During 2002, 2001 and 2000, employees of the Company participated in a 401(k) retirement plan sponsored by the Company. For the years ended December 31, 2002, 2001 and 2000, the Company recorded compensation expense of $1.5 million, $1.7 million and $1.6 million, respectively, related to the plan. In accordance with the plan, the Company is permitted to make its matching contribution with Company stock. On an annual basis, the Company purchases shares with a fair value equal to the Company's matching contribution and deposits the shares in the participant's accounts with the plan investment custodian.

     The Company has adopted the Choice Hotels International, Inc. Amended and Restated Supplemental Executive Retirement Plan (the "SERP"), a non-qualified defined benefit plan for certain senior executives. The Company accounts for the SERP in accordance with Statement of Financial Accounting Standards No. 87, "Employers Accounting for Pensions". For the years ended December 31, 2002, 2001 and 2000, the Company recorded $0.3 million, $0.2 million and $0.2 million, respectively, of expense related to the SERP which was included in selling, general and administrative expense in the accompanying consolidated statements of income. As of December 31, 2002 and 2001, a liability of $1.1 million and $0.8 million, respectively, related to the SERP was included in other non-current liabilities in the accompanying consolidated balance sheets.

     The Company maintains a non-qualified retirement savings and investment plan for certain employees whose pre-tax deferrals are limited under the Company's 401(k) Plan. Employee and Company contributions are maintained in an irrevocable trust. Legally, the assets remain those of the Company; however, access to the trust assets is severely restricted. The trust cannot be revoked by the employer or an acquiror, but the assets are subject to the claims of the Company's general creditors. The employee has no right to assign or transfer contractual rights in the trust. The Company accounts for the plan in accordance with Emerging Issues Task Force ("EITF") No. 97-14, "Accounting for Deferred Compensation Arrangements Where Amounts Earned Are Held in a Rabbi Trust and Invested." Pursuant to EITF 97-14, as of December 31, 2002 and 2001, the Company has recorded a deferred compensation liability of $8.6 million and $9.0 million, respectively, in other non-current liabilities in the accompanying consolidated balance sheets. The change in the deferred compensation obligation related to changes in the fair value of the diversified assets held in trust is recorded in compensation expense. The diversified assets held in trust were $7.9 million and $8.2 million as of December 31, 2002 and 2001, respectively, and are recorded at their fair value, based on quoted market prices, in other non-current assets on the accompanying consolidated balance sheets. The change in the fair value of the diversified assets held in trust is recorded in accordance with SFAS 115 as trading security income (loss).

13. Income Taxes

     Income before income taxes were derived from the following:

	Years ended December 31,
		2002			2001			2000
	(In thousands)
Income before income taxes:
Domestic operations		$ 93,418			$ 80,647			$ 80,982
Foreign operations		2,400			(35,230)			(11,400)
Income before income taxes		$ 95,818			$ 45,417			$ 69,582

     The provisions for income taxes are as follows:

	Years ended December 31,
		2002			2001			2000
	(In thousands)
Current tax expense
Federal		$21,374			$30,890			$20,707
State		631			3,675			2,434
Foreign		661			665			886
Deferred tax (benefit) expense
Federal		11,297			(3,602)			3,598
State		1,012			(597)			(481)
Foreign		(1)			59			(7)
Income taxes		$34,974			$31,090			$27,137

     Deferred tax assets (liabilities) are comprised of the following:

	December 31,
		2002			2001
	(In thousands)
Depreciation and amortization		$(20,171)			$(21,475)
Prepaid expenses		(16,083)			(17,736)
Other		(9,572)			(8,950)
Gross deferred tax liabilities		(45,826)			(48,161)
Foreign operations		2,549			19,326
Accrued expenses		6,239			5,723
Other		4,270			2,578
Gross deferred tax assets		13,058			27,627
Deferred tax liability before valuation allowance		(32,768)			(20,534)
Valuation allowance		(12,737)			(12,737)
Net deferred tax liability		$(45,505)			$(33,271)

     Included in the accompanying consolidated balance sheet as follows:

	December 31,
		2002			2001
Current net deferred tax assets		$ 2,229			$ 1,888
Non-current net deferred tax liabilities		(47,734)			(35,159)
Net deferred tax liability		(45,505)			(33,271)

     No provision has been made for U.S. federal deferred income taxes on approximately $12 million of accumulated and undistributed earnings of foreign subsidiaries at December 31, 2002 since these earnings are considered to be permanently invested in foreign operations.

     A reconciliation of income tax expense at the statutory rate to income tax expense included in the accompanying consolidated statements of income follows:

	Years ended December 31,
		2002			2001			2000
	(In thousands, except Federal income tax rate)
Federal income tax rate		35%			35%			35%
Federal taxes at statutory rate		$33,536			$15,896			$24,354
State income taxes, net of federal tax benefit		1,068			1,120			1,269
Unrealized tax benefits		—			12,737			—
Other		370			1,337			1,514
Income tax expense		$34,974			$31,090			$27,137

     A certain amount of the Company's capital loss carryforwards (which are included in the foreign operations deferred tax asset) are not expected to be realized at this time. Accordingly, a valuation allowance of $12.7 million was established in 2001.