WACHOVIA PREFERRED FUNDING CORP - FORM 10-Q

Attached files

file	filename
EX-99 - WELLS FARGO SUPPLEMENTARY CONSOLIDATIONG FINANCIAL INFORMATION - WACHOVIA PREFERRED FUNDING CORP	dex99.htm
EX-32.A - SECTION 906 CEO CERTIFICATION - WACHOVIA PREFERRED FUNDING CORP	dex32a.htm
EX-31.A - SECTION 302 CEO CERTIFICATION - WACHOVIA PREFERRED FUNDING CORP	dex31a.htm
EX-32.B - SECTION 906 CFO CERTIFICATION - WACHOVIA PREFERRED FUNDING CORP	dex32b.htm
EX-31.B - SECTION 302 CFO CERTIFICATION - WACHOVIA PREFERRED FUNDING CORP	dex31b.htm
EX-12.A - COMPUTATION OF CONSOLIDATED RATIOS OF EARNINGS TO FIXED CHARGES - WACHOVIA PREFERRED FUNDING CORP	dex12a.htm
EX-12.B - COMPUTATION OF CONSOLIDATED RATIOS OF EARNING TO FIXED CHARGES AND PREFERRED - WACHOVIA PREFERRED FUNDING CORP	dex12b.htm

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended June 30, 2010

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

For the transition period from to

Commission file number 1-31557

Wachovia Preferred Funding Corp.

(Exact name of registrant as specified in its charter)

Delaware

56-1986430

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

1620 East Roseville Parkway

Roseville, California 95661

(Address of principal executive offices)

(Zip Code)

(916) 787-9090

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

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 ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.

Large accelerated

filer ¨

Accelerated filer ¨

Non-accelerated filer x

(Do not check if a smaller reporting company.)

Smaller reporting

company ¨

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

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY

PROCEEDINGS DURING THE PRECEDING FIVE YEARS:

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes ¨ No ¨

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

As of July 31, 2010, there were 99,999,900 shares of the registrant’s common stock outstanding.

FORM 10-Q

CROSS-REFERENCE INDEX


PART I	Financial Information
Item 1.	Financial Statements	Page
	Consolidated Statement of Income	18
	Consolidated Balance Sheet	19
	Consolidated Statement of Changes in Stockholders’ Equity	20
	Consolidated Statement of Cash Flows	21
	Notes to Financial Statements
	1 - Summary of Significant Accounting Policies	22
	2 - Loans and Allowance for Credit Losses	24
	3 - Derivatives	26
	4 - Fair Values of Assets and Liabilities	27

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (Financial Review)
	Summary Financial Data	2
	Overview	3
	Earnings Performance	4
	Balance Sheet Analysis	6
	Commitments	7
	Risk Management	7
	Transactions with Affiliated Parties	14
	Critical Accounting Policy	14
	Current Accounting Developments	15
	Forward-Looking Statements	15
	Risk Factors	16

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	13

Item 4.	Controls and Procedures	16

PART II	Other Information
Item 1.	Legal Proceedings	30

Item 1A.	Risk Factors	30

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	30

Item 6.	Exhibits	30

Signature		31

Exhibit Index		30

PART I – FINANCIAL INFORMATION

SUMMARY FINANCIAL DATA


	Quarter ended June 30,				Six months ended June 30,
(in thousands, except per share data)	2010			2009	2010	2009
For the period
Net income	$	169,515		193,842	300,982	437,339
Net income available to common stockholders		123,686		150,838	209,890	348,393
Diluted earnings per common share		1.24		1.51	2.10	3.48
Profitability ratios (annualized)
Return on average assets		3.69	%	4.11	3.29	4.65
Return on average stockholders’ equity		3.71		4.15	3.30	4.74
Average stockholders’ equity to assets		99.63		98.93	99.56	98.09
Dividend payout ratio		121.42		176.95	147.22	127.81
Total revenue	$	279,273		294,466	553,046	573,938
Average loans		15,730,215		17,240,627	15,845,345	17,328,432
Average assets		18,406,053		18,922,625	18,467,580	18,986,565
Net interest margin		6.08	%	6.29	6.02	6.13
Net loan charge-offs	$	72,516		24,150	152,221	36,061
As a percentage of average total loans (annualized)		1.85	%	0.56	1.94	0.42

At period end
Loans, net of unearned	$	15,672,827		16,743,160	15,672,827	16,743,160
Allowance for loan losses		400,098		326,865	400,098	326,865
As a percentage of total loans		2.55	%	1.95	2.55	1.95
Assets	$	18,258,784		18,524,271	18,258,784	18,524,271
Total stockholders’ equity		18,193,213		18,443,078	18,193,213	18,443,078
Total nonaccrual loans and other nonperforming assets		283,936		123,259	283,936	123,259
As a percentage of total loans		1.81	%	0.74	1.81	0.74
Loans 90 days or more past due and still accruing	$	47,157		51,543	47,157	51,543

This Report on Form 10-Q for the quarter ended June 30, 2010, including the Financial Statements and related Notes, has forward-looking statements, which may include forecasts of our financial results and condition, expectations for our operations and business, and our assumptions for those forecasts and expectations. Do not unduly rely on forward-looking statements. Actual results might differ materially from our forecasts and expectations due to several factors, some of which are discussed in the “Forward-Looking Statements” section in this Report. Some of these factors are also described in the Financial Statements and related Notes. For a discussion of other important factors, refer to the “Risk Factors” section in this Report and to the “Risk Factors” section in our Annual Report on Form 10-K for the year ended December 31, 2009 (2009 Form 10-K), and to the “Risk Factors” section in our 2010 First Quarter Report on Form 10-Q, filed with the Securities and Exchange Commission (SEC) and available on the SEC’s website at www.sec.gov.

“Wachovia Funding”, “we”, “our” and “us” refer to Wachovia Preferred Funding Corp. “Wachovia Preferred Holding” refers to Wachovia Preferred Funding Holding Corp., the “Bank” refers to Wells Fargo Bank, National Association including predecessor entities, “Wachovia” refers to Wachovia Corporation, a North Carolina corporation, and “Wells Fargo” refers to Wells Fargo & Company.

FINANCIAL REVIEW

OVERVIEW

Wachovia Preferred Funding Corp. is engaged in acquiring, holding and managing domestic real estate-related assets, and other authorized investments that generate net income for distribution to our shareholders. We are classified as a real estate investment trust (REIT) for income tax purposes. As of June 30, 2010, we had $18.3 billion in assets, which included $15.7 billion in loans. One of our subsidiaries, Wachovia Real Estate Investment Corp. (WREIC), has operated as a REIT since its formation in 1996. Our other subsidiary, Wachovia Preferred Realty, LLC (WPR), provides us with additional flexibility to hold assets that earn non-qualifying REIT income while we maintain our REIT status. Under the REIT Modernization Act, which became effective on January 1, 2001, a REIT is permitted to own “taxable REIT subsidiaries” which are subject to taxation similar to corporations that do not qualify as REITs or for other special tax rules.

We are a direct subsidiary of Wachovia Preferred Holding and an indirect subsidiary of Wells Fargo & Company and Wells Fargo Bank, National Association. On March 20, 2010, Wachovia Bank, National Association, a wholly-owned subsidiary of Wells Fargo, merged with and into the Bank, with the Bank as the surviving entity. As a result of this merger, the Bank acquired all of the assets and assumed all of the liabilities of Wachovia Bank, National Association, including without limitation, the liabilities as a servicer of our loan participation interest portfolio. At June 30, 2010, the Bank was considered “well-capitalized” under risk-based capital guidelines issued by banking regulators.

Although we have the authority to acquire interests in an unlimited number of mortgage and other assets from unaffiliated third parties, as of June 30, 2010, substantially all of our interests in mortgage and other assets that we have acquired have been from the Bank or an affiliate pursuant to loan participation agreements between the Bank or its affiliate and us. The Bank originated the mortgage assets, purchased them from other financial institutions or acquired them as part of the acquisition of other financial institutions. We may also acquire from time to time mortgage-backed securities and a limited amount of additional non-mortgage related securities from the Bank and its affiliates, as well as mortgage assets or other assets from unaffiliated third parties. The loans in our portfolio are serviced by the Bank pursuant to the terms of participation and servicing agreements between the Bank and us. The Bank has delegated servicing responsibility for certain of the residential mortgage loans to third parties, which are not affiliated with the Bank or us.

For the tax year ending December 31, 2010, we expect to be taxed as a REIT, and we intend to comply with the relevant provisions of the Internal Revenue Code (the Code) to be taxed as a REIT. These provisions for qualifying as a REIT for federal income tax purposes are complex, involving many requirements, including among others, distributing the majority of our earnings to shareholders and satisfying certain asset, income and stock ownership tests. To the extent we meet those provisions, with the exception of the income of our taxable REIT subsidiary, we will not be subject to federal income tax on net income. We currently believe that we continue to satisfy each of these requirements and therefore continue to qualify as a REIT. We continue to monitor each of these complex tests.

In the event we do not continue to qualify as a REIT, we believe there should be minimal adverse effect of that characterization to us or to our shareholders:

•

From a shareholder’s perspective, the dividends we pay as a REIT are ordinary income not eligible for the dividends received deduction for corporate shareholders or for the favorable maximum 15% rate applicable to qualified dividends received by non-corporate taxpayers. If we were not a REIT, dividends we pay generally would qualify for the dividends received deduction and the favorable tax rate applicable to non-corporate taxpayers.

•

In addition, we would no longer be eligible for the dividends paid deduction, thereby creating a tax liability for us. Wells Fargo agreed to make, or cause its subsidiaries to make, a capital contribution to us equal in amount to any income taxes payable by us. Therefore, we believe a failure to qualify as a REIT would not result in any net capital impact to us.

We earned $169.5 million in second quarter 2010, or $1.24 diluted earnings per common share, compared with $193.8 million, or $1.51, in second quarter 2009. For the first six months of 2010, our net income was $301.0 million, or $2.10 per common share, compared with $437.3 million, or $3.48 a year ago. The decrease in net income for the three- and six-month periods was largely due to a higher provision for credit losses recorded in 2010. The provision for credit losses was $216.4 million for the first six months of 2010, compared with $93.2 million for the same period of 2009. Net charge-offs were $152.2 million (1.94% of average total loans outstanding, annualized) for the six months ended June 30, 2010 compared with $36.1 million (0.42%) in the same period a year ago.

Distributions made to holders of our preferred securities totaled $45.8 million and $91.1 million for the three- and six-month periods ended June 30, 2010, which included $13.6 million and $27.2 million, respectively, in dividends paid on our Series A preferred securities held by non-affiliated investors. Dividends on preferred stock were $43.0 million and $88.9 million for the three- and six-month periods ended June 30, 2009, which included $13.6 million and $27.2 million, respectively, in dividends on our Series A preferred securities.

Loans, which include loans and loan participation interests, totaled $15.7 billion at June 30, 2010, down from $16.4 billion at December 31, 2009. Loans represented approximately 86% and 89% of assets at June 30, 2010 and December 31, 2009, respectively. Our consumer loans include real estate 1-4 family first mortgages and real estate 1-4 family junior lien mortgages, and our commercial loans include commercial and commercial real estate loans. The change in loans from the end of 2009 primarily reflected paydowns and charge-offs on outstanding balances, partially offset by additional loan purchases from the Bank.

Certain loans acquired by Wells Fargo in the Wachovia acquisition completed on December 31, 2008, including loans held by Wachovia Funding had evidence of credit deterioration since origination and it was probable that we would not collect all contractual principal and interest. Such purchased credit-impaired (PCI) loans were recorded at fair value with no carryover of the related allowance for loan losses. PCI loans were less than 1 percent of total loans at June 30, 2010 and December 31, 2009.

Nonaccrual loans at June 30, 2010 were $279.7 million, up from $207.5 million at December 31, 2009. The increase in nonaccrual loans largely reflected increases in commercial real estate and real estate 1-4 family loans, due to slower disposition.

We believe it is important to maintain a well controlled operating environment and manage risks inherent in our business. We manage our credit risk by setting what we believe are sound credit policies for acquired loans, while monitoring and reviewing the performance of our loan portfolio. We manage interest rate and market risks inherent in our asset and liability balances within established ranges, while ensuring adequate liquidity and funding. We maintain strong capital levels to support our business.

EARNINGS PERFORMANCE

Net income available to common stockholders. We earned net income available to common stockholders of $209.9 million and $348.4 million in the first half of 2010 and 2009, respectively. For second quarter 2010, net income available to common stockholders was $123.7 million compared with $150.8 million in second quarter 2009. This decrease was primarily attributable to higher provision for credit losses and lower net interest income, partially offset by lower noninterest expense.

Interest Income. Interest income of $551.0 million in the first half of 2010 decreased $21.0 million, or 4%, compared with the first half of 2009. Lower average interest-earning assets more than offset increasing consumer interest rates compared with the first half of 2009. The average interest rate on total interest-earning assets was 6.02% in the first half of 2010 compared with 6.13% in the first half of 2009.

Average consumer loans decreased $1.0 billion to $14.0 billion compared with the first half of 2009 while average commercial loans decreased $476.7 million to $1.9 billion in the same period due to paydowns and charge-offs. In the first half of 2010, interest income included $76.3 million from the accretion of discounts on purchased consumer loans primarily driven by an acceleration of accretion from repayment of loans during the period. We currently anticipate that we will continue to reinvest loan paydowns primarily in consumer real-estate secured loans. Interest income on cash invested in overnight eurodollar deposits decreased $249 thousand to $651 thousand in the first half of 2010 compared with the first half of 2009, driven by lower short-term interest rates from the same period one year ago. See the interest rate risk management section under “Risk Management” for more information on interest rates and interest income.

The average balances, interest income and rates related to interest-earning assets for the six months ended June 30, 2010 and 2009, are presented in the following table.


	Six months ended June 30,
	2010					2009
(in thousands)	Average balance		Interest income	Yields/ rates		Average balance		Interest income	Yields/ rates
Commercial loans (1)	$	1,870,773	20,969	2.26	%	$	2,347,483	27,199	2.34	%
Real estate 1-4 family		13,974,572	529,428	7.63			14,980,949	543,956	7.32
Interest-bearing deposits in banks and other earning assets		2,589,289	651	0.05			1,486,623	900	0.12

Total interest-earning assets	$	18,434,634	551,048	6.02	%	$	18,815,055	572,055	6.13	%

(1)	Includes taxable-equivalent adjustments.

Interest income of $278.6 million in second quarter 2010 decreased $15.3 million, or 5%, compared with second quarter 2009. Lower average interest-earning assets more than offset increasing consumer interest rates compared with second quarter 2009. The average interest rate on total interest-earning assets was 6.08% in second quarter 2010 and 6.29% in second quarter 2009.

Average consumer loans decreased $1.1 billion to $13.9 billion compared with second quarter 2009 while average commercial loans decreased $417.5 million to $1.9 billion in the same period due to paydowns and charge-offs. In second quarter 2010, interest income included $41.3 million from the accretion of discounts on purchased consumer loans primarily driven by an acceleration of accretion from repayment of loans during the period. We currently anticipate that we will continue to reinvest loan paydowns primarily in consumer real-estate secured loans. Interest income on cash invested in overnight eurodollar deposits increased $59 thousand to $336 thousand in second quarter 2010 compared with second quarter 2009, driven primarily by higher average balances compared with the same period one year ago. See the interest rate risk management section under “Risk Management” for more information on interest rates and interest income.

The average balances, interest income and rates related to interest-earning assets for the quarters ended June 30, 2010 and 2009, are presented in the following table.


	Quarter ended June 30,
	2010					2009
(in thousands)	Average balance		Interest income	Yields/ rates		Average balance		Interest income	Yields/ rates
Commercial loans (1)	$	1,868,400	10,541	2.26	%	$	2,285,879	13,287	2.33	%
Real estate 1-4 family		13,861,815	267,743	7.74			14,954,748	280,384	7.52
Interest-bearing deposits in banks and other earning assets		2,653,185	336	0.05			1,514,472	277	0.07

Total interest-earning assets	$	18,383,400	278,620	6.08	%	$	18,755,099	293,948	6.29	%

(1)	Includes taxable-equivalent adjustments.

Interest Expense. We did not have any borrowings on our line of credit in the first half of 2010; therefore, no interest expense was incurred, compared with $232 thousand in the first half of 2009 and $68 thousand in second quarter 2009. The line of credit with the Bank averaged $264.9 million in the first half of 2009.

Provision for Credit Losses. The provision for credit losses was $216.4 million in the first half of 2010 compared with $93.2 million in the first half of 2009. The second quarter 2010 provision for credit losses was $92.2 million compared with $79.3 million in second quarter 2009. The increase in the provision for credit losses resulted from higher net charge-offs as well as a credit reserve build to increase the allowance for loan losses. The increase in charge-offs was largely attributable to the seasoning of the non-PCI portfolio as well as the challenging economic and housing conditions impacting the consumer real estate portfolio. Please refer to the “—Balance Sheet Analysis and Risk Management-Allowance for Credit Losses” sections for information on the allowance for loan losses.

Noninterest Income. Noninterest income totaled $2.0 million for the first six months of 2010 compared with $2.1 million in the same period of 2009. Second quarter 2010 noninterest income was $658 thousand compared with $586 thousand in second quarter 2009. Our noninterest income primarily consists of gains on interest rate swaps. Our interest rate swaps lose value in an increasing rate environment and gain value in a declining rate environment. The gain on interest rate swaps was $1.6 million in the first half of 2010 compared with a gain of $1.7 million in the first half of 2009. The lower gain in the first half of 2010 primarily reflects a lower magnitude of interest rate decreases compared with the first half of 2009. Included in gain on interest rate swaps was expense associated with the derivative cash collateral received of $141 thousand and $217 thousand in the first half of 2010 and 2009, respectively.

Noninterest Expense. Noninterest expense totaled $35.1 million in the first six months of 2010 compared with $40.8 million in the same period a year ago. Second quarter 2010 noninterest expense was $17.4 million compared with $19.9 million in second quarter 2009. Noninterest expense primarily consists of loan servicing costs, and to a lesser extent, management fees and other expenses. Loan servicing costs decreased $3.2 million to $30.8 million in the first half of 2010, which reflected the impact of paydowns on commercial and consumer loans. These costs are driven by the size and mix of our loan portfolio. Home equity loan products cost more to service than other loan products. All loans are serviced by the Bank pursuant to our participation and servicing agreements which include market-based fees. For home equity loan products, the monthly servicing fee charge is equal to the outstanding principal balance of each loan multiplied by a percentage per annum. For servicing fees related to residential mortgage products the monthly fee is equal to the outstanding principal of each loan multiplied by a percentage per annum or a flat fee per month. For commercial loans, the monthly fee is equal to the total committed amount of each loan multiplied by a percentage per annum.

Management fees were $2.2 million in the first half of 2010 compared with $5.8 million in the first half of 2009, primarily reflecting a change in allocation methodology. Management fees represent reimbursements for general overhead expenses paid on our behalf. For 2010, management fees are calculated based on Wells Fargo’s total monthly allocated costs multiplied by a formula. The formula is based on Wachovia Funding’s proportion of Wells Fargo’s consolidated: 1) full-time equivalent employees (FTEs), 2) total average assets and 3) total revenue. In 2009, Wachovia Funding was assessed monthly management fees based on its relative percentage of the Bank’s total consolidated assets and noninterest expense.

Other expense primarily consists of costs associated with foreclosures on residential properties.

Income Tax Expense. Income tax expense, which is based on the pre-tax income of WPR, our taxable REIT subsidiary, was $605 thousand in the first half of 2010 compared with $2.6 million in the first half of 2009, and $168 thousand in second quarter 2010 compared with $1.4 million in second quarter 2009. WPR holds our interest rate swaps as well as certain cash investments. The decrease in income tax expense for 2010 is primarily related to the reduction in pre-tax income and lower state income tax expense.

BALANCE SHEET ANALYSIS

Total Assets. Our assets primarily consist of commercial and consumer loans, although we have the authority to hold assets other than loans. Total assets were $18.3 billion at June 30, 2010, compared with $18.4 billion at December 31, 2009. Loans, net of unearned income were 86% of total assets at June 30, 2010, compared with 89% at December 31, 2009.

Loans. Loans, net of unearned income decreased $728.8 million to $15.7 billion at June 30, 2010, compared with December 31, 2009, primarily reflecting paydowns across the entire portfolio, partially offset by consumer loan reinvestments. In the six months ended June 30, 2010 and 2009, we purchased consumer loans from the Bank at estimated fair value of $864.0 million and $1.3 billion, respectively, in these periods. At both June 30, 2010, and December 31, 2009, consumer loans represented 88% of loans and commercial loans represented 12% of our loan portfolio.

Allowance for Loan Losses. The allowance for loan losses increased $62.7 million from December 31, 2009, to $400.1 million at June 30, 2010. The first half of 2010 reserve build was primarily driven by continuing housing related economic conditions, the unsteady economic recovery, and increased uncertainty around the impact of loan modification programs.

At June 30, 2010, the allowance for loan losses included $367.8 million for consumer loans and $32.3 million for commercial loans. The total allowance reflects management’s estimate of credit losses inherent in the loan portfolio at the balance sheet date. The “—Risk Management—Allowance for Credit Losses” section describes how management estimates the allowance for loan losses and the reserve for unfunded credit commitments.

Interest Rate Swaps. Interest rate swaps, net were $1.2 million at June 30, 2010, and $1.0 million at December 31, 2009, which represents the fair value of our net position in interest rate swaps.

Accounts Receivable—Affiliates, Net. Accounts receivable from affiliates, net was $156.1 million at June 30, 2010, compared with $166.4 million at December 31, 2009, as a result of intercompany transactions related to net loan paydowns, interest receipts and funding with the Bank.

COMMITMENTS

Our commercial loan relationships include unfunded loan commitments that are provided in the normal course of business. For commercial borrowers, loan commitments generally take the form of revolving credit arrangements to finance customers’ working capital requirements. These instruments are not recorded on the balance sheet until funds are advanced under the commitment. For lending commitments, the contractual amount of a commitment represents the maximum potential credit risk if the entire commitment is funded and the borrower does not perform according to the terms of the contract. Some of these commitments expire without being funded, and accordingly, total contractual amounts are not representative of our actual future credit exposure or liquidity requirements. The “—Risk Management—Credit Risk Management” section describes how we use Wells Fargo’s risk management framework to manage credit risk.

Loan commitments create credit risk in the event that the counterparty draws on the commitment and subsequently fails to perform under the terms of the lending agreement. This risk is incorporated into an overall evaluation of credit risk and to the extent necessary, reserves are recorded on these commitments. Uncertainties around the timing and amount of funding under these commitments may create liquidity risk. The “—Risk Management—Liquidity and Funding” section describes the way we manage liquidity and fund these commitments, to the extent funding is required. At June 30, 2010 and December 31, 2009, unfunded commitments to extend credit were $521.1 million and $666.7 million, respectively.

RISK MANAGEMENT

We use Wells Fargo’s risk management framework to manage our credit, interest rate, market and liquidity risks. The following discussion highlights this framework as it relates to how we manage each of these risks.

CREDIT RISK MANAGEMENT

The credit risk management process is governed centrally, but provides for decentralized management and accountability. Wachovia Funding leverages the Wells Fargo corporate allowance for credit losses framework, including comprehensive credit policies, judgmental or statistical credit underwriting, frequent and detailed risk measurement and modeling, extensive credit training programs, and a continual loan review and audit process. In addition, regulatory examiners review and perform detailed tests of Wells Fargo’s credit underwriting, loan administration and allowance processes.

Measuring and monitoring our credit risk is an ongoing process that tracks delinquencies, collateral values, economic trends by geographic areas, loan-level risk grading for certain portfolios (typically commercial) and other indications of risk to loss. Our credit risk monitoring process is designed to enable early identification of developing risk to loss and to support our determination of an adequate allowance for loan losses. During the current economic cycle our monitoring and resolution efforts have focused on loan portfolios exhibiting the highest levels of risk including mortgage loans supported by real estate (both consumer and commercial), junior lien and commercial portfolios.

Our underwriting of commercial real estate (CRE) loans is focused primarily on cash flows and creditworthiness, not solely collateral valuations. To identify and manage newly emerging problem CRE loans we employ a high level of surveillance and regular customer interaction to understand and manage the risks associated with these assets, including regular loan reviews and appraisal updates. As issues are identified, management is engaged and dedicated workout groups are in place to manage problem assets.

Concentration of credit risk generally arises with respect to our loans when a significant number of underlying loans have borrowers that engage in similar business activities or activities in the same industry or geographical region. Concentration of credit risk indicates the relative sensitivity of performance to both positive and negative developments affecting a particular industry. By the nature of our status as a REIT, the composition of the loans underlying the participation interests are highly concentrated in real estate. The following table is a summary of the geographical distribution of our loan portfolio for the states with more than five percent of the total loans outstanding.


(in thousands)	Commercial and commercial real estate		Real estate 1-4 family first mortgage	Real estate 1-4 family junior lien mortgage	Total	% of total loans
June 30, 2010
Florida	$	410,891	1,321,176	644,524	2,376,591	15	%
New Jersey		274,043	940,001	970,939	2,184,983	14
Pennsylvania		217,170	1,172,340	786,084	2,175,594	14
North Carolina		342,952	947,383	381,830	1,672,165	11
Virginia		238,891	651,158	476,207	1,366,256	9
Georgia		89,628	454,584	382,876	927,088	6
All other states		306,580	3,645,942	1,017,628	4,970,150	31

Total loans	$	1,880,155	9,132,584	4,660,088	15,672,827	100	%

December 31, 2009
Florida	$	529,202	1,366,181	726,688	2,622,071	16	%
Pennsylvania		265,808	1,282,162	896,169	2,444,139	15
New Jersey		284,655	991,811	1,072,175	2,348,641	14
North Carolina		365,005	888,388	432,254	1,685,647	10
Virginia		150,151	666,856	543,912	1,360,919	9
Georgia		86,649	492,159	432,805	1,011,613	6
All other states		310,263	3,445,726	1,172,585	4,928,574	30

Total loans	$	1,991,733	9,133,283	5,276,588	16,401,604	100	%

For purposes of portfolio risk management, we aggregate commercial loans according to market segmentation and standard industry codes. This portfolio has experienced less credit deterioration than our CRE portfolio. We believe this portfolio is well underwritten and is diverse in its risk with relatively even concentrations across several industries. The following table is a summary of our commercial loans by industry.


	June 30, 2010				December 31, 2009
(in thousands)	Total		% of total loans		Total		% of total loans
Finance	$	152,303	47	%	$	45,544	16	%
Real estate-other (1)		31,197	10			33,815	12
Public administration		30,308	9			96,987	34
Industrial equipment		27,214	9			17,290	6
Investors		24,668	8			25,900	9
Food and beverage		19,033	6			28,705	10
Real estate investment trust		10,811	3			6,878	2
Crops		9,402	3			9,667	3
Healthcare		7,084	2			7,330	3
Other		10,324	3			15,462	5

Total commercial loans	$	322,344	100	%	$	287,578	100	%

(1)	Includes lessors, building operators and real estate agents.

The following table is a summary of commercial real estate loans by state and property type.


	June 30, 2010						December 31, 2009
(in thousands)	Real estate mortgage		Real estate construction	Total	% of total loans		Real estate mortgage		Real estate construction	Total	% of total loans
By state:
Florida	$	324,180	40,230	364,410	23	%	$	363,629	51,825	415,454	25	%
North Carolina		321,364	19,483	340,847	22			341,385	21,126	362,511	21
New Jersey		215,314	5,279	220,593	14			220,534	5,540	226,074	13
Pennsylvania		118,883	55,879	174,762	11			161,640	62,815	224,455	13
South Carolina		114,869	3,628	118,497	8			101,151	3,975	105,126	6
Georgia		80,357	9,027	89,384	6			78,530	7,830	86,360	5
Virginia		79,218	4,722	83,940	5			91,641	7,530	99,171	6
All other states		140,074	25,304	165,378	11			160,339	24,665	185,004	11

Total loans	$	1,394,259	163,552	1,557,811	100	%	$	1,518,849	185,306	1,704,155	100	%

By property:
Office buildings	$	349,904	1,971	351,875	23	%	$	411,234	2,200	413,434	24	%
Industrial/warehouse		281,777	6,508	288,285	18			307,058	9,245	316,303	19
Retail (excluding shopping center)		217,714	9,505	227,219	15			206,047	9,818	215,865	13
Real estate—other		125,888	20,569	146,457	9			150,224	21,989	172,213	10
Shopping center		136,909	-	136,909	9			152,633	-	152,633	9
Hotel/motel		105,796	717	106,513	7			110,643	895	111,538	7
Apartments		86,099	10,375	96,474	6			92,226	12,446	104,672	6
Institutional		73,684	-	73,684	5			81,366	-	81,366	5
Land (excluding 1-4 family)		3,687	57,870	61,557	4			-	73,454	73,454	4
1-4 family structure		7,806	47,632	55,438	3			5,209	54,284	59,493	3
Other		4,995	8,405	13,400	1			2,209	975	3,184	-

Total loans	$	1,394,259	163,552	1,557,811	100	%	$	1,518,849	185,306	1,704,155	100	%

The following table is a summary of real estate 1-4 family mortgage loans by state and loan-to-value (LTV) ratio.


	June 30, 2010				December 31, 2009
(in thousands)	Real estate 1-4 family mortgage		Current LTV ratio (1)		Real estate 1-4 family mortgage		Current LTV ratio (1)
Florida	$	1,965,700	86	%	$	2,092,869	85	%
Pennsylvania		1,958,424	69			2,178,331	72
New Jersey		1,910,940	73			2,063,986	74
North Carolina		1,329,213	78			1,320,642	76
Virginia		1,127,365	73			1,210,768	76
Georgia		837,460	87			924,964	88
All other states		4,663,570	71	%		4,618,311	76	%

Total loans	$	13,792,672			$	14,409,871

(1)	Collateral values are determined using automated valuation models (AVMs) and are updated quarterly. AVMs are computer-based tools used to estimate market values of homes based on processing large volumes of market data including market comparables and price trends for local market areas.

Nonaccrual Loans and Other Nonperforming Assets

The following table shows the comparative data for nonaccrual loans and other nonperforming assets. We generally place loans on nonaccrual status when:

•

the full and timely collection of interest or principal becomes uncertain;

•

they are 90 days (120 days with respect to real estate 1-4 family first and junior lien mortgages) past due for interest or principal (unless both well-secured and in the process of collection); or

•

part of the principal balance has been charged off and no restructuring has occurred.

Note 1 (Summary of Significant Accounting Policies—Loans) to Financial Statements in our 2009 Form 10-K describes our accounting policy for nonaccrual and impaired loans.

NONACCRUAL LOANS AND OTHER NONPERFORMING ASSETS


(in thousands)	June 30, 2010			December 31, 2009
Nonaccrual loans
Commercial and commercial real estate:
Commercial	$	-		3,510
Real estate mortgage		20,986		4,869
Real estate construction		1,089		-

Total commercial and commercial real estate		22,075		8,379

Consumer:
Real estate 1-4 family first mortgage		163,991		119,666
Real estate 1-4 family junior lien mortgage		93,662		79,495

Total consumer		257,653		199,161

Total nonaccrual loans		279,728		207,540

Other nonperforming assets
Foreclosed assets		4,208		2,282

Total nonaccrual loans and other nonperforming assets	$	283,936		209,822

As a percentage of total loans		1.81	%	1.28

Nonaccrual loans increased to $279.7 million at June 30, 2010, from $207.5 million at December 31, 2009. The increase was primarily related to commercial real estate and consumer real estate 1-4 family mortgage loans, due to slower dispositions. Typically, changes to nonaccrual loans period-over-period represent inflows for loans that reach a specified past due status, offset by reductions for loans that are charged off, sold, transferred to foreclosed properties, or are no longer classified as nonaccrual because they return to accrual status. Dispositions have been slower in this economic cycle for a few reasons. Modification programs, including government and proprietary, require customers to provide updated documentation and complete trial repayment periods, to evidence sustained performance, before the loan can be removed from nonaccrual status. In addition, for loans in foreclosure, many states, including Florida where Wachovia Funding has significant exposures, have enacted legislation that significantly increases the time frames to complete the foreclosure process, meaning that loans will remain in nonaccrual status for longer periods. At the conclusion of the foreclosure process, we continue to sell real estate owned in a timely fashion.

There were no commercial loan troubled debt restructurings (TDRs) at June 30, 2010 and December 31, 2009. Total consumer loan TDRs amounted to $156.2 million at June 30, 2010 and $116.0 million at December 31, 2009. At June 30, 2010 and December 31, 2009, nonaccruing TDRs were $29.8 million and $9.8 million, respectively. We establish an impairment reserve when a loan is restructured in a TDR. The impairment reserve for consumer loan TDRs was $37.4 million at June 30, 2010 and $30.3 million at December 31, 2009.

We have increased loan modifications and restructurings to assist homeowners and other borrowers in the current difficult economic cycle. Our nonaccrual policies are generally the same for all loan types when a restructuring is involved. We underwrite consumer loans at the time of restructuring to determine if there is sufficient evidence of sustained repayment capacity based on the borrower’s documented income, debt to income ratios, and other factors. Any loans lacking sufficient evidence of sustained repayment capacity at the time of modification are charged down to the fair value of the collateral. If the borrower has demonstrated performance under the previous terms and the underwriting process shows capacity to continue to perform under the restructured terms, the loan will remain in accruing status. Otherwise, the loan will be placed in nonaccrual status until the borrower demonstrates a sustained period of performance. Loans will also be placed on nonaccrual, and a corresponding charge-off recorded to the loan balance, if we believe that principal and interest contractually due under the modified agreement will not be collectible.

We do not forgive principal for a majority of our TDRs, but in those situations where principal is forgiven, the entire amount of such principal forgiveness is immediately charged off. When a TDR performs in accordance with its modified terms, the loan either continues to accrue interest (for performing loans), or will return to accrual status after the borrower demonstrates a sustained period of performance.

LOANS 90 DAYS OR MORE PAST DUE AND STILL ACCRUING (1)


(in thousands)	June 30, 2010		December 31, 2009
Commercial and commercial real estate:
Commercial	$	12	-
Real estate mortgage		1,610	9,445
Real estate construction		-	-

Total commercial and commercial real estate		1,622	9,445

Consumer:
Real estate 1-4 family first mortgage		26,165	20,681
Real estate 1-4 family junior lien mortgage		19,370	20,406

Total consumer		45,535	41,087

Total	$	47,157	50,532

(1)

The carrying value of PCI loans contractually 90 days or more past due was $20.4 million and $47.6 million at June 30, 2010 and at December 31, 2009, respectively. These amounts are excluded from the above table as PCI loan accretable yield interest recognition is independent from the underlying contractual loan delinquency status.

Net Charge-offs

Net charge-offs in the first half of 2010 were $152.2 million (1.94% of average total loans outstanding, annualized) compared with $36.1 million (0.42%) a year ago. Net charge-offs were $72.5 million (1.85%) for second quarter 2010 compared with $24.2 million (0.56%) for second quarter 2009. The increase in losses this quarter and in the first half of 2010 resulted from the economic conditions in the marketplace affecting our customers. The majority of the increase was in consumer real estate, which has a high concentration of home equity loans geographically located in the eastern United States. Collateral value stabilization and delinquency improvements have lagged in this portfolio which continued to experience elevated losses. These conditions also contributed to increases in overall reserve levels.

Net charge-offs in the 1-4 family first mortgage portfolio totaled $51.1 million in the first half of 2010 compared with $14.1 million a year ago. Net charge-offs in the real estate 1-4 family junior lien portfolio were $100.1 million in the first half of 2010 compared with $21.9 million a year ago. Our relatively high-quality real estate 1-4 family mortgage portfolio continued to reflect relatively low loss rates, although until housing prices fully stabilize, these credit losses are expected to remain elevated.

Commercial and CRE net charge-offs in the first half of 2010 were $1.0 million, while 2009 charge-offs were not significant. While economic stress and decreased commercial real estate values have resulted in the deterioration of our commercial and CRE credit profile, there have been relatively small losses. Due to the larger dollar amounts associated with individual commercial and CRE loans, loss recognition tends to be irregular and exhibits more variation than consumer loan portfolios.

Allowance for Credit Losses

The allowance for credit losses, which consists of the allowance for loan losses and the reserve for unfunded credit commitments, is management’s estimate of credit losses inherent in the loan portfolio at the balance sheet date. The process for determining the adequacy of the allowance for credit losses is critical to our financial results. It requires difficult, subjective, and complex judgments, as a result of the need to make estimates about the effect of matters that are uncertain. The detail of the changes in the allowance for credit losses, including charge-offs and recoveries by loan category, is in Note 2 (Loans and Allowance for Credit Losses) to Financial Statements in this Report.

We employ a disciplined process and methodology to establish our allowance for loan losses each quarter. This process takes into consideration many factors, including historical and forecasted loss trends, loan-level credit quality ratings and loan grade specific loss factors. In addition, we review several credit ratio trends, such as the ratio of the allowance for loan losses to nonaccrual loans and the ratio of the allowance for loan losses to net charge-offs. These trends are not determinative of the adequacy of the allowance as we use several analytical tools in determining the adequacy of the allowance.

For statistically evaluated portfolios (typically consumer), we generally leverage models which use credit-related characteristics such as delinquency migration rates, vintages, and portfolio concentrations to estimate loss content. Additionally, the allowance for consumer TDRs is based on the risk characteristics of the modified loans and the resultant estimated cash flows discounted at the pre-modification effective yield of the loan. While the allowance is determined using product and business segment estimates, it is available to absorb losses in the entire loan portfolio.

At June 30, 2010, the allowance for loan losses totaled $400.1 million (2.55% of total loans), compared with $337.4 million (2.06%), at December 31, 2009.

The ratio of the allowance for credit losses to total nonaccrual loans was 143% and 163% at June 30, 2010 and December 31, 2009, respectively. In general, this ratio may fluctuate significantly from period to period due to such factors as the mix of loan types in the portfolio, borrower credit strength and the value and marketability of collateral.

We believe the allowance for credit losses of $400.6 million was adequate to cover credit losses inherent in the loan portfolio, including unfunded credit commitments, at June 30, 2010. The allowance for credit losses is evaluated on a quarterly basis and considers existing factors at the time, including economic or market conditions and ongoing internal and external examination processes. Due to the sensitivity of the allowance for credit losses to changes in the economic environment, it is possible that unanticipated economic deterioration would create incremental credit losses not anticipated as of the balance sheet date. Our process for determining the adequacy of the allowance for credit losses is discussed in the “Critical Accounting Policies” section in our 2009 Form 10-K.

ASSET/LIABILITY MANAGEMENT

Asset/liability management involves the evaluation, monitoring and management of interest rate risk, market risk and liquidity and funding.

Interest Rate Risk

Interest rate risk is the sensitivity of earnings to changes in interest rates. Approximately 18% of our loan portfolio consisted of variable rate loans at June 30, 2010. In a declining rate environment, we may experience a reduction in interest income on our loan portfolio and a corresponding decrease in funds available to be distributed to our shareholders. The reduction in interest income may result from downward adjustment of the indices upon which the interest rates on loans are based and from prepayments of loans with fixed interest rates, resulting in reinvestment of the proceeds in lower yielding assets.

At June 30, 2010, approximately 82% of the balance of our loans had fixed interest rates. Such loans tend to increase our interest rate risk. We monitor the rate sensitivity of assets acquired. Our methods for evaluating interest rate risk include an analysis of interest-rate sensitivity “gap,” which is defined as the difference between interest-earning assets and interest-bearing liabilities maturing or repricing within a given time period. A gap is considered positive when the amount of interest rate-sensitive assets exceeds the amount of interest rate-sensitive liabilities. A gap is considered negative when the amount of interest rate-sensitive liabilities exceeds interest rate-sensitive assets.

During a period of rising interest rates, a negative gap would tend to adversely affect net interest income, while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to affect net interest income adversely. Because different types of assets and liabilities with the same or similar maturities may react differently to changes in overall market rates or conditions, changes in interest rates may affect net interest income positively or negatively even if an institution is perfectly matched in each maturity category.

At June 30, 2010, $5.6 billion, or 31% of our assets, had variable interest rates and could be expected to reprice with changes in interest rates. At June 30, 2010, our liabilities were $65.6 million, or less than 1% of our assets, while stockholders’ equity was $18.2 billion, or greater than 99% of our assets. This positive gap between our assets and liabilities indicates that an increase in interest rates would result in an increase in net interest income and a decrease in interest rates would result in a decrease in net interest income.

All of our derivatives are accounted for as economic hedges and none are treated as accounting hedges. In addition, all our derivatives (currently consisting of interest rate swaps) are recorded at fair value in the balance sheet. When we have more than one transaction with a counterparty and there is a legally enforceable master netting agreement between the parties, the net of the gain and loss positions are recorded as an asset or a liability in our consolidated balance sheet. Realized and unrealized gains and losses are recorded as a net gain or loss on interest rate swaps in our consolidated statement of income.

In 2001, the Bank contributed receive-fixed interest rate swaps with a notional amount of $4.25 billion and a fair value of $673.0 million to us in exchange for common stock. The unaffiliated counterparty to the receive-fixed interest rate swaps provided cash collateral to us. We pay interest to the counterparty on the collateral at a short-term interest rate. Shortly after the contribution of the receive-fixed interest rate swaps, we entered into pay-fixed interest rate swaps with a notional amount of $4.25 billion that serve as an economic hedge of the contributed swaps. All interest rate swaps are transacted with the same unaffiliated third party.

At June 30, 2010, our position in interest rate swaps was an asset of $527.8 million, a liability of $386.9 million, and a cash collateral payable of $140.9 million which is recorded as a net amount on our consolidated balance sheet at fair value.

At June 30, 2010, our receive-fixed interest rate swaps with a notional amount of $4.1 billion had a weighted average maturity of 1.97 years, weighted average receive rate of 7.45% and weighted average pay rate of 0.54%. Our pay-fixed interest rate swaps with a notional amount of $4.1 billion had a weighted average maturity of 1.97 years, weighted average receive rate of 0.54% and weighted average pay rate of 5.72% at June 30, 2010. Since the swaps have a weighted average maturity of 1.97 years, their value is primarily driven by changes in long-term interest rates. All the interest rate swaps have variable pay or receive rates based on three- or six-month LIBOR, and they are the pay or receive rates in effect at June 30, 2010.

Market Risk

Market risk is the risk of loss from adverse changes in market prices and interest rates. Market risk arises primarily from interest rate risk inherent in lending, investment in derivative financial instruments and borrowing activities.

Due to the difference in fixed rates in our interest rate swaps, volatility is expected given certain interest rate fluctuations. If market rates were to decrease 100 basis points or 200 basis points, we would recognize short-term net gains on our interest rate swaps of $1.7 million or $3.5 million, respectively. If market rates were to increase 100 basis points or 200 basis points, we would recognize short-term net losses on our interest rate swaps of $1.7 million or $3.4 million, respectively. These short-term fluctuations will eventually offset over the life of the interest rate swaps when held to maturity, with no change in cash flow occurring for the net positions. The changes in value of the net swap positions were calculated under the assumption there was a parallel shift in the LIBOR curve using 100 basis point and 200 basis point shifts, respectively.

Liquidity and Funding

The objective of effective liquidity management is to ensure that we can meet customer loan requests and other cash commitments efficiently under both normal operating conditions and under unpredictable circumstances of industry or market stress. To achieve this objective, Wells Fargo’s Corporate Asset/Liability Management Committee establishes and monitors liquidity guidelines that require sufficient asset-based liquidity to cover potential funding requirements and to avoid over-dependence on volatile, less reliable funding markets.

Wachovia Funding’s primary liquidity needs are to pay operating expenses, fund our lending commitments, purchase loans as the underlying loans mature or repay, and pay dividends. Operating expenses and dividends are expected to be funded through cash generated by operations, while funding commitments and the acquisition of additional participation interests in loans are intended to be funded with the proceeds obtained from repayment of principal balances by individual borrowers. We expect to distribute annually an aggregate amount of dividends with respect to outstanding capital stock equal to approximately 100 percent of our REIT taxable income for federal tax purposes. Such distributions may in some periods exceed net income determined under U.S. generally accepted accounting principles (GAAP). We did not have and do not anticipate having any material capital expenditures in the foreseeable future.

To the extent that Wachovia Funding’s board of directors determines that additional funding is required, we may raise funds through additional equity offerings, debt financings, retention of cash flow or a combination of these methods. However, any cash flow retention must be consistent with the provisions of the Investment Company Act and the Code which requires the distribution by a REIT of at least 90% of its REIT taxable income, excluding capital gains, and must take into account taxes that would be imposed on undistributed income. In addition, any necessary liquidity could be obtained by drawing on lines of credit with the Bank. Wachovia Funding has a $1.0 billion line of credit with the Bank, and our subsidiaries WREIC and WPR have lines of credit with the Bank of $1.0 billion and $200.0 million, respectively. Each of those lines is under a revolving demand note at a rate equal to the federal funds rate. During the first half of 2010, we made no draws under our lines of credit with the Bank; therefore, there were no outstandings on the lines of credit with the Bank at the end of the first half of 2010.

At June 30, 2010, our liabilities principally consist of deferred income tax liabilities. Our certificate of incorporation does not contain any limitation on the amount or percentage of debt, funded or otherwise, we may incur, except the incurrence of debt for borrowed money or our guarantee of debt for borrowed money in excess of amounts borrowed or guaranteed. However, as part of issuing our Series A preferred securities, we have a covenant in which we agree not to incur indebtedness over 20% of our stockholders’ equity unless approved by two-thirds of the Series A preferred securities, voting as a separate class.

TRANSACTIONS WITH AFFILIATED PARTIES

We are subject to certain income and expense allocations from affiliated parties for various services received. In addition, we enter into transactions with affiliated parties in the normal course of business. The nature of the transactions with affiliated parties is discussed below.

The Bank services our loans on our behalf, which includes delegating servicing to third parties in the case of a portion of our residential mortgage products. We pay the Bank a percentage per annum fee for this service on commercial loans and a percentage per annum fee on home equity loan products. For servicing fees related to residential mortgage products the monthly fee is equal to the outstanding principal of each loan multiplied by a percentage per annum or a flat fee per month. Additionally, we are subject to the Bank’s management fee policy and are assessed monthly management fees based on our relative percentage of Wells Fargo’s total FTEs, total average assets and total revenue. We also have a swap servicing and fee arrangement with the Bank, whereby the Bank provides operations, back office, book entry, record keeping and valuation services related to our interest rate swaps, for which we pay a fee to the Bank.

Eurodollar deposits with the Bank are our primary cash management vehicle. We have also entered into certain loan participations with affiliates and are allocated a portion of all income associated with these loans.

In the first half of 2010, we paid the Bank $864.0 million in cash for consumer loans, which reflected fair value purchase prices. In conjunction with these purchases, we did not borrow under our existing line of credit with the Bank and incurred no interest expense owed to the Bank in the first half of 2010. The interest if incurred under this line of credit is at a rate equal to the federal funds rate. Our borrowings on our line of credit with the Bank were zero at June 30, 2010. The Notes to Financial Statements has information about the accounting treatment of these loan purchases.

The Bank acts as our collateral custodian in connection with collateral pledged to us related to our interest rate swaps. For this service, we pay the Bank a fee based on the value of the collateral. In addition, the Bank is permitted to rehypothecate and use as its own the collateral held by the Bank as our custodian. The Bank pays us a fee based on the value of the collateral involved for this right. The Bank also provides a guaranty of our obligations under the interest rate swaps when the swaps are in a net payable position, for which we pay a monthly fee based on the absolute value of the net notional amount of the interest rate swaps.

CRITICAL ACCOUNTING POLICY

Our accounting and reporting policies are in accordance with GAAP, and they conform to general practices of the financial services industry. The application of certain of these principles involves a significant amount of judgment and the use of estimates based on assumptions for which the actual results are uncertain when we make the estimation. We have identified the allowance for loan losses policy as being particularly sensitive in terms of judgments and the extent to which estimates are used.

Management has reviewed and approved this critical accounting policy and has discussed this policy with the Audit Committee of Wachovia Funding’s board of directors. This policy is described in the “Critical Accounting Policies” section in our 2009 Form 10-K.

CURRENT ACCOUNTING DEVELOPMENTS

The following accounting pronouncements have been issued by the Financial Accounting Standards Board, but are not yet effective:

•

Accounting Standards Update (ASU or Update) 2010-20—Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses; and

•

ASU 2010-18, Effect of a Loan Modification When the Loan is Part of a Pool That is Accounted for as a Single Asset.

ASU 2010-20 requires enhanced disclosures for the allowance for credit losses and financing receivables, which include certain loans and long-term accounts receivable. Companies will be required to disaggregate credit quality information, including receivables on nonaccrual status, aging of past due receivables, and the roll forward of the allowance for credit losses, by portfolio segment or class of financing receivable. Portfolio segment is the level at which an entity evaluates credit risk and determines its allowance for credit losses, and class of financing receivable is generally a lower level of portfolio segment. Companies must also provide more granular information on the nature and extent of TDRs and their effect on the allowance for credit losses. This guidance is effective for us in fourth quarter 2010 with prospective application. Our adoption of the Update will not affect our consolidated financial statement results since it amends only the disclosure requirements for financing receivables and the allowance for credit losses.

ASU 2010-18 provides guidance for modified PCI loans that are accounted for within a pool. Under the new guidance, modified PCI loans should not be removed from a pool even if those loans would otherwise be deemed TDRs. The Update also clarifies that entities should consider the impact of modifications on a pool of PCI loans when evaluating that pool for impairment. These accounting changes are effective for us in third quarter 2010 with early adoption permitted. Our adoption of the Update will not affect our consolidated financial statement results, as the new guidance is consistent with our current accounting practice.

FORWARD-LOOKING STATEMENTS

This Report contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by words such as “anticipates,” “intends,” “plans,” “seeks,” “believes,” “estimates,” “expects,” “projects,” “outlook,” “forecast,” “will,” “may,” “could,” “should,” “can” and similar references to future periods. Examples of forward-looking statements include, but are not limited to, statements we make about: future results of Wachovia Funding; expectations for consumer and commercial credit losses, life-of-loan losses, and the sufficiency of our credit loss allowance to cover future credit losses; the expected outcome and impact of legal, regulatory and legislative developments; and Wachovia Funding’s plans, objectives and strategies.

Forward-looking statements are based on our current expectations and assumptions regarding our business, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. Our actual results may differ materially from those contemplated by the forward-looking statements. We caution you, therefore, against relying on any of these forward-looking statements. They are neither statements of historical fact nor guarantees or assurances of future performance. While there is no assurance that any list of risks and uncertainties or risk factors is complete, important factors that could cause actual results to differ materially from those in the forward-looking statements include the following, without limitation:

•

the effect of political and economic conditions and geopolitical events;

•

economic conditions that affect the general economy, housing prices, the job market, consumer confidence and spending habits;

•

the level and volatility of the capital markets, interest rates, currency values and other market indices that affect the value of our assets and liabilities;

•

the availability and cost of both credit and capital as well as the credit ratings assigned to our debt instruments;

•

investor sentiment and confidence in the financial markets;

•

our reputation;

•

the impact of current, pending and future legislation, regulation and legal actions;

•

changes in accounting standards, rules and interpretations;

•

mergers and acquisitions, and our ability to integrate them;

•

various monetary and fiscal policies and regulations of the U.S. and foreign governments;

•

financial services reform and other current, pending or future legislation or regulation that could have a negative effect on our revenue and businesses, including the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) and legislation; and

•

the other factors described in “Risk Factors” below.

Any forward-looking statement made by us in this Report speaks only as of the date on which it is made. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by law.

RISK FACTORS

An investment in Wachovia Funding involves risk, including the possibility that the value of the investment could fall substantially and that dividends or other distributions on the investment could be reduced or eliminated. We discuss risk factors that could adversely affect our financial results and condition and the value of, and return on, an investment in Wachovia Funding in Part I, Item 1A of our 2009 Form 10-K.

The following risk factor supplements and restates the risk factor captioned “Legislative and regulatory proposals may restrict or limit our ability to engage in our current businesses or in businesses that we desire to enter into” set forth on page 15 of our 2009 Form 10-K and should be read in conjunction with the other risk factors in our 2009 Form 10-K, 2010 First Quarter Form 10-Q and in this Report.

Enacted legislation and regulation, including the Dodd-Frank Act, could require us to change certain of our business practices, reduce our revenue, impose additional costs on us or otherwise adversely affect our business operations and/or competitive position.

The Dodd-Frank Act became law on July 21, 2010. Many of the provisions of the Dodd-Frank Act have extended implementation periods and delayed effective dates and will require extensive rulemaking by regulatory authorities. While the Dodd-Frank Act’s impact on us may not be known for an extended period of time, the Dodd-Frank Act, including future rules implementing its provisions and the interpretation of those rules, along with other legislative and regulatory proposals directed at the financial services industry or affecting taxation that are proposed or pending in the U.S. Congress may limit our revenues in businesses, impose fees or taxes on us, and/or intensify the regulatory supervision of us and the financial services industry. The Dodd-Frank Act including future rules implementing its provisions and the interpretation of those rules may have an adverse effect on our business operations, income, and/or competitive position.

CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

As required by SEC rules, Wachovia Funding’s management evaluated the effectiveness, as of June 30, 2010, of disclosure controls and procedures. Wachovia Funding’s chief executive officer and chief financial officer participated in the evaluation. Based on this evaluation, the chief executive officer and chief financial officer concluded that Wachovia Funding’s disclosure controls and procedures were effective as of June 30, 2010.

Internal Control Over Financial Reporting

Internal control over financial reporting is defined in Rule 13a-15(f) promulgated under the Securities Exchange Act of 1934 as a process designed by, or under the supervision of, Wachovia Funding’s principal executive and principal financial officers and effected by Wachovia Funding’s 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 GAAP and includes those policies and procedures that:

•

pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of assets of Wachovia Funding;

•

provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of Wachovia Funding are being made only in accordance with authorizations of management and directors of Wachovia Funding; and

•

provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of Wachovia Funding’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. 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. No change occurred during second quarter in 2010 that has materially affected, or is reasonably likely to materially affect, Wachovia Funding’s internal control over financial reporting.

WACHOVIA PREFERRED FUNDING CORP.

AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF INCOME

(Unaudited)



	Quarter ended June 30,			Six months ended June 30,
(in thousands, except per share amounts)		2010	2009	2010	2009
Interest income	$	278,615	293,948	551,043	572,055
Interest expense		-	68	-	232
Net interest income		278,615	293,880	551,043	571,823
Provision for credit losses		92,211	79,337	216,350	93,221
Net interest income after provision for credit losses		186,404	214,543	334,693	478,602
Noninterest income
Gain on interest rate swaps		500	328	1,648	1,677
Other income		158	258	355	438
Total noninterest income		658	586	2,003	2,115
Noninterest expense
Loan servicing costs		15,215	16,591	30,840	34,002
Management fees		1,142	2,697	2,242	5,799
Other		1,022	569	2,027	1,011
Total noninterest expense		17,379	19,857	35,109	40,812
Income before income tax expense		169,683	195,272	301,587	439,905
Income tax expense		168	1,430	605	2,566
Net income		169,515	193,842	300,982	437,339
Dividends on preferred stock		45,829	43,004	91,092	88,946
Net income available to common stockholders	$	123,686	150,838	209,890	348,393
Per common share information
Basic earnings	$	1.24	1.51	2.10	3.48
Diluted earnings	$	1.24	1.51	2.10	3.48
Average common shares
Basic		99,999.9	99,999.9	99,999.9	99,999.9
Diluted		99,999.9	99,999.9	99,999.9	99,999.9

The accompanying notes are an integral part of these statements.

WACHOVIA PREFERRED FUNDING CORP.

AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEET

(Unaudited)



(in thousands, except shares)	June 30, 2010			Dec. 31, 2009
Assets
Cash and cash equivalents	$	2,745,919		2,092,523
Loans, net of unearned income		15,672,827		16,401,604
Allowance for loan losses		(400,098	)	(337,431	)
Net loans		15,272,729		16,064,173
Interest rate swaps		1,160		976
Accounts receivable—affiliates, net		156,141		166,388
Other assets		82,835		86,068
Total assets	$	18,258,784		18,410,128
Liabilities
Line of credit with affiliate	$	-		-
Deferred income tax liabilities		41,277		49,971
Other liabilities		24,294		24,834
Total liabilities		65,571		74,805
Stockholders’ Equity
Preferred stock
Series A preferred securities, $0.01 par value per share, $750 million liquidation preference, non-cumulative and conditionally exchangeable, 30,000,000 shares authorized, issued and outstanding in 2010 and 2009		300		300
Series B preferred securities, $0.01 par value per share, $1.0 billion liquidation preference, non-cumulative and conditionally exchangeable, 40,000,000 shares authorized, issued and outstanding in 2010 and 2009		400		400
Series C preferred securities, $0.01 par value per share, $4.2 billion liquidation preference, cumulative, 5,000,000 shares authorized, 4,233,754 shares issued and outstanding in 2010 and 2009		43		43
Series D preferred securities, $0.01 par value per share, $913,000 liquidation preference, non-cumulative, 913 shares authorized, issued and outstanding in 2010 and 2009		-		-
Common stock, $0.01 par value, 100,000,000 shares authorized, 99,999,900 shares issued and outstanding in 2010 and 2009		1,000		1,000
Additional paid-in capital		18,526,608		18,526,608
Retained earnings (deficit)		(335,138	)	(193,028	)
Total stockholders’ equity		18,193,213		18,335,323
Total liabilities and stockholders’ equity	$	18,258,784		18,410,128

The accompanying notes are an integral part of these statements.

WACHOVIA PREFERRED FUNDING CORP.

AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY

(Unaudited)



(In thousands, except per share data)	Preferred stock		Common stock	Additional paid-in capital		Retained earnings (deficit)		Total stockholders’ equity
Balance, December 31, 2008	$	743	1,000	18,584,285		-		18,586,028
Net income		-	-	-		437,339		437,339
Cash dividends
Series A preferred securities at $0.91 per share		-	-	-		(27,188	)	(27,188	)
Series B preferred securities at $0.39 per share		-	-	-		(15,756	)	(15,756	)
Series C preferred securities at $10.86 per share		-	-	-		(45,963	)	(45,963	)
Series D preferred securities at $42.50 per share		-	-	-		(39	)	(39	)
Common stock at $4.70 per share		-	-	-		(470,000	)	(470,000	)
Changes incident to business combinations		-	-	(21,343	)	-		(21,343	)
Balance, June 30, 2009	$	743	1,000	18,562,942		(121,607	)	18,443,078

Balance December 31, 2009	$	743	1,000	18,526,608		(193,028	)	18,335,323
Net income		-	-	-		300,982		300,982
Cash dividends
Series A preferred securities at $0.91 per share		-	-	-		(27,188	)	(27,188	)
Series B preferred securities at $0.26 per share		-	-	-		(10,504	)	(10,504	)
Series C preferred securities at $12.60 per share		-	-	-		(53,361	)	(53,361	)
Series D preferred securities at $42.50 per share		-	-	-		(39	)	(39	)
Common stock at $3.52 per share		-	-	-		(352,000	)	(352,000	)
Balance, June 30, 2010	$	743	1,000	18,526,608		(335,138	)	18,193,213

The accompanying notes are an integral part of these statements.

WACHOVIA PREFERRED FUNDING CORP.

AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CASH FLOWS

(Unaudited)



	Six months ended June 30,
(in thousands)	2010			2009
Cash flows from operating activities:
Net income	$	300,982		437,339
Adjustments to reconcile net income to net cash provided (used) by operating activities
Accretion of discount on loans		(77,722	)	(55,690	)
Provision for loan losses		216,350		93,221
Deferred income tax benefits		(8,694	)	(7,083	)
Interest rate swaps		(1,789	)	(1,894	)
Accounts receivable/payable—affiliates, net		8,152		621
Other assets and other liabilities, net		2,654		20,938
Net cash provided by operating activities		439,933		487,452
Cash flows from investing activities:
Increase in cash realized from
Loans, net		654,911		677,935
Interest rate swaps		35,523		35,523
Net cash provided by investing activities		690,434		713,458
Cash flows from financing activities:
Decrease in cash realized from
Line of credit with affiliate		-		(170,000	)
Collateral held on interest rate swaps		(33,919	)	(33,178	)
Cash dividends paid		(443,052	)	(558,992	)
Net cash used by financing activities		(476,971	)	(762,170	)
Net change in cash and cash equivalents		653,396		438,740
Cash and cash equivalents at beginning of period		2,092,523		1,358,129
Cash and cash equivalents at end of period	$	2,745,919		1,796,869
Supplemental cash flow disclosures:
Cash paid for interest	$	141		449
Cash paid for income taxes		9,000		6,000
Change in noncash items:
Dividends payable to affiliates		(39	)	(46	)
Loan payments, net, settled through affiliate		2,095		(59,000	)
Transfers from loans to foreclosed assets		5,249		1,131

The accompanying notes are an integral part of these statements.

NOTES TO FINANCIAL STATEMENTS (UNAUDITED)

NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

GENERAL

Wachovia Preferred Funding Corp. and its subsidiaries (Wachovia Funding) is a direct subsidiary of Wachovia Preferred Funding Holding Corp. (Wachovia Preferred Holding) and an indirect subsidiary of both Wells Fargo & Company (Wells Fargo) and Wells Fargo Bank, National Association (the Bank). Wells Fargo acquired Wachovia Corporation effective December 31, 2008. On March 20, 2010, Wachovia Bank, National Association, a wholly-owned subsidiary of Wells Fargo, merged with and into the Bank, with the Bank as the surviving entity. Wachovia Funding is a real estate investment trust (REIT) for income tax purposes.

The accounting and reporting policies of Wachovia Funding are in accordance with U.S. generally accepted accounting principles (GAAP). The preparation of the financial statements in accordance with GAAP requires management to make estimates based on assumptions about future economic and market conditions that affect the reported amounts of assets and liabilities at the date of the financial statements and income and expenses during the reporting period and the related disclosures. Although our estimates contemplate current conditions and how we expect them to change in the future, it is reasonably possible that in 2010 actual conditions could be worse than anticipated in those estimates, which could materially affect our results of operations and financial condition. Management has made significant estimates related to the allowance for credit losses (Note 2) and valuing financial instruments (Note 4). Actual results could differ from those estimates. Among other effects, such changes could result in increases to the allowance for loan losses.

The information furnished in these unaudited interim statements reflects all adjustments that are, in the opinion of management, necessary for a fair statement of the results for the periods presented. These adjustments are of a normal recurring nature, unless otherwise disclosed in this Form 10-Q. The results of operations in the interim statements do not necessarily indicate the results that may be expected for the full year. The interim financial information should be read in conjunction with our Form 10-K for the year ended December 31, 2009 (2009 Form 10-K). Certain amounts in the financial statements for prior years have been revised to conform with current financial statement presentation.

ACCOUNTING DEVELOPMENTS

In first quarter 2010, we adopted the following accounting updates to the Financial Accounting Standards Board (FASB) Accounting Standards Codification:

•

Accounting Standards Update (ASU or Update) 2010-6, Improving Disclosures about Fair Value Measurements;

•

ASU 2009-16, Accounting for Transfers of Financial Assets (FAS 166, Accounting for Transfers of Financial Assets—an amendment of FASB Statement No. 140);

•

ASU 2009-17, Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities (FAS 167, Amendments to FASB Interpretation No. 46(R); and

•

ASU 2010-10, Amendments for Certain Investment Funds.

Information about these accounting updates is further described in more detail below.

ASU 2010-6 amends the disclosure requirements for fair value measurements. Companies are now required to disclose significant transfers in and out of Levels 1 and 2 of the fair value hierarchy, whereas the previous rules only required the disclosure of transfers in and out of Level 3. Additionally, in the rollforward of Level 3 activity, companies must present information on purchases, sales, issuances, and settlements on a gross basis rather than on a net basis. The Update also clarifies that fair value measurement disclosures should be presented for each class of assets and liabilities. A class is typically a subset of a line item in the statement of financial position. Companies should also provide information about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring instruments classified as either Level 2 or Level 3. We adopted this guidance in first quarter 2010 with prospective application, except for the new requirement related to the Level 3 rollforward. Gross presentation in the Level 3 rollforward is effective for us in first quarter 2011 with prospective application. Our adoption of the Update did not affect our consolidated financial results since it amends only the disclosure requirements for fair value measurements.

ASU 2009-16 (FAS 166) modifies certain guidance contained in ASC 860, Transfers and Servicing. This pronouncement eliminates the concept of qualifying special purpose entities (QSPEs) and provides additional criteria transferors must use to evaluate transfers of financial assets. The Update also requires that any assets or liabilities retained from a transfer accounted for as a sale must be initially recognized at fair value. We adopted this guidance in first quarter 2010 with prospective application for transfers that occurred on and after January 1, 2010. Our adoption of this standard did not have an impact on our financial statements.

ASU 2009-17 (FAS 167) amends several key consolidation provisions related to variable interest entities (VIEs), which are included in ASC 810, Consolidation. The scope of the new guidance includes entities that were previously designated as QSPEs. The Update also changes the approach companies must use to identify VIEs for which they are deemed to be the primary beneficiary and are required to consolidate. Under the new guidance, a VIE’s primary beneficiary is the entity that has the power to direct the VIE’s significant activities, and has an obligation to absorb losses or the right to receive benefits that could be potentially significant to the VIE. The Update also requires companies to continually reassess whether they are the primary beneficiary of a VIE, whereas the previous rules only required reconsideration upon the occurrence of certain triggering events. Our adoption of FAS 167 did not have an impact on our financial statements.

ASU 2010-10 amends consolidation accounting guidance to defer indefinitely the application of ASU 2009-17 to certain investment funds. The amendment was effective for us in first quarter 2010. Our adoption of this standard did not have an impact on our financial statements.

SUBSEQUENT EVENTS

We have evaluated the effects of subsequent events that have occurred subsequent to period end June 30, 2010. During this period there have been no material events that would require recognition in our first half of 2010 consolidated financial statements or disclosure in the Notes to Financial Statements.

NOTE 2: LOANS AND ALLOWANCE FOR CREDIT LOSSES

From time to time Wachovia Funding acquires loans from the Bank at fair value. While these transfers represent legal sales by the Bank, they are not treated as sales under GAAP because of the Bank’s indirect ownership interest in Wachovia Funding. Accordingly, Wachovia Funding’s assets represent non-recourse receivables from the Bank which are fully collateralized by the underlying loans. Wachovia Funding obtains from the Bank participation interests in loans originated or purchased by the Bank. By the nature of Wachovia Funding’s status as a REIT, the composition of the loans underlying the participation interests are highly concentrated in real estate. Underlying loans are concentrated primarily in Florida, New Jersey, Pennsylvania, North Carolina, Virginia and Georgia. These markets include approximately 69% and 70% of Wachovia Funding’s total loan balance at June 30, 2010 and December 31, 2009, respectively.

The following table reflects the major categories of the loan portfolio at June 30, 2010 and December 31, 2009.



(in thousands)	June 30, 2010		December 31, 2009
Commercial and commercial real estate:
Commercial	$	322,344	287,578
Real estate mortgage		1,394,259	1,518,849
Real estate construction		163,552	185,306
Total commercial and commercial real estate		1,880,155	1,991,733
Consumer:
Real estate 1-4 family first mortgage		9,132,584	9,133,283
Real estate 1-4 family junior lien mortgage		4,660,088	5,276,588
Total consumer		13,792,672	14,409,871
Total loans	$	15,672,827	16,401,604

At June 30, 2010 and December 31, 2009, nonaccrual loans amounted to $279.7 million and $207.5 million, respectively; troubled debt restructurings (TDRs) were $156.2 million at June 30, 2010, and $116.0 million at December 31, 2009. At June 30, 2010 and December 31, 2009, nonaccruing TDRs were $29.8 million and $9.8 million, respectively. There were no commercial loan TDRs at June 30, 2010 and December 31, 2009. A consumer loan is considered impaired if its terms are modified in a TDR. Impairment measurement for TDRs is based on the discounted cash flow method. We establish an impairment reserve when a loan is restructured in a TDR. The impairment reserve for consumer loan TDRs was $37.4 million at June 30, 2010 and $30.3 million at December 31, 2009. Loans past due 90 days or more, as to interest or principal and still accruing interest were $47.2 million at June 30, 2010, and $50.5 million at December 31, 2009, respectively.

The allowance for credit losses consists of the allowance for loan losses and the reserve for unfunded credit commitments. Changes in the allowance for credit losses were:



	Quarter ended June 30,					Six months ended June 30,
(in thousands)	2010			2009		2010		2009
Balance, beginning of period	$	382,305		272,051		337,871		269,913
Provision for credit losses		92,211		79,337		216,350		93,221
Adjustment for passage of time on certain impaired loans (1)		(1,409	)	-		(1,409	)	-
Loan charge-offs:
Commercial and commercial real estate:
Commercial		-		(8	)	-		(10	)
Real estate mortgage		(1,132	)	-		(1,132	)	-
Real estate construction		(17	)	-		(17	)	-
Total commercial and commercial real estate		(1,149	)	(8	)	(1,149	)	(10	)
Consumer:
Real estate 1-4 family first mortgage		(23,531	)	(5,742	)	(51,790	)	(14,886	)
Real estate 1-4 family junior lien mortgage		(49,888	)	(18,881	)	(102,875	)	(22,890	)
Total consumer		(73,419	)	(24,623	)	(154,665	)	(37,776	)
Total loan charge-offs		(74,568	)	(24,631	)	(155,814	)	(37,786	)
Loan recoveries:
Commercial and commercial real estate:
Commercial		2		-		158		-
Real estate mortgage		-		-		-		-
Real estate construction		-		-		-		-
Total commercial and commercial real estate		2		-		158		-
Consumer:
Real estate 1-4 family first mortgage		355		210		672		745
Real estate 1-4 family junior lien mortgage		1,695		271		2,763		980
Total consumer		2,050		481		3,435		1,725
Total loan recoveries		2,052		481		3,593		1,725
Net loan charge-offs		(72,516	)	(24,150	)	(152,221	)	(36,061	)
Allowances related to business combinations/other		-		-		-		165
Balance, end of period	$	400,591		327,238		400,591		327,238
Components:
Allowance for loan losses	$	400,098		326,865		400,098		326,865
Reserve for unfunded credit commitments		493		373		493		373
Allowance for credit losses	$	400,591		327,238		400,591		327,238
Net loan charge-offs (annualized) as a percentage of average total loans		1.85	%	0.56		1.94		0.42
Allowance for loan losses as a percentage of total loans		2.55		1.95		2.55		1.95
Allowance for credit losses as a percentage of total loans		2.56		1.95		2.56		1.95

(1)	Certain impaired loans have a valuation allowance determined by discounting expected cash flows at the respective loan’s effective interest rate. Accordingly, the valuation allowance for these impaired loans reduces with the passage of time and that reduction is recognized as interest income.

NOTE 3: DERIVATIVES

We use derivative financial instruments as economic hedges and none are treated as accounting hedges. By using derivatives, we are exposed to credit risk if counterparties to the derivative contracts do not perform as expected. If a counterparty fails to perform, our counterparty credit risk is equal to the amount reported as a derivative asset in our balance sheet. The amounts reported as a derivative asset are derivative contracts in a gain position, and to the extent subject to master netting arrangements, net of derivatives in a loss position with the same counterparty and cash collateral received. We minimize counterparty credit risk through credit approvals, limits, monitoring procedures, and executing master netting arrangements and obtaining collateral, where appropriate. Derivative balances and related cash collateral amounts are shown net in the balance sheet as long as they are subject to master netting agreements and meet the criteria for net presentation in accordance with FASB ASC 815, Derivatives and Hedging. Counterparty credit risk related to derivatives is considered and, if material, accounted for separately.

The total notional amounts and fair values for derivatives of which none of the derivatives are designated as hedging instruments as prescribed in FASB ASC 815 were:

June 30, 2010

December 31, 2009

Notional or
Contractual

Amount

Fair Value

Notional or
Contractual
Amount

Fair Value

(in thousands)

Asset
Derivatives

Liability
Derivatives

Asset
Derivatives

Liability
Derivatives

Interest rate swaps

8,200,000

527,770

386,917

8,200,000

578,790

404,203

Netting (1)

(526,610

)

(386,917

)

(577,814

)

(404,203

)

Total

1,160

976

(1)	Derivatives are reported net of cash collateral received and paid. Additionally, positions with the same counterparty are netted as part of a legally enforceable master netting agreement between Wachovia Funding and the derivative counterparty.

Gains recognized in the consolidated statement of income related to derivatives not designated as hedging instruments for the first half of 2010 were $1.6 million compared with $1.7 million for the first half of 2009. Second quarter 2010 gains were $500 thousand compared with $328 thousand in the same period of 2009.

NOTE 4: FAIR VALUES OF ASSETS AND LIABILITIES

Wachovia Funding adopted accounting provisions for fair value measurements on January 1, 2008, which established a framework for measuring fair value and expanded disclosures about fair value measurements. Under the fair value framework, fair value measurements must reflect assumptions market participants would use in pricing an asset or liability.

The accounting guidance for fair value measurement is included in FASB ASC 820, Fair Value Measurements and Disclosures, which defines “fair value” as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants in the principal market. If there is no principal market, an entity should use the most advantageous market for the specific asset or liability at the measurement date (referred to as an exit price). FASB ASC 820 also includes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The three levels of the fair value hierarchy are:

•

Level 1—Valuation is based upon quoted prices for identical instruments traded in active markets.

•

Level 2—Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.

•

Level 3—Valuation is generated from model-based techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability.

In the determination of the classification of financial instruments in Level 2 or Level 3 of the fair value hierarchy, we consider all available information, including observable market data, indications of market liquidity and orderliness, and our understanding of the valuation techniques and significant inputs used. For securities in inactive markets, we use a predetermined percentage to evaluate the impact of fair value adjustments derived from weighting both external and internal indications of value to determine if the instrument is classified as Level 2 or Level 3. Based upon the specific facts and circumstances of each instrument or instrument category, judgments are made regarding the significance of the Level 3 inputs to the instruments’ fair value measurement in its entirety. If Level 3 inputs are considered significant, the instrument is classified as Level 3.

DETERMINATION OF FAIR VALUE

In determining fair value, Wachovia Funding uses market prices of the same or similar instruments whenever such prices are available. A fair value measurement assumes that an asset or liability is exchanged in an orderly transaction between market participants, and accordingly, fair value is not determined based upon a forced liquidation or distressed sale. Where necessary, Wachovia Funding estimates fair value using other market observable data such as prices for synthetic or derivative instruments, market indices, and industry ratings of underlying collateral or models employing techniques such as discounted cash flow analyses. The assumptions used in the models, which typically include assumptions for interest rates, credit losses and prepayments, are corroborated by and independently verified against market observable data where possible. Market observable real estate data is used in valuing instruments where the underlying collateral is real estate or where the fair value of an instrument being valued highly correlates to real estate prices. Where appropriate, Wachovia Funding may use a combination of these valuation approaches.

Where the market price of the same or similar instruments is not available, the valuation of financial instruments becomes more subjective and involves a high degree of judgment. Where modeling techniques are used, the models are subject to independent validation procedures in accordance with risk management policies and procedures. Further, pricing data is subject to independent verification.

DERIVATIVES

Wachovia Funding’s derivatives are executed over the counter (OTC). As no quoted market prices exist for such instruments, OTC derivatives are valued using internal valuation techniques. Valuation techniques and inputs to internally-developed models depend on the type of derivative and the nature of the underlying rate, price or index upon which the derivative’s value is based. Key inputs can include yield curves, credit curves, foreign-exchange rates, prepayment rates, volatility measurements and correlation of such inputs. Where model inputs can be observed in a liquid market and the model selection does not require significant judgment, such derivatives are typically classified within Level 2 of the fair value hierarchy. Examples of derivatives within Level 2 include generic interest rate swaps.

ITEMS MEASURED AT FAIR VALUE ON A RECURRING BASIS

The following table presents Wachovia Funding’s assets and liabilities that are measured at fair value on a recurring basis at June 30, 2010 and December 31, 2009, for each of the fair value hierarchy levels.


(in thousands)	Level 1		Level 2	Level 3	Netting (1)		Total
Balance at June 30, 2010
Assets
Interest rate swaps	$	-	527,770	-	(526,610	)	1,160
Total assets at fair value	$	-	527,770	-	(526,610	)	1,160
Liabilities
Interest rate swaps	$	-	386,917	-	(386,917	)	-
Total liabilities at fair value	$	-	386,917	-	(386,917	)	-
Balance at December 31, 2009
Assets
Interest rate swaps	$	-	578,790	-	(577,814	)	976
Total assets at fair value	$	-	578,790	-	(577,814	)	976
Liabilities
Interest rate swaps	$	-	404,203	-	(404,203	)	-
Total liabilities at fair value	$	-	404,203	-	(404,203	)	-

(1)

Derivatives are reported net of cash collateral received and paid. Additionally, positions with the same counterparty are netted as a part of a legally enforceable master netting agreement between Wachovia Funding and the derivative counterparty in accordance with FASB ASC 815, Derivatives and Hedging. See Note 3 for additional information on the treatment of master netting arrangements related to derivative contracts.

As of June 30, 2010, Wachovia Funding assets or liabilities measured at fair value on a nonrecurring basis were insignificant. Additionally, Wachovia Funding did not elect fair value option for any financial instruments as permitted in FASB ASC 825, Financial Instruments, which allows companies to elect to carry certain financial instruments at fair value with corresponding changes in fair value reported in the results of operations.

CARRYING AMOUNTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS

Information about the fair value of on-balance sheet financial instruments at June 30, 2010 and December 31, 2009, is presented below.



	June 30, 2010			December 31, 2009
(in thousands)	Carrying amount		Estimated fair value	Carrying amount	Estimated fair value
Financial assets
Cash and cash equivalents	$	2,745,919	2,745,919	2,092,523	2,092,523
Loans, net of unearned income and allowance for loan losses (1)		15,272,729	16,405,941	16,064,173	16,183,305
Interest rate swaps (2)		1,160	1,160	976	976
Accounts receivable - affiliates, net		156,141	156,141	166,388	166,388
Other financial assets		77,831	77,831	82,621	82,621
Financial liabilities
Line of credit with affiliate		-	-	-	-
Other financial liabilities		19,355	19,355	19,259	19,259

(1)	Unearned income was $835.7 million and $732.0 million at June 30, 2010 and December 31, 2009, respectively. Allowance for loan losses was $400.1 million at June 30, 2010 and $337.4 million at December 31, 2009.

(2)

Interest rate swaps are reported net of cash collateral received of $139.7 million and $173.6 million at June 30, 2010 and December 31, 2009, respectively, pursuant to the accounting requirements for net presentation as prescribed in FASB ASC 815. See Note 3 for additional information on derivatives.

We have not included assets and liabilities that are not financial instruments in our disclosure, such as certain other assets, deferred income tax liabilities and certain other liabilities. The total of the fair value calculations presented does not represent, and should not be construed to represent, the underlying value of Wachovia Funding.

Wachovia Funding does not record loans at fair value on a recurring basis. As such, valuation techniques discussed herein for loans are primarily for disclosing estimated fair values as required by FASB ASC 825, Financial Instruments. However, from time to time, we record nonrecurring fair value adjustments to loans to reflect (1) partial write-downs that are based on the observable market price or current appraised value of the collateral, or (2) the full charge-off of the loan carrying value.

The fair value estimates for disclosure purposes differentiate loans based on their financial characteristics, such as product classification, loan category, pricing features and remaining maturity. Prepayment and credit loss estimates are evaluated by product and loan rate.

The fair value of commercial and commercial real estate loans is calculated by discounting contractual cash flows, adjusted for credit loss estimates, using discount rates that reflect our current pricing for loans with similar characteristics and remaining maturity.

For consumer loans, fair value is calculated by discounting contractual cash flows, adjusted for prepayment and credit loss estimates, using discount rates based on current industry pricing (where readily available) or our own estimate of an appropriate risk adjusted discount rate for loans of similar size, type, remaining maturity and repricing characteristics.

Wachovia Funding’s interest rate swaps are recorded at fair value. The fair value of interest rate swaps is estimated using discounted cash flow analyses based on observable market data. Substantially all the other financial assets and liabilities have maturities of three months or less, and accordingly, the carrying amount is deemed to be a reasonable estimate of fair value.

PART II – OTHER INFORMATION

Item 1. Legal Proceedings

Wachovia Funding is not currently involved in nor, to our knowledge, currently threatened with any material litigation. From time to time we may become involved in routine litigation arising in the ordinary course of business. We do not believe that the eventual outcome of any such routine litigation will, in the aggregate, have a material adverse effect on our consolidated financial statements. However, in the event of unexpected future developments, it is possible that the ultimate resolution of those matters, if unfavorable, could be material to our consolidated financial statements for any particular period.

Item 1A. Risk Factors

Information in response to this item can be found under the “Risk Factors” section in this Report which information is incorporated by reference into this item.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Information required by this Item 2 pursuant to Item 703 of Regulation S-K regarding issuer repurchases of equity securities is not applicable since we do not have a program providing for the repurchase of our securities.

Item 6. Exhibits

(a) Exhibits


Exhibit No.

(12)(a)		Computation of Consolidated Ratios of Earnings to Fixed Charges.

(12)(b)		Computation of Consolidated Ratios of Earnings to Fixed Charges and Preferred Stock Dividends.

(31)(a)		Certification of principal executive officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

(31)(b)		Certification of principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

(32)(a)		Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

(32)(b)		Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

(99)		Wells Fargo & Company Supplementary Consolidating Financial Information.

SIGNATURE

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


Dated: August 11, 2010		WACHOVIA PREFERRED FUNDING CORP.

		By: /s/ RICHARD D. LEVY
		Richard D. Levy Executive Vice President and Controller (Principal Accounting Officer)

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