, unlike many large institutional lenders with several levels of approval required to commit to a loan, allows us to provide a high degree of certainty to our borrowers that we will close a loan on terms substantially similar to those initially proposed. We believe that this level of service has enhanced our reputation in the marketplace and will generate increasing business from repeat customers.

Our real estate debt investments generally range in size from approximately $5 million to $200 million, and our average funded loan size was $15 million as of December 31, 2006.

Our Real Estate Debt Investments

Our real estate debt investments include first lien mortgage loans, which are also referred to as senior mortgage loans, junior participations in first lien mortgage loans, which are often referred to as B-notes, second lien mortgage loans, mezzanine loans, and preferred equity interests in borrowers who own such properties. The collateral underlying our real estate debt investments generally consists of income-producing real estate assets, properties that require some capital investment to increase cash flows, or assets undergoing repositionings or conversions, and may involve vertical construction or unimproved land. We seek to make real estate debt investments that offer the most attractive risk-adjusted returns and evaluate the risk based upon our underwriting criteria, sponsorship and the pricing of comparable investments.

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Targeted Investments

Our real estate debt investments typically have the following characteristics:

•

terms of two to ten years and in some cases, such terms are inclusive of extension options;

•

collateral in the form of a first mortgage or a subordinate interest in a first mortgage on real property, a pledge of ownership interests in a real estate owning entity or a preferred equity investment in a real estate owning entity;

•

investment amounts of $5 million to $200 million;

•

floating interest rates priced at a spread over LIBOR or fixed interest rates;

•

an interest rate cap or other hedge to protect against interest rate volatility; and

•

an intercreditor agreement that outlines our rights relative to other investors in the capital structure of the transaction and that typically provides us with a right to cure any defaults to the lender of those tranches senior to us and, under certain circumstances, to purchase senior tranches.

Investment Process for Real Estate Debt

We employ a standardized investment and underwriting process that focuses on a number of factors in order to ensure each investment is being evaluated appropriately, including:

•

macroeconomic conditions that may influence operating performance;

•

fundamental analysis of the underlying real estate collateral, including tenant rosters, lease terms, zoning, operating costs and the asset’s overall competitive position in its market;

•

real estate market factors that may influence the lending and/or economic performance of the collateral;

•

the operating expertise and financial strength of the sponsor or borrower;

•

real estate and leasing market conditions affecting the asset;

•

the cash flow in place and projected to be in place over the term of the loan;

•

the appropriateness of estimated costs associated with rehabilitation or new construction;

•

a valuation of the property, our investment basis relative to its value and the ability to liquidate an investment through a sale or refinancing of the underlying asset;

•

review of third-party reports including appraisals, engineering and environmental reports;

•

physical inspections of properties and markets; and

•

the overall structure of the investment and the lenders’ rights in the loan documentation.

We actively monitor property-level performance of the collateral underlying our debt investments through our asset management group. We regularly review updated information such as budgets, operating statements, rent rolls, major tenant lease signings, renewals, expirations and modifications. We also monitor for changes in property management, borrower’s and sponsor’s financial condition, timing and grants of distributions from reserves and capital accounts or future funding draws, real estate market conditions, sales of comparable and competitive properties, occupancy and asking rents at competitive properties and financial performance of major tenants.

When we began our business, we were primarily focused on the acquisition or origination of subordinate debt investments secured primarily by real estate properties. In 2005 we began placing more emphasis on the direct origination of our debt investments because this allows us a greater degree of control in loan structuring, provides us the opportunity to create subordinate interests in the loan, if desired, that meet our risk-return objectives, allows us to maintain a more direct relationship with our borrowers and to earn origination and other fees. We now directly originate the majority of our debt investments and plan to continue to build our origination capabilities going forward.

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Our Investments in Real Estate Debt

At December 31, 2006 we held the following real estate debt investments:

	Carrying Value(1) (in thousands)		% of Aggregate Carrying Value		Average Fixed Rate		Average Spread Over LIBOR		Number of Investments
Whole loans, floating rate	$	884,340	56.3	%	—		3.09	%	53
Whole loans, fixed rate		90,343	5.7		8.29	%	—		10
Subordinate mortgage interests, floating rate		97,345	6.2		—		4.53		9
Mezzanine loans, floating rate		293,825	18.7		—		5.43		12
Mezzanine loans, fixed rate		126,448	8.0		10.85		—		11
Preferred equity, fixed rate		29,271	1.9		9.35		—		2
Other-loans floating		42,195	2.7		—		2.47		7
Other-loans fixed		7,743	0.5		5.53		—		1
Total/Average	$	1,571,510	100	%	9.60	%	3.70	%	105

——————

(1)(a)

At December 31, 2006, approximately $1.3 billion of these investments serve as collateral for the CDO bonds of our three real estate debt CDO issuances and the balance are financed under either a secured credit facility or in our securities CDOs.

    (b)

We have future funding commitments of $290.8 million related to these investments.

Real Estate Securities Investments

Overview

We invest in, create and manage portfolios of primarily investment grade commercial real estate debt securities, which we finance by issuing CDOs. These securities include CMBS, fixed income securities issued by REITs, credit-rated tenant loans, and CDOs backed primarily by real estate securities. Most of our securities investments have explicit ratings assigned by at least one of the three leading nationally-recognized statistical rating agencies (Moody’s Investors Service, Standard & Poor’s and Fitch Ratings, generally referred to as “rating agencies”) and generally are not insured or otherwise guaranteed. In addition to these securities, our investment grade CDOs may also include bank loans to REITs and real estate operating companies, and real estate whole loans or subordinate debt investments such as B-Notes and mezzanine loans. By financing these securities with long-term debt through the issuance of CDOs, we seek to generate attractive risk-adjusted equity returns and to match fund the terms of our investments.

As a result of our focus on attractive risk/return opportunities in higher credit quality investments, the average rating of our securities investments was Baa2/BBB (investment grade) as of December 31, 2006. In addition, our securities portfolio tends to be granular, with an average investment of approximately $5 million as of December 31, 2006. We believe that the high degree of overall diversification and investment grade quality within our portfolio provides a very stable and longer term base of cash flows that is complementary to our other businesses.

Our Real Estate Securities Investments

The various types of securities backed by real estate assets that we invest in, including CMBS, fixed income securities issued by REITs and real estate CDOs, are described in more detail below.

CMBS. CMBS are backed by one or more loans secured by income-producing commercial and multifamily properties, or collateralized mortgage backed securities. These properties primarily consist of office buildings, retail properties, apartment buildings, industrial properties, health care properties and hotels. The properties are primarily located in the United States, although we may in the future also invest in CMBS backed by properties located in Europe, Asia and other non-U.S. locations that are a growing segment of the market. The loan collateral is held in a trust that issues securities in the form of various classes of debt secured by the cash flows from the underlying loans. The securities issued by the trust have varying levels of priority in the allocation of cash flows from the pooled loans and are rated by one or more of the rating agencies. These ratings reflect the risk characteristics of each class of CMBS and range from
47;AAA” to “CCC”. Any losses realized on defaulted loans are absorbed first by the most

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junior, lowest-rated bond classes. Typically, all principal received on the loans is allocated first to the most senior outstanding class of bonds and then to the next class in order of seniority.

Our CMBS investments can be divided into the following six categories:

Conduit CMBS: Conduit CMBS are backed by large pools of loans secured by first mortgages on properties owned by separate borrowers. Typically, the pool includes over 100 loans and the largest five loans together account for less than 20% of the total pool balance. The loans are also diversified by property type and location. Most loans have initial maturities of ten years, bear a fixed interest rate, and are subject to prepayment penalties or a prohibition against prepayment.

Fusion CMBS: Fusion CMBS are similar to conduit CMBS, but have a higher percentage of the pool concentrated in one or more large loans. These large loans may have characteristics consistent with investment-grade rated securities.

Large Loan CMBS: Large loan CMBS are typically backed by up to 20 large loans secured by first mortgages on properties owned by separate borrowers. In many cases a senior participation in the loan, rather then the whole loan, is contributed to the CMBS trust. It is common for these individual loans or senior participations to each have credit characteristics consistent with investment-grade rated securities.

Credit Tenant Lease CMBS: These CMBS are backed by a series of loans secured by single-tenant properties. Retail property is the most prevalent asset class securing these types of loans. However, office properties and non-traditional asset classes are not uncommon in credit tenant lease CMBS.

Single Borrower Portfolio CMBS: These CMBS are backed by one or more cross-collateralized pools of assets owned by a single borrower. The borrowers in these transactions are typically of institutional quality and these securities are typically rated investment grade.

Single Property CMBS: This can be either an entire CMBS pool backed by a single property, or a tranche of a larger CMBS pool which is backed by a specific loan. The properties securing these loans are typically of very high quality.

REIT Fixed Income Securities: REIT fixed income securities include both secured and unsecured debt issued by REITs. REITs own a variety of property types with a large number of companies focused on the office, retail, multifamily, industrial, healthcare and hotel sectors. In addition, several REITs focus on the ownership of self-storage properties and triple-net lease properties. Certain REITs are more diversified in nature, owning properties across various asset classes. Both REIT secured and unsecured debt typically have credit ratings issued by one or more rating agencies. Currently, the majority of such notes issued by REITs are rated investment-grade. The majority of our long-term investments in REIT fixed income securities will be in REIT unsecured debt. We may also invest in junior unsecured debt or preferred equity of REITs.

REIT unsecured debt is an unsecured general obligation of the issuing company and ranks equally with all existing and future unsecured and unsubordinated debt of the issuer. REIT unsecured debt generally contains financial and other covenants that serve to protect interest and principal payments to bondholders and to preserve the credit quality of the notes. These notes typically pay a fixed interest rate semi-annually over their stated lives which generally range from five to ten years.

Commercial Real Estate CDOs: Commercial real estate CDOs, or CRE CDOs, are debt obligations typically collateralized by a combination of CMBS and REIT unsecured debt. CRE CDOs may also include real estate whole loans and other asset-backed securities as part of their underlying collateral, although this is less common in the market. A CRE CDO is a special-purpose vehicle that finances the purchase of CMBS, REIT debt and other assets by issuing liabilities rated by rating agencies and equity in private securities offerings.

CMBS Re-REMICS: These securities are backed by a discrete pool of CMBS securities. These transactions are similar to CDOs, but have no interest coverage or principal coverage tests and are not managed. These pools are separated in tranches with any losses to the underlying CMBS securities first absorbed by the lowest-rated bond classes. Principal received is typically allocated to bond classes based on their level of seniority.

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Underwriting Process for Real Estate Securities

Our underwriting process for real estate securities is focused on evaluating both the real estate risk of the underlying assets and the structural protections available to the particular class of securities in which we are investing. We believe that even when a security such as a CMBS or a REIT bond is backed by a diverse pool of properties, risk cannot be evaluated purely by statistical or quantitative means. Properties backing loans with identical debt service coverage ratios or loan-to-value ratios can have very different risk characteristics depending on their location, lease structure and physical condition. Our underwriting process seeks to identify those factors that may lead to an increase or decrease in credit quality over time.

Our underwriting process for the acquisition of real estate securities backed by a single loan or a small pool of large loans includes: (1) review of the rent roll and historical operating statements in order to evaluate the stability of the underlying property’s cash flow; (2) utilization of our network of relationships with real estate investors and other professionals to identify market and sub-market trends in order to assess the property’s competitive position within its market; and (3) evaluation of the loan’s structural protections and intercreditor rights.

When evaluating a CMBS pool backed by a large number of loans, we combine real estate analysis on individual loans with stress testing of the portfolio under various sets of default and loss assumptions. First, we identify a sample of loans in the pool which are subject to individual analysis. This sample typically includes the largest 10 to 15 loans in the pool, loans selected for risk characteristics such as low debt service coverage ratios, unusual property type or location in a weak market, and a random sample of small to medium sized loans in the pool. The loans in the sample are analyzed based on the available information, as well as any additional market or property level information that we are able to obtain. Each loan in the sample is assigned a risk rating, which affects the default assumptions for that loan in our stress test. A loan with the lowest risk rating is assumed to default and suffer a loss whereas loans with better risk ratings are assigned a lower probability of default. The stress tests we run allow us to determine whether the bond class in which we are investing would suffer a loss under the stressed assumptions. We invest only in securities in which we expect to recover our invested capital even if the underlying loans experience significant stress.

REIT securities are evaluated based on the quality, type and location of the property portfolio, the capital structure and financial ratios of the company, and management’s track record, operating expertise and strategy. We also evaluate the REIT’s debt covenants. Our investment decision is based on the REIT’s ability to withstand financial stress, as well as more subjective criteria related to the quality of management and of the property portfolio

Synthetic Real Estate Securities

We may enter into derivative contracts to purchase or sell credit protection on real estate securities, and we may create or invest in CDOs backed in part by such contracts. Such contracts, which are known as credit default swaps, or CDS, are an arrangement whereby two parties agree to exchange credit risk on a specific security, or on an index composed of CMBS or other securities. The party that sells credit protection in a CDS receives a fixed income stream from the buyer of credit protection. This payment is related to the credit spread of the reference security. If the reference security suffers a loss, the seller of protection makes a payment to the buyer of protection to cover that loss.

A synthetic CDO is a CDO that is backed by a pool of credit default swaps and a portfolio of high quality floating rate securities. The income stream is derived from the on-going premium received from selling credit protection on a pool of CMBS securities and interest income received from a pool of high quality floating rate securities held by the CDO. The floating securities serve as collateral in the event the CDO must make a payment to the credit protection buyer because of a default on one or more of the CMBS securities. As of December 31, 2006, we were the Portfolio Selection Agent for one synthetic CDO, and have purchased securities in two additional synthetic CDOs. We view the credit risk in these CDOs to be very similar to the credit risk of a cash CDO backed by the same credits, and we believe that our expertise in analyzing real estate securities is directly applicable to analyzing CDS on these securities. The synthetic market g ives us the ability to earn attractive returns on securities which may not be available in the cash market.

We expect to produce a stable income stream from our investments in real estate securities by carefully managing credit risk and interest rate risk. Securities are selected based on their long-term earnings potential and credit quality. Our primary objective is to derive earnings from interest income rather than trading gains. We use the

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real estate expertise of our management team to analyze the loans and properties backing these securities and to anticipate trends in the real estate markets.

Our Real Estate Securities Investments

A summary of the collateral and CDO notes for our off-balance sheet and our consolidating real estate securities CDOs at December 31, 2006 is provided below.

	CDO Collateral – December 31, 2006						CDO Notes – December 31, 2006
Issuance	Date Closed	Par Value of CDO Collateral (in thousands)		Weighted Average Interest Rate		Weighted Average Expected Life (years)	Outstanding CDO Notes(1) (in thousands)		Weighted Average Interest Rate		Stated Maturity
CDO I(2)	8/21/03	$	344,769	6.59	%	5.40	$	325,551	6.22	%	8/1/38
CDO II(2)	7/1/04		377,911	6.30	%	6.30		341,101	5.78	%	6/1/39
CDO III(2)	3/10/05		400,963	6.38	%	5.95		359,878	5.90	%	6/1/40
CDO V(2)	9/22/05		501,021	5.92	%	9.03		461,500	5.17	%	9/5/45
CDO VII	6/21/06		550,502	6.52	%	8.78		510,800	5.58	%	6/22/51
Total		$	2,175,166	6.33	%	7.35	$	1,998,830	5.68	%

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(1)

Includes only notes held by third parties.

(2)

CDO I, CDO II, CDO III and CDO V are accounted for as off-balance sheet investments. See notes to the consolidated financial statements in Item 8 of this Annual Report on Form 10-K for a more detailed discussion of our off-balance sheet CDOs.

Synthetic CMBS CDO

In August 2006, we acquired all of the notes issued by two synthetic CMBS CDOs, for an aggregate amount of $81.2 million. The notes of these CDOs bear interest backed by a combination of AAA floating rate securities and a fixed spread earned by the CDOs for having sold credit protection on a portfolio of investment grade-rated reference securities. The notes yield a blended spread above LIBOR of approximately 4.41% to 6.96%. Any losses on the reference securities will require the CDOs to liquidate a portion of the AAA collateral in order to make payments to credit protection buyer under the credit default swaps.

Warehouse Agreements

Our securities warehouse agreements are structured as off-balance sheet credit facilities, which means securities investments financed in the warehouse but not yet match funded in a CDO do not appear in our financial statements. At December 31, 2006, we have deposited $29.2 million of cash collateral and the bank has accumulated $567.5 million of real estate securities under our current $750 million warehouse agreement and expect these securities will serve as collateral for our next securities CDO. See notes to the consolidated financial statements in Item 8 of this Annual Report on Form 10-K for a more detailed discussion of our securities warehouse facilities.

Net Lease Investments

Overview

Our net lease strategy is to invest primarily in office, industrial, retail and healthcare-related properties across the United States that are net leased to corporate tenants. Net lease properties are typically leased to a single tenant who agrees to pay basic rent, plus all taxes, insurance and operating expenses arising from the use of the leased property. We may also invest in properties that are leased to tenants for which we are responsible for some of the operating expenses. At the end of the lease term, the tenant typically has a right to renew the lease at market rates or to vacate the property with no further ongoing obligation. Accordingly, we generally target properties that are located in primary or secondary markets with strong demand fundamentals, and that have a property design and location that make them suitable and attractive for alternative tenants. Additionally, since we principally acquire properties with long term leases , we also use our real estate underwriting skills to evaluate the real estate residual value in the event a tenant decides not to renew at the end of the initial lease term.

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We believe that the majority of net lease investors who acquire office, industrial and retail properties are primarily focused on assets leased to investment-grade tenants with lease terms of 15 years or longer. In our experience, there is a more limited universe of investors with the real estate and capital markets expertise necessary to underwrite net lease assets with valuations that are more closely linked to real estate fundamentals than to tenant credit. We believe that well-located, general purpose real estate with flexible design characteristics can maintain or increase in value when re-leasing opportunities arise. By leveraging our relationships and employing our combination of real estate and corporate credit skills to identify and invest in sectors of the net lease market where less liquidity exists, we expect to generate risk-adjusted returns superior to those arising from more traditional net lease investment strategies. We originate net lease property investments through intermediaries, our proprietary network of property owners, developers, corporate tenants and tenant representative brokers.

Investing in core net lease office, industrial and retail properties has become very competitive due to the attractive long-term yields relative to other asset classes. In 2006, we undertook a strategy to partner with experts in other commercial real estate asset classes who understand the unique characteristics of operating these other asset types in order to seek out more attractive returns in this area. In May 2006, we announced a joint venture with Chain Bridge Capital LLC to invest in healthcare-related net leased assets, called Wakefield. Healthcare real estate has typically attracted less capital than more traditional commercial real estate such as office and industrial properties, due to the more complex operating issues associated with the business, such as public and private sources of revenue and the Federal, State and Local regulatory environment. Our partner has significant experience investing in a wide variety of healthcare properties, ranging from low-acuity assisted living facilities to higher-acuity skilled nursing facilities and has successfully formed and been a senior manager of several healthcare-focused companies. Wakefield seeks out opportunities to acquire individual assets or portfolios of assets from local or regionally-focused owner/operators with established track records and in markets where barriers to entry exist. The assets are typically purchased from and leased back to private operators under long-term net leases. We believe that our partner provides us a competitive advantage in this sector because of its extensive relationships in the industry to source attractive investment opportunities and its knowledge of and experience in operating, owning and lending to healthcare-related assets.

As of December 31, 2006, our Wakefield joint venture had approximately $124.5 million of assisted care living facilities with an average remaining lease term of 11.4 years and $18.2 million of loan investments. Wakefield is a consolidating joint venture and as of December 31, 2006, and our partner and we had $15.0 million and $57.4 million of equity invested, respectively. While we continue to find attractive net lease investments in the core commercial real estate property types, we plan to continue to seek out opportunities to venture with experts in other real estate asset classes.

Underwriting Process for Net Lease Investments

Our ability to maximize the risk-adjusted returns available from investing capital in net lease properties depends, in part, on our ability to underwrite and monitor tenant credit, real estate market and property fundamentals. The comprehensive analysis is important to assessing the particular merits of a given investment. We conduct detailed tenant credit analyses to assess, among other things, the potential for credit deterioration and lease default risk. This analysis is also employed to measure the adequacy of landlord protection mechanisms incorporated into the underlying lease. Our underwriting process includes sub-market and property-level due diligence in order to understand downside investment risks, including quantifying the costs associated with tenant defaults and releasing scenarios. We also evaluate stress scenarios to understand refinancing risk. We incorporate the information obtained through the due diligence pr ocess into an investment memorandum, which includes base case and downside financial models to support investment recommendations.

Our Net Lease Investments

At December 31, 2006 we held the following net lease investments:

Type of Property	Number of Properties	Carrying Value		Percentage of Aggregate Carrying Value
Office/Flex	12	$	256,933	52	%
Investment in unconsolidated joint venture-office/flex(1)	3		25,954	5
Retail	13		85,847	17
Healthcare	20		125,828	26
Total	48	$	494,562	100	%

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——————

(1)

Our investment in the unconsolidated joint venture is $8.6 million.

Of the 48 properties, 14 are located in the Northeast region, 13 in the Southeast region, 14 in the Midwest region, four in the Western region and three in the Southwest region of the United States.

Business Strategy

Our primary objectives are to make real estate-related investments that increase our franchise value and produce attractive risk-adjusted returns, and to generate predictable cash flow for distribution to our stockholders. Our strategy is to target sectors that combine characteristics of real estate, corporate credit and fixed income investments. We believe that we derive a competitive advantage from the combination of our real estate, credit underwriting and capital markets expertise, which enables us to manage credit risk across all three business lines as well as to structure and finance our assets efficiently.

We believe that our complementary core businesses provide us with the following synergies that enhance our competitive position:

Sourcing Investments. CMBS, purchased real estate debt and net leased properties are often sourced from the same originators. We can offer a single source of financing by purchasing or originating a rated senior interest for our real estate securities portfolio and an unrated junior interest for our real estate debt portfolio.

Credit Analysis. Real estate debt interests are usually marketed to investors prior to the issuance of CMBS backed by rated senior interests secured by the same property. By participating in both sectors, we can utilize our underwriting resources more efficiently and enhance our ability to underwrite the securitized debt.

CDO Financing. Our experience and reputation as a CDO manager gives us access to low cost, match funded financing for our real estate securities and real estate debt investments.

Capital Allocation. Through our participation in these three businesses and the fixed income markets generally, we benefit from market information that enables us to make more informed decisions with regard to the relative valuation of financial assets and capital allocation.

Our investment process for all of our investing activities is centralized. We have a formal investment committee comprised of senior management representing each major discipline within the company, including investments, legal, tax, accounting, capital markets and portfolio management. The investment committee meets on a weekly basis to review proposed investments early in the process to ensure that key structural, pricing and collateral due diligence issues are identified up-front, and to also formally approve investments for funding. Preliminary screening memoranda and formal investment committee documents are prepared and distributed in advance of the meetings. All professionals are invited to attend the weekly meetings and to participate throughout the process. All 100%-owned real estate debt and net lease investments require a majority vote of the investment committee. Real estate securities investments above a preestablished threshold r equire the formal approval of our CEO and CIO. Additionally, investments made in our joint ventures typically require approval of a subset of our investment committee.

New Business Opportunities. We seek to identify attractive investment opportunities that are expansions of, and complementary to, our core businesses. We also strive to identify and access new sources of capital to grow our business. Natural expansions of our finance businesses include managing third-party private capital to generate fee-based revenues, broadening our lending platform to originate secured loans that may be backed by collateral other than real estate and expanding the geographic reach of our lending and securities businesses outside of the U.S. For 2007, we may begin to make small investments (relative to our core business) in the following areas:

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Portfolio Management; Private Equity. At present, we operate our businesses by investing equity capital raised from our stockholders in the public capital markets, and believe that we can potentially increase our company’s value and diversify its capital sources and revenues by conducting select new and existing businesses using privately-raised capital. We would earn management and incentive fees from investing this private capital and believe that prospective asset management activities undertaken by us would be complementary to our existing skills sets, will provide a higher return on invested equity capital due to the

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fees generated, and will broaden our sources of capital so that we will be less reliant on the public capital markets to grow our business.

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Middle-Market Lending. In early March 2007, we entered into a joint venture with Monroe Capital, LLC, a Chicago-based firm that originates, acquires and finances middle-market and broadly syndicated corporate loans. The key principals at Monroe have an average of 20 years industry experience and have successfully conducted their lending and asset management business as a team since 1999. We believe that Monroe’s underwriting process, its disciplined focus on credit, and its strategy of financing its loans through securitized non-recourse, match funded vehicles make Monroe’s business an attractive extension of our existing lending business. Through this venture we expect to diversify and expand our loan assets and base of borrowers. Under the terms of the venture, we will provide equity and/or credit support needed to secure a flexible warehouse facility to fund the venture’s lending business. We have also agreed to acquire a significant portion o f the equity issued in the securitizations, or CLOs, that provide longer-term funding for the venture’s loan portfolio. As part of the new venture, we will also own just under 50% of the existing management business that originates, structures and syndicates middle-market corporate loans and provides asset management services for the warehouse assets and the current and future CLOs sponsored by Monroe.

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Global Expansion. Increasingly, non-U.S. real estate debt markets are maturing, and many of our institutional customers and relationships have established attractive businesses outside of the U.S. The real estate asset-backed markets have also developed quickly during 2006 and demonstrated there is a demand for CDO notes backed by European and Asian real estate debt and securities. In 2007 we may begin to leverage our relationships in foreign countries to begin making real estate debt and securities investments where we have the knowledge and relationships to invest in and to risk manage these investments. In 2007, we expect our investment activity, if any, in these markets to be small relative to our core U.S. based business. The non-U.S. real estate markets have historically been less correlated with the U.S. markets, and we believe that potential future non-U.S. investments can be match funded in the CDO market and would provide attractive returns to our sha reholders with less correlation to our existing asset base.

Financing Strategy

We access a wide range of debt and equity capital sources to fund our investment activities and asset growth. Since our IPO in 2004, we have completed preferred and common equity offerings raising $488.4 million of aggregate net proceeds. At December 31, 2006, we had an equity market capitalization of approximately $1.0 billion. We have also raised $214.0 million of long-term, subordinated debt capital that is equity-like in nature due to its 30-year initial term and relatively few financial covenants. We also maintain a $100.0 million unsecured credit facility used as a source of back-up liquidity.

We seek to access diverse short and long-term funding sources that enable us to deliver attractive risk-adjusted returns to our shareholders while match funding our investments to minimize interest rate and maturity risk. This means we finance assets with debt having like-kind interest rate benchmarks (fixed or floating) and similar maturities.

Our real estate debt and securities businesses typically use warehouses and secured credit facilities with major financial institutions to initially fund investments until a sufficient pool of assets has been accumulated to efficiently execute a CDO in the asset-backed markets. The advance rates and costs under each credit facility vary depending on the criteria of the lending institution and are intended to be similar to the blended advance rates achieved by the CDO.

In a CDO, rated bonds are issued and backed by pools of securities or loan collateral originated or acquired by us. The bonds are non-recourse and the interest in some CDOs generated by the collateral is used to service the interest on the rated bonds. After a reinvestment period, which is typically five years, principal from collateral payoffs is used to amortize the notes, so there is no maturity risk. We sell all of the investment-grade rated CDO bonds, and retain the non-investment grade classes as our “equity” interest in the financing. CDOs provide low cost financing because the most senior bond classes are rated “AAA/Aaa” by the rating agencies. For example, approximately 76% of the notes issued by our real estate securities CDOs were rated “AAA/Aaa” by at the rating agencies at the time of the initial issuance. We may also utilize other securitization or term financing structures to provide long-term, matc h-funded financing for our assets.

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Net lease investments are generally match-funded with non-recourse first mortgage debt representing approximately 75% to 80% of the total value of the investment. We seek to match the term of the financing with the remaining lease term.

Hedging Strategy

We use derivatives primarily to manage interest rate risk exposure. These derivatives are typically in the form of interest rate swap agreements and the primary objective is to minimize the interest rate risks associated with the our investing and financing activities. The counterparties of these arrangements are major financial institutions with which we may also have other financial relationships.

Creating an effective strategy for dealing with interest rate movements is complex and no strategy can completely insulate us from risks associated with such fluctuations. There can be no assurance that our hedging activities will have the intended impact on our results. A more detailed discussion of our hedging policy is provided in “Item 7 Managements Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources.”

Regulation

We are subject, in certain instances, to supervision and regulation by state and federal governmental authorities and may be subject to various laws and judicial and administrative decisions imposing various requirements and restrictions, which, among other things: (1) regulate credit granting activities; (2) establish maximum interest rates, finance charges and other fees we can charge our customers; (3) require disclosures to customers; (4) govern secured transactions; and (5) set collection, foreclosure, repossession and claims-handling procedures and other trade practices. Although most states do not regulate commercial finance, certain states impose limitations on interest rates and other charges and on certain collection practices and creditor remedies and require licensing of lenders and financiers and adequate disclosure of certain contract terms. The Company is also required to comply with certain provisions of the Equal Credit Opport unity Act that are applicable to commercial loans.

We believe that we are not, and intend to conduct our operations so as not to become, regulated as an investment company under the Investment Company Act. We have been, and intend to continue to rely on current interpretations of the Securities and Exchange Commission in an effort to continue to qualify for an exemption from registration under the Investment Company Act. For more information on the exemptions that we utilize, see “Item 1A – Risk Factors – Maintenance of our Investment Company Act exemption imposes limits on our operations.”

We have elected and expect to continue to make an election to be taxed as a REIT under Section 856 through 860 of the Code. As a REIT, we must currently distribute, at a minimum, an amount equal to 90% of our taxable income. In addition, we must distribute 100% of our taxable income to avoid paying corporate federal income taxes. REITs are also subject to a number of organizational and operational requirements in order to elect and maintain REIT status. These requirements include specific share ownership tests and assets and gross income composition tests. If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax (including any applicable alternative minimum tax) on our taxable income at regular corporate tax rates. Even if we qualify for taxation as a REIT, we may be subject to state and local income taxes and to federal income tax and excise tax on our undistributed income.

In the judgment of management, existing statutes and regulations have not had a material adverse effect on our business. However, it is not possible to forecast the nature of future legislation, regulations, judicial decisions, orders or interpretations, nor their impact upon our future business, financial condition, results of operations or prospects.

Competition

We are subject to significant competition in seeking real estate investments. We compete with many third parties engaged in real estate investment activities including other REITs, specialty finance companies, savings and loan associations, banks, mortgage bankers, insurance companies, mutual funds, private institutional funds, hedge funds, private opportunity funds, investment banking firms, lenders, governmental bodies and other entities. In addition, there are other REITs with asset investment objectives similar to ours and others may be organized in the future. Some of these competitors, including larger REITs, have substantially greater financial resources than we do and generally may be able to accept more risk. They may also enjoy significant competitive advantages that result from, among other things, a lower cost of capital and enhanced operating efficiencies.

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Competition may limit the number of suitable investment opportunities offered to us. It may also result in higher prices, lower yields and a narrower spread of yields over our borrowing costs, making it more difficult for us to acquire new investments on attractive terms.

Employees

At December 31, 2006, we had 56 employees. We believe we have a good relationship with our employees and our employees are not represented by collective bargaining agreements.

Corporate Governance and Internet Address

We emphasize the importance of professional business conduct and ethics through our corporate governance initiatives. Our Board of Directors consists of a majority of independent directors; the audit, nominating/corporate governance, and compensation committees of our Board of Directors are composed exclusively of independent directors. We have adopted corporate governance guidelines and a code of business conduct and ethics, which delineate our standards for our officers, directors and employees.

Our internet address is www.nrfc.com. The information on our website is not incorporated by reference in this Annual Report on Form 10-K. We make available, free of charge through a link on our site, our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to such reports, if any, as filed with the SEC as soon as reasonably practicable after such filing. Our site also contains our code of business conduct and ethics, code of ethics for senior financial officers, corporate governance guidelines, and the charters of our audit committee, nominating/corporate governance committee and compensation committee of our Board of Directors. Within the time period required by the rules of the SEC and the NYSE, we will post on our website any amendment to our code of business conduct and ethics and our code of ethics for senior financial officers as defined in the code.

Item 1A. Risk Factors

Our business is subject to a number of risks that are substantial and inherent in our business. This section describes some of the more important risks that we face, any of which could have a material adverse effect on our business, financial condition, results of operations and future prospects. The risk factors set forth in this section could cause our actual results to differ significantly from those contained in this Annual Report on Form 10-K. In connection with the forward-looking statements that appear in this Annual Report on Form 10-K, you should carefully review the factors discussed below and the cautionary statements referred to under “Forward-Looking Statements.”

Risks Related to Our Businesses

The mortgage loans we originate and invest in and the mortgage loans underlying the mortgage-backed securities we invest in are subject to risks of delinquency, foreclosure, loss and bankruptcy of the borrower under the loan. If the borrower defaults, it may result in losses to us.

Mortgage loans are secured by real estate and are subject to risks of delinquency, foreclosure, loss and bankruptcy of the borrower. The ability of a borrower to repay a loan secured by real estate is dependent primarily upon the successful operation of such property rather than upon the existence of independent income or assets of the borrower. If the net operating income of the property is reduced, the borrower’s ability to repay the loan may be impaired. Net operating income of a property can be affected by, among other things:

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tenant mix;

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success of tenant businesses;

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property management decisions;

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property location and condition;

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property operating costs, including insurance premiums, real estate taxes and maintenance costs;

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competition from comparable types of properties;

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changes in laws that increase operating expense or limit rents that may be charged;

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any need to address environmental contamination at the property;

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the occurrence of any uninsured casualty at the property;

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changes in national, regional or local economic conditions and/or specific industry segments;

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declines in regional or local real estate values;

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declines in regional or local rental or occupancy rates;

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increases in interest rates;

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real estate tax rates and other operating expenses;

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terrorism; and

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increases in costs associated with renovation and/or construction.

Any one or a combination of these factors may cause a borrower to default on a loan or to declare bankruptcy. If a default or bankruptcy occurs and the underlying asset value is less than the loan amount, we will suffer a loss.

Additionally, we may suffer losses in the following instances, which could have a material adverse affect on our financial performance, the market price of our stock and our ability to pay dividends:

If the value of real property or other assets securing our loans deteriorates. The majority of our real estate loans are fully or substantially non-recourse. In the event of a default by a borrower on a non-recourse loan, we will only have recourse to the real estate-related assets (including escrowed funds and reserves) collateralizing the loan. For this purpose, we consider loans made to special purpose entities formed solely for the purpose of holding and financing particular assets to be non-recourse loans. We sometimes also make loans that are secured by equity interests in the borrowing entities or by investing directly in the owner of the property. There can be no assurance that the value of the assets securing our loans will not deteriorate over time due to factors beyond our control, including acts or omissions by owners or managers of the assets. Mezzanine loans are subject to the additional risk that other lenders may be directly secured by the real estate assets of the borrowing entity.

If a borrower or guarantor defaults on recourse obligations under our loans. We sometimes obtain individual or corporate guarantees, which are not secured, from borrowers or their affiliates. In cases where guarantees are not fully or partially secured, we typically rely on financial covenants from borrowers and guarantors which are designed to require the borrower or guarantor to maintain certain levels of creditworthiness. Where we do not have recourse to specific collateral pledged to satisfy such guarantees or recourse loans, we will only have recourse as an unsecured creditor to the general assets of the borrower or guarantor, some or all of which may be pledged to satisfy other lenders. There can be no assurance that a borrower or guarantor will comply with its financial covenants, or that sufficient assets will be available to pay amounts owed to us under our loans and guarantees.

In the event of a default or bankruptcy of a borrower, particularly in cases where the borrower has incurred debt that is senior to our loan. If a borrower defaults on our loan and the mortgaged real estate or other borrower assets collateralizing our loan are insufficient to satisfy our loan, we may suffer a loss of principal or interest. In the event of a borrower bankruptcy, we may not have full recourse to the assets of the borrower, or the assets of the borrower may not be sufficient to satisfy our loan. In addition, certain of our loans are subordinate to other debt of the borrower. If a borrower defaults on our loan or on debt senior to our loan, or in the event of a borrower bankruptcy, our loan will be satisfied only after the senior debt. Bankruptcy and borrower litigation can significantly increase the time needed for us to acquire underlying collateral in the event of a default, during which time the collateral may de cline in value. In addition, there are significant costs and delays associated with the foreclosure process.

If our reserves for losses prove inadequate, it could have a material adverse effect on us. We regularly evaluate financial reserves, if any, to protect against potential future losses. While we have in many of our loans asset-specific credit protection, including cash reserve accounts, cash deposits and letters of credit which we require that our borrowers fund and/or post at the closing of a transaction in accounts in which we have a security interest, such protections may not be sufficient to protect against all losses. As of December 31, 2006, we have not

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accumulated any loan loss reserves. We cannot be certain that our reserves, if any, will be adequate over time to protect against potential future losses because of unanticipated adverse changes in the economy or events adversely affecting specific assets, borrowers, industries in which our borrowers operate or markets in which our borrowers or their properties are located.

If provisions of our loan agreements are unenforceable. Our rights and obligations with respect to our loans are governed by written loan agreements and related documentation. It is possible that a court could determine that one or more provisions of a loan agreement are unenforceable, such as a loan prepayment provision or the provisions governing our security interest in the underlying collateral.

If the risks associated with loan participations and intercreditor arrangements provide us with inadequate control rights. Some of our assets are participating interests in loans in which we share the rights, obligations and benefits of the loan with other participating lenders. Some of our assets are interests in subordinated loans which are subject to intercreditor arrangements with senior and/or junior lenders. The presence of intercreditor arrangements may limit our ability to amend our loan documents, assign our loans, accept prepayments, exercise our remedies (through “standstill” periods) and control decisions made in bankruptcy proceedings relating to borrowers. Similarly, a majority of the participating lenders may be able to take actions to which we object but to which we will be bound. We may be adversely affected by such lack of full control.

The subordinate mortgage notes, participation interests in mortgage notes, mezzanine loans and preferred equity investments we originate and invest in may be subject to risks relating to the structure and terms of the transactions, as well as subordination in bankruptcy, and there may not be sufficient funds or assets remaining to satisfy our investments, which may result in losses to us.

We originate and invest in subordinate mortgage notes, mezzanine loans and participation interests in mortgage and mezzanine loans and preferred equity investments. These investments maybe subordinate to other debt on commercial property and are secured by subordinate rights to the commercial property or by equity interests in the commercial entity. If a borrower defaults or declares bankruptcy, after senior obligations are met, there may not be sufficient funds or assets remaining to satisfy our subordinate notes. Because each transaction is privately negotiated, subordinate investments can vary in their structural characteristics and lender rights. Our rights to control the default or bankruptcy process following a default will vary from transaction to transaction. The subordinate investments that we originate and invest in may not give us the right to demand foreclosure as a subordinate real estate debtholder. Furthermore, the presence of i ntercreditor agreements may limit our ability to amend our loan documents, assign our loans, accept prepayments, exercise our remedies and control decisions made in bankruptcy proceedings relating to borrowers. Bankruptcy and borrower litigation can significantly increase the time needed for us to acquire underlying collateral in the event of a default, during which time the collateral may decline in value. In addition, there are significant costs and delays associated with the foreclosure process.

We are subject to risks associated with construction lending, such as cost over-runs and delays in completion.

Our loan assets include loans made to developers to construct prospective projects. The primary risks to us of construction loans are the potential for cost over-runs, the developer’s failing to meet a project delivery schedule and the inability of a borrower to sell or refinance the project at completion and repay our loan. These risks could cause us to have to fund more money than we originally anticipated in order to complete the project. We may also suffer losses on our loans if the borrower is unable to sell the project or refinance our loan.

We invest in subordinate mortgage-backed securities which are subject to a greater risk of loss than senior securities. We may hold the most junior class of mortgage-backed securities which are subject to the first risk of loss if any losses are realized on the underlying mortgage loans.

We invest in a variety of subordinate mortgage-backed securities and sometimes hold a “first loss” subordinate holder position. The ability of a borrower to make payments on the loan underlying these securities is dependent primarily upon the successful operation of the property rather than upon the existence of independent income or assets of the borrower. In the event of a default and the exhaustion of any equity support, reserve fund, letter of credit and any classes of securities junior to those in which we invest, we will not be able to recover all of our investment in the securities we purchase.

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Expenses of enforcing the underlying mortgage loans (including litigation expenses), expenses of protecting the properties securing the mortgage loans and the lien on the mortgaged properties, and, if such expenses are advanced by the servicer of the mortgage loans, interest on such advances will also be allocated to such “first loss” securities prior to allocation to more senior classes of securities issued in the securitization. Prior to the reduction of distributions to more senior securities, distributions to the “first loss” securities may also be reduced by payments of compensation to any servicer engaged to enforce a defaulted mortgage loan. Such expenses and servicing compensation may be substantial and consequently, in the event of a default or loss on one or more mortgage loans contained in a securitization, we may not recover our investment.

Our investments in REIT securities are subject to risks relating to the particular REIT issuer of the securities and to the general risks of investing in senior unsecured real estate securities, which may result in losses to us.

In addition to general economic and market risks, our investments in REIT securities involve special risks relating to the particular issuer of the securities, including the financial condition and business outlook of the issuer. REITs generally are required to substantially invest in real estate or real estate-related assets and are subject to the inherent risks associated with real estate-related investments.

Our investments in REIT securities and other senior unsecured debt are also subject to the risks described above with respect to mortgage loans and mortgage-backed securities and similar risks, including risks of delinquency and foreclosure, the dependence upon the successful operation of and net income from real property, risks generally related to interests in real property, and risks that may be presented by the type and use of a particular commercial property.

REIT securities are generally unsecured and may also be subordinate to other obligations of the issuer. We may also invest in securities that are rated below investment-grade. As a result, investments in REIT securities are also subject to risks of:

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limited liquidity in the secondary trading market;

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substantial market price volatility resulting from changes in prevailing interest rates;

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subordination to the prior claims of banks and other senior lenders to the REIT;

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the operation of mandatory sinking fund or redemption provisions during periods of declining interest rates that could cause the issuer to reinvest redemption proceeds in lower yielding assets;

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the possibility that earnings of the REIT may be insufficient to meet its debt service and distribution obligations;

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the declining creditworthiness and potential for insolvency of the issuer during periods of rising interest rates and economic downturns;

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securities getting downgraded by rating agencies and negatively impacting value of securities; and

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covenants not being sufficient to protect investors from the adverse credit impact of merger and acquisition transactions and increased leverage of the REIT.

These risks may adversely affect the value of outstanding REIT securities we hold and the ability of the issuers thereof to repay principal and interest or make distributions.

We are subject to significant competition, and we may not be able to compete successfully for investments.

We are subject to significant competition for attractive investment opportunities from other real estate investors, some of which have greater financial resources than us, including publicly traded REITs, private REITs, investment banking firms, private institutional funds, hedge funds and private opportunity funds. We may not be able to compete successfully for investments.

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Many of our investments are illiquid, and we may not be able to vary our portfolio in response to changes in economic and other conditions, which may result in losses to us.

Our investments are relatively illiquid and, therefore, our ability to sell and purchase properties, securities and debt promptly in response to a change in economic or other conditions will be limited. The Internal Revenue Code also places limits on our ability to sell properties held for fewer than four years. These considerations could make it difficult for us to dispose of properties, even if a disposition were in the best interests of our stockholders. In addition, a majority of the mortgage backed securities, REIT securities and real estate debt that we originate or purchase in connection with privately negotiated transactions will not be registered under the relevant securities laws, resulting in a prohibition against their transfer, sale, pledge or other disposition except in a transaction that is exempt from the registration requirements of, or is otherwise in compliance with, those laws. As a result, our ability to vary our portfolio in response to changes in economic and other conditions may be relatively limited, which may result in losses to us.

We may not be able to acquire eligible assets for a CDO issuance, or may not be able to issue CDO securities on attractive terms, which may require us to seek more costly financing for our real estate debt and/or real estate securities investments or to liquidate assets.

We originate and acquire real estate debt and acquire investment grade real estate securities and finance them on a long-term basis through the issuance of CDOs. Prior to our completing a CDO issuance, there is a period during which these assets are identified and acquired for inclusion in the CDO, known as the warehouse accumulation period. During this period in our real estate debt business, we acquire the assets with financing provided under a warehouse facility from the warehouse lender that will be the lead manager of the CDO and hold these assets on our balance sheet until the next CDO issuance. During this period in our real estate securities business, we direct the acquisition of securities under a warehouse facility from a warehouse provider that will be the lead manager of the CDO. The warehouse provider then purchases the securities and holds them on its balance sheet. We contribute cash and other collateral which is held in escrow by the warehouse provider to back our commitment to purchase equity in the CDO and to cover our share of losses should securities need to be liquidated. As a result, in both businesses we are subject to the risk that we will not be able to acquire, during the period that our warehouse facility is available, a sufficient amount of eligible securities to maximize the efficiency of a CDO issuance. In addition, conditions in the capital markets may make the issuance of a CDO less attractive to us when we do have a sufficient pool of collateral. If we are unable to issue a CDO to finance these assets or if doing so is not economical, we may be required to seek other forms of potentially less attractive financing or to liquidate the assets at a price that could result in a loss of all or a portion of the cash and other collateral backing our purchase commitment.

Our warehouse and secured facilities and our CDO financing agreements may limit our ability to make investments.

Our warehouse and secured facility providers have the right to review the potential investment for which they are providing financing. We may be unable to obtain the consent of our warehouse and secured facility providers to make investments that we believe are favorable to us. In the event that our warehouse and secured facility providers do not consent to the inclusion of the potential asset in or under the warehouse and secured facility, we may be unable to obtain alternate financing for that investment. Our warehouse provider’s consent rights with respect to our warehouse and secured facility may limit our ability to execute our business strategy.

In addition, each CDO financing that we engage in contains certain eligibility criteria with respect to the collateral that we seek to acquire and sell to the CDO issuer. If the collateral does not meet the eligibility criteria for eligible collateral as set forth in the transaction documents of such CDO transaction, we may not be able to acquire and sell such collateral to the CDO issuer. The inability of the collateral to meet eligibility requirements with respect to our CDOs may limit our ability to execute our business strategy.

We may make investments in assets with lower credit quality, which will increase our risk of losses.

We may invest in unrated securities, enter into net leases with unrated tenants or participate in unrated or distressed mortgage loans. A projection of an economic downturn, for example, could cause a decline in the price of lower credit quality investments and securities because the ability of obligors of net leases and mortgages, including mortgages underlying mortgage-backed securities, to make rent or principal and interest payments may be impaired. If this were to occur, existing credit support in the securitization structure may be insufficient to protect us against

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loss of our principal on these investments and securities. We have not established and do not currently plan to establish any investment criteria to limit our exposure to these risks for future investments.

We have no established investment criteria limiting the geographic concentration of our investments in real estate debt, real estate securities or net lease properties. If our investments are concentrated in an area that experiences adverse economic conditions, our investments may lose value and we may experience losses.

Certain loans and securities in which we invest may be secured by a single property or properties in one geographic location. Additionally, net lease properties that we may acquire may also be located in a geographic cluster. These current and future investments carry the risks associated with significant geographical concentration. We have not established and do not plan to establish any investment criteria to limit our exposure to these risks for future investments. As a result, properties underlying our investments may be overly concentrated in certain geographic areas, and we may experience losses as a result. A worsening of economic conditions in the geographic area in which our investments may be concentrated could have an adverse effect on our business, including reducing the demand for new financings, limiting the ability of customers to pay financed amounts and impairing the value of our collateral.

Interest rate fluctuations may reduce the spread we earn on our interest-earning investments and may reduce our net income.

Although we seek to match-fund our assets and mitigate the risk associated with future interest rate volatility, we are primarily subject to interest rate risk prior to match-funding our investments in the CDO markets and because we do not hedge our retained equity interest in our floating rate CDO financings. To the extent a CDO financing has floating rate assets, our earnings will generally increase with increases in floating interest rates, and decrease with declines in floating interest rates. Interest rates are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control.

Our interest rate risk sensitive assets, liabilities and related derivative positions are generally held for non-trading purposes. As of December 31, 2006, a hypothetical 100 basis point increase in interest rates applied to our variable rate assets would increase our annual interest income by approximately $14.6 million offset by an increase in our interest expense of approximately $10.7 million on our variable rate liabilities. Similarly, a hypothetical 100 basis point decrease in interest rates would decrease our annual interest income by the same net amount.

Our investments in real estate securities, mortgage notes, mezzanine loans, participation interests in mortgage and mezzanine loans and preferred equity investments are subject to changes in credit spreads and if spreads widen, the value of our loan and securities portfolios would decline.

Our investments in real estate securities are subject to changes in credit spreads. The value of these securities is dependent upon the yield demanded on these securities by the market based on the underlying credit. Excessive supply of these securities combined with reduced demand will generally cause the market to require a higher yield on these real estate securities, resulting in the use of a higher, or “wider,” spread over the benchmark rate to value such securities. Under such conditions, the value of our securities portfolio would tend to decline. Such changes in the market value of our portfolio may adversely affect our net equity or cash flow directly through their impact on unrealized gains or losses on available-for-sale securities, and therefore our ability to realize gains on such securities, or indirectly through their impact on our ability to borrow and access capital.

The value of our investments in mortgage loans, mezzanine loans, participation interests in mortgage and mezzanine loans and preferred equity investments are also subject to changes in credit spreads. The majority of the assets we invest in are floating rate based on a market credit spread to LIBOR. The value of the asset is dependent upon the yield demanded by the market based on its credit. The value of our portfolio would tend to decline should the market require a higher yield on such assets, resulting in the use of a higher spread over the benchmark rate. Any credit or spread losses incurred with respect to our debt portfolio would affect us in the same way as similar losses on our real estate securities portfolio as described above.

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Our hedging transactions may limit our gains and could result in losses.

To limit the effects of changes in interest rates on our operations, we may employ hedging strategies, including engaging in interest rate swaps, caps, floors and other interest rate exchange contracts as well as engaging in short sales of securities or of future contracts. The use of these types of derivatives to hedge our assets and liabilities carries certain risks, including the risks that:

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losses on a hedge position will reduce the cash available for distribution to stockholders;

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losses may exceed the amount invested in such instruments;

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a hedge may not perform its intended use of offsetting losses on an investment;

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the counterparties with which we trade may cease making markets and quoting prices in such instruments, which may render us unable to enter into an offsetting transaction with respect to an open position; and

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the counterparties with which we trade may experience business failures, which would most likely result in a default. Default by such counterparty may result in the loss of unrealized profits, which were expected to offset losses on our assets. Such defaults may also result in a loss of income on swaps or caps, which income was expected to be available to cover our debt service payments.

Our Board of Directors adopted a general policy with respect to the use of derivatives which generally allows us to use derivatives where appropriate, but does not set forth specific policies and procedures. Our results of operations may be adversely affected during any period as a result of the use of derivatives. If we anticipate that the income from any such hedging transaction will not be qualifying income for REIT income test purposes, we may conduct some or all of our hedging activities through a corporate subsidiary that would be subject to corporate income taxation.

Prepayment rates can increase, adversely affecting yields on our investments.

The value of our assets may be affected by prepayment rates on the real estate debt that we originate and the loans underlying the securities in which we intend to invest. Prepayment rates on our real estate debt investments are influenced by changes in current interest rates and a variety of economic, geographic and other factors beyond our control, and consequently, such prepayment rates cannot be predicted with certainty. In periods of declining interest rates, prepayments on real estate debt investments generally increase. If general interest rates decline as well, the proceeds of such prepayments received during such periods are likely to be reinvested by us in assets yielding less than the yields on the assets that were prepaid.

Investments in net lease properties may generate losses.

The value of our investments and the income from our investments in net lease properties may be significantly adversely affected by a number of factors, including:

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national, state and local economic conditions;

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real estate conditions, such as an oversupply of or a reduction in demand for real estate space in an area;

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the perceptions of tenants and prospective tenants of the quality, convenience, attractiveness and safety of our properties;

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competition from comparable properties;

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the occupancy rate of, and the rental rates charged at, our properties;

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the ability to collect on a timely basis all rent from tenants;

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the effects of any bankruptcies or insolvencies of major tenants;

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the expense of re-leasing space;

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changes in interest rates and in the availability, cost and terms of mortgage funding;

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the impact of present or future environmental legislation and compliance with environmental laws;

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cost of compliance with the Americans with Disabilities Act of 1990, or ADA;

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adverse changes in governmental rules and fiscal policies;

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civil unrest;

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acts of nature, including earthquakes, hurricanes and other natural disasters (which may result in uninsured losses);

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acts of terrorism or war;

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adverse changes in zoning laws; and

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other factors which are beyond our control.

We may not be able to relet or renew leases at the properties held by us on terms favorable to us.

We are subject to the risks that upon expiration or earlier termination of leases for space located at our properties the space may not be relet or, if relet, the terms of the renewal or reletting (including the cost of required renovations or concessions to tenants) may be less favorable than current lease terms. Any of these situations may result in extended periods where there is a significant decline in revenues or no revenues generated by a property. If we are unable to relet or renew leases for all or substantially all of the space at these properties, if the rental rates upon such renewal or reletting are significantly lower than expected, or if our reserves for these purposes prove inadequate, we may experience a reduction in net income and be required to reduce or eliminate distributions to our stockholders.

Lease defaults or terminations or landlord-tenant disputes may adversely reduce our income from our net lease property portfolio.

Lease defaults or terminations by one or more of our significant tenants may reduce our revenues unless a default is cured or a suitable replacement tenant is found promptly. In addition, disputes may arise between the landlord and tenant that result in the tenant withholding rent payments, possibly for an extended period. These disputes may lead to litigation or other legal procedures to secure payment of the rent withheld or to evict the tenant. Any of these situations may result in extended periods during which there is a significant decline in revenues or no revenues generated by a property. If this were to occur, it could adversely affect our results of operations.

Environmental compliance costs and liabilities associated with our properties or our real estate related investments may materially impair the value of our investments.

Under various federal, state and local laws, ordinances and regulations, a current or previous owner or operator of real estate may be required to investigate and clean up certain hazardous substances released at the property, and may be held liable to a governmental entity or to third parties for property damage and for investigation and cleanup costs incurred by such parties in connection with the contamination. In addition, some environmental laws create a lien on the contaminated site in favor of the government for damages and the costs it incurs in connection with the contamination. The presence of contamination or the failure to remediate contamination may adversely affect the owner’s ability to sell or lease real estate or to borrow using the real estate as collateral. The owner or operator of a site may be liable under common law to third parties for damages and injuries resulting from environmental contamination emanating from th e site. We may experience environmental liability arising from conditions not known to us.

We may invest in real estate, or mortgage loans secured by real estate, with environmental problems that materially impair the value of the real estate. There are substantial risks associated with such an investment. We have only limited experience in investing in real estate with environmental liabilities.

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Uninsured losses or losses in excess of our insurance coverage could adversely affect our financial condition and our cash flows.

Although we believe our net leased assets and properties collateralizing our loan and securities investments are adequately covered by insurance, there are certain types of losses, generally of a catastrophic nature, such as earthquakes, floods, hurricanes, terrorism or acts of war that may be uninsurable or not economically insurable. Inflation, changes in building codes and ordinances, environmental considerations and other factors, including terrorism or acts of war, also might make the insurance proceeds insufficient to repair or replace a property if it is damaged or destroyed. Under such circumstances, the insurance proceeds received might not be adequate to restore our economic position with respect to the affected real property. Any uninsured loss could result in both loss of cash flow from and the asset value of the affected property.

As a result of the events of September 11, 2001, insurance companies are limiting and charging significant premiums to cover acts of terrorism in insurance policies. As a result, although we, our tenants and our borrowers generally carry terrorism insurance, we may suffer losses from acts of terrorism that are not covered by insurance. In addition, the mortgage loans which are secured by certain of our properties contain customary covenants, including covenants that require us to maintain property insurance in an amount equal to the replacement cost of the properties, which may increase the cost of obtaining the required insurance.

We may change our investment strategy without stockholder consent and make riskier investments.

We may change our investment strategy at any time without the consent of our stockholders, which could result in our making investments that are different from, and possibly riskier than, the investments described in this Annual Report on Form 10-K. A change in our investment strategy may increase our exposure to interest rate and real estate market fluctuations.

Our portfolio is leveraged, which may adversely affect our return on our investments and may reduce cash available for distribution on our securities.

We leverage our portfolio through borrowings, generally through the use of bank credit facilities, warehouse lines, repurchase agreements, mortgage loans on real estate, securitizations, including the issuance of CDOs, and other borrowings. The type and percentage of leverage varies depending on our ability to obtain credit facilities or warehouse lines and the lender’s estimate of the stability of the portfolio’s cash flow. However, we do not restrict the amount of indebtedness that we may incur. Our return on our investments and cash available for distribution to our stockholders may be reduced to the extent that changes in market conditions cause the cost of our financing to increase relative to the income that can be derived from the assets acquired. Moreover, we may have to incur more recourse indebtedness.

The repurchase agreements and bank credit facilities and warehouse lines that we use to finance our investments may require us to provide additional collateral.

We use bank credit facilities and warehouse lines, including repurchase agreements, to finance some of our investments, primarily on an interim basis. If the market value of the loans pledged or sold by us to a funding source decline in value, we may be required by the lending institution to provide additional collateral or pay down a portion of the funds advanced. We may not have the funds available to pay down our debt, which could result in defaults. Posting additional collateral to support our credit facilities will reduce our liquidity and limit our ability to leverage our assets. In the event we do not have sufficient liquidity to meet such requirements, lending institutions can accelerate our indebtedness, increase interest rates and terminate our ability to borrow. Such a situation would likely result in a rapid deterioration of our financial condition and solvency.

Further, our credit facility warehouse providers require us to maintain a certain amount of cash uninvested or set aside unlevered assets sufficient to maintain a specified liquidity position in order to satisfy our collateral obligations. As a result, we may not be able to leverage our assets as fully as we would choose, which could reduce our return on assets. In the event that we are unable to meet these collateral obligations, our financial condition could deteriorate rapidly.

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Lenders may require us to enter into restrictive covenants relating to our operations.

When we obtain financing, lenders impose restrictions on us that affect our ability to incur additional debt, our capability to make distributions to stockholders and our flexibility to determine our operating policies. Loan documents we execute may contain negative covenants that, among other things, limit the amount of leverage that we may employ, require that we maintain a certain fixed charge coverage ratio, require that we maintain a certain minimum tangible net worth, limit our recourse indebtedness, limit our ability to distribute more than a certain amount of our funds from operations, and require us to hedge our interest rate exposure.

The use of CDO financings with coverage tests may have a negative impact on our operating results and cash flows.

We have purchased, and expect to purchase in the future, subordinate classes of bonds in our CDO financings. The terms of the CDO securities issued by us include and will include coverage tests, including over-collateralization tests, which are used primarily to determine whether and to what extent principal and interest proceeds on the underlying collateral debt securities and other assets may be used to pay principal of and interest on the subordinate classes of bonds in the CDO. In the event the coverage tests are not satisfied, interest and principal that would otherwise be payable on the subordinate classes we hold may be re-directed to pay principal on the senior bond classes. Therefore, our failure to satisfy the coverage tests could adversely affect our operating results and cash flows.

Certain coverage tests (based on delinquency levels or other criteria) may also restrict our ability to receive net income from assets pledged to secure the CDOs. We cannot assure you, in advance of completing negotiations with the rating agencies or other key transaction parties on any future CDOs, the actual terms of the delinquency tests, over-collateralization terms, cash flow release mechanisms or other significant factors regarding the calculation of net income distributable to us. Failure to obtain favorable terms with regard to these matters may materially and adversely affect the availability of net income distributable to us. If our assets fail to perform as anticipated, our over-collateralization or other credit enhancement expense associated with our CDOs will increase.

Our due diligence may not reveal all of a borrower’s liabilities and may not reveal other weaknesses in its business.

Before making a loan to a borrower, we assess the strength and skills of such entity’s management and other factors that we believe are material to the performance of the investment. This process is particularly important and subjective with respect to newly organized entities because there may be little or no information publicly available about the entities. In making the assessment and otherwise conducting customary due diligence, we rely on the resources available to us and, in some cases, an investigation by third parties. There can be no assurance that our due diligence processes will uncover all relevant facts or that any investment will be successful.

Credit ratings assigned to our investments are subject to ongoing evaluations and we cannot assure you that the ratings currently assigned to our investments will not be downgraded.

Some of our investments are rated by Moody’s Investors Service, Fitch Ratings and/or Standard & Poor’s, Inc. The credit ratings on these investments are subject to ongoing evaluation by credit rating agencies, and we cannot assure you that any such rating will not be changed or withdrawn by a rating agency in the future if, in its judgment, circumstances warrant. If rating agencies assign a lower-than-expected rating or reduce, or indicate that they may reduce, their ratings of our investments in the future, the value of these investments could significantly decline, which may have an adverse affect on our financial condition.

Risks Relating to Investments in Healthcare Assets

We have limited experience with owning and operating senior housing and healthcare facilities.

In May 2006, we entered into a joint venture with Chain Bridge Capital LLC (“Chain Bridge”) to form Wakefield Capital, LLC (“Wakefield”), an entity of which, as of December 31, 2006, we own 79.4% of and consolidate in our financial statements. The joint venture was established to acquire, finance and/or otherwise invest in senior housing and healthcare-related properties. Although the principals of Chain Bridge have extensive experience owning and investing in senior and assisted living facilities, this is a new business for us with risks that

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differ from those to which we have been subject historically. There can be no assurance that we have the skills needed to run this business profitably.

The senior living industry is highly competitive and we expect it to become more competitive.

The senior living industry is highly competitive, and we expect that it may become more competitive in the future. The operators of the facilities we own or lend to compete with numerous other companies that provide long-term care alternatives such as home healthcare agencies, life care at home, facility-based service programs, retirement communities, convalescent centers and other independent living, assisted living and skilled nursing providers, including not-for-profit entities. In general, regulatory and other barriers to competitive entry in the independent living and assisted living segments of the senior living industry are not substantial, although there are generally barriers to the development of skilled nursing facilities. Consequently, our operators may encounter increased competition that could limit its ability to attract new residents, raise resident fees or expand its businesses, which could adversely adverse effect our revenue s and earnings.

Operators of independent care, assisted living and memory care facilities must comply with the rules and regulations of governmental reimbursement programs such as Medicare or Medicaid, licensing and certification requirements, fraud and abuse regulations and are subject to new legislative developments.

The healthcare industry is highly regulated by federal, state and local licensing requirements, facility inspections, reimbursement policies, regulations concerning capital and other expenditures, certification requirements and other laws, regulations and rules. Any failure to comply with such laws, requirements and regulations could affect our operator’s ability to operate the facilities that we own or finance. Healthcare operators are subject to federal and state laws and regulations that govern financial and other arrangements between healthcare providers. These laws prohibit certain direct and indirect payments or fee-splitting arrangements between healthcare providers that are designed to induce or encourage the referral of patients to, or the recommendation of, a particular provider for medical products and services. They also require compliance with a variety of safety, health, staffing and other requirements relating to the design and conditions of the licensed facility and quality of care provided. These regulations may also enable the regulatory agency to place liens on the property which may be senior to our secured position. Possible sanctions for violation of these laws and regulations include loss of licensure or certification, the imposition of civil monetary and criminal penalties, and potential exclusion from the Medicare and Medicaid programs. Failure of our operators to comply with these rules or regulations could have an adverse effect on our financial condition or results of operations.

In addition, this area of the law currently is subject to intense scrutiny, additional laws and regulations may be enacted or adopted that could require changes in the design of the properties and our joint venture’s operations and thus increase the costs of these operations.

State law may limit the availability of certain types of healthcare facilities for our acquisition or development and may limit our ability to replace obsolete properties.

Certificate-of-Need laws may impose investment barriers for us. Some states regulate the supply of some types of retirement facilities, such as skilled nursing facilities or assisted living facilities, through Certificate-of-Need laws. A Certificate-of-Need typically is a written statement issued by a state regulatory agency evidencing a community’s need for a new, converted, expanded or otherwise significantly modified retirement facility or service which is regulated pursuant to the state’s statutes. These restrictions may create barriers to entry or expansion and may limit the availability of properties for our acquisition or development. In addition, we may invest in properties which cannot be replaced if they become obsolete unless such replacement is approved or exempt under a Certificate-of-Need law.

The bankruptcy, insolvency or financial deterioration of our facility operators could significantly delay our ability to collect unpaid rents or require us to find new operators.

Our financial position and our ability to make distributions to our stockholders may be adversely affected by financial difficulties experienced by any of our major operators, including bankruptcy, insolvency or a general downturn in the business, or in the event any of our major operators do not renew or extend their relationship with us as their lease terms expire.

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We are exposed to the risk that our operators may not be able to meet their obligations, which may result in their bankruptcy or insolvency. Although our leases and loans provide us the right to terminate an investment, evict an operator, demand immediate repayment and other remedies, the bankruptcy laws afford certain rights to a party that has filed for bankruptcy or reorganization. An operator in bankruptcy may be able to restrict our ability to collect unpaid rents or interest during the bankruptcy proceeding.

Our operators are faced with increased litigation and rising insurance costs that may affect their ability to make their lease or mortgage payments.

In some states, advocacy groups have been created to monitor the quality of care at healthcare facilities, and these groups have brought litigation against operators. Also, in several instances, private litigation by patients has succeeded in winning very large damage awards for alleged abuses. The effect of this litigation and potential litigation has been to materially increase the costs incurred by our operators for monitoring and reporting quality of care compliance. In addition, the cost of liability and medical malpractice insurance has increased and may continue to increase so long as the present litigation environment affecting the operations of healthcare facilities continues. Continued cost increases could cause our operators to be unable to make their lease or mortgage payments, potentially decreasing our revenue and increasing our collection and litigation costs. Moreover, to the extent we are required to take back the affected fac ilities, our revenue from those facilities could be reduced or eliminated for an extended period of time.

Risks Related to International Investments

Any non-U.S. investments we may make would be subject to various risks associated with investments and operations in foreign countries, which could adversely impact our results.

We may begin making investments internationally. These investments involve special risks compared with investing exclusively in the United States and our future results could be materially adversely affected by a variety of factors, including:

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fluctuations in currency exchange rates;

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exchange rate controls;

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tariffs or other trade protection measures and import or export licensing requirements;

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potentially negative consequences from changes in tax laws;

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interest rates;

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the need to comply with a broader array of regulatory and licensing requirements, the failure of which could result in fines, penalties or business suspensions;

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unexpected changes in regulatory requirements;

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differing labor regulations;

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requirements relating to withholding taxes on remittances and other payments by subsidiaries;

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the costs and difficulties of managing international operations and strategic partnership alliances;

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restrictions on our ability to own or operate subsidiaries, make investments or acquire new businesses in various jurisdictions;

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potential political instability and the actions of foreign governments; and

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restrictions on our ability to repatriate dividends from our subsidiaries.

If we begin to expand our business globally, our success will depend, in large part, on our ability to anticipate and effectively manage these and other risks associated with our international operations. However, any of these factors could materially adversely affect our international operations and, consequently, our operating results.

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Difficulty of enforcing legal rights may negatively affect the results of our non-U.S. investments.

It may be difficult to obtain judgments or enforce contractual or other legal rights in certain foreign countries. For example, legal proceedings in certain jurisdictions may take many years longer to complete than similar proceedings in the United States or other more developed countries. In addition, once a judgment is obtained in a foreign country, it may be difficult to enforce or collect the judgment for a variety of reasons.

The inability to successfully defend claims from taxing authorities related to our current or acquired properties could adversely affect our operating results and financial position.

We may be required to interpret the income tax laws and rulings in each of the taxing jurisdictions in which we make foreign investments. Due to the subjectivity of tax laws between those jurisdictions as well as the subjectivity of factual interpretations, our estimates of income tax liabilities may differ from actual payments or assessments. Claims from taxing authorities related to these differences could have an adverse impact on our operating results and financial position.

Investing internationally will mean that we may make investments in non-U.S. dollar denominated investments, which will be subject to currency rate exposure and the uncertainty of foreign laws and markets, which may adversely impact our returns on non-dollar denominated investments.

We may purchase and originate real estate investments and CMBS denominated in foreign currencies. We expect that our exposure, if any, would be principally to the British Pound and the Euro. A change in foreign currency exchange rates may adversely impact returns on our non-dollar denominated investments. We may hedge our foreign currency risk, subject to the REIT income qualification tests. However, we may not be able to do so successfully and may incur losses on these investments as a result of exchange rate fluctuations.

Risks Related to the Investment Management Business

The organization and management of investment vehicles may create conflicts of interest.

As we expand our business, in addition to managing the assets of our CDOs, our intention as a company is to establish and manage off-balance-sheet funds. These funds will hold assets that we determine should be acquired by the vehicles and doing so may create conflicts of interest, including between investors in these funds and our shareholders. Although as a company we will seek to make these decisions in a manner that we believe is fair and consistent with the operative legal documents governing these investment vehicles, the transfer or allocation of these assets may give rise to investor dissatisfaction or litigation or regulatory enforcement actions. Appropriately dealing with conflicts of interest is complex and difficult and our reputation as a company could be damaged if we fail, or appear to fail, to deal appropriately with one or more potential or actual conflicts of interest. Regulatory scrutiny of, or litigation in connection with, conflicts of interest would have a material adverse effect on our reputation which would materially adversely affect our business and our ability to attract investors for future vehicles.

The creation and management of investment vehicles could require us to register with the SEC as an investment adviser under the Investment Advisers Act and that would subject us to costs and constraints that we are not currently subject to.

A consequence of creating and managing investment vehicles, including CDO vehicles, is that we could be required to register with the SEC as an investment adviser under the Investment Advisers Act. Registered investment advisers must establish policies and procedures for their operations and make regulatory filings. The Investment Advisers Act and the rules and regulations under this Act generally grant the SEC broad administrative powers, including, in some cases, the power to limit or restrict doing business for failure to comply with such laws and regulations. These laws and regulations could increase the expenses we incur and require us to devote substantial time and effort to legal and regulatory compliance issues. In addition, the regulatory environment in which investment advisors operate changes frequently and regulations have increased significantly in recent years. We may be adversely affected as a result of new or revised legislatio n or regulations or by changes in the interpretation or enforcement of existing laws and regulations.

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Risks Related to Middle-Market Corporate Lending

In addition to the risks associated with investing in real estate debt and real estate securities, we have recently commenced, through our joint venture with Monroe Capital, making middle market loans to borrowers outside of the real estate industry, including highly leveraged borrowers.

In order to continue to expand our business, we have recently entered into a new joint venture which serves as a platform for originating middle market loans and that joint venture has commenced making middle market loans, including middle market loans to highly leveraged borrowers. This type of lending is very competitive and requires skills that differ from those we have developed through investing in real estate debt, net lease properties and real estate securities and there can be no assurance that we will be successful in this business. In addition, to the extent we lend to borrowers that have high levels of debt relative to the amount of their equity capital, there is a heightened risk of loss and the additional rate of interest that we earn on these loans may not fully compensate us for the additional risk.

Loans to middle market borrowers are subject to a number of significant risks including the following:

Middle market businesses may have limited financial resources and may not be able to repay the loans we make to them. Our strategy for this business includes providing financing to borrowers that typically is not readily available to them. While we believe that this provides an attractive opportunity for us to generate profits, this may make it difficult for the borrowers to repay their loans to us upon maturity. A borrower’s ability to repay its loan may be adversely affected by numerous factors, including the failure to meet its business plan, a downturn in its industry or negative economic conditions.

Middle market businesses typically have narrower product lines and smaller market shares than large businesses. Because our target borrowers are smaller businesses, they will tend to be more vulnerable to competitors’ actions and market conditions, as well as general economic downturns. In addition, these borrowers may face intense competition, including competition from companies with greater financial resources, more extensive development, manufacturing, marketing and other capabilities and a larger number of qualified managerial and technical personnel.

There is generally little or no publicly available information about these businesses. Because we expect that these loans will be made to privately owned businesses, we expect that there will generally be little or no publicly available operating and financial information about our potential borrowers. As a result, we will rely on our officers to perform due diligence investigations of these borrowers, their operations and their prospects. We may not learn all of the material information we need to know regarding these businesses through our investigations.

Middle market businesses generally have less predictable operating results. We expect that these borrowers may have significant variations in their operating results, may from time to time be parties to litigation, may be engaged in rapidly changing businesses with products subject to a substantial risk of obsolescence, may require substantial additional capital to support their operations, to finance expansion or to maintain their competitive position, may otherwise have a weak financial position or may be adversely affected by changes in the business cycle, all of which will adversely impact our ability to be repaid.

Middle market businesses are more likely to be dependent on one or two persons. Typically, the success of middle market business also depends on the management talents and efforts of one or two persons or a small group of persons. The death, disability or resignation of one or more of these persons could have a material adverse impact on these borrowers and, in turn, their ability to repay us.

Middle market businesses are likely to have greater exposure to economic downturns than larger businesses. We expect that these borrowers will have fewer resources than larger businesses, will not have the benefit of real estate to provide to us as collateral and that an economic downturn is more likely to have a material adverse effect on them. If one of theses borrowers is adversely impacted by an economic downturn, its ability to repay our loan would be diminished.

Middle market businesses may have limited operating histories. While we intend to target stable companies with proven track records, we may make loans to new companies that meet our other investment criteria. Borrowers with limited operating histories will be exposed to all of the operating risks that new businesses face and may be particularly susceptible to, among other risks, market downturns, competitive pressures and the departure of key executive officers.

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Risks Related to Our Company

In the past, our internal controls over financial reporting were found to have material weaknesses.

Our management identified certain deficiencies in our predecessor’s internal controls over financial reporting during the course of its review in December 2004 of the financial statements of our predecessor that were to be included in our Form 10-Q for the quarter ended September 30, 2004. Based upon further investigation, we discovered certain errors in the accounting for transactions entered into during June 2004 and the third quarter of 2004 in connection with CDO II and in the reporting of allocated general and administrative expenses. These errors required us to adjust our predecessor’s financial statements for the six months ended June 30, 2004, as described in note 2 to the financial statements included in our Form 10 Q for the quarter ended September 30, 2004, and to make certain adjustments to our predecessor’s financial statements for the three and nine months ended September 30, 2004. The deficienc ies identified by our management in December 2004 included (1) the communication between business unit personnel and financial reporting personnel with respect to the accounting for certain transactions associated with our predecessor’s CDO investments and other company activity, (2) the level of training of accounting and financial reporting personnel, and (3) the level of detailed, quality control review of our predecessor’s financial statements. Taken together, management concluded that these deficiencies rose to the level of a material weakness in our predecessor’s internal controls over financial reporting for the three months ended September 30, 2004.

In December 2004, our prior independent registered public accounting firm, Ernst & Young LLP, advised our management and audit committee that it considered our internal controls over financial reporting to have the significant deficiencies identified by management in December 2004 which, considered in combination, constituted a material weakness in our internal controls. The term “material weakness” refers to an organization’s internal control deficiency in which the design or operation of a component of internal control does not reduce to a relatively low level the risk that a material misstatement may be contained in the organization’s financial statements. In March 2005, Ernst & Young LLP advised our management and audit committee that such significant deficiencies in our internal controls over financial reporting continued to exist.

Since December 2004, we have had to expend significant financial resources, and our management has had to spend significant time, in order to take a series of measures designed to remedy these significant deficiencies. We may continue to expend significant financial resources and time in order to improve our internal controls over financial reporting. However, under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer, the Company carried out an evaluation of the effectiveness of its internal control over financial reporting as of December 31, 2005 based on the “Internal Control — Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based upon this evaluation, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2005. Grant Thor nton LLP, our current independent registered public accounting firm, audited management’s assessment and issued an attestation report concurring with management’s assessment. The Company again carried out an evaluation of the effectiveness of its internal control over financial reporting as of December 31, 2006 based on the “Internal Control — Integrated Framework” issued by COSO , under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer. Based upon this evaluation, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2006. Grant Thornton LLP, has audited management’s assessment as of December 31, 2006 and has issued an attestation report concurring with management’s assessment.

We cannot assure you that there will not be any other significant deficiencies that in combination constitute material weaknesses in our internal control over financial reporting in the future.

Our ability to operate our business successfully would be harmed if key personnel with long-standing business relationships terminate their employment with us.

Our future success depends, to a significant extent, upon the continued services of our key personnel, including certain of our executive officers and Mr. Hamamoto in particular. For instance, the extent and nature of the experience of our executive officers and nature of the relationships they have developed with real estate developers and financial institutions are critical to the success of our business. Our executive officers have significant real estate investment experience. We cannot assure you of their continued employment with us. The loss of services of certain of our executive officers could harm our business and our prospects.

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Our Board of Directors has adopted certain incentive plans to create incentives that will allow us to retain and attract the services of key employees. These incentive plans provide for hurdles that must be achieved prior to awards being made to our key employees. If we do not meet the return hurdles that our compensation committee established under these incentive plans we will ultimately not grant any awards under this plan to members of our management or other of our employees who provide services to us. As a result, we may be unable to motivate and retain our management and these other employees. Our inability to motivate and retain these individuals could also harm our business and our prospects. Additionally, competition for experienced real estate professionals could require us to pay higher wages and provide additional benefits to attract qualified employees, which could result in higher compensation expenses to us.

Our financial condition and results of operations depend on our ability to manage future growth effectively.

Our ability to achieve our investment objectives depends on our ability to grow, which depends, in turn, on our ability to identify and originate and/or invest in subordinated and senior real estate debt, real estate securities and net lease properties that meet our investment criteria. Accomplishing this result on a cost-effective basis is largely a function of our structuring of the investment process and our access to financing on acceptable terms. Any failure to manage our future growth effectively could have a material adverse effect on our business, financial condition and results of operations.

We may not be able to obtain capital to make investments.

We depend primarily on external financing to fund the growth of our business. This is because one of the requirements of the Internal Revenue Code of 1986, as amended, for a REIT is that it distributes 90% of its net taxable income, excluding net capital gains, to its shareholders. Our access to debt or equity financing depends on the willingness of third parties to lend or make equity investments and on conditions in the capital markets generally. Companies in the real estate industry have historically experienced limited availability of financing from time to time. Although we believe that we will be able to finance any investments we may wish to make in the foreseeable future, new financing may not be available on acceptable terms.

For information about our available sources of funds, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources” and the notes to the consolidated financial statements in this Annual Report on Form 10-K.

We are highly dependent on information systems, and systems failures could significantly disrupt our business.

As a financial services firm, our business is highly dependent on communications and information systems. Any failure or interruption of our systems could cause delays or other problems in our activities, which could have a material adverse effect on our financial performance, the market price of our stock and our ability to pay dividends.

Our management has limited experience operating a publicly-owned REIT.

We commenced operations upon consummation of our IPO in October 2004. Our management has limited experience operating a publicly-owned REIT. Given our fairly recent IPO, you will be limited in fully evaluating our management’s public company and REIT operational abilities and performance.

We are subject to potential conflicts of interest in our relationship with our management relating to the time such individuals may devote to other matters for NorthStar Capital, and with NorthStar Capital, and our conflict of interest policies may not successfully eliminate the influence of such conflicts.

Our president and chief executive officer, David Hamamoto, is the co-chief executive officer of NorthStar Capital. We expect that Mr. Hamamoto will devote a majority of his time and efforts to managing our affairs. However, he also devotes such time as is necessary to the management of NorthStar Capital’s business operations, and he may engage in other business ventures. As a result, Mr. Hamamoto may be subject to conflicts in prioritizing his time and efforts. Richard McCready, one of our executive vice presidents and our chief operating officer, also serves as a director and the president and chief operating officer of NorthStar Capital. While Mr. McCready continues to devote a significant amount of his time to the business of NorthStar Capital, he devotes the majority of his time and efforts to our business affairs. Additionally, Steven Kauff, one of our executive vice presidents, also is

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an officer of NorthStar Capital. Mr. Kauff splits his time evenly between efforts related to our business affairs and those of NorthStar Capital.

Maintenance of our Investment Company Act exemption imposes limits on our operations.

We conduct our operations so that we are not required to register as an investment company under the Investment Company Act of 1940, as amended, or the Investment Company Act. Section 3(a)(1)(C) of the Investment Company Act defines as an investment company any issuer that is engaged or proposes to engage in the business of investing, reinvesting, owning, holding or trading in securities and owns or proposes to acquire investment securities having a value exceeding 40% of the value of the issuer’s total assets (exclusive of government securities and cash items) on an unconsolidated basis. Excluded from the term “investment securities,” among other things, are securities issued by majority owned subsidiaries that are not themselves investment companies and are not relying on the exception from the definition of investment company in Section 3(c)(1) or Section 3(c)(7) of the Investment Company Act. Because we are a holding company that conducts its businesses through subsidiaries, the securities issued by our subsidiaries that rely on the exception from the definition of “investment company” in Section 3(c)(1) or 3(c)(7) of the Investment Company Act, together with any other investment securities we may own directly, may not have a combined value in excess of 40% of the value of our total assets on an unconsolidated basis. This requirement limits the types of businesses in which we may engage through these subsidiaries.

We believe that neither our operating partnership nor the subsidiary REIT through which we hold the substantial majority of our investments are investment companies because each of them satisfy the 40% test of Section 3(a)(1)(C). We must monitor their holdings to ensure that the value of their investment securities does not exceed 40% of their respective total assets (exclusive of government securities and cash items) on an unconsolidated basis. A majority of our other subsidiaries do not satisfy the 40% test, but instead rely on exceptions and exemptions from the Investment Company Act that either limits the types of assets these subsidiaries may purchase or the manner in which these subsidiaries may acquire and sell assets. For instance, certain of our CDOs rely on the exemption from the Investment Company Act provided by Rule 3a-7 thereunder, which is available for certain structured financing vehicles. This exemption limits the ability of these CDOs to sell their assets and reinvest the proceeds from asset sales. Our subsidiary that invests in net lease properties relies on the exception from the definition of “investment company” provided by Sections 3(c)(6) and 3(c)(5)(C) of the Investment Company Act, and certain of our other CDOs similarly rely on the 3(c)(5)(C) exception from the definition of “investment company.” These provisions exempt companies that primarily invest in real estate, mortgages and certain other qualifying real estate assets. When a CDO relies on the exception from the definition of “investment company” provided by 3(c)(5)(C) of the Investment Company Act, the CDO is limited in the types of real estate related assets that it could invest in. Our subsidiaries that engage in operating businesses and satisfy the 40% test are also not subject to the Investment Company Act.

If the combined value of the investment securities issued by our subsidiaries that rely on the exception provided by Section 3(c)(1) or 3(c)(7) of the Investment Company Act, together with any other investment securities we may own directly exceeds 40% of our total assets on an unconsolidated basis, we may be deemed to be an investment company. If we fail to maintain an exemption, exception or other exclusion from registration as an investment company, we could, among other things, be required either (a) to substantially change the manner in which we conduct our operations to avoid being required to register as an investment company or (b) to register as an investment company, either of which could have an adverse effect on us and the market price of our common stock. If we were required to register as an investment company under the Investment Company Act, we would become subject to substantial regulation with respect to our capital structure (including our ability to use leverage), management, operations, transactions with affiliated persons (as defined in the Investment Company Act), portfolio composition, including restrictions with respect to diversification and industry concentration and other matters.

Maryland takeover statutes may prevent a change of our control. This could depress our stock price.

Under Maryland law, “business combinations” between a Maryland corporation and an interested stockholder or an affiliate of an interested stockholder are prohibited for five years after the most recent date on which the interested stockholder becomes an interested stockholder. These business combinations include a merger, consolidation, share exchange, or, in circumstances specified in the statute, an asset transfer or issuance or reclassification of equity securities. An interested stockholder is defined as any person who beneficially owns 10% or more of the voting power of the corporation’s shares or an affiliate or associate of the corporation who, at any time within the two-year period prior to the date in question, was the beneficial owner of 10% or more of the voting

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power of the then outstanding voting stock of the corporation. A person is not an interested stockholder under the statute if the Board of Directors approved in advance the transaction by which he otherwise would have become an interested stockholder. However, in approving a transaction, the Board of Directors may provide that its approval is subject to compliance, at or after the time of approval, with any terms and conditions determined by the board.

After the five-year prohibition, any business combination between the Maryland corporation and an interested stockholder generally must be recommended by the Board of Directors of the corporation and approved by the affirmative vote of at least 80% of the votes entitled to be cast by holders of outstanding shares of voting stock of the corporation; and two-thirds of the votes entitled to be cast by holders of voting stock of the corporation other than shares held by the interested stockholder with whom or with whose affiliate the business combination is to be effected or held by an affiliate or associate of the interested stockholder.

These super-majority vote requirements do not apply if the corporation’s common stockholders receive a minimum price, as defined under Maryland law, for their shares in the form of cash or other consideration in the same form previously paid by the interested stockholder for its shares.

The business combination statute may discourage others from trying to acquire control of us and increase the difficulty of consummating any offer, including potential acquisitions that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders. The statute permits various exemptions from its provisions, including business combinations that are exempted by the Board of Directors prior to the time that the interested stockholder becomes an interested stockholder. Pursuant to the statute, our Board of Directors has exempted any business combinations (a) between us and NorthStar Capital or any of its affiliates and (b) between us and any person, provided that any such business combination is first approved by our Board of Directors (including a majority of our directors who are not affiliates or associates of such person). Consequently, the five-year prohibition and the super-majority vote requireme nts do not apply to business combinations between us and any of them. As a result, such parties may be able to enter into business combinations with us that may not be in the best interest of our stockholders, without compliance with the supermajority vote requirements and the other provisions in the statute.

Our authorized but unissued common and preferred stock and other provisions of our charter and bylaws may prevent a change in our control.

Our charter authorizes us to issue additional authorized but unissued shares of our common stock or preferred stock and authorizes our board, without stockholder approval, to amend our charter to increase or decrease the aggregate number of shares of stock or the number of shares of stock of any class or series that we have the authority to issue. In addition, our Board of Directors may classify or reclassify any unissued shares of common stock or preferred stock and may set the preferences, rights and other terms of the classified or reclassified shares. Our board could establish a series of common stock or preferred stock that could delay or prevent a transaction or a change in control that might involve a premium price for the common stock or otherwise be in the best interest of our stockholders.

Our charter and bylaws also contain other provisions that may delay or prevent a transaction or a change in control that might involve a premium price for our common stock or otherwise be in the best interest of our stockholders.

Maryland law also allows a corporation with a class of equity securities registered under the Securities Exchange Act of 1934, as amended, or the Securities Exchange Act, and at least three independent directors to elect to be subject, by provision in its charter or bylaws or a resolution of its Board of Directors and notwithstanding any contrary provision in the charter or bylaws, to a classified board, unless its charter prohibits such an election. Our charter contains a provision prohibiting such an election to classify our board under this provision of Maryland law. This makes the company more vulnerable to a change in control. If our stockholders voted to amend this charter provision and to classify our Board of Directors, the staggered terms of our directors could reduce the possibility of a tender offer or an attempt at a change in control even though a tender offer or change in control might be in the best interests of our stockholders .

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Risks Related to REIT Tax Status

Our failure to qualify as a REIT would result in higher taxes and reduced cash available for distribution to our stockholders.

We intend to continue to operate in a manner so as to qualify as a REIT for federal income tax purposes. However, qualification as a REIT involves the application of highly technical and complex Internal Revenue Code provisions for which only a limited number of judicial and administrative interpretations exist. Even an inadvertent or technical mistake could jeopardize our REIT status. Our continued qualification as a REIT will depend on our satisfaction of certain asset, income, organizational, distribution, stockholder ownership and other requirements on a continuing basis. Moreover, new tax legislation, administrative guidance or court decisions, in each instance potentially with retroactive effect, could make it more difficult or impossible for us to qualify as a REIT. If we were to fail to qualify as a REIT in any taxable year, we would be subject to federal income tax, including any applicable alternative minimum tax, on our taxable inco me at regular corporate rates, and distributions to stockholders would not be deductible by us in computing our taxable income. Any such corporate tax liability could be substantial and would reduce the amount of cash available for distribution to our stockholders, which in turn could have an adverse impact on the value of, and trading prices for, our stock. We hold a substantial majority of our assets in a majority owned subsidiary, which we refer to as our private REIT. Our private REIT is organized to qualify as a REIT for federal income tax purposes. Our private REIT must also meet all of the REIT qualification tests under the Internal Revenue Code. If the private REIT did not qualify as a REIT, it is likely that NorthStar Realty would also not qualify as a REIT. If, for any reason, we failed to qualify as a REIT and unless we were entitled to relief under certain Internal Revenue Code provisions, we would be unable to elect REIT status for the four taxable years following the year during which we ceased to so qualify.

Complying with REIT requirements may force us to borrow funds to make distributions to stockholders or otherwise depend on external sources of capital to fund such distributions.

To qualify as a REIT, we are required to distribute annually at least 90% of our taxable income, subject to certain adjustments, to our stockholders. To the extent that we satisfy the distribution requirement, but distribute less than 100% of our taxable income, we will be subject to federal corporate income tax on our undistributed taxable income. In addition, we will be subject to a 4% nondeductible excise tax if the actual amount that we distribute to our stockholders in a calendar year is less than a minimum amount specified under federal tax laws. While we intend to continue to make distributions sufficient to avoid imposition of the 4% tax, there can be no assurance that we will be able to do so. We anticipate that distributions generally will be taxable as ordinary income, although a portion of such distributions may be designated by us as long-term capital gain to the extent attributable to capital gain income recognized by us, or may constitute a return of capital to the extent that such distribution exceeds our earnings and profits as determined for tax purposes.

From time to time, we may generate taxable income greater than our net income for financial reporting purposes due to, among other things, amortization of capitalized purchase premiums, or our taxable income may be greater than our cash flow available for distribution to stockholders (for example, if a borrower defers the payment of interest in cash pursuant to a contractual right or otherwise). If we do not have other funds available in these situations we could be required to borrow funds, sell investments at disadvantageous prices or find another alternative source of funds to make distributions sufficient to enable us to pay out enough of our taxable income to satisfy the REIT distribution requirement and to avoid corporate income tax and the 4% excise tax in a particular year. These alternatives could increase our costs or reduce our equity.

Because of the distribution requirement, it is unlikely that we will be able to fund all future capital needs, including capital needs in connection with investments, from cash retained from operations. As a result, to fund future capital needs, we likely will have to rely on third-party sources of capital, including both debt and equity financing, which may or may not be available on favorable terms or at all. Our access to third-party sources of capital will depend upon a number of factors, including the market’s perception of our growth potential and our current and potential future earnings and cash distributions and the market price of our stock.

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We could fail to qualify as a REIT if the Internal Revenue Service successfully challenges our treatment of our mezzanine loans and repurchase agreements.

We intend to continue to operate in a manner so as to qualify as a REIT for federal income tax purposes. However, qualification as a REIT involves the application of highly technical and complex Internal Revenue Code provisions for which only a limited number of judicial and administrative interpretations exist. If the Internal Revenue Service, or IRS, disagrees with the application of these provisions to our assets or transactions, including assets we have owned and past transactions, our REIT qualification could be jeopardized. For example, IRS Revenue Procedure 2003-65 provides a safe harbor pursuant to which a mezzanine loan, if it meets each of the requirements contained in the Revenue Procedure, will be treated by the IRS as a real estate asset for purposes of the REIT asset tests, and interest derived from it will be treated as qualifying mortgage interest for purposes of the REIT 75% income test. Although the Revenue Procedure provides a safe harbor on which taxpayers may rely, it does not prescribe rules of substantive tax law. Moreover, our mezzanine loans typically do not meet all of the requirements for reliance on this safe harbor. We have invested, and will continue to invest, in mezzanine loans in a manner that we believe will enable us to continue to satisfy the REIT gross income and asset tests. In addition, we have entered into sale and repurchase agreements under which we nominally sold certain of our mortgage assets to a counterparty and simultaneously entered into an agreement to repurchase the sold assets. We believe that we will be treated for U.S. federal income tax purposes as the owner of the mortgage assets that are the subject of any such agreement notwithstanding that we transferred record ownership of the assets to the counterparty during the term of the agreement. It is possible, however, that the IRS could assert that we did not own the mortgage assets during the term of the sale and repurchase agreement, in which case our ability to qualify as a REIT could be adversely affected. Even if the IRS were to disagree with one or more of our interpretations and we were treated as having failed to satisfy one of the REIT qualification requirements, we could maintain our REIT qualification if our failure was excused under certain statutory savings provisions. However, there can be no guarantee that we would be entitled to benefit from those statutory savings provisions if we failed to satisfy one of the REIT qualification requirements, and even if we were entitled to benefit from those statutory savings provisions, we could be required to pay a penalty tax.

Even if we remain qualified as a REIT, we may face other tax liabilities that reduce our cash flow.

Even if we remain qualified for taxation as a REIT, we may be subject to certain federal, state and local taxes on our income and assets, including taxes on any undistributed income, tax on income from some activities conducted as a result of a foreclosure, and state or local income, property and transfer taxes, such as mortgage recording taxes. Any of these taxes would decrease cash available for distribution to our stockholders. In addition, in order to meet the REIT qualification requirements, or to avert the imposition of a 100% tax that applies to certain gains derived by a REIT from dealer property or inventory, we may hold some of our assets through taxable subsidiary corporations.

Complying with REIT requirements may cause us to forego otherwise attractive opportunities or liquidate otherwise attractive investments.

To qualify as a REIT for federal income tax purposes we must continually satisfy tests concerning, among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to our stockholders and the ownership of our stock. As discussed above, we may be required to make distributions to stockholders at disadvantageous times or when we do not have funds readily available for distribution.

We must also ensure that at the end of each calendar quarter at least 75% of the value of our assets consists of cash, cash items, government securities and qualified real estate assets. The remainder of our investment in securities (other than government securities and qualified real estate assets) generally cannot include more than 10% of the outstanding voting securities of any one issuer or more than 10% of the total value of the outstanding securities of any one issuer. In addition, in general, no more than 5% of the value of our assets can consist of the securities of any one issuer (other than government securities and qualified real estate assets), and no more than 20% of the value of our total securities can be represented by securities of one or more taxable REIT subsidiaries. If we fail to comply with these requirements at the end of any calendar quarter, we must correct such failure within 30 days after the end of the calendar quar ter to avoid losing our REIT status and suffering adverse tax consequences, unless certain relief provisions apply. As a result, compliance with the REIT requirements may hinder our ability to operate solely on the basis of profit maximization and may require us to liquidate or forego otherwise attractive investments.

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Complying with REIT requirements may limit our ability to hedge effectively.

The REIT provisions of the Internal Revenue Code may limit our ability to hedge our operations. In general, income from hedging transactions does not constitute qualifying income for purposes of the REIT 75% and 95% gross income requirements. To the extent, however, that we enter into a qualified hedging contract to reduce interest rate risk or foreign currency risk on indebtedness incurred to acquire or carry real estate assets, any income that we derive from the contract would be excluded from gross income for purposes of calculating the REIT 95% gross income test if specified requirements are met, but would not be excluded and would not be qualifying income for purposes of calculating the REIT 75% gross income test. As a result of these rules, we may have to limit our use of hedging techniques that might otherwise be advantageous, which could result in greater risks associated with interest rate or other changes than we would otherwise incu r.

Liquidation of collateral may jeopardize our REIT status.

To continue to qualify as a REIT, we must comply with requirements regarding our assets and our sources of income. If we are compelled to liquidate our mortgage and preferred equity investments to satisfy our obligations to our lenders, we may be unable to comply with these requirements, ultimately jeopardizing our status as a REIT.

We may be subject to adverse legislative or regulatory tax changes that could reduce the market price of our common stock.

At any time, the federal income tax laws governing REITs or the administrative interpretations of those laws may be amended. Any of those new laws or interpretations may take effect retroactively and could adversely affect us or you as a stockholder. Legislation enacted in 2003 and 2006 generally reduced the federal income tax rate on most dividends paid by corporations to investors taxed at individual rates to a maximum of 15%. REIT dividends, with limited exceptions, do not benefit from the rate reduction, because a REITs income is generally not subject to corporate level tax. As such, this legislation could cause shares in non-REIT corporations to be a more attractive investment to individual investors taxed at individual rates than shares in REITs and could have an adverse effect on the value of our stock.

The stock ownership restrictions of the Internal Revenue Code for REITs and the 9.8% stock ownership limit in our charter may inhibit market activity in our stock and restrict our business combination opportunities.

To qualify as a REIT, five or fewer individuals, as defined in the Internal Revenue Code may not own, actually or constructively, more than 50% in value of our issued and outstanding stock at any time during the last half of a taxable year. Attribution rules in the Internal Revenue Code determine if any individual or entity actually or constructively owns our stock under this requirement. Additionally, at least 100 persons must beneficially own our stock during at least 335 days of a taxable year. To help insure that we meet these tests, our charter restricts the acquisition and ownership of shares of our stock.

Our charter, with certain exceptions, authorizes our directors to take such actions as are necessary and desirable to preserve our qualification as a REIT. Unless exempted by our Board of Directors, no person, including entities, may own more than 9.8% of the value of our outstanding shares of stock or more than 9.8% in value or number (whichever is more restrictive) of our outstanding shares of common stock. The board may not grant an exemption from these restrictions to any proposed transferee whose ownership in excess of 9.8% of the value of our outstanding shares would result in the termination of our status as a REIT. Despite these restrictions, it is possible that there will be five or fewer individuals who own more than 50% in value of our outstanding shares, which could cause us to fail to qualify as a REIT. These restrictions on transferability and ownership will not apply, however, if our Board of Directors determines that it is no l onger in our best interest to continue to qualify as a REIT.

These ownership limits could delay or prevent a transaction or a change in control that might involve a premium price for our common stock or otherwise be in the best interest of the stockholders.

Our dividends that are attributable to excess inclusion income will likely increase the tax liability of our tax-exempt stockholders, foreign stockholders, and stockholders with net operating loss.

In general, dividend income that a tax-exempt entity receives from us should not constitute unrelated business taxable income as defined in Section 512 of the Internal Revenue Code. If we realize excess inclusion income and allocate it to our stockholders, however, then this income would be fully taxable as unrelated business taxable

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income to a tax-exempt entity under Section 512 of the Internal Revenue Code. A foreign stockholder would generally be subject to U.S. federal income tax withholding on this income without reduction pursuant to any otherwise applicable income tax treaty. U.S. stockholders would not be able to offset such income with their net operating losses.

Although the law is not entirely clear, the IRS has taken the position that we are subject to tax at the highest corporate rate on our excess inclusion income allocated to “disqualified organizations” (generally tax-exempt investors, such as certain state pension plans and charitable remainder trusts, that are not subject to the tax on unrelated business taxable income) that own our stock in record name. To the extent that our stock owned by “disqualified organizations” is held in street name by a broker/dealer or other nominee, the broker/dealer or nominee would be liable for a tax at the highest corporate rate on the portion of our excess inclusion income allocable to the stock held on behalf of the “disqualified organizations.” A regulated investment company or other pass-through entity owning our stock may also be subject to tax at the highest corporate tax rate on any excess inclusion income allocated to thei r record name owners that are “disqualified organizations.”

Excess inclusion income could result if a REIT held a residual interest in a real estate mortgage investment conduit, or REMIC. In addition, excess inclusion income also may be generated if a REIT issues debt obligations with two or more maturities and the terms of the payments of these obligations bear a relationship to the payments that the REIT received on mortgage loans or mortgage-backed securities securing those debt obligations. Although we do not hold any REMIC residual interests, we anticipate that certain of the CDO securitizations conducted by our private REIT will produce excess inclusion income that will be allocated to our stockholders. Accordingly, we expect that a portion of our dividends will constitute excess inclusion income, which will likely increase the tax liability of tax-exempt stockholders, foreign stockholders, stockholders with net operating losses, regulated investment companies and other pass-through entities whos e record name owners are disqualified organizations, and brokers/dealers and other nominees who hold stock on behalf of disqualified organizations.

The prohibited transactions tax may limit our ability to engage in transactions, including certain methods of securitizing loans, that would be treated as sales for federal income tax purposes.

A REIT’s net income from prohibited transactions is subject to a 100% tax. In general, prohibited transactions are sales or other dispositions of property, other than foreclosure property, but including loans, held primarily for sale to customers in the ordinary course of business. If we securitize loans in a manner that was for federal income tax purposes treated as a sale of the loans we may be subject to the prohibited transaction tax. Therefore, in order to avoid the prohibited transactions tax, we may choose not to engage in certain sales of loans and may limit the structures we utilize for our securitization transactions even though such sales or structures might otherwise be beneficial to us.

We may lose our REIT status if the IRS successfully challenges our characterization of our income from our foreign taxable REIT subsidiaries.

We have elected to treat several Cayman Islands companies, including issuers in CDO transactions, as taxable REIT subsidiaries. We intend to treat certain income inclusions received with respect to our equity investments in those foreign taxable REIT subsidiaries as qualifying income for purposes of the 95% gross income test but not the 75% gross income test. Because there is no clear precedent with respect to the qualification of such income for purposes of the REIT gross income tests, no assurance can be given that the IRS will not assert a contrary position. In the event that such income was determined not to qualify for the 95% gross income test, we could be subject to a penalty tax with respect to such income to the extent it exceeds 5% of our gross income or we could fail to qualify as a REIT.

If our foreign taxable REIT subsidiaries are subject to federal income tax at the entity level, it would greatly reduce the amounts those entities would have available to distribute to us and that they would have available to pay their creditors.

There is a specific exemption from federal income tax for non-U.S. corporations that restrict their activities in the United States to trading stock and securities (or any activity closely related thereto) for their own account whether such trading (or such other activity) is conducted by the corporation or its employees through a resident broker, commission agent, custodian or other agent. We intend that our foreign taxable REIT subsidiaries will rely on that exemption or otherwise operate in a manner so that they will not be subject to federal income tax on their net income at the entity level. If the IRS were to succeed in challenging that tax treatment, it could greatly reduce the

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amount that those foreign taxable REIT subsidiaries would have available to pay to their creditors and to distribute to us.

Item 1B. Unresolved Staff Comments

Not applicable.

Item 2. Properties

Our investments in net lease properties, which comprise our net lease business segment, are described under “Net Lease Properties.” The following table sets forth certain information with respect to each of our net lease properties as of December 31, 2006:

Net Lease Portfolio: Property Information
Location City, State	Square Feet	Number of Properties	Ownership Interest	Property Type	Leasehold Expiration Date	Lease/Sublease Expiration Date	Encumbrances (In Thousands)
Albemarle, NC	19,649	1	Fee	Healthcare	N/A	October 2021	—
Black Mountain, NC	36,235	1	Fee	Healthcare	N/A	July 2021	4,896
Blountstown, FL	33,722	1	Fee	Healthcare	N/A	July 2021	3,719
Bremerton, WA	68,601	1	Fee	Healthcare	N/A	October 2021	6,750
Brevard, NC	19,778	1	Fee	Healthcare	N/A	October 2021	—
	18,174	1	Fee	Healthcare	N/A	August 2020	2,097
Charlotte, NC	26,000	1	Fee	Healthcare	N/A	October 2021	—
Cherry Springs, NC	20,000	1	Fee	Healthcare	N/A	March 2016	2,786
Clinton, NC	25,688	1	Fee	Healthcare	N/A	May 2020	2,336
Dallas, PA	25,268	1	Fee	Healthcare	N/A	June 2007	436
Gastonia, NC	12,215	1	Fee	Healthcare	N/A	August 2020	1,847
Hillsboro, OR	286,652	1	Fee	Healthcare	N/A	December 2013	33,300
Morris, IL	94,719	1	Fee	Healthcare	N/A	March 2016	6,982
Roxboro, NC	18,174	1	Fee	Healthcare	N/A	August 2020	3,301
Scranton, PA	25,265	1	Fee	Healthcare	N/A	June 2007	375
Sterling, IL	149,008	1	Fee	Healthcare	N/A	March 2016	2,018
Wendell, NC	26,926	1	Fee	Healthcare	N/A	August 2020	2,344
Williamston, NC	18,174	1	Fee	Healthcare	N/A	August 2020	3,195
Winston Salem, NC	33,592	1	Fee	Healthcare	N/A	March 2020	3,524
Winter Garden, FL	37,322	1	Fee	Healthcare	N/A	February 2016	4,954
Aurora, CO	183,529	1	Fee	Industrial	N/A	June 2015	36,387
Indianapolis, IN	333,600	1	Fee	Industrial	N/A	December 2025	28,600
Auburn Hills, MI	105,692	2	Fee	Office	N/A	September 2015	11,493
Camp Hill, PA	214,150	1	Fee	Office	N/A	September 2015	25,205
Los Angeles, CA	97,336	1	Leasehold	Office	May 2039	June 2015	20,976

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Net Lease Portfolio: Property Information
Location City, State	Square Feet	Number of Properties	Ownership Interest	Property Type	Leasehold Expiration Date	Lease/Sublease Expiration Date		Encumbrances (In Thousands)
Los Angeles CA	160,000	1	Fee	Office	N/A	June 2015		34,515
Rancho Cordova, CA	68,000	1	Fee	Office	N/A	September 2015		12,319
Salt Lake City, UT	117,553	1	Fee	Office/Flex	N/A	April 2012		16,584
Springdale, OH	173,145	1	Fee	Office/Flex	N/A	December 2009		19,208
	174,554	1	Fee	Office/Flex	N/A	December 2011		16,586
	139,264	1	Fee	Office/Flex	N/A	March 2010		15,686
Bloomingdale, IL	50,000	1	Leasehold	Retail	January 2027	January 2022		5,888
Concord, NH	50,000	1	Fee	Retail	N/A	January 2016		8,601
	20,087		Fee	Retail	N/A	May 2016
Fort Wayne, IN	50,000	1	Leasehold	Retail	January 2025	August 2024		3,626
Keene, NH	45,471	1	Fee	Retail	N/A	October 2020		6,970
Melville, NY	46,533	1	Leasehold	Retail	January 2022	January 2022		4,567
Millbury, MA	54,175	1	Leasehold	Retail	January 2024	January 2024		4,854
N. Attleboro, MA	50,025	1	Leasehold	Retail	January 2024	January 2024		4,835
New York, NY	17,665	1	Leasehold	Retail	July 2015	June 2011-July 2016		—
	7,500	1	Leasehold	Retail	December 2012	December 2012		—
	10,800	1	Leasehold	Retail	April 2008	June 2017		—
Portland, ME	52,900	1	Leasehold	Retail	August 2030	August 2023		5,132
Rockaway, NJ	15,038	1	Fee	Retail	N/A	May 2015		17,480
	106,000		Fee	Retail	N/A	July 2017
Wichita, KS	48,780	1	Fee	Retail	N/A	March 2023		6,293
Total	3,386,959	45					$	390,665

Item 3. Legal Proceedings

We are not subject to any material legal proceedings.

Item 4. Submission of Matters to a Vote of Security Holders

No matters were submitted to a vote of our security holders during the fourth quarter of 2006.

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PART II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information

Our common stock is listed on the New York Stock Exchange under the symbol “NRF”.

The following table sets forth the high, low and last sales prices for our common stock, as reported on the New York Stock Exchange, and dividends per share for the periods indicated.

Period	High		Low		Close		Dividends
2005
First Quarter	$	11.45	$	9.34	$	9.68	$	0.15
Second Quarter	$	10.90	$	9.58	$	10.34	$	0.15
Third Quarter	$	10.79	$	9.31	$	9.39	$	0.23
Fourth Quarter	$	10.41	$	8.89	$	9.94	$	0.27
2006
First Quarter	$	11.07	$	9.99	$	10.95	$	0.30
Second Quarter	$	12.10	$	10.50	$	12.01	$	0.30
Third Quarter	$	13.15	$	11.32	$	12.70	$	0.34
Fourth Quarter	$	16.71	$	12.64	$	16.57	$	0.35

On April 12, 2006, we declared a dividend of $0.30 per share of common stock, payable with respect to the quarter ended March 31, 2006, to stockholders of record as of April 19, 2006. We made this payment on April 26, 2006.

On July 25, 2006, we declared a dividend of $0.30 per share of common stock, payable with respect to the quarter ended June 30, 2006, to stockholders of record as of August 4, 2006. We made this payment on August 11, 2006.

On October 24, 2006, we declared a dividend of $0.34 per share of common stock, payable with respect to the quarter ended September 30, 2006, to stockholders of record as of November 6, 2006. We made this payment on November 15, 2006.

On January 23, 2007, we declared a dividend of $0.35 per share of common stock, payable with respect to the quarter ended December 31, 2006, to stockholders of record as of February 5, 2007. We made this payment on February 15, 2007.

On March 13, 2007, the closing sales price for our common stock, as reported on the NYSE, was $13.91. As of March 13, 2007, there were 26 record holders of our common stock. This figure does not reflect the beneficial ownership of shares held in nominee name.

Performance Graph

Set forth below is a graph comparing the cumulative total stockholder return on shares of our common stock with the cumulative total return of the NAREIT All REIT Index and the Russell 2000 Index. The period shown commences on October 26, 2004, the date that our common stock began trading on the NYSE after it was first registered under Section 12 of the Exchange Act, and ends on December 31, 2006, the end of our most recently completed fiscal year. The graph assumes an investment of $100 on October 26, 2004 and the reinvestment of any dividends. The stock price performance shown on this graph is not necessarily indicative of future price performance. The information in the graph and the table below was obtained from SNL Financial.

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Equity Compensation Plan Information

The following table summarizes information, as of December 31, 2006, relating to our equity compensation plans pursuant to which grants of securities may be made from time to time.

Plan Category	Number of Securities to Be Issued Upon Exercise of Outstanding Options, Warrants and Rights		Weighted-Average Exercise Price of Outstanding Options, Warrants and Rights	Number of Securities Available for Future Issuance
Approved by Security Holders:
2004 Omnibus Stock Incentive Plan	1,683,130	(1)	n/a	4,249,908
2004 Long-Term Incentive Bonus Plan	332,083		n/a	33,977	(2)
Total	2,015,213		n/a	4,283,885

——————

(1)

Represents units of partnership interest which are structured as profits interest, or LTIP Units, in our operating partnership. Conditioned on minimum allocation to the capital accounts of the LTIP Unit for federal income tax purposes, each LTIP Unit may be converted, at the election of the holder, into one common unit of limited partnership interest in our operating partnership, or OP Units. Each of the OP Units underlying these LTIP Units are redeemable at the election of the OP Unit holder for: (i) cash equal to the then fair market value of one share of our common stock; or (ii) at the option of the Company in its capacity as general partner of our operating partnership, one share of our common stock.

(2)

As of December 31, 2006, the Compensation Committee of our Board of Directors had allocated an aggregate of 664,165 shares of our common stock to certain of the eligible participants as potential awards pursuant to the incentive bonus plan if we achieve the return hurdles established by the compensation committee for the two one-year performance periods beginning October 1, 2005 and October 1, 2006. We achieved the return hurdle for the first performance period and 332,083 shares were awarded to the eligible participants. If the return hurdle is achieved in the second performance period, eligible participants will be entitled to receive an aggregate of 332,083 additional shares the remaining half of his or her allocable reward.

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Item 6. Selected Financial Data

The information below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the combined financial statements of our predecessor and the respective related notes, each included elsewhere in this Form 10-K.

Our predecessor is an aggregation, on a combined and uncombined basis, of the entities through which NorthStar Capital owned and operated its subordinate real estate debt, real estate securities and net lease properties businesses and was not a separate legal operating entity. The entities controlled by NorthStar Capital are combined in our predecessor’s historical financial statements. Where our predecessor had a non-controlling interest in any of the entities that comprised our predecessor, such entities are presented as part of our predecessor on an uncombined basis. The selected combined historical financial information presented for the period January 1, 2004 to October 28, 2004 and for the years ended December 31, 2003 and 2002 relates to the operations of our predecessor. The selected combined historical financial information presented for the years ended December 31, 2003 and 2002 has been derived from the audi ted combined statements of operations of our predecessor. The selected historical consolidated information presented for the years ended December 31, 2006, 2005 and the period October 29, 2004 to December 31, 2004 relates to our operations and has been derived from our audited consolidated statement of operations included in this Annual Report on Form 10-K. The selected historical consolidated information presented for the year ended December 31, 2004, 2005 and 2006 has been derived from our audited consolidated statement of operations included in this Annual Report on Form 10-K.

Our consolidated financial statements include our majority-owned subsidiaries which we control. Where we have a non-controlling interest, such entity is reflected on an unconsolidated basis.

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	The Company (Consolidated) Year Ended December 31,						The Company (Consolidated) Period October 29, 2004 to December 31, 2004			The Predecessor (Combined)
										Period January 1, 2004 to October 28, 2004			Year Ended December 31,
	2006			2005									2003			2002
	(In Thousands, Except per Share Amounts)
Statements of Operations Data:
Revenues:
Interest income	$	134,847		$	40,043		$	3,990		$	31		$	502		$	—
Interest income – related parties		11,671			8,374			727			1,828			—			—
Rental and escalation income		37,641			11,403			510			—			—			—
Advisory and management fee income –related parties		5,906			4,813			665			2,437			1,026			8
Other revenue		5,874			464			38			185			64			—
Total revenues		195,939			65,097			5,930			4,481			1,592			8
Expenses:
Interest expense		104,265			32,568			3,352			285			—			—
Real estate properties – operating expenses		8,054			1,973			185			—			—			—
General and administrative
Direct:
Salaries and equity based compensation(1)		22,547			11,337			3,788			953			1,289			206
Shared services – related party		—			1,145			231			—			—			—
Insurance		1,309			916			148			—			—			—
Auditing and professional fees		4,765			3,634			790			—			—			—
Other general and administrative		7,522			2,036			895			181			203			27
Allocated:
Salaries and other compensation		—			—			—			3,060			2,146			806
Insurance		—			—			—			318			252			10
Other general and administrative		—			—			—			925			1,098			135
Total general and administrative		36,143			19,068			5,852			5,437			4,988			1,184
Depreciation and amortization		13,646			4,352			190			—			—			—
Total expenses		162,108			57,961			9,579			5,722			4,988			1,184
Income (loss) from operations		33,831			7,136			(3,649	)		(1,241	)		(3,396	)		(1,176	)
Equity in earnings of unconsolidated/uncombined ventures		432			226			83			1,520			2,048			1,369
Unrealized gain on investments and other		4,934			867			200			279			1,219			—
Realized gain on investments and other		1,845			2,160			293			636			1,866			—
Income (loss) from continuing operations before minority interest		41,042			10,389			(3,073	)		1,194			1,737			193
Minority interest in operating partnerships		(3,951	)		(2,116	)		632			—			—			—
Minority interest in joint ventures		(68	)		—			—			—			—			—
Net income (loss) from continuing operations		37,023			8,273			(2,441	)		1,194			1,737			193
Income from discontinued operations, net of minority interest		318			547			2			—			—			—
Gain on sale of discontinued operations, net of minority interest		445			28,852			—			—			—			—
Gain on sale of joint venture interest, net of minority interest		279			—			—			—			—			—
Net income (loss)		38,065			37,672			(2,439	)		1,194			1,737			193
Preferred stock dividends		(860	)		—			—			—			—			—
Net income available to common shareholders	$	37,205		$	37,672		$	(2,439	)	$	1,194		$	1,737		$	193
Net income (loss) per share from continuing operations	$	0.91		$	0.38		$	(0.12	)		—			—			—
Income per share from discontinued operations		0.01			0.03			—			—			—			—
Gain per share on sale of discontinued operations and joint venture interest		0.02			1.33			—			—			—			—
Net income (loss) per share available to common shareholders	$	0.94		$	1.74		$	(0.12	)		—			—			—
Weighted average number of shares of common stock outstanding:
Basic		39,635,919			21,660,993			20,868,865			—			—			—
Diluted		44,964,455			27,185,013			25,651,027			—			—			—

——————

(1)

For the year ended December 31, 2006, 2005 and the period from October 29, 2004 to December 31, 2004, includes $9,080, $5,847 and $2,991 equity based compensation, respectively.

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	December 31,
	2006		2005		2004		2003		2002
	(In Thousands Except per Share Amounts)
Balance Sheet Data
Operating real estate – net	$	468,608	$	198,708	$	43,544	$	—	$	—
Debt securities held for trading		—		—		826,611		—		—
Available for sale securities, at fair value		788,467		149,872		37,692		9,187		—
Real estate debt investments		1,571,510		681,106		70,569		—		—
Investments in and advances to unconsolidated/uncombined ventures		11,845		5,458		5,363		15,537		12,650
Total assets		3,185,620		1,156,565		1,078,078		32,815		25,545
Mortgage notes and loans payable		390,665		174,296		40,557		—		—
Liability to subsidiary trusts issuing preferred securities		213,558		108,258		—		—		—
CDO bonds payable		1,682,229		300,000		—		—		—
Credit facilities		16,000		243,002		27,821		—		—
Repurchase obligations		80,261		7,054		800,418		—		—
Total liabilities		2,502,990		863,862		902,322		322		241
Minority interest in operating partnership		7,655		44,278		32,447		—		—
Stockholders’ equity		659,771		248,425		143,309		32,493		25,304
Total liabilities and stockholders’ equity	$	3,185,620	$	1,156,565	$	1,078,078	$	32,815	$	25,545

	The Company (Consolidated)									The Predecessor (Combined)
	Year Ended December 31,						Period October 29, 2004 to December 31, 2004			Period January 1, 2004 to October 28, 2004			Year Ended December 31,
	2006			2005									2003			2002
	(In Thousands)
Other Data:
Cash Flow from:
Operating activities from continuing operations	$	53,998		$	849,625		$	(828,783	)	$	2,440		$	1,289		$	—
Investing activities		(1,852,961	)		(881,090	)		(108,032	)		(19,197	)		(9,830	)		595
Financing activities		1,819,358			11,630			981,923			18,369			9,554			(595	)

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with our consolidated/combined financial statements and notes thereto included in Item 8 of this report.

Organization and Overview

We are an internally-managed REIT that was formed in October 2003 to continue and expand the real estate debt, real estate securities and net lease businesses of our predecessor. Upon the consummation of our IPO, three subsidiaries of our predecessor contributed 100% of their respective interests in entities through which our predecessor engaged in these businesses in exchange for units of limited partnership interest in our operating partnership and approximately $36.1 million in cash.

We commenced operations upon the consummation of our IPO. We conduct substantially all of our operations and make our investments through our operating partnership, of which we are the sole general partner. Through our operating partnership, NorthStar Realty Finance Limited Partnership, including its subsidiaries, we primarily:

•

originate, structure and acquire senior and subordinate debt investments secured primarily by commercial properties and multifamily;

•

invest, create, manage portfolios of primarily investment grade commercial debt, including CMBS, REIT unsecured debt, credit-tenant loans and CDO’s backed primarily by real estate securities; and

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•

acquire office, industrial, retail and healthcare related properties that are primarily net leased to corporate tenants.

We believe that these businesses are complementary to each other due to their overlapping sources of investment opportunities, common reliance on real estate fundamentals and ability to utilize securitization to finance assets and enhance returns. We seek to match fund our real estate securities and real estate debt investments, primarily by issuing CDOs.

Sources of Operating Revenues

We primarily derive revenues from interest income on the real estate debt investments that we originate with borrowers or acquire from third parties, from real estate securities in which we invest and rental income from our net lease investments. We also generate interest revenues from our ownership interest in non-consolidated securities CDOs and advisory fee income, and income from our unconsolidated ventures. Other income comprises a much smaller and more variable source of revenues and is generated principally from fees associated with early loan repayments and gains/losses from sales of securities.

We primarily derive income through the difference between the interest and rental income we are able to generate from our investments, and the cost at which we are able to obtain financing for our investments. In order to protect this difference, or “spread”, we seek to match fund our investments using secured sources of long term financing such as CDO and mortgage financings and long-term unsecured subordinate debt. Match funding means that we try to obtain debt with maturities equal to our asset maturities, and borrow funds at interest rate benchmarks similar to our assets. Match funding results in minimal impact to spread when interest rates are rising and falling and minimizes refinancing risk since our asset maturities match those of our debt.

Real Estate Debt

We primarily earn interest income from these investments. As of December 31, 2006, we acquired, originated and structured senior and subordinate debt investments producing $1.4 billion of commitments of which $1.2 billion has been funded. A key source of our transaction volume was the strategic acquisition of our Dallas-based loan origination division. We completed 74 financings in 2006 compared to 44 in 2005 and 3 for the period of October 29, 2004 to December 31, 2004. Whole loan first mortgages comprised 68.9% of our funded investment volume in 2006, compared to 31.3% in 2005. We believe the increased recognition of the Company and our reputation for providing high quality and responsive service to our customers will continue to fuel in our growth in the lending business.

Real Estate Securities

On our real estate securities we earn interest income and management fees from our off-balance sheet CDOs. During the year ended December 31, 2006, we continued to expand our securities business. We acquired $544.4 million of real estate securities on balance sheet and at December 31, 2006 had accumulated $567.5 million of real estate securities with our warehouse provider, which served as the collateral for our securities CDO that closed on February 28, 2007. As we continue to focus on attractive risk/return opportunities to expand our real estate securities business, we invested in two synthetic CMBS CDOs acquiring $81.2 million of notes. We believe the advantages in the synthetic market are the ability to gain exposure to securities that may not be readily available in the cash market and to be able to accumulate investments more quickly by acquiring larger positions. This will enable us to take advantage of market ineff iciencies.

Net Lease Properties

We earn rental and escalation income from our net leased properties. During the year ended December 31, 2006, we acquired $164.9 million of net lease properties compared to $146.9 in 2005, and sold three assets with a net book value of $10.2 million. In addition, we entered into a non-consolidating 50% joint venture and the joint venture acquired three office/flex properties for $54.3 million. Despite the competitive environment, we were able to utilize our relationships and expertise in working through complicated structuring issues to find investments in primary and secondary markets that we believe will generate attractive risk adjusted returns and produce a stable income stream. As part of our business strategy to expand our net lease business into underserved real estate sectors, we partnered with experts in the healthcare-related net lease business and formed the Wakefield joint venture. The

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joint venture acquired approximately $124.5 million of healthcare facilities in 2006. We believe there will be increasing demand for healthcare-related facilities with the anticipated growth in the aging U.S. population.

Profitability and Performance Metrics

We calculate several metrics to evaluate the profitability and performance of our business.

Adjusted funds from operations: (“AFFO”) (see “Liquidity and Capital Resources” —Funds from Operations and Adjusted Funds from Operations for a description of this metric).

Return on Equity (“ROE”), before and after general and administrative expenses. We calculate return on equity using AFFO, inclusive and exclusive of general and administrative expenses, divided by average common book equity during the period as a measure of the profitability generated by our assets and company on common stockholders’ equity invested.

Assets Under Management (“AUM”) growth is a key driver of our ability to grow our earnings.

Credit Risk Management is our ability to manage our assets in a manner that preserves principal and income and minimizes credit losses that would decrease income.

Corporate Expense Management influences the profitability of our business, and we must balance making appropriate investments in our infrastructure and employees with a recognition that our accounting, finance, legal and risk management infrastructure does not directly generate quantifiable revenues for the company. We frequently refer to general and administrative expenses, excluding stock-based compensation expense, divided by total revenues as a measure of our efficiency in managing expenses.

Availability and cost of capital will impact our profitability and earnings since we must raise new capital to fund a majority of our AUM growth.

Recent Trends

We conduct our business primarily in the commercial real estate markets, which during 2006 continued to experience large inflows of capital. These inflows resulted in appreciation of commercial real estate asset value across most commercial real estate asset classes in the United States. More capital and new investors entering the market have generally reduced cash yields and margins available on investments relative to prior years. Interest rates have remained low by historical standards and credit, as measured by default rates, are at historically low levels. As a result, we have experienced increased competition in all of our businesses, and have also benefited from lower yields in our debt financings, because our CDO notes are sold to investors in commercial real estate asset-backed securities.

As competition increases and market returns decrease, we have shifted our product focus in several areas. We continued to emphasize growing direct customer relationships and direct origination of real estate debt investments. We believe that by working directly with borrows we are able to customize loan structures that better suit our credit needs, and to also slightly mitigate yield compression. These investments include first mortgage whole loans, whereby we are able to control a majority of the capital structure of the real estate asset and therefore have a higher recovery rate in a default scenario. Whole loans typically bear lower interest rates than subordinate loans, but we are able to earn an attractive ROE from these assets because we are able to finance them at higher leverage levels and a lower cost of funds in the CDO market.

In our securities investment business, the average credit ratings of our managed portfolio increased to BBB/Baa2 from BBB-/Baa3 in the prior year. By moving to a higher average investment grade credit rating and position in the capital structure, we mitigate the impact of declining credit support levels for the same rating that has been experienced in the market for the past several years.

Market-demanded yields for all commercial real estate classes continued to decrease in 2006, especially for single-user occupied net lease office and industrial facilities. We responded to this trend by seeking out knowledgeable and experienced investors in non-core real estate asset classes with whom we could partner in finding less competitive, attractive opportunities for net lease assets. During 2006 we partnered with an experienced investor in the healthcare-related sector to invest in net leased assets. Through this venture, called Wakefield, we invested in $124.5 million of assets during 2006. The healthcare sector also has experienced yield compression,

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however, we believe capital available to this area is more constrained due to the operating and regulatory complexity associated with these assets.

Critical Accounting Policies

Our accounting policies are more fully described in Note 1 of the consolidated financial statements included in Item 8 of this report. As disclosed in Note 1, the preparation of financial statements in conformity with U.S. generally accepted accounting principles, or U.S. GAAP, requires the use of estimates and assumptions that could affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenue and expenses. Actual results could differ significantly from those estimates. Management has identified certain critical accounting policies that affect the more significant judgments and estimates used by management in the preparation of our predecessor’s combined financial statements and our consolidated financial statements. Management evaluates on an ongoing basis estimates related to critical accounting policies, including those related to revenue recognition, all owances for doubtful accounts receivable and impairment of investments in uncombined ventures and debt securities available for sale. The estimates are based on information that is currently available to management, as well as on various other assumptions that management believes are reasonable under the circumstances.

Principles of Consolidation

The consolidated financial statements include our accounts and our majority-owned subsidiaries and variable interest entities (“VIE”) where we are deemed the primary beneficiary in accordance with the provisions and guidance of Financial Accounting Standards Board (“FASB”) Interpretation No. 46R, “Consolidation of Variable Interest Entities” (“Fin 46R”). All significant intercompany balances have been eliminated in consolidation.

Fin 46R requires a VIE to be consolidated by its primary beneficiary. The primary beneficiary is the party that absorbs a majority of the VIEs anticipated losses and or a majority of the expected returns. We have evaluated our real estate debt investments and our investments in each of our five CDO issuers to determine whether we are VIEs. For each of these investments, we have evaluated: (1) the sufficiency of the fair value of the entity’s equity investment at risk to absorb losses; (2) whether as a group, the holders of the equity investment at risk have; (a) the direct or indirect ability through voting rights to make decisions about the entity’s significant activities; (b) the obligation to absorb the expected losses of the entity and their obligations are not protected directly or indirectly; and (c) the right to receive the expected residual return of the entity and their rights are not capped; (3) whether the voting rights of these investors are proportional to their obligations to absorb the expected losses of the entity, their rights to receive the expected returns of their equity, or both; and (4) whether substantially all of the entities activities involve or are conducted on behalf of an investor that has disproportionately fewer voting rights.

On April 13, 2006, FASB issued FASB Staff Position FIN 46(R)-6, “Determining the Variability to be Considered When Applying FASB Interpretation No. 46(R)” The FASB Staff Position or FSP addresses the approach to determine the variability to consider when applying FIN 46(R), and includes several illustrative examples of how the variability should be considered. The variability that is considered in applying Interpretation 46(R) may affect: (a) the determination as to whether the entity is a variable interest entity (VIE); (b) the determination of which interests are variable interests in the entity; (c) if necessary, the calculation of expected losses and residual returns of the entity; and (d) the determination of which party is the primary beneficiary of the VIE. Thus, determining the variability to be considered is necessary to apply the provisions of Interpretation 46(R).

We applied the guidance in FSP FIN 46(R)-6 prospectively to all entities. The adoption did not have a material effect on our financial statements as a whole. We will consolidate our newly created CDO issuances under the provisions of FIN 46(R)-6.

As of December 31, 2006, we identified the following eighteen interests in entities which were determined to be VIEs under FIN 46R-6: CDO I, II, III, IV, V, VI, VII, VIII, NorthStar Realty Finance Trust I, II, III, IV, V and VI; Abacus, a CLO equity investment, a preferred equity investment in a net lease property and a senior loan investment collateralized by commercial real estate.

Based on management’s analysis, we are the primary beneficiary for CDO IV, VI, VII, VIII and Abacus since we absorb the majority of the expected losses with our ownership of all of the equity notes and in accordance with Fin 46R-6 these VIEs are consolidated. For the remaining 13 VIEs, management has determined we are not the

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primary beneficiary because we would not absorb a majority of the expected losses nor are entitled to a majority of the expected residual returns. Accordingly, these VIEs were not consolidated into our financial statements.

Operating Real Estate

In accordance with Statement of Financial Standards (“SFAS 144”) “Accounting for the Impairment or Disposal of Long-Lived Assets,” a property to be disposed of is reported at the lower of its carrying value or its estimated fair value less the cost to sell. Once an asset is determined to be held for sale, depreciation and straight-line rental income are no longer recorded. In addition, the asset is reclassified to assets held for sale on the consolidated balance sheet and the results of operations are reclassified to income (loss) from discontinued operations in our consolidated statements of operations.

In accordance with SFAS No. 141 “Business Combinations” (“SFAS 141”), we allocate the purchase price of operating properties to land, building, tenant improvements, deferred lease cost for the origination costs of the in-place leases and to intangibles for the value of the above or below market leases. We amortize the value allocated to the in-place leases over the remaining lease term. The value allocated to the above or below market leases are amortized over the remaining lease term as an adjustment to rental income.

Available for Sale Securities

We determine the appropriate classification of our investments in securities at the time of purchase and reevaluate such determination at each balance sheet date. Securities for which we do not have the intent or the ability to hold to maturity are classified as available for sale securities. We have designated our investments in the equity notes of unconsolidated CDOs and CLOs as available for sale securities as they meet the definition of a debt instrument due to their redemption provisions. Available for sale securities are carried at estimated fair value with the net unrealized gains or losses reported as a component of accumulated other comprehensive income (loss) in the consolidated statements of stockholders’ equity. Our investments in these equity notes are relatively illiquid, and their value must be estimated by management. Fair value is based primarily upon broker quotes or management’s estimates. These estimated values ar e subject to significant variability based on market conditions, such as interest rates and current spreads. Changes in the valuations do not affect either our reported income or cash flows, but impact stockholders’ equity and owners’ equity, respectively.

Real Estate Debt Investments

We must periodically evaluate each of our direct investments in real estate debt for possible impairment. Impairment is indicated when it is deemed probable that we will be unable to collect all amounts due according to the contractual terms of the loan. Upon a determination of impairment, we would establish a specific valuation allowance with a corresponding charge to earnings. Significant judgment is required both in determining impairment and in estimating the resulting loss allowance. Allowances for loan investment losses are established based upon a periodic review of the loan investments. Income recognition is generally suspended for loans at the earlier of the date at which payments become 90 days past due or when, in the opinion of management, a full recovery of income and principal becomes doubtful. Income recognition is resumed when the loan becomes contractually current and performance is demonstrated to have resumed. In performing this review, management considers the estimated net recoverable value of each loan as well as other factors, including the fair market value of any collateral, the amount and the status of any additional debt, the prospects for the borrower and the economic conditions in the region where the borrower does business. As determination is based upon projections of future economic events, which are inherently subjective, the amounts ultimately realized from the loan investments may differ materially from the carrying value at the balance sheet date. As of the date of this Annual Report on Form 10-K, all of our direct investments in real estate debt are fully performing and we have determined that no loss allowances are necessary with respect to any of the investments.

Revenue Recognition

In connection with our investments in the equity notes of our unconsolidated CDOs and CLOs, we recognize interest income on these investments pursuant to Emerging Issues Task Force (“EITF”) 99-20, “Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets,” Interest income is recognized on an estimated effective yield to maturity basis. Accordingly, on a quarterly basis, we calculate a revised yield on the current amortized cost of the investment and a current estimate of cash flows based

45

upon actual and estimated prepayment and credit loss experience. The revised yield is then applied prospectively to recognize interest income.

Credit Losses, Impairment and Allowance for Doubtful Accounts

We assess whether unrealized losses on the change in fair value on our available for sale securities reflect a decline in value which is other than temporary in accordance with EITF 03-1 “The Meaning of Other than Temporary Impairment and its Application to Certain Investments.” If it is determined the decline in value is other than temporary, the impaired securities are written down through earnings to their fair values. Significant judgment of management is required in this analysis, which includes, but is not limited to, making assumptions regarding the collectibility of the principal and interest, net of related expenses, on the underlying loans.

Allowances for real estate debt investment losses are established based upon a periodic review of the loan investments. Income recognition is generally suspended for the investments at the earlier of the date at which payments become 90 days past due or when, in the opinion of management, a full recovery of income and principal becomes doubtful. Income recognition is resumed when the suspended investment becomes contractually current and performance is demonstrated to be resumed. In performing this review, management considers the estimated net recoverable value of the investment as well as other factors, including the fair market value of any collateral, the amount and the status of any senior debt, the prospects for the borrower and the economic situation of the region where the borrower does business. Because this determination is based upon projections of future economic events, which are inherently subjective, the amounts ultimately reali zed from the investments may differ materially from the carrying value at the balance sheet date.

We review long-lived assets to be held and used for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets might not be recoverable. Upon determination that an impairment exists, the related asset is written down through earnings to its estimated fair value.

Allowances for doubtful accounts for tenant receivables are established based on periodic review of aged receivables resulting from estimated losses due to the inability of tenants to make required rent and other payments contractually due. Additionally, we established, on a current basis, an allowance for future tenant credit losses on billed and unbilled rents receivable based upon an evaluation of the collectibility of such amounts.

Risks and Uncertainties

In the normal course of business, we encounter primarily two significant types of economic risk: credit and market. Credit risk is the risk of default on securities, loans, leases, and derivatives that result from a borrower’s, lessee’s or derivative counterparty’s inability or unwillingness to make contractually required payments. Market risk reflects changes in the value of investments in securities, loans and real estate, or in derivatives, such as our CDO Deposit and Warehouse Agreements and our investment in CDO issuers, due to changes in interest rates, spreads or other market factors, including the value of the collateral underlying loans and securities and the valuation of real estate held us. Management believes that the carrying values of its investments are fairly stated, taking into consideration these risks along with estimated collateral values, payment histories and other market information.

Stock Based Compensation

We have adopted the fair value method of accounting prescribed in SFAS No. 123 “Accounting for Stock Based Compensation” (“SFAS 123”) (as amended by SFAS No. 148 and SFAS 123(R)) for equity based compensation awards. SFAS 123 requires an estimate of the fair value of the equity award at the time of grant rather than the intrinsic value method. All fixed equity based awards to employees and directors, which have no vesting conditions other than time of service, the fair value of the equity award at the grant date will be amortized to compensation expense over the award’s vesting period. For performance based compensation plans we recognize compensation expense at such time when the performance hurdle is anticipated to be achieved over the performance period based upon the fair value at the date of grant. For target based compensation plans we recognize compensation expense over the vesting period based upon the fair val ue of the plan obtained by a third-party appraisal from an independent firm that is an expert in valuing target-based compensation plans.

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Unconsolidated Ventures

Management is required to make subjective assessments as to whether there are impairments in the values of its investment in unconsolidated ventures accounted for using the equity method. As no public market exists for these investments, management estimates the recoverability of these investments based on projections and cash flow analysis. These assessments have a direct impact on our net income because recording an impairment loss results in an immediate negative adjustment to net income.

Derivatives and Hedging Activities

We account for our derivatives and hedging activities in accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” which requires us to recognize all derivatives as either assets or liabilities in the consolidated balance sheet and to measure those instruments at fair value. Additionally, the fair value adjustments of each period will affect our consolidated financial statements differently depending on whether the derivative instrument qualifies as a hedge for accounting purposes and, if so, the nature of the hedging activity.

For those derivative instruments that are designated and qualify as hedging instruments, we must designate the hedging instrument, based upon the exposure being hedged, as either a cash flow hedge or a fair value hedge.

Generally, we enter into derivatives that are intended to qualify as hedges under accounting principles generally accepted in the United States, unless specifically stated otherwise. Toward this end, the terms of hedges are matched closely to the terms of hedged items.

With respect to derivative instruments that have not been designated as hedges, any net payments under, or fluctuations in the fair value of, such derivatives are recognized currently in income. Our credit default swaps, basis swaps, CDO Deposit and Warehouse Agreements have been designated as non-hedge derivatives.

Our derivative financial instruments contain credit risk to the extent that our bank counterparties may be unable to meet the terms of the agreements. We minimize such risk by limiting our counterparties to major financial institutions with single A or better credit ratings. In addition, the potential risk of loss with any one party resulting from this type of credit risk is monitored.

Recent Accounting Pronouncements

In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments” (“SFAS 155”). SFAS 155 allows any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” to be carried at fair value in its entirety, with changes in fair value recognized in earnings. In addition, SFAS 155 requires that beneficial interests in securitized financial assets be analyzed to determine whether they are freestanding derivatives or contain an embedded derivative. SFAS 155 also eliminates a prior restriction on the types of passive derivatives that a qualifying special purpose entity is permitted to hold. SFAS 155 is applicable to new or modified financial instruments in fiscal years beginning after September 15, 2006. The adoption of SFAS 155 is not expected to have a material impact on the consolidated financial statements.

In July 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes”, or FIN 48. This interpretation, among other things, creates a two-step approach for evaluating uncertain tax positions. Recognition (step one) occurs when an enterprise concludes that a tax position, based solely on its technical merits, is more-likely-than-not to be sustained upon examination. Measurement (step two) determines the amount of benefit that more-likely-than-not will be realized upon settlement. Derecognition of a tax position that was previously recognized would occur when a company subsequently determines that a tax position no longer meets the more-likely-than-not threshold of being sustained. FIN 48 specifically prohibits the use of a valuation allowance as a substitute for derecognition of tax positions, and it has expanded disclosure requirements. FIN 48 is effective for fiscal years beginning after December 15, 2006, in which the impact of adoption should be accounted for as a cumulative-effect adjustment to the beginning balance of retained earnings. We will adopt FIN 48 commencing January 1, 2007 and we do not believe the adoption of FIN 48 will have a material impact on our consolidated financial statements.

In September 2006, the FASB issued SFAS 157 “Fair Value Measurement” (“SFAS 157”). SFAS 157 establishes a framework for measuring fair value under generally accepted accounting principles, clarifies the

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definition of fair value within that framework, and expands disclosures about the use of fair value measurements. SFAS 157 is effective for fiscal years beginning after November 15, 2007. Early adoption is allowed, provided that the reporting entity has not yet issued financial statements, including interim financial statements for the fiscal year in which the statement is adopted. The provision of this statement is to be applied prospectively as of the fiscal year of adoption. We will adopt the provisions of SFAS 157 for its fiscal year commencing January 1, 2007. We do not believe the adoption of SFAS 157 will have a material impact on the consolidated financial statements.

In September 2006, the SEC issued Staff Accounting Bulletin No. 108 (SAB 108). The interpretations in SAB 108 express the staff’s views regarding the process of quantifying financial statement misstatements. The staff believes registrants must consider the impact of correcting all misstatements, including the effect of misstatements that were not corrected at the end of the prior year. These prior year misstatements should be considered in quantifying misstatements in current year financial statements. Thus, a registrant’s financial statements would require adjustment when the assessment in the current year or in prior years results in quantifying a misstatement that is material, after considering all relevant quantitative and qualitative factors. The adoption of SAB 108 did not have a material impact on our consolidated financial statements.

Comparison of the Year Ended December 31, 2006 to the Year Ended December 31, 2005

Basis of Presentation

Set forth below is a discussion of the financial condition and results of operations of NorthStar Realty Finance Corp. for the years ended December 31, 2006 and 2005, the period from the commencement of our operations on October 29, 2004 to December 31, 2004 and of our predecessor for the period January 1, 2004 through October 28, 2004.

Revenues

Interest Income

Interest income for the year ended December 31, 2006 totaled $134.9 million, representing an increase of $94.9 million or 237%, compared to $40.0 million for the year ended December 31, 2005. The increase was primarily attributable to increased investment activity and asset growth. We originated or acquired real estate securities and real estate debt investments with a net book value of $1.8 billion during 2006. This was partially offset by approximately $464 million of real estate debt repayments, the sale of certain real estate securities during 2006 and the liquidation our trading securities portfolio in the latter part of 2005.

Interest Income – Related Parties

Interest income from related parties for the year ended December 31, 2006 totaled $11.7 million, representing an increase of $3.3 million, or 39%, compared to $8.4 million for the year ended December 31, 2005. The increase was attributable to having a full year benefit in 2006 of non-consolidating securities CDOs, which closed in 2005. CDO III closed in March 2005 and CDO V closed in September 2005. We acquired all of the non-investment grade note classes of these off-balance sheet financings. These acquisitions contributed approximately $3.8 million of additional interest income for the year ended December 31, 2006.

Rental and Escalation Income

Rental and escalation income for the year ended December 31, 2006 totaled $37.6 million, representing a $26.2 million, or 230% increase compared to $11.4 million for the year ended December 31, 2005. The increase was attributable to net lease acquisitions totaling $289.4 million during 2006. These acquisitions collectively contributed additional rental income of $14.8 million. The balance of the increase was attributable to having the full year benefit in 2006 of net lease acquisitions which closed in 2005.

Advisory and Management Fee Income – Related Parties

Advisory fees from related parties for the year ended December 31, 2006 totaled $5.9 million, representing an increase of approximately $1.1 million, or 23%, compared to $4.8 million for the year ended December 31, 2005. The increase was primarily attributable to the full year benefit in 2006 of advisory fees from two of our off balance

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sheet CDOs which closed in March and September 2005. This increase was partially offset by a decrease in fees earned from the NSF Venture of approximately $0.5 million due to termination of our advisory fee agreement on February 1, 2006.

Other Revenue

Other revenue for the year ended December 31, 2006 totaled $5.9 million, representing an increase of $5.5 million compared to $0.4 million the year ended December 31, 2005. The increase is primarily attributable to prepayment fees of $1.2 million on the early repayment of our real estate debt investments, $1.4 million of premiums received on credit default swaps related to a synthetic CDO, we acquired in August 2006, $1.2 million of incentive fee income related to the sale of our interest in the NSF Venture, $1.0 million of net expense reimbursements at two properties in our net lease portfolio and $0.7 million of miscellaneous income related to investments.

Expenses

Interest Expense

Interest expense for the year ended December 31, 2006 totaled $104.3 million, representing an increase of $71.7 million, or 220%, compared to $32.6 million for the year ended December 31, 2005. This increase was primarily attributable to an increase in debt outstanding from the financing of $1.8 billion of net new investments during 2006. Our on-balance sheet financing of our investments increased from $0.8 billion as of December 31, 2005 to $2.4 billion at December 31, 2006. In addition there was an increase in our average borrowing rate on our non-hedged variable rate debt due to increased LIBOR rates.

Real Estate Properties – Operating Expenses

Property operating expenses for the year ended December 31, 2006 totaled $8.0 million, representing an increase of $6.0 million, compared to $2.0 million for the year ended December 31, 2005. The increase was attributable to the expenses relating to net lease properties which were acquired during 2006, including properties acquired in the Wakefield joint venture which closed in May 2006. These investments collectively contributed to $5.5 million of additional property operating expenses. In addition, we incurred $0.5 million in additional real estate taxes due to an easement and a rent increase based on the CPI index at one of our net lease properties.

General and Administrative

General and administrative expenses for the year ended December 31, 2006 totaling $36.1 million increased $17.0 million, or 89%, compared to $19.1 million for the year ended December 31, 2005. The increase is comprised of the following:

Salaries and equity based compensation for the year ended December 31, 2006 totaled $22.5 million, of which $9.0 million represented equity based compensation, an increase of approximately $11.2 million, or 99%, compared to $11.3 million of which $5.8 million represented equity based compensation for the year ended December 31, 2005. The increase was primarily attributable to an increase in salaries and bonuses due to higher staffing levels to accommodate the expansion of our business throughout 2005 into 2006 and the termination of the shared services agreement in November 2005. The acquisition of a loan origination business in January 2006 also resulted in an additional $1.5 million of compensation expense for 2006. In addition, the equity based compensation expense increase of $3.2 million over the year ended December 31, 2005 was attributable to approximately $0.8 million relating to an employee outperformance bonus plan for our chief investment officer, approximately $4.6 million relating to the vesting of equity based awards issued under our 2004 Omnibus Stock Incentive Plan, (which includes additional grants of 429,913 LTIP units in January 2006, 58,357 LTIP units in April 2006, 6,992 LTIP units in September 2006 and the accelerated LTIP vesting of the former CFO grants), $2.1 million relating to our Long-Term Incentive Bonus Plan, and compensation expense of $1.1 million relating to our 2006 Outperformance Plan which was approved by the Compensation Committee of our Board of Directors in January of 2006. The increase was slightly offset by a decrease of $0.3 million in stock based compensation which related to LTIP units granted to the Chief Investment Officer as part of a buyout of a profits interest in NS Advisors LLC was fully expensed in July 2005.

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Shared services – related party decreased 100% for the year ended December 31, 2006 as a result of the termination of the shared facilities and services agreement in October 2005. At that time, we entered into a more limited sublease agreement with NorthStar Capital. Under the new sublease effective November 1, 2005, we rent office space from NorthStar Capital which is currently used by our accounting, legal and administrative personnel on a month to month basis. The sublease rent is calculated as a per person monthly charge, based on a “turn key” office arrangement for each person utilizing NorthStar Capital facilities. These direct costs are reflected in other general and administrative expenses.

Insurance for the year ended December 31, 2006 totaled $1.3 million, representing an increase of $0.4 million, or 43%, compared to $0.9 million for the year ended December 31, 2005. The increase was attributable to higher costs incurred for directors and officers liability policies renewed in October 2005 and umbrella insurance coverage for the net lease properties acquired in late 2005 and throughout 2006.

Auditing and professional fees for the year ended December 31, 2006 totaled $4.8 million, representing an increase of $1.2 million, or 33%, compared to $3.6 million for the year ended December 31, 2005. The increase was primarily attributable to auditing fees of $0.7 million relating to audit work performed by our current auditing firm so that they can opine on our prior period financial statements previously audited by another firm. We decided to re-audit the prior years in order to reduce the transaction cost and timing of accessing the capital markets when conditions are favorable. In addition, there was a $0.5 million increase in professional fees relating to legal fees for general corporate work, recruiting fees for new hires, and fees related to agreed upon procedures in connection with CDOs.

Other general and administrative expenses for the year ended December 31, 2006 totaled $7.5 million, representing an increase of approximately $5.5 million, compared to $2.0 million for the year ended December 31, 2005. Approximately $3.6 million or 275% of the increase was primarily attributable to increased public company costs, which includes printing expense, public relations, cash management fees, software costs, direct office costs incurred in connection with the limited sublease agreement and the new lease for relocation of our corporate offices during early 2007, licensing fees, and approximately $0.7 million in connection with our loan origination business that we acquired on January 19, 2006. In addition, we wrote off approximately $0.3 million of previously capitalized costs in connection with a potential acquisition which did not close.

Depreciation and Amortization

Depreciation and amortization expense for the year ended December 31, 2006 totaled $13.7 million, or 214%, representing an increase of $9.3 million, compared to $4.4 million for the year ended December 31, 2005. This increase was primarily attributable to $289.4 million of net lease acquisitions made during 2006, which includes our Wakefield joint venture and the full year impact in 2006 of net lease acquisitions acquired in 2005.

Equity in Earnings of Unconsolidated Ventures

Equity in earnings for the year ended December 31, 2006 totaled $0.4 million, representing an increase of $0.2 million, compared to $0.2 million for the year ended December 31, 2005. The increase was attributable to a net lease joint venture interest we entered into in February 2006. During 2006, we recognized $0.4 million which represented our share of the net income of the CS/Federal Venture. The increase was partially offset by a decrease of $0.2 million relating to NSF Venture as a result of the sale of our interest in the NSF Venture on February 1, 2006, which was acquired in the latter part of the third quarter 2005.

Unrealized Gain on Investments and Other

Unrealized gain on investments and other increased by approximately $4.0 million for the year ended December 31, 2006 to $4.9 million from $0.9 million for the year ended December 31, 2005 primarily due to increased net carry interest income and increases in the fair market value of collateral held under the warehouse agreements. The unrealized gain on investments for 2006 consisted of a $3.2 million mark-to-market gain on the securities and $1.7 million gain that represents the net Carry on the accumulated securities held under the warehouse agreement.

Realized Gain on Investments and Other

The realized gain of $1.9 million for the year ended December 31, 2006 related to the net Carry of securities during the warehouse period, which we recognized at the close of CDO VII and the sale of certain securities in CDO VII subsequent to closing. The realized gain of $2.2 million for the year ended December 31, 2005 was attributable to the increase in fair value related to the net Carry of securities during the warehouse period which we recognized at the close of CDO V and the gain on sale of certain securities.

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Income from Discontinued Operations, Net of Minority Interest

Income from discontinued operations represents the operations of properties sold or held for sale during the period. We also sold our leasehold interest in 27 West 34th Street, 1372 Broadway and sold a property in the Wakefield portfolio during 2006. Accordingly, these leasehold interests operations were reclassified to income from discontinued operations.

Comparison of the Year Ended December 31, 2005 to the 2004 Pro Forma Period

Results of Operations

Our predecessor’s results of operations for the period from January 1, 2004 to October 28, 2004 are not necessarily indicative of our future results of operations due to the impact of our IPO, the acquisition of additional interests in ALGM and its resulting consolidation, the expansion of our real estate securities, net lease and real estate debt businesses, and our new investments and their related debt financing. To facilitate a comparison of the results of operations for the year ended December 31, 2005 to 2004, we have combined our predecessor’s results for the period from January 1, 2004 to October 28, 2004 with the results of our operations for the period from October 29, 2004 to December 31, 2004. We refer to this combined period as the 2004 pro forma period. We will compare the year ended December 31, 2005 to the 2004 pro forma period.

	The Company			The Company/ The Predecessor
	Year Ended December 31, 2005			2004 Pro Forma Period
		(In thousands)
Revenues:
Interest income	$	40,043		$	4,021
Interest income – related parties		8,374			2,555
Rental and escalation income		11,403			510
Advisory and management fee income – related parties		4,813			3,102
Other revenue		464			223
Total revenues		65,097			10,411
Expenses:
Interest expense		32,568			3,637
Real estate properties – operating expenses		1,973			185
General and administrative:
Salaries and equity based compensation		11,337			7,801
Shared services – related party		1,145			231
Insurance		916			466
Auditing and professional fees		3,634			790
Other general and administrative		2,036			2,001
Total general and administrative		19,068			11,289
Depreciation and amortization		4,352			190
Total expenses		57,961			15,301
Income (loss) from operations		7,136			(4,890	)
Equity in earnings of unconsolidated/uncombined ventures		226			1,603
Unrealized gain on investments and other		867			479
Realized gain on investments and other		2,160			929
Income (loss) before operating partnerships minority interest		10,389			(1,879	)
Minority Interest in operating partnerships		(2,116	)		632
Net income (loss) from continuing operations		8,273			(1,247	)
Income from discontinued operations, net of minority interest		547			2
Gain from discontinued operations, net of minority interest		28,852			—
Gain on sale of joint venture interest, net of minority interest		—			—
Net income (loss)	$	37,672		$	(1,245	)

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Revenues

Interest Income

Interest income for the year ended December 31, 2005 totaled $40.0 million, representing an increase of $36.0 million, compared to $4.0 million for the 2004 pro forma period. The increase was primarily attributable to $30.5 million of interest on real estate debt investments made in 2005. In addition, interest income on our short term AAA-rated, floating rate securities increased $4.9 million from $3.4 million in 2004 to $8.3 million in 2005, or 244%. We liquidated that balance of our portfolio in the fourth quarter of 2005. The balance of the increase represents interest income of $0.6 million from cash collateralizing our short security sales and other investments.

Interest Income – Related Parties

Interest income from related parties for the year ended December 31, 2005 totaled $8.4 million, representing an increase of $5.8 million, or 223%, compared to $2.6 million for the 2004 pro forma period. The increase was attributable to higher average investments in our four investment grade CDOs in 2005, which earned interest income of $4.2 million in the year ended December 31, 2005, including $1.1 million from CDO I and II, approximately $2.2 million from CDO III, which closed on March 10, 2005, and $0.9 million from CDO V, which closed on September 22, 2005, and higher interest income of approximately $0.4 million from our “BB” rated junior classes of debt securities of CDO II, which we owned for the full year 2005, versus approximately five months in 2004. We also earned $1.2 million on real estate securities and other investments.

Rental and Escalation Income

Rental and escalation income for the year ended December 31, 2005 totaled $11.4 million, representing a $10.9 million increase compared to $0.5 million in the 2004 pro forma period. The increase was attributable to the following acquisitions: our Chatsworth Portfolio on January 14, 2005; our Salt Lake City property on August 2, 2005; our EDS Portfolio on September 30, 2005; and our Executive Centre on December 8, 2005; which collectively contributed an additional $8.7 million of rental income in addition to $2.7 million from the New York property portfolio. For the 2004 pro forma period, the New York property portfolio had $0.5 million of rental and escalation income, which was accounted for under the equity method of accounting for the period from January 1, 2004 to October 28, 2004. We acquired the 2.5% managing interest in the New York property portfolio on October 29, 2004 and accordingly the operati ons of these properties have been consolidated into the condensed consolidated financial statements for the period October 29, 2004 to December 31, 2004 and for the year ended December 31, 2005.

Advisory and Management Fee Income – Related Parties

Advisory fees from related parties for the year ended December 31, 2005 totaled $4.8 million, representing an increase of approximately $1.7 million, or 55%, compared to $3.1 million for the 2004 pro forma period. The increase was comprised primarily of higher fees earned for CDO II, CDO III (which closed March 10, 2005) and CDO V (which closed September 22, 2005) of $0.7 million, $1.1 million and $0.5 million, respectively, offset by lower fees on CDO I of $0.1 million due to principal pay downs of the real estate securities in that CDO. This increase was offset by a decrease in fees earned from the NSF Venture of approximately $0.5 million, which was due to a lower average portfolio loan balance for the year ended December 31, 2005.

Other Revenue

Other revenue for the year ended December 31, 2005 totaled $0.4 million, representing an increase of $0.2 million compared to the 2004 pro forma period. The increase is primarily attributable to a prepayment fee earned on one of our real estate debt investments. This was offset by lower advisory fee income related to our NSF Venture due to lower average portfolio balance in 2005.

Expenses

Interest Expense

Interest expense for the year ended December 31, 2005 totaled approximately $32.6 million, representing an increase of $29.0 million, compared to $3.6 million for the 2004 pro forma period. This increase was primarily

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attributable to the following: approximately $4.3 million of increased interest in 2005 on financing for our investments in AAA-rated, short term, floating rate securities (we had acquired these investments subsequent to our IPO in October 2004); approximately $0.4 million of increased interest in 2005 on our investment in the “BB” rated junior classes of debt securities and unrated income securities of CDO II and on securities underlying short sales we entered into during 2004; approximately $5.0 million of interest expenses on mortgage and mezzanine debt on our net lease properties; $7.4 million on our real estate debt facilities; approximately $7.6 million on our non-recourse CDO IV bonds; approximately $0.2 million on our Bank of America facility; $4.4 million of interest expense on liabilities to the three subsidiary trusts that issued preferred securities in the second and fourth quarters of 2005.

Real Estate Properties – Operating Expenses

Property operating expenses for the year ended December 31, 2005 totaled $2.0 million, representing an increase of $1.8 million, compared to $0.2 million for the 2004 pro forma period. The increase was attributable to $0.5 million of higher property operating expenses from the New York property portfolio which was accounted for under the equity method of accounting for the period January 1, 2004 to October 28, 2004. We acquired the 2.5% managing interest in the New York property portfolio on October 29, 2004 and accordingly the operations of these properties have been consolidated into the condensed consolidated financial statements for a full year in 2005 versus a partial year in 2004. We acquired the Chatsworth Portfolio on January 14, 2005, the Salt Lake City property on August 2, 2005, the EDS Portfolio on September 30, 2005, and the Executive Centre on December 8, 2005, which collectively contribute d an additional $1.3 million of property operating expenses.

General and Administrative

General and administrative expenses for the year ended December 31, 2005 totaled $19.1 million, representing an increase of $7.8 million, or 69%, compared to $11.3 million for the 2004 pro forma period. General and administrative expenses, excluding equity based compensation expense, for the year ended December 31, 2005 totaled $13.2 million, representing an increase of $5.0 million, or 61%, compared to $8.2 million for the 2004 pro forma period. The increase was comprised of the following:

Salaries and equity based compensation (direct and allocated) for the year ended December 31, 2005 totaled $11.3 million, of which $5.8 million represents equity based compensation, representing an increase of approximately $3.5 million, or 45%, compared to $7.8 million, of which $3.0 million represents equity based compensation, for the 2004 pro forma period. The increase was primarily attributable to an increase in salaries due to higher staffing levels to accommodate the expansion of our three businesses subsequent to our IPO throughout 2005. In addition, equity based compensation expense increased by $2.8 million, or 93%, compared to 2004 pro forma period. The increase was attributable to approximately $0.2 million in connection with an employee outperformance bonus plan for one of our executive officers, approximately $2.4 million in connection with the three-year vesting of equity based awards issued under our 2004 Omnibus Stock Inc entive Plan (which includes approximately $0.4 million of additional amortization in the fourth quarter for employees of our predecessor who became fully vested in connection with our termination of the shared facilities and service agreement on October 29, 2005), $2.2 million in connection with our Long-Term Incentive Bonus Plan or our incentive bonus (of which $1.7 million was a catch up adjustment due to management’s determination that we will meet the required earnings hurdle during the first and second measurement periods and all shares under the incentive bonus plan will likely be earned), and compensation expense of $0.3 million in connection with the grants to the members of our Board of Directors. These increases were offset by a reduction of $2.3 million of amortization in 2005 relating to buyouts of a profits interest in NS Advisors LLC from one of our employees and membership interests in Northstar Funding Managing Member, LLC from two former employees in the 2004 pro forma period in connection with our IPO.

Shared services – related party for the year ended December 31, 2005 totaled $1.1 million, representing an increase of approximately $0.9 million, compared to $0.2 million for the 2004 pro forma period. The increase was attributable to the shared facilities and services agreement we entered into with NorthStar Capital on October 29, 2004. On October 29, 2005, we terminated that agreement and entered into a more limited sublease agreement with NorthStar Capital. Under the new sublease effective November 1, 2005, we rent from NorthStar Capital office space currently used by our accounting, legal and administrative personnel on a month to month basis. The sublease rent is calculated as a per person monthly charge, based on a “turn key” office arrangement for each person utilizing NorthStar Capital facilities. These direct costs are reflected in other general and administrative expenses.

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Insurance (direct and allocated) for the year ended December 31, 2005 totaled $0.9 million, representing an increase of $0.4 million, or 80%, compared to $0.5 million for the 2004 pro forma period. The increase was attributable to direct costs incurred for directors and officers liability policies we acquired subsequent to the IPO in 2004 and renewed in October 2005.

Auditing and professional fees for the year ended December 31, 2005 totaled $3.6 million, representing an increase of $2.8 million, or 350%, compared to $0.8 million for the 2004 pro forma period. The increase was primarily attributable to auditing fees of $1.7 million, comprised of 2004 audit fees expensed in 2005, quarterly reviews performed by our auditors, Sarbanes-Oxley compliance work and audit work completed during 2005 related to our 2005 year-end audit, in addition, there were higher legal costs of $0.4 million associated with general corporate matters, and increased consulting fees of approximately $0.7 million associated with year end and periodic reporting obligations and recruiting during the year ended December 31, 2005.

Other general and administrative expenses (direct and allocated) for the year ended December 31, 2005 compared to the 2004 pro forma period was stable year to year.

Depreciation and Amortization

Depreciation and amortization expense for the year ended December 31, 2005 totaled $4.4 million, representing an increase of $4.2 million, compared to $0.2 million for the 2004 pro forma period. This increase was primarily attributable to $3.1 million of depreciation and amortization expense and $0.3 million related to the amortization of the intangible assets under SFAS 141 for the Chatsworth Portfolio acquired on January 14, 2005, the Salt Lake City property acquired on August 2, 2005, the EDS Portfolio acquired on September 30, 2005 and, the Cincinnati properties acquired on December 8, 2005. In addition, $0.8 million of depreciation expense is attributable the New York property portfolio which was accounted for under the equity method of accounting for the period January 1, 2004 to October 28, 2004. We acquired the 2.5% managing interest in the New York property portfolio on October 29, 2004 and acco rdingly the operations of these properties have been consolidated into our consolidated financial statements in 2005.

Equity in Earnings of Unconsolidated/Uncombined Ventures

Equity in earnings for the year ended December 31, 2005 totaled $0.2 million, representing a decrease of $1.4 million, or 88%, compared to $1.6 million for the 2004 pro forma period. The decrease was attributable to the decrease in the equity in earnings of the NSF Venture of approximately $0.3 million due to lower average portfolio loan balances in 2005 and a decrease of $1.1 million from the New York property portfolio which was accounted for under the equity method of accounting for the period January 1, 2004 to October 28, 2004. We acquired the 2.5% managing interest in the New York property portfolio on October 29, 2004 and accordingly the operations of these properties have been consolidated into our consolidated financial statements in 2005.

Unrealized Gain on Investments and Other

Unrealized gain on investments and other increased by approximately $0.4 million for the year ended December 31, 2005 to $0.9 million from $0.5 million for the 2004 pro forma period. This increase is primarily related to unrealized gains on investments of $0.7 million on the CDO III warehouse agreement and approximately $0.7 million on the CDO V warehouse agreement, offset by $0.5 million of unrealized losses on the CDO VII warehouse. Unrealized gains on investments of $0.5 million for the 2004 pro forma period consisted of $0.5 million on the CDO II warehouse agreement and $0.5 million on the CDO III warehouse agreement, offset by $0.4 million of unrealized losses on short sales of securities and $0.1 million on our investments in AAA-rated, short term, floating rate securities.

Unrealized gains on investments relating to each of these CDO warehouse agreements represent the changes in fair value of each warehouse agreement during the portion of the warehouse term included in the financial reporting period.

Realized Gain on Investments and Other

Realized gain on investments and other for the year ended December 31, 2005 totaled $2.2 million, representing an increase of $1.3 million compared to $0.9 million in the 2004 pro forma period. The increase was attributable to 2005 realized gains of $0.7 million and $0.6 million, representing the increase in fair value related to the net interest

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income on the accumulated securities during the warehouse period of the CDO III warehouse and CDO V warehouse, respectively. We sold $10 million of our BB junior rated debt securities to the warehouse provider for CDO V, realizing a gain on sale of $0.8 million in the year ended December 31, 2005. In addition, we realized a $0.1 million gain in the year ended December 31, 2005 related to the sale of our investments in AAA-rated, short term, floating rate securities.

Realized gains on investments were $0.9 million for the 2004 pro forma period, of which $0.6 million was related to the CDO II warehouse agreement and $0.3 million related to sales of portions of our AAA-rated, short term, floating rate securities.

Income from Discontinued Operations, Net of Minority Interest

We sold our interests in 729 Seventh Avenue on June 30, 2005 and sold our fee interest in the property located at 1552 Broadway on November 30, 2005. On December 30, 2005, we entered into a contract to sell our leasehold interest in 27 West 34th Street and terminate the leasehold interest in 1372 Broadway. Accordingly, these properties’ and leasehold interests operations were reclassified to income from discontinued operations. The properties and leasehold interests were accounted for under the equity method of accounting as part of the New York property portfolio prior to our IPO.

Gain on Sale from Discontinued Operations, Net of Minority Interest

We sold our interests in 729 Seventh Avenue and 1552 Broadway for $29 million and $48 million, respectively, recognizing gains on sale, net of minority interest of $8.6 million and $20.2 million, respectively, for the year ended December 31, 2005. We had no such gain in 2004.

Liquidity and Capital Resources

As of December 31, 2006, we had unrestricted cash and cash equivalents balance of $44.8 million. The Company requires significant capital to fund its investment activities and operating expenses. Our capital sources include cash flow from operations, borrowings under revolving credit facilities, financings secured by the Company’s assets such as first mortgage and CDO financings, long-term subordinate capital such as trust preferred securities and the issuance of common and preferred stock.

As a REIT, we are required to distribute at least 90% of our annual REIT taxable income to our stockholders, and we intend to distribute all or substantially all of our REIT taxable income in order to comply with the REIT distribution requirements of the Internal Revenue Code and to avoid federal income tax and the non deductible excise tax.

These distribution requirements limit our ability to retain earnings and thereby replenish or increase capital committed to its operations; however, we believe that our access to capital resources and financing will enable us to meet current and anticipated capital requirements. We believe that our existing sources of funds will be adequate for purposes of meeting our short- and long-term liquidity needs. Our ability to meet a long-term (beyond one year) liquidity requirement is subject to obtaining additional debt and equity financing. Any decision by our lenders and investors to provide the Company with financing will depend upon a number of factors, such as our compliance with the terms of its existing credit arrangements, our financial performance, industry or market trends, the general availability of and rates applicable to financing transactions, such lenders’ and investors’ resources and policies concerning the terms under wh ich they make capital commitments and the relative attractiveness of alternative investment or lending opportunities. On March 31, 2006, we filed a shelf registration statement with the Securities and Exchange Commission on Form S-3 which was amended on April 11, 2006 and declared effective by the Securities and Exchange Commission on April 26, 2006. We completed four offerings since the shelf registration statement was declared effective.

We expect to meet our long term liquidity requirements, including the repayment of debt and our investment funding needs, through existing cash resources and additional borrowings, the issuance of debt and/or equity securities and the liquidation or refinancing of assets at maturity. We believe that the value of the net lease portfolio is, and will continue to be, sufficient to allow us to refinance the mortgage debt on this portfolio at maturity.

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Cash Flows

Year Ended December 31, 2006 Compared to December 31, 2005

The net cash flow provided by operating activities of $53.9 million, increased by $30.7 million for the year ended December 31, 2006 from $23.2 million, excluding the effects of the short term security portfolio liquidation of $826.4 million for the year ended December 31, 2005. This was primarily due to the operating cash flows generated from a greater asset base resulting from net origination/acquisition volumes generated by our three business lines.

The net cash flow used in investing activities of $1.9 billion increased by $971.9 million for the year ended December 31, 2006 from $881 million for the year ended September 30, 2005. Net cash used in investing activities in 2006 consisted primarily of the purchase of operating real estate, funds used to acquire real estate securities and originate or acquire real estate debt investments, as well as funding of new warehouse deposits for our CDOs.

The net cash flow provided by financing activities of $1.8 billion increased by $1.0 billion for the year ended December 31, 2006 from $805.0 million, excluding the effects of the short term portfolio liquidation of $793.3 million for the year ended December 31, 2005. The primary source of cash flow provided by financing activities was the perpetual preferred and common equity offerings, the issuance of CDO bonds, borrowings under credit facilities and issuing trust preferred securities.

Year Ended December 31, 2005 Compared to 2004 Pro Forma Period

To facilitate a comparison of cash flows for the year ending December 31, 2005 to the prior year, we have combined our predecessor’s cash flows for the period from January 1, 2004 to October 28, 2004 with our cash flows for the period from October 29, 2004 to December 31, 2004.

The net cash flow provided by operating activities of $23.2 million excluding the effects of the short term portfolio liquidation increased $22.7 million for the year ended December 31, 2005 from $0.5 million, excluding the effects of the short term portfolio acquisition, for the 2004 pro forma period. This increase was primarily due to operating cash flows generated from a larger asset base due to increased investing activities.

The net cash flow used in investing activities of $881.0 million increased by $753.8 million for the year ended December 31, 2005 from $127.2 million for the 2004 pro forma period. Net cash used in investing activities in 2005 consisted primarily of the purchase of operating real estate, funds used to purchase debt securities available for sale, real estate debt investments, as well as funding of new warehouse deposits for our CDOs.

The net cash flow provided by financing activities of $805.0 million, excluding the effects of the short term portfolios increased by $605.1 million for the year ended December 31, 2005 from $199.9 million, excluding the effects of the short term portfolio of cash flow provided by financing activities for the pro forma period ended December 31, 2004. The primary cash flow provided by financing activities in 2005 was attributable to the proceeds from our secondary offering, the issuance of CDO IV bonds, issuance of trust preferred securities and our mortgage and credit facility borrowings. This was offset by the repayment of the DBAG facility in connection with the closing of CDO IV, the repayment of a portion of the existing mortgage on the ALGM portfolio in connection with the sales of 729 Seventh Avenue and 1552 Broadway and payments of dividends and distributions to our unit holders of $14.2 million.

Capital Expenditures

During 2007, we do not expect to incur any material capital expenditures with respect to our net lease portfolio, since most of these expenses are the obligations of our tenants.

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Contractual Commitments

As of December 31, 2006, we had the following contractual commitments and commercial obligations (in thousands):

Contractual Obligations – Consolidated Basis	Payments Due by Period
	Total		1 Year		2-3 Years		4-5 Years		After 5 Years
Mortgage notes	$	375,792	$	1,983	$	7,014	$	62,368	$	304,427
Mezzanine loans		14,872		2,782		3,169		4,000		4,921
Repurchase agreements		80,261		80,261		—		—		—
Credit facility		16,000		—		16,000		—		—
CDO bonds payable		1,682,229		—		—		—		1,682,229
Liability to subsidiary trusts issuing preferred securities		213,558		—		—		—		213,558
Capital leases(1)		17,425		360		934		974		15,157
Operating leases		87,565		5,617		11,142		11,211		59,595
Outstanding unfunded commitments(2)		290,794		—		114,434		175,527		833
Total contractual obligations	$	2,778,496	$	91,003	$	152,693	$	254,080	$	2,280,720

——————

(1)

Includes interest on the capital leases.

(2)

Relates principally to future funding commitments relating to our loan portfolio and the funding obligation terminates at the earlier of the date specified in the respective loan agreement or loan maturity date.

At December 31, 2006, we were in compliance with all covenants under our borrowings.

Off Balance Sheet Arrangements

CDO Issuances

The terms of the portfolio of real estate securities held by the CDOs are structured to be matched with the terms of the non-recourse CDO liabilities. These CDO liabilities are repaid with the proceeds of the principal payments on the real estate securities collateralizing the CDO liabilities when these payments are actually received. There is no refinancing risk associated with the CDO liabilities, as principal is only due to the extent that it has been collected on the underlying real securities and the stated maturities are noted above. CDOs produce a relatively predictable income stream based on the spread between the interest earned on the underlying securities and the interest paid on the CDO liabilities. This spread may be reduced by credit losses on the underlying securities or by hedging mismatches. The CDOs have not incurred any losses on any of their securities investments from the date of purchase through December 31, 2006. We receive quarterly cash distributions from CDO I and monthly cash distributions from CDO II, CDO III and CDO V each representing our proportionate share of the residual cash flow from the CDOs, as well as collateral advisory fees and interest income on the unrated income notes of the CDOs.

The following tables describe certain terms of the collateral for and the notes issued by CDOs as follows for the year ended December 31, 2006:

	CDO Collateral						CDO Notes
Issuance	Date Closed	Par Value of CDO Collateral		Weighted Average Interest Rate		Weighted Average Expected Life (years)	Outstanding CDO Notes(1)		Weighted Average Interest Rate			Stated Maturity
CDO I(2)	8/21/03	$	344,769	6.59	%	5.40	$	325,551		6.22	%		8/1/2038
CDO II	7/1/04		377,911	6.30	%	6.30		341,101		5.78	%		6/1/2039
CDO III	3/10/05		400,963	6.38	%	5.95		359,878		5.90	%		6/1/2040
CDO V	9/22/05		501,021	5.92	%	9.03		461,500		5.17	%		9/5/2045
Total		$	1,624,664	6.27	%	6.86	$	1,488,030		5.71	%

——————

(1)

Includes only notes held by third parties.

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Monroe CLO Equity Notes

In December 2006, the Company acquired 40% of the residual equity interests in a CLO originated by Monroe Capital, LLC, a specialty finance company, for $16.7 million. The CLO includes collateral of approximately $400 million backed primarily by first lien senior secured loans. Based on the projected future cash flows the equity is yielding an internal rate of return of approximately 18%. The CLO was determined to be a variable interest entity under Fin46(R)-6 and the Company was determined not to be the primary beneficiary therefore the financial statements are not consolidated into the condensed financial statements of the Company. The Company’s residual equity interests are accounted for as debt securities available for sale.

Synthetic CMBS CDO

In August 2006, the Company acquired all of the notes issued in a synthetic CMBS CDO referred to as SEAWALL 2006-4a for $27 million of which $12.0 million was acquired by the Company’s warehouse provider. The notes of this CDO bear interest backed by a combination of AAA floating rate securities and a fixed spread earned by the CDO for having sold credit protection on a portfolio of investment grade-rated reference securities. The notes yield a blended spread above LIBOR of approximately 4.41%. Any losses on the reference securities will require the CDO to liquidate a portion of the AAA collateral in order to make payments to credit protection buyer under the credit default swaps. SEAWALL 2006-4a is determined to be a Qualified Special Purpose Entity (“QSPE”) and accordingly is not consolidated. The notes acquired are accounted for as debt securities available for sale and are carried at their fair value with net unrealized gain s or loss reported as a component of other comprehensive income.

The Company’s potential loss in its off balance sheet investments, described above, is limited to its carrying value of those investments, which is $126.6 million at December 31, 2006.

Warehouse Agreements

In March 2006, we entered into a warehouse arrangement with a major commercial bank whereby the bank has agreed to purchase up to $400 million of CMBS and other real estate debt securities under our direction, with the expectation of selling such securities to our fifth investment grade CDO issuance, or CDO IX. In October 2006, the agreement was amended to allow us to borrow up to $750.0 million. As of December 31, 2006, we have deposited $29.2 million as security for the purpose of covering a portion of any losses or costs associated with the accumulation of these securities under the warehouse agreement and will be required to deposit additional equity based on accumulations of securities that will be made under the warehouse agreement. The bank had accumulated $567.5 million of real estate securities under the terms of the warehouse agreement as of December 31, 2006. The CDO IX warehouse agreement also provides for our notional pa rticipation in the income that the assets generate after deducting a notional debt cost. On February 28, 2007, we closed CDO IX and terminated the CDO IX warehouse agreement concurrent with the CDO closing.

Recent Developments

Real Estate Debt

Subsequent to December 31, 2006, the Company originated $203.6 million of new real estate debt commitments, consisting of eight floating rate loans and one fixed rate loan. The weighted average interest rate of the floating rate loans is LIBOR plus a spread of 3.52%. The interest rate on the fixed rate loan is 11.30%.

Warehouse Agreement

In February 2007, the Company entered into a warehouse arrangement with a major commercial bank whereby the bank has agreed to purchase up to $600.0 million of CMBS synthetic assets and other real estate debt securities under the Company’s direction with the expectation of selling such securities to the Company’s next securities CDO. As of March 13, 2006, the Company has made $2.0 million of deposits and the bank has accumulated $17.8 million of securities.

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CDO Closing

In February 2007, the Company completed an $800 million on-balance sheet CDO financing (“CDO IX”) backed primarily by the Company’s real estate securities investments. The Company sold investment grade notes having a face amount of approximately $759.0 million and retained approximately $41.0 million of the income notes and the below investment grade-rated notes. The weighted average interest rate on the investment grade notes, including fees and expenses, was LIBOR plus 0.46% and their weighted average life is approximately 12 years.

Net Lease Closings

In February 2007, the Company purchased a 178,213 square foot office property located in Milpitas, CA. The property is net leased for ten years to Credence Corp. The Company financed the acquisition with a $23.3 million non-recourse first mortgage, bearing a fixed interest rate of 5.95%, and the balance in cash.

Wakefield

In January 2007, the Wakefield joint venture closed on the following three acquisitions:

A $101.0 million acquisition of a portfolio of 19 assisted living facilities in Wisconsin, on 15 campuses throughout the state, consisting of 372,349 square feet. The properties are net leased to a single tenant under a lease that expires January 2017. The portfolio was financed with fifteen non-recourse first mortgages totaling $75 million bearing a fixed interest rate of 6.39%, maturing in February 2017, and the balance in cash.

A $214.9 million acquisition of a portfolio of 28 assisted living properties located in California, Georgia, Illinois, Nebraska, Ohio, Oklahoma, Tennessee and Texas, consisting of 1,063,387 square feet. The properties are net leased to a single tenant under a lease that expires in January 2017. The portfolio was financed with a non-recourse first mortgage totaling $160 million bearing a fixed interest rate of 6.49%, maturing in January 2017 and the balance in cash.

A $10.5 million acquisition of two assisted living properties in Illinois, consisting of 72,786 square feet. The properties are net leased to a single tenant under a lease that expires in January 2017. The acquisition was financed with a $7.65 million non-recourse first mortgage bearing a fixed interest rate of 6.589%, maturing in January 2017 and the balance in cash.

Additionally, in February 2007 the Wakefield joint venture closed on a $11.0 million acquisition of a skilled nursing facility in Kentucky, consisting of 67,706 square feet. The property is net leased to a single tenant under a fifteen year lease with three five year extension options. The property was financed with a $7.65 million non-recourse first mortgage, bearing a fixed interest rate of 7.12% maturing in August 2010 and the balance in cash.

Joint Venture Interests

On March 13, 2007, NorthStar entered into a joint venture with Monroe Capital LLC, a Chicago-based firm that originates, acquires and finances middle-market and broadly syndicated corporate loans. Under the terms of the venture, the Company will provide equity required to fund Monroe’s lending business, and from time to time acquire a portion of the equity issued in securitizations sponsored by Monroe. As part of the new venture, the Company will also own a minority interest in the existing management company that originates, structures and syndicates middle-market corporate loans and provides asset management services for the warehouse assets and the current and future CLOs sponsored by Monroe.

Dividends

On January 23, 2007, the Company declared a dividend of $0.35 per share of common stock and $0.54688 per share of Series A preferred stock to stockholders of record as of February 5, 2007. The dividends were paid on February 15, 2007.

Preferred Stock Offering

On February 7, 2007, the Company issued and sold 6,200,000 of its 8.25% Series B Cumulative Redeemable Preferred Stock (liquidation preference $25.00 per share, par value $0.01 per share) at $25.00 per share (which included 800,000 shares pursuant to an over-allotment option granted to the underwriters), in an underwritten public offering pursuant to an effective registration statement. Net proceeds from the offering were approximately

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$150.0 million. The proceeds from the offering were used to repay borrowings under the Company’s credit facilities and to fund new investments.

Inflation

Our leases for tenants of operating real estate are either:

•

net leases where the tenants are responsible for all or a significant portion of the real estate taxes, insurance and operating expenses and the leases provide for increases in rent either based on changes in the Consumer Price Index, or CPI, or pre-negotiated increases; or

•

operating leases which provide for separate escalations of real estate taxes and operating expenses over a base amount, and/or increases in the base rent based on changes in the CPI.

We believe that most inflationary increases in expenses will be offset by the expense reimbursements and contractual rent increases described above to the extent of occupancy.

We believe that the risk associated with an increase in market interest rates on the floating rate debt used to finance our investments in our CDOs and our direct investments in real estate debt, is largely offset by our strategy of matching the terms of our assets with the terms of our liabilities and through our use of hedging instruments.

See “Quantitative and Qualitative Disclosures About Market Risk” in Item 7A of the Annual Report on Form 10-K for additional information on our exposure to market risk.

Non-GAAP Financial Measures

Funds from Operations and Adjusted Funds from Operations

Management believes that funds from operations, or FFO, and adjusted funds from operations, or AFFO, each of which are non-GAAP measures, are additional appropriate measures of the operating performance of a REIT. We compute FFO in accordance with the standards established by the National Association of Real Estate Investment Trusts, or NAREIT, as net income or loss (computed in accordance with GAAP), excluding gains or losses from sales of depreciable properties, the cumulative effect of changes in accounting principles, real estate-related depreciation and amortization, and after adjustments for unconsolidated/uncombined partnerships and joint ventures. AFFO is a computation often made by REIT industry analysts and investors to measure a real estate company’s cash flow generated from operations. We believe that AFFO is helpful to investors as a measure of our liquidity position because, along with cash generated from oper ating activities, this measure provides investors with an understanding or our ability to pay dividends. In addition, because this measure is commonly used in the REIT industry, our use of AFFO may assist investors in comparing our liquidity position with that of other REITs. We calculate AFFO by subtracting from (or adding) to FFO:

•

normalized recurring expenditures that are capitalized by us and then amortized, but which are necessary to maintain our properties and revenue stream, e.g., leasing commissions and tenant improvement allowances;

•

an adjustment to reverse the effects of straight-lining of rents and fair value lease revenue under SFAS 141; and

•

the amortization or accrual of various deferred costs including intangible assets and equity based compensation.

Our calculation of AFFO differs from the methodology used for calculating AFFO by certain other REITs and, accordingly, may not be comparable to such other REITs.

We believe that FFO and AFFO are additional appropriate measures of our operating performance because they facilitate an understanding of our operating performance after adjustment for certain non-cash expenses, such as real estate depreciation, which assumes that the value of real estate assets diminishes predictably over time. Since FFO is generally recognized as industry standards for measuring the operating performance of an equity REIT, we also believe that FFO provides investors with an additional useful measure to compare our financial performance to other REITs.

Neither FFO nor AFFO is equivalent to net income or cash generated from operating activities determined in accordance with GAAP. Furthermore, FFO and AFFO do not represent amounts available for management’s

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discretionary use because of needed capital replacement or expansion, debt service obligations or other commitments or uncertainties. Neither FFO nor AFFO should be considered as an alternative to net income as an indicator of our operating performance or as an alternative to cash flow from operating activities as a measure of our liquidity.

	The Company									The Predecessor
	Year Ended December 31, 2006			Year Ended December 31, 2005			October 29, 2004 to December 31, 2004			January 1, 2004 to October 28, 2004
	(In Thousands)
Funds from operations:
Income (loss) before minority interests	$	41,042		$	10,389		$	(3,073	)	$	1,194
Adjustments:
Preferred stock dividends		(860	)
Minority interest in joint ventures		(68	)
Depreciation and amortization		13,646			4,352			190			—
Funds from discontinued operations		482			1,458			145			—
Real estate depreciation and amortization – unconsolidated ventures		905			—			—			1,608
Funds from operations	$	55,147		$	16,199		$	(2,738	)	$	2,802
Adjusted funds from operations:
Funds from Operations	$	55,147		$	16,199		$	(2,738	)	$	2,802
Straightline rental income, net		(978	)		(252	)		(18	)		—
Straightline rental income – unconsolidated ventures		(229	)		—			—			(456	)
Straightline rental income, discontinued operations		43			(281	)		(133	)		—
Fair value lease revenue (SFAS 141 adjustment)		(479	)		18			—			—
Amortization of equity based compensation		9,080			5,847			2,991			—
Adjusted funds from operations(1)	$	62,584		$	21,531		$	102		$	2,346

——————

(1)

FFO and AFFO for the period from October 29, 2004 through December 31, 2004 have been reduced by one-time formation and organization costs of $517.

Return on Average Common Book Equity

We calculate return on average common book equity (“ROE”) on a consolidated basis and for each of our major business lines. We believe that ROE provides a good indication of the performance of the Company and our business lines because it provides the best approximation of cash returns on common equity invested. Management uses ROE, among other factors, to evaluate profitability and efficiency of equity capital employed, and as a guide in determining where to allocate capital within its business. ROEs may fluctuate from quarter to quarter based upon a variety of factors, including the timing and amount of investment fundings, repayments and asset sales, capital raised and leverage used, and the yield on investments funded.

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Return on Average Common Book Equity (Pre-G&A and Unrealized Mark-to-Market Gain)
($ in thousands)

	The Company									The Predecessor
	Year Ended December 31, 2006			Year Ended December 31, 2005			October 29, 2004 to December 31, 2004			January 1, 2004 to October 28, 2004
Adjusted funds from operations (AFFO)		62,584			21,531			102			2,346
Less: Unrealized Mark-to-Market Gain(1)		3,175			821			—			454
AFFO, Pre-Unrealized Mark-to-Market Gain		59,409			20,710			102			1,892
Plus: General & Administrative Expenses		36,143			19,068			5,852			5,437
Less: Equity-Based Compensation and Straight-Line Rent included in G&A		9,813			5,847			2,991			—
AFFO, Pre-Unrealized Mark-to-Market Gain and G&A		85,739			33,931			2,963			7,329
Average Common Book Equity & Operating Partnership Minority Interest(2)		378,628			198,651			29,293			30,990
Return on Average Common Book Equity
Pre-Unrealized Mark-to-Market Gain		15.69	%		10.43	%		0.35	%		6.11	%
Pre-Unrealized Mark-to-Market Gain and G&A		22.64	%		17.08	%		10.12	%		23.65	%

——————

(1)

Represents the change in value of off-balance sheet warehouse facilities caused by changes in interest rates.

(2)

Average Common Book Equity & Operating Partnership Minority Interest is weighted for additional equity raised during the period.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Although we seek to match-fund our assets and mitigate the risk associated with future interest rate volatility, we are primarily subject to interest rate risk prior to match-funding our investments in the CDO markets and because we do not hedge our retained equity interest in our floating rate CDO financings. To the extent a CDO financing has floating rate assets, our earnings will generally increase with increases in floating interest rates, and decrease with declines in floating interest rates. Interest rates are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control.

Our interest rate risk sensitive assets, liabilities and related derivative positions are generally held for non-trading purposes. As of December 31, 2006, a hypothetical 100 basis point increase in interest rates applied to our variable rate assets would increase our annual interest income by approximately $14.5 million offset by an increase in our interest expense of approximately $10.7 million on our variable rate liabilities. Similarly, a hypothetical 100 basis point decrease in interest rates would decrease our annual interest income by the same net amount.

Real Estate Debt

We invest in real estate debt which are generally instruments secured by commercial and multifamily properties, including first lien mortgage loans, junior participations in first lien mortgage loans, which we also refer to as senior mortgage loans, second lien mortgage loans, mezzanine loans, and preferred equity interests in borrowers who own such properties. We generally hold these instruments for investment rather than trading purposes. These investments are either floating or fixed rate. The interest rates on our floating rate investments typically float at a fixed spread over an index such as LIBOR. These instruments typically reprice every 30 days based upon LIBOR in effect at that time. Given the frequent and periodic repricing of our floating rate investments, changes in interest rates are unlikely to materially affect the value of our floating rate portfolio. Changes in short-term rates will, however, affect earnings from our investm ents. Increases in LIBOR will increase the interest income received by us on our investments and therefore increase our earnings. Decreases in LIBOR have the opposite effect.

62

We also invest in fixed rate investments. The value of these investments may be affected by changes in long-term interest rates. To the extent that long-term interest rates increase, the value of long-term fixed rate assets is diminished. Any fixed rate real estate debt investments which we hold would be similarly impacted. We do not generally seek to hedge this type of risk unless the asset is leveraged as the costs of such a hedging transaction over the term of such an investment would generally outweigh the benefits. If fixed rate real estate debt is funded with floating rate liabilities, we typically convert the floating rate to fixed through the use of interest rate swaps, caps or other hedges. Because the interest rates on our fixed rate investments are generally fixed through maturity of the investment, changes in interest rates do not affect the income we earn from our fixed rate i nvestments.

In our real estate debt business we are also exposed to credit risk, which is the risk that the borrower under our loan agreements cannot repay its obligations to us in a timely manner. While we have not experienced a payment default as of the date of this Annual Report on Form 10-K, our position in the capital structure may expose us to losses as a result of such default in the future. In the event that the borrower cannot repay our loan, we may exercise our remedies under the loan documents, which may include a foreclosure against the collateral if we have a foreclosure right as a real estate debtholder under the loan agreement. The real estate debt that we intend to invest in will often allow us to demand foreclosure as a real estate debtholder if our loan is in default. To the extent the value of our collateral exceeds the amount of our loan (including all debt senior to us) and the expenses we incur in collecting on our loan, we would col lect 100% of our loan amount. To the extent that the amount of our loan plus all debt senior to our position exceeds the realizable value of our collateral, then we would incur a loss. We also incur credit risk in our periodically scheduled interest payments which may be interrupted as a result of the operating performance of the underlying collateral.

We seek to manage credit risk through a thorough financial analysis of a transaction before we make such an investment. Our analysis is based upon a broad range of real estate, financial, economic and borrower-related factors which we believe are critical to evaluating the credit risk inherent in a transaction.

We expect our investments to be denominated in U.S. dollars or, if they are denominated in another currency, to be converted back to U.S. dollars through the use of currency swaps. It may not be possible to eliminate all of the currency risk as the payment characteristics of the currency swap may not exactly match the payment characteristics of the investments.

Real Estate Securities

In our real estate securities business, we mitigate credit risk through credit analysis, subordination and diversification. The CMBS we invest in are generally junior in right of payment of interest and principal to one or more senior classes, but benefit from the support of one or more subordinate classes of securities or other form of credit support within a securitization transaction. The senior unsecured REIT debt securities we invest in reflect comparable credit risk. Credit risk refers to each individual borrower’s ability to make required interest and principal payments on the scheduled due dates. We believe that these securities offer attractive risk-adjusted returns with reasonable long-term principal protection under a variety of default and loss scenarios. While the expected yield on these securities is sensitive to the performance of the underlying assets, the more subordinated securities and certain other features of a securi tization, in the case of mortgage backed securities, and the issuer’s underlying equity and subordinated debt, in the case of REIT securities, are designed to bear the first risk of default and loss. The real estate securities portfolios of our investment grade CDOs are diversified by asset type, industry, location and issuer. We further minimize credit risk by monitoring the real estate securities portfolios of our investment grade CDOs and the underlying credit quality of their holdings.

The real estate securities underlying our investment grade CDOs are also subject to spread risk. The majority of these securities are fixed rate securities, which are valued based on a market credit spread over the rate payable on fixed rate U.S. Treasuries of like maturity. In other words, their value is dependent on the yield demanded on such securities by the market, as based on their credit relative to U.S. Treasuries. An excessive supply of these securities combined with reduced demand will generally cause the market to require a higher yield on these securities, resulting in the use of a higher or “wider” spread over the benchmark rate (usually the applicable U.S. Treasury security yield) to value these securities. Under these conditions, the value of our real estate securities portfolio would tend to decrease. Conversely, if the spread used to value these securities were to decrease or “tighten,” the value of our rea l estate securities would tend to increase. Such changes in the market value of our real estate securities portfolio may affect our net equity or cash flow either directly through their impact on unrealized gains or

63

losses on available-for-sale securities by diminishing our ability to realize gains on such securities, or indirectly through their impact on our ability to borrow and access capital.

Returns on our real estate securities are sensitive to interest rate volatility. If interest rates increase, the funding cost on liabilities that finance the securities portfolio will increase if these liabilities are at a floating rate or have maturities shorter than the assets.

Our general financing strategy focuses on the use of “match-funded” structures. This means that we seek to align the maturities of our debt obligations with the maturities of our investments in order to minimize the risk of being forced to refinance our liabilities prior to the maturities of our assets, as well as to reduce the impact of fluctuating interest rates on earnings. In addition, we generally match interest rates on our assets with like-kind debt, so that fixed rate assets are financed with fixed rate debt and floating rate assets are financed with floating rate debt, directly or through the use of interest rate swaps, caps or other financial instruments or through a combination of these strategies. Our investment grade CDOs utilize interest rate swaps to minimize the mismatch between their fixed rate assets and floating rate liabilities. We expect to hedge the interest rate risk in future investment grade CDOs in a similar manner.

Our financing strategy is dependent on our ability to place the match-funded debt we use to finance our real estate securities at spreads that provide a positive arbitrage. If spreads on the bonds issued by CDOs widen or if demand for these liabilities ceases to exist, then our ability to execute future CDO financings will be severely restricted.

Interest rate changes may also impact our net book value as our investments in debt securities are marked-to-market each quarter with changes in fair value reflected in other comprehensive income (a separate component of owners’ equity). Generally, as interest rates increase, the value of fixed rate securities within the CDO, such as CMBS, decreases and as interest rates decrease, the value of these securities will increase. These swings in value have a corresponding impact on the value of our investment in the CDO. Within the CDO, we seek to hedge against changes in cash flows attributable to changes in interest rates by entering into interest rate swaps/caps and other derivative instruments as allowed by our predecessor’s risk management policy. Such derivatives are designated as cash flow hedge relationships according to SFAS No. 133.

Net Lease Properties

Our ability to manage the interest rate risk and credit risk associated with the assets we acquire is integral to the success of our net lease properties investment strategy. Although we may, in special situations, finance our purchase of net lease assets with floating rate debt, our general policy will be to mitigate our exposure to rising interest rates by financing our purchases with fixed rate mortgages. We seek to match the term of fixed rate mortgages to our expected holding period for the underlying asset. Factors we consider to assess the expected holding period include, among others, the primary term of the lease as well as any extension options that may exist.

In order to ensure that we have as complete an understanding as possible of a tenant’s ability to satisfy its obligations under its lease, we undertake a rigorous credit evaluation of each tenant prior to executing sale/leaseback or net lease asset acquisitions. This analysis includes an extensive due diligence investigation of the tenant’s business as well as an assessment of the strategic importance of the underlying real estate to the tenant’s core business operations. Where appropriate, we may seek to augment the tenant’s commitment to the facility by structuring various credit enhancement mechanisms into the underlying leases. These mechanisms could include security deposit requirements or affiliate guarantees from entities we deem to be creditworthy.

64

Derivatives and Hedging Activities

To limit the exposure to the variable LIBOR rate on our corporate debt, we entered into various swap agreements to fix the LIBOR rate on a portion of our variable rate debt. The following table summarizes the notional amounts and fair (carrying) values of our derivative financial instruments as of December 31, 2006 (in thousands):

	Notional Value		Strike Rate		Expiration Date	Fair Value
Interest rate swap	$	5,100	4.18	%	12/2010	$	151
Interest rate swap		6,160	4.29		8/2012		224
Interest rate swap		3,290	4.80		12/2013		49
Interest rate swap		2,842	5.04		8/2018		26
Interest rate swap		5,492	4.76		3/2013		81
Interest rate swap		3,465	4.41		3/2010		61
Interest rate swap		4,000	4.66		11/2015		104
Interest rate swap		15,000	5.08		5/2016		(61	)
Interest rate swap		3,765	4.98		7/2015		7
Interest rate swap		3,567	4.98		6/2015		6
Interest rate swap		5,957	5.06		8/2015		10
Interest rate swap		23,300	4.99		12/2012		(22	)
Interest rate swap		2,686	5.02		2/2016		(2	)
Interest rate swap		20,000	5.05		6/2013		(2	)
Interest rate swap		12,750	5.06		8/2017		61
Interest rate swap		7,700	5.30		5/2010		(82	)
Interest rate swap		14,000	5.03		10/2015		(22	)
Interest rate swap		323,505	5.53		6/2018		(9,808	)
Basis swap		5,000	7.07		12/2015		(6	)
Basis swap		15,000	7.31		6/2018		(11	)
Interest rate swap		60,000	5.52		6/2016		(2,251	)
Interest rate swap		16,200	5.52		6/2018		(645	)
Interest rate swap		49,404	5.63		7/2016		(2,021	)
Interest rate swap		13,200	5.06		2/2008		13
Interest rate swap		49,150	4.88		3/2008		163
Interest rate swap		30,000	5.46		9/2016		(943	)
Interest rate swap		25,000	5.12		9/2016		(135	)
Total	$	725,533				$	(15,055	)

Item 8. Financial Statements and Supplementary Data

The consolidated and combined financial statements of NorthStar Realty Finance Corp. and NorthStar Finance Corp. Predecessor, respectively, and the notes related to the foregoing financial statements, each together with the independent registered public accounting firm’s reports thereon.

65

INDEX TO FINANCIAL STATEMENTS

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES
AND NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

	Page
Reports of Independent Registered Public Accounting Firms	67
Consolidated Balance Sheets as of December 31, 2006 and 2005	69
Consolidated and Combined Statements of Operations for the year ended December 31, 2006 and 2005, and for the period from October 29, 2004 to December 31, 2004, for the period from January 1, 2004 to October 28, 2004	70
Consolidated Statement of Stockholders’ Equity for the year ended December 31, 2006 and 2005 and the period from October 29, 2004 to December 31, 2004	71
Combined Statement of Owners’ Equity for the period from January 1, 2004 to October 28, 2004	72
Consolidated Statements of Comprehensive Income	73
Consolidated and Combined Statements of Cash Flows for the year ended December 31, 2006 and 2005, and for the period from October 29, 2004 to December 31, 2004, for the period from January 1, 2004 to October 28, 2004	74
Notes to Consolidated and Combined Financial Statements	77
Schedule III – Real Estate and Accumulated Depreciation as of December 31, 2006	114
Schedule IV – Loans and other Lending Investments as of December 31, 2006	116

66

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders
NorthStar Realty Finance Corp.

We have audited the accompanying consolidated balance sheet of NorthStar Realty Finance Corp. and subsidiaries (the “Company”) as of December 31, 2006 and 2005, and the related consolidated statement of operations, stockholders’ equity and cash flows for the years ended December 31, 2006, 2005 and for the period from October 29, 2004 through December 31, 2004. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of NorthStar Realty Finance Corp. and subsidiaries as of December 31, 2006 and 2005, and the results of their operations and their cash flows for the years ended December 31, 2006, 2005 and for the period from October 29, 2004 through December 31, 2004, in conformity with accounting principles generally accepted in the United States of America.

Our audits were conducted for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedules, (schedule III and IV) included in the Index at Item 15 of the financial statements, are presented for purposes of additional analysis and are not a required part of the basic financial statements. These schedules have been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, are fairly stated in all material respects in relation to the basic financial statements taken as a whole.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 13, 2007 expressed an unqualified opinion thereon.

/s/ GRANT THORNTON LLP

New York, New York
March 13, 2007

67

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders
NorthStar Realty Finance Corp.

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control over Financial Reporting as of December 31, 2006, that NorthStar Realty Finance Corp. and subsidiaries (the “Company”) maintained effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO criteria”). The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, management’s assessment that the Company maintained effective internal control over financial reporting as of December 31, 2006 is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006, based on the COSO criteria.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of the Company as of December 31, 2006 and 2005 and the related consolidated statements of operations, stockholders’ equity and cash flows for the year ended December 31, 2006 and 2005 and our report dated March 13, 2007 expressed an unqualified opinion thereon.

/s/ GRANT THORNTON LLP

New York, New York
March 13, 2007

68

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(Amounts in Thousands, Except per Share Data)

	December 31, 2006			December 31, 2005
ASSETS
Cash and cash equivalents	$	44,753		$	27,898
Restricted cash		134,237			27,501
Operating real estate – net		468,608			198,708
Available for sale securities, at fair value		788,467			149,872
CDO deposit and warehouse agreements		32,649			9,458
Real estate debt investments		1,571,510			681,106
Investments in and advances to unconsolidated ventures		11,845			5,458
Receivables, net of allowance of $9 and $4 in 2006 and 2005		17,477			5,218
Unbilled rents receivable		2,828			1,117
Derivative instruments, at fair value		958			726
Receivables – related parties		378			528
Deferred costs and intangible assets, net		90,200			38,745
Assets of properties held for sale		—			2,918
Other assets		21,710			7,312
Total assets	$	3,185,620		$	1,156,565
LIABILITIES AND STOCKHOLDERS’ EQUITY
Liabilities:
Mortgage notes and loans payable	$	390,665		$	174,296
Liability to subsidiary trusts issuing preferred securities		213,558			108,258
CDO bonds payable		1,682,229			300,000
Credit facilities		16,000			243,002
Repurchase obligations		80,261			7,054
Obligations under capital leases		3,454			3,375
Accounts payable and accrued expenses		20,025			9,091
Payables – related parties		108			26
Escrow deposits payable		58,478			11,571
Derivative liability, at fair value		16,012			32
Other liabilities		22,200			7,157
Total liabilities		2,502,990			863,862
Minority interest in operating partnership		7,655			44,278
Minority interest in joint ventures		15,204			—
Commitments and contingencies		—			—
Stockholders’ Equity:
8.75% series A preferred stock, $0.01 par value, $25 liquidation preference per share, 2,400,000 and 0 shares issued and outstanding at December 31, 2006 and 2005, respectively		57,867			—
Common stock, $0.01 par value, 500,000,000 shares authorized, 61,237,781 and 30,464,930 shares issued and outstanding at December 31, 2006 and 2005, respectively		612			305
Additional paid-in capital		590,035			224,893
Retained earnings		16,570			23,965
Accumulated other comprehensive loss		(5,313	)		(738	)
Total stockholders’ equity		659,771			248,425
Total liabilities and stockholders’ equity	$	3,185,620		$	1,156,565

See accompanying notes to consolidated financial statements.

69

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

CONSOLIDATED AND COMBINED STATEMENTS OF OPERATIONS
(Amount in Thousands, Except per Share Data)

	The Company (Consolidated)									The Predecessor (Combined)
	Year Ended December 31, 2006			Year Ended December 31, 2005			Period from October 29, 2004 to December 31, 2004			Period from January 1, 2004 to October 28, 2004
Revenues and other income:
Interest income	$	134,847		$	40,043		$	3,990		$	31
Interest income-related parties		11,671			8,374			727			1,828
Rental and escalation income		37,641			11,403			510			—
Advisory and management fee income – related parties		5,906			4,813			665			2,437
Other revenue		5,874			464			38			185
Total revenues		195,939			65,097			5,930			4,481
Expenses:
Interest expense		104,265			32,568			3,352			285
Real estate properties – operating expenses		8,054			1,973			185			—
General and administrative:
Direct:
Salaries and equity based compensation(1)		22,547			11,337			3,788			953
Shared services – related party		—			1,145			231			—
Insurance		1,309			916			148			—
Auditing and professional fees		4,765			3,634			790			—
Other general and administrative		7,522			2,036			895			181
Allocated:
Salaries and other compensation		—			—			—			3,060
Insurance		—			—			—			318
Other general and administrative		—			—			—			925
Total general and administrative		36,143			19,068			5,852			5,437
Depreciation and amortization		13,646			4,352			190			—
Total expenses		162,108			57,961			9,579			5,722
Income (loss) from operations		33,831			7,136			(3,649	)		(1,241	)
Equity in earnings of unconsolidated/uncombined ventures		432			226			83			1,520
Unrealized gain on investments and other		4,934			867			200			279
Realized gain on investments and other		1,845			2,160			293			636
Income (loss) from continuing operations before minority interest		41,042			10,389			(3,073	)		1,194
Minority interest in operating partnership		(3,951	)		(2,116	)		632			—
Minority interest in joint venture		(68	)		—			—			—
Income (loss) from continuing operations		37,023			8,273			(2,441	)		1,194
Income from discontinued operations, net of minority interest		318			547			2			—
Gain on sale of discontinued operations, net of minority interest		445			28,852			—			—
Gain on sale of joint venture interest, net of minority interest		279			—			—			—
Net income (loss)		38,065			37,672			(2,439	)		1,194
Preferred stock dividends		(860	)		—			—			—
Net income (loss) available to common shareholders	$	37,205		$	37,672		$	(2,439	)	$	1,194
Net income (loss) per share from continuing operations
Basic/Diluted	$	0.91		$	0.38		$	(0.12	)		—
Income per share from discontinued operations
Basic/Diluted	$	0.01		$	0.03			—			—
Gain on sale of discontinued operations and joint venture interest
Basic/Diluted	$	0.02		$	1.33			—			—
Net income (loss) available to common shareholders
Basic/Diluted	$	0.94		$	1.74		$	(0.12	)	$	—
Weighted average number of shares of common stock:
Basic		39,635,919			21,660,993			20,868,865
Diluted		44,964,455			27,185,013			25,651,027

——————

(1)

For the year ended December 31, 2006, 2005 and the period from October 29, 2004 to December 31, 2004, includes $9,080, $5,847 and $2,991 equity based compensation.

See accompanying notes to consolidated financial statements.

70

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(Amounts in Thousands, Except per Share Data)

	Series A Preferred Stock at Par		Shares of Common Stock	Common Stock at Par		Additional Paid-in Capital			Accumulated Other Comprehensive Income (Loss)			Retained Earnings			Total Stockholders’ Equity
Balance at October 29, 2004		—	—		—		—			—			—			—
Net proceeds from IPO of common stock		—	20,050,100	$	200	$	159,904		$	—		$	—		$	160,104
Issuance of shares of common stock, net of expense (underwriter’s over-allotment)		—	1,160,750		12		9,703			—			—			9,715
Adjustment to rebalance minority interests in operating partnership		—	—		—		(23,930	)		—			—			(23,930	)
Comprehensive loss – unrealized loss on debt securities available for sale		—	—		—		—			(161	)		—			(161	)
Issuance of restricted shares of common stock		—	38,886		—		—			—			—			—
Amortization of equity based compensation		—	—		—		20			—			—			20
Net loss		—	—		—		—			—			(2,439	)		(2,439	)
Balance at December 31, 2004		—	21,249,736		212		145,697			(161	)		(2,439	)		143,309
Issuance of shares of common stock		—	15,194		1		—			—			—			1
Net proceeds from secondary offering of common stock		—	9,200,000		92		78,920			—			—			79,012
Comprehensive loss – unrealized loss on debt securities available for sale		—	—		—		—			(577	)		—			(577	)
Amortization of equity based compensation		—	—		—		276			—			—			276
Cash dividends on common stock		—	—		—		—			—			(11,268	)		(11,268	)
Net income		—	—		—		—			—			37,672			37,672
Balance at December 31, 2005		—	30,464,930		305		224,893			(738	)		23,965			248,425
Issuance of restricted shares of common stock			4,808		—		—									—
Issuance of common stock			44,441		—		525			—			—			525
Net proceeds from secondary offering of common stock		—	26,320,001		263		323,294			—			—			323,557
Issuance of shares of preferred stock, net of expenses		24	—		—		57,843			—			—			57,867
Comprehensive loss – unrealized loss on debt securities available for sale		—	—		—		—			(4,575	)		—			(4,575	)
Amortization of equity based compensation		—	—		—		132									132
Conversion of OP/LTIP units		—	4,403,601		44		41,191			—			—			41,235
Cash dividends on common stock		—	—		—		—			—			(44,600	)		(44,600	)
Cash dividends on preferred stock		—	—		—		—			—			(860	)		(860	)
Net income													38,065			38,065
Balance at December 31, 2006	$	24	61,237,781	$	612	$	647,878		$	(5,313	)	$	16,570		$	659,771

See accompanying notes to consolidated financial statements.

71

NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

COMBINED STATEMENTS OF OWNERS’ EQUITY
(Amounts in Thousands, Except per Share Data)

Balance at December 31, 2003		32,493
Contributions		9,392
Distributions		(6,853	)
Other comprehensive income – unrealized gain on debt securities available for sale		2,004
Allocated general and administrative expenses, net of fee income		3,651
Net income		1,194
Balance at October 28, 2004 (contribution to Operating Partnership)	$	41,881

See accompanying notes to consolidated financial statements.

72

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Amounts in Thousands, Except per Share Data)

	Year Ended December 31, 2006			Year Ended December 31, 2005			Period of 10/29/04 to 12/31/04
Net income	$	38,065		$	37,672		$	(2,439	)
Unrealized gain (loss) on available for sale securities		10,553			343			(161	)
Change in fair value of derivatives		(15,159	)		(933	)		—
Reclassification adjustment for gains/(losses) included in net income		31			13			—
Comprehensive Income	$	33,490		$	37,095		$	(2,600	)

See accompanying notes to consolidated financial statements.

73

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

CONSOLIDATED AND COMBINED STATEMENTS OF CASH FLOWS
(Amounts in Thousands, Except per Share Data)

	The Company (Consolidated)									The Predecessor (Combined)
	Year Ended December 31, 2006			Year Ended December 31, 2005			Period from October 29, 2004 to December 31, 2004			Period from January 1, 2004 to October 28, 2004
Cash flows from operating activities:
Net income (loss)	$	38,065		$	37,672		$	(2,439	)	$	1,194
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Gains on sale of operating real estate and interest in unconsolidated ventures		(846	)		(35,930	)		—			—
Equity in (earnings) of unconsolidated ventures		(152	)		(199	)		(83	)		(1,520	)
Depreciation and amortization		13,646			5,038			411			—
Amortization of acquisition fees/costs and deferred financing costs		2,136			2,009			147			—
Minority interest		4,186			9,328			(632	)		—
Equity based compensation		9,080			5,846			3,011			—
Unrealized gain on investments and other		(4,934	)		(867	)		(200	)		(279	)
Realized gain on sale of investments and other		(1,845	)		(2,160	)		(293	)		(636	)
Amortization of bond discount/premiums on securities		(2,215	)		(1,715	)		405			(55	)
Allocated general and administrative expenses		—			—			—			4,302
Distributions from equity investments		152			199			—			—
Capital lease		79			72			11			—
Amortization – above/below market leases		(1,711	)		28			—			—
Allocated advisory fee		—			—			—			(651	)
Unbilled rents receivable		(1,711	)		(406	)		(91	)		—
Interest accretion		(3,284	)		—			(49	)		—
Changes in assets and liabilities:
Restricted cash		(142	)					234			—
Receivables		(12,259	)		(3,908	)		(1,575	)		(187	)
Debt securities held for trading		—			826,382			(826,814	)		—
Deferred costs and intangible assets		(640	)		—			(864	)		—
Other assets		(11,020	)		958			(3,753	)		—
Receivables – related parties		126			(224	)		141			—
Accounts payable and accrued expenses		10,312			3,432			3,994			92
Payables – related parties		82			(175	)		—			—
Restricted cash – escrows		(43,439	)		(11,429	)		—			—
Escrow deposit payable		46,907			11,571			—			—
Fees from origination of real estate debt investment		11,147			892			272
Other liabilities		2,268			3,211			(616	)		180
Net cash provided by (used in) operating activities		53,988			849,625			(828,783	)		2,440

See accompanying notes to consolidated financial statements.

74

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

CONSOLIDATED AND COMBINED STATEMENTS OF CASH FLOWS – (Continued)
(Amounts in Thousands, Except per Share Data)

	The Company (Consolidated)									The Predecessor (Combined)
	Year Ended December 31, 2006			Year Ended December 31, 2005			Period from October 29, 2004 to December 31, 2004			Period from January 1, 2004 to October 28, 2004
Cash flows from investing activities:
Acquisition of operating real estate		(260,653	)		(219,664	)		(1,507	)		—
Net proceeds from disposition of operating real estate		10,751			74,141			—			—
Real estate debt investment acquisition costs		(1,095	)		(815	)		—			—
Real estate debt investments repayments		435,207			84,915			—			—
Intangible asset related to acquisition		(2,833	)		—			—			—
Purchase of initial investments		—			—			(37,078	)		—
Acquisition of debt securities available for sale		(681,487	)		(137,309	)		—			(26,863	)
Proceeds from disposition of securities available for sale		29,434			30,463			—			—
Debt security available for sale repayments		37,789			1			—			—
Increase in CDO warehouse deposits		(29,191	)		(10,000	)		(2,500	)		(3,034	)
Acquisitions/originations of real estate debt investments		(1,322,936	)		(694,297	)		(70,841	)		—
Net proceeds from CDO warehouse		—			—			—			9,500
Cash receipts from CDO issuer		1,048			879			—			884
Restricted cash		(63,530	)		(12,538	)		—			—
Cash recorded on initial consolidation of ALGM		—			—			3,012			—
Deferred lease costs		(42	)		(29	)		—			—
Investment in and advance to unconsolidated ventures		(8,650	)		(6	)		—			(1,048	)
Distributions from unconsolidated ventures		322			3,169			882			1,364
Sale of investment in unconsolidated ventures		2,905			—			—			—
Net cash (used in) investing activities		(1,852,961	)		(881,090	)		(108,032	)		(19,197	)
Cash flows from financing activities:
Proceeds from securities sold, not yet purchased	$	—		$	24,131		$	11,377		$	12,336
Proceeds from Collateral held by broker		—			24,831			(11,725	)		(13,106	)
Due from affiliates		—			—			2,134			(1,094	)
Capital contributions by owners of the Predecessor		—			—			—			9,392
Settlement of short sales		—			(48,306	)		—			—
Mortgage notes and loan borrowings		189,919			174,600			—			—
Proceeds from issuance of CDO bonds		1,416,129			300,000			—			—
Settlement of derivative		632			(301	)		—			—
Collateral held by swap counter-party		375			(1,017	)		—			—
Mortgage principal repayments		(5,913	)		(40,861	)		(228	)		—
Borrowing under credit facilities		1,018,616			529,893			27,821			—
Repayments credit facilities		(1,245,618	)		(314,712	)		—			—
Repurchase obligation borrowings		104,334			7,054			1,253,557			17,694
Repurchase obligation repayments		(31,127	)		(800,418	)		(470,833	)		—
CDO bonds repayment		(33,900	)		—			—			—
Proceeds from preferred stock offering		60,000			—			—			—
Proceeds from offerings		343,334			85,100			190,447			—
Borrowings from subsidiary trusts issuing preferred securities		105,000			105,000			—			—
Payment of deferred financing costs		(31,496	)		(13,079	)		—			—
Dividends (common and preferred) and distributions		(52,547	)		(14,197	)		—			—
Offering costs		(21,910	)		(6,088	)		(20,627	)		—
Distributions to owners of the Predecessor		—			—			—			(6,853	)
Net cash provided by financing activities		1,815,828			11,630			981,923			18,369
Net (decrease) increase in cash & cash equivalents		16,855			(19,835	)		45,108			1,612
Cash and cash equivalents – beginning of period		27,898			47,733			2,625			1,013
Cash and cash equivalents – end of period	$	44,753		$	27,898		$	47,733		$	2,625

See accompanying notes to consolidated financial statements.

75

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

CONSOLIDATED AND COMBINED STATEMENTS OF CASH FLOWS – (Continued)
(Amounts in Thousands, Except per Share Data)

	The Company (Consolidated)									The Predecessor (Combined)
	Year Ended December 31, 2006			Year Ended December 31, 2005			Period from October 29, 2004 to December 31, 2004			Period from January 1, 2004 to October 28, 2004
Supplemental disclosure of cash flow information:
Cash paid for interest	$	96,058		$	31,180		$	2,913		$	130
Supplementary disclosure of non-cash investing and financing activities:
Consolidation of the accounts of ALGM I Owners LLC (“ALGM”) as a result of purchasing controlling interest:
Investment in uncombined entities prior to consolidation:	$	—		$	—		$	(10,578	)	$	—
Operating real estate, net		—			—			43,855			—
Restricted cash		—			—			2,947			—
Receivables		—			—			217			—
Unbilled rents receivable		—			—			5,476			—
Deferred costs, net		—			—			2,195			—
Other assets		—			—			326			—
Mortgage loan		—			—			(40,785	)		—
Obligations under capital leases		—			—			(3,292	)		—
Accounts payable and accrued expenses		—			—			(1,081	)		—
Other liabilities		—			—			(692	)		—
Net cash received in purchase transaction(1)		—			—			(1,412	)		—
Non-cash contribution of operating real estate assets in Wakefield joint venture
Operating real estate assets, net	$	43,150
Real estate debt investments acquisitions		4,294
Mortgage borrowings		(32,363	)
Minority interest		(15,081	)
Reclassification of Predecessor’s equity to minority interest in connection with contribution of Initial Investments		—			—		$	41,881			—
Reclassification of CDO deposits to debt securities available for sale	$	—		$	2,988			—			—
Write off of deferred costs and unbilled rents receivable in connection with the disposition of operating real estate	$	609		$	4,955			—			—
Write off of intangible assets related to the sale of joint venture interest	$	339			—			—			—
Reclassifications to assets held for sale:
Operating real estate	$	—		$	1,493		$	—		$	—
Restricted cash		—			196			—			—
Receivables		—			439			—			—
Unbilled rents receivable		—			356			—			—
Deferred cost and intangibles, net		—			190			—			—
Other assets		—			244			—			—
Accounts payable and accrued expenses		—			(79	)		—			—
Other liabilities		—			(281	)		—			—
Purchase price allocation from operating real estate:
Deferred cost and intangibles, net	$	26,038		$	25,187			—			—
Other assets	$	1,632		$	1,288			—			—
Other liabilities	$	(11,197	)	$	(509	)		—			—

——————

(1)

Represents ALGM cash of $3,012 less the purchase price of remaining equity in ALGM of $1,600.

See accompanying notes to consolidated financial statements.

76

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

1. Formation and Organization

NorthStar Realty Finance Corp., a Maryland corporation (the “Company”), is a self-administered and self-managed real estate investment trust (“REIT”), which was formed in October 2003 in order to continue and expand the subordinate real estate debt, real estate securities and net lease businesses conducted by NorthStar Capital Investment Corp. (“NCIC”). Substantially all of the Company’s assets are held by, and it conducts its operations through, NorthStar Realty Finance Limited Partnership, a Delaware limited partnership and the operating partnership of the Company (the “Operating Partnership”). On October 29, 2004, the Company closed its initial public offering (the “IPO”) pursuant to which it issued 20,000,000 shares of common stock, with proceeds to the Company of approximately $160.1 million, net of issuance costs of $19.9 million. On November 19, 2004, the Company issued an additional 1,160,750 shares of common stock pursuant to the exercise of the overallotment option by the underwriters of the IPO, with proceeds to the Company of $9.7 million, net of issuance costs of $0.7 million. In connection with the IPO, the Company also issued 50,000 shares of common stock, as partial compensation for underwriting services, to the lead underwriter of the IPO. In addition, 38,886 shares of restricted common stock were granted to the Company’s non-employee directors. Simultaneously with the closing of the IPO on October 29, 2004, three majority-owned subsidiaries of NCIC (the “NCIC Contributing Subsidiaries”) contributed certain controlling and non-controlling interests in entities through which NCIC conducted its subordinate real estate debt, real estate securities and net lease businesses (collectively the “Initial Investments”) to the Operating Partnership in exchange for an aggregate of 4,705,915 units of limited partnership interest in the Operating Par tnership (the “OP Units”) and approximately $36.1 million in cash (the “Contribution Transactions”) and an agreement to pay certain related transfer taxes on behalf of NCIC in the amount of approximately $1.0 million. From their inception through October 29, 2004, neither the Company nor the Operating Partnership had any operations.

The combination of the Initial Investments contributed to the Operating Partnership represents the predecessor of the Company (the “Predecessor”). The Company succeeded to the business of the Predecessor upon the consummation of the IPO and the contribution of the initial investments on October 29, 2004. The ultimate owners of the entities which comprise the Predecessor were NCIC and certain other persons who held minority ownership interests in such entities.

Timarron Acquisition

In October 2005, the Company entered into a definitive purchase agreement with Allied Capital (“Allied”) to acquire Timarron Capital Corporation (“Timarron”). Timarron, based in Dallas, Texas, was organized by former senior executives of Principal Financial and other lenders to develop a nationwide commercial mortgage loan origination platform. The Company closed on the transaction on January 19, 2006 for $2.8 million, including closing costs. Timarron was renamed NRF Capital LP (“NRF Capital”) upon the close of the transaction. NRF Capital is a wholly owned subsidiary of the Company and is consolidated in the condensed consolidated financial statement of the Company. The purchase price was allocated to an intangible asset, since Allied had no equity at January 19, 2006 and there were no tangible assets owned by Timarron.

In connection with the acquisition, the Company entered into a management incentive bonus plan with the senior management of NRF Capital. The bonus plan, as defined in the agreement, is based upon the performance of loans originated by NRF Capital and is payable quarterly in cash over the term of the originated loans. As of December 31, 2006, the Company has accrued $3.0 million related to the bonus plan. These costs are considered a direct cost of originating the loans and, accordingly, are deferred and recognized as a reduction of the related loan’s yield.

77

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

2. Summary of Significant Accounting Policies

Basis of Accounting

The accompanying consolidated and combined financial statements of the Company and the Predecessor, respectively, are prepared on the accrual basis of accounting in accordance with accounting principles generally accepted in the United States.

Principles of Consolidation and Combination

The Company

The consolidated financial statements include the accounts of the Company, and its subsidiaries, which are either majority owned or controlled by the Company or a variable interest entity (“VIE”) where the Company is the primary beneficiary in accordance with the provision of Fin 46(R)-6.

The Predecessor

The combined and uncombined interests in entities contributed to the Operating Partnership have been aggregated to form the Predecessor. The interests in entities contributed to the Operating Partnership, which were controlled by NCIC, and variable interest entities where the Predecessor is deemed the primary beneficiary accordance with the provisions of Fin 46(R)-6 are reflected in the Predecessor on a combined basis. All intercompany accounts have been eliminated in combination.

Variable Interest Entities

In accordance with Fin 46(R)-6, the Company identifies entities for which control is achieved through means other than through voting rights (a “variable interest entity” or “VIE”), and determines when and which business enterprise, if any, should consolidate the VIE. In addition, the Company discloses information pertaining to such entities wherein the Company is the primary beneficiary or other entities wherein the Company has a significant variable interest.

Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that could affect the amounts reported in the consolidated financial statements. Actual results could differ from these estimates.

Operating Real Estate

Operating real estate properties are carried at historical cost less accumulated depreciation. Costs directly related to the acquisition are capitalized. Ordinary repairs and maintenance which are not reimbursed by the tenants are expensed as incurred. Major replacements and betterments which improve or extend the life of the asset are capitalized and depreciated over their useful life.

Properties are depreciated using the straight-line method over the estimated useful lives of the assets.

78

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

2. Summary of Significant Accounting Policies – (continued)

The estimated useful lives are as follows:

Category	Term
Building (fee interest)	39 – 40 years
Building Improvements	Lesser of the remaining life of building or useful life
Building (leasehold interest)	Lesser of 39 years or the remaining term of the lease
Property under capital lease	Lesser of 40 years or the remaining term of the lease
Tenant Improvements	Lesser of the useful life or the remaining term of the lease
Furniture and fixtures	Four to seven years

In accordance with Statement of Financial Accounting Standards (“SFAS”) 144 “Accounting for the impairment or Disposal of Long-Lived Assets” a property to be disposed of is reported at the lower of its carrying value or its estimated fair value less the cost to sell. Once an asset is determined to be held for sale, depreciation and straight-line rental income are no longer recorded. In addition, the asset is reclassified to assets held for sale on the consolidated balance sheet and the results of operations are reclassified to income (loss) from discontinued operations in the consolidated statements of operations.

In accordance with SFAS No. 141 “Business Combinations” (“SFAS 141”) the Company allocates the purchase price of operating properties to land, building, tenant improvements, deferred lease cost for the origination costs of the in-place leases and to intangibles for the value of the above or below market leases. The Company amortizes the value allocated to the in-place leases over the remaining lease term. The value allocated to the above or below market leases are amortized over the remaining lease term as an adjustment to rental income.

Investments in and Advances to Unconsolidated/Uncombined Ventures

The Company and the Predecessor have various investments in unconsolidated/uncombined ventures. In circumstances where the Company and the Predecessor have a non-controlling interest but are deemed to be able to exert influence over the affairs of the enterprise the Company and the Predecessor utilize the equity method of accounting. Under the equity method of accounting, the initial investment is increased each period for additional capital contributions and a proportionate share of the entity’s earnings and decreased for cash distributions and a proportionate share of the entity’s losses.

Management periodically reviews its investments for impairment based on projected cash flows from the venture over the holding period. When any impairment is identified, the investments are written down to recoverable amounts.

Available for Sale Securities

The Company determines the appropriate classification of its investment in debt securities at the time of purchase and reevaluates such determination at each balance sheet date. Securities for which the Company does not have the intent or the ability to hold to maturity are classified as available for sale securities. The Company and the Predecessor have designated their investments in the equity notes of unconsolidated securitizations (“equity notes”) as available for sale securities as they meet the definition of a debt instrument due to their redemption provisions in accordance with the provisions of EITF 99-20. Securities available for sale are carried at estimated fair value with the net unrealized gains or losses reported as a component of accumulated other comprehensive income (loss) in the consolidated statements of stockholders’ equity. The Company’s investments in the equity notes are relatively illiquid, and thei r value must be estimated by management. Fair value is based primarily upon broker quotes or management’s estimates. These estimated values are subject to significant variability based on market conditions, such as interest rates and current spreads. Changes in the valuations do not affect the Company’s reported income or cash flows, but impact stockholders’ equity.

79

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

2. Summary of Significant Accounting Policies – (continued)

Real Estate Debt Investments

Investments in loans, either direct or participating interests, are recorded at their cost net of unamortized loan origination costs and fees, discounts and premiums. Discounts and premiums on purchased assets are amortized over the life of the investment using the effective interest method. The origination cost and fees are deferred and amortized using the effective interest method over the life of the related loan investment. The amortization is reflected as an adjustment to interest income.

Cash and Cash Equivalents

The Company and the Predecessor consider all highly liquid investments that have remaining maturity dates of three months or less when purchased to be cash equivalents. Cash, including amounts restricted, exceeded the Federal Deposit Insurance Corporation deposit insurance limit of $100,000 per institution at December 31, 2006 and 2005. The Company mitigates its risk by placing cash and cash equivalents with major financial institutions.

Restricted Cash

Restricted cash consists of escrows for taxes, insurance, leasing costs, capital expenditures, tenant security deposits, payments required under certain lease agreements, escrow deposits collected in connection with whole loan originations and deposits with the trustee related to the consolidating CDOs which is primarily proceeds of loan repayments which will be used to reinvest in collateral for the CDO. The Company mitigates its risk by placing restricted cash with major financial institutions.

Deferred Costs and Intangible Assets, Net

Deferred lease costs consist of fees incurred to initiate and renew operating leases and the FAS 141 purchase price-allocation to in-place lease and lease cost. Lease costs are being amortized using the straight-line method over the terms of the respective leases.

Deferred financing costs represent commitment fees, legal and other third party costs associated with obtaining financing. These costs are amortized over the term of the financing. Unamortized deferred financing costs are expensed when the associated debt is refinanced or repaid before maturity. Costs incurred in seeking financing transactions, which do not close, are expensed in the period the financing transaction was terminated.

The Company has recorded purchased intangible assets related to the acquisition of minority interests in NSA, which are being amortized over the life of the revenue stream giving rise to the valuation of these interests.

Identified Intangible Assets and Goodwill

Upon the acquisition of a business, the Company records intangible assets acquired at their estimated fair value separate and apart from goodwill. The Company amortizes identified intangible assets that are determined to have finite lives based on the period over which the assets are expected to contribute directly or indirectly to the future cash flows of the business acquired. Intangible assets not subject to amortization are reviewed for impairment whenever events or changes in circumstances indicate that their carrying amount may not be recoverable. An impairment loss is recognized if the carrying amount of an intangible asset is not recoverable or its carrying amount exceeds its estimated fair value.

Comprehensive Income

Comprehensive income or (loss) is recorded in accordance with the provisions of SFAS No. 130, “Reporting Comprehensive income” (“SFAS 130”). SFAS 130 establishes standards for reporting comprehensive income and

80

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

2. Summary of Significant Accounting Policies – (continued)

its components in the financial statements. Comprehensive income (loss), is comprised of net income, as presented in the consolidated statements of operations, adjusted for changes in unrealized gains or losses on debt securities available for sale and changes in the fair value of derivative financial instruments accounted for as cash flow hedges.

Underwriting Commissions and Costs

Underwriting commissions and direct costs incurred in connection with the Company’s public offering are reflected as a reduction of additional paid-in-capital.

Revenue Recognition

Rental income from leases is recognized on a straight-line basis over the noncancelable term of the respective leases. The excess of rents recognized over amounts contractually due pursuant to the underlying leases are included in unbilled rent receivable in the accompanying consolidated balance sheets.

Tenant reimbursement income is recognized in the period in which the related expense is incurred. Rental revenue, which is based upon a percentage of the sales recorded by the Company’s tenants is recognized in the period such sales were earned by the respective tenants.

Interest income from the Company’s loan investments is recognized on an accrual basis over the life of the investment using the effective interest method. Additional interest to be collected at payoff is recognized over the term of the loan as an adjustment to yield.

Interest income from debt securities available for sale and held for trading is recognized on the accrual basis of accounting over the life of the investment on a yield-to-maturity basis.

In connection with its investment in the Equity Notes, the Company recognizes interest income on these investments pursuant to Emerging Issues Task Force (“EITF”) 99-20, “Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets.” Interest income is recognized on an estimated effective yield to maturity basis. Accordingly, on a quarterly basis, the Company calculates a revised yield on the current amortized cost of the investment and a current estimate of cash flows based upon actual and estimated prepayment and credit loss experience. The revised yield is then applied prospectively to recognize interest income.

Advisory fee income from both third parties and affiliates are recognized on the accrual basis as services are rendered and the fee income is contractually earned in accordance with the respective agreements. Fees from affiliated ventures accounted for under the equity method, are eliminated against the related equity in earnings in such affiliated ventures to the extent of the Company’s ownership.

Incentive income related to performance where the Company is entitled to a promoted interest (i.e., the distribution of a disproportionate allocation of cash flow) after other members have obtained a specified return threshold and return of capital. The Company follows Method 1 of EITF Topic D-96 for recording such incentive income. Under Method 1 of EITF Topic D-96, no incentive income is recorded until all contingencies have been eliminated.

Credit Losses, Impairment and Allowance for Doubtful Accounts

The Company assesses whether unrealized losses on the change in fair value on their debt securities reflect a decline in value which is other than temporary in accordance with EITF 03-1. If it is determined the decline in value is other than temporary the impaired securities are written down through earnings to their fair values. Significant judgment of management is required in this analysis, which includes, but is not limited to, making assumptions regarding the collectibility of the principal and interest, net of related expenses, on the underlying loans.

81

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

2. Summary of Significant Accounting Policies – (continued)

Allowances for real estate debt investment losses are established based upon a periodic review of the loan investments. Income recognition is generally suspended for loans at the earlier of the date at which payments become 90 days past due or when, in the opinion of management, a full recovery of income and principal becomes doubtful. Income recognition is resumed when the suspended loan becomes contractually current and performance is demonstrated to be resumed. In performing this review, management considers the estimated net recoverable value of the loan as well as other factors, including the fair market value of any collateral, the amount and the status of any senior debt, the prospects for the borrower and the economic situation of the region where the borrower does business. Because this determination is based upon projections of future economic events, which are inherently subjective, the amounts ultimately realized from the loan inve stments may differ materially from the carrying value at the balance sheet date.

The Company reviews long-lived assets to be held and used for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets might not be recoverable. Upon determination that impairment exists, the related asset is written down through earnings to its estimated fair value.

Allowance for doubtful accounts for tenant receivables are established based on periodic review of aged receivables resulting from estimated losses due to the inability of its tenants to make required rent and other payments contractually due. Additionally, the Company establishes, on a current basis, an allowance for future tenant credit losses on billed and unbilled rents receivable based upon an evaluation of the collectibility of such amounts.

Rent Expense

Rent expense is recorded on a straight-line basis over the term of the respective leases. The excess of rent expense incurred on a straight-line basis over rent expense, as it becomes payable according to the terms of the lease, is recorded as rent payable and is included in other liabilities in the consolidated balance sheets at December 31, 2006 and 2005, respectively.

Income Taxes

The Company has elected to be treated as a REIT under Internal Revenue Code Sections 856 through 859 and intends to remain so qualified. As a REIT, the Company generally is not subject to Federal income tax. To maintain its qualification as a REIT, the Company must distribute at least 90% of its REIT taxable income to its stockholders and meet certain other requirements. If the Company fails to qualify as a REIT in any taxable year, the Company will be subject to Federal income tax on its taxable income at regular corporate rates. The Company may also be subject to certain state, local and franchise taxes. Under certain circumstances, Federal income and excise taxes may be due on its undistributed taxable income.

Pursuant to amendments to the Code that became effective January 1, 2001, the Company has elected or may elect to treat certain of its existing or newly created corporate subsidiaries as taxable REIT subsidiaries (each a “TRS”). In general, a TRS of the Company may perform non-customary services for tenants of the Company, hold assets that the Company cannot hold directly and generally may engage in any real estate or non-real estate related business. A TRS is generally subject to regular corporate income tax. The Company has established several TRSs in jurisdiction for which no taxes are assessed on corporate earnings. However, the Company must include earnings from these TRSs currently.

The Predecessor’s combined entities were limited liability companies and as such, the income of such entities was reportable in the income tax returns of the members. Accordingly, no income tax provision is recorded in the accompanying combined financial statements of the Predecessor.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

2. Summary of Significant Accounting Policies – (continued)

Derivatives and Hedging Activities

In the normal course of business, we use a variety of derivative instruments to manage, or hedge interest rate risk. The Company recognizes derivatives as either assets or liabilities in the consolidated balance sheets and measures those instruments at fair value. The fair value adjustments of each period will affect the consolidated financial statements of the Company differently depending on whether the derivative instrument qualifies as a hedge for accounting purposes and, if so, the nature of the hedging activity.

The Company generally enters into cash flow hedges and must designate them at the time of entering into the derivative. The derivatives entered into by the Company are intended to qualify as hedges under accounting principles generally accepted in the United States, unless specifically stated otherwise. Toward this end, the terms of hedges are matched closely to the terms of hedged items. The Company assesses the effectiveness of the cash flow hedges both at inception and on an on-going basis and determines whether the hedge is highly effective in offsetting changes in cash flows of the hedged item. The Company records the effective portion of changes in the estimated fair value in accumulated other comprehensive income (loss) and subsequently reclassifies the related amount of accumulated other comprehensive income (loss) to earnings when the hedging relationship is terminated. If it is determined that a derivative has ceased to be a highly e ffective hedge, the Company will discontinue hedge accounting for such transaction.

With respect to derivative instruments that have not been designated as hedges, any net payments under, or fluctuations in the fair value of, such derivatives are recognized currently in income.

The Company’s derivative financial instruments contain credit risk to the extent that its bank counterparties may be unable to meet the terms of the agreements. The Company minimizes such risk by limiting its counterparties to major financial institutions with good credit ratings. In addition, the potential risk of loss with any one party resulting from this type of credit risk is monitored.

Stock Based Compensation

The Company has adopted the fair value method of accounting prescribed in SFAS No. 123R “Accounting for Stock Based Compensation” (“SFAS 123R”) (as amended by SFAS No. 148) for its equity based compensation awards. SFAS 123R requires an estimate of the fair value of the equity award at the time of grant rather than the intrinsic value method. All fixed equity based awards to employees and directors, which have no vesting conditions other than time of service, will be amortized to compensation expense over the award’s vesting period based on the fair value of the award at the date of grant.

Recently Issued Pronouncements

On April 13, 2006, FASB issued FASB Staff Position FIN 46(R)-6, “Determining the Variability to be Considered When Applying FASB Interpretation No. 46(R)”. The FSP addresses the approach to determine the variability to consider when applying FIN 46(R), and includes several illustrative examples of how the variability should be considered. The variability that is considered in applying Interpretation 46(R) may affect: (a) the determination as to whether the entity is a variable interest entity (VIE); (b) the determination of which interests are variable interests in the entity; (c) if necessary, the calculation of expected losses and residual returns of the entity; and (d) the determination of which party is the primary beneficiary of the VIE. Thus, determining the variability to be considered is necessary to apply the provisions of Interpretation 46(R)-6.

A company will apply the guidance in FIN 46(R)-6 prospectively to all entities (including newly created entities) with which that Company first becomes involved and to all entities previously required to be analyzed under FIN 46(R) when a reconsideration event has occurred beginning the first day of the first reporting period after June 15, 2006. Early application is permitted for periods for which financial statements have not yet been issued.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

2. Summary of Significant Accounting Policies – (continued)

Retrospective application to the date of the initial application of FIN 46(R)-6 is permitted but not required. Retrospective application, if elected, must be completed no later than the end of the first annual reporting period ending after July 15, 2006. The adoption did not have a material effect on the Company’s financial statements as a whole since the Company adopted the provisions of FIN 46(R)-6 prospectively.

In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments” (“SFAS 155”). SFAS 155 allows any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities”, to be carried at fair value in its entirety, with changes in fair value recognized in earnings. In addition, SFAS 155 requires that beneficial interests in securitized financial assets be analyzed to determine whether they are freestanding derivatives or contain an embedded derivative. SFAS 155 also eliminates a prior restriction on the types of passive derivatives that a qualifying special purpose entity is permitted to hold. SFAS 155 is applicable to new or modified financial instruments in fiscal years beginning after September 15, 2006. The Company does not believe that the adoption of SFAS 155 will have a material impact on the consolidated financial statements as of January 1, 2007.

In July 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes”, or FIN 48. This interpretation, among other things, creates a two-step approach for evaluating uncertain tax positions. Recognition (step one) occurs when an enterprise concludes that a tax position, based solely on its technical merits, is more-likely-than-not to be sustained upon examination. Measurement (step two) determines the amount of benefit that more-likely-than-not will be realized upon settlement. Derecognition of a tax position that was previously recognized would occur when a company subsequently determines that a tax position no longer meets the more-likely-than-not threshold of being sustained. FIN 48 specifically prohibits the use of a valuation allowance as a substitute for derecognition of tax positions, and it has expanded disclosure requirements. FIN 48 is effective for fiscal years beginning after December 15, 2006, in which the impact of adoption should be accounted for as a cumulative-effect adjustment to the beginning balance of retained earnings. The Company does not believe the adoption of Fin 48 will have a material impact on the consolidated financial statements.

In September 2006, the FASB issued SFAS 157 “Fair Value Measurement” (“SFAS 157”). SFAS 157 establishes a framework for measuring fair value in generally accepted accounting principles, clarifies the definition of fair value within that framework, and expands disclosures about the use of fair value measurements. SFAS 157 is effective for fiscal years beginning after November 15, 2007. Early adoption is allowed, provided that the reporting entity has not yet issued financial statements, including interim financial statements for the fiscal year in which the statement is adopted. The provision of this statement is to be applied prospectively as of the fiscal year of adoption. The Company intends to adopt the provisions of SFAS 157 for its fiscal year commencing January 1, 2007. The Company does not believe the adoption of SFAS 157 will have a material impact on the consolidated financial statements.

In September 2006, the SEC issued Staff Accounting Bulletin No. 108 (SAB 108). The interpretations in SAB 108 express the staff’s views regarding the process of quantifying financial statement misstatements. The staff believes registrants must consider the impact of correcting all misstatements, including the effect of misstatements that were not corrected at the end of the prior year. These prior year misstatements should be considered in quantifying misstatements in current year financial statements. Thus, a registrant’s financial statements would require adjustment when the assessment in the current year or in prior years results in quantifying a misstatement that is material, after considering all relevant quantitative and qualitative factors. The adoption of SAB 108 did not have a material impact on the consolidated financial statements.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

3. Operating Real Estate

Earnings Per Share

The Company’s basic earnings per share (“EPS”) is computed by dividing net income available to common shareholders by the weighted average number of common shares outstanding. For purposes of calculating earnings per share, the Company considered all unvested restricted stock which participates in the dividends of the Company to be outstanding. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted to common stock, where such exercise or conversion would result in a lower EPS amount. This also includes units of limited partnership interest in the Operating Partnership. The dilutive effects of units of limited partnership interest and their equivalents are computed using the “treasury stock” method.

Reclassifications

Certain prior period amounts have been reclassified to conform to the current period presentation.

At December 31, 2006 and 2005, the Operating real estate, net consists of the following:

	December 31, 2006			December 31, 2005
Land	$	54,552		$	25,449
Buildings and Improvements		378,241			152,293
Leasehold interests		15,847			8,391
Tenant Improvements		30,974			16,547
Furniture and Fixtures		403			—
Capital leases		3,028			3,028
		483,045			205,708
Less accumulated depreciation		(14,437	)		(7,000	)
Operating real estate, net		468,608		$	198,708

Depreciation expense amounted to approximately $9.2 million and $3.8 million for the year ended December 31, 2006 and 2005, respectively, of which a portion is included in income from discontinued operations for each of these periods.

Acquisitions-2006

Green Pond

In March 2006, the Company closed on a $21.8 million acquisition of a suburban office building located in Rockaway, New Jersey totaling 121,038 square feet of rentable space (the “Green Pond Property”). The property is net leased to two tenants under leases that expire in 2015 and 2017. The Company financed the acquisition with a $17.5 million non-recourse, first mortgage bearing a fixed interest rate of 5.68%, maturing on April 11, 2016, and the balance in cash.

Indianapolis Property

In June 2006, the Company closed on a $34.4 million acquisition of an office property located in Indianapolis, Indiana totaling 333,600 square feet of rentable space. The property is net leased to one tenant under a lease expiring in 2025. The Company financed the acquisition with a $28.6 million non-recourse, first mortgage bearing a fixed interest rate of 6.06%, maturing on February 1, 2017, and the balance in cash.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

3. Operating Real Estate – (continued)

Aurora Property

In July 2006, the Company closed on a $45.5 million acquisition of a 183,529 square foot office building in Aurora Colorado. The property is net leased to a single tenant under a lease that expires in June 2015. The property was financed with a $33.5 million non-recourse, first mortgage bearing a fixed interest rate 6.22%, maturing in July 2016, a $2.9 million mezzanine loan with an affiliate bearing a fixed interest rate of 7.37%, maturing May 2012 and the balance in cash.

Retail Portfolio

In September 2006, the Company closed on a portfolio of nine retail net lease properties for a purchase price of $63.2 million. The properties contain 468,111 of rentable square feet and are net leased to two retail tenants with leases expirations beginning in 2016 through 2024. The Company assumed three non-recourse first mortgages for three of the properties and the remaining properties were financed with a non-recourse, first mortgage. The four mortgages bear fixed rates ranging from 5.85% to 7.34%, with maturities ranging from June 2014 to October 2016.

Wakefield Capital, LLC

In May 2006, the Company formed a joint venture with Chain Bridge Capital LLC, referred to as Wakefield Capital LLC (“Wakefield”), to acquire healthcare properties. Chain Bridge Capital contributed a portfolio of 11 healthcare properties located in North Carolina, Pennsylvania, Illinois and Florida valued at $45.7 million, and consisting of 417,351 square feet. Each property in the portfolio is leased to a single tenant under leases that expire at various times, from July 2007 to July 2020. The portfolio was financed with a $27.8 million non-recourse, first mortgage bearing fixed interest rate of 6.56% to 7.22%. In addition, the Company purchased from Chain Bridge Capital two properties consisting of 88,107 square feet, one in California and one in North Carolina for $16.2 million, net of $5.1 million of non recourse, first mortgages at a fixed interest rate of 6.56%, which it then contributed to the joint vent ure. All the mortgages expire in August of 2010.

In June 2006, the Wakefield joint venture closed on a $3.6 million acquisition of a 20,000 square foot building in Hendersonville, NC. The property is net leased to a single tenant under a lease that expires in May 2016. The property was financed with a $2.8 million non-recourse, first mortgage bearing a fixed interest rate of 6.56% maturing in August 2010, and the balance in cash.

In July 2006, the Wakefield joint venture closed on a $12.3 million acquisition of two buildings consisting of 69,957 square feet, one in Black Mountain, NC and one in Blountstown, FL. The properties are net leased to a single tenant under a lease that expires in June 2021. The properties were financed with a $8.7 million non-recourse, first mortgage bearing a fixed interest rate of 6.95% maturing in August 2010, and the balance in cash.

In October 2006, the Wakefield joint venture closed on a $8.8 million acquisition of three buildings in a foreclosure sale consisting of 65,457 square feet, one in Albemarle, Brevard and Charlotte, NC. The properties are net leased to a single tenant under a lease that expires in October 2021. The properties were purchased for cash.

In December 2006, the Wakefield joint venture closed on a $9.2 million acquisition of a 26,000 square foot building in Bremerton, WA. The property is net leased to a single tenant under a ten year lease with renewal options. The property was financed with a $6.75 million non-recourse, first mortgage bearing a fixed interest rate of 7.13% maturing in August 2010, and the balance in cash.

In December 2006, the Wakefield joint venture closed on a $44.9 million acquisition of 286,652 square feet of laboratory and office space on a Health Science University campus. The property is net leased to a single tenant under a lease that expires in December 2013. The property was financed with $33.3 million non-recourse, first mortgage bearing a fixed interest rate of 5.94% maturing in December 2013, and the balance in cash.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

3. Operating Real Estate – (continued)

Acquisitions-2005

Chatsworth, California

On January 14, 2005, the Company closed the acquisition of a portfolio of three net-leased office properties, totaling 257,336 square feet of rentable space in Chatsworth, CA (the “Chatsworth properties”), for $63.5 million. The properties are net leased to Washington Mutual Bank under leases that expire in September 2015. The Company financed the acquisition with a $44 million first mortgage, and a $13 million mezzanine loan. This mezzanine loan currently constitutes a portion of the portfolio of securities owned by CDO III. One of the properties is subject to a ground lease. The ground lease has an initial remaining term of 35 years and two five-year extension options. The ground lease also provides for periodic increases in base rent based on the change in the Consumer Price Index.

Salt Lake City Property

On August 2, 2005, the Company closed a $22.0 million acquisition of a 117,553 square foot office/flex building in Salt Lake City, Utah, (the “Salt Lake City property”) which is 100% leased to the General Services Administration (“Salt Lake City”) under a lease that expires in April 2012. The property is financed with a $17 million non-recourse first mortgage.

EDS Portfolio

On September 30, 2005, the Company closed the acquistion of a portfolio of four office buildings with 387,842 square feet of rentable space located in Rancho Cordova, California, Auburn Hills, Michigan and Camp Hill, Pennsylvania for $61.4 million. The four office properties are net leased to Electronic Data Systems Corp., (the “EDS Portfolio”), under leases expiring in 2015. The Company financed the acquisition with a $49.1 million non-recourse first mortgage.

Executive Centre Portfolio

In December 2005, the Company acquired a portfolio of three class A office buildings, located in Springdale, Ohio, with 486,963 square feet of rentable space for $68.5 million. Two of the properties are 100% and 96% leased to General Electric Company under leases expiring in 2009 and 2010. The remaining building is leased 100% to Cincom Systems, Inc. under a lease that expires in 2011. The Company financed the acquisition with a $51.5 million non-recourse first mortgage.

Dispositions-2006

27 West 34th Street and 1372 Broadway

On January 31, 2006, the Company sold its leasehold interests in 27 West 34th Street and 1372 Broadway, both located in New York City, for $2.3 million recognizing a gain of approximately $141,000, net of minority interest. The operations were classified as discontinued operations in the consolidated statements of operations.

Chino Hills

On December 29, 2006, the Wakefield joint venture sold its interest in an assisted care living facility located in Chino Hills, CA for $8.6 million, recognizing a gain of approximately $0.3 million, net of minority interest.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

3. Operating Real Estate – (continued)

Dispositions-2005

729 Seventh Avenue

The Company sold its interest in a 19,618 square foot retail condominium unit at 729 Seventh Avenue (“729”) in New York City for $29.0 million. The transaction closed on June 30, 2005. The gain on sale was approximately $8.6 million, net of minority interest. For the year ended December 31, 2005 and the period of October 29, 2004 to December 31, 2004 the operations were classified as discontinued operations in the consolidated statements of operations.

The proceeds of the sale were used to pay down approximately $25.1 million of an existing mortgage and the remaining balance was reinvested into a similar property acquisition to effectuate a Section 1031-tax free exchange under the Internal Revenue Code.

In connection with the sale, 729 7th Realty Corp., an affiliate of the Riese Organization’s National Restaurant Management Inc., agreed to discontinue the legal action that it had brought against the Company, settling the Company’s only material pending legal action.

1552 Broadway

The Company sold its interest in a four-story, 12,091 square foot building located at 1552 Broadway (“1552”) in New York City for a purchase price of $48 million, or $3,970 per square foot. The transaction closed on November 30, 2005. The gain on sale was approximately $20.3 million, net of minority interest. For the year ended December 31, 2005 and the period of October 29, 2004 to December 31, 2004 the operations were classified as discontinued operations in the consolidated statements of operations.

Discontinued Operations

The following table summarizes income from discontinued operations and related gain on sale of discontinued operations, each net of minority interest, for the years ended December 31, 2006, 2005 and the period of October 29, 2004 to December 31, 2004:

	For the Year Ended December 31, 2006			For the Year Ended December 31, 2005			For the Period of October 29, 2004 to December 31, 2004
Revenue:
Rental and escalation income	$	656		$	5,618		$	1,649
Interest and other		1			518			3
Total revenue		657			6,136			1,652
Expenses:
Real estate property operating expenses		42			1,818			788
General and administrative expenses		—			591			69
Interest expense		133			2,269			570
Depreciation and amortization		116			777			222
Total expenses		291			5,455			1,649
Income (loss) from discontinued operations		366			681			3
Gain on disposition of discontinued operations		514			35,930			—
Income (loss) from discontinued operations before minority interest		880			36,611			3
Minority interest		(117	)		(7,212	)		(1	)
Income (loss) from discontinued operations, net of minority interest		763			29,399		$	2

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

4. Available for Sale Securities

The following is a summary of the Company’s available for sale securities at December 31, 2006:

	Carrying Value		Gains in Accumulated OCI		Losses in Accumulated OCI			Estimated Fair Value
CMBS	$	551,194	$	11,830	$	(1,577	)	$	561,447
Real estate CDO		58,021		812		(1,427	)		57,406
REIT debt		82,836		3,480		—			86,316
CDO equity		67,225		3,605		(2,532	)		68,298
Trust preferred securities		15,000		—		—			15,000
Total	$	774,276	$	19,727	$	(5,536	)	$	788,467

The maturities of the debt securities available for sale range from seven to forty nine years.

During the year ended December 31, 2006, proceeds from the sales of available for sale securities was $29.4 million. The realized gain on sale was $855 of which $712 was the unrealized gain which was included in other comprehensive income.

In August 2006, the Company acquired all of the notes issued in a synthetic CMBS CDO, referred to as Abacus 2006-NS2 for $54.2 million. The notes of this CDO bear interest backed by a combination of AAA floating rate securities and a fixed spread earned by the CDO for having sold credit protection on a portfolio of investment grade-rated reference securities. The notes yield a blended spread above LIBOR of approximately 6.96%. Any losses on the reference securities will require the CDO to liquidate a portion of the AAA collateral in order to make payments to credit protection buyer under the credit default swaps. The CDO was determined to be a variable interest entity under Fin 46(R)-6 and the Company was determined to be the primary beneficiary therefore the financial statements are consolidated into the condensed consolidated financial statements of the Company. The AAA collateral of $50.4 million is included in debt securities available f or sale and the corresponding bonds are included in CDO bonds payable in the consolidated balance sheets.

The following is a summary of the Company’s available for sale securities at December 31, 2005:

	Carrying Value		Gains in Accumulated OCI		Losses in Accumulated OCI			Estimated Fair Value
CMBS	$	46,467	$	259	$	(671	)	$	46,055
Real estate CDO		36,112		189		(754	)		35,547
REIT debt		—		—		—			—
CDO equity		66,684		3,125		(1,539	)		68,270
Preferred equity		—		—		—			—
Total	$	149,263	$	3,573	$	(2,964	)	$	149,872

During the year ended December 31, 2005, proceeds from the sales of available for sale securities to an affiliate was $21.5 million. The realized gain on the sale was $361,000 of which $436,000 was the unrealized gain which was included in other comprehensive income.

5. CDO Deposit and Warehouse Agreements

The Company enters into warehouse agreements with major commercial banks whereby the banks agree to purchase CMBS and other real estate debt securities under the Company’s direction, with the expectation of selling such securities to a CDO issuance. The Company is required to pledge cash or other collateral as security for the purpose of covering a portion of any losses or costs associated with the accumulation of these securities under the warehouse agreement. The warehouse agreements also provide for the Company’s notional participation in the income that the assets generate after deducting a notional debt cost. These agreements are treated as non-hedge derivatives for accounting purposes and are therefore marked to market through current income. Although the

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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

5. CDO Deposit and Warehouse Agreements – (continued)

Company currently anticipates completing the most recent CDO in the near term, there is no assurance that such CDO will be consummated or on what terms it will be consummated.

On September 27, 2005, the Company entered into a warehouse arrangement with a major commercial bank whereby the bank has agreed to purchase up to $400 million of CMBS and other real estate debt securities under the Company’s direction, with the expectation of selling such securities to the Company’s fifth investment grade CDO issuance or CDO VII. As of December 31, 2005, the Company has deposited $10 million as security for the purpose of covering a portion of any losses or costs associated with the accumulation of these securities under the warehouse agreement and will be required to deposit additional equity based on accumulations of securities that will be made under the warehouse agreement. The bank had accumulated $156.4 million of real estate securities under the terms of the warehouse agreement as of December 31, 2005. In June 2006, the Company closed CDO VII and terminated this warehouse agre ement.

In March 2006, the Company entered into a warehouse arrangement with a major commercial bank whereby the bank has agreed to purchase up to $450 million of CMBS and other real estate debt securities under the Company’s direction with the expectation of selling such securities to the Company’s next real estate securities CDO. In October 2006, the Company amended the warehouse agreement. The amendment will allow the Company to borrow up to $750 million under the warehouse agreement to allow the Company to accumulate collateral for its next securities CDO.

As of December 31, 2006, the Company deposited $29.2 million of cash collateral for the purpose of covering a portion of any losses or cost associated with the accumulations of securities that will be made under the warehouse agreement. As of December 31, 2006, the bank accumulated $567.5 million in real estate securities under the terms of the warehouse agreement. The warehouse agreement also provides for the Company’s notional participation in the income that the assets generate after deducting a notional debt cost (the “Carry”).

These agreements are treated as non-hedge derivatives for accounting purposes and marked-to-market through income. The Company has recorded a $5.0 million and $0.9 million unrealized gain for the year ended December 31, 2006 and 2005, respectively, related to the change in fair value of the warehouse agreements which includes the market-to-market of the securities in the warehouse and the net Carry. The collateral to be accumulated under these agreements is expected to be included in a securitization transaction in which the Company intends to acquire all of the equity interests.

6. Real Estate Debt Investments

At December 31, 2006 and 2005, the Company’s investments in real estate debt investments are as follows:

December 31, 2006	Carrying Value(1)		Allocation by Investment Type			Average Fixed Rate			Average Spread Over LIBOR		Number of Investments
Whole loans, floating rate	$	884,340		56.3	%		—		3.09	%		53
Whole loans, fixed rate		90,343		5.7			8.29		—			10
Subordinate mortgage interests, floating rate		97,345		6.2			—		4.53			9
Mezzanine loans, floating rate		293,825		18.7			—		5.43			12
Mezzanine loan, fixed rate		126,448		8.0			10.85		—			11
Preferred equity, fixed rate		29,271		1.9			9.35		—			2
Other loans – floating		42,195		2.7			—		2.47			7
Other loans – fixed		7,743		0.5			5.53		—			1
Total/Weighted average	$	1,571,510		100.0	%		9.60	%	3.70	%		105

——————

(1)

(a) Approximately $1.3 billion of these investments serve as collateral for the CDO bonds of our three real estate debt CDO issuance and the balance are financed under the Wachovia Facility (as defined in Note 11) or other Repurchase Agreements.
(b) The Company has future funding commitments $290.8 million related to these investments.

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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

6. Real Estate Debt Investments – (continued)

December 31, 2005	Carrying Value(1)		Allocation by Investment Type			Average Fixed Rate			Average Spread Over LIBOR		Number of Investments
Whole loans, floating rate	$	178,775		26.3	%		—		3.06	%		10
Whole loans, fixed rate		13,082		1.9	%		5.27	%	—			3
Subordinate mortgage interests, floating rate		237,276		34.8	%		—		4.97	%		17
Mezzanine loans, floating rate		223,621		32.8	%		—		4.86	%		11
Mezzanine loan, fixed rate		151		0.0	%		15.00	%	—			1
Preferred equity, fixed rate		28,201		4.2	%		9.36	%	—			2
Total/Average	$	681,106		100.0	%		8.09	%	4.40	%		44

——————

(1)

Approximately $320 million of these investments serve as collateral for the CDO bonds of CDO IV and the balance are financed under the Wachovia Facility or other Repurchase Agreements.

As of December 31, 2006 and 2005, all loans were performing in accordance with the terms of the loan agreements.

Contractual maturities of real estate debt investments at December 31, 2006 are as follows:

Years Ending December 31:
2007	$	361,658
2008		414,413
2009		404,575
2010		169,922
2011		50,889
Thereafter		181,156
Total	$	1,582,613

Actual maturities may differ from contractual maturities because certain borrowers have the right to prepay with or without prepayment penalties. The contractual amounts differ from the carrying amounts due to unamortized origination fees and costs and unamortized premiums and discounts being reported as part of the carrying amount of the investments.

7. Investments in and Advances to Unconsolidated/Uncombined Ventures

The Company and Predecessor have a non-controlling, unconsolidated/uncombined ownership interest in entities that are accounted for using the equity method. Capital contributions, distributions, and profits and losses of the real estate entities are allocated in accordance with the terms of the applicable partnership and limited liability company agreements. Such allocations may differ from the stated percentage interests, if any, in such entities as a result of preferred returns and allocation formulas as described in such agreements.

CS/Federal Venture

In February 2006, the Company, through a joint venture with an institutional investor, acquired a portfolio of three adjacent class A office/flex buildings located in Colorado Springs, Colorado for $54.3 million. The joint venture financed the transaction with two non-recourse, first mortgage loans totaling $37.9 million and the balance in cash. The loans mature on February 11, 2016 and bear fixed interest rates of 5.51% and 5.46%. The Company contributed $8.4 million for a 50% interest in the joint venture and incurred $0.3 million in costs related to its acquisition, which is capitalized to the investment account. These costs will be amortized over the useful lives of the assets held by the joint venture. The Company accounts for its investment under the equity method of accounting. At December 31, 2006, the Company had an investment in CS/Federal of approximately $8.3 million.

91

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

7. Investments in and Advances to Unconsolidated/Uncombined Ventures – (continued)

NSF Venture

In February 2006, the Company sold its interests in the NSF Venture to the institutional pension fund which had an equity interest in the NSF Venture. As part of the sale, the NSF Venture terminated its advisory fee agreements with the Company. The Company recognized a gain on sale of $279,000, net of minority interest. In addition, the Company recognized incentive income of approximately $1.2 million which is included in other revenue in the condensed consolidated statement of operations, which was deferred at December 31, 2005 pursuant to Method 1 of EITF Topic D-96. Subsequent to January 31, 2006, the Company will no longer earn management or incentive fees from the NSF Venture or from loans owned directly by the Company’s former joint venture partner.

Northstar Realty Finance Trusts

The Company owns all of the common stock of Northstar Realty Finance Trust, Northstar Realty Finance Trust II, NorthStar Realty Finance Trust III, NorthStar Realty Finance Trust IV, NorthStar Realty Finance Trust V and NorthStar Realty Finance Trust VI (collectively, the “Trusts”). The Trusts were formed to issue preferred securities. Under the provisions of FIN 46(R)-6, the Company determined that the holders of the trust preferred securities were the primary beneficiaries of the Trusts. As a result, the Company did not consolidate the Trusts and has accounted for the investment in the common stock of the Trusts under the equity method of accounting. At December 31, 2006 and 2005, the Company had an investment in the Trusts of approximately $3.5 million and $3.3 million, respectively.

Reconciliation between the operating data for all unconsolidated/uncombined ventures and equity in earnings is as follows:

	The Company								The Predecessor
	For the Year Ended December 31, 2006		For the Year Ended December 31, 2005			For the Period October 29, 2004 to December 31, 2004			For the Period January 1, 2004 to October 28, 2004
Net income	$	432	$	7,328		$	2,136		$	11,515
Other partners’ share of income		—		(7,054	)		(2,063	)		(10,032	)
Elimination entries		—		(48	)		10			44
Step up costs		—		—			—			(7	)
Earnings from unconsolidated/uncombined ventures	$	432	$	226		$	83		$	1,520

Reconciliation between the Company’s investment in unconsolidated entities as of December 31, 2006 and December 31, 2005 is as follows:

	December 31, 2006		December 31, 2005
Company’s equity in unconsolidated entities	$	11,491	$	5,546
Elimination entry		—		(88	)
Purchase price basis difference		354		—
Investment in and advances to unconsolidated ventures	$	11,845	$	5,458

92

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

8. Variable Interest Entities

Fin 46(R) requires a VIE to be consolidated by its primary beneficiary. The primary beneficiary is the party that absorbs a majority of the VIEs anticipated losses and or a majority of the expected returns. The Company has evaluated its real estate debt investments and its investments in each of its five CDO issuers to determine whether they are VIEs. For each of these investments, the Company has evaluated (1) the sufficiency of the fair value of the entity’s equity investment at risk to absorb losses, (2) whether as a group the holders of the equity investment at risk have (a) the direct or indirect ability through voting rights to make decisions about the entity’s significant activities, (b) the obligation to absorb the expected losses of the entity and their obligations are not protected directly or indirectly, (c) the right to receive the expected residual return of the entity and their rights are not capped, (3) whether the voting rights of these investors are proportional to their obligations to absorb the expected losses of the entity, their rights to receive the expected returns of their equity, or both and (4) whether substantially all of the entity’s activities involve or are conducted on behalf of an investor that has disproportionately fewer voting rights.

As of December 31, 2006, the Company identified interests in 18 entities which were determined to be VIEs under FIN 46(R)-6.

Based on management’s analysis, the Company is not the primary beneficiary of 13 of the identified VIEs since it does not absorb a majority of the expected residual losses, or is entitled to a majority of the expected residual returns. Accordingly, these VIEs are not consolidated into the Company’s financial statements as of December 31, 2006 or 2005. See footnote 19 Off-Balance Sheet Arrangements for a more detailed discussion.

The Company was determined to be the primary beneficiary of CDO IV, VI, VII, VIII and Abacus since we own 100% of the equity and would absorb the majority of loss or residual return and accordingly these entities are consolidated.

9. Deferred Costs and Intangible Assets, Net

Deferred costs and intangible assets as of December 31, 2006 and 2005 consisted of the following:

	December 31, 2006			December 31, 2005
Deferred lease costs	$	52,671		$	26,407
Deferred loan costs		44,149			13,523
Intangible assets		4,272			1,396
Pending deal costs		644			402
		101,736			41,728
Less accumulated amortization		(11,536	)		(2,983	)
Deferred costs and intangible assets, net	$	90,200		$	38,745

Deferred lease cost includes the allocation of a portion of the purchase price, in accordance with SFAS 141, to lease origination costs associated with the in-place leases. For the year ended December 31, 2006 and 2005, approximately $51.4 million and $25.1 million included in deferred lease cost was the allocation of the purchase price to deferred lease cost.

In connection with the IPO, the Company purchased a 23% minority interest in NSA, a subsidiary of the Company. The excess of the fair value of the minority interest over the historical book value of $839,000 was recorded as a step-up in basis and allocated to an intangible asset. The intangible asset is being amortized on a straight line basis over the remaining life of the underlying assets giving rise to the revenue stream used in the valuation with an estimated life of 7.7 years. The Company recognized $283,000, $283,000 and $48,000 as amortization expense, relating to both acquisitions, which is reflected in the consolidated statement of operations for the year ended December 31, 2006, 2005 and for the period of October 29, 2004 through December 31, 2004, respectively.

93

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

10. Borrowings

The following is a table of the Company’s outstanding borrowings as of December 31, 2006 and December 31, 2005:

	Stated Maturity	Interest Rate	Balance at December 31, 2006		Balance at December 31, 2005
Mortgage notes payable (non recourse)
Chatsworth	5/1/2015	5.65%	$	43,506	$	43,777
Salt Lake City	9/1/2012	5.16%		16,584		16,919
EDS	10/8/2015	5.37%		49,017		49,120
Executive Center	1/1/2016	5.85%		51,480		51,480
Green Pond	4/11/2016	5.68%		17,480		—
Indianapolis	2/1/2017	6.06%		28,600		—
Wakefield	1/11/2014	5.94% to 7.46%		84,860		—
Aurora	7/11/2016	6.22%		33,500		—
DSG	10/11/2016	6.17%		35,038		—
Keene	2/1/2016	5.85%		6,970		—
Fort Wayne	1/1/2015	6.41%		3,626		—
Portland	6/17/2014	7.34%		5,132		—
Mezzanine loan payable (non recourse)
Chatsworth	5/1/2014	6.64%		11,985		13,000
Aurora	5/11/2012	7.37%		2,887		—
Repurchase obligations	See Repurchase Obligations below	LIBOR varies		80,261		7,054
Credit Facilities
DBAG	12/21/2007	LIBOR + 0.75% to 2.25%		—		—
Wachovia	7/12/2008	LIBOR + 0.15% to 2.50%		16,000		243,002
Keybanc	11/3/2009	LIBOR + 2.20% to 2.50%		—		—
Bank of America (2)	11/10/2006	LIBOR + 3.25%		—		—
CDO bonds payable
CDO IV	7/1/2040	LIBOR + 0.62% (average spread)		300,000		300,000
CDO VI	6/1/2041	LIBOR + 0.55% (average spread)		312,079		—
CDO VII	6/22/2051	LIBOR + 0.34% (average spread)		510,800		—
CDO VIII	2/1/2041	LIBOR + 0.58% (average spread)		535,600		—
Abacus II	8/28/2046	LIBOR + 4.41%		23,750		—
Liability to subsidiary trusts issuing preferred securities(1)
Trust I	3/30/2035	8.15%		41,240		41,240
Trust II	6/30/2035	7.74%		25,780		25,780
Trust III	1/30/2036	7.81%		41,238		41,238
Trust IV	6/30/2036	7.95%		50,100		—
Trust V	9/30/2036	3 month LIBOR + 2.70%		30,100		—
Trust VI	12/30/2036	3 month LIBOR + 2.90%		25,100		—
			$	2,382,713	$	832,610

94

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

10. Borrowings – (continued)

——————

(1)

The liability to subsidiary trusts for Trusts I, II, III and IV have a fixed interest rate for the first ten years after which the interest rate will float and reset quarterly at rates ranging from LIBOR plus 2.70% to 3.25%. The Company entered into swaps on Trusts V and VI which fix the interest rates for 10 years at 8.16% and 8.02%, respectively.

(2)

The facility matured and was terminated upon the closing of the Keybanc facility.

Scheduled principal payment requirements on the Company’s borrowings are as follows as of December 31, 2006:

	Total		Mortgage and Mezzanine Loans		Credit Facilities		Liability to Subsidiary Trusts Issuing Preferred Securities		Repurchase Obligations		CDO Bonds Payable
2007	$	85,026	$	4,765	$	—	$	—	$	80,261	$	—
2008		20,295		4,295		16,000		—		—		—
2009		5,888		5,888		—		—		—		—
2010		59,669		59,669		—		—		—		—
2011		6,699		6,699		—		—		—		—
Thereafter		2,205,136		309,349		—		213,558		—		1,682,229
Total	$	2,382,713	$	390,665	$	16,000	$	213,558	$	80,261	$	1,682,229

At December 31, 2006, the Company was in compliance with all covenants under its Borrowings.

CDO Bonds Payable

In June 2005, the Company closed its fourth CDO issuance (“CDO IV”) and the Company acquired all of the below investment grade securities and income notes. The CDO IV issuer issued $300 million face amount of the CDO bonds and sold them in a private placement to third parties. The proceeds of the CDO issuance were used to repay the entire outstanding principal balance of the DBAG Facility (as defined below) of $233.6 million at closing. The CDO bonds are collateralized by real estate debt investments, consisting of junior participations, mezzanine loans, whole loans, CMBS and CDO bonds. For the years ended December 31, 2006 and 2005, the weighted average interest note was 5.94% and 5.01%, respectively.

In March 2006, the Company completed its sixth CDO issuance (“CDO VI”). The Company sold the investment grade rated notes having a face amount of $348.4 million, including $70.0 million of revolving floating rate notes, of which only $21.8 million was funded at the closing, and retained all of the below investment grade securities and income notes. CDO VI has the ability to borrow, repay and re-borrow pursuant to the terms of the floating rate revolving notes, both during the ramp-up period and the re-investment period, subject to compliance with certain borrowing conditions. The net proceeds of CDO VI were used to repay $296.1 million of the outstanding principal balance of the Wachovia Credit Facility. The CDO VI bonds are collateralized by $389.2 million of real estate debt investments consisting of whole loans, junior participations in first mortgages, mezzanine loans, preferred equity investments and bonds of other CDOs. Fo r the year ended December 31, 2006, the weighted average interest rate was 5.91%.

In June 2006, the Company completed its seventh CDO issuance (“CDO VII”). The Company sold investment grade notes having a face amount of $510.8 million and retained all the below investment grade securities and income notes. The CDO VII bonds are collateralized by $460.0 million of real estate securities, $41.3 million real estate debt investments and $40.0 million of cash.

95

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

10. Borrowings – (continued)

CDO VIII

In December 2006, the Company completed its eighth CDO issuance (“CDO VIII”). The Company sold the investment grade rated notes having a face amount of $703.8 million, including $260.0 million of revolving floating rate notes, of which $0.0 million was funded at the closing, and retained all of the below investment grade securities and income notes. CDO VIII has the ability to borrow, repay and re-borrow pursuant to the terms of the floating rate revolving notes, both during the ramp-up period and the re-investment period, subject to compliance with certain borrowing conditions. The net proceeds of CDO VIII were used to repay $349.2 million of the outstanding principal balance of the Wachovia Credit Facility. The CDO VIII bonds are collateralized by $556.2 million of real estate debt investments consisting of whole loans, junior participations in first mortgages, mezzanine loans, preferred equity investments and b onds of other CDOs. For the year ended December 31, 2006, the weighted average interest rate was 5.90%.

Repurchase Obligations

The Company had $80.2 million and $3.7 million of repurchase agreements which is collateralized by $89.1 million and $5.0 million of floating rate securities at December 31, 2006 and 2005, respectively. These repurchase agreements are generally used to finance the Company’s floating rate securities, backed by commercial or residential mortgage loans, and other investments prior to obtaining permanent financing. These repurchase obligations mature in less than 30 days, and bear LIBOR interest rates. These repurchase agreements are being accounted for as secured borrowings since the Company maintains effective control of the financed assets. For the years ended December 31, 2006 and 2005, the weighted average interest rate was 5.41% and 4.98%, respectively.

Wachovia Credit Facility

In July 2005, a subsidiary of the Company, entered into a $200 million master repurchase agreement with Wachovia Bank, National Association (the “Wachovia Facility”). The Wachovia Facility was amended in September 2005 and currently the Company may borrow up to $350 million under this credit facility in order to finance the acquisition of primarily real estate debt and other real estate loans and securities. The additional capacity and flexibility under the amendment will allow the Company to accumulate sufficient collateral for a contemplated subordinate debt CDO (“CDO VI”) and to continue to finance other investments.

In June 2006, the Company amended its master repurchase agreement with Wachovia Bank, National Association (the “Wachovia Facility”). Following the amendment, the Company may now borrow up to $500 million under the Wachovia Facility in order to finance the origination and acquisition of senior and subordinate debt and other real estate loans and securities. The additional capacity and flexibility under the Wachovia Facility will allow the Company to accumulate collateral for its next contemplated real estate debt CDO and to continue to finance other investments.

Advance rates under the Wachovia Facility range from 50% to 100% of the value of the collateral for which the advance is to be made. Amounts borrowed under the Wachovia Facility bear interest at spreads of 0.15% to 2.50% over one-month LIBOR, depending on the type of collateral for which the amount is borrowed. Additionally, if a securitization transaction with respect to the collateral subject to the Wachovia Facility is not consummated by March 23, 2007, certain advances under the Wachovia Facility will be subject to commitment and unused fees.

In November 2006, the Company amended the Wachovia Facility. Following the amendment, the Company may temporarily borrow up to $750 million under the Wachovia Facility in order to allow the Company to accumulate collateral for real estate debt CDO VIII which closed in December 2006. The proceeds from the CDO VIII closing was used to pay down the facility. Upon closing the CDO, the Company’s availability under this facility is $200 million.

For the year ended December 31, 2006 and 2005, the weighted average interest rate on the Wachovia Facility was 6.32% and 5.95%.

96

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

10. Borrowings – (continued)

Unsecured Revolving Line of Credit

On November 3, 2006, the Company entered into a Revolving Credit Agreement with Keybanc Capital Markets (the “Administrative Agent”) and Bank of America, N.A., as co-lead arrangers. The agreement provides for an unsecured, $100 million revolving credit facility, has a term of three years and bears interest at between 2.00% to 2.50% over LIBOR, based on the overall company leverage.

The facility is supported by an identified asset base with advance rates that vary from 40% to 90% of the asset value provided under a borrowing base calculation. The Administrative Agent has consent rights to the inclusion of assets in the borrowing base calculation.

The terms of the facility include covenants that (a) limit the Company’s maximum total indebtedness to no more than 90% of total assets, (b) require the Company’s fixed charge coverage ratio to be no less than 1.30 to 1.0, (c) require the Company to maintain minimum tangible net worth of not less than 85% of the Company’s tangible net worth at the closing of the facility, plus 75% of the net proceeds from equity offerings completed after the closing of the facility, (d) limit the Company’s recourse indebtedness to 10% of total assets, (e) restrict the Company from making distributions in excess of a maximum of 100% of our adjusted funds from operations, except that the Company may in any case pay distributions necessary to maintain our REIT status, and (f) require the Company to hedge our interest rate exposure such that a 100 basis point fluctuation in interest rates in a quarter would not negatively impact the Company 6;s adjusted funds from operations in such quarter annualized by greater than 10%. The facility also contains certain customary representations and warranties and events of default.

As of December 31, 2006 there were no outstanding borrowings under this facility.

Liability to Subsidiary Trusts Issuing Preferred Securities

In April 2005, May 2005 and November 2005 NorthStar Realty Finance Trust I, NorthStar Realty Finance Trust II and NorthStar Realty Finance Trust III (collectively “The Trusts”) sold, in three private placements, trust preferred securities for an aggregate amount of $40 million, $25 million and $40 million, respectively. The Company owns all of the common stock of the Trusts. The Trusts used the proceeds to purchase the Company’s junior subordinated notes which mature on March 30, 2035, June 30, 2035 and January 30, 2036, respectively. These notes represent all of the Trusts’ assets. The terms of the junior subordinated notes are substantially the same as the terms of the trust preferred securities. The trust preferred securities have a fixed interest rate of 8.15%, 7.74% and 7.81% per annum, respectively, during the first ten years, after which the interest rate will float and reset quarterly at the thre e-month LIBOR rate plus 3.25% per annum for Trusts I and II and three-month LIBOR rate plus 2.83% per annum on Trust III.

In March 2006, a wholly owned subsidiary of the Company completed a private placement of $50.0 million of trust preferred securities (“Trust IV”). The sale assets of the trust consist of like amount of Junior Subordinate Notes due on June 30, 2036 issued by the Company. The trust preferred securities have a 30 year term, ending June 30, 2036 and a fixed interest rate of 7.95% per annum, during the first ten years, after which the interest rate will float and reset quarterly at the three-month LIBOR rate plus 2.80% per annum.

In August 2006, a wholly owned subsidiary of the Company, NorthStar Realty Finance Trust V, completed a private placement of $30.0 million of trust preferred securities. The sole assets of the trust consist of a like amount of junior subordinate notes due September 30, 2036 issued by the Company. The trust preferred securities and the notes have a 30-year term, ending September 30, 2036, and bear interest at a floating rate of three-month LIBOR plus 2.70%. The Company has entered into an interest rate swap agreement, which fixed the interest rate for ten years at 8.16%.

97

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

10. Borrowings – (continued)

In October 2006, a wholly owned subsidiary of the Company, NorthStar Realty Finance Trust VI, completed a private placement of $25.0 million of trust preferred securities. The sole assets of the trust consist of a like amount of junior subordinate notes due December 30, 2036 issued by the Company. The trust preferred securities and the notes have a 30-year term, ending December 30, 2036, and bear interest at a floating rate of three-month LIBOR plus 2.90%. The Company has entered into an interest rate swap agreement, which fixed the interest rate for ten years at 8.02%.

The Company may redeem the notes, in whole or in part, for cash, at par, after five years. To the extent the Company redeems notes, the Trusts are required to redeem a corresponding amount of trust preferred securities. On September 16, 2005, the Company amended the trust agreements and indentures to modify some of the payment dates for a portion of the junior subordinated notes.

The ability of the Trusts to pay dividends depends on the receipt of interest payments on the notes. The Company has the right, pursuant to certain qualifications and covenants, to defer payments of interest on the notes for up to six consecutive quarters. If payment of interest on the notes is deferred, the Trust will defer the quarterly distributions on the trust preferred securities for a corresponding period. Additional interest accrues on deferred payments at the annual rate payable on the notes, compounded quarterly.

11. Commitments and Contingencies

Obligations Under Capital Leases and Operating Lease Agreements

The Company is the lessee of two locations under capital leases, seven ground leases under operating real estate and three corporate offices that are located in New York City, Los Angeles and Dallas. The following is a schedule of minimum future rental payments under these contractual lease obligations as of December 31, 2006:

Years Ending December 31:
2007	$	5,977
2008		5,966
2009		6,110
2010		6,124
2011		6,061
Thereafter		74,753
Total minimum lease payments		104,991
Less amounts representing interest		12,801
Future minimum lease payments	$	92,190

Under one of the capital leases, the Company also pays rent equal to 15% of the minimum rental income received from the sub-tenant.

12. Rental Income Under Operating Leases

Rental income from real estate is derived from the leasing and sub-leasing of space to commercial tenants. The leases are for fixed terms of varying length and provide for annual rentals and expense reimbursements to be paid in monthly installments.

98

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

12. Rental Income Under Operating Leases – (continued)

The following is a schedule of future minimum rental income under non-cancelable leases at December 31, 2006:

Years Ending December 31:
2007	$	44,417
2008		45,233
2009		45,512
2010		43,142
2011		43,694
Thereafter		234,724
	$	456,722

Included in rental income is percentage rent of $513, $559 and $110 for the year ended December 31, 2006, December 31, 2005 and the period October 29, 2004 to December 31, 2004, respectively.

13. Related Party Transactions

Shared Facilities and Services Agreement

Upon consummation of the IPO, the Company entered into a one-year agreement with NCIC pursuant to which NCIC agreed to provide the Company, directly or through its subsidiaries, with facilities and services as follows: 1) fully-furnished office space for the Company’s employees at NCIC’s corporate headquarters; 2) use of common facilities and office equipment, supplies and storage space at NCIC’s corporate headquarters; 3) accounting support and treasury functions; 4) tax planning and REIT compliance advisory services; and 5) other administrative services, for an annual fee of $1.57 million, payable in monthly installments, plus additional charges for out-of-pocket expenses and taxes. This fee was subject to reduction by the amount that the Company paid certain employees of NCIC who became co-employees upon consummation of the IPO.

On October 29, 2005, the Company terminated the agreement and entered into a more limited sublease agreement with NorthStar Capital. Under the new sublease effective November 1, 2005, the Company rents from NorthStar Capital office space currently used by its accounting, legal and administrative personnel on a month to month basis. The sublease rent is calculated as a per person monthly charge, based on a “turn key” office arrangement (computer, network, telephone and furniture supplied) for each person utilizing NorthStar Capital facilities. These direct costs are reflected in other general and administrative expenses.

Total fees and expenses incurred by the Company under the shared facilities and services agreement amounted to $0.8 million, $1.1 million and $0.2 million for the year ended December 31, 2006 and 2005 and for the period from October 29, 2004 to December 31, 2004, respectively. No amounts were payable to NCIC at December 31, 2006 and 2005.

Advisory Fees

In August 2003, July 2004, March 2005 and September 2005, the Company and Predecessor entered into agreements with CDO I, CDO II, CDO III and CDO V, respectively, to perform certain advisory services.

The Company and Predecessor earned total fees of approximately $5.8 million, $4.2 million, $0.5 million and $1.6 million for the years ended December 31, 2006 and 2005, for the period October 29 to December 31, 2004 and for the period January 1 to October 28, 2004, respectively, of which $0.3 million, $0.2 million and $0.1 million is unpaid and included in the Company’s balance sheets as of December 31, 2005 and December 31, 2004, respectively, as receivables from related parties.

99

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

13. Related Party Transactions – (continued)

The Company also earned a structuring fee of $0.5 million in connection with the closing of CDO III in March 2005, which was used to reduce its investment in CDO III which is included in debt securities available for sale in the consolidated balance sheet.

NSF Venture

In 2001, NCIC entered into an advisory agreement with the NSF Venture, whereby it receives as compensation for its management of the origination and underwriting of the investments of the NSF Venture, an advisory fee equal to 1% per annum of the capital invested by the NSF Venture. In November 2003, NCIC assigned the right to receive such fees to NFMM. For years prior to such assignment, the advisory fees have been reflected as part of the Predecessor with a corresponding decrease in contributed capital. The Company and Predecessor earned and recognized fees of approximately $0.1 million, $0.5 million, $0.2 million and $0.9 million, for the year ending December 31, 2006, 2005 and the periods October 29, 2004 to December 31, 2004 and for the period of January 1 to October 28, 2004, respectively.

In February 2006, the Company sold its interest in the NSF Venture and terminated the associated advisory agreements.

Management Fees – Related Parties

On December 28, 2004, ALGM terminated its existing asset management agreement with Emmes Asset Management Co. LLC (“Emmes”), an affiliate of NCIC. Pursuant to the termination provisions of the agreement, ALGM paid Emmes a contractual termination payment of approximately $385,000, which is equal to two quarters of payments of the annual existing fee. In addition, ALGM and Emmes entered into a new asset management agreement, which is cancelable on 30 days notice. The annual asset management fee under the new agreement is equal to 3.5% of gross collections from tenants of the properties not to exceed $350. Total fees incurred under this agreement amounted to $89, $291 and $516, including the termination payment of $385, for the years ended December 31, 2006, 2005 and the period from October 29, 2004 to December 31, 2004, respectively, which are included in property operating expenses in the consolidated statement of operations. A portion of the management fee was allocated to the properties sold or held for sale and was classified in income from discontinued operations in the consolidated statement of operations. See Note 3.

EDS Portfolio

In connection with the acquisition of the EDS portfolio, Koll Development Company, an affiliate of NCIC, received a brokerage commission of $921,000. The acquisition and the associated brokerage fees payable to Koll Development Company were approved in advance by all of the disinterested members of the Board of Directors.

Legacy Fund

In September 2005, the Company entered into a loan agreement, as lender, with a subsidiary of Legacy Partners Realty Fund I, LLC, (the “Legacy Fund”), as borrowers, in the original principal amount of $66.6 million, secured by a first-priority mortgage lien on an office property located in San Jose, California. At the closing of this loan the Company funded $60.9 million of the original principal amount and has an additional $5.7 million of future funding commitments. Simultaneously with the closing of this loan, the Company entered into a participation and servicing agreement with a major financial institution pursuant to which the Company sold a 50% participation in this loan and the future funding commitments.

Additionally, the Company entered into a loan agreement with another subsidiary of the Legacy Fund in the original principal amount of $47.4 million, secured by a first-priority mortgage lien on an office property located in San Jose, California. The Company funded $32.6 million at closing and has an additional $14.8 million of future

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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

13. Related Party Transactions – (continued)

funding commitments. Simultaneously with the closing of this loan, the Company entered into a participation and servicing agreement with a major financial institution pursuant to which the Company sold a 50% participation in this loan and the future funding commitments.

One of the Company’s directors, Preston Butcher, is the chairman of the Board of Directors and chief executive officer and owns a significant interest in Legacy Partners Commercial, LLC, which indirectly owns an equity interest in, and owns the manager of, the Legacy Fund. The disinterested members of the Company’s Board of Directors approved this transaction.

14. Fair Value of Financial Instruments

The following disclosures of estimated fair value were determined by management, using available market information and appropriate valuation methodologies. Considerable judgment is necessary to interpret market data and develop estimated fair values. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize on disposition of the financial instruments. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.

As of December 31, 2006 and 2005, cash equivalents, accounts receivable, accounts payable, repurchase agreements with major banks and securities firms and the master repurchase agreement balances reasonably approximate their fair values due to the short-term maturities of these items. The CDO deposit and warehouse agreement, debt securities available for sale and securities sold, not yet purchased are carried on the balance sheet at their estimated fair value. Due to the floating rate, mortgage notes payable and loan receivables are carried at amounts that reasonably approximate their fair value.

For fixed rate loan receivables fair value is estimated using quoted market prices or by discounting future cash flows using current rates at which similar loans would be made to similar borrowers with similar credit risk. The Company’s fixed rate loan receivables carrying value for the years ended December 31, 2006 and 2005 reasonably approximated their fair value.

For fixed rate mortgage loans payable the Company uses rates currently available to them with similar terms and remaining maturities to estimate their fair value. The carrying value of the mortgage notes payable for the year ended December 31, 2006 reasonably approximate their fair market value. For the year ended December 31, 2005 the fair market value was $172.0 million with a carrying amount of $174.2 million.

Disclosure about fair value of financial instruments is based on pertinent information available to management as of December 31, 2006 and 2005. Although management is not aware of any factors that would significantly affect the fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since that date and current estimates of fair value may differ significantly from the amounts presented herein.

15. Equity Based Compensation

Employee Buy-Outs

NSA Advisors Profit Sharing Buy-Out

In connection with the Contribution Transactions, the Company agreed to buy-out the vested and unvested profit sharing arrangement of an employee of NSA for 206,850 OP Units and $88,000 in cash. The OP Units are subject to a vesting schedule identical to the one the employee had with the profit sharing arrangement (one third vested at July 31, 2003, and one third vests on each of the anniversaries following). The OP Units received were

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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

15. Equity Based Compensation – (continued)

recorded as compensation expense in accordance with SFAS 123. The fair value of the award was $1,862,000 based upon the fair market value of the OP Units at the date of the buy-out. In connection with the buy-out, the Company recognized $1,572,000 in compensation expense for the period of October 29, 2004 through December 31, 2004 in the consolidated statement of operations. The remaining balance of $378,000 was recognized into compensation expense for the year ended December 31, 2005.

NFMM Employee Ownership Interests Buy-Out

In connection with the Contribution Transactions, the Company agreed to acquire a 25% ownership interest in NFMM held by an employee of NCIC and a former employee of NCIC for 173,128 OP Units. The fair value of OP Units issued in excess of the fair value of the ownership interest received was recorded as compensation expense in accordance with SFAS 123. The fair value of the award was $1,558,000 and the estimated fair value of the ownership interest was $558,000, which resulted in $1,000,000 of compensation expense recorded in the consolidated statement of operations for the period of October 29, 2004 through December 31, 2004. The fair value of the ownership interest acquired in excess of historical costs basis of the minority interest was recorded as a purchase adjustment, which was allocated to an intangible asset on the consolidated balance sheet, which was fully amortized in 2006 in connection with the sale of the Company’s interest in the NSF Venture.

Omnibus Stock Incentive Plan

On September 14, 2004, the Board of Directors of the Company adopted the NorthStar Realty Finance Corp. 2004 Omnibus Stock Incentive Plan (the “Stock Incentive Plan”). The Stock Incentive Plan provides for the issuance of stock-based incentive awards, including incentive stock options, non-qualified stock options, stock appreciation rights, shares of common stock of the Company, including restricted shares, and other equity-based awards, including OP Units which are structured as profits interests (“LTIP Units”) or any combination of the foregoing. The eligible participants in the Stock Incentive Plan include directors, officers and employees of the Company, and prior to October 29, 2005, employees pursuant to the shared facilities and services agreement. An aggregate of 5,933,038 shares of common stock of the Company are currently reserved and authorized for issuance under the Stock Incentive Plan, subject t o equitable adjustment upon the occurrence of certain corporate events. To date, the Company has issued an aggregate of 1,683,130 LTIP Units of restricted common stock pursuant to the Stock Incentive Plan. LTIP Units vest to the individual recipient at a rate of one-twelfth of the total amount granted as of the end of each quarter, beginning with the first quarter after the date of grant ended either January 29, April 29, July 29, or October 29 for the three-year vesting period so long as the recipient continues to be an eligible recipient. In addition, the LTIP Unit holders are entitled to dividends on the entire grant beginning on the date of the grant. Dividends or dividend equivalents paid on the portion of the grant that vested will be charged to retained earnings. Non forfeitable dividends or dividend equivalents paid on LTIP Units that are not vested will be recognized as additional compensation cost.

The awards granted to the NCIC employees who provided services to the Company pursuant to the shared facilities and services agreement and certain co-employees were accelerated and became fully vested upon the termination of the shared facility and service agreement on October 29, 2005. The additional compensation expense related to the accelerated vesting was approximately $0.4 million.

The Company has recognized compensation expense of $4.5 million, $3.2 million and $0.4 million related to the amortization of awards granted under this plan for the years ended December 31, 2006 and 2005 and the period October 29, 2004 through December 31, 2004, respectively.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

15. Equity Based Compensation – (continued)

Long-Term Incentive Bonus Plan

On September 14, 2004, the Board of Directors of the Company adopted the NorthStar Realty Finance Corp. 2004 Long-Term Incentive Bonus Plan (the “Incentive Bonus Plan”), in order to retain and provide incentive to officers and certain key employees of the Company, co-employees of the Company and NCIC and employees of NCIC who will provide services to the Company pursuant to the shared facilities and services agreement. Up to 2.5% of the Company’s total capitalization as of consummation of the IPO is available to be paid under the Incentive Bonus Plan in cash, shares of common stock of the Company or other share-based form at the discretion of the compensation committee of the Company’s Board of Directors, if certain return hurdles are met.

An aggregate of 698,142 shares of common stock of the Company are currently reserved and authorized for issuance under the Incentive Bonus Plan, subject to equitable adjustment upon the occurrence of certain corporate events. On November 19, 2004, an aggregate of 665,346 shares of common stock of the Company were allocated to officers, employees and co-employees of the Company and NCIC for awards under the Incentive Bonus Plan if the Company achieves the return hurdles established by the compensation committee. The Company’s compensation committee has established the return hurdle for these performance periods as an annual return on paid in capital as defined in the plan, equal to or greater than 12.5%. If the Company achieves these return hurdles, the vested awards may be paid in cash, shares of common stock, LTIP Units or other share based form.

Each of the participants will be entitled to receive half of his or her total reserved amount if the Company meets the return hurdle for the one-year period beginning October 1, 2005 and such participant is employed through the end of this first performance period. Each of the participants will be entitled to the other half of his or her total reserved amount if the Company meets the return hurdle for the one-year period beginning on October 1, 2006 and such participant is employed through the end of this second performance period. If the Company does not meet the performance hurdles for either period, the award amounts are generally forfeited, provided that, if the Company does not meet the return hurdle for the one-year period beginning October 1, 2005, but the Company meets the return hurdle for the two-year period beginning October 1, 2005 (determined by averaging the Company’s performance over the 2-year period)&n bsp;and a participant is employed through the end of this two-year period, such participant will be entitled to receive his or her total reserved amount.

At December 31, 2005, management determined it would meet the performance hurdles and in accordance with FASB 123(R) the Company has recognized compensation expense in the consolidated financial statements for the year ended December 31, 2006 and 2005 of $2.0 million and $2.2 million (which included a catch-up adjustment of $1.7 million). The Company achieved the performance hurdle for the first performance period and 332,082 shares were awarded to eligible participants

Employee Outperformance Plan

In connection with the employment agreement of the Company’s chief investment officer, he is eligible to receive incentive compensation equal to 15% of the annual net profits from the Company’s real estate securities business in excess of a 12% return on invested capital (the annual bonus participation amount). The Company will have the option of terminating this incentive compensation arrangement at any time after the third anniversary of the date of its IPO by paying the Company’s chief investment officer an amount based a multiple of the estimated annual bonus participation amount, at the time it exercises this buyout option. If the Company exercises this buyout option, the fixed amount due for terminating this arrangement will vest ratably and be paid in four installments over a three-year period with 25% paid on termination. If the Company’s chief investment officer voluntarily terminates his employment with the Compan y prior to any exercise of the Company’s buyout option, he will be eligible to receive future annual payments based on the future real estate securities annual net profits in excess of the 12% return hurdle on invested capital. The portion of the annual benefit to which the chief investment officer is eligible after voluntary termination increases with each year of employment until the fifth anniversary, at which point the

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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

15. Equity Based Compensation – (continued)

chief investment officer is 100% vested in the full amount of the payment that would be due related to the annual bonus participation amount on the real estate securities business income earned on, business initiated five years earlier, over the return hurdle. Compensation has been earned by the Company’s chief investment officer under this plan for the years ended December 31, 2006 and 2005 of $0.7 million and $0.2 million, respectively, and there was no compensation earned for the period October 29, 2004 through December 31, 2004.

2006 Outperformance Plan

In January 2006, the Compensation Committee of the Board of Directors approved the NorthStar Realty Finance Corp. 2006 Outperformance Plan (the “Outperformance Plan”), a long-term compensation program, to further align the interests of the Company’s stockholders and management. Under the 2006 Outperformance Plan, award recipients will share in a “performance pool” if the Company’s total return to stockholders for the period from January 1, 2006 (measured based on the average closing price of our common stock for the 20 trading days prior to January 1, 2006) to December 31, 2008 exceeds a cumulative total return to stockholders of 30%, including both share price appreciation and dividends paid. The size of the pool will be 10% of the outperformance amount in excess of the 30% benchmark, subject to a maximum dilution cap equal to $40 million, exclusive of accrued dividends. Each employee’s a ward under the 2006 Outperformance Plan will be designated as a specified percentage of the aggregate performance pool. Assuming the 30% benchmark is achieved, the performance pool that is established under the Outperformance Plan will be allocated among the Company’s employees in accordance with the percentage specified in each employee’s award agreement. Although the amount of the awards earned under the Outperformance Plan will be determined when the performance pool is established, not all of the awards vest at that time. Instead, 50% of the awards vest on December 31, 2008 and 25% of the awards vest on each of the first two anniversaries thereafter based on continued employment. The Company recorded the compensation expense for the Outperformance Plan in accordance with SFAS 123 (R) “Stock Based Compensation”. The fair value of the Outperformance Plan on the date of adoption was determined to be $4.1 million based upon a third-party appraisal by an independent firm that is an expert in valuing target based compensation plans. The Company will amortize 50% of the value into compensation expense over the first three years of the plan, 25% will be amortized over four years and the remaining 25% over five years. The Company recorded compensation expense of $1.1 million for the year ended December 31, 2006.

16. Stockholders’ Equity

Common Stock

On June 24, 2005, the Company granted a total of 15,194 shares to the members of its Board of Directors as part of their annual grants.

In December 2005, the Company closed a secondary public offering of 9.2 million common shares at $9.25 per share, which included 1.2 million shares to cover the underwriters’ over-allotment. Net proceeds from the offering were approximately $78.9 million. The proceeds from the offering were used to pay down short term debt and to fund new investments.

In March 2006, the Company granted a total of 4,808 shares to a new member of the Company’s Board of Directors.

In May 2006, the Company issued 17,049 shares to its Board of Directors as part of their annual grants.

In May 2006, the Company completed a secondary public offering for 10,000,000 shares at $10.60 per share and in June 2006 the underwriters exercised their over-allotment option and acquired 1,528,616 additional shares. The net proceeds of approximately $114.7 million were used to pay down short term debt and to fund new investments. In November 2006, the Company completed a public offering for 12,391,385 shares at $14.95 per share

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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

16. Stockholders’ Equity – (continued)

and in December 2006 the underwriters exercised their over-allotment option and acquired 2,400,000 additional shares. The net proceeds of approximately $208.8 million were used to pay down short term debt and to fund new investments.

Preferred Stock

In September 2006, the Company completed a public offering of 2,400,000 shares of 8.75% Series A Cumulative Redeemable Preferred Stock at a price of $25.00 per share. The net proceed from the offering was $57.9 million.

Dividends

On April 21, 2005, the Company declared a cash dividend of $0.15 per share of common stock. The dividend was paid on May 16, 2005 to the shareholders of record as of the close of business on May 2, 2005.

On July 28, 2005, the Company declared a cash dividend of $0.15 per share of common stock. The dividend was paid on August 15, 2005 to the shareholders of record as of the close of business on August 8, 2005.

On October 6, 2005, the Company declared a dividend of $0.23 per share of common stock, payable to stockholders of record as of October 14, 2005. The Company made this payment on October 21, 2005.

On January 26, 2006, the Company declared a cash dividend of $0.27 per share of common stock. The dividend was paid on February 10, 2006 to the shareholders of record as of the close of business on February 3, 2006.

On April 12, 2006, the Company declared a cash dividend of $0.30 per share of common stock. The dividend was paid on April 26, 2006 to the shareholders of record as of the close of business on April 19, 2006.

On July 25, 2006, the Company declared a cash dividend of $0.30 per share of common stock. The dividend was expected to be paid on August 11, 2006 to the shareholders on record as of the close of business on August 4, 2006.

On October 24, 2006, the Company declared a cash dividend of $0.34 per share of common stock. The dividend is expected to be paid on November 15, 2006 to the shareholders on record as of the close of business on November 6, 2006.

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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

17. Minority Interest

Minority interest represents the aggregate limited partnership interests or OP Units in the Operating Partnership held by limited partners (the “Unit Holders”). Income allocated to the minority interest is based on the Unit Holders ownership percentage of the Operating Partnership. The ownership percentage is determined by dividing the numbers of OP Units held by the Unit Holders by the total OP Units outstanding. The issuance of additional shares of beneficial interest (the “Common Shares” or “Share”) or OP Units changes the percentage ownership of both the Unit Holders and the Company. Since a unit is generally redeemable for cash or Shares at the option of the Company, it is deemed to be equivalent to a Share. Therefore, such transactions are treated as capital transactions and result in an allocation between shareholders’ equity and minority interest in the accompanying consolidated balance sheet to account for the change in the ownership of the underlying equity in the Operating Partnership.

In conjunction with the formation of the Company, certain persons and entities contributing ownership interests in the Predecessor to the Operating Partnership received OP Units. Upon consummation of the IPO, 19.0% of the carrying value of the net assets of the Operating Partnership was allocated to minority interest. As a result of the exercise of the underwriters’ over-allotment option of 1,160,750 shares on November 19, 2004, the minority interests were reduced to 18.2%.

Under their respective contribution agreements, NCIC and affiliates directly and/or indirectly received 4,705,915 OP Units.

During 2006, 4,403,601 OP/LTIP units were converted to Common Stock.

Minority interest at December 31, 2006, 2005 and 2004 represents 3.15%, 15.3% and 18.2%, respectively.

18. Risk Management and Derivative Activities

Derivatives

The Company uses derivatives primarily to manage interest rate risk exposure. These derivatives are typically in the form of interest rate swap agreements and the primary objective is to minimize interest rate risks associated with the Company’s investment and financing activities. The counterparties of these arrangements are major financial institutions with which the Company may also have other financial relationships. The Company is exposed to credit risk in the event of non-performance by these counterparties; however, the Company does not anticipate that any of the counterparties will fail to meet their obligations because of their high credit ratings. The objective in using interest rate derivatives is to add stability to interest expense and to manage exposure to interest rate movements.

The Company has acquired all the notes of a synthetic CMBS CDO, that entered into a credit default swap agreement with a major financial institution to sell credit protections on a pool of CMBS securities. As of December 31, 2006, the credit default swap fair market value was $0 and therefore there are no unrealized gains or losses were recorded in the consolidated statement of operations. The Company’s maximum exposure to loss on the credit default swap is limited to its $54.2 million initial investment. See Note 4 for additional information.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

18. Risk Management and Derivative Activities – (continued)

December 31, 2006	Notional Value		Strike Rate		Expiration Date	Fair Value
Interest rate swap	$	5,100	4.18	%	12/2010	$	151
Interest rate swap		6,160	4.29		08/2012		224
Interest rate swap		3,290	4.80		12/2013		49
Interest rate swap		2,842	5.04		08/2018		26
Interest rate swap		5,492	4.76		03/2013		81
Interest rate swap		3,465	4.41		03/2010		61
Interest rate swap		4,000	4.66		11/2015		104
Interest rate swap		15,000	5.08		05/2016		(61	)
Interest rate swap		3,765	4.98		07/2015		7
Interest rate swap		3,567	4.98		06/2015		6
Interest rate swap		5,957	5.06		08/2015		10
Interest rate swap		23,300	4.99		12/2012		(22	)
Interest rate swap		2,686	5.02		02/2016		(2	)
Interest rate swap		20,000	5.05		06/2013		(2	)
Interest rate swap		12,750	5.06		08/2017		61
Interest rate swap		7,700	5.30		05/2010		(82	)
Interest rate swap		14,000	5.03		10/2015		(22	)
Interest rate swap		323,505	5.53		06/2018		(9,808	)
Basis swap		5,000	7.07		12/2015		(6	)
Basis swap		15,000	7.31		06/2018		(11	)
Interest rate swap		60,000	5.52		06/2016		(2,251	)
Interest rate swap		16,200	5.52		06/2018		(645	)
Interest rate swap		49,404	5.63		07/2016		(2,021	)
Interest rate swap		13,200	5.06		02/2008		13
Interest rate swap		49,150	4.88		03/2008		163
Interest rate swap		30,000	5.46		09/2016		(943	)
Interest rate swap		25,000	5.12		09/2016		(135	)
Total	$	725,533				$	(15,055	)

December 31, 2005	Notional Value		Strike Rate		Expiration Date	Fair Value
Interest rate swap	$	5,100	4.18	%	12/2010	$	144
Interest rate swap		6,160	4.29		08/2012		190
Interest rate swap		3,290	4.80		12/2013		10
Interest rate swap		2,842	5.04		08/2018		(32	)
Interest rate swap		5,492	4.76		03/2013		27
Interest rate swap		3,465	4.41		03/2010		51
Interest rate swap		9,563	4.55		08/2017		247
Interest rate swap		4,000	4.66		11/2015		48
Interest rate swap		13,331	4.76		08/2015		40
Total	$	53,243				$	725

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

18. Risk Management and Derivative Activities – (continued)

Credit Risk Concentrations

Concentration of credit risk arise when a number of borrowers, tenants or issuers related to the Company’s investments are engaged in similar business activities or located in the same geographic location to be similarly affected by changes in economic conditions. The Company monitors its portfolio to identify potential concentrations of credit risks. The Company believes its portfolio is reasonably well diversified and does not contain any unusual concentration of credit risks.

19. Off Balance Sheet Arrangements

CDO Issuances

The Company has interests in four CDO issuances, whose CDO notes are primarily collateralized by investment grade real estate securities. The Company generally purchases the preferred equity or the income notes of each CDO, which are the equity securities of the CDO issuances, and, with the exception of CDO I, all of the below investment grade CDO Notes of each CDO issuance. In addition, the Company earns a fee of 0.35% of the outstanding principal balance of the assets backing each of these CDO issuances as an annual collateral management fee. The Company’s and the Predecessor’s interests in CDO I, CDO II, CDO III and CDO V are each accounted for as a single debt security available for sale pursuant to EITF 99-20.

The following tables describe certain terms of the collateral for and the notes issued by CDO I, CDO II, CDO III and CDO V as follows for the year ended December 31, 2006 and 2005:

	CDO Collateral – December 31, 2006						CDO Notes – December 31, 2006
Issuance	Date Closed	Par Value of CDO Collateral		Weighted Average Interest Rate		Weighted Average Expected Life (years)	Outstanding CDO Notes(1)		Weighted Average Interest Rate at 12/31/06		Stated Maturity
CDO I(2)	8/21/03	$	344,769	6.59	%	5.40	$	325,551	6.22	%	8/01/2038
CDO II	7/01/04		377,911	6.30	%	6.30		341,101	5.78	%	6/01/2039
CDO III	3/10/05		400,963	6.38	%	5.95		359,878	5.90	%	6/01/2040
CDO V	9/22/05		501,021	5.92	%	9.03		461,500	5.17	%	9/05/2045
Total		$	1,624,664				$	1,488,030

——————

(1)

Includes only notes held by third parties.

(2)

The Company has an 83.3% interest.

		CDO Collateral – December 31, 2005							CDO Notes – December 31, 2005
Issuance	Date Closed	Par Value of CDO Collateral		Weighted Average Interest Rate		Weighted Average Rating	Weighted Average Expected Life (years)		Outstanding CDO Notes(1)		Weighted Average Interest Rate at 12/31/05(3)		Stated Maturity
CDO I(2)	8/21/03	$	352,041	6.62	%	BBB/BBB-	6.01	%	$	332,831	6.13	%	8/01/2038
CDO II	7/01/04		392,841	6.25	%	BBB/BBB-	6.65	%		356,170	5.58	%	6/01/2039
CDO III	3/10/05		401,790	6.06	%	BBB-	6.69	%		360,973	5.59	%	6/01/2040
CDO V	9/22/05		500,969	5.69	%	BBB	9.08	%		461,500	2.89	%	9/05/2045
Total		$	1,647,641						$	1,511,474

——————

(1)

Includes only notes held by third parties.

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NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
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NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

19. Off Balance Sheet Arrangements – (continued)

(2)

The Company has an 83.3% interest.

(3)

Includes the effect of the interest rate swap held in each CDO. The weighted average interest rate for CDO V reflects the initial payment from the swap counterparty for CDO V. The effective interest rate on the CDO V Notes will increase in subsequent periods.

Monroe CLO Equity Notes

In December 2006, the Company acquired 40% of the residual equity interests in a CLO originated by Monroe Capital, LLC, a specialty finance company, for $16.7 million. The CLO includes collateral of approximately $400 million backed primarily by first lien senior secured loans. Based on the projected future cash flows the equity is yielding an internal rate of return of approximately 18%. The CLO was determined to be a variable interest entity under Fin46(R)-6 and the Company was determined not to be the primary beneficiary therefore the financial statements are not consolidated into the condensed financial statements of the Company. The Company’s residual equity interests are accounted for as debt securities available for sale pursuant to EITF 99-20.

In August 2006, the Company acquired all of the notes issued in a synthetic CMBS CDO referred to as SEAWALL 2006-4a for $27 million of which $12.0 million was acquired by the Company’s warehouse provider (see note 5). The notes of this CDO bear interest backed by a combination of AAA floating rate securities and a fixed spread earned by the CDO for having sold credit protection on a portfolio of investment grade-rated reference securities. The notes yield a blended spread above LIBOR of approximately 4.41%. Any losses on the reference securities will require the CDO to liquidate a portion of the AAA collateral in order to make payments to credit protection buyer under the credit default swaps. SEAWALL 2006-4a is determined to be a Qualified Special Purpose Entity (“QSPE”) and accordingly is not consolidated. The notes acquired are accounted for as debt securities available for sale and are carried at their fair value with n et unrealized gains or loss reported as a component of other comprehensive income.

The Company’s potential loss in its off balance sheet investments is limited to the carrying value of its investment, which is $126.6 million and $90.0 million, respectively, at December 31, 2006 and 2005.

20. Quarterly Financial Information (Unaudited)

The tables below reflect the Company’s selected quarterly information for the Company and the Predecessor for the years ended December 31, 2006, 2005 and 2004.

109

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

20. Quarterly Financial Information (Unaudited) – (continued)

	Three Months Ended
	December 31, 2006		September 30, 2006		June 30, 2006		March 31, 2006
	(unaudited)
Total revenue	$	66,428	$	58,609	$	39,132	$	31,770
Income from continuing operations before minority interests		15,274		10,932		6,015		8,821
Income from continuing operations		14,762		9,674		5,164		7,423
Net income per share – basic/diluted	$	0.29	$	0.23	$	0.15	$	0.25
Weighted-average shares outstanding
basic		50,010,028		42,513,172		34,980,352		30,556,586
diluted		54,109,492		48,068,996		40,744,276		36,323,517

	Three Months Ended
	December 31, 2005		September 30, 2005		June 30, 2005		March 31, 2005
Total revenue	$	23,233	$	17,232	$	13,345	$	11,287
Income from continuing operations before minority interests		2,095		5,620		1,261		1,413
Income from continuing operations		22,178		4,616		9,823		1,055
Net income per share – basic/diluted	$	0.96	$	0.22	$	0.46	$	0.05
Weighted-average shares outstanding
basic		23,164,930		21,264,930		21,250,240		21,249,736
diluted		28,708,507		26,790,161		26,766,315		26,760,770

	Three Months Ended
			Predecessor
	December 31, 2004(1)			September 30, 2004		June 30, 2004			March 31, 2004
Total revenue	$	6,620		$	1,937	$	945		$	908
Income (loss) from continuing operations before minority interests		(3,002	)		350		(183	)		955
Net income (loss) from continuing operations		(2,367	)		350		(183	)		955
Net income per share – basic		($0.12	)		—		—			—
Weighted-average shares outstanding
basic		20,868,865			N/A		N/A			N/A
diluted		25,651,027			N/A		N/A			N/A

——————

(1)

In order to present quarterly information for the quarter ended December 31, 2004, the Company has combined our predecessor’s results for the period from October 1, 2004 to October 28, 2004 with the results of its operations for the period from October 29, 2004 to December 31, 2004.

110

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

21. Segment Reporting

The Company’s real estate debt segment is focused on originating, structuring and acquiring senior and subordinate debt investments secured primarily by commercial real estate properties. The Company generates revenues from this segment by earning interest income from its debt investments and its operating expenses consist primarily of interest costs from financing the assets. This segment generates income from operations by earning a positive spread between the yield on its assets and the interest cost of its debt. The Company evaluates performance and allocates resources to this segment based upon its contribution to income from continuing operations.

The Company’s real estate securities segment is focused on investing in a wide range of commercial real estate debt securities, including commercial mortgage-backed securities (“CMBS”), REIT unsecured debt, credit tenant loans and unsecured subordinate securities of commercial real estate companies. The Company generates revenues from this segment by earning interest income and advisory fees from owning and managing these investments. Its operating expenses consist primarily of interest costs from financing its securities. The segment generates income from operations by earning advisory fees and a positive spread between the yield on its assets and the interest cost of its debt.

The Company’s operating real estate segment is focused on acquiring commercial real estate facilities located throughout the U.S. that are primarily leased under long-term triple-net leases to corporate tenants. Triple-net leases generally require the lessee to pay all costs of operating the facility, including taxes and insurance and maintenance of the facility. The Company’s net-leased facilities are currently located in New York, Ohio, California, Utah, Pennsylvania, New Jersey, Indiana, Illinois, New Hampshire, Massachusetts, Kansas, Maine and Michigan. Revenues from these assets are generated from rental income received from lessees of the facilities, and operating expenses include interest costs related to financing the assets, operating expenses, real estate taxes, insurance, ground rent and repairs and maintenance. The segment generates income from operations by leasing these facilities at a higher rate than its costs of owning and financing the assets.

The following table summarizes segment reporting for the years ended December 31, 2006 and 2005
(in thousands):

	Operating Real Estate			Real Estate Debt		Real Estate Securities		Unallocated(1)			Consolidated Total
Total revenues for the twelve months ended
December 31, 2006		39,432			111,855		40,506		4,146			195,939
December 31, 2005		11,451			31,602		13,170		8,874			65,097
Income (loss) from continuing operations for the twelve months ended
December 31, 2006		(3,441	)		46,145		23,922		(25,584	)		41,042
December 31, 2005		(476	)		13,136		12,690		(14,961	)		10,389
Net income (loss) for the twelve months ended
December 31, 2006		(2,745	)		46,423		23,922		(29,535	)		38,065
December 31, 2005		28,923			13,136		12,690		(17,077	)		37,672
Total assets as of
December 31, 2006	$	580,508		$	1,693,536	$	774,736	$	136,840		$	3,185,620
December 31, 2005	$	240,438		$	735,594	$	147,329	$	33,204		$	1,156,565

——————

(1)

Unallocated includes interest income and interest expense related to our temporary investments and also includes corporate level and general & administrative expenses.

111

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

22. Subsequent Events (Unaudited)

Real Estate Debt

Subsequent to December 31, 2006, the Company originated $203.6 million of new real estate debt investments, consisting of eight floating rate loans and one fixed rate loan. The weighted average interest rate of the floating rate loans is LIBOR plus a spread of 3.52%. The interest rate on the fixed rate loan is 11.30%.

Warehouse Agreements

In February 2007, the Company entered into a warehouse arrangement with a major commercial bank whereby the bank has agreed to purchase up to $600.0 million CMBS synthetic assets and other real estate debt securities under the Company’s direction with the expectation of selling such securities to the Company’s next securities CDO. The Company has made $2.0 million of deposits and the bank has accumulated $17.8 million securities under this warehouse agreement.

CDO Closing

In 2007, the Company completed an $800 million on-balance sheet CDO financing (“CDO IX”) backed primarily by the Company’s real estate securities investments. The Company sold investment grade notes having a face amount of approximately $759.0 million and retained approximately $41.0 million of the income notes and the below investment grade-rated notes. The weighted average interest rate on the investment grade notes, including fees and expenses, was LIBOR plus 0.46% and their weighted average life is approximately 12 years.

In February 2007, the Company purchased a 178,213 square foot office property located in Milpitas, CA. The property is net leased for ten years to Credence Corp. The Company financed the acquisition with a $23.3 million non-recourse first mortgage, bearing a fixed interest rate of 5.95%, and the balance in cash.

Wakefield Joint Venture

In January 2007, the Wakefield joint venture closed on the three acquisitions described below:

A $101.0 million acquisition of a portfolio of 19 assisted living facilities in Wisconsin, on 15 campuses throughout the state, consisting of 372,349 square feet. The properties are net leased to a single tenant under a lease that expires January 2017. The portfolio was financed with fifteen non-recourse first mortgages totaling $75 million bearing a fixed interest rate of 6.39%, maturing in February 2017, and the balance in cash.

A $214.9 million acquisition of a portfolio of 28 assisted living properties located in California, Georgia, Illinois, Nebraska, Ohio, Oklahoma, Tennessee and Texas, consisting of 1,063,387 square feet. The properties are net leased to a single tenant under a lease that expires in January 2017. The portfolio was financed with a non-recourse first mortgage totaling $160 million bearing a fixed interest rate of 6.49%, maturing in January 2017 and the balance in cash.

A $10.5 million acquisition of two assisted living properties in Illinois, consisting of 72,786 square feet. The properties are net leased to a single tenant under a lease that expires in January 2017. The acquisition was financed with a $7.65 million non-recourse first mortgage bearing a fixed interest rate of 6.589%, maturing in January 2017 and the balance in cash.

Additionally, in February 2007 the Wakefield joint venture closed on a $10.97 million acquisition of a skilled nursing facility in Kentucky, consisting of 67,706 square feet. The property is net leased to a single tenant under a fifteen year lease with three five year extension options. The property was financed with a $7.65 million non-recourse first mortgage, bearing a fixed interest rate of 7.12% maturing in August 2010 and the balance in cash.

112

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES AND
NORTHSTAR REALTY FINANCE CORP. PREDECESSOR

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
(Amounts in Thousands, Except per Share Data)

22. Subsequent Events (Unaudited) – (continued)

On March 12, 2007, NorthStar entered into a joint venture with Monroe Capital LLC, a Chicago-based firm that originates, acquires and finances middle-market and broadly syndicated corporate loans. Under the terms of the venture, the Company will provide equity required to fund Monroe’s lending business, and from time to time acquire a portion of the equity issued in securitizations sponsored by Monroe. As part of the new venture, the Company will also own a minority interest in the existing management company that originates, structures and syndicates middle-market corporate loans and provides asset management services for the warehouse assets and the current and future CLOs sponsored by Monroe.

Dividends

On January 23, 2007, the Company declared a dividend of $0.35 per share of common stock and $0.54688 per share of Series A preferred stock to stockholders of record as of February 5, 2007. The dividends were paid on February 15, 2007.

Preferred Stock Offering

On February 7, 2007, the Company issued and sold 6,200,000 of its 8.25% Series B Cumulative Redeemable Preferred Stock (liquidation preference $25.00 per share, par value $0.01 per share) at $25.00 per share (which included 800,000 shares pursuant to an over-allotment option granted to the underwriters), in an underwritten public offering pursuant to an effective registration statement. Net proceeds from the offering were approximately $150.0 million. The proceeds from the offering were used to repay borrowings under the Company’s credit facilities and to fund new investments.

113

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES

SCHEDULE III – REAL ESTATE AND ACCUMULATED DEPRECIATION
As of December 31, 2006
(Amounts in Thousands, Except per Share Data)

Column A	Column B		Column C Initial Cost				Column D Cost Capitalized Subsequent to Acquisition				Column E Gross Amount at Which Carried at Close of Period						Column F				Column H	Column I
Location	Encumbrances		Land		Buildings & Improvements		Land		Buildings & Improvements		Land		Buildings & Improvements		Total		Accumulated Depreciation		Total		Date Acquired	Life on Which Depreciation is Computed
987 Eighth Avenue, NY, NY	$	—	$	—	$	2,645	$	—	$	—	$	—	$	2,645	$	2,645	$	680	$	1,965	Mar-99	Various
36 West 34 Street, NY, NY		—		—		4,440		—		—		—		4,440		4,440		875		3,565	Mar-99	Various
701 Seventh Avenue(2) , NY, NY		—		—		3,246		—		—		—		3,246		3,246		1,818		1,428	Mar-99	Various
Los Angeles, CA		55,491		5,837		55,030		—		—		5,837		55,030		60,867		3,294		57,573	Jan-05	39 years
Salt Lake City, UT		16,584		672		19,740		—		25		672		19,765		20,437		1,024		19,413	Aug-05	39 yrs/2-7yrs	(1)
Auburn Hills, MI		11,493		2,980		8,607		—		—		2,980		8,607		11,587		498		11,089	Sept-05	39 years
Rancho Cordova, CA		12,319		3,060		9,360		—		—		3,060		9,360		12,420		427		11,993	Sept-05	39 years
Camp Hill, PA		25,205		5,900		19,510		—		—		5,900		19,510		25,410		1,026		24,384	Sept-05	39 years
Springdale, OH		19,208		3,030		20,469		—		—		3,030		20,469		23,499		675		22,824	Dec-05	39 years
Springdale, OH		16,586		2,470		17,821		—		—		2,470		17,821		20,291		630		19,661	Dec-05	39 years
Springdale, OH		15,686		1,500		17,690		—		—		1,500		17,690		19,190		626		18,564	Dec-05	39 years
Rockaway, NJ		17,480		6,118		15,664		—		—		6,118		15,664		21,782		372		21,410	Mar-06	39 years
Indianapolis, IN		28,600		1,670		32,306		—		—		1,670		32,306		33,976		498		33,478	Mar-06	39 years
Albemarle, NC		—		267		2,646		—		—		267		2,646		2,913		14		2,899	Oct-06	40 years
Blountstown, FL		3,719		378		5,069		—		—		378		5,069		5,447		58		5,389	Jul-06	40 years
Brevard, NC		—		145		2,100		—		—		145		2,100		2,245		11		2,234	Oct-06	40 years
Roxboro, NC		3,301		262		3,251		—		—		262		3,251		3,513		51		3,462	May-06	40 years
Charlotte, NC		—		350		2,826		—		25		350		2,851		3,201		15		3,186	Oct-06	40 years
Cherry Springs, NC		2,786		164		3,215		—		—		164		3,215		3,379		44		3,335	Jun-06	40 years
Bremerton, NC		6,750		964		8,156		—		100		964		8,256		9,220		8		9,212	Dec-06	40 years
Sterling, DL		2,018		129		5,603		—		76		129		5,679		5,808		91		5,717	May-06	40 years
Clinton, NC		2,336		283		5,084		—		66		283		5,150		5,433		84		5,349	May-06	40 years
Winter Garden, FL		4,954		1,693		5,805		—		21		1,693		5,826		7,519		93		7,426	May-06	40 years
Brevard, NC		2,097		328		2,532		—		—		328		2,532		2,860		40		2,820	May-06	40 years
Bolles, PA		436		32		803		—		—		32		803		835		13		822	May-06	40 years
Black Mountain, NC		4,896		468		5,786		—		—		468		5,786		6,254		66		6,188	Jul-06	40 years
Hillsboro, OR		33,300		3,954		39,193		—		—		3,954		39,193		43,147		41		43,106	Dec-06	40 years
Wendell, NC		2,344		212		2,279		—		—		212		2,279		2,491		36		2,455	May-06	40 years
Scranton, PA		375		78		757		—		—		78		757		835		12		823	May-06	40 years
Winston-Salem, NC		3,524		1,269		6,349		—		42		1,269		6,391		7,660		102		7,558	May-06	40 years
Gastonia, NC		1,847		345		1,392		—		—		345		1,392		1,737		22		1,715	May-06	40 years
Morris, IL		6,982		568		8,509		—		48		568		8,557		9,125		134		8,991	May-06	40 years
Williamston, NC		3,195		263		2,925		—		—		263		2,925		3,188		46		3,142	May-06	39 years
Aurora, CO		36,387		2,650		35,786		10		—		—		—		—		—		—		7 years	(1)
North Attleboro, MA		4,835		—		5,445		—		—		—		5,445		5,445		49		5,396	Sept-06	39 years
Bloomingdale, IL		5,888		—		5,810		—		—		—		5,810		5,810		52		5,758	Sept-06	39 years
Concord Holdings, NH		8,601		2,145		9,216		—		—		2,145		9,216		11,361		85		11,276	Sept-06	39 years
Melville, NY		4,567		—		3,187		—		—		—		3,187		3,187		32		3,155	Sept-06	39 years
Millbury, MA		4,854		—		5,994		—		—		—		5,994		5,994		48		5,946	Sept-06	39 years
Wichita, KS		6,293		1,325		5,584		—		—		1,325		5,584		6,909		48		6,861	Sept-06	39 years
Keene, NH		6,970		3,033		5,919		—		—		3,033		5,919		8,952		59		8,893	Sept-06	39 years
Fort Wayne, IN		3,626		—		3,642		—		—		—		3,642		3,642		38		3,604	Sept-06	39 years
Portland, ME		5,132		—		6,687		—		—		—		6,687		6,687		97		6,590	Sept-06	39 years
Total	$	390,665	$	54,542	$	428,078	$	10	$	403	$	54,552	$	428,481	$	483,033	$	14,425	$	468,608

——————

(1)

Extended life for Furniture, Fixtures and Equipment.

114

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES

SCHEDULE III – REAL ESTATE AND ACCUMULATED DEPRECIATION – (Continued)
As of December 31, 2006
(Amounts in Thousands, Except per Share Data)

The changes in real estate for the year ended December 31, 2006, December 31, 2005, and December 31, 2004 are as follows:

	2006			2005			2004
Balance at beginning of period	$	205,708		$	54,198		$	54,191
Property acquisitions		286,919			193,669			—
Improvements		26			28			7
Assets held for sale		—			(4,222	)		—
Retirements/disposals		(9,608	)		(37,965	)		—
Balance at end of period	$	483,045		$	205,708		$	54,198

The changes in accumulated depreciation, exclusive of amounts relating to equipment, auto and furniture and fixtures, for the period ended December 31, 2006, December 31, 2005 and December 31, 2004 are as follows:

	2006			2005			2004
Balance at beginning of period	$	7,000		$	10,654		$	10,292
Depreciation for the period		9,203			3,786			362
Assets held for sale		—			(2,733	)		—
Retirements/disposals		(1,766	)		(4,707	)		—
Balance at end of period	$	14,437		$	7,000		$	10,654

115

NORTHSTAR REALTY FINANCE CORP. AND SUBSIDIARIES

SCHEDULE IV – LOANS AND OTHER LENDING INVESTMENTS
December 31, 2006
(In Thousands)

Description		Interest Rate		Final Maturity Date	Periodic Payment Terms(1)	Prior Liens		Principal Amount of Loans		Carrying Amount of Loans		Number of Loans
Type	Description
Whole Loan – Fixed	Office	9.00	%	9/1/2009	I/O	$	—	$	50,472	$	50,163	1
Whole Loans – Fixed < 3%	Office	6.37 – 8.30	%	4/1/2010 – 5/11/2016	I/O		—		22,700		16,698	2
	Industrial	5.78	%	6/1/2015 – 7/1/2015	I/O		—		7,259		7,242	2
	Warehouse	5.07	%	8/1/2015	I/O		—		5,890		5,849	1
	Healthcare	9.75 – 11.75	%	10/8/2008 – 11/11/2020	I/O		—		10,292		10,391	4
Whole Loan – Float	Office	LIBOR + 1.80	%	10/9/2008	I/O		—		70,000		69,903	1
Whole Loan – Float < 3%	Office	LIBOR + 1.95 – 5.00	%	1/1/2007 – 7/1/2016	I/O		—		328,714		327,815	21
	Retail	LIBOR + 2.70	%	7/1/2009	I/O		—		12,500		12,399	1
	Hotel	LIBOR + 2.15 – 6.00	%	5/9/2007 — 4/1/2010	I/O		—		96,252		95,928	6
	Condo	LIBOR + 3.65 – 4.75	%	1/1/2007 – 11/1/2007	I/O		—		44,950		44,708	2
	Industrial	LIBOR + 2.50 – 5.10	%	6/23/2007 – 7/1/2015	P&I		—		23,625		23,551	3
	Multifamily	LIBOR + 2.22 – 3.25	%	3/1/2009 – 1/1/2010	I/O		—		213,747		212,241	12
	Various	LIBOR + 1.50 – 5.84	%	6/23/07 – 2/1/2011	I/O		—		100,485		97,795	7
Junior Participation – Float < 3%	Office	LIBOR + 1.84 – 7.00	%	5/16/2007 – 1/22/2008	I/O		—		53,785		53,795	4
	Retail	LIBOR + 2.4	%	9/9/2009	I/O		—		10,000		10,000	1
	Retail/Hotel	LIBOR + 1.7	%	6/6/2007	I/O		—		7,000		7,004	1
	Hotel	LIBOR + 9.75	%	11/1/2007	I/O		—		5,000		4,987	1
	Condo	LIBOR + 6.98 — 10.25	%	9/9/2007 – 10/9/2007	I/O		—		21,591		21,559	2
Mezzanine – Fixed	Office	10.85	%	6/1/2016	I/O		410,000		60,975		62,226	1
Mezzanine – Fixed < 3%	Retail	15.00	%	5/1/2008	I/O		—		3,365		3,389	1
	Industrial	9.00	%	2/14/2011	I/O		—		13,200		13,233	1
	Multifamily	10.00 – 11.30	%	1/1/2010 – 1/1/2012	I/O		—		34,342		34,711	4
	Various	3.00 – 12.00	%	11/26/2007 – 6/1/2016	I/O		—		12,999		12,889	4
Mezzanine – Float < 3%	Office	LIBOR + 3.30 – 6.36	%	7/9/2007 – 10/9/2008	I/O		—		38,682		38,742	3
	Retail	LIBOR + 1.75	%	8/9/2007	I/O		—		16,000		15,990	1
	Hotel	LIBOR + 2.75 – 7.75	%	7/15/2007 – 2/6/2010	I/O		—		165,418		165,209	4
	Condo	LIBOR + 3.50 – 13.00	%	10/9/2007 – 1/9/2008	I/O		—		74,076		73,884	4

116

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SCHEDULE IV – LOANS AND OTHER LENDING INVESTMENTS – (Continued)
December 31, 2006
(In Thousands)

Description		Interest Rate		Final Maturity Date	Periodic Payment Terms(1)	Prior Liens		Principal Amount of Loans		Carrying Amount of Loans		Number of Loans
Type	Description
Other – Fixed < 3%	Various	5.53	%	6/25/2018	I/O		—		7,743		7,743	1
Other – Floating < 3%	Retail	LIBOR + 1.75	%	12/16/2009	I/O		—		6,609		6,675	1
	Hotel	LIBOR + 1.38	%	2/22/2013	I/O		—		5,476		5,476	1
	Multifamily	LIBOR + 1.50	%	4/1/2011 – 4/4/2011	I/O		—		10,000		10,044	4
	Various	LIBOR + 2.40 – 3.50	%	4/2/2007	I/O		—		20,000		20,000	1
Preferred – Fixed < 3%	Office	9.00 – 11.00	%	1/1/2010 – 11/1/2010	I/O		—		29,464		29,271	2
Total						$	410,000	$	1,582,611	$	1,571,510	105

	2006			2005			2004
Balance at beginning of period	$	681,106		$	70,569		$	—
Additions during the year:
New loans and additional advances on existing loans		1,335,614			696,589			70,841
Acquisition cost and (fees)		(6,560	)		(39	)		(284	)
Premiums/(Discounts)		(5,730	)		(2,118	)		—
Amortization of acquisition costs, fees, premiums and discounts		2,287			1,058			12
Deductions:
Collection of principal		435,207			84,953			—
Balance at end of period	$	1,571,510		$	681,106		$	70,569

——————

(1)

Interest only or I/O; Principal and Interest or P&I.

117

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

Not applicable.

Item 9A. Controls and Procedures

Attached as exhibits to this Form 10-K are certifications of the Company’s Chief Executive Officer and Chief Financial Officer, which are required in accordance with Rule 13a-14 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). This “Controls and Procedures” section includes information concerning the controls and procedures evaluation referred to in the certifications. Part II, Item 8 of this Form 10-K sets forth the report of Grant Thornton LLP, our independent registered public accounting firm, regarding its audit of the Company’s internal control over financial reporting and of management’s assessment of internal control over financial reporting set forth below in this section. This section should be read in conjunction with the certifications and the Grant Thornton LLP report for a more complete understanding of the topics presented.

Disclosure Controls and Procedures

The management of the Company established and maintains disclosure controls and procedures that are designed to ensure that material information relating to the Company and its subsidiaries required to be disclosed in the reports that are filed or submitted under the 1934 Act are recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.

As of the end of the period covered by this report, the Company’s management conducted an evaluation, under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, of the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act). Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures are effective. Notwithstanding the foregoing, a control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that it will detect or uncover failures within the Company to disclose material information otherwise required to be set forth in the Company’s periodic reports.

Internal Control over Financial Reporting

(a) Management’s annual report on internal control over financial reporting.

Management is responsible for establishing and maintaining adequate internal control over financial reporting. As defined in Exchange Act Rule 13a-15(f), internal control over financial reporting is a process designed by, or under the supervision of, the principal executive and principal financial officer and effected by the Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures that: (i) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the Company;
(ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.

Under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer, the Company carried out an evaluation of the effectiveness of its internal control over financial reporting as of December 31, 2006 based on the “Internal Control — Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based upon this evaluation, management has concluded that the Company’s internal control over financial reporting was effective as of December 31, 2006.

118

(b) Attestation report of the registered public accounting firm.

Our independent registered public accounting firm, Grant Thornton LLP, audited management’s assessment of the Company’s internal control over financial reporting as of December 31, 2006 and independently assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006. Grant Thornton has issued an attestation report concurring with management’s assessment, which is included at the end of Part II, Item 8 of this Form 10-K.

(c) Changes in internal control over financial reporting.

There have been no changes in the Company’s internal control over financial reporting during the most recent quarter ended December 31, 2006 that have materially affected, or are reasonably likely to affect, internal controls over financial reporting.

Inherent Limitations on Effectiveness of Controls

The Company’s management, including the Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. The design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs.

Item 9B. Other Information

Not applicable.

119

PART III

Item 10. Directors and Executive Officers and Corporate Governance*

Certain information relating to our code of business conduct and ethics and code of ethics for senior financial officers (as defined in the code) is included in Part I, Item 1 of this Annual Report on Form 10-K.

Item 11. Executive Compensation*

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters*

Item 13. Certain Relationships and Related Transactions and Directors Independence*

Item 14. Principal Accountant Fees and Services*

——————

*

The information that is required by Items 10, 11, 12, 13 and 14 is incorporated herein by reference from the definitive proxy statement relating to the 2007 Annual Meeting of Stockholders of the Company, which is to be filed with the Securities and Exchange Commission pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended, no later than 120 days after the end of the Company’s fiscal year ending December 31, 2006.

120

PART IV

Item 15. Exhibits and Financial Statement Schedules

(a) and (c) Financial Statement and Schedules – see Index to Financial Statements and Schedules included in Item 8.

(b) Exhibits

Exhibit Number	Description of Exhibit
3.1	Articles of Amendment and Restatement of NorthStar Realty Finance Corp., as filed with the State Department of Assessments and Taxation of Maryland on October 20, 2004 (incorporated by reference to Exhibit 3.1 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-114675))
3.2	Bylaws of NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 3.2 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-114675))
3.3	Amendment No. 1 to the Bylaws of NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 3.3 to the NorthStar Realty Finance Corp. Current Report on Form 8-K filed on April 27, 2005)
3.4	Articles Supplementary Classifying NorthStar Realty Finance Corp.’s 8.75 % Series A Preferred Stock, liquidation preference $25.00 per share (incorporated by reference to Exhibit 3.2 to NorthStar Realty Finance Corp.’s Registration Statement on Form 8-A, dated September 14, 2006)
3.5	Articles Supplementary Classifying NorthStar Realty Finance Corp.’s 8.25 % Series B Preferred Stock, liquidation preference $25.00 per share (incorporated by reference to Exhibit 3.2 to NorthStar Realty Finance Corp.’s Registration Statement on Form 8-A, dated February 7, 2007)
10.1	Agreement of Limited Partnership of NorthStar Realty Finance Limited Partnership, dated as of October 19, 2004, by and among NorthStar Realty Finance Corp., as sole general partner and initial limited partner and the other limited partners a party thereto from time to time (incorporated by reference to Exhibit 10.1 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.2	Non-Competition Agreement, dated as of October 29, 2004, by and among NorthStar Realty Finance Corp., NorthStar Realty Finance Limited Partnership, NorthStar Capital Investment Corp. and NorthStar Partnership, L.P. (incorporated by reference to Exhibit 10.2 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.3	Executive Employment Agreement, dated as of October 22, 2004, between David T. Hamamoto and NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 10.5 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.4	Executive Employment Agreement, dated as of October 22, 2004, between Jean-Michel Wasterlain and NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 10.7 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.5	Executive Employment Agreement, dated as of October 22, 2004, between Daniel R. Gilbert and NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 10.8 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.6	NorthStar Realty Finance Corp. 2004 Omnibus Stock Incentive Plan (incorporated by reference to Exhibit 10.9 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.7	LTIP Unit Vesting Agreement under the NorthStar Realty Finance Corp. 2004 Omnibus Stock Incentive Plan among NorthStar Realty Finance Corp., NorthStar Realty Finance Limited Partnership and NRF Employee, LLC (incorporated by reference to Exhibit 10.10 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.8	Form of Vesting Agreement for Units of NRF Employee, LLC, each dated as of October 29, 2004, between NRF Employee, LLC and certain employees and co-employees of NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 10.11 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004).
10.9	Form of Restricted Stock Agreement (incorporated by reference to Exhibit 10.7(a) to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-114675))

121

Exhibit Number	Description of Exhibit
10.10	NorthStar Realty Finance Corp. 2004 Long-Term Incentive Bonus Plan (incorporated by reference to Exhibit 10.13 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.11	Form of Notification under NorthStar Realty Finance Corp. 2004 Long-Term Incentive Bonus Plan (incorporated by reference to Exhibit 10.14 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2004)
10.12	Form of Indemnification Agreement for directors and officers of NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 10.15 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-114675))
10.13	Amended and Restated Master Repurchase Agreement, dated as of March 21, 2005, between NRFC DB Holdings, LLC and Deutsche Bank AG, Cayman Islands Branch (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Annual Report on Form 10-K for the year ended December 31, 2004)
10.14	Amended and Restated Junior Subordinated Indenture dated as of September 16, 2005, between NorthStar Realty Finance Limited Partnership and JPMorgan Chase Bank, National Association, as trustee (incorporated by reference to the like-numbered exhibit to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.15	Second Amended and Restated Trust Agreement, dated as of September 16, 2005, among NorthStar Realty Finance Limited Partnership, as depositor, JPMorgan Chase Bank, National Association, as property trustee, Chase Bank USA, National Association, as Delaware trustee and Andrew Richardson, David Hamamoto and Richard McCready, each as administrative trustees (incorporated by reference to the like-numbered exhibit to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.16	Master Repurchase Agreement, dated as of July 13, 2005, between NRFC WA Holdings, LLC and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.21 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended June 30, 2005)
10.17	First Amendment to the Master Repurchase Agreement, dated as of August 24, 2005, between NRFC WA Holdings, LLC and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.22 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.18	Second Amendment to the Master Repurchase Agreement, dated as of September 20, 2005, between NRFC WA Holdings, LLC and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.23 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.19	Master Loan, Guarantee and Security Agreement, dated as of September 28, 2005, between NorthStar Realty Finance Limited Partnership, NorthStar Realty Finance Corp., NS Advisors LLC and Bank of America, N.A. (incorporated by reference to Exhibit 10.24 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.20	Third Amendment to the Master Repurchase Agreement, dated as of September 30, 2005, between NRFC WA Holdings, LLC and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.25 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.21	Omnibus Amendment to the Master Repurchase Agreement, dated as of October 21, 2005, between NRFC WA Holdings, LLC, NRFC WA Holdings II, LLC and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.26 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2005)
10.22	Agreement of Purchase and Sale, dated as of October 25, 2005, between 1552 Lonsdale LLC and 1552 Bway Owner, LLC (incorporated by reference to Exhibit 10.27 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2005)

122

Exhibit Number	Description of Exhibit
10.23	Fourth Amendment to the Master Repurchase Agreement, dated October 28, 2005, by and among NRFC WA Holdings, LLC, NRFC WA Holdings II, LLC and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.28 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2005)
10.24	Sublease, dated as of November 7, 2005, between NorthStar Realty Finance Limited Partnership and NorthStar Partnership, L.P. (incorporated by reference to Exhibit 10.29 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2005)
10.25	Junior Subordinated Indenture, dated as of November 22, 2005, between NorthStar Realty Finance Limited Partnership and JPMorgan Chase Bank, National Association, as trustee (incorporated by reference to Exhibit 10.30 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.26	Amended and Restated Trust Agreement, dated as of November 22, 2005, between NorthStar Realty Finance Limited Partnership, as depositor, JPMorgan Chase Bank, National Association, as property trustee, Chase Bank USA, National Association, as Delaware trustee and Andrew Richardson, David Hamamoto and Richard McCready, each as administrative trustees (incorporated by reference to Exhibit 10.31 to the NorthStar Realty Finance Corp. Registration Statement on Form S-11 (File No. 333-128962))
10.27	Fifth Amendment to the Master Repurchase Agreement, dated February 28, 2005, by and among NRFC WA Holdings, LLC, NRFC WA Holdings II, LLC and Wachovia Bank, National Association (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Annual Report on Form 10-K for the year ended December 31, 2005)
10.28	Junior Subordinated Indenture, dated as of March 10, 2006, between NorthStar Realty Finance Limited Partnership, NorthStar Realty Finance Corp. and Wilmington Trust Company, as trustee (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Annual Report on Form 10-K for the year ended December 31, 2005)
10.29	Amended and Restated Trust Agreement, dated as of March 10, 2006, between NorthStar Realty Finance Limited Partnership, as depositor, NorthStar Realty Finance Corp., a guarantor, Wilmington Trust Company, as property trustee and Delaware trustee and Andrew Richardson, David Hamamoto and Richard McCready, each as administrative trustees (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Annual Report on Form 10-K for the year ended December 31, 2005)
10.30	Form of NorthStar Realty Finance Corp. 2006 Outperformance Plan Award Agreement (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Annual Report on Form 10-K for the year ended December 31, 2005)
10.31	Amendment No. 1 to Agreement of Limited Partnership of NorthStar Realty Finance Limited Partnership, dated as of March 14, 2006, by and among NorthStar Realty Finance Corp., as sole general partner and initial limited partner and the other limited partners a party thereto from time to time (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Annual Report on Form 10-K for the year ended December 31, 2005)
10.32	Executive Employment Agreement, dated as of March 14, 2006, between Richard J. McCready and NorthStar Realty Finance Corp. (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Annual Report on Form 10-K for the year ended December 31, 2005)
10.33	Executive Employment Agreement, dated as of March 22, 2006, between Andrew C. Richardson and NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 99.1 to the NorthStar Realty Finance Corp. Current Report on Form 8-K filed on March 28, 2006)
10.34	Agreement, dated as of April 6, 2006 between Mark E. Chertok and NorthStar Realty Finance Corp. (incorporated by reference to Exhibit 99.1 to the NorthStar Realty Finance Corp. Current Report on Form 8-K filed on April 10, 2006)

123

Exhibit Number	Description of Exhibit
10.35	Second Omnibus Amendment to Repurchase Documents, dated as of June 6, 2006, by and among NRFC WA Holdings, LLC, NRFC WA Holdings II, LLC, NRFC WA Holdings III, LLC, NRFC WA Holdings IV, LLC, NRFC WA Holdings V, LLC, NRFC WA Holdings VI, LLC, NRFC WA Holdings VII, LLC, NRFC WA Holdings VIII, LLC, and Wachovia Bank, National Association (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2006)
10.36	Junior Subordinated Indenture, dated as of August 1, 2006, between NorthStar Realty Finance Limited Partnership, NorthStar Realty Finance Corp. and Wilmington Trust Company, as trustee
10.37	Amended and Restated Trust Agreement, dated as of August 1, 2006, between NorthStar Realty Finance Limited Partnership, as depositor, NorthStar Realty Finance Corp., a guarantor, Wilmington Trust Company, as property trustee and Delaware trustee and David Hamamoto, Andrew Richardson and Richard McCready, each as administrative trustees (incorporated by reference to the like-numbered exhibit to NorthStar Realty Finance Corp.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2006)
10.38	Second Amendment to the Agreement of Limited Partnership of NorthStar Realty Finance Limited Partnership, dated as of September 14, 2006 (incorporated by reference to Exhibit 3.2 to the NorthStar Realty Finance Corp. Current Report on Form 8-K filed September 14, 2006)
10.39	Junior Subordinated Indenture, dated as of October 6, 2006, between NorthStar Realty Finance Limited Partnership, NorthStar Realty Finance Corp. and Wilmington Trust Company, as trustee (incorporated by reference to Exhibit 10.42 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2006)
10.40	Amended and Restated Trust Agreement, dated as of October 6, 2006, between NorthStar Realty Finance Limited Partnership, as depositor, NorthStar Realty Finance Corp., a guarantor, Wilmington Trust Company, as property trustee and Delaware trustee and David Hamamoto, Andrew Richardson and Richard McCready, each as administrative trustees (incorporated by reference to Exhibit 10.43 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2006)
10.41	Revolving Credit Agreement, dated as of November 3, 2006, between NorthStar Realty Finance Corp., NorthStar Realty Finance Limited Partnership, NRFC Sub-REIT Corp., NS Advisors, LLC, Keybanc Capital Markets and Bank of America, N.A. (incorporated by reference to Exhibit 10.44 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2006)
10.42	Sixth Amendment to the Master Repurchase Agreement, dated as of November 7, 2006, by and among NRFC WA Holdings, LLC, NRFC WA Holdings II, LLC, NRFC WA Holdings III, LLC, NRFC WA Holdings IV, LLC, NRFC WA Holdings V, LLC, NRFC WA Holdings VI, LLC, NRFC WA Holdings VII, LLC, NRFC WA Holdings VIII, LLC, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.45 to the NorthStar Realty Finance Corp. Quarterly Report on Form 10-Q for the quarter ended September 30, 2006)
10.43	Third Amendment to the Agreement of Limited Partnership of NorthStar Realty Finance Limited Partnership, dated as of February 7, 2007 (incorporated by reference to Exhibit 3.2 to the NorthStar Realty Finance Corp. Current Report on Form 8-K filed February 9, 2007)
10.44	Purchase and Sale Agreement, dated as of February 23, 2007, by and among GIN Housing Partners I, L.L.C. and the persons and entities identified as sellers on the signature pages thereto, portions of which have been omitted pursuant to a request for confidential treatment.
12.1	Computation of Ratio of Earnings to Fixed Charges
21.1	Subsidiaries of the Registrant
23.1	Consent of Grant Thornton LLP
31.1	Certification by the Chief Executive Officer pursuant to 17 CFR 240.13a-14(a)/15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Certification by the Chief Financial Officer pursuant to 17 CFR 240.13a-14(a)/15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

124

Exhibit Number	Description of Exhibit
32.1	Certification by the Chief Executive Officer pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2	Certification by the Chief Financial Officer pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

125

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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 on March 14, 2007.

NORTHSTAR REALTY FINANCE CORP.
By:	/s/ David T. Hamamoto
	Name: David T. Hamamoto Title: Chief Executive Officer

POWER OF ATTORNEY

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Andrew C. Richardson and Albert Tylis and each of them severally, his true and lawful attorney-in-fact with power of substitution and re-substitution to sign in his name, place and stead, in any and all capacities, to do any and all things and execute and all instruments that such attorney may deem necessary or advisable under the Securities Exchange Act of 1934 and any rules, regulations and requirements of the U.S. Securities and Exchange Commission in connection with this Annual Report on Form 10-K and any and all amendments hereto, as fully for all intents and purposes as he might or could do in person, and hereby ratifies and confirms all said attorneys-in-fact and agents, each acting alone, and his substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, this report has been signed below on behalf of the Registrant in the capacities and on the dates indicated.

Signature	Title	Date
/s/ David T. Hamamoto	Chief Executive Officer, President and Director (Principal Executive Officer)	March 14, 2007
David T. Hamamoto
/s/ Andrew C. Richardson	Chief Financial Officer and Treasurer (Principal Financial Officer)	March 14, 2007
Andrew C. Richardson
/s/ Lisa Meyer	Chief Accounting Officer (Principal Accounting Officer)	March 14, 2007
Lisa Meyer
/s/ W. Edward Scheetz	Chairman of the Board of Directors	March 14, 2007
W. Edward Scheetz
/s/ William V. Adamski	Director	March 14, 2007
William V. Adamski
/s/ Preston Butcher	Director	March 14, 2007
Preston Butcher
/s/ Judith A. Hannaway	Director	March 14, 2007
Judith A. Hannaway
/s/ Wesley D. Minami	Director	March 14, 2007
Wesley D. Minami
/s/ Louis J. Paglia	Director	March 14, 2007
Louis J. Paglia
/s/ Frank V. Sica	Director	March 14, 2007
Frank V. Sica

126

EX-10.44

EXHIBIT 10.44

PURCHASE AND SALE AGREEMENT, DATED FEBRUARY 23, 2007, AMONG GIN HOUSING PARTNERS I, L.L.C. AND THE PERSONS AND ENTITIES IDENTIFIED AS SELLERS ON THE SIGNATURE PAGES THERETO, PORTIONS OF WHICH HAVE BEEN OMITTED PURSUANT TO A REQUEST FOR CONFIDENTIAL TREATMENT. SUCH CONFIDENTIAL PORTIONS HAVE BEEN FILED WITH THE SEC.

EXECUTION COPY

PURCHASE AND SALE AGREEMENT

By and Among

GIN HOUSING PARTNERS I, L.L.C.

and

THE PERSONS AND ENTITIES IDENTIFIED AS SELLERS ON THE SIGNATURE PAGES HERETO

Dated February 23, 2007

† indicates information omitted on the basis of a confidential treatment request pursuant to Rule 24b-2 of the Securities Exchange Act of 1934, which has been filed separately with the Securities and Exchange Commission.

TABLE OF CONTENTS

	Page
PURCHASE AND SALE AGREEMENT		1
R E C I T A L S		1
ARTICLE 1. PURCHASE AND SALE OF INTERESTS; CLOSING		4
1.1	Agreement to Purchase and Sell	4
1.2	Purchase Price, Allocation and Tax Treatment	5
1.3	Earnest Money	5
1.4	Accrued Fees; Proration Adjustment	5
1.5	The † Adjustment	8
1.6	Closing(s)	9
1.7	Seller’s Closing Deliveries	10
1.8	Purchaser’s Closing Deliveries	13
ARTICLE 2. REPRESENTATIONS AND WARRANTIES OF EACH SELLER		14
2.1	Ownership of Purchased Interests and Personal Property	14
2.2	All Interests of Seller	16
2.3	Other Restrictions on Purchased Interests	16
2.4	Organization; Authority	16
2.5	Removal or Foreclosure on Interest	17
2.6	Financial Statements	17
2.7	Partnership Agreements; Fee Agreements and Seller Obligations	17
2.8	Other Related Agreements	17
2.9	Litigation	18
2.10	Tax Matters	19
2.11	Recent Conduct of Business	20
2.12	Brokers and Finders	21
2.13	Ethical Practices	21
2.14	Labor and Employment Matters	21
2.15	Full Disclosure	25
2.16	OFAC	25
2.17	Other Representations Regarding † Management Company	25
2.18	Schedules	26
2.19	Deemed Modification to Representations and Warranties	27
ARTICLE 3. ADDITIONAL REPRESENTATIONS, WARRANTIES AND COVENANTS OF EACH SELLER REGARDING † MANAGEMENT COMPANY, THE PROJECTS AND THE PROJECT PARTNERSHIPS		27
3.1	Project Partnerships; General Partner	27
3.2	Organization; Authority; No Violation	28
3.3	Limited Partnership Status	28
3.4	Securities Registration	29
3.5	Leases and Rent Rolls	29
3.6	Brokerage Arrangements	29
3.7	Service Contracts	29
3.8	Sale Contracts	30
3.9	No Sale or Refinancing Restrictions	30
3.10	Licenses and Permits	30
3.11	Title and Surveys; Ownership of Project Property; Real Estate Taxes	30

- i -

3.12	Access and Utilities	31
3.13	Condemnation; Changes in Use	31
3.14	Compliance With Laws	32
3.15	Environmental Matters	32
3.16	Physical Reports	32
3.17	Soil Defects	32
3.18	Insurance	32
3.19	Projects Under Construction; Construction Contracts	33
3.20	Insolvency Proceedings	34
3.21	Unsatisfied Partner Obligations	34
3.22	Operating Statements	34
3.23	Accounting	35
3.24	Other Agreements or Arrangements Affecting Credits	35
3.25	Valid Tax Credits	35
3.26	Project Operation Requirements; Tax Credits	35
3.27	No Employees	35
3.28	No Other Assets	35
3.29	Management of Projects	35
3.30	Tax Credit Shortfalls	35
ARTICLE 4. REPRESENTATIONS AND WARRANTIES OF THE PURCHASER		36
4.1	Organization; Authority	36
4.2	No Violation	36
4.3	Property Management	37
4.4	Certain Notices to Seller	37
4.5	OFAC	37
ARTICLE 5. COVENANTS		37
5.1	Satisfaction of Conditions	37
5.2	Conduct of Business	38
5.3	Hart-Scott-Rodino Act	38
5.4	Publicity; Confidentiality	38
5.5	Notices	38
5.6	Interim Financial Statements	40
5.7	Correspondence and Reports	40
5.8	Exclusivity	40
5.9	Additional Covenants of Seller Regarding † Management Company, the Projects and the Project Partnerships	41
5.10	Tax Matters	43
5.11	Employee Benefits	43
5.12	Employees	45
5.13	Costs and Expenses	46
5.14	Further Assurances	47
5.15	Casualty	47
5.16	Condemnation	48
5.17	Purchaser Option to Restructure Transaction	48
ARTICLE 6. DUE DILIGENCE		48
6.1	Purchaser’s Due Diligence; Access	49
6.2	Due Diligence Termination Option and Project Removal Rights	49
6.3	As-Is	54
6.4	Required Consents	54
6.5	Space Leases	55
6.6	Personal Property Leases	56

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ARTICLE 7. INDEMNIFICATION		57
7.1	Seller’s Indemnification	57
7.2	The Purchaser’s Indemnification	58
7.3	Indemnification Procedures	59
7.4	Nature of Other Liabilities	62
7.5	Certain Limitations	62
7.6	Amount of Losses	63
7.7	Subrogation	64
7.8	Survival of Representations, Warranties and Indemnities	64
7.9	Seller Obligations Not Assumed by Purchaser	65
ARTICLE 8. CONDITIONS TO CLOSING		65
8.1	Conditions to Obligations of Purchaser	65
8.2	Conditions to Obligations of Seller	66
8.3	Project Removals Due to Closing Conditions; Potential Bifurcated Closing	67
8.4	Termination Prior to Closing	68
8.5	Procedure and Effect of Termination	69
ARTICLE 9. MISCELLANEOUS PROVISIONS		70
9.1	Successors and Assigns	70
9.2	Notices	71
9.3	Entire Agreement	73
9.4	Amendments and Waivers	73
9.5	Severability	74
9.6	Headings	74
9.7	Terms	74
9.8	Governing Law; Jurisdiction and Venue	74
9.9	Schedules and Exhibits	74
9.10	No Third Party Beneficiaries	74
9.11	Expenses	75
9.12	Construction	75
9.13	Mutual Drafting	75
9.14	Prevailing Party	75
9.15	Market Rate Projects	75
9.16	Counterparts	75

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SCHEDULES AND EXHIBITS

Schedule	Description
A	Projects, Project Partnerships, Partners and Partnership Interests
B*	Property Management Agreements, Development Agreements and Other Fee Agreements
C*	Standalone Economic Guarantees
D	Other Scheduled Documents
E	Allocated Project Values
1.1(a)*	Permitted Interest Liens
1.1(b)-1	Pending Warranty Claims
1.1(b)-2	Other Excluded Claims
1.2	Base Price Category Allocation
1.4(b)	Sample Proration Adjustment Calculation
1.4(c)	Incomplete Projects and Related Closing Credits
1.4(d)	Schedule of Purchased Liabilities and Owed Liabilities
1.5	†/† Interests
2.1(c)	Personal Property
2.1(d)	Other Assets
2.2	Other Interests in Projects
2.3	Restrictions on Purchased Interests
2.5	Threatened Removal or Foreclosure
2.6(a)*	Financial Statements
2.7	Defaults under Material Agreements
2.8	Other Related Agreements
2.9	Litigation
2.10*	Tax Matters
2.11*	Recent Conduct of Business
2.14(a)*	Labor Matters
2.14(b)*	Seller Benefit Plans
2.14(d)-1*	Employment Contracts
2.14(d)-2*	Employee Manual and Policies
2.14(e)*	Employment Related Claims
2.14(g)*	Employee Participation Plan Documents
2.17*	† Management Company Contracts
3.5(a)	Rent Rolls
3.5(b)*	Other Leases, Licenses or Occupancy Agreements
3.6	Commission Agreements
3.7*	Service Contracts
3.8	Project Sale or Option Agreements
3.10*	Licenses and Permits
3.11	Title Matters
3.13	Condemnation Proceedings
3.15	Environment and Physical Matters
3.18	Insurance Policies and Pending Insurance Claims

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Schedule	Description
3.19(a)*	Projects Under Construction
3.19(c)*	Capital Improvements Contracts
3.21	Unsatisfied Project Partnership Obligations
3.25(a)	Schedule of Tax Credits
3.25(b)	Pre-8609 Projects
3.29*	Projects Managed by † Management Company, Inc.
3.30	Tax Credit Shortfalls
4.3*	Excluded Seller-Affiliated Projects
5.2	Contemplated Actions
5.8	Restrictions on Assignments and Pledges
5.9(b)	Restrictions on Amendment or Terminations of Scheduled Documents
5.9(j)*	Contemplated Acquisitions of Limited Partner Interests
5.11(a)	†’s PTO Policies
6.4	Required Consents
8.3	Sun and Key Projects
Exhibit	Description
A	Defined Terms
B	Form of Earnest Money Escrow Agreement
C	Form of Holdback Escrow Agreement
D-1	Form of Assignment and Assumption of Partnership Interest and Limited Partner Consent
D-2	Form of Assignment and Assumption of Fee Agreement
E	Form of Lender Estoppel and Consent Certificate
F	Form of Assumption of Other Assumed Obligations
G	Form of Bill of Sale
	Note: Exhibits B-G to be finalized within 30 days after the Effective Date

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PURCHASE AND SALE AGREEMENT

This Purchase and Sale Agreement (the “Agreement”), dated as of February 23, 2007, is made by and among GIN Housing Partners I, L.L.C., a Delaware limited liability company (the “Purchaser”), and the persons and entities identified as sellers on the signature pages hereto (individually and/or collectively as the context may require, the “Seller”). Unless otherwise indicated, all capitalized terms not otherwise defined herein shall have the meanings ascribed to such terms in Exhibit A attached hereto and made a part hereof.

R E C I T A L S

A. Seller is engaged in the business (the “Business”) of sponsoring, developing and managing each of the multi-family residential projects identified by project name and address on Schedule A (the “Projects”).

B. Each Project is owned and operated by a limited partnership or a limited liability company as set forth on Schedule A (collectively, the “Project Partnerships”), and Seller, pursuant to limited partnership agreements or operating agreements for each Project Partnership (the “Project Partnership Agreements”) owns partnership interests (both general and, in certain cases, limited) or member interests in each such Project Partnership as set forth on Schedule A (the “Project Partnership Interests”, and collectively with the Management Company Interests, the “Partnership Interests”). Each Project Partnership, other than the Market Rate Projects, is further owned, in part, by one or more third party limited partners or co-general partners, also as set forth on Schedule A (collectively, the “Limited Partners”). Schedule A also sets forth a complete and accurate list of all Project Partnership Agreements (including all amendments and modifications thereto and restatements thereof).

C. In consideration for its services in connection with the Projects, Seller or † Management Company receives or is entitled to receive various payments, including, but not limited to, cash distributions, property management fees, incentive management fees, asset management fees, tax credit fees, principal amortization payments, disposition fees, sale and refinancing proceeds, repayment of operating deficit loans and deferred development fees (collectively, the “Economic Interests,” and together with the Partnership Interests and all other tangible and intangible personal property of Seller relating to the Economic Interests and/or the Partnership Interests, other than any interests excluded from the transaction contemplated hereby pursuant to the terms of this Agreement, the “Purchased Interests”). The Economic Interests include, without limitation, rights and interests including (i) rights of † Management Company as property manager under various property management agreements relating to the Projects (the “Property Management Agreements”), which Property Management Agreements are described on the “Property Management Agreements” portion of Schedule B, (ii) rights of Seller or † Management Company as developer or development manager under various development agreements and/or notes relating to the Projects (the “Development Agreements”), which Development Agreements are described on the “Development Agreements” portion of Schedule B, (iii) rights of Seller or † Management Company to fees or other payments under agreements and/or notes other than the Project Partnership Agreements, Property Management Agreements or Development Agreements, which other agreements and/or notes (the “Other Fee Agreements,” and together with the Property Management Agreements and the Development Agreements, the “Fee Agreements”) are described on the “Other Fee Agreements” portion of Schedule B, and (iv) rights to be repaid loans made to the Project Partnerships (pursuant to the Project Partnership Agreements or otherwise), which loans (including the identity of each applicable lender) are also listed on Schedule B. Without limiting the generality of the foregoing, the Economic Interests include the ability to dispose of a Project at the end of the applicable Compliance Period and all right to the sale or refinancing proceeds in connection therewith or the liquidation proceeds, all as more fully described in and subject to the provisions of the applicable Scheduled Documents.

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D. Seller has issued various guarantees and/or indemnities and has other obligations that are outstanding in connection with the Projects, including, without limitation, guarantees relating to operating deficits, repurchase events, tax credit compliance and recapture, permanent loan closing, loan obligations, general partner obligations and environmental indemnities. All of such guarantees or indemnities that are contained in documents other than the Partnership Agreements and which are primarily guarantee or indemnity documents (as opposed to, for example, guarantee obligations of a General Partner that arise by operation of law due to the fact that the General Partner has unlimited liability for obligations of a Project Partnership under any documents to which that Project Partnership is a party) are described on Schedule C (the “Standalone Economic Guarantees”), including indicating thereon the Project to which each Standalone Economic Guarantee relates and the identity of each Guarantor under each Standalone Economic Guaranty. Seller may also be a guarantor or indemnitor under various guarantees or indemnities not listed on Schedule C, but the term “Standalone Economic Guarantees” shall not include any such other guarantees or indemnities.

E. Each of the outstanding agreements (other than residential leases and other agreements with tenants and documents and agreements disclosed on other Schedules set forth herein) in Seller’s possession or control (including in the possession of † Management Company or in the possession of Seller’s attorneys) or of which Seller has Actual Knowledge pursuant to which any Seller or any Project Partnership is bound and which evidence, among other things, the Purchased Interests and the Seller Obligations are listed on Schedule D. Schedule D shall be deemed to include any document or agreement disclosed in any other Schedule hereto.Schedule D may, but shall not be required to, include any agreements that have been fully performed, official statements on tax exempt bond deals, construction draw requests, opinion certificates, authorizing resolutions or due diligence or application submittals to lenders, limited partners and housing authorities, entity formation documents of record, repaid construction loans, land purchase documentation unless material obligations remain thereunder, payment and performance bonds, eligible basis cost certifications, continuing compliance certifications, reliance letters, loans (such as operating deficit loans) made to a Project Partnership but which are not evidenced by separate documentation other than the agreement (e.g. Project Partnership Agreement) pursuant to which such loans were made (although such loans are reflected on the financial statements delivered to Purchaser), UCC financing statements, or documents which an accurate and complete title search on the Projects as of the Effective Date would reveal, and, notwithstanding anything to the contrary herein, any provision herein which references Schedule D shall not be required to separately reference any such items. Seller’s or † Management Company’s obligations under the Partnership Agreements, the Standalone Economic Guarantees, the Fee Agreements and the other Scheduled Documents are collectively referred to herein as the “Seller Obligations”.

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F. Seller desires to sell to Purchaser, and Purchaser desires to purchase from Seller, the Purchased Interests. Purchaser shall thereby be admitted as a partner or member, as the case may be, in each of the Project Partnerships and as both the general and limited partner in † Management Company and shall become the service provider and fee recipient under each of the Fee Agreements (or analogous replacement agreements), all on the terms and subject to the conditions hereinafter set forth. Purchaser further agrees, in consideration therefor, to assume the Assumed Obligations (as defined below) on the terms and subject to the conditions hereinafter set forth. The owners of Purchaser contemplate forming two “sister” entities having the same ultimate owners as Purchaser (Purchaser and such other two entities being “Purchaser Upper Tier Entities”). It is further contemplated that the Purchaser Upper Tier Entities will then own various direct and indirect subsidiaries that may take title to the various Purchased Interests and/or assume the various Assumed Obligations.

G. † Management Company currently leases the building located at † (the “Home Office”), which is the primary home office for the operations of the Business, pursuant to a lease (the “Home Office Lease”) with † (“Home Office Landlord”). In addition to the Home Office Lease, † Management Company and/or Sellers or their Affiliates (other than the Project Partnerships) lease certain offices or other spaces in connection with the Business (collectively, the “Leased Spaces”), and Purchaser shall (subject to obtaining Required Consents) assume any such leases where the lessee is an entity other than † Management Company (it being understood that Purchaser will effectively acquire the lessee’s interest in leases under which † Management Company is the lessee by virtue of Purchaser’s acquisition of † Management Company provided that any required landlord consents are obtained). The term “Leased Spaces” shall also include the Home Office space.

H. Included in the Purchase Price is all tangible personal property owned (or, to the extent designated by Purchaser, leased) by Seller, † Management Company or any of their Affiliates (other than the Project Partnerships) and used in connection with the operation of the Business (including, without limitation, all office equipment, computers and computer software, artwork, furniture and supplies) and located at any Project, at the Home Office or at any Leased Space (the “Personal Property”).

I. Also included in the Purchase Price are all of the assets of †, including without limitation all licenses, permits and other intellectual property and intangible assets (such as any rights to trademarks or tradenames).

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NOW, THEREFORE, in consideration of the foregoing Recitals (which are hereby incorporated by reference), the representations, warranties, agreements and conditions hereafter set forth and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the Parties agree as follows:

ARTICLE 1. PURCHASE AND SALE OF INTERESTS; CLOSING

1.1Agreement to Purchase and Sell.

(a)On the Closing Date, upon the terms and subject to the conditions set forth in this Agreement and after giving effect to the transactions set forth in Section 1.6, Seller shall sell, assign, transfer, convey and deliver the Purchased Interests to the Purchaser, free and clear of all Liens other than (i) Liens in favor of Limited Partners for the purpose of securing obligations of the Seller to the Limited Partners arising under the Project Partnership Agreements or the related Standalone Economic Guarantees, (ii) Liens that are shown on any UCC searches obtained by Purchaser during the Due Diligence Period but to which Purchaser does not object during the Due Diligence Period, and (iii) the Liens listed on Schedule 1.1(a) (collectively, the “Permitted Interest Liens”), and Purchaser shall purchase the Purchased Interests from Seller and assume (x) the Seller Obligations relating to the period from and after Closing, and (y) such Seller Obligations which relate to the period prior to Closing as Purchaser agrees to assume at Closing (collectively, the “Assumed Obligations”). Purchaser agrees that the Purchaser Upper Tier Entities shall jointly and/or severally assume at Closing any Seller Obligations that relate to the period prior to Closing that the provider of a Required Consent requires Purchaser or any Purchaser Upper Tier Entities to assume as a condition to the granting of such Required Consent (provided that any such assumption shall not affect or negate Purchaser’s rights to indemnification as set forth in Section 7.1). Purchaser also agrees that, to the extent required by the provider of a Required Consent as a condition to the granting of such Required Consent, the Purchaser Upper Tier Entities shall jointly and/or severally guarantee any Seller Obligations of General Partners that are currently guaranteed by any Seller or another party related to Seller. Purchaser may designate any Purchaser Upper Tier Entity and/or various directly or indirectly wholly owned subsidiaries of any of the Purchaser Upper Tier Entities as Purchaser’s designees to take title to the various Purchased Interests and/or (subject to the requirements of the providers of Required Consents) to assume Assumed Obligations. At least fifteen days prior to Closing, or sooner if requested by third parties in connection with the Required Consents or otherwise, Purchaser shall notify Seller of the identity of the subsidiary designated by Purchaser to take title to each of the Purchased Interests and/or to assume the Assumed Obligations.

(b)Purchaser is not purchasing (and the Purchased Interests do not include) (i) the Pending Warranty Claims (which are listed on Schedule 1.1(b)-1) or (ii) the other Claims listed on Schedule 1.1(b)-2 (collectively with the Pending Warranty Claims, the “Retained Claims”). All of the Retained Claims have been (or prior to Closing shall be) assigned to Seller or its designee, and all necessary consents to such assignments have been obtained and any payments required in connection therewith have been paid (or in each case will be so obtained/paid prior to Closing).

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1.2Purchase Price, Allocation and Tax Treatment. The aggregate consideration to be paid by Purchaser, in accordance with Section 1.6(b), to Seller (the “Purchase Price”) shall be an amount equal to FOUR HUNDRED NINETY-FOUR MILLION THREE HUNDRED THOUSAND ($494,300,000) (the “Base Price”), subject to adjustment in connection with the removal of Removed Projects in accordance with the terms of this Agreement or adjustments in connection with the †/† Projects pursuant to Section 1.5; plus or minus the Proration Adjustment, calculated in accordance with Section 1.4.

The Base Price shall be allocated among specific assets as set forth in Schedule 1.2. The Proration Adjustment shall be allocated consistent therewith. Notwithstanding anything otherwise described herein, including but not limited to any description of Economic Interests, Purchased Interests or Partnership Interests, for income tax purposes, the parties shall report in a manner consistent with the allocation of Purchase Price set forth in Schedule 1.2.

1.3Earnest Money.

(a)If Purchaser does not exercise the Due Diligence Termination Option pursuant to and in accordance with Section 6.2, then within 3 business days following the expiration of the Due Diligence Period, Purchaser shall deposit Twelve Million Dollars ($12,000,000) (the “Earnest Money”) with the Earnest Money Escrow Agent to be held in accordance with the Escrow Agreement in the form of Exhibit B attached hereto (the “Earnest Money Escrow Agreement”).

(b)The Earnest Money Escrow Agent shall invest the Earnest Money in an interest bearing account as Purchaser may direct, and all interest earned thereon shall be deemed to be part of the Earnest Money. The Earnest Money shall either be applied against the Purchase Price at Closing or, if this Agreement is terminated prior to Closing, paid to Seller or refunded to Purchaser in accordance with the terms and conditions of this Agreement.

1.4Accrued Fees; Proration Adjustment.

(a)Fees payable to Seller pursuant to the Project Partnership Agreements or Fee Agreements that are calculated with respect to a monthly, quarterly or annual period (e.g. property management fees and incentive management fees) shall be prorated such that Seller shall be paid the portion thereof which relates to Seller’s period of ownership and Purchaser shall be paid the portion thereof which relates to Purchaser’s period of ownership (determined on a pro rata basis based on the number of days in the applicable period that the respective party was the owner of the applicable Purchased Interest).

(b)For purposes of determining the prorations hereunder relating to amounts paid by a Project Partnership from cash flow, the parties shall conduct a mock fiscal year end determination of cash flow available for distributions for each Project Partnership effective as of the Closing. This determination of cash flow available for distribution shall be based on interim financial statements prepared by Seller for the period beginning on the end of the last fiscal year for which distributions have been completed and ending on the last day of the month prior to Closing, and an estimate shall be made for the month of Closing based upon the average of the prior six months (excluding non-recurring extraordinary items). This determination shall be consistent with methods used for prior determinations of cash flow available for distribution and also consistent with the applicable Project Partnership Agreement; provided, however, if Closing occurs on a date other than the actual fiscal year end of a Project Partnership, then any fees or distributions payable to persons or entities other than Seller shall be prorated based on partial years; and provided further, however, to the extent not taken into account above, cash flow available for distribution shall be increased by current accrued assets and decreased by current accrued liabilities. Purchaser shall pay to Sellers at Closing the amount of any unpaid fees or distributions due to them under the foregoing calculation. To the extent Sellers have previously paid or distributed to themselves more than the amount due to them under the foregoing calculation and such distributed amounts have not thereafter been reimbursed to the applicable Project Partnership, Purchaser shall receive a corresponding credit against the Purchase Price. Schedule 1.4(b) sets forth a sample calculation for a Project based on the interim statements for the month ending prior to the date hereof.

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(c)If any Project Partnership listed on Schedule 1.4(c) (each an “Incomplete Project”) has not received its final capital contribution prior to Closing, then the Purchase Price shall be increased by the applicable amount set forth in Schedule 1.4(c) provided that the basic assumptions and requirements set forth in Schedule 1.4(c) with respect to the applicable Incomplete Project(s) are true and satisfied as of the Closing Date. Such amounts are based upon estimates of the amount of fees payable to the applicable Sellers from development sources as more fully set forth in Schedule 1.4(c). If the basic assumptions and requirements set forth in Schedule 1.4(c) with respect to any Incomplete Project are not true and satisfied as of the Closing Date, the parties shall negotiate in good faith to agree upon a reasonable modification to the Purchase Price adjustment contemplated by this subsection given the facts as they then exist, and if despite such good faith negotiation the parties are unable to agree upon any such adjustment, then either party may exercise the Project Removal Option with respect to the applicable Incomplete Project.

(d)Schedule 1.4(d) sets forth (i) certain liabilities of certain of the Project Partnerships pursuant to which payments thereon are expected to be received after Closing by Purchaser (as purchaser of the applicable Project Partnership Interests or Economic Interests) or † Management Company (other than the construction management fees, the “Purchased Liabilities”), and (ii) certain liabilities of certain of the Project Partnerships pursuant to which payments thereon are expected to be paid after Closing to the applicable Limited Partners or affiliates of the Limited Partners of the applicable Project Partnerships (the “Owed Liabilities”). The amounts of the Purchased Liabilities and Owed Liabilities set forth on Schedule 1.4(d) are as of December 31, 2006 (such amounts as of December 31, 2006, being referred to as the “Base Amounts”), and the agreed annual accrual rate applicable to each is set forth on Schedule 1.4(d) as well. Within five days after the Effective Date, Schedule 1.4(d) shall include the “A15” cash flow/deficit workpapers for certain Project Partnerships, which A15 sets forth the past practice and methodology that Seller used to distribute and pay cash during and for the year 2005, and in a few cases the A15 has been modified by the parties (the past practice and methodology as modified is herein referred to as the “Methodology”). For purposes hereof (1) in those cases where there is no A15, the priorities and percentages set forth in the applicable Project Partnership Agreement shall be included in the Methodology and (2) unless otherwise noted on the A15, those priorities and percentages shown on an A15 as having an allocation of cash flow shall be used first in the Methodology and then the remaining priorities and percentages in the applicable Project Partnership Agreement shall be used in the Methodology. It is expected that the balances of the Purchased Liabilities and Owed Liabilities will change between December 31, 2006 and the Closing Date as the audits are finalized, as accrued interest is added, as capital contributions are made by Limited Partners, as debt financings are completed, and as payments from cash flow available for distribution are applied to pay down the balances (each of the foregoing events a “Change Event”). Seller shall make payments on Purchased Liabilities and Owed Liabilities in accordance with the Methodology. If, with respect to any Project, (x) Seller deviates from the Methodology, or (y) the Base Amounts are later determined to be incorrect (due to an audit), and as a result of either or both of the foregoing events described in the preceding clauses (x) and (y) occurring, there is a difference between the actual net balance of Purchased Liabilities and Owed Liabilities for the applicable Project as of closing (the “Actual Net Balance”) and what would have been the net balance of Purchased Liabilities and Owed Liabilities for the applicable Project had the Methodology been followed and the Base Amounts been correct (the “Expected Net Balance”) and such difference is greater than 5% of the Expected Net Balance for the applicable Project, then (i) the amount of any difference in a Purchased Liability which is positive (i.e. increased liability) shall be an increase in the Purchase Price and the amount of any difference in a Purchased Liability which is negative (i.e. reduced liability) shall be a reduction in the Purchase Price and (ii) the amount of any difference in an Owed Liability which is positive (i.e. increased liability) shall be a reduction in the Purchase Price and the amount of any difference in an Owed Liability which is negative (i.e. reduced liability) shall be an increase in the Purchase Price. As a matter of clarification and not limitation of the foregoing, (1) with respect to Projects 107 146 134 123 8 25 (as numbered on Schedule A), if a Purchased Liability is reduced as a result of an upward adjuster payment by a Limited Partner, there shall be no reduction in Purchase Price as a result thereof, (2) with respect to Projects 100, 104 and 117 (as numbered on Schedule A), if an Owed Liability resulting from a change in the credit adjustor amount is reduced, then there shall be no increase in Purchase Price as a result thereof. Further, notwithstanding anything herein to the contrary, (1) with respect to Projects 21, 73, 93 (as numbered on Schedule A), if a Seller makes an advance which is used to reduce a Purchased Liability, then there shall be no reduction in Purchase Price as a result of the reduction on the Purchased Liability and no increase in the Purchase Price as a result of the advance, and (2) any advance by a Partner in a Project Partnership made subsequent to the Effective Date that results in a change in the balance of a Purchased Liability or Owed Liability shall not result in an adjustment hereunder, and (3) the operation of Section 1.4(b) shall not create an adjustment under this Section 1.4(d).

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(e)Seller and Purchaser shall also prorate at Closing any amounts payable under any Space Leases or Personal Property Leases assumed by Purchaser, which prorations shall also be made based on the Parties’ respective periods of ownership.

(f)Seller and Purchaser had initially contemplated structuring the transaction such that (i) Purchaser would have acquired the Property Management Agreements either by assignment thereof or by termination thereof with Purchaser entering into new Property Management Agreements with the Project Partnerships, and (ii) at Closing, † Management Company would have terminated its employees and Purchaser would have hired some or all of such employees. Seller and Purchaser have instead agreed to have Purchaser acquire ownership of † Management Company on the terms and subject to the conditions set forth herein but are not attributing any portion of the Purchase Price to the ownership interests in † Management Company. Accordingly, at Closing the parties shall determine † Management Company’s assets (including cash on hand, accrued receivables and prepaid expenses) and liabilities (including accrued payables and other accrued liabilities, including accrued liabilities relating to Employees of † Management Company to the extent set forth in Section 5.11(a)), excluding in each case rights and obligations under the Property Management Agreements and any other items which are covered by other prorations under this Section 1.4. If such assets exceed such liabilities, Purchaser shall pay to Seller the net difference at Closing. If such liabilities exceed such assets, Seller shall credit Purchaser the amount of the net difference at Closing.

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(g)To the extent any closing prorations are based on estimated amounts, the Parties shall reprorate such amounts within thirty days after the actual applicable revenues or expenses are known. The terms of this Section shall survive Closing.

(h)The net prorations to be made at Closing as described in this Section are referred to herein as the “Proration Adjustment”.

1.5The † Adjustment. Seller represents and warrants to Purchaser that (i) †, an individual (“†”), directly or indirectly owns (assuming † has not assigned such interests without notice to Seller, although the terms of this Section and definitions herein shall continue to apply even if † has assigned such interests) certain interests in †, †, and † (the “†/† Entities”). Schedule 1.5 sets forth the Projects to which the †/† Economic Interests relate (the “†/† Projects”). The Economic Interests held by the †/† Entities are the “†/† Economic Interests”, and the Seller Obligations that relate to the †/† Projects, the †/† Economic Interests and/or the †/† Entities are referred to herein as the “†/† Seller Obligations”. Schedule E to this Agreement shows the Allocated Value for (a) 100% of the †/† Economic Interests, (b) Seller’s portion of the †/† Economic Interests (such portion being referred to herein as “Seller’s Portion of the †/† Economic Interests”) and (c) †’s portion of the †/† Economic Interests (such portion being referred to herein as “†’s Portion of the †/† Economic Interests”). Seller shall use commercially reasonable efforts to obtain all necessary consents and/or assignments from †, such that 100% of the †/† Economic Interests can be transferred to Purchaser at Closing in the same manner and on the same terms and conditions as the other Purchased Interests and for the Allocated Value assigned to the †/† Economic Interests as set forth on Schedule E to this Agreement (such consents and/or assignments from † are referred to herein as the “Required † Consents” and are also Required Consents). If, however, Seller is not able to obtain the Required † Consents, then Purchaser must make one of the following elections (to be determined in the sole and absolute discretion of Purchaser):

(a)Purchaser may elect to cause the †/† Projects to become Removed Projects, in which case the Base Price shall be reduced by the Allocated Value of the †/† Projects, Purchaser shall not acquire the †/† Economic Interests, and Purchaser shall not assume any obligations under any †/† Seller Obligations.

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(b)Purchaser may elect to cause only the †/† Economic Interests to be removed as Purchased Interests from the transaction, in which case the Base Price shall be reduced by the Allocated Value of the †/† Economic Interests, Purchaser shall not acquire the †/† Economic Interests, but Purchaser shall acquire all other Purchased Interests related to the †/† Projects and Purchaser shall assume the obligations under the †/† Seller Obligations.

(c)If † consents to the direct or indirect transfer by Seller of only Seller’s Portion of the †/† Economic Interests, then Purchaser may elect to acquire Seller’s Portion of the †/† Economic Interests, in which case the Base Price shall be reduced by the Allocated Value of †’s Portion of the †/† Economic Interests, Purchaser shall acquire only the Seller’s Portion of the †/† Economic Interests, Purchaser shall acquire all other Purchased Interests related to the †/† Projects and Purchaser shall assume the obligations under the †/† Seller Obligations.

1.6Closing(s).

(a)Consummation of the transactions contemplated hereby (the “Closing”) shall take place at the offices of Sonnenschein Nath & Rosenthal LLP, 7800 Sears Tower, Chicago, Illinois 60606, at 10:00 a.m., local time on a date (the “Closing Date”) selected by Purchaser that is within thirty (30) business days following the day on which the last of the conditions set forth in Sections 8.1 and 8.2 is fulfilled or waived (other than those conditions which can be fulfilled only on the Closing Date but subject to the waiver or fulfillment of such conditions), or at such other time and place and on such other date as Purchaser and Seller shall agree, but in no event later than the Drop Dead Date.

(b)At the Closing, Purchaser shall pay to Seller an aggregate amount (the “Closing Payment”) equal to (1) the Base Price (as may be adjusted in connection with the removal of Removed Projects in accordance with the terms of this Agreement and/or as may be adjusted pursuant to Sections 1.5(b) or (c) above), minus (2) the Earnest Money, plus or minus (3) the Proration Adjustment. The Purchaser shall pay to Seller the Closing Payment by wire transfer of immediately available funds to the account specified by Seller.

(c)At the Closing, Purchaser shall deliver to a mutually acceptable escrow agent the Seller Indemnity Letter of Credit and the † Management Letter of Credit to be held by such escrow agent pursuant to and in accordance with the terms of a joint order escrow agreement (“Holdback Escrow Agreement”) in the form of Exhibit C attached hereto, which Seller Indemnity Letter of Credit and † Management Letter of Credit shall be available to the Purchaser Indemnified Parties as their exclusive remedy for indemnification obligations of Seller pursuant to Article 7 hereof.

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(d)Sections 8.3(b) and 8.3(c) allow for the Parties to exercise certain Project Removal Options with respect to Projects for which the Required Consents have not been obtained by the dates specified in those Sections (Projects that are so removed pursuant to Section 8.3(b) or 8.3(c) being “Consent Removal Projects”), in which case, on and subject to the terms of this Agreement, Closing would occur with respect to the Projects for which Required Consents had been obtained. Section 8.3(d) provides that (i) the Parties shall thereafter (unless they agree otherwise on either a Project-by-Project basis or in whole) continue to diligently and in good faith attempt to obtain the Required Consents with respect to the Consent Removal Projects, and (ii) if any such Required Consents are thereafter obtained for any such Consent Removal Projects, the Consent Removal Projects for which such Required Consents are obtained shall once again become Projects hereunder and shall cease to be Removed Projects. If any such Required Consents for Consent Removal Projects are obtained prior to the Drop Dead Date (as the same may be extended in accordance with Section 8.4(e)), then the parties shall conduct one or more subsequent Closings (each a “Subsequent Closing”) on and subject to the terms of this Agreement pursuant to which Purchaser shall acquire from Seller the Purchased Interests relating to the former Consent Removal Projects for which such Required Consents were obtained. Each Subsequent Closing (if any) shall be conducted sixty days after the immediately preceding Closing or, if later, ten business days after the first Required Consents are obtained since the date of the immediately preceding Closing; provided that the final Subsequent Closing shall occur no later than the Drop Dead Date. Each Subsequent Closing shall include only former Consent Removal Projects for which Required Consents were obtained by the date which is ten business days prior to the date of such Subsequent Closing. The Base Price for any Subsequent Closing shall be the sum of the Allocated Values attributable Projects which are the subject such Subsequent Closing. All the terms and conditions of this Agreement relating to Closing (to the extent still applicable after taking into account the initial Closing) shall apply with respect to any Subsequent Closing(s).

1.7Seller’s Closing Deliveries. Subject to the conditions set forth in this Agreement, at the Closing, simultaneous with Purchaser’s deliveries hereunder, Seller shall deliver to Purchaser all of thefollowing documents, certificates and instruments, all in form and substance reasonably satisfactory to Purchaser:

(a)Assignment and Assumption of Partnership Interests and Limited Partner Consent. An Assignment and Assumption of Partnership Interest and Limited Partner Consent in the form of Exhibit D-1 attached hereto (or such other form as may be reasonably acceptable to Purchaser, Seller and the consenting party(ies)) for each of the Project Partnership Interests, duly executed by Seller and the consenting party(ies) (each an “Assignment and Assumption of Partnership Interest”). If, despite using commercially reasonable efforts, Seller is unable to deliver an Assignment and Assumption of Partnership Interest, then Seller shall not be in default hereunder, but Purchaser’s receipt of a fully executed Assignment and Assumption of Partnership Interest for each of the Project Partnership Interests shall be a condition to Purchaser’s obligation to close pursuant to Section 8.1(b).

(b)Amendments. An amendment to each Project Partnership Agreement (the “Partnership Amendments”) duly executed by all of the Partners in each Project Partnership evidencing that Purchaser or its designee has been admitted, as of the Closing Date, as a General Partner in each Project Partnership. If, despite using commercially reasonable efforts, Seller is unable to deliver a Partnership Amendment, then Seller shall not be in default hereunder, but Purchaser’s receipt of a fully executed Partnership Amendment for each of the Project Partnership Agreements shall be a condition to Purchaser’s obligation to close pursuant to Section 8.1(b).

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(c)Assignment and Assumption of Fee Agreements. An Assignment and Assumption of Fee Agreements in the form of Exhibit D-2 attached hereto (or such other form as may be reasonably acceptable to Purchaser, Seller and the consenting party(ies)) for each of the Fee Agreements (other than Fee Agreements under which † Management Company is the fee recipient), duly executed by Seller and such consenting party(ies) (each an “Assignment and Assumption of Fee Agreement”). No separate assignment shall be needed for fees payable to a General Partner under the terms of its applicable Project Partnership Agreement. † Management Company, Inc. (rather than † Management Company) is the property manager under certain of the Property Management Agreements, and such Property Management Agreements shall be assigned to † Management Company pursuant to Assignments and Assumptions of Fee Agreement. If, despite using commercially reasonable efforts, Seller is unable to deliver any Assignment and Assumption of Fee Agreement, then Seller shall not be in default hereunder, but Purchaser’s receipt of a fully executed Assignment and Assumption of Fee Agreement for each Fee Agreement shall be a condition to Purchaser’s obligation to close pursuant to Section 8.1(b).

(d)Assignment and Assumption of Management Company Interests. An assignment and assumption of partnership interest for each of the Management Company Interests duly executed by Seller;

(e)Holdback Escrow Agreement. The Holdback Escrow Agreement, duly executed by Seller.

(f)Resolutions. Copies of any resolutions required by the organizational documents of each Seller certified as of the Closing Date by the respective secretary (or other authorized representative) of such Seller as having been duly and validly adopted and as being in full force and effect on the Closing Date, authorizing the execution and delivery by each Seller of this Agreement, the Transaction Documents and the performance by each Seller of the transactions contemplated hereby and thereby, along with such further evidence of authority and incumbency as Purchaser may reasonably require (including copies of any powers of attorney).

(g)Good Standing Certificates. Good standing certificates (or other similar certificates) for each Seller, † Management Company and each Project Partnership, in each case no earlier than five (5) days prior to the Closing Date, issued by the Secretary of State (or other governmental authority, as applicable) of each jurisdiction in which such Seller, † Management Company or Project Partnership is either organized or qualified or licensed to do business.

(h)Closing Certificate. A certificate executed by each Seller, dated as of the Closing Date, to the effect that (i) the representations and warranties of Seller contained herein were true and correct on the Effective Date, and are true and correct on the Closing Date with the same effect as though made on and as of the Closing Date; and (ii) Seller has performed and complied with all of the agreementsand covenants to be performed or complied with by each of them under this Agreement prior to and as of the Closing Date.

(i)UCC Releases. UCC termination statements releasing each of the Liens upon the Purchased Interests other than the Permitted Interest Liens, but only with respect to such Liens that are capable of being released by the filing of a UCC termination statement;

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(j)Bank Documents. Signature and authorization cards for any Project Partnership bank accounts and any other accounts for which Purchaser or its designee needs to be a signatory as the assignee of any Purchased Interest;

(k)Payoff Letters. Payoff letters, if necessary, setting forth, as of the Closing Date, the amount of principal and interest necessary to pay in full any indebtedness required to be discharged under this Agreement;

(l)Opinion of Seller’s Counsel. An opinion of †, counsel to Seller, addressed to Purchaser, dated the Closing Date and in a form to be agreed upon during the Due Diligence Period;

(m)Other Space Leases. For each Space Lease under which any Person other than † Management Company is the lessee, an assignment and assumption of such Space Lease (provided any required consents to assignment are obtained) or a sublease thereof (if any required consent to assignment cannot be obtained but a consent to sublease is either obtained or is not required), each in a form reasonably acceptable to Seller and Purchaser and duly executed by Seller as assignor or sublessor;

(n)Bill of Sale. One or more bills of sale in the form of Exhibit G hereto transferring the Owned Personal Property to Purchaser;

(o)Assignments of Leased Personal Property. For each item of Leased Personal Property under which any Person other than † Management Company is the lessee, an assignment and assumption of the applicable Personal Property Lease (provided any required consents to assignment are obtained) or a sublease thereof (if any required consent to assignment cannot be obtained but a consent to sublease is either obtained or is not required), each in a form reasonably acceptable to Seller and Purchaser and duly executed by Seller as assignor or sublessor;

(p)Books and Records. All books, records, Scheduled Documents, tax returns, licenses, permits, leases, Service Contracts and other documents relating to the Business, the Projects or the Project Partnerships which are in Seller’s possession or control. The Scheduled Documents and all other books, records, files and other materials owned by † Management Company or the Project Partnerships or relating to the Purchased Interests, the Projects or the Project Partnerships shall remain in their current location, or at Purchaser’s election Seller shall have any of such materials designated by Purchaser delivered at Purchaser’s expense to a location designated by Purchaser. Seller shall be responsible for making any copies of any such materials that Seller desires to retain, and Purchaser agrees to make any such materials in Purchaser’s possession or control available to Seller after Closing for review or copying at any reasonable time upon reasonable prior notice. Notwithstanding the foregoing, Seller shall not be required to deliver any of the materials in the possession of its attorneys, but all such materials shall be made available to Purchaser for review or copying at Purchaser’s expense at any reasonable time upon reasonable prior notice. The provisions of this Section 1.7(q) shall survive Closing;

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(q)FIRPTA. For each Person comprising Seller, a non-foreign transferor affidavit;

(r)† Assets. To the extent not covered by any of the foregoing documents, assignments of all assets (tangible and intangible) of †; and

(s)Additional Agreements. All such other documents and instruments as Purchaser or its counsel shall reasonably request to consummate the transactions contemplated by this Agreement.

1.8Purchaser’s Closing Deliveries. Subject to the conditions set forth in this Agreement, at the Closing, simultaneous with the deliveries of Seller hereunder, Purchaser shall deliver all of the following documents, certificates and instruments, all in form and substance reasonably satisfactory to Seller and its counsel:

(a)Assignment and Assumption of Partnership Interests. An Assignment and Assumption of Partnership Interest for each of the Project Partnership Interests duly executed by Purchaser;

(b)Amendments. Duly executed Partnership Amendments, to the extent required to be executed by Purchaser or its designee as the new General Partner;

(c)Assignment and Assumption of Fee Agreements. An Assignment and Assumption of Fee Agreement for each of the Fee Agreements (other than any Fee Agreements under which † Management Company is the fee recipient) duly executed by Purchaser.

(d)Assignment and Assumption of Management Company Interests. An assignment and assumption of partnership interest for each of the Management Company Interests duly executed by Purchaser;

(e)Holdback Escrow Agreement. The Holdback Escrow Agreement, duly executed by Seller.

(f)Resolutions. A copy of resolutions for Purchaser and Purchaser’s member(s), certified as of the Closing Date by the secretary (or other authorized representative) of Purchaser as having been duly and validly adopted and as being in full force and effect on the Closing Date, authorizing the execution and delivery by Purchaser of this Agreement and the Transaction Documents and the performance by Purchaser of the transactions contemplated hereby and thereby;

(g)Closing Certificate. A certificate executed by Purchaser and Purchaser’s member(s), dated as of the Closing Date, to the effect that (i) the representations and warranties of Purchaser contained herein were true when made on the Effective Date and are true on the Closing Date with the same effect as though made on and as of the Closing Date; and (ii) Purchaser has performed and complied with all of the agreements and covenants to be performed or complied with by it under this Agreement prior to and as of the Closing Date;

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(h)Closing Payment. The Closing Payment as provided in Section 1.6(b);

(i)Assumptions. Assumptions of the Assumed Obligations (to the extent not otherwise assumed in connection with the Assignments and Assumptions of Partnership Interests or the Assignments and Assumptions of Fee Agreements) the in the form of Exhibit F attached hereto (or such other form as may be reasonably acceptable to Purchaser and Seller), duly executed by Purchaser;

(j)Other Space Leases. For each Space Lease under which any Person other than † Management Company is lessee, an assignment and assumption of such Space Lease (provided any required consents to assignment are obtained) or a sublease thereof (if any required consent to assignment cannot be obtained but a consent to sublease is either obtained or is not required), each in a form reasonably acceptable to Seller and Purchaser and duly executed by Purchaser’s designee as assignee or sublessee;

(k)Assignments of Leased Personal Property. For each item of Leased Personal Property under which any Person other than † Management Company is lessee, an assignment and assumption of the applicable Personal Property Lease (provided any required consents to assignment are obtained) or a sublease thereof (if any required consent to assignment cannot be obtained but a consent to sublease is either obtained or is not required), each in a form reasonably acceptable to Seller and Purchaser and duly executed by Purchaser’s designee as assignee or sublessee;

(l)Opinion of Purchaser’s Counsel. An opinion of Sonnenschein Nath & Rosenthal LLP, counsel to Purchaser, addressed to Seller, dated the Closing Date and in a form to be agreed upon during the Due Diligence Period;

(m)Joinder Regarding Indemnity. A joinder executed by each of the Purchaser Upper Tier Entities whereby each such Purchaser Upper Tier Entity agrees to be jointly and severally liable for all of Purchaser’s obligations under Article 7.

(n)Additional Agreements. All such other documents and instruments as Seller or its counsel shall reasonably request to consummate the transactions contemplated by this Agreement.

ARTICLE 2. REPRESENTATIONS AND WARRANTIES OF EACH SELLER.

Each Seller hereby represents and warrants to Purchaser the following:

2.1Ownership of Purchased Interests and Personal Property.

(a)Partnership Interests. Each Seller is the sole lawful record and beneficial owner of the Partnership Interest set forth opposite such Seller’s name as set forth on Schedule A, which ownership is free and clear of all Liens (other than Permitted Interest Liens and any other Liens that will be released at or prior to Closing). Upon the sale of the Partnership Interests to Purchaser at Closing pursuant to this Agreement, Purchaser will acquire the entire legal and beneficial interest in, and good and marketable title to, such Partnership Interests, free and clear of all Liens other than Permitted Interest Liens.

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(b)Economic Interests. Each Seller or † Management Company is the sole lawful record and beneficial owner of the Economic Interest set forth opposite such Seller’s name as set forth on Schedule B, which ownership is free and clear of all Liens (other than Permitted Interest Liens and any other Liens that will be released at or prior to Closing). Upon the sale of the Economic Interests and † Management Company to Purchaser at Closing pursuant to this Agreement, Purchaser will acquire (directly or through its acquisition of † Management Company) the entire legal and beneficial interest in, and good and marketable title to, such Economic Interests, free and clear of all Liens other than Permitted Interest Liens.

(c)Personal Property. Schedule 2.1(c) sets forth a list of each item of Personal Property having a value of greater than $5,000 and a general description of all other Personal Property having a value of less than $5,000, in each case designating (x) the identity of each Seller or † Management Company which owns or leases any of such Personal Property, and (y) whether the Personal Property is owned or leased. Seller or † Management Company owns the Owned Personal Property free and clear of all Liens (other than any to be released at Closing), restrictions on transfer, options, warrants and purchase rights. Upon the sale of the Owned Personal Property and † Management Company to Purchaser at Closing pursuant to this Agreement, Purchaser will acquire (directly or through its acquisition of † Management Company) the entire legal and beneficial interest in, and good and marketable title to, such Owned Personal Property, free and clear of all Liens. Seller or † Management Company leases the Leased Personal Property free and clear of (other than any set forth in the applicable Personal Property Lease) all Liens, restrictions on transfer, Taxes, options, warrants and purchase rights. Upon the assignment and assumption of any Personal Property Lease at Closing pursuant to this Agreement, Purchaser will acquire the entire leasehold interest of Seller in the applicable Leased Personal Property, free and clear of all Liens.

(d)Other Assets. Schedule 2.1(d) sets forth a list of any property comprising any portion of the Purchased Interests in addition to the property and assets described in subsections (a) - (c) of this Section 2.1 (the “Other Assets”), as well as the identity of each Seller which owns any such Other Assets. Seller owns the Other Assets free and clear of all Liens (other than any to be released at Closing), restrictions on transfer, options, warrants and purchase rights. Upon the sale of the Other Assets to Purchaser at Closing pursuant to this Agreement, Purchaser will acquire the entire legal and beneficial interest in, and good and marketable title to, such Other Assets, free and clear of all Liens.

(e)Retained Claims. Neither the pursuit nor the collection of any of the Retained Claims will have the effect of reducing any amounts which are expected to be paid to Purchaser after Closing pursuant to any of the Purchased Interests (e.g. payment on any Retained Claim would not result in a reduction of the amount payable in connection with any General Partner loan or other receivable that is included within the Purchased Interests).

2.2All Interests of Seller. The Purchased Interests comprise all direct and indirect interests of Seller and the Affiliates and principals of Seller in the Projects and any fees or other economic rights related thereto, other than the matters listed on Schedule 2.2 hereto (the “Excluded Economic Interests”) and the Retained Claims.

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2.3Other Restrictions on Purchased Interests. Except (i) as set forth in the Partnership Agreements, (ii) for the Permitted Interest Liens, (iii) as listed on Schedule 2.3, or (iv) for this Agreement and the transactions contemplated hereby, there are no existing warrants, options, purchase agreements, redemption agreements, calls or rights to subscribe of any character relating to the Purchased Interests owned by Seller, and Seller has the full power and legal right to sell, assign, transfer and deliver the Purchased Interests to Purchaser (subject only to obtaining the Required Consents). It is understood and agreed that the foregoing representation is not intended to be, nor shall it be construed as, a representation by Seller as to what constitutes the Required Consents or that any consents have been obtained.

2.4Organization; Authority.

(a)Good Standing. † Management Company and each Seller that is an entity is duly organized or formed, validly existing and in good standing under the laws of the state in which † Management Company or such Seller was organized or formed, and in each other jurisdiction where the failure to so qualify could reasonably be expected to have a Material Adverse Effect. † Management Company and each Seller has all requisite power and authority to own, lease, operate or otherwise hold its respective properties and assets and to carry on its respective business as now being conducted.

(b)Capacity. Seller has the capacity and authority to execute and deliver to Purchaser this Agreement and the other Transaction Documents to which such Seller is a party, to perform such Seller’s obligations hereunder and thereunder and to consummate the transactions contemplated hereby and thereby (subject only to obtaining the Required Consents). It is understood and agreed that the foregoing representation is not intended to be, nor shall it be construed as, a representation by Seller as to what constitutes the Required Consents or that any consents have been obtained.

(c)Execution and Delivery. This Agreement and the other Transaction Documents to which such Seller is a party have been (or, in the case of Transaction Documents to be executed after the Effective Date, will be at or prior to the Closing) duly and validly executed and delivered by such Seller and, assuming due authorization, execution and delivery by Purchaser, constitute valid and binding obligations of such Seller, enforceable against such Seller in accordance with their terms, except to the extent that enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or other similar laws affecting the enforcement of creditors’ rights in general and subject to general principles of equity and the discretion of courts in granting equitable remedies.

(d)No Springing Liens. The execution, delivery and performance of this Agreement by each Seller does not and will not, to Seller’s Actual Knowledge result in the creation or imposition of any Lien upon any of the Purchased Interests.

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2.5Removal or Foreclosure on Interest. To Seller’s Actual Knowledge, except as set forth on Schedule 2.5, no Limited Partner has asserted grounds for or threatened removal of a Seller as general partner of a Partnership, nor has any Lender threatened foreclosure of any lien in a Seller’s general partner interest.

2.6Financial Statements.

(a)Schedule 2.6(a) contains the following financial statements (collectively, the “Financial Statements”): (x) for each Project Partnership and † Management Company, audited balance sheets and statements of income and cash flows as of and for each of 2001 through 2005, and (y) for † Management Company, an unaudited balance sheet as of December 31, 2006, together with the related unaudited statement of income for the twelve-month period ended on such date. Except as set forth on Schedule 2.6(a), the Financial Statements, to Seller’s Actual Knowledge: (i) except as expressly set forth in the Financial Statements with respect to qualified opinions, were prepared in all material respects in accordance with GAAP applied on a consistent basis, except, in the case of interim Financial Statements, for the absence of notes thereto and normal year-end adjustments (the effect of which will not be individually or in the aggregate material); and (ii) present fairly, in all material respects, the financial position and results of operations of the applicable entities at the dates and for the periods indicated therein.

(b)Seller has devised and maintained a system of internal accounting controls which are sufficient to provide reasonable assurances regarding the reliability of financial reporting and the preparation of annual financial statements for external purposes in accordance with GAAP. Seller has disclosed to Purchaser all 2005 Tax Returns for each Project Partnership.

2.7Partnership Agreements; Fee Agreements and Seller Obligations.

(a)Schedule A (to be delivered in installments as described in Section 2.18) sets forth a complete and accurate list of all Project Partnership Documents (including all amendments and modifications thereto and restatements thereof). Schedule B (to be delivered in installments as described in Section 2.18) sets forth a complete and accurate list of all Fee Agreements (including all amendments and modifications thereto and restatements thereof). Schedule C (to be delivered in installments as described in Section 2.18) sets forth a complete and accurate list of all Standalone Economic Guarantees (including all amendments and modifications thereto and restatements thereof). Seller has made available to Purchaser a correct and complete copy of each written agreement referenced in such Schedules and all amendments and modifications thereto and restatements thereof. Each such agreement is in full force and effect and valid, binding and enforceable against the applicable Seller and, to Seller’s Actual Knowledge, against the other parties thereto. To Seller’s Actual Knowledge, except as set forth on Schedule 2.7, neither Seller nor any other party thereto, is in breach or default under any such agreement in any material respect, and no event has occurred which with notice or lapse of time or both would constitute a breach or default thereunder by any Seller or any other party thereto.

2.8Other Related Agreements. Schedule D sets forth a complete and accurate list of the following contracts and other agreements (written or otherwise and including all amendments and modifications thereto and restatements thereof) relating in any way to † Management Company, any Purchased Interests or any Project to which any Seller, † Management Company or any Project Partnership is a party:

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(a)any agreements evidencing rights or obligations of Seller or † Management Company with respect to the Purchased Interests or the Seller Obligations;

(b)the Loan Documents and any other agreement under which it has created, incurred, assumed or guaranteed any Indebtedness or under which it has imposed a Lien on any of its assets, tangible or intangible;

(c)The Regulatory Agreements;

(d)The leases relating to the Leased Spaces (the “Space Leases”);

(e)The Personal Property Leases;

(f)any agreement that restricts the ability of † Management Company, any Seller or any Project Partnership to engage in the Business;

(g)any agreement that provides for any payment or benefit in connection with any bonus, “phantom stock” plan or accelerated vesting or funding (such as a “golden parachute”) that would be due upon the execution of this Agreement or the Closing or in connection with the transactions contemplated hereby or any later (i.e. after Closing) sale (including either a sale of assets or a sale of ownership interests), merger or similar transaction involving † Management Company or any Project Partnership or General Partner interest;

(h)any agreements granting to any Person an option or a first refusal, first-offer or similar preferential right to purchase or acquire any of the Purchased Interests; and

(i)any agreements providing for powers of attorney or similar authorizations empowering any Person to act on behalf of any Seller.

Seller has delivered or made available to Purchaser a correct and complete copy of each written agreement listed in Schedule D and all amendments thereto. Each such agreement is in full force and effect and is valid, binding and enforceable against † Management Company, the applicable Seller or the applicable Project Partnership and, to Seller’s Actual Knowledge, against the other parties thereto. To Seller’s Actual Knowledge, except as set forth on Schedule 2.8, none of † Management Company, Seller nor any Project Partnership nor any other party thereto, is in breach or default under any such agreement in any material respect, and no event has occurred which with notice or lapse of time or both would constitute a breach or default thereunder by † Management Company, any Seller or Project Partnership or any other party thereto. The Agreements listed on the Schedules A-D are all of the agreements pursuant to which any party might have the right to require that such party’s consent be obtained to the transactions contemplated by this Agreement.

2.9Litigation. Except as set forth on Schedule 2.9, no litigation, action, investigation, event, or proceeding is pending with respect to any Seller (other than any litigation which is not (or is only tangentially) related to the Business and is not related to the transactions contemplated by this Agreement and which could not reasonably be expected to adversely affect the applicable Seller’s ability to perform its obligations hereunder or to adversely affect the transactions contemplated hereby) or † Management Company or any Project Partnership or Project. Further, to Seller’s Actual Knowledge, except as set forth on Schedule 2.9, no such litigation, action, investigation, event or proceeding is threatened against or by † Management Company or any Seller, Project Partnership or Project, that, if adversely resolved, would: (i) have a Material Adverse Effect on † Management Company or any Seller, Project Partnership or Project; (ii) have a Material Adverse Effect on the ability of † Management Company or any Seller, Project Partnership or Project to perform their respective obligations under this Agreement or any Project Document, as applicable; (iii) have a Material Adverse Effect on the financial condition of † Management Company or any Seller, Project Partnership or Project; or (iv) constitute or result in a material breach of any representation, warranty, covenant, or agreement set forth in this Agreement or any Project Document, as applicable. Seller has made available to Purchaser copies of all documents and other materials relevant to any of the matters described in this Section.

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2.10Tax Matters. Except as set forth in Schedule 2.10: (a) to Seller’s Actual Knowledge, Seller has timely and properly filed, or caused each Project Partnership to file, all required Tax Returns relating to † Management Company, the Purchased Interests and/or the Project Partnerships with the appropriate Government Entity within the time period for filing such Tax Returns, including extensions; (b) to Seller’s Actual Knowledge, all such Tax Returns were true, correct and complete in all material respects; (c) to Seller’s Actual Knowledge, all Taxes due and owing by Seller relating to the Purchased Interests, and all Taxes due and owing by † Management Company or any Project Partnership, have been paid; (d) to Seller’s Actual Knowledge, all Taxes that Seller, or any Project Partnership, has been required to collect and withhold relating to the Purchased Interests have been timely and properly collected or withheld, and either have been or will be timely and properly paid over to the proper Government Entity; (e) to Seller’s Actual Knowledge, none of † Management Company, Seller nor any Project Partnership is currently the beneficiary of any extension of time within which to file any Tax Return; (f) there are no Liens for Taxes on any of the Purchased Interests, or to Seller’s Actual Knowledge on the assets of any Project Partnership, other than Permitted Tax Liens; (g) to Seller’s Actual Knowledge, no deficiencies for Taxes relating to the Purchased Interests have been claimed, proposed or assessed against Seller, † Management Company or any Project Partnership by any Government Entity; (h) to Seller’s Actual Knowledge, (1) there are no pending audits, assessments or other actions for or relating to any liability in respect of Taxes relating to † Management Company or the Purchased Interests, and (2) there are no matters under discussion by Seller, † Management Company or any Project Partnership with any Government Entity with respect to Taxes relating to † Management Company or the Purchased Interests that are likely to result in an additional Liability for Taxes with respect to any of † Management Company, the Seller or any Project Partnership; (i) Seller has delivered or made available to Purchaser complete and accurate copies of any audit, examination reports and statements of deficiencies or similar, report, form, protest, closing agreement or other document submitted to or received from any Government Entity with respect to Taxes of Seller (relating to the Purchased Interests) or † Management Company or any Project Partnership for all tax periods for which the statutory period of limitations has not closed, including, without limitation, any notices which may adversely affect the Credits, any Forms 8823 or other notices regarding compliance with Code Section 42 requirements or any Regulatory Agreement with respect to any Project, and all of such notices that relate to matters that have not been fully cured are listed on Schedule 2.10; and (j) none of † Management Company, Seller or any Project Partnership has waived any statute of limitations in respect of Taxes or agreed to any extension of time with respect to a Tax assessment or deficiency, nor has any request been made for any such extension or waiver; (k) no Seller entity is a “foreign person” within the meaning of Section 7701(a) of the Code; (l) to Seller’s Actual Knowledge, the Financial Statements fully and properly reflect, as of their dates, the liabilities for Taxes of each Project Partnership for all periods ending on or before such dates; and (m) each Project Partnership has in effect a valid election under Section 754 of the Code. Schedule 2.10 shall not be required to list matters which are not (or are only tangentially) related to the Business and are not related to the transactions contemplated by this Agreement and which could not reasonably be expected to adversely affect the applicable Seller’s ability to perform its obligations hereunder or to adversely affect the transactions contemplated hereby.

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2.11Recent Conduct of Business.

Except as otherwise contemplated by this Agreement (including by disclosure on any other Schedule hereto) and except as set forth on Schedule 2.11, since January 1, 2006:

(a)To Seller’s Actual Knowledge, none of Seller, † Management Company or any Project Partnership has suffered a Material Adverse Effect;

(b)Neither † Management Company nor Seller has acquired, licensed, sold, leased or otherwise disposed of any properties or assets relating to the Business or the Purchased Interests, except in the ordinary course of business, and each has continued to run the Business and maintain its books and records on a basis consistent with past practice;

(c)† Management Company has not mortgaged, pledged or otherwise subjected any of its assets to any Lien, and no Seller has mortgaged, pledged or otherwise subjected any Purchased Interest to any Lien;

(d)Neither † Management Company nor Seller has issued or sold, assigned or transferred any Interests;

(e)To Seller’s Actual Knowledge, none of Seller, † Management Company, any Project Partnership or any Project has sustained or incurred any material loss or damage with respect to the Business or its Project (whether or not insured against) on account of fire, flood, accident or other calamity which has materially interfered with the operation of the Business and which has not been remedied, or paid, discharged, settled, compromised or satisfied or agreed to pay, discharge, settle, compromise or satisfy, any claim (whether or not insured against), other than claims involving solely money damages not in excess of $25,000. All such agreements to discharge, settle, compromise or satisfy, any claim (other than claims involving solely money damages not in excess of $25,000) are listed on Schedule 2.11;

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(f)Seller (with respect to any Taxes relating to the Business) has not, nor has † Management Company or any Project Partnership, made, changed or rescinded any express or deemed election relating to Taxes other than in connection with filing a Tax Return in the ordinary course of business, settled or compromised any claim or controversy relating to Taxes, intentionally agreed to any adjustment of any Tax attribute, surrendered any right or claim to a refund of Taxes, consented to any extension or waiver of the statute of limitations period applicable to any Taxes which extension period has not expired, Tax Return or claim for Taxes, amended any Tax Return, entered into any closing agreement with respect to Taxes, or intentionally made any change to any of its material Tax accounting policies or procedures; and

(g)None of Seller, † Management Company or any Project Partnership has agreed to take any of the foregoing actions.

2.12Brokers and Finders. There are no broker, finder or investment banker fees or commissions owed or that could become payable by Seller, † Management Company or any Project Partnership in connection with the transactions contemplated by this Agreement.

2.13Ethical Practices. Except as permitted under applicable Law, neither † Management Company nor Seller has offered or given (nor has caused any Project Partnership to offer or give), and to the Seller’s Actual Knowledge no Person has offered or given on its or any Project Partnership’s behalf: (a) anything of value to any official of a Governmental Entity, any political party or official thereof, or any candidate for political office; (b) anything with a value in excess of $100 to any customer; or (c) anything of value to any other Person, in any such case while knowing or having reason to know that all or a portion of such money or thing of value may be offered, given or promised, directly or indirectly, to any Person described in (a), (b) or (c) above, in any such case, for the purpose of the following: (x) influencing any action or decision of such Person, in such Person’s official capacity, including a decision to fail to perform such Person’s official function; (y) inducing such Person to use such Person’s influence with any Governmental Entity to affect or influence any act or decision of such Governmental Entity to assist Seller or any Project Partnership in obtaining or retaining business for, or with, or directing business to, any Person; or (z) constituting a bribe, kickback or illegal or improper payment to assist Seller in obtaining or retaining business for, or with, or directing business to, any Person.

2.14Labor and Employment Matters.

(a)Except as set forth on Schedule 2.14(a):

(i)neither † Management Company nor Seller is a party to any collective bargaining agreement (including any memoranda of understanding or letter agreements), neutrality agreement, or any similar agreement covering any of the Employees;

(ii)neither † Management Company nor Seller has received written notice that any such agreement is currently under negotiation by † Management Company or Seller or any of their Affiliates which would affect † Management Company, the Projects or the Project Partnerships nor has Seller or † Management Company received any notice or claim of any unfair labor practice;

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(iii)to Seller’s Actual Knowledge, there are no activities or proceedings of any labor union to organize any of the Employees;

(iv)neither † Management Company nor Seller has experienced any material work stoppage or other material labor difficulty since January 1, 2004;

(v)as of the date hereof, and since January 1, 2005, there have not been any plant closings, mass layoffs or other terminations of the Employees that would create any obligations upon or liabilities for Purchaser or † Management Company under the Worker Adjustment and Retraining Notification Act, 29 U.S.C. 2101 et seq. (the “WARN Act”) or any applicable State WARN Act, and none have been planned or announced for the future; and

(vi)to Seller’s Actual Knowledge, all of the Employees are lawfully authorized to work in the jurisdictions in which they are working according to applicable immigration laws, are properly classified as an exempt or non-exempt employee under the Fair Labor Standards Act or other applicable wage and hour law, and have been paid all wages (including any required minimum wages and overtime pay) and other compensation owed for all services performed by such Employee.

(b)Schedule 2.14(b) lists each Employee Benefit Plan maintained by Seller or † Management Company or their ERISA Affiliates (collectively, the “Seller Benefit Plan”) (and designates the party that maintains each such Employee Benefit Plan), and:

(i)Each Seller Benefit Plan that is an “employee pension benefit plan” (as defined in section 3(2) of ERISA) is a “defined contribution plan” (as defined in Section 3(34) of ERISA) and neither Seller nor † Management Company nor any of their respective ERISA Affiliates has ever sponsored, maintained or contributed to a “defined benefit plan” (as defined in Section 3(35) of ERISA) that is subject to Title IV of ERISA or participated in or contributed to a “multiemployer plan” (as defined in Section 3(37) of ERISA);

(ii)To Seller’s Actual Knowledge, no Seller Benefit Plan is a "nonqualified deferred compensation plan" within the meaning of section 409A of the Code that is subject to the requirements of section 409A of the Code and the regulations thereunder;

(iii)Other than routine claims for benefits, there are no pending or, to Seller’s Actual Knowledge, overtly threatened claims by or on behalf of any Seller Benefit Plan, or by or on behalf of any participants or beneficiaries of any Seller Benefit Plan, alleging any violation of ERISA or other applicable law, or alleging a violation of the terms of any such plan;

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(iv)Each Seller Benefit Plan that is an “employee pension benefit plan” within the meaning of section 3(2) of ERISA has received a favorable determination letter from the IRS that such plan is qualified under section 401(a) of the Code and, to Seller’s Actual Knowledge, nothing has occurred since the date of the most recent favorable determination letter that would adversely affect reliance upon such determination or qualification;

(v)To Seller’s Actual Knowledge, no Seller Benefit Plan is the subject of any investigation, audit or other such adverse action on the part of the IRS, the United States Department of Labor or the Pension Benefit Guaranty Corporation and each Seller Benefit Plan is in material compliance with the terms of the plan documents, ERISA, the Code, and other applicable Law;

(vi)To Seller’s Actual Knowledge, all IRS Forms 5500 and all annual reports required to be filed with respect to any Seller Benefit Plan have been timely filed with the appropriate Governmental Entity;

(vii)To Seller’s Actual Knowledge, neither Seller, † Management Company, nor any of their ERISA Affiliates is delinquent in any contribution obligations with respect to any Seller Benefit Plan and all contributions to each such plan have been made in accordance with the applicable timing requirements of ERISA and the Code;

(viii)To Seller’s Actual Knowledge, each Seller Benefit Plan that is subject to COBRA has been operated in material compliance with COBRA and Seller, † Management Company, and their respective ERISA Affiliates, as applicable, have satisfied all current COBRA obligations with respect to current or former Employees. Other than COBRA continuation coverage, neither Seller, † Management Company nor any of their ERISA Affiliates provide any post-employment or retiree health or welfare benefits to former Employees;

(ix)To Seller’s Actual Knowledge, no “prohibited transaction" as defined in section 404 of ERISA and section 4975 of the Code has been entered into with respect to any Seller Benefit Plan for which a statutory, individual or class exemption is not applicable;

(x)Neither † Management Company, Seller, nor any of their ERISA Affiliates is an "employee benefit plan" as defined in section 3(3) of ERISA, nor are they an Affiliate of an employee benefit plan; and none of the Project Partnerships constitute "plan assets" as that term is used in 29 C.F.R 2510.3-101; and

(xi)With respect to each Seller Benefit Plan, Seller shall make available for review by Purchaser within ten (10) days after the Effective Date true and complete copies of (1) the plan documents, summary plan descriptions, any other document required to be filed with a Governmental Entity or any document distributed to any employee, participant or beneficiary of such Seller Benefit Plan, (2) the most recent determination letter received from the IRS, (3) the last Form 5500 Annual Report and actuarial report, (4) the latest actuarial valuations and financial statements, (5) all related trust agreements, insurance contracts or other funding agreements that implement or apply to the Seller Benefit Plan, and (6) any recordkeeping, administrative, or other service agreements that apply to the Seller Benefit Plan.

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(c)The Employee List to be delivered to Purchaser pursuant to Section 5.12 shall be true, correct and complete. All Employees engaged in the conduct of the Business are Employees of † Management Company. Except as Seller has notified Purchaser previously in writing, to the best of Seller’s knowledge and belief, no Employee or group of Employees of † Management Company has given oral or written notice to Seller or † Management Company of any plans to terminate his or her employment with † Management Company.

(d)Except as set forth on Schedule 2.14(d)-1, (i) † Management Company is not currently a party to or bound by employment, confidentiality, non-competition, non-solicitation, or proprietary rights agreements with any Employee, and (ii) there are no agreements, arrangements or understandings that would restrict the ability of † Management Company to terminate the employment of any of its Employees at any time, at will, without liability. Set forth on Schedule 2.14(d)-2 is an accurate and complete list of all current and prior, to the extent currently binding, manuals, brochures, publications, policies, procedures or similar documents of † Management Company regarding compensation, benefits, perquisites, hiring, evaluation, supervision, training, termination and promotion of employees, office administration and personnel matters and all communications to Employees concerning such matters.

(e)There are no administrative proceedings or court complaints pending or, to Seller’s Actual Knowledge, threatened against † Management Company before the U.S. Equal Employment Opportunity Commission or any state or federal court or agency concerning alleged employment discrimination or any other matters relating to the employment of labor, other than those identified on Schedule 2.14(e). There is no unfair labor practice charge or complaint pending or, to Seller’s Actual Knowledge, threatened against † Management Company before the National Labor Relations Board or any similar state or local body. There is not pending or to Seller’s Actual Knowledge threatened, nor has there been within the last three (3) years, any union organization attempts, labor disputes or general work stoppage or slowdowns due to labor disagreements with respect to † Management Company. There is no employee grievance or arbitration proceeding pending against † Management Company. † Management Company is not a party, directly or indirectly, to any contract, agreement or order with any Governmental Authority which would require it to maintain any affirmative action plan or similar program or arrangement.

(f)Neither Seller nor † Management Company are parties to any agreements or arrangements or are subject to any requirement that alter Employees’ status as employees-at-will who may be terminated at any time without cause or notice, except as otherwise provided by applicable law.

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(g)Neither Seller nor † Management Company is party to any agreement with any Employee or other Person that would entitle any Employee or other Person to  any payment or benefit payable in connection with any bonus, “phantom stock” plan or accelerated vesting or funding (such as a “golden parachute”) that is triggered by the execution of this Agreement or the Closing or in connection with the transactions contemplated hereby, other than pursuant to the documents listed on Schedule 2.14(g) (providing for certain payments to certain Employees that will be due upon consummation of the sale of certain of the Project Partnership Interests), which payment obligations shall be satisfied by Seller at Closing (and Purchaser shall not be responsible for any such payments). Neither Seller nor † Management Company is party to any agreement with any Employee or other Person that would entitle any Employee or other Person to any such payment upon any later (i.e. after Closing) sale (including either a sale of assets or a sale of ownership interests), merger or similar transaction involving † Management Company, any Project Partnership or any General Partner interest.

2.15Full Disclosure. To Seller’s knowledge (as described below in this Section), there is no fact unique to † Management Company or any Seller, Project, Project Partnership or the Business (as opposed to, for example, a market condition generally or a risk that affects a region or industry generally) that Seller has not disclosed to Purchaser in writing that materially adversely affects or may materially adversely affect † Management Company or the Project Partnerships or the value of the Purchased Interests. For purposes of this Section 2.15, Seller’s knowledge shall mean (a) the actual current recollection of any one or more of †, †, †, † or †, or (b) the information contained in any notice to a Seller or Project Partnership or † Management Company from any Limited Partner, Lender or Governmental Entity.

2.16OFAC. Each Seller and † Management Company and each of its direct and indirect beneficial owners is not, and will not be, a person or entity (a “Prohibited Person”) with whom Purchaser is restricted from doing business with under the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, H.R. 3162, Public Law 107-56 (commonly known as the “USA Patriot Act”) and Executive Order Number 13224 on Terrorism Financing, effective September 24, 2001 and regulations promulgated pursuant thereto, including without limitation persons and entities named on the Office of Foreign Asset Control Specially Designated Nationals and Blocked Persons List (the “List”). Seller and each Project Partnership have in place adequate policies and procedures to assure that no tenant at a Project is a person named on the List and, to Seller's Actual Knowledge, none of the tenants at any Project is a person named on the List or is otherwise a Prohibited Person.

2.17Other Representations Regarding † Management Company.

(a)Set forth on Schedule 2.17 is an accurate and complete list of each contract or other agreement (other than the Property Management Agreements and any Space Leases or Personal Property Leases to which † Management Company is a party or any of the other agreements listed on Schedule D) to which † Management Company is a party or is bound which (i) cannot be terminated without cause in less than 60 days and/or (ii) cannot be terminated without cause unless a penalty or termination payment is made. Seller has delivered or made available to Purchaser a correct and complete copy of each written agreement listed in Schedule 2.17 and all amendments thereto, and Seller will make available to Purchaser at each Project site or the Home Office upon request true, correct and complete copies of any of the other contracts to which † Management Agreement is a party. Each such agreement is in full force and effect and is valid, binding and enforceable against † Management Company and, to Seller’s Actual Knowledge, against the other parties thereto. To Seller’s Actual Knowledge, except as set forth on Schedule 2.17, neither † Management Company nor any other party thereto is in breach or default under any such agreement in any material respect, and no event has occurred which with notice or lapse of time or both would constitute a breach or default thereunder by † Management Company or any other party thereto.

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(b)Except as set forth on Schedule 2.17, † Management Company has (and at the time of Closing will have) no Liabilities except (x) Liabilities reflected in the Financial Statements of † Management Company, and (y) under the executory portion of any contract or other agreement to which † Management Company is a party which (i) was made in the ordinary course of business, (ii) is disclosed on a Schedule hereto, and (iii) does not otherwise constitute or result from a breach of any representation, warranty or covenant of this Agreement or from a breach or default by † Management Company under any contract or other agreement.

2.18Schedules. As of the Effective Date, Seller has not yet delivered the Schedules designated with an asterisk in the list of Schedules at the beginning of this Agreement (and with respect to Schedule A, the Schedule delivered by Seller does not yet list the Project Partnership Agreements). Seller shall deliver such remaining Schedules (and the balance of Schedule A) within 35 days after the Effective Date. Failure to deliver such Schedules (and the balance of Schedule A) in accordance with such timeframe shall not be deemed to be a default by Seller unless Seller fails to deliver all of such Schedules (and the balance of Schedule A) within 75 days after the Effective Date, but to the extent Seller fails to deliver all of such Schedules (and the balance of Schedule A) within 60 days after the Effective Date, then the Due Diligence period shall be extended by one day for each day after such 60^th day until the balance of the Schedules (and the balance of Schedule A) have been delivered. The Project Partnership Agreements that will be added to Schedule A and the information to be included on Schedules B and C are included within Schedule D (which has been delivered as of the Effective Date) but will be separately delivered by Seller (as completed Schedules A-D) within the time period set forth above. Prior to the Closing, Seller shall promptly supplement or amend the Schedules delivered in connection herewith with respect to any matter of which Seller has Actual Knowledge which, if existing, occurring or known at the date of this Agreement, would have been required to be set forth or described in any such Schedule or which is necessary to correct any information in any such Schedule which has been rendered inaccurate, in any material respect, thereby (provided that Seller shall not be obligated to update Schedules 2.17, 3.5(a), 3.5(b), 3.7, 3.10 or 3.19(c) more frequently than monthly). Notwithstanding the foregoing, no supplement or amendment to any Schedule pursuant to this Section 2.18 shall have any effect for the purpose of determining whether a Material Representation Breach exists or with respect to Purchaser’s right to terminate this Agreement pursuant to Section 8.4(c) (i.e. Purchaser shall be entitled to rely on the accuracy of the representations and warranties herein as made on the Effective Date, and if any supplement or amendment to any Schedule reveals an inaccuracy in any representation or warranty herein as made on the Effective Date, Purchaser shall have the rights and remedies set forth in Sections 6.2(h) and 8.4(c) with respect to breaches of representations and warranties). However, if Purchaser does not terminate this Agreement pursuant to Section 6.2 or Section 8.4, then after the end of the Due Diligence Period all of the representations and warranties of Seller set forth in Articles 2 and 3 of this Agreement shall be deemed modified to the extent that any of the Schedules hereto have been supplemented or amended pursuant to this Section 2.18 prior to the date which is 2 business days prior to the end of the Due Diligence Period. Any supplementing or amending of any Schedules shall be done in such a manner as to “highlight” any changes to the then-existing Schedules such that it will be readily apparent how the applicable Schedule has been amended or updated. If Purchaser determines that any matter revealed by any update or amendment to any Schedule constitutes a Material Representation Breach (thus entitling Purchaser to the remedies set forth in Section 6.2(h)) or results in a Material Adverse Effect (thus entitling Purchaser to the remedies set forth in Section 8.4(c)), then Purchaser shall notify Seller of such determination within ten business days after receiving the applicable update or amendment (and, accordingly, if the update or amendment was received by Purchaser after the date that is ten business days prior to the end of the Due Diligence Period, then the Due Diligence Period as it relates to the matter(s) covered by the applicable update or amendment shall be extended to the date that is ten business days after Purchaser’s receipt of the update or amendment). If Purchaser does not so notify Seller within such ten business day period, then the representations and warranties of Seller set forth in Articles 2 and 3 of this Agreement shall be deemed modified to include the applicable matter revealed by the update or amendment to the applicable Schedule.

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2.19Deemed Modification to Representations and Warranties.

If Purchaser does not terminate this Agreement pursuant to Section 6.2 or Section 8.4, then after the end of the Due Diligence Period all of the representations and warranties of Seller set forth in Articles 2 and 3 of this Agreement shall be deemed modified to the extent that any of the information contained in any of the documents listed on Schedules A-C, the “Equity Documents” portion of Schedule D, or in the described in subsections (b)-(e) of Section 2.8, as updated, reveals that any of such representations and warranties are inaccurate.

The representations and warranties set forth in this Article 2 shall survive Closing to the extent set forth in Section 7.8.

ARTICLE 3. ADDITIONAL REPRESENTATIONS, WARRANTIES AND COVENANTS OF EACH SELLER REGARDING † MANAGEMENT COMPANY, THE PROJECTS AND THE PROJECT PARTNERSHIPS.

Each Seller hereby represents and warrants to Purchaser the following:

3.1Project Partnerships; General Partner. Schedule A sets forth a complete and accurate list of: (i) the name of each Project; (ii) the address of each Project; (iii) the Project Partnership owning each Project; (iv) the state of organization or formation of each Project Partnership; (v) the Seller entity owning the General Partner interest and any limited partnership interest in † Management Company and each Project Partnership; (vi) the ownership percentage for each of the Interests in each Project Partnership and † Management Company; and (vii) the name, address and percentage interest of the Limited Partner(s) in each Project Partnership (assuming the Limited Partners have not transferred their interest without notice to Seller). Seller has received no notice that any Limited Partner intends to transfer its interest in any Project Partnership, and to Seller’s Actual Knowledge there is no such transfer proposed or contemplated. Except as otherwise expressly noted on Schedule A, the Seller set forth as the General Partner for each Project Partnership in Schedule A is the sole General Partner in such Project Partnership and has sole management control and authority over such Project Partnership and Project operations and matters (subject to the terms of the Scheduled Documents). Except as expressly set forth in the applicable Scheduled Documents, there are no rights, contracts or other agreements or commitments pursuant to which any other Person has the right to become a General Partner of a Project Partnership.

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3.2Organization; Authority; No Violation. Each Project Partnership is duly organized or formed, validly existing and in good standing under the laws of the state in which such Project Partnership was organized or formed and in the state in which its Project is located. † Management Company and each Project Partnership has undertaken all acts, including without limitation, the filing of all certificates and the payment of all fees, Taxes, and other sums necessary for † Management Company or such Project Partnership to operate as a limited partnership or limited liability company in the state in which † Management Company or such Project Partnership was organized or formed (in the case of each Project Partnership) and in the state in which its Project is located and to enable such Project Partnership to engage in its business and operate its Project in accordance with the Scheduled Documents relating to such Project.

3.3Limited Partnership Status. No event has occurred that has caused, and Seller has not acted in any manner that will cause: (i) † Management Company or a Project Partnership to be treated for federal income tax purposes as an association taxable as a corporation, or (ii) † Management Company or a Project Partnership to fail to qualify as a limited partnership under the Laws under which † Management Company or such Project Partnership was formed. To Seller’s Actual Knowledge, all consents or approvals of any Governmental Entity, or any other Person, necessary in connection with the transactions contemplated by the † Management Company partnership agreement and each Project Partnership Agreement or necessary to admit each Limited Partner to each Project Partnership, have been obtained by Seller. To Seller’s Actual Knowledge, all outstanding units of partnership interest or other equity interest of † Management Company and each Project Partnership (i) have been duly authorized and are validly issued, fully paid and nonassessable and (ii) are subject to no restrictions except as set forth in the applicable Scheduled Documents. Neither † Management Company nor, to Seller’s Actual Knowledge, except as set forth in the applicable Scheduled Documents, any of the Project Partnerships has issued or granted or is a party to any outstanding commitments, agreements, options, arrangements or undertakings of any kind relating to units of partnership interest or any other equity interest of † Management Company or such Project Partnership or securities convertible into units of partnership interest or any other equity interest of † Management Company or such Project Partnership. To Seller’s Actual Knowledge, none of the representations, warranties or statements contained in the Scheduled Documents, contain any untrue statement of a material fact or omit to state any material fact necessary in order to make any of such representations, warranties or statements not misleading.

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3.4Securities Registration. To Seller’s Actual Knowledge, neither † Management Company nor any Project Partnership is under any obligation, and Seller has taken no action (and Seller knows of no event or action which has occurred) that would cause any Project Partnership or † Management Company to be obligated, under any federal or state law, rule, or regulation to register the Interests, and the Project Partnerships and † Management Company and each Seller have fully complied with any and all federal and state securities laws, as well as all applicable exemptions available for the sale of Interests without registration.

3.5Leases and Rent Rolls. The rent rolls (the “Rent Rolls”) for each Project attached hereto as Schedule 3.5(a) are true, correct and complete in all material respects as of the date of each such Rent Roll. The Rent Rolls list all tenants or other Persons entitled to occupancy under any all leases, licenses or other occupancy agreements in effect on the date of the applicable Rent Roll relating to any portion of the applicable Project, except for those leases, licenses and occupancy agreements (excluding pending tenant lease applications) otherwise listed on Schedule 3.5(b) (all of such leases, licenses and occupancy agreement (both those relating to the tenants listed on the Rent Rolls and those listed on Schedule 3.5(b)) being referred to herein as the “Leases”). There are no leases, license agreements, occupancy agreements or tenancies for any space in any Project other than those relating to the tenants listed on the Rent Rolls and those listed on Schedule 3.5(b), and to Seller’s Actual Knowledge there are no oral agreements relating to use or occupancy of any portion of any Project or any oral leases which will be binding upon any portion of any Project or Project Partnership. Seller has delivered to Purchaser a true, correct and complete copy of the form of lease used for each Project and will make available to Purchaser at each Project site upon request true, correct and complete copies (or the originals) of each Lease (if Purchaser desires to copy any of the Leases, Purchaser may do so at Purchaser’s sole cost and expense). Except as may be otherwise disclosed on the Rent Rolls: (i) each of the Leases is in full force and effect; (ii) no tenant is entitled to any free rent, rebate, rent concession, deduction or offset which is not set forth in the such tenant’s Lease; (iii) except for matters set forth in Schedule 2.9, the applicable Project Partnership has not received from any tenant under a Lease a notice of material violation of any statute, rule, law, ordinance or other legal regulation pertaining to any Project or any part thereof; and (iv) all security deposits required under the Leases have been paid and are being held by the applicable Project Partnership.

3.6Brokerage Arrangements. Except as set forth in Schedule 3.6, no Seller or Project Partnership is presently under any commitment to any real estate broker, rental agent, finder, syndicator or other intermediary with respect to any Project Partnership, any Project, or any portion thereof.

3.7Service Contracts. Attached hereto as Schedule 3.7 is, along with the “Service Contracts” portion of Schedule D, a complete and accurate schedule of all Service Contracts now in effect which (i) cannot be terminated without cause in less than 60 days and/or (ii) cannot be terminated without cause unless a penalty or termination payment is made. Except for the Service Contracts and the other agreements described in the preceding sentence and other agreements disclosed on any other schedule hereto, there are no written or oral agreements relating to the management, leasing, operation or maintenance of any Project or any portion thereof other than agreements not required by the terms of this Agreement to be listed on any Schedule. The Service Contracts are each in full force and effect, and no Project Partnership has delivered or received any notice alleging any default in the performance or observance of any of the covenants, conditions or obligations to be kept, observed or performed under any of the Service Contracts. Seller has delivered or made available to Purchaser a true, correct and complete copy of each of the Service Contracts (including all amendments thereto) which (x) cannot be terminated without cause in less than 60 days and/or (y) cannot be terminated without cause unless a penalty or termination payment is made, and Seller will make available to Purchaser at each Project site or the Home Office upon request true, correct and complete copies of any of the other Service Contracts.

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3.8Sale Contracts. Except as set forth in Schedule 3.8, neither Seller nor any Project Partnership has entered into any contracts for the sale of any of the Projects, nor do there exist any rights of first refusal or options to purchase any of the Projects, except for any options set forth in any Partnership Agreement. Except pursuant to any documents listed on the “Other Documents” portion of Schedule D, no Project Partnership has any continuing contractual liability (i) for indemnification or otherwise under any agreement relating to the sale of real estate previously owned, whether directly or indirectly, by such Project Partnership or (ii) to pay any additional purchase price for any Project.

3.9No Sale or Refinancing Restrictions. There are no restrictions on the sale or refinancing of the Projects, other than the restrictions set forth in the Scheduled Documents, under Section 42, Section 47 or Section 142 of the Code or under other applicable state or federal law respecting the Credits or tax exempt bond financing or other governmental financing.

3.10Licenses and Permits. Schedule 3.10 sets forth a true and complete list of all licenses, franchises, permits and authorizations (other than construction, development or occupancy related permits) that are material to Seller, † Management Company or any Project Partnership existing in Seller’s records. To Seller’s Actual Knowledge, Seller, † Management Company and the Project Partnerships hold all licenses, franchises, permits and authorizations necessary for the lawful conduct of the Business, and are in compliance, in all material respects, with the terms of all such licenses, franchises, permits and authorizations.

3.11Title and Surveys; Ownership of Project Property; Real Estate Taxes.

(a)Seller has delivered or made available to Purchaser true and correct copies of the most recent Title Policies for each Project and the most recent surveys for each Project in Seller’s possession or control. The Title Policies and the surveys in Seller’s possession are listed on Schedule 3.11. To Seller’s Actual Knowledge, the Title Policies remain in full force and effect.

(b)To Seller’s Actual Knowledge, the Project Partnerships, respectively, own the Projects, the buildings comprising the Projects, and the related tangible and intangible personal property, free and clear of any Liens other than (i) those set forth in the Title Policies or those which an accurate and complete title search and UCC searches on the Projects as of the Effective Date would reveal, (ii) liens for ad valorem taxes that are not yet delinquent, or (iii) mechanics’ or other liens that have been disclosed to the Purchaser in writing and bonded against in such a manner as to preclude the holder of such lien from having any recourse to any of the Projects or the Project Partnerships for payment of any debt secured thereby. To Seller’s Actual Knowledge, there are no easements, agreements, covenants or other documents of record encumbering any of the Projects except as set forth in the Title Policies or those which an accurate and complete title search on the Projects as of the Effective Date would reveal. To Seller’s Actual Knowledge, there are currently no claims pending relating to title to any Project (whether by or against any Project Partnership) except as listed on Schedule 2.9.

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(c)To Seller’s Actual Knowledge, all currently due real estate bills for the Projects have been paid. True and complete copies of all real estate tax bills for the Projects for the most recent fiscal year have been made available to the Purchaser prior to the date hereof. To Seller’s Actual Knowledge, none of Project Partnerships have received any written notice of any proposed special assessments or proposed reassessments relating to the Projects.

3.12Access and Utilities. To Seller’s Actual Knowledge, except as otherwise set forth in the Scheduled Documents: (i) each Project has and will continue to have permanent unrestricted access to appropriate public roadways; (ii) all public utilities necessary to the operation of each Project, including, but not limited to, sanitary and storm sewers, water, gas (if applicable), telephone and electricity, are or will by the date the Units in such a Project are placed in service be, and will remain available to and connected to, each such Project and each of the Units; (iii) each Project is an independent unit which does not rely on any drainage, sewer, access, parking, structural or other facilities located on any property not included in such Project or on public or utility easements for the (x) fulfillment of any zoning, building code or other requirement of any Governmental Entity that has jurisdiction over such Project, (y) structural support, or (z) the fulfillment of the requirements of any lease or other agreement affecting such Project; (iv) each respective Project Partnership, directly or indirectly, has the right to use all amenities, easements, public or private utilities, parking, access routes or other items necessary for the construction or operation of each respective Project; (v) each Project is either (A) contiguous to, or (B) benefits from an irrevocable unsubordinated easement permitting access from such Project to, a physically open, dedicated public street, and has all necessary permits for ingress and egress and adequate public water, sewer systems and utilities are available to such Project; and (vi) no building or other improvement not located on any Project relies on any part of such Project to fulfill any zoning requirements, building code or other requirement of any Governmental Entity that has jurisdiction over such Project for structural support or to furnish to such building or improvement any essential building systems or utilities.

3.13Condemnation; Changes in Use. Except as set forth in Schedule 3.13, neither Seller nor any Project Partnership has received any notice of and Seller has no Actual Knowledge of any pending or contemplated condemnation or eminent domain proceedings affecting all or any part of any Project. To Seller’s Actual Knowledge, there is not any plan, study or effort of any applicable Governmental Entities, which in any way would materially adversely affect the use of any Project for its intended uses or any intended public improvements which will result in any material charge being levied against, or any material lien assessed upon, any Project. To Seller’s Actual Knowledge, there is not any existing, proposed or contemplated plan to widen, modify or realign any street or highway contiguous to any Project. To Seller’s Actual Knowledge, with respect to any Project that is unoccupied as of the Effective Date, none of the prior tenants or occupants thereof is eligible for relocation and/or moving payments or benefits under any applicable Law.

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3.14Compliance With Laws. Neither Seller nor any Project Partnership has received any written notice of any violations of Laws with respect to any Project, nor does Seller have any Actual Knowledge of any such violations. Except for annual affordable housing compliance audits performed by state Credit-allocating agencies as permitted or required by the Scheduled Documents, no investigation or review by any Governmental Entity with respect to any Project or Project Partnership is pending or, to the Actual Knowledge of Seller, threatened, nor to the Actual Knowledge of Seller has any Governmental Entity indicated an intention to conduct the same.

3.15Environmental Matters. Schedule 3.15 sets forth a complete and accurate list of all Environmental Reports in Seller’s or any Project Partnership’s possession. Seller has delivered or made available to Purchaser true and correct copies of all Environmental Reports. No amendments, modifications, or other changes or additions have been made to the Environmental Reports. Except as set forth in the Environmental Reports listed on Schedule 3.15, to Seller’s Actual Knowledge no Project contains, and there is not located on, in or under any part of any Project, any Hazardous Materials. To Seller’s Actual Knowledge, no part of any Project has been previously used for the storage, manufacture or disposal of Hazardous Materials, except as may be disclosed in the Environmental Reports listed on Schedule 3.15. Except as set forth on Schedule 3.15, neither Seller nor any Project Partnership has received from any Governmental Entity any written complaint, order, citation or notice with regard to air emissions, water discharges, noise emissions and Hazardous Materials, if any, or any other environmental, health or safety matters affecting any Project or any part thereof. Except as set forth in the Environmental Reports listed on Schedule 3.15, to Seller’s Actual Knowledge, there are no underground storage tanks of any nature located on any Project.

3.16Physical Reports. The reports referred to in Schedule 3.15 are all of the third party physical and structural reports (other than the Environmental Reports) in Seller's or any Project Partnership’s possession or control relating to the physical condition of any Project, including all reports and assessments relating to historical and current water penetration issues at any of the Projects, but excluding any third party reports required by a lender prior to or in connection with the final construction draw or by a Limited Partner prior to or in connection with the final capital contribution. Seller has delivered or made available to Purchaser true, correct and complete copies of all of the reports referred to in Schedule 3.15, as well as copies of all contracts and warranties relating to repair or remediation of water penetration problems.

3.17Soil Defects. To Seller’s Actual Knowledge, there are no defects or conditions of the soil at any Project which will materially adversely affect the use, occupancy and operation of any Project, and no need for unusual or new subsurface excavations, fill, footings, caissons or other installations.

3.18Insurance. None of Seller, † Management Company or any Project Partnership has received from any Lender or Limited Partner any default notice relating to the failure to carry any required insurance coverage (or a required amount or type of coverage). Neither Seller nor any Project Partnership has received from any insurance company which carries insurance on any Project, or any board of fire underwriters, any notice of any defect or inadequacy in connection with any Project, or its operation and Seller has no Actual Knowledge of any such defect or inadequacy which might increase the premium or cause the cancellation of any insurance policy. Schedule 3.18 lists for † Management Company and each Project (i) all current insurance policies, and (ii) all pending insurance claims and a summary of the status of each such claim.

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3.19Projects Under Construction; Construction Contracts.

(a)The initial construction of all Projects has been fully completed (including all punchlist items and warranty work) and all Units thereat have been placed in service, except for the Projects listed on Schedule 3.19(a) (the “Projects Under Construction”). Schedule 3.19(a) also lists all general construction contracts and guarantees relating to the Projects Under Construction (collectively, “Construction Contracts”) and identifies the Affiliate of Seller that is the general contractor under each such Construction Contract. Seller has delivered or made available to Purchaser true, correct and complete copies of each Construction Contract and all related subcontracts, plans, specifications, warranties, guarantees, budgets, construction schedules and historic draw requests, to the extent in Seller’s possession or control. The Construction Contracts are in full force and effect, and the applicable Project Partnerships shall have all rights to enforce the obligations of the general contactors thereunder without limitation, and no provisions of this Agreement shall limit the enforceability thereof or the liability of the general contractors thereunder. Purchaser shall not assume any contractor or guarantor liability under any Construction Contracts or any guarantees (other than Standalone Economic Guarantees) related to construction of the Projects Under Construction (the “Construction Obligations”), and the applicable Seller entities or affiliates thereof shall remain liable thereunder; provided Purchaser shall, upon request of Seller or its Affiliate, use commercially reasonable efforts to assist Seller or its Affiliate in completing construction (i.e., respond to draw requests, order reports, etc.).

(b)To Seller’s Actual Knowledge, all work to be performed, payments to be made and actions to be taken by any Project Partnership prior to the Effective Date pursuant to any agreement entered into with a Governmental Entity in connection with a site approval, zoning reclassification or similar action relating to any Project or as required as a condition to the issuance of any building permit, certificate of occupancy or zoning variance relating to any Project (e.g., off-site improvements or services or zoning proffers), has been performed, paid or taken, as the case may be, and to Seller’s Actual Knowledge, there is no planned or proposed work, payments or actions that may be required after the Effective Date pursuant to such agreements.

(c)Except for budgeted construction disclosed in the most recent capital expenditure budgets of the Projects (true and complete copies of which have been made available to the Purchaser), Schedule 3.19(c) lists all agreements (other than the Construction Contracts) entered into by any Project Partnership relating to capital replacements at, or additions or expansions to, any Project which are currently in effect and under which any Project Partnership currently has, or expects to incur, an obligation in excess of thirty-thousand dollars ($30,000). Complete and correct copies of such contracts have been made available to Purchaser. Seller shall make available to Purchaser upon request all such agreements (including those where the amounts expected to be expended are less than $30,000).

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(d)Construction Completion. Prior to Closing, Seller shall cause all Projects Under Construction to be completed and all Units thereat to be placed in service, and for each Project Under Construction Seller shall deliver to Purchaser at or before Closing (i) the most recent lender’s title insurance policy or endorsement subject to no further “pending disbursements” endorsement or any exceptions for mechanic’s liens and raising no Material Title or Survey Condition not disclosed herein or not raised in any prior title insurance policy delivered or made available to Purchaser during the Due Diligence Period, (ii) a final “as-built” ALTA survey raising no Material Title or Survey Condition not raised in any prior survey delivered to Purchaser during the Due Diligence Period, (iii) a certificate of completion from the applicable architect or other construction inspector certifying that the Project has been completed in substantial accordance with the plans and specifications provided to Purchaser, (iv) a valid and binding allocation of Credit (or, with respect to buildings meeting the requirements of Section 42(h)(4)(B) of the Code, a certification pursuant to Section 42(m)(1)(D) of the Code) from the appropriate Governmental Entity in the amount shown on Schedule 3.25(a) for the applicable Project, including an IRS Form 8609, and (v) an updated draw schedule and sources and uses of funds and rent roll. Seller’s failure to comply with the terms of this Section 3.19(d) by Closing shall not be deemed a default by Seller hereunder so long as Seller uses good faith efforts to so comply, but if Seller fails to so comply with the terms of this Section 3.19(d) by Closing, Purchaser may exercise its Project Removal Option with respect to any Projects Under Construction for which Seller has not so completed the construction and otherwise satisfied the requirements of this Section 3.19(d). If Purchaser does not so exercise its Project Removal Option with respect to any such Project Under Construction, then the parties shall proceed in the same manner as if the terms of this Section had been satisfied with respect to the applicable Project Under Construction.

3.20Insolvency Proceedings. No attachments, execution proceedings, assignments for the benefit of creditors, insolvency, bankruptcy, reorganization or other proceedings are pending or, to Seller’s Actual Knowledge, threatened against any Project Partnership, † Management Company or Seller.

3.21Unsatisfied Partner Obligations. Except as set forth in Schedule 3.21, (i) neither † Management Company nor any Project Partnership has any unsatisfied obligation to make any payments of any kind to any Seller other than amounts to be paid pursuant to the Economic Interests or Excluded Economic Interests; and (ii) no Limited Partner has made any loans or advances (other than capital contributions) to any Project Partnership. Except as set forth in Schedule 3.21, all distributions to Limited Partners which have been declared by any Project Partnership prior to the Effective Date have been paid in full.

3.22Operating Statements. The operating statements for the Projects delivered by Seller to Purchaser prior to the Effective Date are the only operating statements for the Projects for the operating period to which they relate that have been prepared by or for Seller in the ordinary course of business.

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3.23Accounting. For federal income tax purposes, † Management Company and each Project Partnership reports, and shall continue to report its income on the accrual method of accounting. On behalf of each of the Project Partnerships, Seller has, to Seller’s Actual Knowledge, filed, and will continue to file, any and all certifications and other documents on a timely basis, with all applicable Governmental Entities (through the Closing) as have been and may be required to support the annual allocation of Credits.

3.24Other Agreements or Arrangements Affecting Credits. Except as otherwise set forth in the Scheduled Documents, neither any Seller nor any Project Partnership has entered into any agreement or contract for the payment or offset of any construction loan or loan discounts, additional interest, yield maintenance or other charges or financing fees or any agreement to incur any financial responsibility with respect to any Project or providing for the guaranty of payment of any such interest charges or financing fees relating to the Loan Documents or for any kickback or rebate of fees under any Loan Document or other Project Partnership Document, other than those disclosed in Project Partnership Agreements.

3.25Valid Tax Credits. To Seller’s Actual Knowledge, each Project Partnership has obtained a valid and binding allocation of Credit (or, with respect to buildings meeting the requirements of Section 42(h)(4)(B) of the Code, a certification pursuant to Section 42(m)(1)(D) of the Code) from the appropriate Governmental Entity in the amount shown on Schedule 3.25(a), including an IRS Form 8609, except those projects set forth on Schedule 3.25(b) (“Pre-8609 Projects”). To Seller’s Actual Knowledge, each Pre-8609 Project has either received a binding carryover allocation in accordance with Section 42(h)(1) of the Code or a certification in accordance with Section 42(m)(1)(D) and 42(m)(2)(D) of the Code which remains in full force and effect.

3.26Project Operation Requirements; Tax Credits. To Seller’s Actual Knowledge, each Project has been acquired, constructed and/or rehabilitated, has (except for Pre-8609 Projects) had its eligible basis and Credits determined, and has been operated, in a manner consistent with the requirements of the Loan Documents and Regulatory Agreements, and consistent with all requirements under Section 42 of the Code, and regulations thereunder, so as to allow such Project to claim Credits in the amounts shown on Schedule 3.25(a).

3.27No Employees. No Project Partnership has or has at any time had any employees.

3.28No Other Assets. Neither † Management Company nor any of the Project Partnerships owns directly or indirectly any interest or investment (whether equity or debt) in any Person. † Management Company owns no real property, and no Project Partnership owns any real property other than its respective Project as shown on Schedule A.

3.29Management of Projects. Except for the Projects set forth on Schedule 3.29 (which are currently managed by † Management Company, Inc.), all of the Projects are managed by † Management Company.

3.30Tax Credit Shortfalls. As of December 31, 2005, to Seller’s Actual Knowledge, the amount (if any) by which the Credits projected to be allocated to the Limited Partners of each Project (i.e. the amounts projected in projections delivered to the Limited Partners at the time they became Limited Partners, as adjusted for any 8609 or other pricing adjustment already paid or reflected in Project projections given to Purchaser) through December 31, 2005 exceed the Credits actually allocated to the Limited Partners of each Project through December 31, 2005 is as set forth on Schedule 3.30. Seller shall deliver to Purchaser no later than April 30, 2007 an updated Schedule 3.30 containing the above described information for the period ending December 31, 2006.

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The representations and warranties set forth in this Article 3 shall survive Closing to the extent set forth in Section 7.8.

ARTICLE 4. REPRESENTATIONS AND WARRANTIES OF THE PURCHASER

Subject to the Schedules, Purchaser hereby represents, warrants and covenants to each Seller the following:

4.1Organization; Authority.

(a)Good Standing. The Purchaser is a limited liability company duly organized, validly existing and in good standing under the Laws of the State of Delaware and, prior to the Closing, shall be in good standing in each other jurisdiction to the extent required by law.

(b)Capacity. The Purchaser has the power and authority to execute and deliver this Agreement and the other Transaction Documents to which it is a Party and to consummate the transactions contemplated hereby and thereby (subject only to obtaining the Required Consents).

(c)Execution and Delivery. The execution and delivery by Purchaser of this Agreement and the other Transaction Documents to which it is a Party, the performance by Purchaser of its obligations hereunder and thereunder and the consummation by Purchaser of the transactions contemplated hereby and thereby have been duly authorized and no other actions on the part of Purchaser are necessary to authorize such execution, delivery and performance. This Agreement and the other Transaction Documents to which Purchaser is a Party have been (or, in the case of Transaction Documents to be executed after the Effective Date, will be at or prior to the Closing) duly and validly executed and delivered by Purchaser and, assuming due authorization, execution and delivery by the Seller, constitute valid and binding obligations of Purchaser, enforceable against Purchaser in accordance with their terms, except to the extent that enforceability may be limited by the bankruptcy, insolvency, reorganization, moratorium or other similar Laws affecting the enforcement of creditors’ rights in general and subject to general principles of equity and the discretion of courts in granting equitable remedies.

4.2No Violation. The execution, delivery and performance by Purchaser of this Agreement and the transactions contemplated hereby does not and will not conflict with or result in any violation of, or constitute a breach or default under (or an event that with notice or lapse of time or both would become a default under), any term of the charter documents, by-laws or other organizational documents of Purchaser, any agreement, permit, indenture, deed of trust, mortgage, loan agreement or other instrument to which Purchaser is a party or by which Purchaser is subject, or any Law of any court or other Governmental Entity to which Purchaser is subject.

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4.3Property Management. For a one year period immediately after Closing, at Seller’s request Purchaser or its Affiliates shall provide property management services for the apartment complexes listed on Schedule 4.3 and also for any Removed Projects subject to and in accordance with a mutually acceptable property management contract (the form of which shall be agreed upon during the Due Diligence Period).

4.4Certain Notices to Seller. After Closing, Purchaser shall promptly provide Seller with copies of (i) any written notices received by Purchaser or any Affiliate of Purchaser alleging any potential claim against any Seller or Affiliate of Seller or any potential claim pertaining to the period of time prior to the Closing, or (ii) to the extent the matter could be reasonably expected to result in the exposure of any Seller to any material Liability, any written notices received by Purchaser or any Affiliate of Purchaser alleging any potential claim against Purchaser or any Affiliate of Purchaser. For a period of three years following the Closing, Purchaser shall promptly provide to Seller (i) a copy of any notice of any IRS proceeding received by any Purchaser or Project Partnership involving any Project Partnership, Seller or Purchaser relating directly or indirectly, in whole or in part, to the period prior to the Closing Date and (ii) a copy of any report issued by a tax credit authority or bond issuer with respect to the compliance of a Project relating directly or indirectly, in whole or in part, to the period prior to the Closing Date.

4.5OFAC. Purchaser and each of its direct owners is not, and will not be, a person or entity with whom Seller is restricted from doing business with under the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, H.R. 3162, Public Law 107-56 (commonly known as the “USA Patriot Act”) and Executive Order Number 13224 on Terrorism Financing, effective September 24, 2001 and regulations promulgated pursuant thereto, including without limitation persons and entities named on the Office of Foreign Asset Control Specially Designated Nationals and Blocked Persons List.

The representations, warranties and covenants set forth in this Article 4 shall survive Closing to the extent set forth in Section 7.8.

ARTICLE 5. COVENANTS.

Seller and Purchaser hereby agree as follows:

5.1Satisfaction of Conditions. Seller shall use commercially reasonable efforts to cause the conditions precedent to the obligations of Purchaser set forth in Section 8.1 to be fulfilled and Purchaser shall use commercially reasonable efforts to cause the conditions precedent to the obligations of each Seller set forth in Section 8.2 to be fulfilled. Purchaser shall use commercially reasonable efforts to cooperate with Seller to satisfy the conditions set forth in Section 8.2 and Seller shall use commercially reasonable efforts to cooperate with Purchaser to satisfy the conditions set forth in Section 8.1. Purchaser also agrees to (to the extent required by any Required Consent provider) deliver to the Required Consent provider organizational documents, good standing certificates and financial statements for each of applicable replacement general partners and replacement guarantors.

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5.2Conduct of Business. Except as expressly contemplated or permitted by this Agreement or to the extent that Purchaser shall otherwise consent in writing, Seller shall use reasonable best efforts to continue to and to cause † Management Company and the Project Partnerships to continue to conduct the Business in such a manner so that the representations, warranties and covenants contained in Article 2 and Article 3 shall continue to be accurate and correct throughout such period, and on and as of the Closing Date as if made by Seller on the Closing Date, and throughout such period, each Seller shall and shall cause † Management Company and each Project Partnership to carry on the Business in the ordinary course in substantially the same manner as previously conducted. Seller plans to take certain actions as disclosed on Schedule 5.2 that are standard practices, but that Seller desires to obtain Purchaser’s acknowledgement thereof and Purchaser so acknowledges such actions. Seller shall update the Schedules with respect to such actions and transmit such updates to Purchaser.

5.3Hart-Scott-Rodino Act. As promptly as practicable, and in any event within three (3) business days following the execution and delivery of this Agreement by the Parties, Purchaser and Seller shall prepare and file any required notification and report form under the Hart-Scott-Rodino Act (“HSR Act”) in connection with the transactions contemplated hereby. If such notification and report is filed, Purchaser and Seller shall request early termination of the waiting period thereunder. Purchaser and Seller shall respond with reasonable diligence to any request for additional information made in response to any such filings.

5.4Publicity; Confidentiality. Each Party agrees that it will not issue any press release or other public disclosure of this Agreement or the transactions contemplated hereby without the prior written approval of the other Party, unless, in the good faith opinion of counsel, such disclosure is required by Law, or such disclosure is deemed reasonably necessary or appropriate under the rules and regulations of the Securities & Exchange Commission or the New York Stock Exchange, with respect to such Party or any Affiliate thereof, and then only to the extent deemed reasonably necessary. Purchaser and Seller will maintain the terms of this Agreement, as well as all negotiations concerning this Agreement in strict confidence; provided that (i) each Party may disclose such information on a need to know basis to its controlling persons, persons under common control with such party, Affiliates and each of their respective employees, potential partners and investors, advisors and financing sources to the extent reasonably necessary (provided that such persons are directed to hold such information in confidence in accordance with this letter) and (ii) both parties may make disclosure to the extent required by Law, regulation or legal process. The terms of this Section 5.4 (the “Confidentiality Provisions”) shall survive Closing or termination of this Agreement for a period of two years.

5.5Notices.

(a)Until the Closing, Seller shall promptly notify Purchaser of:

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(i)any written notice or other written communication from any Governmental Entity to Seller, † Management Company or a Project Partnership disclosing an adverse event, determination, allegation or change (including without limitation, any Form 8823 notices of non-compliance received by any Project Partnership) relating to † Management Company, any Project, Project Partnership or Purchased Interest;

(ii)any change or event of which Seller has Actual Knowledge which results in any representation or warranty of any Seller under this Agreement being inaccurate in any material respect when made or if restated;

(iii)any written notice or other written communication from any Person alleging that the consent of such Person is or may be required in connection with the transactions contemplated by this Agreement;

(iv)any notice or other communication (oral or written) from the FTC, the DOJ or the IRS or any written notice or other written communication from any other Governmental Entity in connection with the transactions contemplated by this Agreement;

(v)the receipt of any loan, advance or capital contribution by † Management Company or any Project Partnership;

(vi)any proceeding commenced or, to the Actual Knowledge of Seller, threatened against, relating to or involving or otherwise affecting † Management Company or any Seller, Project or Project Partnership that, if pending on the date of this Agreement, would have been required to have been disclosed pursuant to Section 2.9 or that relates to the consummation of the transactions contemplated by this Agreement; and

(vii)any material damage or destruction by fire or other casualty of any Project or assets or part thereof or in the event that any such Project or part thereof becomes the subject of any proceeding or, to the knowledge of Seller, threatened proceeding for the taking thereof or any part thereof or of any right relating thereto by condemnation, eminent domain or other similar governmental action.

(b)Until the Closing, Purchaser shall promptly notify Seller of:

(i)any change or event that, individually or in the aggregate, has had or could reasonably be expected to have a Purchaser Material Adverse Effect;

(ii) any change or event of which Purchaser has actual knowledge which results in any representation or warranty of any Purchaser or Seller under this Agreement being inaccurate in any material respect when made or if restated;

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(iii)any written notice or other written communication from any Person alleging that the consent of such Person is or may be required in connection with the transactions contemplated by this Agreement;

(iv)any notice or other communication (oral or written) from the FTC, the DOJ or the IRS or any written notice or other written communication from any other Governmental Entity in connection with the transactions contemplated by this Agreement; and

(v)any proceeding commenced or, to the knowledge of Purchaser, threatened that relates to the consummation of the transactions contemplated by this Agreement.

5.6Interim Financial Statements. Seller shall deliver to Purchaser by the 20^th of each month monthly operating statements for the preceding month for † Management Company and each Project Partnership. Also, promptly following their preparation in the ordinary course of business, Seller shall deliver to Purchaser any other financial reports for Seller, † Management Company, the Projects and the Project Partnerships for interim and/or annual fiscal periods ending after the date of this Agreement in the form that is customarily prepared for Seller’s internal purposes. Seller covenants that such periodic statements (i) shall, to Seller’s Actual Knowledge, present fairly, in all material respects, the financial position of Seller, † Management Company, the Projects and the Project Partnerships as of their respective dates and the related results of their operations for the respective periods then ended, and (ii) shall, to Seller’s Actual Knowledge, be prepared in accordance with GAAP applied on a consistent basis within such periods.

5.7Correspondence and Reports. Seller shall deliver or make available to Purchaser, to the extent in Seller’s possession or control, copies of all notices, filings, reports, correspondence and other documents sent by Seller, † Management Company or any Project Partnership to, or received by Seller, † Management Company or any Project Partnership from, any Limited Partner, any Lender, any insurance company, the IRS or any other taxing authority or Governmental Entity.

5.8Exclusivity. From and after the date of this Agreement until the earlier of the Closing or the termination of this Agreement: (a) Seller shall not, and shall not permit † Management Company or the Project Partnerships to, and Seller shall cause each of its Affiliates not to, directly or indirectly, through any representative of any of them or otherwise, initiate, solicit or encourage (including by way of furnishing non-public information or assistance), or enter into negotiations of any type, directly or indirectly, or enter into a confidentiality agreement, letter of intent or purchase agreement, merger agreement or other similar agreement with any Person other than Purchaser with respect to a sale of all or any substantial portion of the assets of † Management Company or any Seller, Project or Project Partnership, or a merger, consolidation, recapitalization, business combination, sale of all or any substantial portion of the equity interests of † Management Company or any Seller, Project or Project Partnership, or the liquidation or similar extraordinary transaction with respect to † Management Company or any Seller, Project or Project Partnership, and (b) Seller shall not, except as set forth in Schedule 5.8 or Schedule 5.2, sell, assign, pledge or in any manner dispose of or create or suffer the creation of a Lien on any Purchased Interests.

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5.9Additional Covenants of Seller Regarding † Management Company, the Projects and the Project Partnerships. Each Seller covenants to Purchaser that:

(a)The Seller shall cause † Management Company and the Project Partnerships to do all things necessary to maintain their status as limited partnerships in good standing and had, has, and shall continue to have full power and authority to acquire the Projects and to develop, construct, operate, and maintain the Projects in accordance with the terms of the respective Project Documents and to enable † Management Company and the Project Partnerships to engage in their business.

(b)Except as set forth in Schedule 5.9(b) or Schedule 5.2, Seller shall not (nor shall Seller allow † Management Company or any Project Partnership to) terminate or materially amend any Loan Document, Project Partnership Agreement, Regulatory Agreement, Fee Agreement, Standalone Economic Guarantee or any document of record affecting any Project Partnership, except to the extent that Seller or a Project Partnership is required to enter into any such termination or amendment pursuant to the terms of a Scheduled Document. Seller shall promptly provide Purchaser with a copy of any termination of or amendment to any Loan Document, Project Partnership Agreement, Regulatory Agreement, Fee Agreement, Standalone Economic Guarantee or any document of record affecting † Management Company or any Project Partnership entered into after the Effective Date. Furthermore, except as set forth in Schedule 5.9(b) or Schedule 5.2, Seller shall not (nor shall Seller allow any Project Partnership to) (i) voluntarily grant, create, assume or permit to be created any mortgage, lien, lease, or material encumbrance, easement, covenant, condition, right-of-way or restriction upon any Project other than in the ordinary course of business or (ii) voluntarily take or permit any action adversely affecting the title to the Projects as it exists on the Effective Date. Seller shall promptly provide Purchaser with a copy of any mortgage, lien, lease, encumbrance, easement, covenant, condition, right-of-way or restriction upon any Project granted after the Effective Date.

(c)The Seller shall use reasonable best efforts to cause † Management Company and each Project Partnership to continue to comply with their respective obligations in all material respects under all Scheduled Documents in accordance with past practices and in such a manner as to not knowingly materially alter the disclosures contained in Schedule 2.7 or Schedule 2.8.

(d)The Seller shall not act in any manner that will cause (i) † Management Company or any Project Partnerships to be treated for federal income tax purposes as an association taxable as a corporation or a publicly traded partnership taxed as a corporation, or (ii) † Management Company or any Project Partnership to fail to qualify as a limited partnership under the relevant Laws of the state of formation of † Management Company or any such Project Partnership.

(e)The Seller shall cause † Management Company and each Project Partnership to make timely, accurate and complete submissions of federal and state income tax returns consistent with prior tax accounting and reporting practices, and shall not (except to the extent required by any Project Partnership Agreement) make or modify any tax election or tax accounting method without Purchaser's approval.

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(f)The Seller shall promptly inform Purchaser upon receiving any written notice of or having any Actual Knowledge of, any violation with respect to † Management Company or any Project of any law, rule, regulation, order, or decree of any Governmental Entity having jurisdiction, which would have a Material Adverse Effect on † Management Company or any Project or Project Partnership or the construction, rehabilitation, use, occupancy, or operation thereof. For these purposes, any violation of Section 42 of the Code or the regulations promulgated thereunder or of a Regulatory Agreement shall be deemed to have a Material Adverse Effect.

(g)The Seller shall promptly furnish to Purchaser a copy of any written notice of default under any Scheduled Documents.

(h)Except as set forth in Schedule 5.9(b) or Schedule 5.2, the Seller will not cause or allow restrictions on the sale or refinancing of any Project, other than the restrictions set forth in the existing Loan Documents and Scheduled Documents.

(i)Seller shall not cancel or materially modify the current Project insurance policies prior to their expiration, except that Seller may renew or replace such policies earlier than their current expiration. Any renewal or replacement policies (whether first put in place prior to or at the current expiration of the current policies) shall (i) be consistent with Seller’s past practices with respect to insurance policies, (ii) shall be on terms no less favorable to the Project Partnerships than the current policies, (iii) shall be with insurance carriers having S&P ratings of at least A-, and (iv) shall have policy terms of no longer than one year. Seller shall keep Purchaser informed during the process of selecting renewal or replacement policies (including, but not limited to, providing Purchaser with preliminary pricing and detailed summaries of coverage amounts, deductibles and other coverage information) and shall consider in good faith any comments of Purchaser relating thereto. If Closing occurs, Purchaser shall not cancel or materially modify any such policies obtained by Seller in conformance with the terms of this Section. At Seller’s election, any Removed Projects and the projects listed on Schedule 4.3 shall continue to be covered under the policies described in this Section, provided that Seller pays all insurance costs related to such Removed Projects and the projects listed on Schedule 4.3. At Seller’s election, Seller may also cease to have the policies described in this Section apply to any of such projects designated by Seller provided Seller pays all costs and expenses related thereto.

(j)The Seller shall investigate and report to Purchaser any proposal or offer of any Person, to acquire any Project or any Interests or Purchased Interests. Except as set forth on Schedule 5.9(j), Seller shall also not, without the prior written consent of Purchaser, directly or indirectly acquire or offer to acquire any Limited Partner interest in any Project Partnership. The terms of the preceding sentence shall survive Closing.

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(k)The Seller will use commercially reasonable best efforts to cause the Project Partnerships to comply in all material respects with all of the terms and conditions of the residential lease agreements for each of the Units.

(l)No Project Partnership shall employ any Person as an employee of the Project Partnership.

5.10Tax Matters.

(a)Taxes determined by income, and all items relevant thereto, with respect to the taxable year of † Management Company and the Project Partnerships which includes the Closing Date, shall be allocated between Seller and Purchaser by “closing the books” of the Project Partnerships as of the end of the Closing Date. All other Taxes with respect to † Management Company or the Project Partnerships determined by reference to a taxable period that includes, but does not end on, the Closing Date, shall be apportioned between pre-Closing and post-Closing periods for any purpose of this Agreement based on the number of days in such taxable period occurring through the Closing Date, and the number of days in such taxable period occurring after the Closing Date.

(b)Seller and Purchaser shall cooperate fully, as to the extent reasonably requested by the other Party, in connection with the filing of Tax Returns of each Project Partnership and † Management Company with respect to the year in which Closing occurs, and any audit, litigation or other proceeding with respect to Taxes. Purchaser shall file such Tax Returns for the year in which Closing occurs subject to Seller’s prior review and approval thereof (which review and approval shall not be unreasonably withheld or delayed). Such cooperation will include the retention and (upon the other Party’s request) the provision of records and information reasonably relevant to such audit, litigation or other proceeding and making employees available on a mutually convenient basis to provide additional information and explanation of any material provided hereunder. The Parties agree that Purchaser and Seller will (i) retain all books and records with respect to Tax matters pertinent to the Purchased Interests relating to any tax period beginning before the Closing Date until expiration of the statute of limitations (and, to the extent notified by the other Party, any extensions thereof) of the respective tax periods, and to abide by all record retention agreements entered into with any Government Entity, (ii) to deliver or make available to the other Party upon request copies of all such books and records, and (iii) to give reasonable written notice prior to transferring, destroying or discarding any such books and records and, if the other Party so requests, the allow such Party to take possession of such books and records.

5.11Employee Benefits.

(a)In accordance with Section 1.4(f) and except as otherwise expressly provided herein, at the Closing Seller shall provide Purchaser with a credit for all wages, salaries, compensation, paid time off and other paid leaves, Employee Benefit Plan contributions and benefits, fringe benefits and payroll taxes, if any, that accrued with respect to, or are payable to, the Employees prior to the Closing Date. With respect to paid time off (PTO) and other paid leaves, the credit shall apply only to accrued PTO and leaves actually used or taken prior to the Closing Date. On and after the Closing Date, † Management Company shall be responsible for any accrued but unused PTO and major medical leave owed to the Employees in accordance with † Management Company’s paid time off policies attached as Schedule 5.11(a). Seller shall neither be obligated to pay nor to provide Purchaser with any credit on account of any such accrued but unused PTO or major medical leave.

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(b)Notwithstanding anything contained in this Agreement to the contrary, Seller shall indemnify, defend and hold the Purchaser harmless from and against any and all claims of the Employees, any representatives of such Employees, and applicable units of local government based on failure to comply with (i) the WARN Act and/or (ii) any applicable State WARN Act, to the extent applicable, arising out of or relating to the termination of employment of any Employee before the Closing Date. Purchaser shall indemnify, defend and hold Seller and its Affiliates harmless from and against any and all claims of the Employees, any representatives of such Employees, and applicable units of local government based on failure to comply with (i) the WARN Act and/or (ii) any applicable State WARN Act, to the extent applicable, arising out of or relating to the termination of employment of any Employee on or after the Closing Date.

(c)Except with respect to modifications of † Management Company’s group health plan effective March 1, 2007, Seller agrees that it will provide Purchaser at least ten (10) days’ advance written notice of any significant or comprehensive review, modification or renewal by Seller or † Management Company of Seller’s or † Management Company’s employee benefits plans or policies, and shall allow representatives of Purchaser to participate in all aspects of any such review(s), modification(s) or renewal(s).

(d)Seller shall indemnify, defend and hold the Purchaser harmless from and against any and all losses, damages, liabilities, taxes and sanctions arising from or relating to (i) any violation (or alleged violation) by Seller or † Management Company or any of their respective Affiliates of any law governing employment matters with respect to Employees occurring prior to the Closing Date, (ii) any claims asserted by any Employees or Seller or any other person or entity based upon any Pre-Closing Employee Obligations (except for any such obligation assumed by Purchaser under this Agreement such as COBRA continuation coverage), and (iii) any breach of the obligations of Seller under this Section 5.11.

(e)Purchaser shall indemnify, defend and hold Seller harmless from and against any and all losses, damages, liabilities, taxes and sanctions arising from or relating to (i) any violation (or alleged violation) of any law governing employment matters with respect to any Employees accruing on or after the Closing Date, (ii) any claims asserted by any Employees of Purchaser or any Project Partnership, or any other person or entity directly related to Purchaser’s Post-Closing Employee Obligations, and (iii) any breach of the obligations of Purchaser under this Section 5.11.

(f)On and after the Closing Date, Purchaser shall be responsible for providing (or causing † Management Company to provide) COBRA continuation coverage (as described in Sections 601 through 608 of ERISA and Section 4980B of the Code) to any persons who are “M&A qualified beneficiaries” under a group health plan of † Management Company. Seller shall provide to Purchaser a list of such M&A qualified beneficiaries as soon as practicable after the Effective Date and again no later ten (10) days nor more than twenty (20) days prior to the Closing Date. From and after the Effective Date and prior to the Closing Date, Seller and † Management Company shall not (i) offer any material incentive to any Employee to elect continuation coverage with respect to any group health plan of † Management Company, or (ii) take any action, other than an action in ordinary course of business, that will result in a person covered by a group health plan of † Management Company becoming entitled to COBRA continuation coverage. Except as expressly provided in this Section 5.12(f), Seller shall retain full responsibility and liability for providing COBRA continuation coverage to all persons who are or previously were covered under a group health plan of Seller or † Management Company.

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(g)Notwithstanding any other provision of this Agreement, the foregoing obligations of Seller and Purchaser in this Section 5.11, with the exception of subsection (c), shall survive the Closing.

5.12Employees.

(a)Within ten (10) days after the Effective Date, Seller will provide to Purchaser a written list (the “Employee List”) of all full-time and part-time employees of † Management Company (each an “Employee” and collectively the “Employees”), which list shall indicate each Employee’s job title, work location, compensation (including base salary; 2005 and 2006 bonuses paid, if applicable; any Seller Benefit Plans in which such Employees participate; any in-place employment agreements; and any other compensation, benefits and/or perquisites), date of hire, classification (as exempt or non-exempt) under the Fair Labor Standards Act or other applicable wage and hour law, and whether such Employee is not actively at work for any reason such as a leave of absence, and, if so, the date the absence began and the anticipated date of return to work. The Employee List shall also denote the extent to which (if at all) compensation is reimbursed by any Project Partnership. The Employee List shall also set forth an accurate and complete list of all former Employees to whom † Management Company is currently obligated to pay any severance, compensation or other remuneration. Seller shall notify Purchaser in writing of any changes to the Employee List on a bi-monthly basis (with each such update covering changes occurring during the preceding sixty (60) days). Seller shall not nor shall Seller cause or permit † Management Company to terminate any Employee or to materially change the terms of any Employee’s employment other than in the ordinary course of business consistent with past practices and industry standards. Seller shall not nor shall Seller cause or permit † Management Company to engage in any layoffs or terminations of groups or classes of Employees after the Effective Date.

(b)Except with respect to modifications of † Management Company’s group health plan effective March 1, 2007, subsequent to the Effective Date, Seller shall not, nor shall Seller cause or permit † Management Company or any of their respective Affiliates to (i) make any material change in or enhancement to the compensation or benefits payable or to become payable to any of the Employees other than any normal recurring increases (such as annual merit or cost of living adjustments which Employees typically receive on or before April 30 of each calendar year and previously scheduled benefit enhancements or payments), or other reasonable adjustments consistent with past practices and industry standards (such as promotional increases); (ii) except as may be required under the terms of existing Employee Benefit Plans or by Law, (A) establish, adopt, enter into, amend, agree to amend or terminate any Employee Benefit Plan or any plan, agreement, program, policy, trust, fund or other arrangement that would be an Employee Benefit Plan if it were in existence as of the date of this Agreement, or (B) establish, adopt, enter into, amend, agree to amend or terminate any Seller Benefit Plan; (iii) transfer or relocate management level Employees other than in the ordinary course of business consistent with past practice; (iv) effectuate or announce any employment terminations that constitute a “plant closing” or “mass layoff,” as those terms are defined in the WARN Act or any applicable State WARN Act, affecting in whole or in part any site of employment, facility, operating unit or employee of the Seller or † Management Company; (v) enter into any agreement with any Employee, other than an industry standard separation agreement which includes a release of claims; or (vi) enter into any collective bargaining agreement, neutrality agreement, or other labor contract.

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(c)At the end of the Due Diligence Period and continuing until the Closing Date, Seller shall not permit † Management Company to hire any additional Employees except as may be necessary to meet operational needs due to Employee attrition. During the Due Diligence Period, Seller shall cause † Management Company to continue to adhere to its current hiring policies and procedures, including but not limited to its use of background checks and prehire drug testing.

(d)All Employees of † Management Company as of the Closing Date will remain employed by † Management Company subject to their current at will employment status. † Management Company will continue after Closing to use the Employees’ original dates of hire with † Management Company for benefits eligibility, vesting, accrual and all other employment purposes for which dates of hire are applicable.

5.13Costs and Expenses. Each Party shall bear its own expenses in connection with the transactions contemplated hereby, unless otherwise specifically provided herein. The Parties shall split equally any assumption fees and any other landlord, Limited Partner or other Required Consent provider fees or expenses required to be paid in connection with the assignment of the Purchased Interests or the Space Leases or Personal Property Leases or obtaining or attempting to obtain (even if Closing does not occur or any Required Consents are not obtained) the Required Consents (including any underwriting fees or costs due to any State Agencies (or their agents) in connection therewith), and each Party shall cooperate to structure around the necessity to pay such fees (so long as any such structuring does not result in any materially greater cost, risk or liability or materially decreased benefit to any Party unless such Party consents to such structuring in its sole discretion); provided that all such fees and expenses relating to obtaining Required Consents from Sun America or its Affiliates shall be paid by Seller rather than split. The fees and expenses described in the preceding sentence shall be limited to fees and expenses to which the applicable party (e.g. Lender or Limited Partner) is entitled under the terms of existing agreements plus fees of their counsel and their other out-of-pocket expenses, it being understood that neither Seller nor Purchaser shall without its consent be obligated to pay any other fees or expenses demanded by any Required Consent provider. Title insurance premiums for any new title reports or title policies, if required, will be the responsibility of Purchaser. Seller and Purchaser shall each pay one-half of any applicable sales or transfer taxes that may be due in connection with the sale of the Purchased Interests or Personal Property. The terms of this Section 5.13 shall survive Closing or termination of this Agreement.

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5.14Further Assurances. Seller agrees that it will, at any time and from time to time after the Closing Date, upon request of Purchaser, do, execute, acknowledge and deliver, or will cause to be done, executed, acknowledged and delivered, all such further acts, deeds, assignments, transfers, conveyances and assurances as may reasonably be required for the assigning, transferring, granting, assuring and confirming to Purchaser, or to its successors and assigns, any or all of the assets or property being sold to Purchaser pursuant to this Agreement, provided that the same do not impose any liability on Seller beyond that provided in this Agreement or any document required to be executed by Seller pursuant to this Agreement. Purchaser agrees that it will, at any time and from time to time after the Closing Date, upon request of Seller, do, execute, acknowledge and deliver, or will cause to be done, executed, acknowledged and delivered, all such further acts, deeds, assignments, transfers, conveyances and assurances as may reasonably be required for the assumption of the Assumed Obligations, provided that the same do not impose any liability on Purchaser beyond that provided in this Agreement or any document required to be executed by Purchaser pursuant to this Agreement. The terms of this Section 5.14 shall survive Closing.

5.15Casualty.

(a)If any material damage or destruction by fire or other casualty occurs at any Project prior to Closing, Seller shall promptly notify Purchaser. If (all as determined by Seller subject to Purchaser’s reasonable approval) the expected cost of repair of such casualty is less than the sum of the expected insurance proceeds plus the amount of Project Partnership funds expected to be available for such repair (such as reserves and expected excess net cash flow, with the amount of the expected insurance proceeds and expected Project Partnership funds being the “Available Funds”) such that the Seller would not be required to fund any repair costs not covered by Available Funds (any such casualty for which the Available Funds are sufficient to pay the repair costs being a “Fully Covered Casualty”), then Seller shall cause the applicable Project Partnership to diligently proceed in a commercially reasonable manner to settle the insurance claim and repair the damage and (assuming Closing occurs and the damage is not fully repaired and/or the claim not fully processed by Closing) shall cooperate with Purchaser so that Purchaser (as the new general partner of the applicable Project Partnership) can continue with the process of repairing the damage and/or processing the claim (the actions described in this sentence being a “Normal Casualty Repair Process”).

(b)If the casualty is not a Fully Covered Casualty, then Seller shall notify Purchaser within 5 days after the determination of the amount by which the expected cost of repair exceeds the expected Available Funds (as determined by Seller subject to Purchaser’s reasonable approval) and as to whether Seller shall (i) undertake and comply with the Normal Casualty Repair Process and provide Purchaser a credit at Closing against the Purchase Price in the amount, if any, by which the remaining unpaid cost of repairing the damage exceeds the remaining Available Funds (as determined by Seller subject to Purchaser’s reasonable approval) (the “Remaining Insurance Shortfall”), (ii) undertake and comply with the Normal Casualty Repair Process, but to not provide Purchaser a credit at Closing against the Purchase Price in the amount of any Remaining Insurance Shortfall, or (iii) not repair the damage (the options described in this sentence being Seller’s sole options). If Seller fails to notify Purchaser of its election within such five day period, Seller shall be deemed to have elected option (iii). If Seller elects option (ii) or (iii), then Purchaser shall within five days after such election notify Seller as to whether Purchaser desires to proceed in accordance with the selected option or to exercise its Project Removal Option with respect to the applicable Project. If Purchaser fails to notify Seller of its election within such five day period, Purchaser shall be deemed to have elected to proceed in accordance with the option that Seller selected. If the result of the process described in this Section 5.15(b) is that the parties have selected option (iii), then Seller shall cause the Project Partnership (at the Project partnership’s expense) to take such commercially reasonable prudent actions as are necessary to restore any undamaged areas to a functionally useful state and to eliminate any public safety hazards.

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(c)Notwithstanding anything to the contrary in this Section 5.15, if the Lender (and/or any other Person entitled to control the use or disposition of insurance proceeds) does not consent to make the applicable insurance proceeds available for restoration, then Purchaser may exercise its Project Removal Option with respect to the damaged Project. If Purchaser does not so exercise its Project Removal Option, the Parties shall proceed in accordance with the terms of Section 5.15(b).

5.16Condemnation. If, prior to Closing, all or any part of a Project is taken by condemnation or a conveyance in lieu thereof, or if Seller receives notice of a condemnation proceeding with respect to a Project, then Seller shall promptly notify Purchaser of such condemnation or conveyance in lieu thereof. If the taking or threatened taking is a Material Taking (as defined below), then Purchaser may elect, by written notice to be delivered to Seller on or before the sooner of (i) the tenth (10th) day after Purchaser’s receipt of such notice, or (ii) the Closing Date, to exercise its Project Removal Option with respect to the applicable Project. If Purchaser does not so exercise its Project Removal Option, then the Parties shall proceed in the same manner as if there had been no Material Taking. As used herein, a “Material Taking” means either (i) a taking of any part of the Project reasonably required for the operation of the Project in the manner operated on the date hereof or which would be expected to result in a material reduction in the Credits thereafter available with respect to the Project, or (ii) a taking where the related condemnation proceeds are reasonably expected to exceed 10% of the fair market value of the applicable Project.

5.17Purchaser Option to Restructure Transaction. Purchaser shall have the option, at any time prior to the end of the Due Diligence Period, in its sole discretion, and upon thirty (30) days’ prior written notice to Seller, to restructure the transactions contemplated by this Agreement so that Purchaser shall acquire any or all Seller entities designated by Purchaser rather than the Purchased Interests from the respective designated Seller entities. Notwithstanding the foregoing, the terms of any such restructuring and the documents relating thereto shall be subject to the agreement of both parties.

ARTICLE 6. DUE DILIGENCE.

Seller and Purchaser hereby agree as follows:

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6.1Purchaser’s Due Diligence; Access. Between the Effective Date and Closing, Seller shall allow Purchaser and its authorized representatives to conduct customary due diligence and shall allow Purchaser and its authorized representatives full access to all personnel, offices and other facilities of Seller, the Projects and the Project Partnerships, with such due diligence including without limitation (but only to the extent within Seller’s possession or control): (a) property level due diligence for all of the Projects, including physical condition assessments, unit walk throughs, environmental assessments, lease audits, review of books, records and service contracts, zoning and law compliance confirmation, title and survey review; (b) the review of all existing financing documents, including the Loan Documents, pertaining to the Projects and/or the Project Partnerships; (c) the review of information pertaining to the Project Partnerships (e.g., partnership agreements, certificates of good standing and tax returns); (d) the review of information related to the Credits and/or tax exempt bonds (e.g., cost certifications, 8609s, 8823s, tenant compliance and monitoring reports of the Project Partnerships, IRS audits and settlement agreements); and (e) the asking questions of, and receiving answers from, the officers, directors, shareholders and representatives of Seller, the partners of each Project Partnerships, state housing agencies having jurisdiction over the Projects, and the auditors and accountants for Seller and the Project Partnerships; provided that notwithstanding the foregoing, Purchaser shall not, without prior written notice and approval of Seller (which approval shall not be unreasonably withheld, conditioned or delayed), approach or have access to Seller’s officers, directors, shareholders and representatives or other personnel or the partners of the Project Partnership, state housing agencies having jurisdiction over the Projects or the auditors and accountants for Seller or the Project Partnerships. Seller will provide Purchaser with copies of any documents in Seller’s possession as Purchaser may reasonably request. The representations and warranties of Seller contained herein and in any Transaction Documents shall not be deemed waived or otherwise affected by any such due diligence investigation made by Purchaser. Any Project-related inspections will be done at reasonable times after reasonable notice and Seller shall have the right to have a representative present at all inspections. Purchaser shall repair any damage to any Project caused by any entry upon any Project by Purchaser and shall indemnify and hold harmless Seller from any claims for damage, personal injury or death caused by Purchaser's activities on any Project (but not for any pre-existing conditions that may be revealed by Purchaser’s investigations or for any damages arising out of Seller’s negligence) (Purchaser’s obligations under this sentence being the “Purchaser Repair Obligations”). Purchaser shall promptly give to Seller copies of all title reports, all UCC searches and all final, written third party physical or environmental reports, derived from Purchaser’s due diligence activities (or, in the case where a draft report is not finalized, Purchaser shall provide to Seller the last draft) without any representation or warranty by Purchaser with respect thereto and with it being understood that Seller shall not be permitted to rely on any such reports or drafts absent reliance letters or other consents from the applicable report providers. Purchaser’s structural engineering and environmental assessment reports will be obtained by Purchaser from third parties. Purchaser shall promptly commence its physical due diligence and will proceed with such due diligence diligently and in good faith. Purchaser shall also promptly order UCC searches on (1) † Management Company and each Seller in their respective States of organization, in Orange County, Florida and in each County in which a Project is located, and (2) on each Project Partnership in its State of organization and in the County in which its Project is located. All due diligence conducted by Purchaser shall be at Purchaser’s sole expense. Notwithstanding this Section 6.1, Seller shall promptly supplement or amend the Schedules prior to the Closing pursuant to Section 2.18.

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6.2Due Diligence Termination Option and Project Removal Rights.

(a)Due Diligence Termination Option. This Agreement may be terminated by Purchaser, in its sole discretion for any or no reason (the “Due Diligence Termination Option”), by written notice (a “Due Diligence Termination Notice”) given to Seller at any time prior to the expiration of the Due Diligence Period. If Purchaser terminates this Agreement pursuant to this Section 6.2, then this Agreement shall be null and void, and no party shall have any further liability or obligation to any other party under this Agreement, except that Purchaser shall not be relieved of the Purchaser Repair Obligations, and the Confidentiality Provisions shall survive for the period set forth in Section 5.4.

(b)Project Removals Generally. Under certain circumstances set forth in the remaining subsections of this Section 6.2 or in Sections 1.4(c), 1.5, 3.19(d), 5.15, 5.16, 8.3 or 8.4, either Seller or Purchaser may elect to cause a Project to be removed from the portfolio of Projects in which Purchaser is acquiring an indirect interest (any such removal being a “Project Removal” and any such removed Project being a “Removed Project”). If a Project becomes a Removed Project, then (i) Purchaser shall neither acquire the Purchased Interests relating to such Removed Project nor assume any Seller Obligations relating to such Removed Project, (ii) the Base Price shall be reduced by the Allocated Value of the Removed Project, and (iii) the term “Project” as used in this Agreement shall no longer be deemed to refer to such Removed Project. The option of either Party to cause a Project Removal in accordance with the terms of this Agreement is referred to herein as a “Project Removal Option”. Notwithstanding anything to the contrary in this Agreement, Purchaser may not exercise a Project Removal Option pursuant to this Section 6.2 or pursuant to Section 8.3(a) that would cause the aggregate Allocated Values of all Projects removed at Purchaser’s election pursuant to Sections 1.5, 6.2 or 8.3(a) to exceed $25,000,000.

(c)Material Conditions Generally. The remaining subsections of this Section 6.2 describe in detail the rights and obligations of the Parties with respect to various Material Conditions, which include in some cases, (i) certain rights of Seller to remedy certain Material Conditions, and (ii) certain rights of Purchaser to cause Project Removals with respect to certain Material Conditions.

(d)Material Title and Survey Conditions. Purchaser shall promptly order title commitments or title reports on each of the Projects. Seller shall within 30 days after the Effective Date deliver to Purchaser copies of the most recent surveys of each Project in Seller’ possession or control. If during the Due Diligence Period Purchaser discovers a Material Title or Survey Condition, then Purchaser may deliver to Seller a notice during the Due Diligence Period specifying the applicable Material Title or Survey Condition. Seller shall within ten days after delivery of any such objection notice notify Purchaser as to whether Seller shall cure such Material Title or Survey Condition to Purchaser’s reasonable satisfaction by the later of the end of the Due Diligence Period or 30 days after the date of Purchaser’s notice (such later date being the “Required Title Cure Date”), and if so, describe the means by which Seller shall cure such Material Title or Survey Condition. If Seller fails to notify Purchaser of Seller’s intent to cure the Material Title or Survey Condition within such ten day period, Seller shall be deemed to have elected not to cure. If (i) Seller is unwilling to cure such Material Title or Survey Condition by the Required Title Cure Date, (ii) Seller indicates that it will cure such Material Title or Survey Condition by the Required Title Cure Date but fails to do so, or (iii) Seller fails to notify Purchaser within such ten-day period of Seller’s intention to so cure a Material Title or Survey Condition, then Purchaser may, by written notice to Seller within five business days after the applicable event (i.e. Seller’s notification of Seller’s unwillingness to cure; passage of the ten day period described above expires and Seller delivers no notice; failure to cure by the Required Title Cure Date), (x) exercise its Project Removal Option with respect to the Project to which the Material Title or Survey Condition relates, (y) elect to accept the Material Title or Survey Condition as-is (subject to its Due Diligence Termination Option), or (z) terminate this Agreement (in which case the Earnest Money, if posted prior to such termination, shall be returned to Purchaser). If Purchaser does not deliver any such notice to Seller within the five business day period set forth in the preceding sentence, Purchaser shall be deemed to have elected to accept the Material Title or Survey Condition as-is (subject to its Due Diligence Termination Option). Furthermore, if Seller elects to cure a Material Title or Survey Condition by the Required Title Cure Date and fails to do so, then Seller shall not be deemed to be in default due to such failure to cure (so long as Seller has used diligent, good faith efforts to cure), but Purchaser may terminate this Agreement by written notice to Seller within five business days after the Required Title Cure Date, in which case the Earnest Money (if posted prior to such termination) shall be returned to Purchaser.

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(e)Material Physical Conditions. If during the Due Diligence Period Purchaser discovers a Material Physical Condition, then Purchaser may deliver to Seller a notice during the Due Diligence Period specifying the applicable Material Physical Condition. Seller shall within ten days after delivery of any such objection notice notify Purchaser as to whether Seller shall cure such Material Physical Condition to Purchaser’s reasonable satisfaction by the later of the end of the Due Diligence Period or 30 days after the date of Purchaser’s notice (such later date being the “Required Physical Cure Date”), and if so, describe the means by which Seller shall cure such Material Physical Condition (which may be by reducing the Base Price by an amount equal to the resulting Required Physical Cure Amount). If Seller fails to notify Purchaser of Seller’s intent to cure the Material Physical Condition within such ten day period, Seller shall be deemed to have elected not to cure. If (i) Seller is unwilling to cure such Material Physical Condition by the Required Physical Cure Date, (ii) Seller indicates that it will cure such Material Physical Condition by the Required Physical Cure Date but fails to do so, or (iii) Seller fails to notify Purchaser within such ten-day period of Seller’s intention to so cure a Material Physical Condition, then Purchaser may, by written notice to Seller within five business days after the applicable event (i.e. Seller’s notification of Seller’s unwillingness to cure; passage of the ten day period described above expires and Seller delivers no notice; failure to cure by the Required Physical Cure Date), (x) exercise its Project Removal Option with respect to the Project to which the Material Physical Condition relates, (y) elect to accept the Material Physical Condition as-is (subject to its Due Diligence Termination Option), or (z) terminate this Agreement (in which case the Earnest Money, if posted prior to such termination, shall be returned to Purchaser). If Purchaser does not deliver any such notice to Seller within the five business day period set forth in the preceding sentence, Purchaser shall be deemed to have elected to accept the Material Physical Condition as-is (subject to its Due Diligence Termination Option). Furthermore, if Seller elects to cure a Material Physical Condition by the Required Physical Cure Date and fails to do so, then Seller shall not be deemed to be in default due to such failure to cure (so long as Seller has used diligent, good faith efforts to cure), but Purchaser may terminate this Agreement by written notice to Seller within five business days after the Required Physical Cure Date, in which case the Earnest Money (if posted prior to such termination) shall be returned to Purchaser.

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(f)Material Credit Reductions. If during the Due Diligence Period Purchaser discovers a Material Credit Reduction, then Purchaser may deliver to Seller a notice during the Due Diligence Period specifying the applicable Material Credit Reduction. If the Material Credit Reduction is reasonably susceptible to cure (which may be by a credit against the Purchase Price if the monetary effect on Purchaser is reasonably determinable) and relates to one or more specific Project Partnerships (as described in clause (x) of the definition of “Material Credit Reduction”) and not to the Project Partnerships on an aggregate basis (as described in clause (y) of the definition of “Material Credit Reduction”) (any such Material Credit Reduction being a “Curable Credit Reduction”), Seller shall within ten days after delivery of any such objection notice notify Purchaser as to whether Seller shall cure such Curable Credit Reduction to Purchaser’s reasonable satisfaction by the later of the end of the Due Diligence Period or 30 days after the date of Purchaser’s notice (such later date being the “Required Credit Cure Date”), and if so, describe the means by which Seller shall cure such Curable Credit Reduction. If Seller fails to notify Purchaser of Seller’s intent to cure the Curable Credit Reduction within such ten day period, Seller shall be deemed to have elected not to cure. If (i) the Material Credit Reduction is not a Curable Credit Reduction, (ii) Seller is unwilling to cure a Curable Credit Reduction to Purchaser’s reasonable satisfaction by the Required Credit Cure Date, (iii) Seller indicates that it will cure such Curable Credit Reduction by the Required Credit Cure Date but fails to do so, or (iv) Seller fails to notify Purchaser within such ten-day period of Seller’s intention to so cure a Curable Credit Reduction, then Purchaser may, by written notice to Seller within five business days after the applicable event (i.e. Seller’s notification of Seller’s unwillingness to cure; passage of the ten day period described above expires and Seller delivers no notice; failure to cure by the Required Credit Cure Date; determination that the Material Credit Reduction is not a Curable Credit Reduction), (x) exercise its Project Removal Option with respect to the Project(s) designated by Purchaser to which the Material Credit Reduction relates, or (y) elect to accept the Material Credit Reduction as-is (subject to its Due Diligence Termination Option), or (z) terminate this Agreement (in which case the Earnest Money, if posted prior to such termination, shall be returned to Purchaser). If Purchaser does not deliver any such notice to Seller within the five business day period set forth in the preceding sentence, Purchaser shall be deemed to have elected to accept the Material Credit Reduction as-is (subject to its Due Diligence Termination Option). Furthermore, if Seller elects to cure a Curable Credit Reduction by the Required Credit Cure Date and fails to do so, then Seller shall not be deemed to be in default due to such failure to cure (so long as Seller has used diligent, good faith efforts to cure), but Purchaser may terminate this Agreement by written notice to Seller within five business days after the Required Credit Cure Date, in which case the Earnest Money (if posted prior to such termination) shall be returned to Purchaser.

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(g)Material Litigation. If during the Due Diligence Period Purchaser discovers Material Litigation, then Purchaser may deliver to Seller a notice during the Due Diligence Period specifying the applicable Material Litigation. Seller shall within ten days after delivery of any such objection notice notify Purchaser as to whether Seller shall cure such Material Litigation by the later of the end of the Due Diligence Period or 30 days after the date of Purchaser’s notice (such later date being the “Required Litigation Cure Date”), and if so, describe the means by which Seller shall cure such Material Litigation. Acceptable cures with respect to Material Litigation shall be limited to (x) final dismissal with prejudice of such Material Litigation, (y) final, binding settlement of such litigation, or (z) an indemnity (and security therefor) acceptable to Purchaser in its sole discretion. If Seller fails to notify Purchaser of Seller’s intent to cure the Material Litigation within such ten day period, Seller shall be deemed to have elected not to cure. If (i) Seller is unwilling to cure any Material Litigation by the Required Litigation Cure Date, (ii) Seller indicates that it will cure such Material Litigation by the Required Litigation Cure Date but fails to do so, or (iii) Seller fails to notify Purchaser within such ten-day period of Seller’s intention to so cure such Material Litigation, then Purchaser may, by written notice to Seller within five business days after the applicable event (i.e. Seller’s notification of Seller’s unwillingness to cure; passage of the ten day period described above expires and Seller delivers no notice; failure to cure by the Required Litigation Cure Date), (1) if, and only if, the Material Litigation relates to specific Projects or Project Partnerships, exercise its Project Removal Option with respect to the Project(s) designated by Purchaser to which the Material Litigation relates, (2) accept the Material Litigation as-is (subject to its Due Diligence Termination Option), or (3) terminate this Agreement (in which case the Earnest Money, if posted prior to such termination, shall be returned to Purchaser). If Purchaser does not deliver any such notice to Seller within the five business day period set forth in the preceding sentence, Purchaser shall be deemed to have elected to accept the Material Litigation as-is (subject to its Due Diligence Termination Option). Furthermore, if Seller elects to cure any Material Litigation by the Required Litigation Cure Date and fails to do so, then Seller shall not be deemed to be in default due to such failure to cure (so long as Seller has used diligent, good faith efforts to cure), but Purchaser may terminate this Agreement by written notice to Seller within five business days after the Required Litigation Cure Date, in which case the Earnest Money (if posted prior to such termination) shall be returned to Purchaser.

(h)Material Representation Breaches. If during the Due Diligence Period Purchaser discovers a Material Representation Breach, then Purchaser may deliver to Seller a notice during the Due Diligence Period specifying the applicable Material Representation Breach. If the Material Representation Breach is susceptible to cure by the later of the end of the Due Diligence Period or 30 days after the date of Purchaser’s notice (such later date being the “Required Rep Cure Date”), Seller shall within ten days after delivery of any such objection notice notify Purchaser as to whether Seller shall cure such Material Representation Breach by the Required Rep Cure Date, and if so, describe the means by which Seller shall cure such Material Representation Breach. If Seller fails to notify Purchaser of Seller’s intent to cure a curable Material Representation Breach within such ten day period, Seller shall be deemed to have elected not to cure. If (i) the Material Representation Breach is not susceptible to cure by the Required Rep Cure Date, (ii) Seller is unwilling to cure such Material Representation Breach by the Required Rep Cure Date, (iii) Seller indicates that it will cure such Material Representation Breach by the Required Rep Cure Date but fails to do so, or (iv) Seller fails to notify Purchaser within such ten-day period of Seller’s intention to so cure a curable Material Representation Breach, then Purchaser may, by written notice to Seller within five business days after the applicable event (i.e. Seller’s notification of Seller’s unwillingness to cure; passage of the ten day period described above expires and Seller delivers no notice; failure to cure by the Required Rep Cure Date; determination that the Material Representation Breach is not susceptible to cure), (x) if, and only if, the Material Representation Breach relates to specific Projects or Project Partnerships, exercise its Project Removal Option with respect to the Project to which the Material Representation Breach relates, (y) elect to accept the Material Representation Breach as-is (subject to its Due Diligence Termination Option), or (z) terminate this Agreement (in which case the Earnest Money, if posted prior to such termination, shall be returned to Purchaser). If Purchaser does not deliver any such notice to Seller within the five business day period set forth in the preceding sentence, Purchaser shall be deemed to have elected to accept the Material Representation Breach as-is (subject to its Due Diligence Termination Option). Furthermore, if Seller elects to cure a Material Representation Breach by the Required Rep Cure Date and fails to do so, then Seller shall not be deemed to be in default due to such failure to cure (so long as Seller has used diligent, good faith efforts to cure), but Purchaser may terminate this Agreement by written notice to Seller within five business days after the Required Rep Cure Date, in which case the Earnest Money (if posted prior to such termination) shall be returned to Purchaser. If this Agreement is terminated pursuant to Purchaser’s exercise of its Due Diligence Termination Option and a Material Representation Breach exists, then Purchaser shall also be entitled to all the remedies available to Purchaser pursuant to Section 8.5(a) on account of a termination of this Agreement by Purchaser pursuant to Section 8.4(c).

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6.3As-Is. Notwithstanding anything to the contrary herein, any representations and warranties specifically regarding the physical condition of the Projects shall not survive Closing and no claim may be made thereon after Closing. Purchaser acknowledges and agrees that, as between Seller and Purchaser, the physical condition of the Projects is "as is, where is, with all faults".

6.4Required Consents. Schedule 6.4 sets forth certain Required Consents the parties have preliminarily determined are necessary for the consummation of the transactions contemplated by this Agreement (and indicates thereon to which Purchased Interest(s) each such Required Consent relates). Each Party shall notify the other if between the Effective Date and Closing it determines that any additional consents in addition to those listed on Schedule 6.4 are necessary for the consummation of the transactions contemplated by this Agreement, and any such additional consents shall be Required Consents. The parties shall cooperate in good faith to obtain all Required Consents and shall promptly commence and diligently pursue the process of attempting to obtain the Required Consents. As set forth in Section 1.1, Purchaser also agrees that, to the extent required by the provider of a Required Consent as a condition to the granting of such Required Consent, each of the Purchaser Upper Tier Entities shall jointly and severally guarantee any Seller Obligations that are currently guaranteed by any Seller or another party related to Seller (each a “Seller Guarantor”). To the extent the consent of Seller or any Affiliate of Seller is a Required Consent (e.g. as a Limited Partner in a Project Partnership), such consent is hereby granted. Once any Required Consent is executed, the Parties shall comply with their respective obligations thereunder. As set forth in Section 8.2(e), a Required Consent shall be deemed to satisfy the closing condition set forth in Section 8.2(e) only if the Required Consent (or another document executed by the Required Consent provider) provides (if and only to the extent applicable) that each applicable Seller Guarantor is released from any contractual liabilities which first arise after Closing under any documents to which it is personally a party and under which it would otherwise have express contractual liability. The parties shall also seek to have the Required Consent providers also release each applicable Seller Guarantor from any liabilities under the applicable documents which arise before Closing (although it shall not be a condition to Closing or a condition to the effectiveness of a Required Consent that any Seller Guarantor be so released from any pre-Closing liabilities).

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6.5Space Leases.

(a)Purchaser and Seller shall cooperate to attempt to obtain (i) any landlord consents or other consents as may be necessary in connection with the assignment and assumption of the Space Leases or in connection with Purchaser’s acquisition of † Management Company (with respect to any such leases under which † Management Company is the lessee), and (ii) any landlord estoppels requested by Purchaser with respect to the Space Leases. If despite the parties’ good faith efforts to obtain any such required consent to any such assignment of a Space Lease cannot be obtained, Purchaser may elect to sublease the applicable Leased Space from Seller provided that all necessary consents, if any, required in connection with any such sublease are obtained. Any such sublease shall be on the same economic terms and for the same duration as the applicable Space Lease. It shall be a condition to Purchaser’s obligation to assume any Space Lease or to sublease the space leased thereunder that Purchaser receive a landlord estoppel reasonably acceptable to Purchaser. The inability to obtain consents necessary to assume any Space Lease (or to the change in ownership of † Management Company where † Management Company is the lessee) or sublease the space leased thereunder shall not be deemed to be a failure of a condition to Closing. In connection with obtaining the consents described in this Section, the parties shall also endeavor to have the landlords release the current tenants (other than † Management Company) and any guarantors from any liability under the Space Leases with respect to the period after Closing.

(b)The parties have agreed that (assuming Closing occurs) † Management Company shall have the right to assign the Home Office Lease to † (or another Person designated by †) as of the end of the fifth lease year or (if not previously so assigned) as of the end of any lease year thereafter, and to be released from any further liability thereunder (other than with respect to events or circumstances that occurred between the date Purchaser acquired † Management Company and the date of such assignment) upon such assignment; provided that † Management Company shall not be entitled to make such an assignment at any time when a material default exists under the Home Office Lease (although † Management Company may thereafter assign the Home Office Lease in accordance with the terms of this Section if such material default is first cured). Accordingly, † hereby agrees to so assume (or cause another Person to assume) the Home Office Lease upon not less than six months’ and not more than eighteen months’ prior written notice (an “Assignment Notice”) from † Management Company effective upon the end of the fifth lease year or (if not previously so assigned) as of the end of any lease year thereafter, provided that the Home Office Landlord (i) consents to such assignment, and (ii) agrees that † Management Company shall be released from any liability under the Home Office Lease with respect to events or circumstances first occurring during the period from and after the date of such assignment (such consent and agreement to be evidenced by a written “Home Office Consent and Release”). Commencing promptly after † receives an Assignment Notice, † shall use commercially reasonable efforts to obtain the Home Office Consent and Release. If the Home Office Consent and Release is not obtained by the date which is 60 days after the delivery of the Assignment Notice, then † Management Company may deliver the Termination Notice referenced in Section 2.4 of the Home Office Lease, and † shall pay the Termination Fee referenced in such Section 2.4. Because such Termination Fee is required to be delivered simultaneously with such Termination Notice, † shall remit such Termination Fee to † Management Company (or, at his election, directly to Home Office Landlord with evidence thereof to † Management Company) within ten days after notice from † Management Company that it has elected to deliver such Termination Notice. If † fails to so remit the Termination Fee, † Management Company may itself pay the Termination Fee to Home Office Landlord, and † shall on demand reimburse † Management Company therefor with interest thereon at the prime rate of interest (as reported in the Wall Street Journal) plus six percent per annum until paid in full. If the Home Office Lease is assigned to † (or his designee) as contemplated by this Section 6.5(b), then (1) † Management Company and Purchaser shall indemnify † (or such designee) against any liability under such lease arising out of any events or circumstances taking place during the period from the date Purchaser acquired † Management Company to the date of such assignment, and (2) † shall indemnify † Management Company and Purchaser against any liability under such lease arising out of any events or circumstances taking place after the date of any such assignment. Without limiting the generality of the foregoing, † shall pay any termination fees due under such lease arising after any such assignment. The terms of this Section 6.5(b) shall survive Closing and shall not be subject to or limited by any of the provisions of Article 7 hereof (e.g. amounts due shall not be subject to the liability caps or survival period limitations set forth therein).

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6.6Personal Property Leases. Purchaser and Seller shall cooperate to attempt to obtain (i) any lessor consents or other consents as may be necessary in connection with the assignment and assumption of any of the Personal Property or in connection with Purchaser’s acquisition of † Management Company (with respect to any such leases under which † Management Company is the lessee), and (ii) any lessor estoppels requested by Purchaser with respect to the Personal Property Leases. If despite the parties’ good faith efforts to obtain any such required consent to any such assignment of a Personal Property Lease cannot be obtained, Purchaser may elect to sublease the applicable Leased Personal Property from Seller provided that all necessary consents, if any, required in connection with any such sublease are obtained. Any such sublease shall be on the same economic terms and for the same duration as the applicable Personal Property Lease. It shall be a condition to Purchaser’s obligation to assume any Personal Property Lease or to sublease the Leased Personal Property leased thereunder that Purchaser receive a lessor estoppel reasonably acceptable to Purchaser. The inability to obtain consents necessary to assume any Personal Property Lease (or to the change in ownership of † Management Company where † Management Company is the lessee) or sublease the personal property leased thereunder shall not be deemed to be a failure of a condition to Closing. In connection with obtaining the consents described in this Section, the parties shall also endeavor to have the lessors release the current lessees (other than † Management Company) and any guarantors from any liability under the Personal Property Leases with respect to the period after Closing.

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ARTICLE 7. INDEMNIFICATION.

7.1Seller’s Indemnification. Subject to the limitations set forth in this Article 7, each Seller shall indemnify Purchaser (including each entity that Purchaser creates to take title to any of the Purchased Interests at Closing) and their Affiliates (excluding the Project Partnerships) and their respective officers, directors, employees, accountants, consultants, legal counsel, agents and other representatives (collectively, the “Purchaser Indemnified Parties” and, individually, a “Purchaser Indemnified Party”) from and against and in respect of any and all demands, claims, causes of action, administrative orders and notices, losses, costs, fines, liabilities, claims, penalties, damages (direct or indirect) and expenses (including reasonable legal, paralegal, accountant and consultant fees and expenses incurred in the investigation and defense of claims and actions), as the same are incurred, of any kind or nature whatsoever (whether or not arising out of third party claims, except to the extent expressly stated to be limited to third party claims) (collectively, “Losses”) that may be sustained or suffered by any such Purchaser Indemnified Party resulting from, in connection with or arising out of (but only with respect to third party claims in the case of clauses (d), (e) and (f) below):

(a)any breach of any representation or warranty made by any Seller in Article 2 or Article 3 of this Agreement or in any Transaction Document to which a Seller is a party, to the extent such representation or warranty survives Closing pursuant to the terms hereof;

(b)(i) events occurring before Closing and of which Seller has Actual Knowledge or with respect to which Seller has received written notice from a third party of a pending, threatened or potential breach, default, violation or claim and which (x) are not disclosed in this Agreement or the Schedules hereto (or the documents listed on any such Schedule) during the Due Diligence Period or otherwise disclosed to Purchaser in a written letter from Seller at least five days before the end of the Due Diligence Period, and (y) do not relate to the physical condition of the Projects; (ii) any claim made by any Required Consent provider (other than any claim or threatened claim by a Required Consent provider disclosed in writing by Seller to Purchaser during the Due Diligence Period) arising out of or attributable to any Assumed Obligations, to the extent such claim relates to events occurring or circumstances existing before Closing; (iii) events occurring or circumstances existing before Closing (other than those raised in any claim or threatened claim by a Required Consent provider disclosed in writing by Seller to Purchaser during the Due Diligence Period) that result in (1) a payment to a Required Consent provider or its Affiliate under a Standalone Guaranty, (2) a distribution to a Required Consent provider of Project Partnership cash flow to which such Required Consent provider would not otherwise have been entitled but for such event or circumstance, or (3) any other Loss incurred due to any payment required to be made by a General Partner to a Limited Partner pursuant to the provisions of a Project Partnership Agreement which payment would not otherwise have been required to be made but for such event or circumstance; or (iv) without limiting the generality of the foregoing items (i)-(iii), any Loss resulting from a Final Determination that any Tax basis, Tax allocation or other Tax determinations made before Closing were improper;

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(c)any breach of any covenant or agreement made by any Seller in this Agreement or in any Transaction Document to which a Seller is a party (other than breach of a covenant or agreement relating to the physical condition of the Projects to the extent such breach first occurs only prior to (and not after) the expiration of the Due Diligence Period and Purchaser knows or should have known of such breach prior to the expiration of the Due Diligence Period);

(d)any Liability resulting from Seller’s or its Affiliates’ pursuit of Retained Claims;

(e)any event occurring prior to Closing which results in any liability to Purchaser under any Space Lease or Personal Property Lease where † Management Company is the lessee or that is assumed by Purchaser or its designee or with respect to which Purchaser or its designee subleases the applicable Leased Space or Leased Personal Property;

(f)the matters covered by the indemnities of Seller set forth in Section 5.11 plus any (i) Liability of † Management Company arising out of any event occurring prior to Closing or (ii) any other act or omission of † Management Company occurring prior to Closing which results in any Liability of Purchaser, in each case with respect to such categories (i) and (ii) except to the extent (1) a proration credit was given by Seller to Purchaser at Closing on account of the applicable Liability (or the Liability is for accrued paid time off or major medical leave for an employee of † Management Company, for which Purchaser is not entitled to a credit as set forth in Section 5.11(a)) or (2) the applicable Liability was disclosed in this Agreement or the Schedules hereto (or the documents listed on any such Schedule) during the Due Diligence Period or otherwise disclosed to Purchaser in a written letter from Seller at least five days before the end of the Due Diligence Period (it being understood, however, that Seller shall remain liable with respect to any undisclosed defaults occurring prior to Closing under any disclosed agreements) (the matters described in this Section 7.1(f) being “† Management Liabilities”);

(g)any disputes between or among any of the Seller entities or their direct or indirect owners or beneficial owners; and

(h)any fraud of any Seller in connection with this Agreement or any Transaction Document to which a Seller is a party.

Notwithstanding the provisions of any representation or warranty that includes, or requires disclosure of matters above, a specific monetary threshold or a materiality, Material Adverse Effect or Material Condition qualifier, if Seller breaches any of such representations and warranties due to the monetary thresholds or materiality, Material Adverse Effect or Material Condition qualifiers contained therein having been exceeded, then for purposes of Section 7.5(a) Losses for each such breached representation and warranty shall include the full amount of the Losses incurred by Purchaser Indemnified Parties relating to any such matter notwithstanding the monetary thresholds, materiality, Material Adverse Effect or Material Condition qualifiers listed in such representations or warranties.

7.2The Purchaser’s Indemnification. Subject to the limitations set forth in this Article 7, Purchaser shall indemnify and hold harmless Seller and its Affiliates and their respective successors, permitted assigns, personal representatives, heirs, officers, directors, employees, accountants, consultants, legal counsel, agents, members and other representatives (collectively, the “Seller Indemnified Parties” and, individually, a “Seller Indemnified Party”) from and against and in respect of any and all Losses that may be sustained or suffered by any such Seller Indemnified Party resulting from, in connection with or arising out of:

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(a)any breach of any representation or warranty made by Purchaser in Article 4 of this Agreement or in any Transaction Document to which Purchaser is a party, to the extent such representation or warranty survives Closing pursuant to the terms hereof;

(b)any breach of any covenant or agreement made by Purchaser in this Agreement or in any Transaction Document pursuant to which Purchaser is a party; and

(c)any Liability relating to the Purchased Interests or the Projects to the extent such claims arise after the Closing Date and during the period that is the longer of Purchaser’s or its Affiliate’s or designee’s ownership of such Purchased Interests or Projects and three years from the date of Closing, except to the extent any such Liability is the responsibility of Seller pursuant to Section 7.1;

(d)any event occurring after Closing which results in any liability under any Space Lease or Personal Property Lease where † Management Company is the lessee or that is assumed by Purchaser or its designee or with respect to which Purchaser or its designee subleases the applicable Leased Space or Leased Personal Property (except that the foregoing shall not apply with respect to any liability arising under the Home Office Lease due to circumstances or events first occurring after such time, if any, that such lease is assigned to † or his designee as described in Section 6.5(b));

(e)any Liability pursuant to the indemnities of Purchaser set forth in Section 5.11; and

(f)any fraud of any Purchaser in connection with this Agreement or any Transaction Document to which a Purchaser is a party.

7.3Indemnification Procedures.

(a)Procedures Relating to Indemnification. In the event that a third party (including any Governmental Entity) files a lawsuit, enforcement action or other proceeding against a Party entitled to indemnification under this Article 7 (an “Indemnified Party”) or the Indemnified Party receives notice of, or becomes aware of, a condition or event which otherwise entitles such Party to the benefit of any indemnity hereunder in connection with a claim by a third party (including any Governmental Entity) (a “Third Party Claim”), the Indemnified Party shall give written notice thereof (the “Claim Notice”) promptly to each Party obligated to provide indemnification pursuant to this Article 7 (an “Indemnifying Party”); provided, however, the failure to deliver a Claim Notice in a prompt fashion shall not result in a waiver of any right to indemnification hereunder except to the extent that the Indemnifying Party’s ability to defend against the event with respect to which indemnification is sought is adversely affected by the failure of the Indemnified Party to give notice in a timely fashion. The Claim Notice shall describe in reasonable detail the nature of the claim, including an estimate, if practicable, of the amount of Losses that have been or may be suffered or incurred by the Indemnified Party attributable to such claim and the basis of the Indemnified Party’s request for indemnification under this Agreement.

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(b)Conduct of Defense. An Indemnifying Party shall have the right upon written notice to the Indemnified Party given within thirty (30) days following the receipt of a Claim Notice (a “Defense Notice”) to assume at its expense (using counsel reasonably satisfactory to the Indemnified Party) the defense against such Third Party Claim in its own name, or, if necessary, in the name of the Indemnified Party. When the Indemnifying Party conducts the defense, the Indemnified Party shall have the right to approve the defense counsel representing the Indemnifying Party in such defense, which approval shall not be unreasonably withheld or delayed. The Indemnifying Party shall have the right to withdraw from the defense of any Third Party Claim with respect to which the Indemnifying Party had previously delivered a Defense Notice at any time upon reasonable notice to the Indemnified Party (it being understood that if the Indemnifying Party withdraws from the defense of any Third Party Claim that indemnifiable Losses pursuant to this Article 7 shall include any actual losses, costs, fines, liabilities, claims, penalties, damages and expenses attributable to or resulting from such withdrawal of defense).

(c)Conduct by Indemnified Party. Notwithstanding Section 7.3(b), in the event that (i) the Indemnifying Party fails to timely assume the defense of the Third Party Claim pursuant to Section 7.3(b) or (ii) the Indemnifying Party withdraws from the defense of a Third Party Claim as contemplated by Section 7.3(b), the Indemnified Party shall have the right to conduct such defense in good faith with counsel reasonably acceptable to the Indemnifying Party; provided, however, that the Indemnified Party may not compromise or settle the claim without the prior written consent of the Indemnifying Party (which consent shall not be unreasonably withheld, conditioned or delayed).

(d)Cooperation. In the event that the Indemnifying Party elects to conduct the defense of such Third Party Claim in accordance with Section 7.3(b), the Indemnified Party will cooperate with and make available to the Indemnifying Party such assistance, personnel, witnesses and materials as the Indemnifying Party may reasonably request. Regardless of which Party defends such Third Party Claim, the other Party shall have the right at its expense to participate in the defense assisted by counsel of its own choosing.

(e)Settlements. Without the prior written consent of the Indemnified Party (which consent shall not be unreasonably withheld, conditioned or delayed), the Indemnifying Party shall not enter into any settlement of any Third Party Claim if, pursuant to or as a result of such settlement, such settlement (x) would result in any liability on the part of the Indemnified Party for which the Indemnified Party is not entitled to indemnification hereunder, (y) does not include an unconditional release of the Indemnified Party and its officers, directors, employees and Affiliates from all liability arising out of such claim, or (z) contains any equitable order, judgment or term that in any manner affects, restrains or interferes with the business of the Indemnified Party or any of its Affiliates. If a firm offer is made to settle a Third Party Claim, which offer the Indemnifying Party is permitted to settle under this Section 7.3, and the Indemnifying Party desires to accept and agree to such offer, the Indemnifying Party shall give prior written notice to the Indemnified Party to that effect. If the Indemnified Party objects to such firm offer within ten (10) days after its receipt of such notice, the Indemnified Party may continue to contest or defend such Third Party Claim and, in such event, the maximum liability of the Indemnifying Party as to such Third Party Claim shall not exceed the amount of such settlement offer, plus other Losses paid or incurred by the Indemnified Party up to the point such notice had been delivered. Failure to object within such time period shall be deemed acceptance of the offer. No Indemnified Party shall settle any Third Party Claim without the prior written consent of the Indemnifying Party.

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(f)Tax Contests.Subject to obtaining any Required Consents which may be necessary to change the Tax Matters Partner, Seller shall cooperate with Purchaser in filing such forms and notices as are required to cause Purchaser or its designee to be the Tax Matters Partner, pursuant to the Code, for all taxable years of each Project Partnership. If a Governmental Entity shall propose an adjustment to, or examine or audit of, the Taxes of any Project Partnership with respect to any matter which, if determined adversely, would give rise to an indemnity obligation pursuant to Section 7.1 or a payment by Seller or a Seller Guarantor to a Limited Partner under a tax credit guaranty, then Purchaser shall notify Seller within twenty (20) days of receipt of notice of any such adjustment, examination or audit; provided, however, that the failure to give such notice shall not relieve Seller of its obligations hereunder unless such failure reasonably prevents Seller from exercising its rights under this Agreement, or materially impairs or prejudices the exercise of such rights. Seller may at any time after receipt of such notice provide, at its election, a notice (a “Control Notice”) to Purchaser that Seller intends to direct and control the examination, audit or contest as to one or more proposed adjustments. If Seller elects not to deliver a Control Notice to Purchaser, then Purchaser shall direct and control the audit, examination or contest, but shall nevertheless keep Seller reasonably informed as to all actions to be taken in connection with such contest, shall promptly provide Seller with all material correspondence sent to, or received from, the Governmental Entity regarding such adjustment and such other documentation as reasonably requested by Seller relating to the proposed adjustment, shall consult with Seller in good faith concerning the procedure in which such adjustment is contested, and the substantive arguments to be asserted by Purchaser in such contest, and shall allow a Seller representative to attend all meetings with representatives of the Governmental Entity regarding the proposed adjustment (the retention of control by Purchaser where no Control Notice is delivered shall not impair Purchaser’s rights to claim on any indemnity). Prior to proposing or entering into any settlement or agreement with the Government Entity or payment of Tax regarding any proposed adjustment as to which a Control Notice was not delivered, Purchaser shall provide Seller with the relevant information regarding such proposed settlement or agreement or payment of Tax and Seller shall have ten (10) days after receipt of such information to provide a Control Notice as to the adjustments that are the subject of such settlement or agreement or payment of Tax, and during such time period Purchaser shall not take any action with respect to such adjustments. If Seller at any time delivers a Control Notice to Purchaser, then, with respect only to those proposed adjustments as to which the Control Notice relates, Seller shall, subject to the rights of any limited partner under the applicable Project Partnership Agreement to provide prior written consent to various actions and to exercise other rights to participate in the applicable proceeding, direct and control the progress of and settle the audit, examination or contest, and specifically, without limitation: (i) Purchaser may not settle such proposed adjustments, or pay any tax with respect thereto, without Seller’s consent, (ii) Purchaser shall, if requested by Seller, contest any such proposed adjustment, except that Purchaser shall not be required to appeal any adverse determination to the United States Supreme Court, (iii) Seller or its representative may attend and direct all meetings with the Governmental Entity regarding such proposed adjustments, (iv) at Seller’s request, Purchaser shall provide a power of attorney to one or more counsel or other authorized representatives designated by Seller and reasonably acceptable to Purchaser, who shall represent the Project Partnership with respect to such adjustments, under the direction of Seller, and Purchaser shall cooperate with Seller and its representatives to provide documentation and other reasonable assistance in connection therewith. Delivery by Seller of a Control Notice shall constitute an agreement by Seller to indemnify Purchaser on demand for any Liability incurred by Purchaser by reason of any Taxes, additions to Tax, interest or penalties finally determined to be owing as a result of the proposed adjustments to which the Control Notice relates, provided that indemnification shall not include a gross up for the tax liability on indemnification payments made to Purchaser, or any other payment made to Purchaser relating to indemnification on an after tax basis. The parties shall share equally the reasonable actual costs of any unaffiliated third party professionals (e.g. attorneys and accountants) engaged in connection with any of the proceedings described in this Section 7.3(f).

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7.4Nature of Other Liabilities. In the event any Indemnified Party should have a claim against any Indemnifying Party hereunder which does not involve a Third Party Claim, the Indemnified Party shall promptly transmit to the Indemnifying Party a written notice (“Indemnity Notice”) describing in reasonable detail the nature of the claim and the basis of the Indemnified Party’s request for indemnification under this Agreement. If the Indemnifying Party does not notify the Indemnified Party within thirty (30) days from its receipt of the Indemnity Notice that the Indemnifying Party disputes such claim, the claim specified by the Indemnified Party in the Indemnity Notice shall be deemed a liability of the Indemnifying Party hereunder, with respect to which the Indemnified Party is entitled to prompt indemnification hereunder.

7.5Certain Limitations.

(a)Basket. The Seller shall not be obligated to indemnify Purchaser Indemnified Parties pursuant to Sections 7.1 with respect to matters other than † Management Liabilities unless claims for indemnification against Seller on account of matters other than † Management Liabilities exceed in the aggregate the Seller General Liability Basket, at which point Purchaser Indemnified Parties shall be entitled to indemnification for all Losses with respect to matters other than † Management Liabilities pursuant to Section 7.1. The Seller shall not be obligated to indemnify Purchaser Indemnified Parties pursuant to Sections 7.1 with respect to † Management Liabilities unless claims for indemnification against Seller on account of † Management Liabilities exceed in the aggregate $500,000, at which point Purchaser Indemnified Parties shall be entitled to indemnification for all Losses with respect to † Management Liabilities pursuant to Section 7.1.

(b)Fees. Notwithstanding anything contained herein to the contrary, no Party shall be liable to any Purchaser Indemnified Party or Seller Indemnified Party with respect to fees and expenses of more than one counsel for all Purchaser Indemnified Parties or Seller Indemnified Parties, as the case may be, with respect to any claim or claims for indemnification arising out of the same general allegations or circumstances.

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(c)Seller Liability. Notwithstanding anything to the contrary herein (other than the terms of Section 6.5(b) regarding the Home Office Lease), after Closing, (i) the sole and exclusive remedy for Purchaser or any Purchaser Indemnified Party for any claim for any losses, liabilities, damages, expenses and costs relating to the Projects, the Purchased Interests, the Assumed Obligations or any other matters arising out of or under this Agreement or the transactions contemplated hereby shall be a claim made pursuant to this Article 7, (ii) Seller’s Liability for any such matters shall not exceed the General Liability Cap (as defined below in this subsection) in the aggregate with respect to all such matters other than † Management Liabilities and $5,000,000 with respect to † Management Liabilities, and (iii) the sole source of payment for any amounts payable to Purchaser or any Purchaser Indemnified Party on account of any such matters shall be funds drawn under the Seller Indemnity Letter of Credit (with respect to all matters other than † Management Liabilities) or the † Management Letter of Credit (with respect to † Management Liabilities); provided that, to the extent the issuer of either such letter of credit is unable or unwilling to fund any request for a draw thereunder, then † shall be personally liable for any amounts that such issuer is so unwilling or unable to fund and the applicable letter of credit shall be reduced in the amount of any such payments made by †. “General Liability Cap” shall mean $25,000,000; provided that if there are Removed Projects, then (x) the amount of the General Liability Cap shall initially equal $25,000,000 multiplied by a fraction (i) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing and (ii) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing plus the aggregate Allocated Values of all of the Removed Projects, and (y) at each Subsequent Closing (if any), the amount of the General Liability Cap shall be increased to equal $25,000,000 multiplied by a fraction (i) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of any Closing (i.e. those covered by the initial Closing plus those covered by each Subsequent Closing) and (ii) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are covered by any Closing plus the aggregate Allocated Values of all of the remaining Removed Projects.

(d)Purchaser Liability. Notwithstanding anything to the contrary herein (other than the terms of Section 6.5(b) regarding the Home Office Lease), after Closing, (i) the sole and exclusive remedy for Seller or any Seller Indemnified Party for any claim for any Losses relating to the Projects, the Purchased Interests, the Assumed Obligations or any other matters arising out of or under this Agreement or the transactions contemplated hereby shall be a claim made pursuant to this Article 7, and (ii) Purchaser’s Liability for any such Losses shall not in the aggregate exceed the General Liability Cap.

7.6Amount of Losses. The amount of any Loss payable hereunder shall be: (a) reduced by any insurance proceeds which any Indemnified Party collects with respect to the event or occurrence giving rise to such Losses, and (b) reduced by any amounts which any Indemnified Party collects from third parties in connection with Losses for which indemnification is sought under this Article 7. The Purchaser Indemnified Parties and Seller Indemnified Parties, as the case may be, shall use commercially reasonable efforts to pursue insurance claims or Third Party Claims that may reduce or eliminate Losses. In the event Purchaser is entitled to indemnification hereunder and all or any part of the indemnifiable loss is covered by insurance or any other reimbursement or payment obligation, Purchaser shall, prior to making any claim against Seller, allow Seller the opportunity (with Purchaser’s cooperation and only so long as Seller is diligently pursuing the applicable claim) to pursue and settle the applicable insurance or reimbursement or payment obligation claim with counsel approved by Purchaser (which approval shall not be unreasonably withheld). If a Purchaser Indemnified Party or Seller Indemnified Party, as the case may be, both collects proceeds from any insurance company or third party and receives a payment for indemnification hereunder, and the sum of such proceeds and payment is in excess of the Loss with respect to the matter that is the subject of the indemnity, then the Indemnified Party thereof shall promptly refund the excess amount to the Indemnifying Party.

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7.7Subrogation. After any indemnification payment is made to any Party pursuant to this Article 7, the other Parties shall, to the extent of such payment, be subrogated to all rights (if any) of the Indemnified Party against any third party in connection with the Losses to which such payment relates. Without limiting the generality of the preceding sentence, any Indemnified Party receiving an indemnification payment pursuant to the preceding sentence shall execute, upon the written request of the Indemnifying Party, any instrument reasonably necessary to evidence such subrogation rights.

7.8Survival of Representations, Warranties and Indemnities.

(a)Except as otherwise provided in Section 6.3, the representations and warranties of Seller in this Agreement and in any Transaction Documents and the indemnities and other obligations of Seller set forth in this Article 7 shall all be deemed to be material and to have been relied upon by Purchaser, shall survive the Closing and the consummation of the transactions contemplated hereby until the date (the “Seller Indemnity Expiration Date”) that is three (3) years after the Closing Date (except that if there are one or more Subsequent Closings, the Seller Indemnity Expiration Date shall be the date that is three (3) years after the date that is halfway between the date of the initial Closing and the date of the last of such Subsequent Closings), and Purchaser may not seek indemnification under this Article 7 after the Seller Indemnity Expiration Date. Notwithstanding the preceding sentence, the Seller Indemnity Expiration Date with respect to any claim relating to any † Management Liability shall be the date (the “† Management Liability Expiration Date”) that is one (1) year after the first Closing Date, and Purchaser may not seek indemnification under this Article 7 with respect to any † Management Liability after the † Management Liability Expiration Date. The representations and warranties of Purchaser in this Agreement and in any Transaction Documents and the indemnities and other obligations of Purchaser set forth in this Article 7 shall all be deemed to be material and to have been relied upon by Seller, shall survive the Closing and the consummation of the transactions contemplated hereby until the date that is the later of three (3) years after the Closing Date after the Closing Date (or, if there are one or more Subsequent Closings, the date that is three (3) years after the date that is halfway between the date of the initial Closing and the date of the last of such Subsequent Closings) or, with respect to any particular indemnification claim, the date on which neither Purchaser nor any of its Affiliates any longer owns any Interest in the Project Partnership that owns the Project to which the indemnification claim relates (the “Purchaser Indemnity Expiration Date”), and Seller may not seek indemnification under this Article 7 after the Purchaser Indemnity Expiration Date. Notwithstanding the foregoing, if, prior to the close of business on the Seller Indemnity Expiration Date (with respect to Purchaser claims other than † Management Liabilities), the † Management Liability Expiration Date (with respect to † Management Liabilities) or the Purchaser Indemnity Expiration Date (with respect to Seller claims), a Party shall have been properly notified of a claim for indemnity hereunder and such claim shall not have been finally resolved or disposed of at such date, such claim shall continue to survive and shall remain a basis for indemnity hereunder until such claim is finally resolved or disposed of in accordance with the terms hereof.

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7.9Seller Obligations Not Assumed by Purchaser. With respect to any claim made by a third party against Seller for which Purchaser is not obligated to or fails to indemnify Seller, Seller shall retain any and all rights (including rights to indemnification or reimbursement) and defenses relating thereto and any and all benefits relating thereto or derived therefrom and shall have the right to enforce such rights and make claims and counterclaims thereon and Purchaser shall provide Seller access to records and documents as Seller shall reasonably request in connection therewith.

ARTICLE 8. CONDITIONS TO CLOSING.

8.1Conditions to Obligations of Purchaser.

All obligations of Purchaser under this Agreement are subject to the fulfillment, at or prior to the Closing, of the following conditions:

(a)Representations and Warranties of Seller. The representations and warranties made by Seller in this Agreement shall be true and correct as of the Effective Date and on and as of the Closing Date (as updated prior to the end of the Due Diligence Period), as if again made by Seller, on and as of such date, except for such representations that speak as of an earlier date and, solely for the purpose of determining whether the condition in this Section 8.1(a) has been fulfilled, except for inaccuracies which individually or in the aggregate could not reasonably be expected to have a Material Adverse Effect (it being understood that the occurrence of the Closing shall not preclude any Purchaser Indemnified Party’s rights to indemnification under Article 7 for any inaccuracies or breaches of any representation or warranty under this Agreement).

(b)Performance of Seller’s Obligations. Seller shall have delivered all documents and agreements described in Sections 1.7 and shall have otherwise performed or complied with in all material respects all obligations required under this Agreement by them on or prior to the Closing Date.

(c)Pending Proceedings. No injunction, restraining order or other ruling or order issued by any court of competent jurisdiction or Governmental Entity or other legal restraint or prohibition preventing the consummation of the transactions contemplated by this Agreement shall be in effect.

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(d)Required Consents. Subject to the terms of Section 8.3(b) and (c), Purchaser shall have received original (i) consent certificates executed and delivered by the Limited Partners of each Project Partnership, each substantially in the form of Exhibit D-1 (or such other form as may be reasonably acceptable to Purchaser, Seller and the Limited Partner(s)), (ii) consent certificates from and executed by each Lender, each substantially in the form of Exhibit E (or such other form as may be reasonably acceptable to Purchaser, Seller and such Lender), and (iii) executed copies of all other Required Consents.

8.2Conditions to Obligations of Seller. All obligations of Seller under this Agreement are subject to the fulfillment, at or prior to the Closing, of the following conditions:

(a)Representations and Warranties of Purchaser. The representations and warranties made by Purchaser in this Agreement shall be true and correct as of the Effective Date and on and as of the Closing Date, as if again made by Purchaser, on and as of such date, except for such representations that speak as of an earlier date and, solely for the purpose of determining whether the condition in this Section 8.2(a) has been fulfilled, except for inaccuracies which individually or in the aggregate could not reasonably be expected to have a Purchaser Material Adverse Effect (it being understood that the occurrence of the Closing shall not preclude any Seller Indemnified Party’s rights to indemnification under Article 7 for any inaccuracies or breaches of any representation or warranty under this Agreement).

(b)Performance of Purchaser’s Obligations. The Purchaser shall have delivered all documents and agreements described in Section 1.8 and shall have otherwise performed or complied with in all material respects all obligations required under this Agreement to be performed by Purchaser on or prior to the Closing Date.

(c)Pending Proceedings. No injunction, restraining order or other ruling or order issued by any court of competent jurisdiction or Governmental Entity or other legal restraint or prohibition preventing the consummation of the transactions contemplated by this Agreement shall be in effect.

(d)HSR Act Waiting Period. If the filing of any required notification and report form under the HSR Act is required, then any waiting period applicable to the consummation of the transactions contemplated by this Agreement under the HSR Act shall have expired or been terminated.

(e)Required Consents. Subject to the terms of Section 8.3(b) and (c), Seller shall have received original (i) consent certificates executed and delivered by the Limited Partners of each Project Partnership, each substantially in the form of Exhibit D-1 (or such other form as may be reasonably acceptable to Purchaser, Seller and the Limited Partner(s)), (ii) consent certificates from and executed by each Lender, each substantially in the form of Exhibit E (or such other form as may be reasonably acceptable to Purchaser, Seller and such Lender), and (iii) executed copies of all other Required Consents; and each such Required Consent (or another document executed by the Required Consent provider) shall provide (if and only to the extent applicable) that each applicable Seller and Seller Guarantor is released from any contractual liabilities which first arise after Closing under any documents to which it is personally a party and under which it would otherwise have express contractual liability.

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8.3Project Removals Due to Closing Conditions; Potential Bifurcated Closing.

(a)In the event a condition to Closing in Section 8.1(a), (b) or (c) is not satisfied with respect to one or more specific Purchased Interests, Projects or Project Partnerships, Purchaser may in its sole discretion (subject to the limitations set forth in Section 6.2(b)) elect to exercise a Project Removal Option with respect to the Project(s) designated by Purchaser to which such failed condition relates and proceed to close the transactions contemplated hereby. If Purchaser is not willing to waive any such condition that relates to one or more specific Purchased Interests, Projects or Project Partnerships, and provided that the failed condition does not relate to any uncuredintentional breach of any covenant of Seller in this Agreement, then Seller may in its sole discretion elect to exercise a Project Removal Option with respect to the Project(s) designated by Seller to which such failed condition relates, in which case the Parties shall proceed to close the transactions contemplated hereby so long as all other Closing conditions are satisfied or waived; provided that Seller may not exercise any Project Removal Option pursuant to this Section 8.3(a) that would cause the aggregate Allocated Values of all Projects removed by Seller pursuant to this Section 8.3(a) or pursuant to Section 8.4(c) to exceed $25,000,000.

(b)If at any time after the date that is 90 days after the expiration of the Due Diligence Period all Required Consents are obtained with respect to (i) all then remaining Projects listed on Schedule 8.3(b) (the “Sun and Key Projects”), and (ii) sufficient additional Projects such that (including the Sun and Key Projects) Required Consents are obtained with respect to Projects having an Allocated Value of at least 66% of the Allocated Values of the then remaining Projects (i.e. the initial Projects less any that had otherwise become Removed Projects) collectively, then Purchaser may in its sole discretion elect to exercise Project Removal Options with respect to all Projects for which the Required Consents have not then been obtained (in which case Closing shall then occur with respect to the Projects for which the Required Consents have been obtained).

(c)If at any time after the date that is 90 days after the expiration of the Due Diligence Period all Required Consents are obtained with respect to Projects having an Allocated Value of at least 80% of the Allocated Values of the then remaining Projects (i.e. the initial Projects less any that had otherwise become Removed Projects) collectively, then Seller may in its sole discretion elect to exercise Project Removal Options with respect to all Projects for which the Required Consents have not then been obtained (in which case Closing shall then occur with respect to the Projects for which the Required Consents have been obtained).

(d)For all Projects that become Consent Removal Projects pursuant to Section 8.3(b) or Section 8.3(c), the parties shall continue to diligently and in good faith attempt to obtain the Required Consents therefor (except to the extent the Parties agree otherwise on either a Project-by-Project basis or in whole) unless and until this Agreement is terminated pursuant to Section 8.4. If any such Required Consents are thereafter obtained prior to this Agreement being so terminated, the Consent Removal Projects for which such Required Consents are obtained shall once again become Projects hereunder and shall cease to be Removed Projects (unless thereafter again removed in accordance with another provision in this Agreement) and shall be included in a Subsequent Closing (provided that all conditions to any such Subsequent Closing are satisfied) as described in Section 1.6(d). If any Projects are removed pursuant to Section 8.3(b) or Section 8.3(c), then this Agreement shall not terminate at the initial Closing but instead shall remain in effect (other than any provisions hereof which by their nature have no further applicability after taking into account the initial Closing) unless and until (1) a final Subsequent Closing occurs that includes all Projects that were omitted from earlier Closings due to failure to obtain Required Consents or (2) this Agreement is terminated pursuant to Section 8.4. Furthermore, if any Projects are removed pursuant to Section 8.3(b) or Section 8.3(c), then only a pro rata portion of the Earnest Money shall be applied to the payment of the Purchase Price at the initial Closing, and the remainder shall continue to be held as Earnest Money under and subject to the terms of this Agreement. The pro rata portion of the Earnest Money applied to the payment of the Purchase Price at the initial Closing shall equal the full amount of the Earnest Money multiplied by a fraction (i) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing and (ii) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing plus the aggregate Allocated Values of all of the Consent Removal Projects. At each Subsequent Closing (if any), a pro rata portion of the remaining Earnest Money shall again be applied to the payment of the Purchase Price payable at the applicable Subsequent Closing. The pro rata portion of the Earnest Money applied to the payment of the Purchase Price at any Subsequent Closing shall equal the full amount of the then-remaining Earnest Money multiplied by a fraction (x) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of such Subsequent Closing and (y) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are the subject of such Subsequent Closing plus the aggregate Allocated Values of all of the then-remaining Consent Removal Projects.

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8.4Termination Prior to Closing.

This Agreement may be terminated and the transactions contemplated hereby may be abandoned at any time prior to the Closing:

(a)by mutual consent of Seller and Purchaser;

(b)by either Purchaser or Seller, if a Governmental Entity shall have issued an order, decree or ruling or taken any other action, in each case permanently restraining, enjoining or otherwise prohibiting the transactions contemplated by this Agreement, and such order, decree, ruling or other action shall have become final and nonappealable;

(c)by Purchaser, at any time when Seller is in breach of any of their covenants pursuant to this Agreement or if any representation or warranty of Seller is false or misleading (in each case except such as could not individually or in the aggregate reasonably be expected to have a Material Adverse Effect and provided that such condition is not the result of any breach of any covenant, representation or warranty of Purchaser set forth herein); provided that (i) such breach shall not have been cured, in the case of a covenant, within forty-five (45) days following receipt by Seller of notice from Purchaser of such breach or, in the case of a representation or warranty, on or prior to the date on which the conditions other than the accuracy of the representation and warranty in question would be satisfied for the Closing, and (ii) in the case of a breach of representation or warranty or an unintentional breach of a covenant that relates to specific Projects or Project Partnerships, Seller may elect to exercise a Project Removal Option with respect to the Project(s) to which such breach of representation or warranty or an unintentional breach of a covenant relates (in which case Purchaser’s termination shall not be effective if such Project Removal effectively cures all breaches with respect to which Purchaser was exercising its termination right pursuant to this Subsection (c)); provided that Seller may not exercise any Project Removal Option pursuant to this Section 8.4(c) that would cause the aggregate Allocated Values of all Projects removed by Seller pursuant to this Section 8.4(c) or pursuant to Section 8.3(a) to exceed $25,000,000;

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(d)by Seller, at any time when Purchaser is in breach of any of its covenants pursuant to this Agreement or if any representation or warranty of Purchaser is false or misleading in any material respect; provided that such condition is not the result of any breach of any covenant, representation or warranty of Seller set forth herein; and provided further that such breach shall not have been cured, in the case of a covenant (other than payment of the Purchase Price), within forty-five (45) days following receipt by the Purchaser of notice of such breach or, in the case of a representation or warranty, on or prior to the date on which the conditions other than the accuracy of the representation and warranty in question would be satisfied for the Closing; or

(e)by either Purchaser, on the one hand, or Seller, on the other hand, if the Closing has not occurred on or before the Drop Dead Date by reason of the failure of a Closing condition to occur which failure has not been cured under Section 8.3; provided, however, that (i) the right to terminate this Agreement shall not be available to any Party whose breach of this Agreement has been the cause of, or resulted in, the failure of the Closing to occur on or before such date, and (ii) if the Required Consents are not obtained by the Drop Dead Date, either Party may extend the Drop Dead Date by up to three successive thirty day periods by notice given to the other Party at least three business days prior to the then current scheduled Closing Date for the purpose of continuing to attempt to obtain any remaining Required Consents (it being understood that the Drop Dead Date may not be extended beyond the date that is 90 days after the original Drop Dead Date without the consent of both Parties). The extension option described in clause (ii) of the preceding sentence shall continue to apply with respect to obtaining Required Consents relating to any Consent Removal Projects.

(f)If an initial Closing occurs and this Agreement is subsequently terminated, all of the provisions hereof which would otherwise survive a Closing shall continue to survive to the extent provided herein (e.g. termination following an initial Closing shall not cause representations and warranties that would otherwise survive Closing to instead be terminated).

8.5Procedure and Effect of Termination. In the event of termination of this Agreement by Seller or Purchaser, this Agreement shall immediately become void and there shall be no liability hereunder on the part of any Party except as follows:

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(a)If Purchaser terminates this Agreement pursuant to any of Subsections (a), (b), (c), or (e) (but in the case of (e), only if due to failure to obtain Required Consents) of Section 8.4, then this Agreement shall be null and void, the Earnest Money shall be returned to Purchaser and no party shall have any further liability or obligation to any other party under this Agreement, except that Purchaser shall not be relieved of the Purchaser Repair Obligations, and the Confidentiality Provisions shall survive for the period set forth in Section 5.4. Notwithstanding the preceding sentence, if Purchaser terminates this Agreement pursuant to Section 8.4(e), the Earnest Money shall be returned to Purchaser only if the events or unsatisfied closing conditions resulting in the failure of the Closing to occur were not within the sole control of Purchaser. If such events or unsatisfied closing conditions resulting in the failure of the Closing to occur were within the sole control of Purchaser, then the Earnest Money shall be delivered to Seller. If Purchaser terminates this Agreement pursuant to Section 8.4(c), Seller shall pay to Purchaser (if Purchaser is not then in material default under this Agreement), as Purchaser’s sole remedy, (i) an amount equal to all actual out-of-pocket amounts expended by Purchaser in connection with the pursuit of the transactions contemplated by this Agreement (including all reasonable legal expenses and due diligence costs, including fees and costs paid to Archon Group, LP) up to a maximum amount of $1,000,000; provided that in the case of termination due to a material intentional misrepresentation or Seller’s willful refusal to comply with any covenant hereunder or willful refusal to satisfy a closing condition that is within Seller’s control, such $1,000,000 cap shall be increased to $4,975,000. If Seller defaults in performing any covenants or agreements to be performed by Seller under this Agreement or Seller breaches any representations or warranties made by Seller in this Agreement, Purchaser shall also have the right, instead of terminating this Agreement, to elect to permit this Agreement to remain in effect and, in addition to the remedies set forth above, to seek specific performance or other injunctive relief. The liability of Seller under this Section 8.5(a) shall be joint and several as to all Persons comprising Seller; provided that the following entities shall have no liability hereunder for monetary payments to Purchaser: †; †; †; †; †; and †.

(b)If Seller terminates this Agreement pursuant to Section 8.4, this Agreement shall become null and void and no party shall have any further liability or obligation to any other party under this Agreement, except that Purchaser shall not be relieved of the Purchaser Repair Obligations, and the Confidentiality Provisions shall survive for the period set forth in Section 5.4. If, but only if, Seller’s termination is pursuant to (i) Section 8.4(d), or (ii) Section 8.4(e) and a material default hereunder by Purchaser was the cause of, or resulted in, the failure of the Closing to occur on or before the Drop Dead Date (and in the case of either (i) or (ii), only if Seller is not then in material default under this Agreement), the Earnest Money shall be paid to Seller as liquidated damages, and in all other cases the Earnest Money shall be returned to Purchaser upon Seller’s termination. Seller's sole and exclusive remedy for Purchaser's default shall be to receive the Earnest Money as liquidated damages, and in no event and under no circumstances shall Seller be entitled to receive more than the Earnest Money as damages for Purchaser's default.

ARTICLE 9. MISCELLANEOUS PROVISIONS.

9.1Successors and Assigns. This Agreement shall inure to the benefit of, and be binding upon, the Parties hereto and their respective successors and permitted assigns; provided, however, that no Party shall assign or delegate this Agreement or any of its rights or obligations created hereunder without the prior consent of the other Parties, which consent shall not be unreasonably withheld or delayed; provided further, however, that Purchaser may transfer any of its rights hereunder to any directly or indirectly wholly owned subsidiary of any of the Purchaser Upper Tier Entities without the consent of Seller, but no such transfer shall relieve Purchaser of its obligations hereunder and any such transferee must execute and deliver to Seller an assumption agreement pursuant to which such transferee shall be jointly and severally liable with Purchaser with respect to those specific obligations assumed by such transferee.

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9.2Notices. All notices, requests, consents, instructions and other communications required or permitted to be given hereunder shall be in writing and hand delivered, sent by nationally-recognized, next-day delivery service or mailed by certified or registered mail, return receipt requested, postage prepaid, addressed as set forth below or by facsimile, receipt confirmed, to the number set forth below; receipt shall be deemed to occur on the date of actual receipt or, if sent by a nationally-recognized, next-day delivery service, on the first business day after deposit with such service. All such communications shall be addressed as follows:

(a) if to Purchaser, as follows:     GIN Housing Partners I, L.L.C. c/o Archon Group, L.P. 600 East Las Colinas Blvd. Suite 400 Irving, Texas 75039 Attention: Roger Beless Facsimile: (972) 368-3599
with a copies (which shall not constitute notice) to:
Archon Acquisition, L.L.C. c/o Archon Group, L.P. 600 East Las Colinas Blvd. Suite 400 Irving, Texas 75039 Attention: Timothy Johnson, Esq. Facsimile: (972) 368-4098
And
Sonnenschein Nath & Rosenthal LLP 7800 Sears Tower 233 S. Wacker Drive Chicago, Illinois 60606 Attention: Andrew L. Weil, Esq. Facsimile: (312) 876-7934

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And

NorthStar Realty Finance Corp.

527 Madison Avenue-16th Floor

New York, NY 10022

Attn: Al Tylis

Facsimile: (212) 319-4557

And

Bryan Cave

1290 Avenue of the Americas

New York, NY 10104-3300

Attention: Gary Wolff

Facsimile: (212) 541-4630

And

†

†

†

Attention: †

Facsimile: †

And:

†

†

Attention: †

Facsimile: †

And:

†

†

†

Attention: †

Facsimile: †

And:

†

†

†

Attention: †

† Reference: [client/matter no.]

Facsimile: †

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(b) if to any Seller:   † † † c/o †
† † Facsimile: †
And
† † † Attention: †
with a copy (which shall not constitute notice) to:
†   †   †   Attention: †   Facsimile: †

or such other address or Persons as the Parties may from time to time designate in writing in the manner provided in this Section.

9.3Entire Agreement. This Agreement, together with the Schedules and Exhibits attached hereto, represent the entire agreement and understanding of the Parties hereto with respect to the transactions contemplated herein and therein, and no representations, warranties or covenants have been made in connection with this Agreement, other than those expressly set forth herein and therein, or in the certificates or agreements delivered in accordance herewith or therewith. This Agreement supersedes all prior negotiations, discussions, correspondence, communications, understandings, term sheets, letters of intent and agreements among the Parties relating to the subject matter of this Agreement and such other agreements and all prior drafts of this Agreement and such other agreements, all of which are merged into this Agreement.

9.4Amendments and Waivers. This Agreement may be amended, superseded, cancelled, renewed or extended, and the terms hereof may be waived, only by a written instrument signed by Purchaser and Seller or, in the case of a waiver, by the Party waiving compliance or his or her representative (including, in the case of any Seller, such Seller). No delay on the part of any Party in exercising any right, power or privilege hereunder shall operate as a waiver thereof; nor shall any waiver on the part of any Party of any such right, power or privilege, nor any single or partial exercise of any such right, power or privilege, preclude any further exercise thereof or the exercise of any other such right, power or privilege.

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9.5Severability. This Agreement shall be deemed severable and the invalidity or unenforceability of any term or provision hereof shall not affect the validity or enforceability of this Agreement or of any other term or provision hereof so long as the economic or legal substance of the transactions contemplated hereby is not affected in any manner materially adverse to any Party.

9.6Headings. The article and section headings contained in this Agreement are solely for convenience of reference and shall not affect the meaning or interpretation of this Agreement or of any term or provision hereof.

9.7Terms. All references herein to Articles, Sections, Schedules and Exhibits shall be deemed references to such parts of this Agreement, unless the context shall otherwise require. All references to singular or plural shall include the other as the context may require, and all references to one gender include the other gender. Unless otherwise expressly stated, the words “herein,” “hereof,” and “hereunder” and other words of similar import refer to this Agreement as a whole and not to any particular Section, Subsection or other subdivision. The words “include” and “including” shall not be construed as terms of limitation.

9.8Governing Law; Jurisdiction and Venue. This Agreement shall be governed by and construed in accordance with the laws of the State of Florida, without giving effect to choice of law principles. Each Party hereto hereby agrees that any proceeding relating to this Agreement and the transactions contemplated hereby shall be brought exclusively in a state court located in Florida, or a federal court located in the State of Florida. Each Party hereto hereby consents to personal jurisdiction in any such action brought in any such state or federal court, consents to service of process by registered mail made upon such Party and such Party’s agent and waives any objection to venue in any such state or federal court and any claim that any such state or federal court is an inconvenient forum.

9.9Schedules and Exhibits. The Schedules and Exhibits attached hereto are a part of this Agreement as if fully set forth herein. Purchaser acknowledges and agrees that the categories, headings and other attempts to make the Schedules more organized are merely for convenience and do not constitute a representation or warranty by Seller. Purchaser also acknowledges and agrees that document titles, dates and signatories may have typographical errors and should be verified by Purchaser during the Due Diligence Period. In certain cases, for Purchaser’s convenience, Seller has included information on Schedules which is not required (e.g. listing of Service Contracts that do not meet the materiality thresholds that would require such Service Contracts to be scheduled), and it is agreed that the inclusion of such information shall not result in a default hereunder unless such additional information was intentionally made inaccurate by Seller.

9.10No Third Party Beneficiaries. Except as expressly contemplated in this Agreement, this Agreement shall be binding upon and inure solely to the benefit of each Party hereto and nothing in this Agreement is intended to confer upon any other Person any rights or remedies of any nature whatsoever under or by reason of this Agreement. The Seller Guarantors shall be direct third party beneficiaries of the terms hereof.

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9.11Expenses. Except as expressly provided in Section 5.13 or otherwise in this Agreement, Seller and Purchaser shall each bear their own respective transaction fees and expenses (including fees and expenses of legal counsel, accountants, investment bankers, brokers, finders or other representatives and consultants) incurred in connection with the preparation, execution and performance of this Agreement and the transactions contemplated hereby.

9.12Construction. The language used in this Agreement shall be deemed to be the language chosen by the Parties to express their mutual intent and no rule of strict construction shall be applied against any Party.

9.13Mutual Drafting. The parties hereto are sophisticated and have been represented by attorneys throughout the transactions contemplated hereby who have carefully negotiated the provisions hereof. As a consequence, the parties do not intend that the presumptions of laws or rules relating to the interpretation of contracts against the drafter of any particular clause should applied to this Agreement or any agreement or instrument executed in connection herewith, and therefore waive their effects.

9.14Prevailing Party. The prevailing party in any action brought to enforce the remedies reserved to the parties, respectively, hereunder shall be entitled to recover reasonable attorneys’ fees and court costs in addition to any other relief.

9.15Market Rate Projects. None of the provisions herein relating to tax credits, housing bonds or affordable housing shall apply to the Market Rate Projects.

9.16Counterparts. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original and all of which together shall be considered one and the same agreement.

Remainder of this Page Intentionally Left Blank

Signature Pages Follow

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IN WITNESS WHEREOF, the Parties hereto have caused this Agreement to be duly executed and delivered as of the date first above written.

PURCHASER:

GIN HOUSING PARTNERS I, L.L.C., a Delaware limited liability company

By: †, a Delaware limited liability company, a Member

By:___________________________________________

Name:_________________________________________

Title:_________________________________________

Remainder of this Page Intentionally Left Blank

Seller Signature Pages Follow

Signature Page to Purchase and Sale Agreement

SELLERS:

†, a Florida limited partnership
By:	†, a Florida limited liability company, its general partner By: ________________________________________ †, Manager
† By: __________________________________________________________________________
†, Trustee
† By: __________________________________________________________________________ †, Trustee
† By: __________________________________________________________________________ †, Trustee
†, a Delaware limited partnership
By:	†, a Florida corporation, its general partner By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its general partner By: ________________________________________ †, President
†, a Delaware limited partnership
By:	†, a Florida corporation, its general partner By: ________________________________________ †, President

Signature Page to Purchase and Sale Agreement

†, a Florida limited partnership
By:	†, a Florida corporation, its general partner By: ________________________________________ †, President
†, a Florida corporation By: __________________________________________________________________________        †, President
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager

Signature Page to Purchase and Sale Agreement

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

Signature Page to Purchase and Sale Agreement

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

Signature Page to Purchase and Sale Agreement

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

†, a Florida limited liability company

By: __________________________________________________________________________       

†, Manager

Signature Page to Purchase and Sale Agreement

†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company By: __________________________________________________________________________        †, Manager
†, a Florida limited partnership
By	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, Chief Executive Officer
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, Chief Executive Officer
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, Chief Executive Officer

Signature Page to Purchase and Sale Agreement

†, a Florida limited partnership
By:	†, a Florida corporation, its general partner
	By: ________________________________________ †, Vice President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, Manager

Signature Page to Purchase and Sale Agreement

†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited liability company
By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company
By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company
By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company
By: __________________________________________________________________________        †, Manager
†, a Florida limited liability company
By: __________________________________________________________________________        †, Manager

Signature Page to Purchase and Sale Agreement

†, a Florida limited liability company
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited liability company
By: __________________________________________________________________________        †, Manager
†, a Florida corporation
By: __________________________________________________________________________        †, Vice President
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, Chief Executive Officer
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President
†, a Florida limited partnership
By:	†, a Florida corporation, its general partner
	By: ________________________________________ †, President
By:	†, a Florida corporation, its general
	partner
	By: ________________________________________ †, President

Signature Page to Purchase and Sale Agreement

†,
By: __________________________________________________________________________        †, Trustee
By: __________________________________________________________________________        †, Trustee
†, a Florida limited partnership
By:	†, a Florida limited liability company, its general partner
	By: ________________________________________ †, Manager
†, a Florida limited partnership
By:	†, a Florida corporation, its general partner
	By: ________________________________________ †, President
†, a Florida limited liability company
By: __________________________________________________________________________        †, Manager
†, a Florida corporation
By: __________________________________________________________________________        †, President
By: __________________________________________________________________________        †, Trustee
†, a Florida limited liability company
By: ____________________________________________________________________        †, Manager
†, a Florida limited partnership
By:	†, a Florida corporation, its managing general partner
	By: ________________________________________ †, President

Signature Page to Purchase and Sale Agreement

†, a Florida corporation

By: __________________________________________________________________________       

†, President

The undersigned † hereby joins the foregoing Agreement solely for the purpose of agreeing to be bound by the provisions of Sections 7.5(c) and 6.5(b) hereof.

______________________________

†

Signature Page to Purchase and Sale Agreement

EXHIBIT A

DEFINED TERMS

“Actual Knowledge” shall mean (a) the actual current recollection of (i) the party making the representation or warranty and of (ii) any one or more of †, †, †, † or † as of the date such representation or warranty is made, or (b) the information contained in a written notice to a Seller or Project Partnership or † Management Company from a Limited Partner, Governmental Entity, Lender or third party claimant which is contrary to the applicable representation or warranty. For purposes of (a)(i) above, if the party making the representation is an entity, then (a)(i) above shall be deemed to refer to the actual current recollection of the president, manager or member of such entity.

Affiliate” shall mean a Person that directly or indirectly, through one or more intermediaries, controls, is controlled by, or is under common control with, another Person.

“Agreement” shall have the meaning set forth in the Preamble.

“Allocated Value” shall mean, with respect to any Project, the portion of the Base Price attributed thereto as shown on Schedule E.

“Assignment and Assumption of Partnership Interest” shall have the meaning set forth in Section 1.7(a).

“Assignment and Assumption of Fee Agreement” shall have the meaning set forth in Section 1.7(c).

“Assumed Obligations” shall have the meaning set forth in Section 1.1.

“Assumption” shall have the meaning set forth in Section 1.8(i).

“Available Funds” shall have the meaning set forth in Section 5.15(a).

“Base Price” shall have the meaning set forth in Section 1.2.

“Business” shall have the meaning set forth in the Recitals.

“Claim Notice” shall have the meaning set forth in Section 7.3(a).

“Closing” shall have the meaning set forth in Section 1.6(a) and shall apply to the initial Closing and/or any Subsequent Closing, as the context may require.

“Closing Date” shall have the meaning set forth in Section 1.6(a).

“Closing Payment” shall have the meaning set forth in Section 1.6(b).

“COBRA” means the Consolidated Omnibus Budget Reconciliation Act of 1985.

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“Code” means the Internal Revenue Code of 1986, as amended, any successor statute thereto, and the rules and regulations promulgated thereunder.

“Compliance Period” shall mean, with respect to a building in a Project, the period specified in Section 42(i)(1) of the Code with respect to such building and when used with respect to the Project as a whole, means the period starting with the beginning of the first period under Section 42(i)(1) to start for any building in such Project and ending with the end of the last period under Section 42(i)(1) to end for any building in such Project.

“† Management Liability” shall have the meaning set forth in Section 7.1(f).

“† Management Liability Expiration Date” shall have the meaning set forth in Section 7.8(a).

“† Management Letter of Credit” means a clean, irrevocable letter of credit which (i) is in the amount of $5,000,000, (ii) is in form and substance and from an issuing bank reasonably satisfactory to Purchaser, (iii) allows for partial draws, and (iv) has an expiry date no earlier than 30 days after the † Management Expiration Date.

“† Management Company” means † Management, Ltd., a Florida limited partnership.

“Confidentiality Provisions” shall have the meaning set forth in Section 5.4.

“Consent Removal Projects” shall have the meaning set forth in Section 1.6(d).

“Construction Contracts” shall have the meaning set forth in Section 3.19.

“Construction Obligations” shall have the meaning set forth in Section 3.19.

“Credits” shall mean the low income housing tax credits provided for under Section 42 of the Code, including the seventy percent (70%) present value credit and/or the thirty percent (30%) present value credit, as applicable.

“Defense Notice” shall have the meaning set forth in Section 7.3(b).

“Development Agreement” shall have the meaning set forth in the Recitals.

“DOJ” shall mean the United States Department of Justice.

“Drop Dead Date” shall mean the date which is six (6) months following the expiration of the Due Diligence Period (subject to extension pursuant to the terms of Section 8.4(e)).

“Due Diligence Period” shall mean the 120 day period after the Effective Date, subject to extension to the extent expressly provided in Section 2.18.

“Due Diligence Termination Notice” shall have the meaning set forth in Section 6.2(a).

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“Due Diligence Termination Option” shall have the meaning set forth in Section 6.2(a).

“Earnest Money” shall have the meaning set forth in Section 1.3(a).

“Earnest Money Escrow Agent” shall have the meaning ascribed to that term in the Earnest Money Escrow Agreement.

“Earnest Money Escrow Agreement” shall have the meaning set forth in Section 1.3(a).

“Economic Interests” shall have the meaning set forth in the Recitals.

“Effective Date” shall mean the last date on which this Agreement has been fully executed by Seller and Purchaser and a fully executed copy has been received by Seller and Purchaser.

“Employee” shall have the meaning set forth in Section 5.12.

“Employee Benefit Plan” means any pension, retirement, savings, disability, medical, dental, health, life, death benefit, group insurance, profit sharing, deferred compensation, stock option, equity compensation, bonus, incentive, vacation pay, tuition reimbursement, severance pay, employment continuation, change of control, fringe benefit or other employee benefit plan, trust, agreement, contract, policy or commitment (including without limitation, any employee pension benefit plan, as defined in Section 3(2) of ERISA and the rules and regulations promulgated thereunder, and any employee welfare benefit plan as defined in Section 3(1) of ERISA, whether any of the foregoing is funded, insured or self-funded, written or oral.

“Environmental Laws” shall have the meaning set forth in the definition of Hazardous Materials.

“Environmental Reports” shall mean any environmental assessment report prepared with respect to any Project (which shall not include reliance letters).

“ERISA” means the Employee Retirement Income Security Act of 1974, as amended, any successor statute thereto, and the rules and regulations promulgated thereunder.

“ERISA Affiliate” means (a) a member of any “controlled group” (as defined in section 414(b) of the Code) of which a Person is a member, (b) a trade or business, whether or not incorporated, under common control (within the meaning of section 414(c) of the Code) with a Person, or (c) a member of any affiliated service group (within the meaning of section 4.14(m) of the Code) of which a Person is a member.

“Excluded Economic Interests” shall have the meaning set forth in the Section 2.2.

“Exhibit” shall mean any exhibit attached hereto.

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“Extended Use Agreement” shall mean any agreement entered into between a Project Partnership and any state tax credit agency as required pursuant to Section 42(h)(6) of the Code.

“Final Determination” shall mean, with respect to any Tax basis, Tax allocation or other Tax determination made before Closing that is alleged to have been improper, the first to occur of: (i) a decision, judgment, decree or other order issued by any court of competent, or assessment by a Tax authority, reflecting an inconsistent treatment, which decision, judgment, decree, other order or assessment has become final (i.e., all allowable appeals have been exhausted); or (ii) any binding settlement in writing is made in accordance with the provisions of Section 7.3(f) between the applicable person and the Tax authority reflecting an inconsistent treatment.

“Financial Statements” shall have the meaning set forth in Section 2.6(a).

“Fiscal Year” shall mean the calendar year or such other year that a Project Partnership is required by the Code to use as its taxable year.

“FTC” shall mean the United Stated Federal Trade Commission.

“Fully Covered Casualty” shall have the meaning set forth in Section 5.15(a).

“GAAP” shall mean generally accepted accounting principles, consistently applied with such principles as applied with respect to the Financial Statements.

“General Liability Cap” shall have the meaning set forth in Section 7.5(c).

“General Partner” shall mean any Person who owns a general partner or managing member Interest in any Project Partnership.

“†” shall mean †, an individual.

“Governmental Entity” means the United States of America or any other nation, any state or other political subdivision thereof, or any entity exercising executive, legislative, judicial, regulatory or administrative functions of government.

"Hazardous Materials" shall mean any of the following: "toxic substances," "toxic materials," "hazardous waste," "hazardous substances," "pollutants," or "contaminants" [as those terms are defined in the Resource, Conservation and Recovery Act of 1976, as amended ("RCRA") (42 U.S.C. § 6901 et. seq.), the Comprehensive Environmental Response Compensation and Liability Act of 1980, as amended (42 U.S.C. § 9601 et. seq.), the Hazardous Materials Transportation Act, as amended (49 U.S.C. § 1801 et. seq.), the Toxic Substances Control Act of 1976, as amended (15 U.S.C. § 2601 et. seq.), the Clean Air Act, as amended (42 U.S.C. § 1251 et. seq.) and any other federal, state or local law, statute, ordinance, rule, regulation, code, order, approval, policy and authorization relating to health, safety or the environment (said laws being hereafter referred to collectively as "Environmental Laws"); asbestos or asbestos-containing materials; lead or lead-containing materials; oils; petroleum-derived compounds; pesticides; or polychlorinated biphenyls.

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“Holdback Escrow Agreement” shall have the meaning set forth in Section 1.6(c).

“Home Office” shall have the meaning set forth in the Recitals.

“Home Office Landlord” shall have the meaning set forth in the Recitals.

“Home Office Lease” shall have the meaning set forth in the Recitals.

“HSR Act” shall have the meaning set forth in Section 5.3.

“Income Tax” means any Tax imposed on, or measured by, net income.

“Indebtedness” means the following liabilities and obligations of Seller or any Project Partnership as they relate solely to a Project or a Project Partnership: (a) all indebtedness for borrowed money or for the deferred purchase price of property or services in respect of which the applicable party is liable, contingently or otherwise, as obligor or otherwise (other than trade payables and other current working capital liabilities incurred in the ordinary course of business); (b) all indebtedness guaranteed in any manner; (c) all obligations under capitalized leases in respect of which the applicable party is liable, contingently or otherwise, as obligor, guarantor or otherwise, and (d) all obligations under any interest rate cap, swap, collar or similar transaction or currency hedging transactions.

“Indemnified Party” shall have the meaning set forth in Section 7.3(a).

“Indemnifying Party” shall have the meaning set forth in Section 7.3(a).

“Indemnity Notice” shall have the meaning set forth in Section 7.4.

“Interest” shall mean any partnership or membership interest in a Project Partnership or † Management Company.

“IRS” shall mean the United States Internal Revenue Service.

“Law(s)” means any federal, state and foreign laws, statutes, regulations, rules, ordinances, decrees, orders and judgments.

“Leases” shall have the meaning set forth in Section 3.5.

“Leased Personal Property” shall mean all of the Personal Property leased by Seller or † Management Company.

“Leased Spaces” shall have the meaning set forth in the Recitals.

“Lender”shall mean each lender under any Loan Documents.

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“Liability” means any obligation or liability, absolute or contingent, known or unknown, liquidated or unliquidated, whether due or to become due and regardless of when or by whom asserted.

“Lien(s)” shall mean any mortgage, pledge, lien or security interest.

“Limited Partners” shall have the meaning set forth in the Recitals.

“Loan Documents” any loan agreements, notes, bonds, mortgages, indentures, assignments, guarantees or other agreements evidencing or securing any Indebtedness of any Project Partnership or pursuant to which all or any portion of any Project secures any Indebtedness.

“Losses” shall have the meaning set forth in Section 7.1.

“Management Company Interests” shall mean all of the ownership interests in † Management Company.

“Market Rate Projects” shall mean those Projects owned by † and †.

“Material Adverse Effect” means, with respect to any Seller, any Project Partnership or any Project, any change, event or effect (a) that is materially adverse to the business, assets, condition (financial or otherwise), liabilities or results of operations of Seller, any Project Partnership or any Project, or (b) that would have a material adverse effect on, or materially impair or delay, the ability of Seller to consummate the transactions contemplated by this Agreement or to perform its respective obligations hereunder.

“Material Condition” shall mean: (i) a Material Title or Survey Condition; (ii) a Material Physical Condition; (iii) a Material Credit Reduction; (iv) Material Litigation; (v) a Material Representation Breach.

“Material Credit Reduction” shall mean an actual or expected reduction of Credits available to the Limited Partners in the Project Partnerships resulting in either (x) a 15% or greater reduction (as compared to the projections set forth on Schedule 3.25(a)) as to any one Project Partnership or (y) a $2,500,000 or greater reduction (as compared to the projections set forth on Schedule 3.25(a)) as to all Project Partnerships on an aggregate basis, all as reasonably determined by Purchaser (it being agreed that Purchaser may not dispute any final determinations previously made by the IRS with respect to Credits).

“Material Litigation” shall mean any pending or threatened litigation that could result in a material reduction in the economic value of the Purchased Interests or material increase in amounts which may be owed by Purchaser under any Assumed Obligations, each as reasonably determined by Purchaser, which litigation was not disclosed to Purchaser on a Schedule to this Agreement.

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“Material Physical Condition” shall mean an environmental condition, physical condition, zoning, design or construction code compliance issue (including local, state and federal design and construction standards) with respect to any particular Project the monetary consequence of which (as reasonably determined by Purchaser) exceeds the applicable reserves, if any, for that particular Project that are designated or available for the cure of such a condition (as reasonably determined by Purchaser) (the difference between such monetary consequence and such reserve amount being a “Required Physical Cure Amount”, and if there are no applicable reserves designated or available for the cure of such a condition, then the Required Physical Cure Amount shall be the monetary consequence (as reasonably determined by Purchaser) of the applicable condition).

“Material Representation Breach” shall mean the material breach by Seller of any representation or warranty made by Seller under this Agreement (as made on the Effective Date, without regard to any later updating).

“Material Title or Survey Condition” shall mean a title or survey matter objectionable to Purchaser that is not (a) a recorded instrument securing existing financing, (b) a recorded instrument required to be filed pursuant to an existing Project Partnership Agreement, (c) a recorded instrument required by a Governmental Entity in connection with the issuance of low income housing tax credits or housing bonds (such as a restrictive covenant agreement) or (d) an easement customarily filed of record against a multi-family project (such as a public utility easement) that would not reasonably be expected to have a material adverse impact on use or value.

“Normal Casualty Repair Process” shall have the meaning set forth in Section 5.15(a).

“Other Assets” shall have the meaning set forth in Section 2.1(d).

“Other Fee Agreements” shall have the meaning set forth in the Recitals.

“Owned Personal Property” shall mean all of the Personal Property owned by Seller.

“Partnership Amendments” shall have the meaning set forth in Section 1.7(b).

“Partnership Interests” shall have the meaning set forth in the Recitals.

“Party” or “Parties” shall mean a party or the parties to this Agreement as set forth on the signature page.

“Pending Warranty Claim” shall mean any claim related to, arising out of or in connection with subcontractor work at any Project which was paid for by †..

“Permitted Interest Liens” shall have the meaning set forth in Section 1.1.

“Permitted Tax Liens” shall mean statutory Liens or Liens for Taxes, in each case which are not yet due and payable, and are incurred in the normal, ordinary course.

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“Person” shall mean any individual, partnership, corporation, company, limited liability company, trust or other entity.

“Personal Property” shall have the meaning set forth in the Recitals.

“Personal Property Lease” shall mean any lease of any Leased Personal Property.

“Post-Closing Employee Obligations” means all obligations and liabilities, actual or contingent, with respect to Purchaser Employees arising from the employment relationship with Purchaser, any Affiliate of Purchaser or † Management Company from and after the Closing, including any and all obligations or liabilities: (i) for wages, salaries, accrued vacation, medical insurance, fringe benefits, and payroll taxes; (ii) for workers' compensation claims based on any real or alleged occurrence; (iii) for benefits and employer contributions to Employee Benefit Plans; and (iv) for claims or penalties under applicable laws governing employer/employee relations (including the National Labor Relations Act and other labor relations laws, wages, hours and employment standards laws, fair employment practices and anti-discrimination laws, the WARN Act, the State WARN Act, and any other similar state or local regulations, ERISA and COBRA). The term Post-Closing Employee Obligations expressly excludes any and all statutory or contractual successorship liabilities in connection with any Employee Benefit Plan of any Seller or any Affiliate of Seller other than † Management Company.

“Pre-Closing Employee Obligations” means all obligations and liabilities, actual or contingent, with respect to Employees arising from their employment relationship with Seller or † Management Company prior to the Closing, including any and all obligations or liabilities: (i) for wages, salaries, accrued vacation, medical insurance, fringe benefits, and payroll taxes; (ii) for workers' compensation claims based on any real or alleged occurrence; (iii) for benefits and employer contributions to Employee Benefit Plans; and (iv) for claims or penalties under applicable laws governing employer/employee relations (including the National Labor Relations Act and other labor relations laws, wage, hours and employment standards laws, fair employment practices and anti-discrimination laws, the WARN Act, State WARN, ERISA and COBRA). The term Pre-Closing Employee Obligations includes any and all statutory and contractual liabilities in connection with any Employee Benefit Plan of any Seller or Affiliate of Seller other than † Management Company.

“Projects” shall have the meaning set forth in the Recitals.

“Project Documents” shall mean the following documents with respect to any Project: construction contracts, plans and specifications, agreements with architects, engineers, environmental abatement consultants and contractors and other third party contractors agreements with the management agent, agreements with the General Partner and its Affiliates, any guaranty, the Extended Use Agreement, the Project Partnership Documents, the Loan Documents, the Fee Agreements, the Standalone Economic Guarantees, and any other document or instrument executed in connection with any of the aforesaid documents.

“Project Partnerships” shall have the meaning set forth in the Recitals.

A - 8

“Project Partnership Agreement” shall have the meaning set forth in Recital B.

“Project Partnership Documents” means, with respect to any Project, the Project Partnership Agreement or other organizational documents of a Project Partnership and all amendments thereto.

“Project Partnership Interest” shall have the meaning set forth in Recital B.

“Project Removal” shall have the meaning set forth in Section 6.2(b).

“Project Removal Option” shall have the meaning set forth in Section 6.2(b).

“Project Under Construction” shall have the meaning set forth in Section 3.19(a).

“Property Management Agreement” shall have the meaning set forth in Recital C.

“Proration Adjustment” shall have the meaning set forth in Section 1.4.

“Purchase Price” shall have the meaning set forth in Section 1.2.

“Purchased Interests” shall have the meaning set forth in the Recitals.

“Purchaser” shall have the meaning set forth in the Preamble.

“Purchaser Employees” means the Employees employed by Purchaser, any Affiliate of Purchaser or any manager designated by Purchaser to employ such employees from and after the Closing.

“Purchaser Indemnity Expiration Date” shall have the meaning set forth in Section 7.8.

“Purchaser Indemnified Parties” and “Purchaser Indemnified Party” shall have the meanings set forth in Section 7.1.

“Purchaser Material Adverse Effect” shall mean a material adverse effect on the ability of Purchaser to consummate the transactions contemplated by this Agreement.

“Purchaser Repair Obligations” shall have the meaning set forth in Section 6.1.

“Purchaser Upper Tier Entities” shall have the meaning set forth in the Recitals.

“Recitals” shall mean the recitals set forth on the first page of this Agreement.

“Regulatory Agreements” means the Extended Use Agreements, Declaration of Restrictive Covenants and regulatory agreements encumbering the Projects for the benefit of the Lenders or Governmental Entities and providing for the use of a Project as low income housing.

“Remaining Insurance Shortfall” shall have the meaning set forth in Section 5.15(b).

A - 9

“Removed Project” shall have the meaning set forth in Section 6.2(b).

“Rent Roll” shall have the meaning set forth in Section 3.5.

“Required Consents” means all required consents, waivers, authorizations and approvals from any Governmental Entities, Lenders, Limited Partners or any other Persons in connection with the execution, delivery and performance by Seller of this Agreement, the Transaction Documents and the transactions contemplated hereby and thereby.

“Required Physical Cure Amount” shall have the meaning set forth in the definition of Material Physical Condition.

“Retained Claims” shall have the meaning set forth in Section 1.1(b).

“Scheduled Documents” shall mean any document listed on Schedules A, B, C or D attached hereto, as updated during the Due Diligence Period.

“Schedules” shall mean the disclosure schedules attached hereto and incorporated herein by reference.

“Seller” shall have the meaning set forth in the Preamble.

“Seller Benefit Plan” shall have the meaning set forth in Section 2.14(b).

“Seller General Liability Basket” shall mean $2,500,000; provided that if there are Removed Projects, then (x) the amount of the Seller General Liability Basket shall initially equal $2,500,000 multiplied by a fraction (i) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing and (ii) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing plus the aggregate Allocated Values of all of the Removed Projects, and (y) at each Subsequent Closing (if any), the amount of the Seller General Liability Basket shall be increased to equal $2,500,000 multiplied by a fraction (i) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of any Closing (i.e. those covered by the initial Closing plus those covered by each Subsequent Closing) and (ii) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are covered by any Closing plus the aggregate Allocated Values of all of the remaining Removed Projects.

“Seller Guarantor” shall have the meaning set forth in Section 6.4.

“Seller Indemnified Parties” and “Seller Indemnified Party” shall have the meanings set forth in Section 7.2.

“Seller Indemnity Expiration Date” shall have the meaning set forth in Section 7.8.

A - 10

“Seller Indemnity Letter of Credit” means a clean, irrevocable letter of credit which (i) is in the amount of $25,000,000 (subject to adjustment as described below), (ii) is in form and substance and from an issuing bank reasonably satisfactory to Purchaser, (iii) allows for partial draws, and (iv) has an expiry date no earlier than 30 days after the Seller Indemnity Expiration Date. If there are Removed Projects, then the amount of the Seller Indemnity Letter of Credit posted at the initial Closing shall equal $25,000,000 multiplied by a fraction (i) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing and (ii) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are the subject of the initial Closing plus the aggregate Allocated Values of all of the Removed Projects. At each Subsequent Closing (if any), Seller shall cause the amount of the Seller Indemnity Letter of Credit to be increased to equal $25,000,000 multiplied by a fraction (i) having as its numerator the aggregate Allocated Values of all of the Projects which are the subject of any Closing (i.e. those covered by the initial Closing plus those covered by each Subsequent Closing) and (ii) having as a denominator the sum of the aggregate Allocated Values of all of the Projects which are covered by any Closing plus the aggregate Allocated Values of all of the remaining Removed Projects.

“Seller Obligations” shall have the meaning set forth in the Recitals.

“Service Contracts” means all contracts relating to any Project pursuant to which third parties render services or provide products to any Project.

“Space Leases” shall have the meaning set forth in Section 2.8(d).

“Standalone Economic Guarantees” shall have the meaning set forth in Recital D.

“Subsequent Closing” shall have the meaning set forth in Section 1.6(d).

“Tax” and “Taxes” means any federal, state, local or foreign net income, alternative or add-on minimum, gross income, gross receipts, property, sales, use, transfer, gains, goods and services, value-added, registration, stamp, recording, commodity, documentary, franchise, license, excise, employment, employee health, payroll, withholding or minimum tax, or any other tax of any kind whatsoever, together with any interest or any penalty, addition to tax or additional amount imposed by any Governmental Entity.

“Tax Return(s)” means any return, report or similar statement required to be filed with respect to any Taxes (including any attached schedules), including any information return, claim for refund, amended return and declaration of estimated Tax.

“Third Party Claim” shall have the meaning set forth in Section 7.3(a).

“Title Policy” means the most recently dated title insurance policy issued by a title insurance company in favor of a Project Partnership with respect to a Project Property and in the possession or control of the Seller.

“Transaction Documents” means this Agreement, and all other agreements, instruments, certificates and other Closing documents entered into or delivered by any Party on or after the Effective Date pursuant to the terms of this Agreement.

A - 11

“Treasury Regulations” shall mean the regulations promulgated under the Code.

“UCC” shall mean the Uniform Commercial Code.

“Units” shall mean the individual units of residential rental housing located at a Project.

“WARN Act” shall have the meaning set forth in Section 2.14(a).

“† Adjustment” shall have the meaning set forth in Section 1.5.

A - 12

EX-12.1

Exhibit 12.1

Computation of Ratio of Earnings to fixed charges

(in thousands, except ratios)

					The Company			The Predecessor
	The Company				(consolidated)			Period
	(consolidated)				10/29/2004			1/1/2004
	Year Ended December 31,				to			to		Year Ended December 31,
	2006		2005		12/31/2004 (1)			10/28/2004		2003 (2)		2002 (2)
Interest Expense	$	104,265	$	32,568	$	3,352		$	285	$	-	$	-
		104,265		32,568		3,352			285		-		-
Net income continuing operations		37,023		8,273		(2,441	)		1,194		1,737		193
Fixed charges		104,265		32,568		3,352			285		-		-
	$	141,288	$	40,841	$	911		$	1,479	$	1,737	$	193
Ratio		1.36		1.25		0.27			5.19		n/a		n/a

(1) Earnings were insufficient to cover fixed charges by $2.4 million

(2) The Predecessor had no fixed charges in 2003 or 2002

EX-21.1

NorthStar Realty Finance
List of Subsidiaries
Entity Name	Formation Jurisdiction
NorthStar Realty Finance Corp.	Maryland
NorthStar Realty Finance Limited Partnership	Delaware
NRFC Sub-REIT Corp.	Maryland
NRF Employee, LLC	Delaware
NRFC Sub Investor IV LLC	Delaware
NRFC WA Holdings LLC	Delaware
NRFC WA Holdings II LLC	Delaware
NRFC DB Holdings LLC	Delaware
NRFC BS Holdings LLC	Delaware
NRFC NNN Holdings LLC	Delaware
NRFC Sub Investor WASH Equity IV LLC	Delaware
NS CDO Holdings I, LLC	Delaware
NS CDO Holdings II, LLC	Delaware
NS CDO Holdings III, LLC	Delaware
NS CDO Holdings IV, LLC	Delaware
NS CDO Holdings V, LLC	Delaware
NS CDO Holdings VIII 2, LLC	Delaware
N-Star Real Estate CDO I, Ltd	Cayman
N-Star Real Estate CDO II, Ltd	Cayman
N-Star Real Estate CDO III, Ltd	Cayman
N-Star REL CDO IV, Ltd	Cayman
N-Star Real Estate CDO V, Ltd	Cayman
N-Star REL CDO VI, Ltd	Cayman
N-Star Real Estate CDO VII, Ltd	Cayman
N-Star Real Estate CDO VIII, Ltd	Cayman
N-Star Real Estate CDO IX, Ltd	Cayman
NS Advisors, LLC	Delaware
NorthStar OS I, LLC	Delaware
NorthStar OS II, LLC	Delaware
NorthStar OS III, LLC	Delaware
NorthStar OS IV, LLC	Delaware
NorthStar OS VI, LLC	Delaware
NorthStar OS VII, LLC	Delaware
NorthStar OS VIII, LLC	Delaware
N-Star REL CDO Depositor Corp	Delaware
NRFC SUB INVESTOR II LLC	Delaware
NRFC Edison Holdings LLC	Delaware
Edsion Rancho Cordova LLC	Delaware
Edsion Auburn Hills 985 LLC	Delaware
Edsion Auburn Hills 1080 LLC	Delaware
Edsion Camp Hill LLC	Delaware
NRFC Cinn Investor LLC	Delaware
NRF Capital LP	Delaware
NS Servicing LLC	Delaware
NRFC CS/Federal Drive LLC	Delaware
CS/Federal Drive LLC	Delaware
CS/Federal Drive AB LLC	Delaware
CS/Federal Drive C LLC	Delaware
NRFC Green Pond Investor LLC	Delaware
NRFC Green Pond Member LLC	Delaware
NRFC Indianapolis Holdings LLC	Delaware
NRFC Denver Holdings LLC	Delaware
NRFC Denver Member LLC	Delaware
NRFC WA Holdings III LLC	Delaware
NRFC WA Holdings IV LLC	Delaware
NRFC WA Holdings V LLC	Delaware
NRFC WA Holdings VI LLC	Delaware
NRFC WA Holdings VII LLC	Delaware
NRFC WA Holdings VIII LLC	Delaware
490 Post TRS, LLC	Delaware
NRFC DSG Holdings LLC	Delaware
NRFC Bloomingdale Holdings LLC	Delaware
NRFC Huntington Holdings LLC	Delaware
NRFC Concord Holdings LLC	Delaware
NRFC Fort Wayne Holdings LLC	Delaware
NRFC Portland Holdings LLC	Delaware
NRFC Attleboro Holdings LLC	Delaware
NRFC Millbury Holdings LLC	Delaware
NRFC Wichita Holdings LLC	Delaware
NRFC Keene Holdings LLC	Delaware
ALGM I Equity LLC	Delaware
ALGM I Owners LLC	Delaware
ALGM Leasehold II LLC	Delaware
ALGM Leasehold VI LLC	Delaware
ALGM Leasehold IX LLC	Delaware
Gwinnett Instructional SC LLC	Delaware
James Center Acquisition LLC	Delaware
Herald Towers, LLC	Delaware
James Center Operations LLC	Delaware
James Property Center LLC	Delaware
NS CDO Ordinary Shares II, LLC	Delaware
NRFC Luxembourg Holding I Sarl	Luxembourg
NorthStar Mortgage Capital GP, LLC	Delaware
NorthStar Mortgage Capital LP, LLC	Delaware
Wakefield Capital, LLC	Delaware
NRFC Greenville LLC	Delaware
NS Holdings I LLC	Delaware
NS Holdings II LLC	Delaware
NS Holdings III LLC	Delaware
NS Holdings IV LLC	Delaware
NS Holdings V LLC	Delaware
NS CDO Holdings IV 2 LLC	Delaware
NS CDO Holdings VI 2 LLC	Delaware
Abacus 2006-NS2, Ltd.	Cayman
Seawall 2006-4A, Ltd.	Cayman
NRFC Huntsville LLC nee NRFC Quincy Holdings LLC	Delaware
Monroe Capital NorthStar Funding, LLC (FNA NRF-MC Funding LLC)	Delaware
MC Funding Ltd.	Cayman
NRF-MC Management Holding Corp.	Delaware
NRFC WA Holdings IX, LLC	Delaware
NRFC WA Holdings X, LLC	Delaware
NRFC WA Holdings XI, LLC	Delaware
NRFC WA Holdings XII, LLC	Delaware
NRFC WA Holdings XIII, LLC	Delaware
NRFC WA Holdings XIV, LLC	Delaware
NRFC CED Holdings, LLC	Delaware
NRFC Milpitas Holdings, LLC	Delaware
NRFC Easton Holdings, LLC	Delaware
NRFC Fort Mill Holdings, LLC	Delaware
NRFC Fort Mill Member, LLC	Delaware

EX-23.1

CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

We consent to the incorporation by reference in the Registration Statement (Form S-8 No. 333-120025) pertaining to the NorthStar Realty Finance Corp. 2004 Omnibus Stock Incentive Plan, Registration Statement (Form S-8 No. 333-132891) pertaining to the NorthStar Realty Finance Corp. 2004 Long-Term Incentive Bonus Plan and Registration Statement, as amended, (Form S-3 No. 333-132890) pertaining to the NorthStar Realty Finance Corp. offering entitling the holders to purchase common stock, preferred stock, depositary shares or debt securities, of our reports dated (i) March 13, 2007 with respect to the consolidated balance sheet of NorthStar Realty Finance Corp. and Subsidiaries (the “Company”) and the combined balance sheet of NorthStar Realty Finance Corp. Predecessor (the “Predecessor”), as defined in Note 1 to the Company's consolidated financial statements, as of December 31, 2004, and the related consolidated statements of operations, stockholders' equity and cash flows of the Company for the period from October 29, 2004 (commencement of operations) through December 31, 2004, the related combined statement of operations, owners' equity and cash flows of the Predecessor for the period from January 1, 2004 through October 28, 2004 and for the year ended December 31, 2003, and the related financial statement schedules as of December 31, 2004; (ii) March 13, 2007 with respect to the financial statements and schedules of NorthStar Realty Finance Corp. as of December 31, 2006 and for the years ended December 31, 2006 and 2005 and for the period from October 29, 2004 through December 31, 2004, which reports are included in the Annual Report (Form 10-K) for the year ended December 31, 2006; and (iii) March 13, 2007 with respect to management’s assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006, which reports are included in the Annual Report (Form 10-K) for the year ended December 31, 2006.

/s/ GRANT THORNTON LLP

GRANT THORNTON LLP

New York, New York

March 13, 2007

EX-31.1

Exhibit 31.1

CERTIFICATION BY THE CHIEF EXECUTIVE OFFICER PURSUANT TO

17 CFR 240.13a-14(a)/15(d)-14(a),

AS ADOPTED PURSUANT TO

SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

I, David T. Hamamoto, Chief Executive Officer of NorthStar Realty Finance Corp., certify that:

1. I have reviewed this annual report on Form 10-K of NorthStar Realty Finance Corp. for the fiscal year ended December 31, 2006;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

5. The Registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

/s/ David T. Hamamoto    

David T. Hamamoto

Chief Executive Officer

Date: March 14, 2007

EX-31.2

Exhibit 31.2

CERTIFICATION BY THE CHIEF FINANCIAL OFFICER PURSUANT TO

17 CFR 240.13a-14(a)/15(d)-14(a),

AS ADOPTED PURSUANT TO

SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

I, Andrew C. Richardson, Chief Financial Officer of NorthStar Realty Finance Corp., certify that:

1. I have reviewed this annual report on Form 10-K of NorthStar Realty Finance Corp. for the fiscal year ended December 31, 2006;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

5. The Registrant's other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

/s/ Andrew C. Richardson      

Chief Financial Officer

Date: March 14, 2007

EX-32.1

Exhibit 32.1

CERTIFICATION BY THE CHIEF EXECUTIVE OFFICER PURSUANT TO

RULE 13a-14(b) UNDER THE SECURITIES EXCHANGE ACT OF 1934

AND 18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report on Form 10-K of NorthStar Realty Finance Corp. (the “Company”) for the annual period ended December 31, 2006, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), David T. Hamamoto, as Chief Executive Officer of the Company hereby certifies, pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of his knowledge:

1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities and Exchange Act of 1934; and

2. The information contained in the Report fairly presents, in all material aspects, the financial condition and results of operations of the Company.

Dated: March 14, 2007	By:	/s/ David T. Hamamoto
		David T. Hamamoto Chief Executive Officer

A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.

EX-32.2

Exhibit 32.2

CERTIFICATION BY THE CHIEF FINANCIAL OFFICER PURSUANT TO

RULE 13a-14(b) UNDER THE SECURITIES EXCHANGE ACT OF 1934

AND 18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report on Form 10-K of NorthStar Realty Finance Corp. (the “Company”) for the annual period ended December 31, 2006, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), Andrew C. Richardson, as Chief Financial Officer of the Company hereby certifies, pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of his knowledge:

1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities and Exchange Act of 1934; and

2. The information contained in the Report fairly presents, in all material aspects, the financial condition and results of operations of the Company.

Dated: March 14, 2007	By:	/s/ Andrew C. Richardson
		Andrew C. Richardson            Chief Financial Officer

A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.