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Novastar Mortgage Funding Corp, et al. – ‘424B5’ on 9/27/06

On:  Wednesday, 9/27/06, at 10:21am ET   ·   Accession #:  1193125-6-197736   ·   File #s:  333-134461, -01, -04

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  As Of                Filer                Filing    For·On·As Docs:Size              Issuer               Agent

 9/27/06  Novastar Mortgage Funding Corp    424B5                  1:4.2M                                   RR Donnelley/FA
          NovaStar Mortgage Funding Trust, Series 2006-5
          NovaStar Certificates Financing Corp

Document/Exhibit                   Description                      Pages   Size 

 1: 424B5       Prospectus Supplement                               HTML   3.27M 

Filed Pursuant to Rule 424 (b)(5)

Registration Nos. 333-134461, 333-134461-01 and 333-134461-04

The certificates will be backed by a pool of residential, subprime mortgage loans. The pool contains both adjustable-rate mortgage loans and fixed-rate mortgage loans.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus supplement. Any representation to the contrary is a criminal offense.

Greenwich Capital Markets, Inc., Deutsche Bank Securities Inc. and Wachovia Capital Markets, LLC as underwriters, will offer the underwritten certificates only after the underwritten certificates have been issued, delivered to and accepted by the underwriters. The underwriters have the right to reject any order. We expect to deliver the offered certificates on or about September 28, 2006 through The Depository Trust Company and upon request through Clearstream Banking Luxembourg or the Euroclear System.

(Joint Lead Managers and Joint Book-Runners)

The date of this Prospectus Supplement is September 22, 2006.

Important notice about the information presented in this

prospectus supplement and the accompanying prospectus

We provide information to you about the offered certificates in two separate documents that progressively provide more detail: (1) the accompanying prospectus, which provides general information, some of which may not apply to your series of certificates, and (2) this prospectus supplement, which describes the specific terms of your series of certificates.

This prospectus supplement does not contain complete information about the offering of the certificates. Additional information is contained in the prospectus. You are urged to read both this prospectus supplement and the prospectus in full. We cannot sell the offered certificates to you unless you have received both this prospectus supplement and the accompanying prospectus.

The prospectus contemplates several different types of securities, some of which are not relevant to this offering. You should rely on the information in this prospectus supplement with respect to the certificates offered hereby.

The depositor has filed with the Securities and Exchange Commission a registration statement (Registration No. 333-134461) under the Securities Act of 1933, as amended, with respect to the certificates offered pursuant to this prospectus supplement. This prospectus supplement and the accompanying prospectus, which form a part of the registration statement, omit certain information contained in such registration statement pursuant to the rules and regulations of the Commission. You may inspect and copy the registration statement at the Public Reference Room at the Commission at Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. and at the Commission’s regional offices at 233 Broadway, New York, New York, 10279 and Citicorp Center, 500 West Madison Street, Chicago, Illinois 60661. Please call the Commission at 1-800-SEC-0330 for further information on the Public Reference Rooms. In addition, the Commission maintains a site on the World Wide Web containing reports, proxy materials, information statements and other items. The address is http://www.sec.gov.

We include cross-references in this prospectus supplement and the accompanying prospectus to captions in these materials where you can find further related discussions. The following table of contents and the table of contents included in the accompanying prospectus provide the pages on which these captions are located.

i

TABLE OF CONTENTS

ii

iii

Flow of Funds Diagram – REMIC Trust (Interest)

iv

Flow of Funds Diagram – REMIC Trust (Principal)

v

Flow of Funds Diagram – Supplemental Interest

vi

Summary

This summary highlights selected information from this prospectus supplement and does not contain all of the information that you need to consider in making your investment decision. To understand all of the terms of the offering of the certificates, read carefully this entire prospectus supplement and the accompanying prospectus.

This summary provides an overview of certain calculations, cash flow priorities and other information to aid your understanding and is qualified by the full description of these calculations, cash flow priorities and other information in this prospectus supplement and the accompanying prospectus.

Issuing Entity

NovaStar Mortgage Funding Trust, Series 2006-5.

Sponsor, Originator and Servicer

NovaStar Mortgage, Inc., a Virginia corporation.

Depositor

NovaStar Mortgage Funding Corporation, a Delaware corporation.

Trustee and Successor Servicer

Deutsche Bank National Trust Company, a national banking association organized under the laws of the United States.

Custodian

U.S. Bank National Association.

NovaStar Financial, Inc.

NovaStar Financial, Inc., a Maryland corporation.

Hedge Providers

Deutsche Bank AG, The Royal Bank of Scotland plc and Wachovia Bank, National Association.

Mortgage Insurance Providers

Mortgage Guaranty Insurance Corporation PMI Mortgage Insurance Co. Radian Guaranty, Inc.

Closing Date

On or about September 28, 2006.

Description of the Certificates

The issuing entity will issue Home Equity Loan Asset-Backed Certificates, Series 2006-5, in seventeen classes of Class A and Mezzanine Certificates: five classes of senior Class A Certificates, Class A-1A, Class A-2A, Class A-2B, Class A-2C and Class A-2D; and twelve classes of subordinated, Mezzanine Certificates, Class M-1, Class M-2, Class M-3, Class M-4, Class M-5, Class M-6, Class M-7, Class M-8, Class M-9, Class M-10, Class M-11 and Class M-12. The Class A Certificates are senior to the Mezzanine Certificates. The Mezzanine Certificates with lower numerical class designations are senior to those Mezzanine Certificates with higher numerical class designations. The initial certificate balance of each class of offered certificates is shown on the front cover (subject to a variance of 10%).

The Class A, Class M-1, Class M-2, Class M-3, Class M-4, Class M-5, Class M-6, Class M-7, Class M-8, Class M-9 and Class M-10 Certificates are collectively referred to herein as the “offered certificates”. Only the offered certificates are being offered by this prospectus supplement and the accompanying prospectus. The Class M-10 Certificates are not being purchased by the underwriters. The Class A, Class M-1, Class M-2, Class M-3, Class M-4, Class M-5, Class M-6, Class M-7, Class M-8 and Class M-9 Certificates are collectively referred to herein as the “underwritten certificates.” The Class A-1A Certificates are referred to herein as the “Group I Certificates” and the Class A-2A, Class A-2B, Class A-2C and Class A-2D Certificates are referred to herein as the “Group II Certificates.”

S-1

The issuing entity will also issue six other classes of certificates which are not being offered by this prospectus supplement, including (a) a senior interest-only class of certificates, Class I (that is senior to the Class A and Mezzanine Certificates), (b) two mezzanine classes of certificates, the Class M-11 and Class M-12 Certificates, (c) two subordinated classes of certificates, Class CA and Class CB (together the “Class C Certificates”), which (i) entitle the holder to receive payments from excess cashflow, (ii) entitle the holder to receive all collected prepayment penalties and (iii) represent the overcollateralization amount and (d) a REMIC residual interest.

The Issuing Entity

The certificates will represent ownership interests in the issuing entity, which will consist primarily of:

The Mortgage Loans

The initial mortgage loans will consist of 4,526 loans, with an aggregate principal balance of $748,606,624. The Group I initial mortgage loans will consist of 3,066 loans, with an aggregate principal balance of $453,094,304. The Group II initial mortgage loans will consist of 1,460 loans with an aggregate principal balance of $295,512,320.

The initial mortgage loans have the following approximate characteristics as of the cut-off date:

Adjustable-rate mortgage loans: 81.02%

Fixed-rate mortgage loans: 18.98%

Interest only mortgage loans: 12.11%

Second lien mortgage loans: 4.68%

Range of mortgage rates: 5.990% to 13.700%

Weighted average mortgage rate: 9.363%

Range of gross margins of the adjustable-rate mortgage loans: 3.450% to 8.000%

Weighted average gross margin of the adjustable-rate mortgage loans: 5.811%

Range of minimum mortgage rates of the adjustable-rate mortgage loans: 5.800% to 13.700%

Weighted average minimum mortgage rate of the adjustable-rate mortgage loans: 9.300%

Range of maximum mortgage rates of the adjustable-rate mortgage loans: 12.850% to 20.700%

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Weighted average maximum mortgage rate of the adjustable-rate mortgage loans: 16.300%

Weighted average next adjustment date of the adjustable-rate mortgage loans: August 2008

Weighted average remaining term to stated maturity: 350 months

Range of principal balances as of the cut-off date: $14,600 to $1,500,000

Average principal balance as of the cut-off date: $165,401

Range of original loan- to-value ratios(1): 10.53% to 100.00%

Weighted average original loan-to-value ratio(1): 83.01%

Geographic concentrations in excess of 5%:

The initial Group I Mortgage Loans have an aggregate principal balance of approximately $453,094,304 as of the cut-off date and have the following approximate characteristics as of the cut-off date:

Adjustable-rate Group I Mortgage Loans: 77.73%

Fixed-rate Group I Mortgage Loans: 22.27%

Interest-only Group I Mortgage Loans: 8.63%

Second lien Group I Mortgage Loans: 1.88%

Range of mortgage rates: 6.300% to 13.100%

Weighted average mortgage rate: 9.328%

Range of gross margins of the adjustable-rate Group I Mortgage Loans: 3.450% to 8.000%

Weighted average gross margin of the adjustable-rate Group I Mortgage Loans: 5.927%

Range of minimum mortgage rates of the adjustable-rate Group I Mortgage Loans: 6.300% to 13.100%

Weighted average minimum mortgage rate of the adjustable-rate Group I Mortgage Loans: 9.367%

Range of maximum mortgage rates of the adjustable-rate Group I Mortgage Loans: 13.300% to 20.100%

Weighted average maximum mortgage rate of the adjustable-rate Group I Mortgage Loans: 16.367%

Weighted average next adjustment date of the adjustable-rate Group I Mortgage Loans: August 2008

Weighted average remaining term to stated maturity: 355 months

Range of principal balances as of the cut-off date: $14,980 to $519,701

Average principal balance as of the cut-off date: $147,780

Range of original loan- to-value ratios(1): 10.53% to 100.00%

Weighted average original loan-to-value ratio(1): 81.24%

Geographic concentrations in excess of 5%:

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The initial Group II Mortgage Loans have an aggregate principal balance of approximately $295,512,320 as of the cut-off date and have the following approximate characteristics as of the cut-off date:

Adjustable-rate Group II Mortgage Loans: 86.05%

Fixed-rate Group II Mortgage Loans: 13.95%

Interest-only Group II Mortgage Loans: 17.44%

Second lien Group II Mortgage Loans: 8.98%

Range of mortgage rates: 5.990% to 13.700%

Weighted average mortgage rate: 9.417%

Range of gross margins of the adjustable-rate Group II Mortgage Loans: 4.250% to 7.990%

Weighted average gross margin of the adjustable-rate Group II Mortgage Loans: 5.650%

Range of minimum mortgage rates of the adjustable-rate Group II Mortgage Loans: 5.800% to 13.700%

Weighted average minimum mortgage rate of the adjustable-rate Group II Mortgage Loans: 9.207%

Range of maximum mortgage rates of the adjustable-rate Group II Mortgage Loans: 12.850% to 20.700%

Weighted average maximum mortgage rate of the adjustable-rate Group II Mortgage Loans: 16.207%

Weighted average next adjustment date of the adjustable-rate Group II Mortgage Loans: August 2008

Weighted average remaining term to stated maturity: 343 months

Range of principal balances as of the cut-off date: $14,600 to $1,500,000

Average principal balance as of the cut-off date: $202,406

Range of original loan- to-value ratios(1): 39.02% to 100.00%

Weighted average original loan-to-value ratio(1): 85.71%

Geographic concentrations in excess of 5%:

For additional information on the Mortgage Loans, see “Description of the Mortgage Pool” in this prospectus supplement.

Pre-Funding Feature

On the closing date, the depositor will deposit approximately $551,393,376 into a pre-funding account which will be used from time to time before the end of the pre-funding period to acquire subsequent mortgage loans to include in the mortgage pool, approximately $333,010,003 of which will be used to acquire subsequent mortgage loans for Group I and approximately $218,383,373 of which will be used to acquire subsequent mortgage loans for Group II.

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The pre-funding period commences on the closing date and ends on the earlier of (i) the date on which the amount on deposit in the pre-funding account is less than $10,000 and (ii) October 31, 2006.

Purchases of subsequent mortgage loans are subject to the same criteria as the initial mortgage loans and additional restrictions related to the composition of the related loan group following the acquisition of the subsequent mortgage loans, as described in this prospectus supplement.

To the extent that the issuing entity does not fully use amounts on deposit in the pre-funding account to purchase subsequent mortgage loans by the end of the pre-funding period, the issuing entity will apply the remaining amounts as a prepayment of principal to the related classes of certificates on the payment date immediately following the end of the pre-funding period. Although no assurance is possible, we do not anticipate that a material amount of principal will be prepaid on the notes from amounts in the pre-funding account.

If required by the rating agencies, a interest coverage account will be established and funded on the closing date. Funds so deposited will be used to cover shortfalls in collections of interest due to the pre-funding feature.

Final Scheduled Distribution Date

The final scheduled distribution date for all the certificates is the distribution date in November 2036.

We anticipate that the actual final payment on each class will occur significantly earlier than the indicated date.

Book-Entry Format

The Class A and Mezzanine Certificates will be issued, maintained and transferred on the book-entry records of The Depository Trust Company. The offered certificates will be offered in registered form, in minimum denominations of $25,000 and integral multiples of $1,000 in excess thereof, with a minimum investment of $100,000.

Distributions on the Certificates

Distribution Dates

Payments on the certificates will be made on the 25th day of each month or, if that day is not a business day, on the next business day, commencing on October 25, 2006.

Record Dates

The trustee will make payments to the certificateholders of record as of the related record date. The record date for a distribution date (i) for certificates in book-entry form is the close of business on the last business day prior to that distribution date and (ii) for certificates in definitive form is the close of business on the last business day of the month immediately preceding that distributions date.

Distribution priorities

On each distribution date, the available funds representing interest collections on the mortgage pool remaining after paying the administrative fees will be distributed to pay interest on the certificates, up to their required amount, in the following order:

S-5

Interest distributable to each group of certificates will be paid pro-rata among the classes of certificates in each group, based on their respective interest entitlements for the related date.

On each distribution date, the available funds representing principal collections on the Group I and Group II mortgage loans, including any amounts required to be funded from excess cashflow to the extent necessary to maintain or restore the overcollateralization amount to the required overcollateralization amount, will be distributed to pay principal on the certificates, up to their required amounts, in the following order:

In the event that available funds from one group of mortgage loans are insufficient to make a required payment of principal to its related Class A Certificates, then any available funds representing principal and excess cashflow from the other group remaining after payment of principal to its related Class A Certificateholders may be used for such required payment to the extent described in this prospectus supplement.

We refer you to “Description of the Certificates” herein for additional information.

Interest

Interest on the certificates will accrue at the applicable pass-through rate for that class of certificates during the related accrual period. For each distribution date, the accrual period will run from the prior distribution date to and including the day preceding the applicable distribution date, except that for the first distribution date, interest begins to accrue on the closing date.

Interest will be calculated on the basis of the actual number of days elapsed in the accrual period and a year consisting of 360 days.

Pass-Through Rates

The pass-through rate for each class of Class A and Mezzanine Certificates and any distribution date is the lesser of: (1) the formula rate for that class and distribution date and (2) the available funds cap rate for that class and distribution date.

The formula rate for each class of Class A and Mezzanine Certificates is the lesser of (1) the LIBOR Rate and (2) the applicable Maximum Rate, if any. The “Maximum Rate” for the Class A-1A Certificates is 10% and for the Class A-2B, Class A-2C, Class A-2D Certificates and the Mezzanine Certificates is 11%. There is no Maximum Rate for the Class A-2A Certificates.

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The LIBOR Rate for each class of certificates is as follows:

If the certificates remain outstanding after the first distribution date on which the clean-up call could be exercised, which is the distribution date on which the aggregate principal balance of the mortgage loans is equal to or less than 10% of the sum of the aggregate principal balance of the initial mortgage loans as of the cut-off date, plus the original pre-funding amount, then the LIBOR Rate on each class of certificates will increase to the following rates:

Principal

On each distribution date, the certificateholders are scheduled to receive their share of an amount of principal generally equal to the sum of:

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The Mezzanine Certificates are unlikely to receive any principal payments until, at the earliest, the distribution date occurring in October 2009 (unless the aggregate principal balance of the Class A Certificates has been reduced to zero).

After the crossover date, principal will be distributed to the certificateholders of each class in accordance with a distribution priority which is designed to maintain a specified level of support below each class. This support consists of the certificates that are more subordinated to that class, overcollateralization, which is subordinated to all classes of Class A and Mezzanine Certificates, and excess interest from the mortgage loans.

Credit Enhancement

The credit enhancement provided to the holders of the Class A and Mezzanine Certificates will consist of subordination, overcollateralization, excess cashflow, mortgage insurance and limited cross-collateralization.

Subordination

The rights of the holders of the Class A Certificates to receive distributions are subordinated, to the extent described in this prospectus supplement, to the rights of the holders of the Class I Certificates.

The rights of the holders of the Mezzanine Certificates to receive distributions will be subordinated, to the extent described in this prospectus supplement, to the rights of the holders of the Class I Certificates and the Class A Certificates.

The rights of the holders of the Mezzanine Certificates with higher numerical class designations to receive distributions will be subordinated, to the extent described in this prospectus supplement, to the rights of the holders of the Mezzanine Certificates with lower numerical class designations.

Subordination is intended to enhance the likelihood of regular distributions on the more senior certificates and to afford those certificates protection against losses.

Overcollateralization

The issuing entity will have an initial level of overcollateralization of approximately 0.55% of the sum of (i) the aggregate principal balance of the initial mortgage loans as of the cut-off date and (ii) the original pre-funding amount. On any distribution date after the closing date, the issuing entity is required to maintain or restore overcollateralization to the required level as described herein.

The overcollateralization is available for the benefit of all classes of Class A, Mezzanine and Class I Certificates.

Excess Cashflow

Excess cashflow (which includes excess interest from the mortgage loans) will be paid as follows:

(i) to the holders of the class or classes of Class A and Mezzanine Certificates then entitled to receive distributions in respect of principal, in an amount equal to any Extra Principal Distribution Amount, distributable to such holders in the same order of priority as the Group I Principal Distribution Amount and the Group II Principal Distribution Amount as described under “Description of the Certificates—Principal Allocations” herein;

(ii) to the supplemental interest trust to be distributed as described under “Description of the Certificates — Supplemental Interest Trust” herein; and

(iii) any remaining amounts to the holders of the residual certificates, as provided in the pooling and servicing agreement.

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Mortgage Insurance

Approximately 55.47% of the initial mortgage loans by cut-off date principal balance are covered by a mortgage insurance policy issued by Mortgage Guaranty Insurance Corporation (“MGIC”) and approximately 0.10% of the initial mortgage loans by cut-off date principal balance are covered by a mortgage insurance policy issued by PMI Mortgage Insurance Co. (“PMI”). The sponsor expects that certain of the subsequent mortgage loans may also be covered by a mortgage insurance policy issued by Radian Guaranty Inc. (“Radian”). Approximately 39.68% of the initial mortgage loans by cut-off date principal balance have a combined original loan-to-value ratio in excess of 60% and are not insured. Additionally, approximately 4.75% of the initial mortgage loans by cut-off date principal balance have a combined original loan-to-value ratio less than or equal to 60% and are not insured.

The mortgage insurance policies provided by MGIC, PMI and Radian insure a portion of the loss on the related mortgage loan to a level where the uninsured exposure of the mortgage loan is reduced to an amount equal to 55%, 51% and 50%, respectively, of the original loan-to-value ratio of such mortgage loan, as more fully described in the related mortgage insurance policy.

Limited Cross-Collateralization

The mortgage loans have been divided into two subpools, designated as the “Group I mortgage loans” and the “Group II mortgage loans.” The Group I mortgage loans primarily support the Group I Certificates. The Group II mortgage loans primarily support the Group II Certificates. Distributions of collections from both groups of mortgage loans will be used to pay interest and principal to the Mezzanine Certificates, the Class I Certificates and the Class C Certificates. To the extent that available funds representing interest from one group of mortgage loans are insufficient to make a required payment of interest to its related Class A Certificates, then any remaining available funds representing interest from the other group, after payment of interest to its related Class A Certificates, may be used to make such required payment as described in this prospectus supplement. Likewise, remaining funds representing principal from a group after making the required distribution of principal to its related Class A Certificates may be used to make required principal distributions on the other classes of Class A Certificates as described in this prospectus supplement.

Interest Rate Hedge Agreements

By the end of the pre-funding period, the supplemental interest trust will enter into twelve interest rate cap agreements with the Hedge Providers. Under each interest rate cap agreement, on each distribution date after the supplemental interest trust has entered into that interest rate cap agreement until that interest rate cap agreement is retired, the supplemental interest trust will make a payment equal to a fixed rate on a notional amount to the hedge provider, and the supplemental interest trust will receive a payment from the hedge provider equal to the product of (a) the excess, if any, of one-month LIBOR over the related strike price, (b) the actual number of days elapsed in the related accrual period divided by 360 and (c) the applicable notional amount.

On each distribution date amounts received by the supplemental interest trust in respect of the interest rate hedge agreements will be available to restore the overcollateralization to the required level and to pay any available funds cap shortfall.

See “Description of the Certificates – Summary of Interest Rate Hedge Agreements” in this prospectus supplement.

Allocation of Losses

All realized losses on the mortgage loans will be allocated on each distribution date, sequentially as follows: first to the excess cash flow, second in reduction of the overcollateralization amount and third to the reduction of the principal balance of the classes of Mezzanine Certificates, in inverse order of priority.

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See “Risk Factors—Potential inadequacy of credit enhancement” and “Description of the Certificates” in this prospectus supplement.

Removal and Substitution of Mortgage Loans

Upon the earlier of discovery or receipt of notice by the depositor of a breach of any of the representations and warranties contained in the mortgage loan purchase agreement which materially and adversely affects the value of the related mortgage loan or the interests of the certificateholders, the sponsor will have a period of sixty days to effect a cure. If the breach is not cured within the sixty-day period, the sponsor will, either (a) substitute for such mortgage loan a Qualified Substitute Mortgage Loan or (b) purchase such mortgage loan from the issuing entity. See “Description of the Certificates— Assignment of Mortgage Loans” in this prospectus supplement.

The custodian on behalf of the trustee shall review each mortgage loan file and if during the process of reviewing the mortgage files, finds any document constituting a part of a mortgage file which is not executed, has not been received, is unrelated to the mortgage loan, or does not conform to the requirements in the pooling and servicing agreement, the custodian will promptly so notify the sponsor and the trustee in writing with details thereof. If, within 45 days after the custodian’s notice of such defect, the sponsor has not caused the defect to be remedied and the defect materially and adversely affects the value of the related mortgage loan or the interest of the certificateholders in the related mortgage loan, the sponsor will either (a) substitute such mortgage loan with a qualified substitute mortgage loan or (b) purchase such mortgage loan from the issuing entity. See “Description of the Certificates—Assignment of Mortgage Loans” in this prospectus supplement.

Advancing

The servicer will be required to advance amounts representing delinquent payments of scheduled principal and interest, other than balloon payments, as well as expenses to preserve and to protect the value of collateral, in each case to the extent considered recoverable. Reimbursement of these advances is senior to payments to the certificateholders.

Servicing Fee

The servicer will receive a servicing fee on each distribution date in an amount equal to interest at the servicing fee rate for a mortgage loan on the outstanding principal balance of that mortgage loan. The servicing fee rate with respect to each mortgage loan will be 0.50% per annum. The servicing fee will be paid out of available funds on each distribution date prior to any payments on the certificates.

Clean-up Call

The servicer or its designee has a clean-up call option which, if exercised, would result in early retirement of the certificates on any distribution date on or after the date on which the aggregate principal balance of the mortgage loans has declined to 10% or less of the sum of (i) the aggregate principal balance of the initial mortgage loans as of the cut-off date and (ii) the original pre-funding amount. See “Description of the Certificates—Optional Purchase Pledge” in this prospectus supplement.

Federal Income Tax Consequences

Elections will be made to treat certain portions of the issuing entity as one or more REMICs for federal income tax purposes. The Class A and Mezzanine Certificates represent ownership of “regular interests” in a REMIC, along with certain contractual rights and obligations as described herein. Certificateholders will be required to include interest on the certificates in income in accordance with an accrual method of accounting.

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Calculation of LIBOR

The London interbank offered rate (“LIBOR”) with respect to any distribution date will be determined by the trustee (provided that, in the case of each interest rate hedge agreement, it will be determined by the applicable Hedge Provider) and will equal the posted rate for United States dollar deposits for one month that appeared on Telerate Page 3750 as of 11:00 a.m., London time, on the second LIBOR Business Day prior to the immediately preceding distribution date (or, in the case of the first distribution date, the second LIBOR business day preceding the closing date). If no such posted rate appears, LIBOR will be determined on the basis of the offered quotation of the reference banks (which shall be four major banks that are engaged in transactions in the London interbank market) identified in the pooling and servicing agreement for United States dollar deposits for one month to prime banks in the London interbank market as of 11:00 a.m., London time, on such date. See “Description of the Certificates–Calculation of One-Month LIBOR” in this prospectus supplement.

ERISA Considerations

After the end of the pre-funding period, the underwritten certificates may be purchased by ERISA plans provided that certain conditions are satisfied. A fiduciary of any ERISA plan that is considering a purchase of underwritten certificates should, among other things, consult with experienced legal counsel in determining whether all required conditions for purchase have been satisfied.

Legal Investment

The Class A and Mezzanine Certificates will not constitute “mortgage related securities” for purposes of SMMEA. Institutions whose investment activities are subject to legal investment laws and regulations or to review by certain regulatory authorities may be subject to restrictions on investment in the certificates.

Ratings

The offered certificates must receive at least the following ratings from Standard & Poor’s, a division of The McGraw-Hill Companies, Inc. and Moody’s Investors Service, Inc. in order to be issued:

A security rating is not a recommendation to buy, sell or hold securities and may be subject to revision or withdrawal at any time by the assigning rating agency. A security rating does not address the frequency of principal prepayments or the collection thereof, the corresponding effect on yield to investors or the payment of any shortfall resulting from the application of the available funds cap rate.

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Risk Factors

Prospective investors should consider, among other things, the items discussed under “Risk Factors” in the prospectus and the following factors in connection with the purchase of the offered certificates:

Most of the loans in the mortgage pool were underwritten to non-conforming standards and may experience higher delinquency and loss rates

The underwriting standards for the mortgage loans are described under “Description of the Mortgage Pool—Underwriting Standards for the Mortgage Loans,” and are primarily intended to provide single family mortgage loans for non-conforming credits which do not satisfy the requirements of typical “A” credit borrowers. A “non-conforming credit” means a borrower whose mortgage loan would be ineligible for direct purchase by Fannie Mae due to credit characteristics that do not meet the Fannie Mae underwriting guidelines, for reasons such as creditworthiness and repayment ability. These mortgagors may have a record of credit write-offs, outstanding judgments, prior bankruptcies and other negative credit items. Accordingly, mortgage loans underwritten to non-conforming credit underwriting standards or to standards that do not meet the requirements for typical “A” credit borrowers are likely to experience rates of delinquency, foreclosure and loss that are higher, and may be substantially higher, than mortgage loans originated in accordance with the Fannie Mae underwriting guidelines or to typical “A” credit borrowers.

The mortgage pool contains high original loan-to-value loans which could cause losses to holders of the Class A and Mezzanine Certificates

Approximately 57.54% of the Group I initial mortgage loans and approximately 52.54% of the Group II initial mortgage loans (in each case, by aggregate principal balance of the related loan group as of the cut-off date), respectively, with an original loan-to-value ratio in excess of 60% will be covered by a lender-paid mortgage insurance policy (references to loan-to-value ratios in this prospectus supplement are references to combined loan-to-value ratios with respect to second-lien mortgage loans).

Approximately 50.49% and 49.41% of the Group I initial mortgage loans and Group II initial mortgage loans (in each case, by aggregate principal balance of the related loan group as of the cut-off date), respectively, have original loan-to-value ratios in excess of 80%. Mortgage loans with a loan-to-value ratio in excess of 80% will be affected to a greater extent than mortgage loans with a loan-to-value ratio equal to or less than 80% by any decline in the value of the related property securing such mortgage loans. We can give no assurance that values of the mortgaged properties have remained or will remain at their levels on the dates of origination of the related mortgage loans. If the residential real estate market should experience an overall decline in property values such that the outstanding balances of the mortgage loans, and any secondary financing on the mortgaged properties, become equal to or greater than the value of the mortgaged properties, the actual rates of delinquencies, foreclosures and losses could be higher than those now generally experienced in the mortgage lending industry.

Potential inadequacy of credit enhancement

The overcollateralization, subordination, limited cross-collateralization, loss allocation, excess cashflow and primary mortgage insurance features described in this prospectus supplement are intended to enhance the likelihood that the certificateholders will receive regular payments of interest and principal, but such credit enhancements are limited in nature and may be insufficient to cover all losses on the mortgage loans. The credit enhancement includes the subordination of excess interest to payments of interest and principal on the Class I Certificates, Class A Certificates and Mezzanine Certificates.

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Further, while excess interest, if any, will be available to maintain or restore overcollateralization, there may not be sufficient funds available to make the required distribution of interest on the certificates. Such a shortfall would reduce the interest distributed to the Class M-12, Class M-11, Class M-10, Class M-9, Class M-8, Class M-7, Class M-6, Class M-5, Class M-4, Class M-3, Class M-2, Class M-1, Class A Certificates, concurrently, and the Class I Certificates, in that order.

Although primary mortgage insurance policies have been acquired on behalf of the issuing entity from the mortgage insurance providers, such coverage will provide only limited protection against losses on defaulted covered mortgage loans. Unlike a financial guaranty policy, coverage under the mortgage insurance policies is subject to certain limitations and exclusions including, for example, losses resulting from fraud and physical damage to the mortgaged property and to certain conditions precedent to payment, such as notices and reports. As a result, coverage may be denied or limited on covered mortgage loans. In addition, since the amount of coverage depends on the loan-to-value ratio at the time of origination of the covered mortgage loan, a decline in the value of a mortgaged property will not result in increased coverage, and the issuing entity may still suffer a loss on a covered mortgage loan. The mortgage insurance providers also may affect the timing and conduct of foreclosure proceedings and other servicing decisions regarding defaulted mortgage loans covered by the policy.

Pledge of servicing rights

The servicing rights with respect to the mortgage loans may be pledged by the servicer to a third-party unrelated to the servicer. The pledgee of the servicing rights has the right, at its discretion, to transfer servicing responsibilities to another entity upon the occurrence of a servicer event of default under the pooling and servicing agreement, or upon a default of the servicer or its affiliates under the lending facility between the servicer and the pledgee of the servicing rights, if the pledgee of the servicing rights certifies to the trustee that such entity is a qualified servicer pursuant to the requirements of the pooling and servicing agreement, and such transfer does not cause any of the rating agencies to withdraw, downgrade or qualify the ratings they have assigned to any of the certificates. It is possible that the servicing responsibilities with respect to some or all of the mortgage loans may be transferred from the servicer to a third party in the future, which may or may not occur within a short time following the closing date. At any time that servicing responsibilities are transferred as described above, the mortgage loans may experience an increase in delinquencies and default during the transitions of servicing responsibilities. In addition, in the event of a servicer default under the pooling and servicing agreement, the pledgee of the servicing rights will have the right to require the replacement of the servicer, even if the certificateholders have waived the related default.

The mortgage pool includes balloon loans, which can create increased risk of losses

Approximately 4.45% and 8.65% of the Group I initial and the Group II initial mortgage loans (in each case, by aggregate principal balance of the related loan group as of the cut-off date), respectively, are fixed-rate “balloon loans”; that is, they require monthly payments of principal based on 30-year amortization schedules and have scheduled maturity dates of 15 years from the due date of the first monthly payment or they require monthly payments of principal based on 40-year amortization schedules and have scheduled maturity dates of 30 years from the due date of the first monthly payment, in each case leaving a substantial portion of the original principal amount due and payable on the respective scheduled maturity date; or they are adjustable rate “balloon loans”; that is, they have interest rates that are fixed for two, three or five years and then the interest rates float for twenty-eight, twenty-seven or twenty-five years, respectively, and they require monthly payments of principal based on 40-year amortization schedules and have scheduled maturity dates of 30 years from the due date of the first monthly payment. The balloon loans entail a greater degree of risk for prospective investors because the ability of a mortgagor to make a balloon payment typically will depend upon the mortgagor’s ability

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either to refinance the related balloon loan or to sell the related mortgaged property. The mortgagor’s ability to sell or refinance will be affected by a number of factors, including the level of prevailing mortgage rates at the time of sale or refinancing, the mortgagor’s equity in the related mortgaged property, the financial condition and credit profile of the mortgagor, applicable tax laws and general economic conditions. No person is obligated to refinance any balloon loan.

The mortgage pool includes mortgage loans secured by second-liens on the related mortgaged property

Approximately 1.88% of the Group I initial mortgage loans and approximately 8.98% of the Group II initial mortgage loans (by aggregate principal balance as of the cut-off date) are secured by second-liens on the related mortgaged properties. The proceeds from any liquidation, insurance or condemnation proceedings will be available to satisfy the outstanding balance of such mortgage loans only to the extent that the claims of the related senior mortgages have been satisfied in full, including any related foreclosure costs. In circumstances when it has been determined to be uneconomical to foreclose on the mortgaged property, the servicer may write off the entire balance of such second-lien mortgage loan as a bad debt. The foregoing considerations will be particularly applicable to mortgage loans secured by second-liens that have high loan-to-value ratios because it is comparatively more likely that the servicer would determine foreclosure to be uneconomical in the case of such mortgage loans. The rate of default of second-lien mortgage loans may be greater than that of mortgage loans secured by first-liens on comparable properties.

An overall decline in the residential real estate markets could adversely affect the values of the mortgaged properties and cause the outstanding principal balances of the second-lien mortgage loans, together with the senior mortgage loans secured by the same mortgaged properties, to equal or exceed the value of the mortgaged properties. This type of a decline would adversely affect the position of a second mortgagee before having the same effect on the related first mortgagee. A rise in interest rates over a period of time and the general condition of a mortgaged property as well as other factors may have the effect of reducing the value of the mortgaged property from the appraised value at the time the mortgage loan was originated. If there is a reduction in value of the mortgaged property, the ratio of the amount of the mortgage loan to the value of the mortgaged property may increase over what it was at the time the mortgage loan was originated. This type of increase may reduce the likelihood of liquidation or other proceeds being sufficient to satisfy the second-lien mortgage loan after satisfaction of any senior liens.

The prepayment experience of the second lien loans may differ from that of the first lien loans. Second lien mortgage loans often are not viewed as permanent financing and may be more likely to be prepaid. However, the smaller monthly payment relative to that of a first lien mortgage loan may reduce the perceived benefits of refinancing. Changes in the tax laws governing deductibility of mortgage interest are likely to have a greater effect on second lien loans than on first lien loans.

The mortgage pool includes interest-only mortgage loans, which may have an increased risk of loss

Approximately 8.63% and 17.44% of the Group I initial and Group II initial mortgage loans (by aggregate principal balance of the related loan group as of the cut-off date), respectively, do not provide for any required payments of principal during the first five or ten years of their term. These loans are sometimes referred to as interest only loans. Interest only loans may have risks and payment characteristics that are not present with fully amortizing mortgage loans, including the following:

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Seasoned Mortgage Loans

Up to 5% by aggregate principal balance of the Mortgage Loans may be seasoned more than 12 months. These mortgage loans were included in prior securitization trusts of the sponsor, which recently have had their “clean-up calls.” Such mortgage loans were originated in accordance with the originator’s underwriting guidelines in place at the time of their origination. Certain of the borrowers on these mortgage loans may be in or may have emerged recently from bankruptcy proceedings, although any borrowers in bankruptcy are current under their respective bankruptcy plans. The prepayment and default experience on these well seasoned mortgage loans may differ from that on the other mortgage loans, either as a result of differing underwriting guidelines, or simply the passage of time, during which the borrower’s situation and/or needs may have changed

The mortgage loans have geographic concentrations which could cause losses to the holders if certain events occur in such regions

Approximately 21.93%, 7.11% and 6.14% of the Group I initial mortgage loans (by aggregate principal balance of the Group I initial mortgage loans as of the cut-off date) are secured by properties located in Florida, California and Maryland, respectively. Approximately 25.54%, 16.00% and 6.91% of the Group II initial mortgage loans (by aggregate principal balance of the Group II initial mortgage loans as of the cut-off date) are secured by properties located in Florida, California and Maryland, respectively. In the event any of these states experiences a decline in real estate values, losses on the mortgage loans may be greater than otherwise would be the case. Such mortgage loans may be subject to prepayment or loss, both of which could affect the yield on the Class A and Mezzanine Certificates.

The final pool of mortgage loans will include mortgage loans which will differ from the pool of initial mortgage loans described in this prospectus supplement

Subsequent mortgage loans acquired by the issuing entity as a result of the pre-funding feature may have characteristics different from those of the initial mortgage loans. However, each subsequent mortgage loan must satisfy the eligibility criteria referred to under the “Description of the Mortgage Pool—Conveyance of Subsequent Mortgage Loans and the Pre-Funding Account” at the time of its conveyance to the issuing entity and must be underwritten in accordance with the criteria described

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under “Description of the Mortgage Pool—Underwriting Standards for the Mortgage Loans” herein. The statistical information presented in this prospectus supplement under “Description of the Mortgage Pool” describes a pool of mortgage loans consisting in the aggregate of the initial mortgage loans to be transferred to the trust on the closing date.

The pre-funding feature could result in a significant prepayment on the Class A and Mezzanine Certificates at the end of the pre-funding period

If funds in the pre-funding account allocable to a Group of mortgage loans are not fully applied to the purchase of subsequent mortgage loans by the end of the pre-funding period, the related remaining funds will be used to make a principal prepayment on the Group I Certificates (to the extent the unapplied funds relate to the Group I mortgage loans), the Group II Certificates (to the extent the unapplied funds relate to the Group II mortgage loans) and the remaining funds for both Groups, to the Mezzanine Certificates. No assurances can be given that there will not be such a payment.

The rate and timing of principal prepayments on the mortgage loans could adversely affect the yield on the Class A and Mezzanine Certificates

The rate and timing of principal payments on the certificates will depend on the rate and timing of principal payments (including prepayments, defaults, liquidations, purchases of the mortgage loans due to a breach of a representation or warranty and the servicer’s limited right to purchase delinquent mortgage loans) on the mortgage loans. Accordingly, the certificates are subject to inherent cash-flow uncertainties because the mortgage loans may be prepaid at any time. The Group I Certificates will primarily bear the prepayment risk of the Group I mortgage loans, the Group II Certificates will primarily bear the prepayment risk of the Group II mortgage loans and the Mezzanine Certificates will bear the prepayment risk of both Groups of mortgage loans. Generally, when prevailing interest rates increase, prepayment rates on mortgage loans tend to decrease, resulting in a slower return of principal to investors at a time when reinvestment at such higher prevailing rates would be desirable. Conversely, when prevailing interest rates decline, prepayment rates on mortgage loans tend to increase, resulting in a faster return of principal to investors at a time when reinvestment at comparable yields may not be possible.

Approximately 64.33% and 59.51% of the Group I initial mortgage loans and Group II initial mortgage loans (in each case, by aggregate principal balance of the related loan group as of the cut-off date), respectively, are subject to prepayment penalties as of the cut-off date. Of the Group I initial mortgage loans that are subject to prepayment penalties, approximately 50.13% are ARM loans and 14.19% are fixed-rate mortgage loans. Of the Group II initial mortgage loans that are subject to prepayment penalties, approximately 52.04% are ARM loans and 7.47% are fixed-rate mortgage loans. Typically, the mortgage loans with a prepayment penalty provision provide for a prepayment penalty for partial prepayments and full prepayments. Prepayment penalties may be payable for a period of time ranging from one to five years from the related origination date. Such prepayment penalties may reduce the rate of prepayment on the mortgage loans. Under certain circumstances, as described in the pooling and servicing agreement, the servicer may waive the payment of any otherwise applicable prepayment penalty. Investors should conduct their own analysis of the effect, if any, that the prepayment penalties, and decisions by the servicer with respect to the waiver thereof, may have on the prepayment performance of the mortgage loans. The depositor makes no representations as to the effect that the prepayment penalties, and decisions by the servicer with respect to the waiver thereof, may have on the prepayment performance of the mortgage loans.

The yields to maturity on the certificates will depend on, among other things, the rate and timing of principal payments (including prepayments, defaults, liquidations, purchases of the mortgage

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loans due to a breach of a representation or warranty and purchases of delinquent loans by the servicer) on the mortgage loans. The yield to maturity on the certificates will also depend on the related certificate interest rate and the purchase price for such certificates.

If the certificates are purchased at a premium and principal payments thereon occur at a rate faster than anticipated at the time of purchase, the investor’s actual yield to maturity will be lower than that assumed at the time of purchase. Conversely, if the certificates are purchased at a discount and principal payments thereon occur at a rate slower than that assumed at the time of purchase, the investor’s actual yield to maturity will be lower than that assumed at the time of purchase. The certificates were structured assuming, among other things, a prepayment rate and corresponding weighted average lives as described herein. The prepayment, yield and other assumptions to be used for pricing purposes for the certificates may vary as determined at the time of sale.

See “Certain Yield and Prepayment Considerations” herein and “Description of the Securities—Weighted Average Life of the Securities” in the prospectus.

Effect of mortgage rates on the pass-through rates

The Class A and Mezzanine Certificates accrue interest at pass-through rates based on a one-month LIBOR index plus a specified margin, but such pass-through rates are subject to an Available Funds Cap Rate. Each pass-through rate, other than that on the Class A-2A Certificates, also is subject to a maximum rate. As a result of the effect of the Available Funds Cap Rate on the pass-through rates on the Class A and Mezzanine Certificates, such certificates may accrue less interest than they would otherwise accrue if their pass-through rates were based solely on the one month LIBOR index plus the specified margin.

Substantially all of the adjustable-rate mortgage loans have mortgage rates that adjust based on a six-month LIBOR index. The adjustable-rate mortgage loans have periodic and maximum limitations on adjustments to their mortgage rates, and will have the first adjustment to their mortgage rates generally two years, three years or five years after the origination thereof. The fixed-rate mortgage loans have mortgage rates that will not adjust.

A variety of factors could limit the pass-through rates and adversely affect the yields to maturity on the Class A and Mezzanine Certificates. Some of these factors are described below.

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mortgage rates on the adjustable-rate mortgage loans and the pass-through rates on the Class A and Mezzanine Certificates may both decline or increase during the same period, but that the pass-through rates on the Class A and Mezzanine Certificates may decline more slowly or increase more rapidly.

If the pass-through rate on any class of Class A and Mezzanine Certificates is limited by the Available Funds Cap Rate on any distribution date, the resulting Available Funds Cap Shortfalls may be recovered by the holders of such class of certificates on such distribution date or future distribution dates, to the extent that on such distribution dates there are Available Funds remaining after certain other payments on the Class A and Mezzanine Certificates and the payment of certain fees and expenses of the trust (including the fixed rate cap payment, or any hedge termination payment owed to a Hedge Provider other than a Defaulted Hedge Termination Payment).

Amounts used to pay such shortfalls on the Class A and Mezzanine Certificates may be supplemented by the Hedge Agreements to the extent described in this prospectus supplement. However, the amount received from the Hedge Provider under the Hedge Agreements may be insufficient to pay the holders of the applicable certificates the full amount of interest which they would have received absent the Available Funds Cap Rate.

Prepayment interest shortfalls and Servicemembers Civil Relief Act (“Relief Act”) shortfalls

When a mortgage loan is prepaid, the mortgagor is charged interest on the amount prepaid only up to the date on which the prepayment is made, rather than for an entire month. This may result in a shortfall in interest collections available for payment on the next distribution date. The servicer is required to cover a portion of such prepayment interest shortfall in interest collections that are attributable to prepayments, but only up to the amount of the servicer’s servicing fee for the related period. The servicer is not required to off-set prepayment interest shortfalls from any interest income or ancillary income otherwise payable to the servicer. In addition, certain shortfalls in interest collections arising from the application of the Relief Act or any state law providing for similar relief will not be covered by the servicer.

On any distribution date, any shortfalls resulting from the application of the Relief Act or any state law providing for similar relief and any prepayment interest shortfalls to the extent not covered by compensating interest paid by the servicer will be allocated, first, to the excess cashflow, and second to the monthly interest distributable amounts with respect to the Class A and Mezzanine Certificates on a pro rata basis based on the respective amounts of interest accrued on such certificates for such distribution date. The holders of the Class A and Mezzanine Certificates will not be entitled to reimbursement for any such interest shortfalls. If these are allocated to the Class A and Mezzanine Certificates, the amount of interest paid to those certificates will be reduced, adversely affecting the yield on your investment.

The assignment of certain of the mortgages in the name of MERS may result in delays and additional costs in commencing, prosecuting and completing foreclosure proceedings

The assignment of certain of the mortgages in the name of Mortgage Electronic Registration Systems, Inc. (“MERS”) is a new practice in the mortgage lending industry. The depositor expects that the servicer or successor servicer will be able to commence foreclosure proceedings on the mortgaged properties, when necessary and appropriate; however, public recording officers and others may have limited, if any, experience with lenders seeking to foreclose mortgages, assignments of which are registered with MERS. Accordingly, delays and additional costs in commencing, prosecuting and completing foreclosure proceedings, defending litigation commenced by third parties and conducting foreclosure sales of the mortgaged properties could result. Those delays and additional costs could in turn delay the distribution of liquidation proceeds to the certificateholders and increase the amount of realized losses on the mortgage loans.

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The Mezzanine Certificates are particularly sensitive to the timing and amount of losses and prepayments on the mortgage loans

The weighted average lives of, and the yields to maturity on, the Mezzanine Certificates, in the increasing order of their numerical class designations, will be progressively more sensitive, in reverse order of such certificates’ distribution priority, to the rate and timing of mortgagor defaults and the severity of ensuing losses on the mortgage loans. If the actual rate and severity of losses on the mortgage loans is higher than those assumed by an investor in those certificates, the actual yield to maturity of such certificates may be lower than the yield anticipated by such holder based on such assumption. The timing of losses on the mortgage loans will also affect an investor’s actual yield to maturity, even if the rate of defaults and severity of losses over the life of the mortgage pool are consistent with an investor’s expectations. In general, the earlier a loss occurs, the greater the effect on an investor’s yield to maturity. Realized losses on the mortgage loans, to the extent they exceed the amount of excess interest and overcollateralization following distributions of principal on the related distribution date, will reduce the Certificate Balances of the classes of Mezzanine Certificates then outstanding in reverse order of their numerical class designation. As a result of such reductions, less interest will accrue on each such class of Mezzanine Certificates than would otherwise be the case. Once a realized loss is allocated to a Mezzanine Certificate, such amounts may be distributable as a result of Subsequent Recoveries on the Mortgage Loans with respect to such written down amount.

Unless the Certificate Balances of the Class A Certificates have been reduced to zero, the Mezzanine Certificates will not be entitled to any principal distributions until, at the earliest, the distribution date in October 2009. Even after the date on which the Mezzanine Certificates are scheduled to begin to amortize they may become locked out of receiving principal distributions during periods in which delinquencies or losses on the mortgage loans exceed certain levels. As a result, the weighted average lives of such certificates will be longer than would otherwise be the case if distributions of principal were allocated among all of the certificates at the same time. As a result of the longer weighted average lives of such certificates, the holders of such certificates have a greater risk of suffering a loss on their investments. Further, because such certificates might not receive any principal if certain delinquency levels occur, it is possible for such certificates, for so long as the Class A Certificates are outstanding, to receive no principal distributions even if no losses have occurred on the mortgage pool.

The structure of the Mezzanine Certificates causes the yield of such classes to be particularly sensitive to changes in the rates of prepayment of the mortgage loans. Because distributions of principal will be made to the holders of such certificates according to the priorities described in this prospectus supplement, the yield to maturity on such classes of certificates will be sensitive to the rates of prepayment on the mortgage loans experienced both before and after the commencement of principal distributions on such classes.

Ratings on the offered certificates are dependent upon the creditworthiness of the Mortgage Insurance Providers

The ratings assigned to the Class A and Mezzanine Certificates by the rating agencies will be based in part on the credit characteristics of the mortgage loans and on ratings assigned to the mortgage insurance providers. Mortgage Guaranty Insurance Corporation insures approximately 57.54% of the Group I initial mortgage loans having lender-paid mortgage insurance policies and approximately 52.29% of the Group II initial mortgage loans (by aggregate principal balance of the related loan group as of the cut-off date) having lender-paid mortgage insurance policies. PMI Mortgage Insurance Co. insures

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approximately 0.25% of the Group II initial mortgage loans (by aggregate principal balance of the related loan group as of the cut-off date) having lender-paid mortgage insurance policies. The Sponsor expects that certain of the subsequent mortgage loans may also have mortgage insurance from PMI Mortgage Insurance Co., Radian Guaranty Inc. or Mortgage Guaranty Insurance Company. Any reduction in the ratings assigned to a mortgage insurance provider by the rating agencies could result in the reduction of the ratings assigned to the offered certificates. This reduction in ratings could adversely affect the liquidity and market value of the offered certificates.

The call of soldiers into active duty could limit the servicer’s ability to collect on the loans

As described in the prospectus, the Relief Act, as amended, and similar state laws limit the rate of interest and the ability of the servicer to foreclose on mortgages if the mortgagor is called into military service after the origination of the loan. A number of reservists and other soldiers have been recently called into active duty and additional soldiers could be called into service in the future. If any of the borrowers enter into active military duty, shortfalls and losses to the issuing entity and the certificates could result, particularly since any interest otherwise due to the certificateholders may be reduced by application of the Relief Act, as described herein.

NovaStar Financial, Inc. is subject to certain class action litigation

Since April 2004, a number of substantially similar class action lawsuits have been filed and consolidated into a single action in the United States District Court for the Western District of Missouri. The consolidated complaint generally alleges that NovaStar Financial, Inc. (the “Company”) made public statements that were misleading for failing to disclose certain regulatory and licensing matters. The plaintiffs purport to have brought this consolidated action on behalf of all persons who purchased the Company’s common stock (and sellers of put options on the Company’s stock) during the period from October 29, 2003 through April 8, 2004. On January 14, 2005 , the Company filed a motion to dismiss this action, and on May 12, 2005, the court denied such motion. The Company believes that these claims are without merit and intends to vigorously defend against them.

Violation of various federal and state laws may result in losses on the mortgage loans

Numerous federal and state consumer protection laws impose requirements applicable to the origination of the contracts, including the Truth in Lending Act, the Federal Trade Commission Act, the Fair Credit Billing Act, the Fair Credit Reporting Act, the Equal Credit Opportunity Act, the Fair Debt Collection Practices Act and the Uniform Consumer Credit Code. In the case of some of these laws, the failure to comply with their provisions may affect the enforceability of the related contract.

In addition to the Home Ownership and Equity Protection Act of 1994 (the “Homeownership Act”), a number of legislative proposals have been introduced at the federal, state and municipal level that are designed to discourage predatory lending practices. Some states have enacted, or may enact, laws or regulations that prohibit inclusion of some provisions in mortgage loans that mortgage rates or origination costs in excess of prescribed levels, and require that borrowers be given certain disclosures prior to the consummation of such mortgage loans. In some cases, state law may impose requirements and restrictions greater than those in the Homeownership Act. The sponsor’s failure to comply with these laws could subject the issuing entity and other assignees of the mortgage loans, to monetary penalties and could result in the borrowers rescinding such mortgage loans whether held by the issuing entity or subsequent holders of the mortgage loans. Lawsuits have been brought in various states making claims against assignees of high cost loans for violations of state law. Named defendants in these cases include numerous participants within the secondary mortgage market, including some securitization trusts.

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Violations of certain provisions of these laws may limit the ability of the servicer to collect all or part of the principal of or interest on the mortgage loans, could subject the issuing entity to damages and administrative enforcement and could result in the borrowers rescinding such mortgage loans against either the issuing entity or subsequent holders of the mortgage loans.

The sponsor will represent that as of the Closing Date or the Subsequent Transfer Date, as applicable, each mortgage loan is in compliance with applicable federal and state laws and regulations. In the event of a breach of such representation, the sponsor will be obligated to cure such breach or repurchase or replace the affected mortgage loan in the manner described under “Description of the Certificates—Assignment of Mortgage Loans” herein.

Use of Proceeds

After deducting the estimated expenses of this offering, as identified on the cover page, the net proceeds to the depositor from the sale of the underwritten certificates are estimated to be $1,264,868,806. The depositor will use the entire net proceeds to pay the sponsor for the initial mortgage loans and to make the initial deposit to the pre-funding account and to any required interest coverage account. The sponsor anticipates that it will use a majority of the proceeds to repay indebtedness and accrued interest under its warehouse lines of credit, including those provided by one or more affiliates of the underwriters. The depositor and the sponsor believe that funds provided by the net proceeds of this offering will be sufficient to accomplish the purposes set forth above.

Description of the Mortgage Pool

The statistical information presented in this prospectus supplement describes the Group I initial mortgage loans and the Group II initial mortgage loans (collectively, the “initial mortgage loans”) that are expected to be included in the trust estate on the closing date. The statistical information does not describe the subsequent mortgage loans which may be acquired through the pre-funding feature using the funds on deposit in the pre-funding account.

The “cut-off date” for the initial mortgage loans is the later of September 1, 2006, and the date of origination of such initial mortgage loan. The cut-off date for any subsequent mortgage loan is the later of (i) the first day of the month in which such subsequent mortgage loan is acquired by the trust and (ii) the date of origination of such subsequent mortgage loan.

It is possible that some of the mortgage loans may be repaid or prepaid in full or in part, or otherwise removed from the mortgage pool prior to the closing date. In this event, other mortgage loans may be transferred to the issuing entity. The depositor believes that the information set forth herein with respect to the mortgage pool and each initial loan group as presently constituted is representative of the characteristics of the mortgage pool and each initial loan group as they will be constituted on the closing date, although some characteristics in the mortgage pool may vary.

All statistical information related to the mortgage loans and contained herein is stated as of September 1, 2006, and all percentages, unless otherwise stated, are by aggregate principal balance.

This prospectus supplement contains information regarding the initial mortgage loans to be included in the pool as of the closing date. These initial mortgage loans consist of mortgage loans originated through September 1, 2006.

Additional subsequent mortgage loans are intended to be purchased by the issuing entity from the sponsor from time to time before the end of the pre-funding period, from remaining funds on

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deposit in the pre-funding account as described below under “—Conveyance of Subsequent Mortgage Loans and the Pre-Funding Account.” The additional subsequent mortgage loans must conform to certain specified characteristics described below under “—Conveyance of Subsequent Mortgage Loans and the Pre-Funding Account.” Although these additional subsequent mortgage loans will have characteristics that differ somewhat from the initial mortgage loans we describe in this prospectus supplement, the depositor does not expect that their characteristics will vary materially from the initial mortgage loans. In addition, all subsequent mortgage loans must conform to the representations and warranties in the pooling and servicing agreement.

The mortgage pool will consist of conventional, monthly payment, first- and second-lien subprime mortgage loans with terms to maturity of not more than 30 years from the date of origination or modification. The mortgage pool will consist of both adjustable-rate mortgage (“ARM”) loans and fixed-rate mortgage loans.

NovaStar Mortgage, Inc., in its capacity as sponsor, will convey the mortgage loans to NovaStar Mortgage Funding Corporation pursuant to a mortgage loan purchase agreement. NovaStar Mortgage Funding Corporation will then convey the mortgage loans to the trust. All of the mortgage loans will be serviced by NovaStar Mortgage, Inc., as the servicer. The sponsor will make various representations and warranties regarding the mortgage loans under the purchase agreement and will have repurchase or substitution obligations if those representations or warranties are breached and such breach has a material adverse impact on the value of the mortgage loan or the certificateholders’ interest therein. The obligations of NovaStar Mortgage, Inc. under the mortgage loan purchase agreement will be guaranteed by an affiliate, NovaStar Financial, Inc. See “Description of the Certificates—Assignment of Mortgage Loans” herein.

The mortgages for certain mortgage loans were or may be, at the sole discretion of the servicer, originally recorded in the name of Mortgage Electronic Registration Systems, Inc. (“MERS”), solely as nominee for the sponsor, and its successors and assigns; furthermore, subsequent assignments of such mortgages were or may be, at the sole discretion of the servicer, registered electronically through the MERS System. For certain other mortgage loans, (i) the mortgage was originally recorded in the name of the sponsor, (ii) record ownership was later assigned to MERS, solely as nominee for the sponsor, and (iii) subsequent assignments of the mortgage were or may be, at the sole discretion of the servicer, registered electronically through the MERS System. For each of such mortgage loans, MERS serves as mortgagee of record on the mortgage solely as a nominee in an administrative capacity on behalf of the trustee, and does not have any beneficial interest in the mortgage loan.

Approximately 50.06% by principal balance of the initial mortgage loans have original loan-to-value ratios in excess of 80%. Approximately 55.56% of the initial mortgage loans have an original loan-to-value ratio in excess of 60% and are covered by a lender-paid primary mortgage insurance policy insuring first losses on the principal balance of each mortgage loan. See “The Originator—Private Mortgage Insurance Policies” herein. The remainder of the initial mortgage loans will either be covered by a borrower-paid mortgage insurance policy or will not be covered by a mortgage insurance policy.

As of the cut-off date, the minimum loan-to-value ratio at origination for the initial mortgage loans was approximately 10.53%, the maximum loan-to-value ratio at origination was approximately 100.00%, and the weighted average loan-to-value ratio at origination was approximately 83.01% (references to loan-to-value ratios in this prospectus supplement are references to combined loan-to-value ratios with respect to second-lien mortgage loans).

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All of the initial mortgage loans will contain a customary “due-on-sale” clause, although the mortgage loans may be assumable if permitted by the servicer under certain circumstances. See “Certain Yield and Prepayment Considerations” herein. Pursuant to the terms of the pooling and servicing agreement, the servicer will be entitled to all late payment charges received on the mortgage loans as additional servicing compensation and such amounts will not be available for distribution on the certificates.

The initial mortgage loans have original terms to stated maturity of not more than 360 months.

Approximately 0.95% of the initial mortgage loans are 30 to 59 days delinquent as of the cut-off date.

Approximately 0.09% of the initial mortgage loans are 60 or more days delinquent as of the cut-off date.

Approximately 95.32% of the initial mortgage loans are secured by a first-lien on the related mortgaged property, and approximately 4.68% of the initial mortgage loans are secured by a second-lien on the related mortgaged property.

Approximately 21.03% of the initial mortgage loans are secured by a first-lien on the related mortgaged property for which a second-lien was originated at the same time as the first-lien.

None of the initial mortgage loans are subject to temporary buydown plans, pursuant to which the monthly payments made by the mortgage during the early years of the loan are less than the scheduled monthly payments thereon.

The due date for substantially all of the initial mortgage loans is the first day of the month.

Of the initial mortgage loans, approximately 81.02% by principal balance are ARM loans and approximately 18.98% are fixed-rate mortgage loans. The mortgage rates on substantially all of the ARM loans adjust semi-annually.

Prepayment Penalties

Of the initial mortgage loans, approximately 62.43% by principal balance are subject to prepayment penalties as of the cut-off date. Of the mortgage loans subject to prepayment penalties, approximately 50.89% are ARM loans, and approximately 11.54% are fixed-rate mortgage loans. The prepayment penalty provisions typically provide for payment of a prepayment penalty for partial prepayments and full prepayments. Prepayments may be payable for a period of time ranging from one to five years from the related origination date. Prepayment penalties received on the mortgage loans will be available for distribution on the Class C Certificates only.

The initial mortgage loans are expected to have the following characteristics as of the cut-off date (the sum in any column may not equal the total indicated due to rounding):

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Geographic Distribution of the Mortgaged Properties of the Initial Mortgage Loans

No more than approximately 0.39% (the highest concentration in a single zip code) of the initial mortgage loans will be secured by mortgaged properties located in Florida in zip code 33411.

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Types of Mortgaged Properties of the Initial Mortgage Loans

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Loan Purpose of the Initial Mortgage Loans

Occupancy Status of the Mortgaged Properties of the Initial Mortgage Loans