N-4/A 1 a2214068zn-4a.txt N-4/A As filed with the Securities and Exchange Commission on May 28, 2013 1933 Act Registration No. 333-187069 1940 Act Registration No. 811-07645 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM N-4 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 PRE-EFFECTIVE AMENDMENT NO. 1/X/ and REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 / / AMENDMENT NO. 39/X/ Lincoln National Variable Annuity Account L (Exact Name of Registrant) Lincoln Secured Retirement IncomeSM Version 2 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY (Name of Depositor) 1300 South Clinton Street Post Office Box 1110 Fort Wayne, Indiana 46801 (Address of Depositor's Principal Executive Offices) Depositor's Telephone Number, Including Area Code: (260) 455-2000 Adam C. Ciongoli, Esquire The Lincoln National Life Insurance Company 1300 South Clinton Street Post Office Box 1110 Fort Wayne, IN 46801 (Name and Address of Agent for Service) Copy to: Mary Jo Ardington, Esquire The Lincoln National Life Insurance Company 1300 South Clinton Street Post Office Box 1110 Fort Wayne, IN 46801 Approximate Date of Proposed Public Offering: As soon as practicable after the effective date of the Registration Statement. Title of Securities being registered: Interests in a separate account under individual flexible payment deferred variable annuity contracts. The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a) shall determine. Lincoln Secured Retirement IncomeSM Version 2 Lincoln National Variable Annuity Account L Group Variable Annuity Contract Home Office: The Lincoln National Life Insurance Company 1300 South Clinton Street Fort Wayne, IN 46802 1-800-341-0441 This prospectus describes a group variable annuity contract with a Guaranteed Benefit for covered Participants that is issued by The Lincoln National Life Insurance Company (Lincoln Life or Company). This prospectus is for use with certain qualified retirement plans. Generally, you do not pay federal income tax on the contract's growth until it is paid out. Qualified retirement plans already provide for tax deferral. Therefore, there should be reasons other than tax deferral for acquiring the contract within a qualified plan. The contract is designed to accumulate Participant Account Value and to provide retirement income over a certain period of time, or for life, subject to certain conditions. If the Annuitant dies before the Annuity Commencement Date, a Death Benefit may be payable. This contract is sold to qualified retirement plans to provide Participants with guaranteed lifetime periodic withdrawals. All Purchase Payments will be placed in Lincoln National Variable Annuity Account L (Variable Annuity Account (VAA)). The VAA is a segregated investment account of Lincoln Life. You take all the investment risk on the Contract Value derived from Purchase Payments. If the Subaccount makes money, your Contract Value goes up; if the Subaccount loses money, it goes down. How much it goes up or down depends on the performance of the fund. We do not guarantee how the Subaccount or its fund will perform. Also, neither the U.S. Government nor any federal agency insures or guarantees your investment in the contract. The Purchase Payments are not bank deposits and the contract is not endorsed by any bank or government agency. The available fund is: LVIP Protected Profile Moderate Fund (fund), a series of the Lincoln Variable Insurance Products Trust. The fund is a fund of funds and invests substantially all of its assets in other funds. This prospectus gives you information about the contract that you should know before deciding to buy a contract and make Purchase Payments. You should also review the prospectus for the fund and keep all prospectuses for future reference. Neither the SEC nor any state securities commission has approved this contract or determined that this prospectus is accurate or complete. Any representation to the contrary is a criminal offense. More information about the contract is in the current Statement of Additional Information (SAI), dated the same date as this prospectus. The SAI is incorporated by reference into this prospectus and is legally part of this prospectus. For a free copy of the SAI, write The Lincoln National Life Insurance Company, P.O. Box 2340, Fort Wayne, IN 46801 or call 1-800-341-0441. The SAI and other information about Lincoln Life and the VAA are also available on the SEC's website (http://www.sec.gov). There is a table of contents for the SAI on the last page of this prospectus. ____, 2013 1 Table of Contents
Item Page Special Terms 3 Expense Tables 5 Summary of Common Questions 6 The Lincoln National Life Insurance Company 7 Variable Annuity Account (VAA) 8 Charges and Other Deductions 10 The Contract 11 Guaranteed Withdrawal Benefit 12 Surrenders and Withdrawals 18 Annuity Payouts 19 Federal Tax Matters 20 Voting Rights 23 Distribution of the Contracts 23 Return Privilege 24 Other Information 25 Legal Proceedings 25 Statement of Additional Information Table of Contents for Lincoln National Variable Annuity Account L 26
2 Special Terms In this prospectus, the following terms have the indicated meanings: Account or Variable Annuity Account (VAA)-The segregated investment account, Account L, into which we set aside and invest the assets of the contract offered in this prospectus. Accumulation Unit-A measure used to calculate Contract Value for the contract before the Annuity Commencement Date. Additional Plan Expenses-The maximum amount of Plan expenses that can be deducted from the contract on an annual basis that will not reduce the Guaranteed Withdrawal Benefit. The annual maximum amount is specified in the contract. Annuitant-The person upon whose life the annuity payments are based. Annuity Commencement Date-The Valuation Date when funds are withdrawn to provide a fixed dollar payout for payment of annuity benefits under the Annuity Payout option you select . Annuity Payout- An amount paid at regular intervals after the Annuity Commencement Date under one of several options available to the Annuitant and/or any other payee. This amount is paid on a fixed basis. Automatic Annual Step-up-a feature that provides an automatic step-up of the Income Base to the Participant Account Value, subject to certain conditions. Benefit Year- For each Participant, the 12-month period starting with the date the initial contribution is made to the group annuity contract for a Participant, and starting with each anniversary of the date of the initial contribution after that. Beneficiary-The person or entity designated by the Participant to receive any Death Benefit paid if the Participant dies before the Annuity Commencement Date. Contractowner (you, your, owner)-An employer or a Plan sponsor, a trustee of a trust or a custodian of: (1) a qualified pension or profit sharing plan under Section 401(a) of the Internal Revenue Code, or "tax code"; (2) an Individual Retirement Annuity under Section 408 of the tax code; (3) a tax deferred annuity under Section 403(b) of the tax code; or (4) a governmental deferred compensation plan under Section 457 of the tax code. Additional Contractowners may be allowed upon approval by us. Contract Value-At a given time before the Annuity Commencement Date, the total value of all Accumulation Units for a contract. Contract Year-Each one-year period starting with the effective date of the contract and starting with each contract anniversary after that. Death Benefit-Before the Annuity Commencement Date, the amount payable to a designated Beneficiary if the Participant dies. Excess Withdrawals-Amounts withdrawn from the contract which may decrease or eliminate guarantees under the Guaranteed Withdrawal Benefit. All withdrawals are Excess Withdrawals except withdrawals to provide the Guaranteed Annual Income, the Guaranteed Withdrawal Benefit charge and the Additional Plan Expenses. Good Order-The actual receipt at our Home Office of the requested transaction in writing or by other means we accept, along with all information and supporting legal documentation necessary to effect the transaction. The forms we provide will identify the necessary documentation. We may, in our sole discretion, determine whether any particular transaction request is in Good Order, and we reserve the right to change or waive any Good Order requirements at any time. Guaranteed Annual Income (GAI)-The guaranteed periodic withdrawal amount available from the Participant Account Value each Benefit Year for the life of a Participant and spouse (if applicable). Guaranteed Annual Income Effective Date-The Valuation Date the request to receive Guaranteed Annual Income amounts for a Participant is approved by the Home Office. Guaranteed Withdrawal Benefit or Benefit-The feature of this contract that provides guaranteed lifetime periodic withdrawals called GAI that may increase based on Automatic Annual Step-ups and also age-based increases to the withdrawal amount, regardless of investment performance of the contract and provided certain conditions are met. Guaranteed Withdrawal Benefit Effective Date (GWB Effective Date)-The date of the first Purchase Payment into the VAA by the Contractowner on behalf of the Participant. Income Base-A value used to calculate the Guaranteed Annual Income amount. The amount of the Income Base varies for each Participant and is adjusted as set forth in this prospectus. Lincoln Life (we, us, our, Company)-The Lincoln National Life Insurance Company. Participant-A person defined as a Participant in the Plan, who has enrolled under a contract, on whose behalf Lincoln Life maintains a Participant Account Value. This individual is also the Annuitant. Participant Account Value-The Participant's share of the Contract Value. Plan-The retirement program that an employer offers to its employees for which a contract is used to accumulate funds. Purchase Payments-The sum of all amounts paid into the contract. Purchase Payments are allocated to the LVIP Protected Profile Moderate Fund and are used to fund the Guaranteed Withdrawal Benefits under the contract. 3 Subaccount-The portion of the VAA that reflects investments in Accumulation Units of the fund available under the contract. Valuation Date-Each day the New York Stock Exchange (NYSE) is open for trading. Valuation Period-The period starting at the close of trading (normally 4:00 p.m. New York time) on each day that the NYSE is open for trading (Valuation Date) and ending at the close of such trading on the next Valuation Date. 4 Expense Tables The following tables describe the fees and expenses that you will pay when buying, owning, and surrendering the contract. The first table describes the fees and expenses that you will pay at the time that you buy the contract or surrender the contract. CONTRACTOWNER TRANSACTION EXPENSES There are no sales charges, deferred sales charges, or surrender charges associated with this contract.
The next table describes the fees and expenses that you will pay periodically during the time that you own the contract, not including fund fees and expenses. Separate Account Annual Expense (as a percentage of average daily net assets in the Subaccount): Mortality and Expense Risk and Administrative Charge.................................... 0.25% Guaranteed Withdrawal Benefit1............................................................ Guaranteed Maximum Annual Charge........................................................ 2.04% Current Annual Charge................................................................... 1.00%
(1) As percentage of the Income Base (initial Purchase Payment), as increased for subsequent Purchase Payments, Automatic Annual Step-ups and decreased upon an Excess Withdrawal. The current monthly charge is 0.0833%, not to exceed the guaranteed maximum monthly percentage charge of 0.17%. This charge is deducted from the Participant Account Value on a monthly basis.
The next item shows the minimum and maximum total annual operating expenses charged by the funds that you may pay periodically during the time that you own the contract. The expenses are for the year ended December 31, 2012. More detail concerning each fund's fees and expenses is contained in the prospectus for each fund.
Minimum Maximum --------- -------- Total Annual Fund Operating Expenses (expenses that are deducted from fund assets, including management fees, distribution and/or service (12b-1) fees, and other expenses)................................... 0.79% 0.79%
The following table shows the expenses charged by the fund for the year ended December 31, 2012: (as a percentage of each fund's average net assets):
Other Management 12b-1 Fees Expenses Fees (before (before any (before any any waivers/ waivers/ waivers/ reimburse- reimburse- reimburse- ments) + ments) + ments) + LVIP Protected Profile Moderate Fund* 0.25% 0.00% 0.02% Total Total Total Expenses Expenses Contractual (after Acquired (before any waivers/ Contractual Fund waivers/ reimburse- waivers/ Fees and reimburse- ments reimburse- Expenses = ments) (if any) ments) LVIP Protected Profile Moderate Fund* 0.52% 0.79% 0.00% 0.79%
* The AFFE has been restated to reflect the current expenses of the fund. The Total Annual Fund Operating Expenses do not correlate to the ratio of expenses to the average net assets appearing in the Financial Highlights table which reflects only the operating expenses of the fund and does not include AFFE. The fund has reserved the right to impose fees when funds shares are redeemed within a specified period of time of purchase ("redemption fees") not reflected in the table above. There are no redemption fees at this time. For information concerning compensation paid for the sale of contracts, see Distribution of the Contracts. 5 EXAMPLES These examples are intended to help you compare the cost of investing in the contract with the cost of investing in other variable annuity contracts. These costs include separate account annual expenses, benefit charges and fund fees and expenses. The examples assume that you invest $10,000 in the contract for the time periods indicated, and that your investment has a 5% annual return on assets and the maximum fees and expenses of the fund. The examples also assume that the guaranteed maximum contract charges are in effect. Although your actual costs may be higher or lower, based on these assumptions, your costs would be: 1) If you surrender your contract at the end of the applicable time period:
1 year 3 years 5 years 10 years -------- --------- --------- --------- $309 $945 $1,606 $3,369
2) If you annuitize or do not surrender your contract at the end of the applicable time period:
1 year 3 years 5 years 10 years -------- --------- --------- --------- $309 $945 $1,606 $3,369
For more information - See Charges and Other Deductions in this prospectus. These examples should not be considered a representation of past or future expenses. Actual expenses may be more or less than those shown. Summary of Common Questions What kind of contract is this? It is a group variable annuity contract between the Contractowner and Lincoln Life that will provide a Guaranteed Withdrawal Benefit to Participants who have allocated Purchase Payments to this contract. See The Contract. This prospectus provides a general description of the contract. Certain benefits, features, and charges may vary in certain states. You should refer to your contract for any state-specific provisions. All material state variations are discussed in this prospectus. What is the Variable Annuity Account (VAA)? It is a separate account we established under Indiana insurance law, and registered with the SEC as a unit investment trust. VAA assets are allocated to the Subaccount. VAA assets are not chargeable with liabilities arising out of any other business which we may conduct. Remember that Contractowners and Participants in the VAA benefit from any gain, and take a risk of any loss in the value of the securities in the fund's portfolios. See Variable Annuity Account. What is my investment choice? The VAA applies your Purchase Payments to buy shares in the LVIP Protected Profile Moderate Fund (fund). In turn, the fund holds a portfolio of securities consistent with its investment policy. See Investments of the Variable Annuity Account - Description of the Fund. Who invests the money? The investment adviser for the fund is Lincoln Investment Advisors Corporation. See Investments of the Variable Annuity Account - Description of the Fund. How does the contract work? If we approve your application, we will send you a contract. When you make Purchase Payments, you buy Accumulation Units. This contract will provide Participants with a Guaranteed Withdrawal Benefit if all conditions are met. If you or the Participant, if applicable, decides to annuitize the Participant Account Value to receive an Annuity Payout, the Accumulation Units are withdrawn to provide a fixed Annuity Payout. Participants receive a group annuity certificate which covers their rights in the group annuity contract which include the right to receive a Guaranteed Withdrawal Benefit, a Death Benefit or an Annuity Payout if conditions are met. The Participant's share of the Contract Value is called the Participant Account Value. See The Contracts. What charges are there under the contract? We apply a charge to the daily net asset value of the VAA that consists of a mortality and expense risk and administrative charge. There is an additional, monthly charge for the Guaranteed Withdrawal Benefit. See Expense Tables and also the Charges and Other Deductions section of this prospectus. The fund's investment management fee, expenses and expense limitations, if applicable, are more fully described in the Expense Tables and also the prospectus for the fund. For information about the compensation we pay for sales of contracts, see Distribution of the Contracts. What Purchase Payments must be made, and how often? Subject to the minimum payment amounts, the payments are completely flexible. See The Contracts - Purchase Payments. What is the Guaranteed Withdrawal Benefit? This feature provides on an annual basis guaranteed lifetime periodic withdrawals up to a guaranteed amount (referred to as Guaranteed Annual Income amounts) based on an Income Base, Automatic Annual Step-ups to the Income Base, and the potential for age-based increases to the Guaranteed Annual Income amount. Withdrawals may be made up to the Guaranteed Annual Income amount as long as that amount is greater than zero. The Income Base is not available as a separate 6 benefit upon death or surrender and is increased by subsequent Purchase Payments, Automatic Annual Step-ups to the Income Base and is decreased by certain withdrawals in accordance with provisions described in this prospectus. How will my Annuity Payouts be calculated? If a Participant decides to annuitize, the Participant may select an annuity option and start receiving Annuity Payouts from the contract as a fixed option. See Annuity Payouts - Annuity Options. What happens if the Participant dies before annuitization? Depending upon the Plan, the Beneficiary may receive a Death Benefit and have options as to how the Death Benefit is paid. The Death Benefit will be equal to the Participant Account Value. See Guaranteed Withdrawal Benefit - Death Prior to the Annuity Commencement Date. May the Participant surrender the Participant account or make a withdrawal? Yes, subject to contract requirements and to the restrictions of any qualified retirement plan for which the contract was purchased. See The Contracts - Surrenders and Withdrawals. A portion of surrender or withdrawal proceeds may be taxable. In addition, if the Participant decides to take a distribution before age 591/2, a 10% Internal Revenue Service (IRS) tax penalty may apply. A surrender or a withdrawal also may be subject to 20% withholding. See Federal Tax Matters. Do Participants get a free look at their certificate? A Participant can cancel a certificate within twenty days (in some states longer) of the date the Participant receives the certificate. The Participant must give notice to the Home Office. See Return Privilege. Where may I find more information about Accumulation Unit values? Because the Subaccount which is available under the contract did not begin operation before the date of this prospectus, financial information for the Subaccount is not included in this prospectus or in the SAI. Investment Results The VAA advertises the annual performance of the Subaccounts for the fund on both a standardized and non-standardized basis. The standardized calculation measures average annual total return. This is based on a hypothetical $1,000 payment made at the beginning of a one-year, a five-year and a 10-year period. This calculation reflects all fees and charges that are or could be imposed on all Contractowner accounts. The non-standardized calculation compares changes in Accumulation Unit values from the beginning of the most recently completed calendar year to the end of that year. It may also compare changes in Accumulation Unit values over shorter or longer time periods. This calculation reflects mortality and expense risk charges. It also reflects management fees and other expenses of the fund. The Lincoln National Life Insurance Company The Lincoln National Life Insurance Company (Lincoln Life or Company), organized in 1905, is an Indiana-domiciled insurance company, engaged primarily in the direct issuance of life insurance contracts and annuities. Lincoln Life is wholly owned by Lincoln National Corporation (LNC), a publicly held insurance and financial services holding company incorporated in Indiana. Lincoln Life is obligated to pay all amounts promised to policy owners under the policies. Any guarantees under the contract that exceed your Contract Value, such as those associated with a Guaranteed Withdrawal Benefit are paid from our general account (not the VAA). Therefore, any amounts that we may pay under the contract in excess of Contract Value are subject to our financial strength and claims-paying ability and our long-term ability to make such payments. With respect to the issuance of the contracts, Lincoln Life does not file periodic financial reports with the SEC pursuant to the exemption for life insurance companies provided under Rule 12h-7 of the Securities Exchange Act of 1934. We issue other types of insurance policies and financial products as well, and we also pay our obligations under these products from our assets in the general account. Moreover, unlike assets held in the VAA, the assets of the general account are subject to the general liabilities of the Company and, therefore, to the Company's general creditors. In the event of an insolvency or receivership, payments we make from our general account to satisfy claims under the contract would generally receive the same priority as our other Contractowner obligations. The general account is not segregated or insulated from the claims of the insurance company's creditors. Investors look to the financial strength of the insurance companies for these insurance guarantees. Therefore, guarantees provided by the insurance company as to benefits promised in the prospectus are subject to the claims paying ability of the insurance company and are subject to the risk that the insurance company may not be able to cover or may default on its obligations under those guarantees. Our Financial Condition. Among the laws and regulations applicable to us as an insurance company are those which regulate the investments we can make with assets held in our general account. In general, those laws and regulations determine the amount and type of investments which we can make with general account assets. In addition, state insurance regulations require that insurance companies calculate and establish on their financial statements, a specified amount of reserves in order to meet the contractual obligations to pay the claims of our policyholders. In order to meet our 7 claims-paying obligations, we regularly monitor our reserves to ensure we hold sufficient amounts to cover actual or expected contract and claims payments. However, it is important to note that there is no guarantee that we will always be able to meet our claims paying obligations, and that there are risks to purchasing any insurance product. State insurance regulators also require insurance companies to maintain a minimum amount of capital in excess of liabilities, which acts as a cushion in the event that the insurer suffers a financial impairment, based on the inherent risks in the insurer's operations. These risks include those associated with losses that we may incur as the result of defaults on the payment of interest or principal on assets held in our general account, which include bonds, mortgages, general real estate investments, and stocks, as well as the loss in value of these investments resulting from a loss in their market value. How to Obtain More Information. We encourage both existing and prospective policyholders to read and understand our financial statements. We prepare our financial statements on both a statutory basis and according to Generally Accepted Accounting Principles (GAAP). Our audited GAAP financial statements, as well as the financial statements of the VAA, are located in the SAI. If you would like a free copy of the SAI, please write to us at: PO Box 2340, Fort Wayne, IN 46801-2340, or call 1-800-341-0441. In addition, the Statement of Additional Information is available on the SEC's website at http://www.sec.gov. You may obtain our audited statutory financial statements and any unaudited statutory financial statements that may be available by visiting our website at www.LincolnFinancial.com. You also will find on our website information on ratings assigned to us by one or more independent rating organizations. These ratings are opinions of an operating insurance company's financial capacity to meet the obligations of its insurance and annuity contracts based on its financial strength and/or claims-paying ability. Additional information about rating agencies is included in the Statement of Additional Information. Lincoln Financial Group is the marketing name for Lincoln National Corporation (NYSE:LNC) and its affiliates. Through its affiliates, Lincoln Financial Group offers annuities, life, group life and disability insurance, 401(k) and 403(b) plans, and comprehensive financial planning and advisory services. Variable Annuity Account (VAA) On April 29, 1996, the VAA was established as an insurance company separate account under Indiana law. It is registered with the SEC as a unit investment trust under the provisions of the Investment Company Act of 1940 (1940 Act). The VAA is a segregated investment account under Indiana law, meaning that its assets may not be charged with liabilities resulting from any other business that we may conduct. Income, gains and losses, whether realized or not, from assets allocated to the VAA are, in accordance with the applicable contracts, credited to or charged against the VAA. They are credited or charged without regard to any other income, gains or losses of Lincoln Life. We are the issuer of the contract and the obligations set forth in the contract, other than those of the Contractowner, are ours. The VAA satisfies the definition of separate account under the federal securities laws. We do not guarantee the investment performance of the VAA. Any investment gain or loss depends on the investment performance of the fund. The Contractowner and Participant assume the full investment risk for all amounts placed in the VAA. Financial Statements The December 31, 2012 financial statements of the VAA and the December 31, 2012 consolidated financial statements of Lincoln Life are located in the SAI. If you would like a free copy of the SAI, complete and mail the request on the last page of this prospectus, or call 1-800-341-0441. Investments of the Variable Annuity Account Any Purchase Payments that you or the Participant, if authorized by the Contractowner, allocate to the Subaccount will be allocated to the Standard Class of the fund. Shares of the fund will be sold at net asset value with no initial sales charge to the VAA in order to fund the contracts. The fund is required to redeem fund shares at net asset value upon our request. Investment Adviser Lincoln Investment Advisors Corporation (LIA) is the investment adviser for the fund. LIA is registered under the Investment Advisers Act of 1940. As compensation for its services to the fund, the investment adviser receives a fee from the fund which is accrued daily and paid monthly. This fee is based on the net assets of the fund, as defined in the prospectus for the fund. Certain Payments We Receive with Regard to the Fund With respect to the fund, the adviser and/or distributor, or an affiliate thereof, may make payments to us (or an affiliate). It is anticipated that such payments will be based on a percentage of assets of the fund attributable to the contracts along with certain other 8 variable contracts issued or administered by us (or an affiliate). These percentages are negotiated and the amount we receive may be substantial. We (or our affiliates) may profit from these payments or use these payments for a variety of purposes, including payment of expenses that we (and our affiliates) incur in promoting, marketing, and administering the contracts and, in our role as intermediary, the funds. These payments may be derived, in whole or in part, from the investment advisory fee deducted from fund assets. Contractowners and Participants, through their indirect investment in the funds, bear the costs of these investment advisory fees (see the fund's prospectus for more information). Additionally, a fund's adviser and/or distributor or its affiliates may provide us with certain services that assist us in the distribution of the contracts and may pay us and/or certain affiliates amounts for marketing programs and sales support, as well as amounts to participate in training and sales meetings. Description of the Fund The Subaccount of the VAA is invested solely in shares of the LVIP Protected Profile Moderate Fund, a fund of funds. The fund offered as part of this contract may have similar investment objectives and policies to other portfolios managed by the adviser. The investment results of the fund, however, may be higher or lower than the other portfolios that are managed by the adviser or sub-adviser. There can be no assurance, and no representation is made, that the investment results of the fund will be comparable to the investment results of any other portfolio managed by the adviser or sub-adviser, if applicable. The fund invests substantially all of its assets in other funds. As a result, you will pay fees and expenses at both fund levels. This will reduce your investment return. This arrangement is referred to as funds of funds. Funds of funds structures may have higher expenses than funds that invest directly in debt or equity securities. Certain funds may employ hedging strategies to provide for downside protection during sharp downward movements in equity markets. The cost of these hedging strategies could limit the upside participation of the fund in rising equity markets relative to other funds. The Guaranteed Withdrawal Benefit under the contract also provides protection in the event of a market downturn. Likewise, there is an additional cost associated with the Guaranteed Withdrawal Benefit which can limit the contract's upside participation in the markets. You should consult with your financial representative to determine if the combination of investment choice and contract purchases (if any) are appropriate for you. Following is a brief summary of the fund description. More detailed information may be obtained from the current prospectus for the fund. You should read the fund prospectus that accompanies this prospectus carefully before investing. A prospectus for the fund is available by contacting us. In addition, if you receive a summary prospectus for the fund, you may obtain a full statutory prospectus by referring to the contact information for the fund company on the cover page of the summary prospectus. Please be advised that there is no assurance that the fund will achieve its stated objective. Lincoln Variable Insurance Products Trust, advised by Lincoln Investment Advisors Corporation. o LVIP Protected Profile Moderate Fund (Standard Class): Balance between high current income with growth of capital; a fund of funds. Fund Shares We will purchase shares of the fund at net asset value and direct them to the Subaccount of the VAA. We will redeem sufficient shares of the fund to pay Annuity Payouts, Death Benefits, surrender/withdrawal proceeds or for other purposes described in the contract. Redeemed shares are retired, but they may be reissued later. Shares of the fund are not sold directly to the general public. They are sold to us, and may be sold to other insurance companies, for investment of the assets of the Subaccount established by those insurance companies to fund variable annuity and variable life insurance contracts. When a fund sells any of its shares both to variable annuity and to variable life insurance separate accounts, it is said to engage in mixed funding. When a fund sells any of its shares to separate accounts of unaffiliated life insurance companies, it is said to engage in shared funding. The fund currently engages in mixed and shared funding. Therefore, due to differences in redemption rates or tax treatment, or other considerations, the interest of various Contractowners participating in a fund could conflict. The fund's Board of Directors will monitor for the existence of any material conflicts, and determine what action, if any, should be taken. The fund does not foresee any disadvantage to Contractowners arising out of mixed or shared funding. If such a conflict were to occur, one of the separate accounts might withdraw its investment in a fund. This might force a fund to sell portfolio securities at disadvantageous prices. See the prospectuses for the funds. Reinvestment of Dividends and Capital Gain Distributions All dividends and capital gain distributions of the fund are automatically reinvested in shares of the distributing funds at their net asset value on the date of distribution. Dividends are not paid out to Contractowners as additional units, but are reflected as changes in unit values. 9 Addition, Deletion or Substitution of Investments We reserve the right, within the law, to make certain changes to the structure and operation of the VAA at our discretion and without your consent. We may add, delete, or substitute the fund for all Contractowners or only for certain classes of Contractowners. New or substitute funds may have different fees and expenses, and may only be offered to certain classes of Contractowners. Substitutions may be made with respect to existing investments or the investment of future Purchase Payments, or both. We may close the Subaccount to allocations of Purchase Payments or Contract Value, or both, at any time in our sole discretion. The fund, which sells shares to the Subaccount pursuant to a participation agreement, also may terminate the agreement and discontinue offering its shares to the Subaccount. A substitution might also occur if shares of a fund should no longer be available, or if investment in the fund's shares should become inappropriate, in the judgment of our management, for the purposes of the contract, or for any other reason in our sole discretion. If the Subaccount or fund is closed to future Purchase Payments, we may add a new investment option to the contract. As an alternative, we may substitute a new fund for the prior fund option, after obtaining any necessary approval of the SEC and upon written notice to you. At least one variable investment option will be available at all times. We also may: o remove, combine, or add Subaccounts and make the new Subaccounts available to you at our discretion; o transfer assets supporting the contract from one Subaccount to another or from the VAA to another separate account; o combine the VAA with other separate accounts and/or create new separate accounts; o deregister the VAA under the 1940 Act; and o operate the VAA as a management investment company under the 1940 Act or as any other form permitted by law. We may modify the provisions of the contract to reflect changes to the Subaccount and the VAA and to comply with applicable law. We will not make any changes without any necessary approval by the SEC. We will also provide you written notice. Charges and Other Deductions We will deduct the charges described below to cover our costs and expenses, services provided and risks assumed under the contracts. We incur certain costs and expenses for the distribution and administration of the contracts and for paying the benefits under the contracts. Our administrative services include: o processing applications for and issuing the contracts; o processing purchases and redemptions of fund shares as required; o maintaining records; o administering Annuity Payouts; o furnishing accounting and valuation services (including the calculation and monitoring of daily Subaccount values); o reconciling and depositing cash receipts; o providing contract confirmations; and o providing toll-free and website inquiry services. The benefits we provide include: o a Guaranteed Withdrawal Benefit; o Annuity Payout benefits; and o cash surrender value benefits. The risks we assume include: o the risk that Annuitants receiving Annuity Payouts live longer than we assumed when we calculated our guaranteed rates (these rates are incorporated in the contract and cannot be changed); o the risk that lifetime payments to individuals from the Guaranteed Withdrawal Benefit will exceed the Contract Value; and o the risk that our costs in providing the services will exceed our revenues from contract charges (which we cannot change). The amount of a charge may not necessarily correspond to the costs associated with providing the services or benefits indicated by the description of the charge. Any remaining expenses will be paid from our general account which may consist, among other things, of proceeds derived from mortality and expense risk charges deducted from the VAA. We may profit from one or more of the fees and charges deducted under the contract. We may use these profits for any corporate purpose, including financing the distribution of the contracts. 10 Deductions from the VAA We apply to the daily net asset value of the Subaccount a charge which is equal to an annual rate of: Mortality and expense risk and administrative charge..... 0.25%
Guaranteed Withdrawal Benefit charge: The annual charge for this feature is currently 1.00% (0.0833% monthly). This charge is applied to the Income Base (initial Purchase Payment), as increased for subsequent Purchase Payments, Automatic Annual Step-ups, and decreased for Excess Withdrawals. We will deduct the cost of this benefit from the Participant Account Value on a monthly basis, with the first deduction occurring on the Valuation Date on or next following the one-month anniversary of the Guaranteed Withdrawal Benefit Effective Date. The amount we deduct will increase or decrease as the Income Base increases or decreases, because the charge is based on the Income Base. See Guaranteed Withdrawal Benefit - Income Base section for a discussion and example of the impact of the changes to the Income Base. The percentage charge may increase no more frequently than once in a 12 month period and we will notify you in advance of the effective date of the change. The charge will not exceed the guaranteed maximum annual percentage charge of 2.04%. The guaranteed maximum monthly percentage charge is 0.17%. If the Participant Account Value is reduced to zero while the Participant is receiving a Guaranteed Annual Income, this charge will not be deducted. Other Charges and Deductions There are additional deductions from and expenses paid out of the assets of the underlying fund that are more fully described in the prospectus for the fund. Additional Information The sales and administrative charges described previously may be reduced or eliminated for any particular contract. However, these charges will be reduced only to the extent that we anticipate lower distribution and/or administrative expenses, or that we perform fewer sales or administrative services than those originally contemplated in establishing the level of those charges. Lower distribution and administrative expenses may be the result of economies associated with: o the use of mass enrollment procedures; o the performance of administrative or sales functions by the employer; o the use by an employer of automated techniques in submitting deposits or information related to deposits on behalf of its employees; or o any other circumstances which reduce distribution or administrative expenses. The exact amount of sales and administrative charges applicable to a particular contract will be stated in that contract. The Contract Purchase of Contract This prospectus describes group variable annuity contract under which we allocate payments to the accounts of individual Participants and provide a Guaranteed Withdrawal Benefit if all conditions are met. Each Participant under the group variable annuity contract receives a certificate which summarizes the provisions of the group contract and is proof of participation. The Participant's share of the Contract Value is called the Participant Account Value. Purchase Payments Periodic Purchase Payments are payable to us at a frequency and in an amount specified by the Plan sponsor. Purchase Payments are allocated to the LVIP Protected Profile Moderate Fund and are used to fund the Guaranteed Withdrawal Benefit. If Purchase Payments are discontinued, the contract will remain in force as a paid-up contract. If you submit a Purchase Payment to your agent, we will not begin processing the Purchase Payment until we receive it from your agent's broker-dealer in Good Order. The maximum annual Purchase Payment into the contract for a Participant will be limited to $500,000 without the Home Office approval. Purchase Payments from a Participant which originate from other investment options available under the Plan and are made within 180 days of a withdrawal from the Participant Account Value may be limited to $25,000 in the future. In addition we may further limit or decline future Purchase Payments into the contract as long as we provide you 180 days notice. It is possible that we could refuse any or all future Purchase Payments. If future Purchase Payments cannot be made into this contract, Participant Account Values and Income Bases will no longer be increased by additional Purchase Payments. Participants should consider these Purchase 11 Payment limitations and how they may impact their long-term investment plans, especially if the intent is to make additional Purchase Payments over a long period of time. Valuation Date Accumulation Units will be valued once daily at the close of trading (normally, 4:00 p.m., New York time) on each day the New York Stock Exchange is open (Valuation Date). On any date other than a Valuation Date, the Accumulation Unit value will not change. Allocation of Purchase Payments Purchase Payments are allocated to the LVIP Protected Profile Moderate Fund Subaccount and are used to fund the Guaranteed Withdrawal Benefit. Purchase Payments allocated to the VAA are converted into Accumulation Units and are credited to the account of each Participant. The number of Accumulation Units credited is determined by dividing the Purchase Payment by the value of an Accumulation Unit on the Valuation Date on which the Purchase Payment is received in Good Order at our Home Office if received before 4:00 p.m., New York time or the close of trading of the New York Stock Exchange. If the Purchase Payment is received in Good Order at or after 4:00 p.m., New York time, we will process the request using the Accumulation Unit value computed on the next Valuation Date. The number of Accumulation Units determined in this way is not changed by any subsequent change in the value of an Accumulation Unit. However, the dollar value of an Accumulation Unit will vary depending not only upon how well the fund performs, but also upon the expenses of the VAA and the fund. Valuation of Accumulation Units Purchase Payments allocated to the VAA are converted into Accumulation Units. This is done by dividing the amount allocated by the value of an Accumulation Unit for the Valuation Period during which the Purchase Payments are allocated to the VAA. The Accumulation Unit value for the Subaccount was established at the inception of the Subaccount. It may increase or decrease from Valuation Period to Valuation Period. Accumulation Unit values are affected by investment performance of the fund, fund expenses, and the deduction of certain contract charges. We determine the value of an Accumulation Unit on the last day of any following Valuation Period as follows: 1. The total value of the fund shares held in the Subaccount is calculated by multiplying the number of fund shares owned by the Subaccount at the beginning of the Valuation Period by the net asset value per share of the fund at the end of the Valuation Period, and adding any dividend or other distribution of the fund if an ex-dividend date occurs during the Valuation Period; minus 2. The liabilities of the Subaccount at the end of the Valuation Period; these liabilities include daily charges imposed on the Subaccount, and may include a charge or credit with respect to any taxes paid or reserved for by us that we determine result from the operations of the VAA; and 3. The result is divided by the number of Subaccount units outstanding at the beginning of the Valuation Period. The daily charges imposed on the Subaccount for any Valuation Period are equal to the daily mortality and expense risk charge multiplied by the number of calendar days in the Valuation Period. In certain circumstances (for example, when separate account assets are less than $1,000), and when permitted by law, it may be prudent for us to use a different standard industry method for this calculation, called the Net Investment Factor method. We will achieve substantially the same result using either method. Guaranteed Withdrawal Benefit The Guaranteed Withdrawal Benefit provides for each Participant (and spouse if the joint life option is elected): o Guaranteed lifetime periodic withdrawals up to the Guaranteed Annual Income amount which is based upon a guaranteed Income Base; o Automatic Annual Step-ups of the Income Base to the Participant Account Value if the Participant Account Value is equal to or greater than the Income Base and the maximum age(s) has not been reached; o Age-based increases to the Guaranteed Annual Income amount (after reaching a higher age-band and after an Automatic Annual Step-up). Please note any withdrawals made prior to the Guaranteed Annual Income Effective Date or that exceed the Guaranteed Annual Income amount (referred to as Excess Withdrawals) may significantly reduce the Income Base as well as the Guaranteed Annual Income amount by an amount greater than the dollar amount of the Excess Withdrawal and will terminate the benefit if the Income Base is reduced to zero. The Guaranteed Withdrawal Benefit provides guaranteed, periodic withdrawals for the Participant's life or for the lives of the Participant and spouse (joint life option) regardless of the investment performance of the contract, provided that certain conditions are met. For purposes of this Guaranteed Withdrawal Benefit, spouse means an individual who would be recognized as a spouse under federal law. An Income Base is used to calculate the Guaranteed Annual Income payment from Participant Account Value, but is not available as a separate benefit upon death or surrender. We will calculate the Income Base based on the amount of the initial Purchase Payment made for a Participant by Plan sponsor at the time the first Participant Purchase Payment is made. The Income Base will be increased 12 by subsequent Participant Purchase Payments from the Plan sponsor and Automatic Annual Step-ups, and decreased by Excess Withdrawals in accordance with the provisions set forth below. The maximum Purchase Payments into the contract in a Benefit Year will be limited to $500,000 per Participant. No additional Purchase Payments are allowed for a Participant if the Participant Account Value decreases to zero after the Guaranteed Annual Income Effective Date for any reason. The Guaranteed Withdrawal Benefit provides for guaranteed, periodic withdrawals up to the Guaranteed Annual Income amount commencing after the Participant (single life option) or younger of the Participant or spouse (joint life option) reach age 55. The Guaranteed Annual Income payments are based upon specified percentages of the Income Base. The specified withdrawal percentages of the Income Base are age based and may increase over time. With the single life option, the Participant may receive Guaranteed Annual Income payments for life. Under the joint life option, Guaranteed Annual Income amounts for the lifetimes of the Participant and spouse will be available. Income Base. The Income Base is a value used to calculate the Guaranteed Annual Income amount. The Income Base is not available as a lump sum withdrawal or as a Death Benefit. The initial Income Base equals the amount of the Participant's share of Purchase Payments into the contract. The maximum Income Base is $2,000,000 for each Participant. This maximum takes into consideration the total guaranteed amounts under the living benefit riders of all Lincoln Life contracts (or contracts issued by our affiliates) in which the Participant (and/or spouse if joint life option) are the covered lives. Each additional Purchase Payment automatically increases the Income Base by the amount of the Purchase Payment (not to exceed the maximum Income Base). Additional Purchase Payments will not be allowed after the Guaranteed Annual Income Effective Date if the Participant Account Value decreases to zero for any reason including market loss. Excess Withdrawals reduce the Income Base as discussed below. Withdrawals less than or equal to the Guaranteed Annual Income amount and amounts deducted for the Guaranteed Withdrawal Benefit charge and Additional Plan Expenses will not reduce the Income Base. All withdrawals prior to the Guaranteed Annual Income Effective Date are considered Excess Withdrawals. Automatic Annual Step-ups of the Income Base. The Income Base will automatically step-up to the Participant Account Value on the Valuation Date immediately prior to each Benefit Year anniversary if: a.) the Participant (single life option), or the Participant or spouse (joint life option) are still living and under age 86 (if both spouses are living, they both must be under age 86); and b.) the Participant Account Value on that Valuation Date, after the deduction of any withdrawals (including the Guaranteed Withdrawal Benefit charge), plus any Purchase Payments made on that date, is equal to or greater than the Income Base. The Automatic Annual Step-up is available even in those years when a withdrawal has occurred. Following is an example of how the Automatic Annual Step-ups will work (assuming no withdrawals or additional Purchase Payments):
Contract Value Income Base ---------------- ------------- Initial Purchase Payment $50,000 $50,000 $50,000 Valuation Date immediately prior to 1st Benefit Year anniversary $54,000 $54,000 Valuation Date immediately prior to 2nd Benefit Year anniversary $53,900 $54,000 Valuation Date immediately prior to 3rd Benefit Year anniversary $57,000 $57,000 Valuation Date immediately prior to 4th Benefit Year anniversary $64,000 $64,000
Withdrawal Amount. Participants may request to begin Guaranteed Annual Income withdrawals by submitting a request to the Home Office. The Valuation Date the request is approved is the Guaranteed Annual Income Effective Date. At that time, the Participant will elect either the single life option or the joint life option of the Guaranteed Withdrawal Benefit. After the Guaranteed Annual Income Effective Date, periodic withdrawals up to the Guaranteed Annual Income amount may be taken each Benefit Year for the lifetime of the Participant (single life option) or the lifetimes of the Participant and spouse (joint life option) as long as the Guaranteed Annual Income amount is greater than zero. Guaranteed Annual Income withdrawals may be taken once the Participant (single life option) or the younger of the Participant and spouse (joint life option) turn age 55. Upon the Guaranteed Annual Income Effective Date, the Guaranteed Annual Income percentage is based on the age of the Participant (single life option) or the age of the younger of the Participant and spouse (joint life option) as set forth in the table below. For example, if the Guaranteed Annual Income Effective Date is at age 60 (single life option), the Guaranteed Annual Income percentage would be 4%. After the Guaranteed Annual Income Effective Date, the Guaranteed Annual Income amount percentage will only increase on a Benefit Year anniversary on or after an applicable higher age band has been reached and after there has also been an Automatic Annual Step-up. The Automatic Annual Step-up must occur after the date the Participant (or spouse if applicable) reached the higher age band. If an applicable age band has been reached and there has not also been an Automatic Annual Step-up, then the 13 Guaranteed Annual Income amount percentage will not increase until the next Automatic Annual Step-up occurs. If the entire Guaranteed Annual Income amount is not withdrawn during a Benefit Year, there is no carryover of the remaining amount into the next Benefit Year. If the Guaranteed Annual Income Effective Date does not occur on a Benefit Year anniversary, the Guaranteed Annual Income amount for the first year will be prorated based on the number of days remaining in that Benefit Year. Table of Guaranteed Annual Income Percentages by Ages
Guaranteed Guaranteed Annual Income Annual Income amount amount percentage Age percentage (Single Life Option) (Joint Life Option) -------------------------------- --------------------------------- ------------------------- At Least 55 and under 65 4% 3.5% 65-70 5% 4.5% 71+ 6% 5.5%
We may change the Table of Guaranteed Annual Income Percentages by Ages ("Table") for future Purchase Payments. We will provide you with notice of any change to the Table. If there is a change to the Table, a weighted average percentage will be used to determine the Guaranteed Annual Income. This weighted average calculation is described below. If the Participant Account Value is reduced to zero while receiving a Guaranteed Annual Income amount because of market performance or Guaranteed Withdrawal Benefit charges, payments equal to the Guaranteed Annual Income amount will continue automatically for the life of the Participant (and spouse's life if applicable). The remaining Income Base is not available as a lump sum withdrawal. The Participant will not be entitled to the Guaranteed Annual Income amount if the Income Base is reduced to zero as a result of an Excess Withdrawal. If the Income Base is reduced to zero due to an Excess Withdrawal the Guaranteed Withdrawal Benefit will terminate, and the Participant will have no more rights or benefits under this contract. Withdrawals equal to or less than the Guaranteed Annual Income amount will not reduce the Income Base. All withdrawals will decrease the Participant Account Value. The following example shows the calculation of the Guaranteed Annual Income amount and how withdrawals less than or equal to the Guaranteed Annual Income amount affect the Income Base and the Participant Account Value. The example assumes that the Participant is age 58 (4% Guaranteed Annual Income percentage for single life option) on the Guaranteed Annual Income Effective Date, and has an Income Base of $200,000: Participant Account Value on the Guaranteed Annual Income Effective Date..................................................... $200,000 Income Base on the Guaranteed Annual Income Effective Date......... $200,000 Initial Guaranteed Annual Income amount on the Guaranteed Annual Income Effective Date ($200,000 x 4%)....................... $ 8,000 Participant Account Value six months after Guaranteed Annual Income Effective Date.............................................. $210,000 Income Base six months after Guaranteed Annual Income Effective Date............................................................... $200,000 Withdrawal six months after Guaranteed Annual Income Effective Date when Participant is still age 58.............................. $ 8,000 Participant Account Value after withdrawal ($210,000 - $8,000)..... $202,000 Income Base after withdrawal ($200,000 - $0)....................... $200,000 Participant Account Value on next Benefit Year anniversary......... $205,000 Income Base on next Benefit Year anniversary....................... $205,000 Guaranteed Annual Income amount on next Benefit Year anniversary........................................................ $ 8,200
The Automatic Annual Step-up was available on the first Benefit Year anniversary and increased the Income Base to the Participant Account Value of $205,000. The Guaranteed Annual Income amount also increased to $8,200 (4% x $205,000). Purchase Payments added to the contract subsequent to the initial Purchase Payment will increase the Guaranteed Annual Income amount by an amount equal to the applicable Guaranteed Annual Income amount percentage multiplied by the amount of the subsequent Purchase Payment. For example, assuming a Participant is age 58 (single life option), if the Guaranteed Annual Income amount of $2,000 (4% of $50,000 Income Base) is in effect and an additional Purchase Payment of $10,000 is made, the new Guaranteed Annual Income amount that Benefit Year is $2,400 ($2,000 + 4% of $10,000). The Guaranteed Annual Income payment amount will be recalculated immediately after a Purchase Payment is added to the contract. Note that the Benefit Year does not change so all withdrawals during the Benefit Year, (withdrawals before and after the additional Purchase Payment), will count toward the Guaranteed Annual Income amount. 14 Purchase Payments for a Participant into the contract cannot exceed $500,000 in a Benefit Year. Automatic Annual Step-ups will increase the Income Base and thus the Guaranteed Annual Income amount. The Guaranteed Annual Income amount, after the Income Base is adjusted by an Automatic Annual Step-up, will be equal to the adjusted Income Base multiplied by the applicable Guaranteed Annual Income percentage. Weighted Average Guaranteed Annual Income Percentage. If we make a change to the Table of Guaranteed Annual Income Percentages by Ages ("Table") then a weighted average guaranteed annual income ("WAGAI") percentage will be used to calculate the Guaranteed Annual Income. A WAGAI percentage will be calculated based on the portion of Purchase Payments, Automatic Annual Step-Ups and Excess Withdrawals that are allocated to each Table that was in effect when Purchase Payments were made. The percentage for each Table is determined according to this formula: (a) divided by (b) times (c); where (a) is the portion of the Income Base calculated on the basis of Purchase Payments made during the time the specific Table is in effect and adjusted by Automatic Annual Step-Ups and Excess Withdrawals; (b) is the total Income Base for all Tables; (c) is the applicable percentage for the age and measuring life option for that Table. The percentage for each applicable Table will be calculated according to the formula above. Then the percentages determined for each Table will be added together to determine the WAGAI percentage. The WAGAI percentage will be recalculated following the date of an additional Purchase Payment, Automatic Annual Step-Up or Excess Withdrawal. Excess Withdrawals will reduce the Participant Account Value and Income Base on a pro rata basis according to the Participant Account Value and Income Base allocated to each Table. The following example demonstrates how the WAGAI is calculated if Purchase Payments are made while two different Tables are in effect: Total Purchase Payment during Year 1 (Table 1 in effect).......... $5,000 Automatic Step-Up to market value on Benefit Year anniversary..... $5,900 Total Purchase Payments during Year 2 (Table 2 in effect)......... $5,000 (Market loss so no Automatic Step-Up on Benefit Year anniversary)
The Participant is age 60 on the Guaranteed Annual Income Effective Date. The percentage rate for this Participant under Table 1 was 4% (single life). The percentage rate under Table 2 was 3.5%. According to the formula above, at the end of year 2 the percentage attributed to the first Table is ($5,900 / $10,900 x 4%) = 2.16%. The percentage attributed to the second Table is ($5,000 / $10,900 x 3.5%) = 1.61%. Adding the two rates together results in a WAGAI of 3.77%. This rate will be applied to the Total Income Base of $10,900 to produce a Guaranteed Annual Income amount of $410.93. Excess Withdrawals. Excess Withdrawals are the cumulative amounts withdrawn from the contract during the Benefit Year (including the current withdrawal) that exceed the Guaranteed Annual Income amount at the time of the withdrawal, or are withdrawals made prior to the Guaranteed Annual Income Effective Date. Withdrawals for the Guaranteed Withdrawal Charge and Additional Plan Expenses are not treated as Excess Withdrawals. When an Excess Withdrawal occurs: o the Income Base is reduced by the same proportion that the Excess Withdrawal reduces the Participant Account Value. This means that the reduction in the Income Base could be more than the dollar amount of the withdrawal; and o the Guaranteed Annual Income amount will be recalculated to equal the applicable Guaranteed Annual Income amount percentage multiplied by the new (reduced) Income Base (after the pro rata reduction for the Excess Withdrawal). We will provide the Participant quarterly statements that will include the Guaranteed Annual Income amount (as adjusted for Guaranteed Annual Income amount payments, Automatic Annual Step-ups, Excess Withdrawals and additional Purchase Payments) available for the Benefit Year, if applicable, in order to determine whether a withdrawal may be an Excess Withdrawal. Questions regarding Excess Withdrawals should be referred to the Participant's registered representative or to the customer service number provided on the front page of this prospectus. The following example demonstrates the impact of an Excess Withdrawal on the Income Base, the Guaranteed Annual Income amount and the Participant Account Value. The Participant who is age 58 (single life option) makes a $12,000 withdrawal which causes a $12,915.19 reduction in the Income Base. Prior to Excess Withdrawal: Participant Account Value = $60,000 Income Base = $85,000 15 Guaranteed Annual Income amount = $3,400 (4% of the Income Base of $85,000) After a $12,000 Withdrawal, $3,400 is within the Guaranteed Annual Income amount, $8,600 is the Excess Withdrawal. The Participant Account Value is reduced by the amount of the Guaranteed Annual Income amount of $3,400 and the Income Base is not reduced: Participant Account Value = $56,600 ($60,000 - $3,400) Income Base = $85,000 The Participant Account Value is also reduced by the $8,600 Excess Withdrawal and the Income Base is reduced by 15.19435%, the same proportion that the Excess Withdrawal reduced the $56,600 Participant Account Value ($8,600 - $56,600) Participant Account Value = $48,000 ($56,600 - $8,600) Income Base = $72,084.81 ($85,000 x 15.19435% = $12,915.19; $85,000 - $12,915.19 = $72,084.81). Guaranteed Annual Income amount = $2,883.39 (4% of $72,084.81 Income Base) On the following Benefit Year anniversary: Participant Account Value = $43,000 Income Base = $72,084.81 Guaranteed Income amount = $2,883.39 (4% x $72,084.81) In a declining market, Excess Withdrawals may significantly reduce the Income Base as well as the Guaranteed Annual Income amount. If the Income Base is reduced to zero due to an Excess Withdrawal the Guaranteed Withdrawal Benefit will terminate. If the Participant Account Value is reduced to zero due to an Excess Withdrawal, the benefit will terminate. After the Guaranteed Annual Income Effective Date, withdrawals will be treated as within the Guaranteed Annual Income amount (even if they exceed the Guaranteed Annual Income amount) only if the withdrawals are taken as systematic monthly or quarterly installments of the amount needed to satisfy the required minimum distribution (RMD) rules under Internal Revenue Code Section 401(a)(9). In addition, in order for this exception for RMDs to apply, the following must occur: o Lincoln's monthly or quarterly automatic withdrawal service is used to calculate and pay the RMD; o The RMD calculation must be based only on the value in this contract; and o No withdrawals other than RMDs are made within the Benefit Year (except as described in the next paragraph). If RMD withdrawals during a Benefit Year are less than the Guaranteed Annual Income amount, an additional amount up to the Guaranteed Annual Income amount may be withdrawn. If a withdrawal, other than an RMD is made during the Benefit Year, then all amounts withdrawn in excess of the Guaranteed Annual Income amount, including amounts attributable to RMDs, will be treated as Excess Withdrawals. Distributions from qualified contracts are generally taxed as ordinary income. See Federal Tax Matters for a discussion of the tax consequences of withdrawals. Death Prior to the Annuity Commencement Date. The Guaranteed Withdrawal Benefit has no provision for a payout of the Income Base upon death of the Participant or Annuitant. A Death Benefit may be paid to the Beneficiary if the conditions set forth below are met. Payment of a Death Benefit terminates the Guaranteed Withdrawal Benefit for this Participant and surviving spouse if applicable. All Death Benefit payments must be made in compliance with Internal Revenue Code Sections 72(s) or 401(a)(9) as applicable as amended from time to time. Upon the death of the Participant prior to the Guaranteed Annual Income Effective Date or upon the Participant's death with the single life option, the Guaranteed Withdrawal Benefit will end and no further Guaranteed Annual Income amounts are available (even if there was an Income Base in effect at the time of the death). A Death Benefit as set forth below, may be available. Upon the first death under the joint life option, the lifetime payout of the Guaranteed Annual Income amount will continue for the life of the surviving spouse unless the Participant Account Value is paid out as a Death Benefit. The Automatic Annual Step-up will continue if applicable as discussed above. Upon the death of the surviving spouse, the Guaranteed Withdrawal Benefit will end and no further Guaranteed Annual Income amounts are available (even if there was an Income Base in effect at the time of the death). A Death Benefit, as set forth below, may be available upon the second death. The Death Benefit is equal to the Participant Account Value. The value of the Death Benefit will be determined as of the date on which the death claim is approved for payment. This payment will occur upon receipt of: o proof, satisfactory to us, of the death; o written authorization for payment; and o our receipt of all required claim forms, fully completed. 16 If the Death Benefit becomes payable upon the death of the Participant, the Beneficiary may elect to receive payment either in the form of a lump sum settlement or an Annuity Payout if provided by the Plan. Federal tax law requires that an annuity election be made no later than 60 days after we receive satisfactory notice of death as discussed previously. If a lump sum settlement is requested, the proceeds will be mailed within seven days of receipt of satisfactory claim documentation as discussed previously, subject to the laws and regulations governing payment of Death Benefits. This payment may be postponed as permitted by the 1940 Act. All Death Benefit payments will be subject to the Plan and to the laws and regulations governing Death Benefits. The tax code requires that any distribution be paid within five years of the death of the Participant unless the Beneficiary begins receiving, within one year of the Participant's death, the distribution in the form of a life annuity or an annuity for a designated period not exceeding the Beneficiary's life expectancy. Final Settlement Option. If the Participant Account Value is reduced to zero while receiving a Guaranteed Annual Income amount because of market performance or Guaranteed Withdrawal Benefit charges, a final payment option may be available if allowed by the plan administrator. The election of the final settlement option is irrevocable and will be paid by us within the 10th Valuation Date of receipt of the request in Good Order. Acceptance of the final settlement option will terminate all rights and interests of the Participant. The amount of the final settlement option will be determined by multiplying the Participant's Guaranteed Annual Income as determined on the most recent Benefit Year anniversary by the annual benefit multiplier in effect on the date of acceptance of the final settlement option reduced by the amount of any withdrawals taken since the most recent Benefit Year anniversary. The annual benefit multiplier used to calculate the final settlement option will never by less than identified in the table below.
Single Measuring Life Joint Measuring Life --------------------------------------------------------------- --------------------------------------------------------------- Age of the Measuring Life Minimum Annual Benefit Multiplier Age of the Measuring Life1 Minimum Annual Benefit Multiplier --------------------------- ----------------------------------- ---------------------------- ---------------------------------- 0 - 70 5.00 0 - 70 5.00 71 - 75 4.00 71 - 75 4.00 76 - 80 3.00 76 - 80 3.00 81 - 85 2.00 81 - 85 2.00 86 - 90 1.50 86 - 90 1.50 91 - 95 1.25 91 - 95 1.25 95+ 1.00 95+ 1.00
1 If the measuring life option is joint, the age of the younger or surviving measuring life will be used to determine the amount of the final option. Termination. The Contractowner may terminate the contract, including the Guaranteed Withdrawal Benefit, by notifying us in writing and surrendering the contract without requesting to preserve the Guaranteed Withdrawal Benefit. The Guaranteed Withdrawal Benefit will automatically terminate for a Participant: o on the Annuity Commencement Date; or o upon the death of the Participant prior to the Guaranteed Annual Income Effective Date or under the single life option; or o upon the death of the survivor under the joint life option; or o when the Guaranteed Annual Income amount or Participant Account Value is reduced to zero due to an Excess Withdrawal. The termination will not result in any increase in Contract Value equal to the Income Base. Upon effective termination of the Guaranteed Withdrawal Benefit, the benefits and charges within the Participant Account will terminate and any Participant Account Value must be removed from this contract. Rollover Benefit. A Participant who is eligible for a rollover distribution from the Plan may request a rollover to another Lincoln contract to continue the Guaranteed Withdrawal Benefit if the following conditions are met: o a request for direct rollover of the entire Participant Account Value is made or authorized by the Contractowner; o the amount rolled over is eligible for distribution under the Plan; o the Participant applies for the participation in the rollover contract in accordance with our procedures; and o the entire Participant Account Value is transferred to the rollover contract. The rollover contract will provide the same Guaranteed Annual Income amount calculations that the Participant received from the retirement plan contract on the day prior to the rollover. However, the new contract may have different provisions such as charges and investment options. 17 Surrenders and Withdrawals Before the Annuity Commencement Date, we will allow the surrender of the contract or a withdrawal of a portion of the Contract Value upon your written request or the written request of a Participant, if authorized by the Contractowner, subject to the conditions of the contract discussed below. Surrender or withdrawal rights after the Annuity Commencement Date depend on the Annuity Payout option selected. The amount available upon surrender/withdrawal is the Contract Value at the end of the Valuation Period during which the written request for surrender/withdrawal is received at the Home Office if the request is received in Good Order before 4:00 p.m. New York time or the close of trading of the New York Stock Exchange if earlier. If we receive a surrender or withdrawal request in Good Order at or after 4:00 p.m., New York time, we will process the request using the Accumulation Unit value computed on the next Valuation Date. Unless prohibited, surrender/withdrawal payments will be mailed within seven days after we receive a valid written request at the home office. The payment may be postponed as permitted by the 1940 Act. The tax consequences of a surrender/withdrawal are discussed later in this prospectus. See Federal Tax Matters. Special restrictions on surrenders/withdrawals apply if your contract is purchased as part of a retirement plan of a public school system or 501(c)(3) organization under Section 403(b) of the tax code. Distribution of Section 403(b) elective deferrals many not be paid to a Participant earlier than the earliest date on which the Participant has a severance from employment, dies, has a hardship, becomes disabled, or attains age 591/2. Special rules for pre-1989 Section 403(b) elective deferrals (but not earnings thereon) may apply subject to Plan terms and conditions. Distributions from a 403(b) custodial account may not be paid to a Participant before the Participant has a severance from employment, dies, becomes disabled, or attains age 591/2. Any amounts transferred out of a 403(b) custodial account to an annuity, including earnings thereon, continue to be subject to these distribution restrictions. For contracts issued in connection with qualified plans, Participants should consult the terms of the plan for limitations on early surrender or payment. See Federal Tax Matters and the SAI. Delay of Payments Contract proceeds from the VAA will be paid within seven days, except: o when the NYSE is closed (other than weekends and holidays); o times when market trading is restricted or the SEC declares an emergency, and we cannot value units or the funds cannot redeem shares; or o when the SEC so orders to protect Contractowners. Due to federal laws designed to counter terrorism and prevent money laundering by criminals, we may be required to reject a Purchase Payment and/or deny payment of a request for transfers, withdrawals, surrenders, or Death Benefits, until instructions are received from the appropriate regulator. We also may be required to provide additional information about a Contractowner's account to government regulators. Abandoned Property Every state has unclaimed property laws which generally declare annuity contracts to be abandoned after a period of inactivity of three to five years from the date a benefit is due and payable. For example, if the payment of a Death Benefit has been triggered, but, if after a thorough search, we are still unable to locate the Beneficiary of the Death Benefit, or the Beneficiary does not come forward to claim the Death Benefit in a timely manner, the Death Benefit will be "escheated". This means that the Death Benefit will paid to the abandoned property division or unclaimed property office of the state in which the Beneficiary or the Contractowner last resided, as shown on our books and records, or to our state of domicile. This escheatment is revocable, however, and the state is obligated to pay the Death Benefit (without interest) if your Beneficiary steps forward to claim it with the proper documentation. To prevent such escheatment, it is important that you update your Beneficiary designations, including addresses, if and as they change. You may update your Beneficiary designations by filing a written request with our Home Office. Amendment of Contract We reserve the right to amend the contract to meet the requirements of the 1940 Act or other applicable federal or state laws or regulations. You will be notified in writing of any changes, modifications or waivers. Any changes are subject to prior approval of your state's insurance department (if required). Ownership The owner on the date of issue will be the entity designated in the contract specifications. 18 As Contractowner, you have all rights under the contract. A Contractowner who is a custodian or trustee may provide certain ownership rights to the Participant/Annuitant. According to Indiana law, the assets of the VAA are held for the exclusive benefit of all Contractowners and their designated Beneficiaries; and the assets of the VAA are not chargeable with liabilities arising from any other business that we may conduct. Qualified contracts may not be assigned or transferred except as permitted by applicable law and upon written notification to us. Non-qualified contracts may not be collaterally assigned. Assignments may have an adverse impact on any Death Benefit or Living Benefits in this product and may be prohibited under the terms of a particular feature. We assume no responsibility for the validity or effect of any assignment. Consult your tax adviser about the tax consequences of an assignment. Contractowner Questions The obligations to purchasers under the contracts are those of Lincoln Life. This prospectus provides a general description of the material features of the contract. Contracts, endorsements and riders may vary as required by state law. Questions about your contract should be directed to us at 1-800-341-0441. Annuity Payouts Available Annuity Commencement Dates and Annuity Payout options are specified in the Plan or by the Plan sponsor. The contract provides optional forms of payouts of annuities (annuity options), each of which is payable on a fixed basis. The contract provides that all or part of the Contract Value may be used to purchase an Annuity Payout option. You or the Annuitant/Participant, if authorized by the Contractowner, may elect Annuity Payouts in monthly, quarterly, semiannual or annual installments. If the payouts would be or become less than $50, we have the right to reduce their frequency until the payouts are at least $50 each. The amount of each Annuity Payout will depend upon the frequency of payout you select. For example, if you select frequent payments (e.g., monthly), the amount of each payout will be lower than if you choose a less frequent payout (e.g., annual installments). Also, the amount of each Annuity Payout will depend upon the duration of payout you select. For example, if you choose the Life Annuity option, the amount of each payout likely will be higher than if you choose the Joint Life Annuity since the Life Annuity assumes a shorter period of time than the Joint Life Annuity. Following are explanations of the annuity options available. Annuity Options Life Annuity with Guaranteed Period. This option guarantees periodic payouts during a designated period, usually 10, 15 or 20 years, and then continues throughout the lifetime of the Annuitant. The designated period is selected by the Plan. Life Annuity. This option offers a periodic payout during the lifetime of the Annuitant and ends with the last payout before the death of the Annuitant. This option offers the highest periodic payout since there is no guarantee of a minimum number of payouts or provision for a Death Benefit for Beneficiaries. However, there is the risk under this option that the recipient would receive no payouts if the Annuitant dies before the date set for the first payout; only one payout if death occurs before the second scheduled payout, and so on. Joint Life Annuity. This option offers a periodic payout during the joint lifetime of the Annuitant and a designated joint annuitant. The payouts continue during the lifetime of the survivor. Joint Life and Two Thirds to Survivor Annuity. This option provides a periodic payout during the joint lifetime of the Annuitant and a designated joint Annuitant. When one of the joint Annuitants dies, the survivor receives two thirds of the periodic payout made when both were alive. If any payee dies after an Annuity Payout becomes operative, then we will pay the following to the payee's estate (unless otherwise specified in the election option): the present value of unpaid payments under the payouts guaranteed for designated period or life annuity with payouts guaranteed for designated period; o the amount payable at the death of the payee under the unit refund life annuity; or o the proceeds remaining with Lincoln Life under the payouts guaranteed for designated amount or interest income, if available. If the annuity settlement has been selected and becomes operative, when the last payee dies, we will pay the remainder of the contract in a single sum to the last payee's estate (unless otherwise specified in the election option). General Information None of the options listed above currently provides withdrawal features, permitting the Contractowner or Participant to withdraw commuted values as a lump sum payment. Other options, with or without withdrawal features, may be made available by us. Options are only available to the extent they are consistent with the requirements of the contract as well as Sections 72(s) and 401 (a)(9) of the tax code, if applicable. 19 You or the Participant, if allowed, must give us at least 30 days notice before the date on which you want payouts to begin. If proceeds become available to a Beneficiary in a lump sum, the Beneficiary may choose any Annuity Payout option. We may require proof of age, sex, or survival of any payee upon whose age, sex, or survival payments depend. Unless you select another option, the contract automatically provides for a life annuity with Annuity Payouts guaranteed for 10 years except when a joint life payout is required by law. Under any option providing for guaranteed period payouts, the number of payouts which remain unpaid at the date of the Annuitant's death (or surviving Annuitant's death in case of joint life annuity) will be paid to the Beneficiary as payouts become due after we are in receipt of: o proof, satisfactory to us, of the death; o written authorization for payment; and o all claim forms, fully completed. Once you begin to receive Annuity Payouts, you cannot change the payout option, payout amount, or payout period. Federal Tax Matters Introduction The Federal income tax treatment of the contract is complex and sometimes uncertain. The Federal income tax rules may vary with your particular circumstances. This discussion does not include all the Federal income tax rules that may affect you and your contract. This discussion also does not address other Federal tax consequences (including consequences of sales to foreign individuals or entities), or state or local tax consequences, associated with the contract. As a result, you should always consult a tax adviser about the application of tax rules found in the Internal Revenue Code ("Code"), Treasury Regulations and applicable IRS guidance to your individual situation. Qualified Retirement Plans We designed the contracts for use in connection with certain types of retirement plans that receive favorable treatment under the tax code. Contracts issued to or in connection with a qualified retirement plan are called "qualified contracts." We issue contracts for use with various types of qualified retirement plans. The Federal income tax rules applicable to those plans are complex and varied. As a result, this prospectus does not attempt to provide more than general information about the use of the contract with the various types of qualified retirement plans. Persons planning to use the contract in connection with a qualified retirement plan should obtain advice from a competent tax adviser. Types of Qualified Contracts and Terms of Contracts Qualified retirement plans may include the following: o Individual Retirement Accounts and Annuities ("Traditional IRAs") o Roth IRAs o Traditional IRA that is part of a Simplified Employee Pension Plan ("SEP") o SIMPLE 401(k) plans (Savings Incentive Matched Plan for Employees) o 401(a) / (k) plans (qualified corporate employee pension and profit-sharing plans) o 403(a) plans (qualified annuity plans) o 403(b) plans (public school system and tax-exempt organization annuity plans) o 457(b) plans (deferred compensation plans for state and local governments and tax-exempt organizations) We will amend the contract to be used with a qualified retirement plan as generally necessary to conform to the tax law requirements for the type of Plan. However, the rights of a person to any qualified retirement plan benefits may be subject to the Plan's terms and conditions. In addition, we are not bound by the terms and conditions of qualified retirement plans to the extent such terms and conditions contradict the contract, unless we consent. If your contract was issued pursuant to a 403(b) plan, we now are generally required to confirm, with your 403(b) plan sponsor or otherwise, that contributions (Purchase Payments), as well as surrenders, loans or transfers you request, comply with applicable tax requirements and to decline Purchase Payments or requests that are not in compliance. We will defer crediting Purchase Payments we receive or processing payments you request until all information required under the tax law has been received. By directing Purchase Payments to the contract or requesting a surrender, loan or transfer, you consent to the sharing of confidential information about you, the contract, and transactions under the contract and any other 403(b) contracts or accounts you have under the 403(b) plan among us, your employer or Plan sponsor, any Plan administrator or recordkeeper, and other product providers. Also, for 403(b) contracts issued on or after January 1, 2009, amounts attributable to employer contributions are subject to restrictions on withdrawals specified in your employer's 403(b) plan, in order to comply with new tax regulations (previously, only amounts 20 attributable to your salary-reduction contributions were subject to withdrawal restrictions). Amounts transferred to a 403(b) contract from other 403(b) contracts or accounts must generally be subject to the same restrictions on withdrawals applicable under the prior contract or account. Tax Deferral on Earnings The Federal income tax law generally does not tax any increase in your Contract Value until you receive a contract distribution. However, for this general rule to apply, certain requirements must be satisfied: o An individual must own the contract (or the tax law must treat the contract as owned by an individual). o The investments of the VAA must be "adequately diversified" in accordance with IRS regulations. o Your right to choose particular investments for a contract must be limited. o The Annuity Commencement Date must not occur near the end of the Annuitant's life expectancy. Investments in the VAA Must Be Diversified For a contract to be treated as an annuity for Federal income tax purposes, the investments of the VAA must be "adequately diversified." Treasury regulations define standards for determining whether the investments of the VAA are adequately diversified. If the VAA fails to comply with these diversification standards, you could be required to pay tax currently on the excess of the Contract Value over the contract Purchase Payments. Although we do not control the investments of the underlying investment options, we expect that the underlying investment options will comply with the Treasury regulations so that the VAA will be considered "adequately diversified." Restrictions Federal income tax law limits your right to choose particular investments for the contract. Because the IRS has issued little guidance specifying those limits, the limits are uncertain and your right to allocate Contract Values among the Subaccounts may exceed those limits. If so, you would be treated as the owner of the assets of the VAA and thus subject to current taxation on the income, bonus credits, persistency credits and gains, if applicable, from those assets. We do not know what limits may be set by the IRS in any guidance that it may issue and whether any such limits will apply to existing contracts. We reserve the right to modify the contract without your consent to try to prevent the tax law from considering you as the owner of the assets of the VAA. Tax Treatment of Qualified Contracts The Federal income tax rules applicable to qualified retirement plans and qualified contracts vary with the type of Plan and contract. For example, o Federal tax rules limit the amount of Purchase Payments that can be made, and the tax deduction or exclusion that may be allowed for the Purchase Payments. These limits vary depending on the type of qualified retirement plan and the Participant's specific circumstances (e.g., the Participant's compensation). o Minimum annual distributions are required under some qualified retirement plans once you reach age 70 1/2 or retire, if later as described below. o Under most qualified plans, such as a traditional IRA, the owner must begin receiving payments from the contract in certain minimum amounts by a certain age, typically age 701/2. Other qualified plans may allow the Participant to take required distributions upon the later of reaching age 701/2 or retirement. Please note that qualified retirement plans such as 403(b) plans, 401(k) plans and IRAs generally defer taxation of contributions and earnings until distribution. As such, an annuity does not provide any additional tax deferral benefit beyond the qualified retirement plan itself. Tax Treatment of Payments The Federal income tax rules generally include distributions from a qualified contract in the Participant's income as ordinary income. These taxable distributions will include Purchase Payments that were deductible or excludible from income. Thus, under many qualified contracts, the total amount received is included in income since a deduction or exclusion from income was taken for Purchase Payments. There are exceptions. For example, you do not include amounts received from a Roth IRA in income if certain conditions are satisfied. Required Minimum Distributions (RMDs) Under most qualified plans, you must begin receiving payments from the contract in certain minimum amounts by April 1 of the year following the year you attain age 70 1/2 or retire, if later. You are required to take distributions from your traditional IRAs by April 1 of the year following the year you reach age 70 1/2. If you own a Roth IRA, you are not required to receive minimum distributions from your Roth IRA during your life. Failure to comply with the minimum distribution rules applicable to certain qualified plans, such as Traditional IRAs, will result in the imposition of an excise tax. This excise tax equals 50% of the amount by which a minimum required distribution exceeds the actual distribution from the qualified plan. 21 Treasury regulations applicable to required minimum distributions include a rule that may impact the distribution method you have chosen and the amount of your distributions. Under these regulations, the presence of an enhanced Death Benefit, or other benefit, if any, may require you to take additional distributions. An enhanced Death Benefit is any Death Benefit that has the potential to pay more than the Contract Value or a return of Purchase Payments. Please contact your tax adviser regarding any tax ramifications. Federal Penalty Tax on Early Distributions from Qualified Retirement Plans The tax code may impose a 10% penalty tax on an early distribution from a qualified contract that must be included in income. The tax code does not impose the penalty tax if one of several exceptions applies. The exceptions vary depending on the type of qualified contract you purchase. For example, in the case of an IRA, the 10% penalty tax will not apply to any of the following withdrawals, surrenders, or Annuity Payouts: o Distribution received on or after the Annuitant reaches 591/2 o Distribution received on or after the Annuitant's death or because of the Annuitant's disability (as defined in the tax law) o Distribution received as a series of substantially equal periodic payments based on the Annuitant's life (or life expectancy), or o Distribution received as reimbursement for certain amounts paid for medical care. These exceptions, as well as certain others not described here, generally apply to taxable distributions from other qualified retirement plans. However, the specific requirements of the exception may vary. Unearned Income Medicare Contribution Congress enacted the "Unearned Income Medicare Contribution" as a part of the Health Care and Education Reconciliation Act of 2010. This new tax, which affects individuals whose modified adjusted gross income exceeds certain thresholds, is a 3.8% tax on the lesser of (i) the individual's "unearned income," or (ii) the dollar amount by which the individual's modified adjusted gross income exceeds the applicable threshold. Distributions that you take from your contract are not included in the calculation of unearned income because your contract is a qualified plan contract. However, the amount of any such distribution is included in determining whether you exceed the modified adjusted gross income threshold. The tax is effective for tax years after December 31, 2012. Please consult your tax advisor to determine whether your annuity distributions are subject to this tax. Taxation of Death Benefits We may distribute amounts from your contract because of your death. Federal tax rules may limit the payment options available to your Beneficiaries. If your spouse is your Beneficiary, your surviving spouse will generally receive special treatment and will have more available payment options. Non-spouse beneficiaries do not receive the same special treatment. Payment options may be further limited depending upon whether you reached the date upon which you were required to begin minimum distributions. The Pension Protection Act of 2006 ("PPA") permits non-spouse Beneficiary rollovers to an "inherited IRA" (effective January 1, 2007). Transfers and Direct Rollovers As a result of the Economic Growth and Tax Relief Reconciliation Act of 2001 ("EGTRRA"), you may be able to move funds between different types of qualified plans, such as 403(b) and 457(b) governmental plans, by means of a rollover or transfer. You may be able to rollover or transfer amounts between qualified plans and traditional IRAs. These rules do not apply to Roth IRAs and 457(b) non-governmental tax-exempt plans. The PPA permits direct conversions from certain qualified, 403(b) or 457(b) plans to Roth IRAs (effective for distribution after 2007). There are special rules that apply to rollovers, direct rollovers and transfers (including rollovers or transfers or after-tax amounts). If the applicable rules are not followed, you may incur adverse Federal income tax consequences, including paying taxes which you might not otherwise have had to pay. Before we send a rollover distribution, we will provide a notice explaining tax withholding requirements (see Federal Income Tax Withholding). We are not required to send you such notice for your IRA. You should always consult your tax adviser before you move or attempt to move any funds. Federal Income Tax Withholding We will withhold and remit to the IRS a part of the taxable portion of each distribution made under a contract unless you notify us prior to the distribution that tax is not to be withheld. In certain circumstances, Federal income tax rules may require us to withhold tax. At the time a withdrawal, surrender, or Annuity Payout is requested, we will give you an explanation of the withholding requirements. Certain payments from your contract may be considered eligible rollover distributions (even if such payments are not being rolled over). Such distributions may be subject to special tax withholding requirements. The Federal income tax withholding rules require that we withhold 20% of the eligible rollover distribution from the payment amount, unless you elect to have the amount directly transferred to certain qualified plans or contracts. The IRS requires that tax be withheld, even if you have requested otherwise. Such tax withholding requirements are generally applicable to 401(a), 403(a) or (b), HR 10, and 457(b) governmental plans and contracts used in connection with these types of plans. 22 Nonqualified Annuity Contracts A nonqualified annuity is a contract not issued in connection with an IRA or a qualified retirement plan receiving special tax treatment under the tax code. These contracts are not intended for use with nonqualified annuity contracts. Different federal tax rules apply to nonqualified annuity contracts. Persons planning to use the contract in connection with a nonqualified annuity should obtain advice from a tax advisor. Our Tax Status Under existing Federal income tax laws, we do not pay tax on investment income and realized capital gains of the VAA. We do not expect that we will incur any Federal income tax liability on the income and gains earned by the VAA. However, the Company does expect, to the extent permitted under Federal tax law, to claim the benefit of the foreign tax credit as the owner of the assets of the VAA. Therefore, we do not impose a charge for Federal income taxes. If Federal income tax law changes and we must pay tax on some or all of the income and gains earned by the VAA, we may impose a charge against the VAA to pay the taxes. Changes in the Law The above discussion is based on the tax code, IRS regulations, and interpretations existing on the date of this prospectus. However, Congress, the IRS, and the courts may modify these authorities, sometimes retroactively. Voting Rights As required by law, we will vote the fund shares held in the VAA at meetings of the shareholders of the fund. The voting will be done according to the instructions of the Contractowners who have interests in the Subaccount which invests in the fund. If the 1940 Act or any regulation under it should be amended or if present interpretations should change, and if as a result we determine that we are permitted to vote the fund shares in our own right, we may elect to do so. The number of votes which you have the right to cast will be determined by applying your percentage interest in a Subaccount to the total number of votes attributable to the Subaccount. In determining the number of votes, fractional shares will be recognized. The underlying fund is subject to the laws of the state in which it is organized concerning, among other things, the matters which are subject to a shareholder vote, the number of shares which must be present in person or by proxy at a meeting of shareholders (a "quorum"), and the percentage of such shares present in person or by proxy which must vote in favor of matters presented. Because shares of the underlying fund held in the VAA are owned by us, and because under the 1940 Act we will vote all such shares in the same proportion as the voting instruction which we receive, it is important that each Contractowner provide their voting instructions to us. Even though Contractowners may choose not to provide voting instruction, the shares of a fund to which such Contractowners would have been entitled to provide voting instruction will, subject to fair representation requirements, be voted by us in the same proportion as the voting instruction which we actually receive. As a result, the instruction of a small number of Contractowners could determine the outcome of matters subject to shareholder vote. All shares voted by us will be counted when the underlying fund determines whether any requirement for a minimum number of shares be present at such a meeting to satisfy a quorum requirement has been met. Voting instructions to abstain on any item to be voted on will be applied on a pro-rata basis to reduce the number of votes eligible to be cast. Whenever a shareholders meeting is called, we will provide or make available to each person having a voting interest in a Subaccount proxy voting material, reports and other materials relating to the fund. Since the fund engages in shared funding, other persons or entities besides Lincoln Life may vote fund shares. See Investments of the Variable Annuity Account - Fund Shares. Distribution of the Contracts Lincoln Financial Distributors ("LFD") serves as Principal Underwriter of this contract. LFD is affiliated with Lincoln Life and is registered as a broker-dealer with the SEC under the Securities Exchange Act of 1934 and is a member of FINRA. The Principal Underwriter has entered into selling agreements with Lincoln Financial Advisors ("LFA"), also an affiliate of ours. The Principal Underwriter has also entered into selling agreements with broker-dealers that are unaffiliated with us. While the Principal Underwriter has the legal authority to make payments to broker-dealers which have entered into selling agreements, we will make such payments on behalf of the Principal Underwriter in compliance with appropriate regulations. We also pay on behalf of LFD certain of its operating expenses related to the distribution of this and other of our contracts. The following paragraphs describe how payments are made by us and The Principal Underwriter to various parties. Compensation Paid to LFA. The maximum commission the Principal Underwriter pays to LFA is 1.00% of Purchase Payments, plus up to 0.50% (calculated annually and paid quarterly) based on Contract Value. Alternatively, LFA may elect to receive a lower rate of compensation based upon the Contract Value not to exceed 1.00% for so long as the contract remains in effect. 23 Lincoln Life also pays for the operating and other expenses of LFA, including the following sales expenses: sales representative training allowances; compensation and bonuses for LFA's management team; advertising expenses; and all other expenses of distributing the contracts. LFA pays its sales representatives a portion of the commissions received for their sales of contracts. LFA sales representatives and their managers are also eligible for various cash benefits, such as bonuses, insurance benefits and financing arrangements, and non-cash compensation items that we may provide jointly with LFA. Non-cash compensation items may include conferences, seminars, trips, entertainment, merchandise and other similar items. In addition, LFA sales representatives who meet certain productivity, persistency and length of service standards and/or their managers may be eligible for additional compensation. Sales of the contracts may help LFA sales representatives and/or their managers qualify for such benefits. LFA sales representatives and their managers may receive other payments from us for services that do not directly involve the sale of the contracts, including payments made for the recruitment and training of personnel, production of promotional literature and similar services. Compensation Paid to Unaffiliated Selling Firms. The Principal Underwriter pays commissions to all Selling Firms. The maximum commission the Principal Underwriters pays to Selling Firms, other than LFA, is 1.00% of Purchase Payments, plus up to 0.50% (calculated annually and paid quarterly) based on Contract Value. Alternatively, some Selling Firms may elect to receive a lower rate of compensation based upon the Contract Value not to exceed 1.00% for so long as the contract remains in effect. LFD also acts as wholesaler of the contracts and performs certain marketing and other functions in support of the distribution and servicing of the contracts. LFD may pay certain Selling Firms or their affiliates additional amounts for: (1) "preferred product" treatment of the contracts in their marketing programs, which may include marketing services and increased access to sales representatives; (2) sales promotions relating to the contracts; (3) costs associated with sales conferences and educational seminars for their sales representatives; (4) other sales expenses incurred by them; and (5) inclusion in the financial products the Selling Firm offers. Lincoln Life may provide loans to broker-dealers or their affiliates to help finance marketing and distribution of the contracts, and those loans may be forgiven if aggregate sales goals are met. In addition, we may provide staffing or other administrative support and services to broker-dealers who distribute the contracts. LFD, as wholesaler, may make bonus payments to certain Selling Firms based on aggregate sales of our variable insurance contracts (including the contracts) or persistency standards. These additional payments are not offered to all Selling Firms, and the terms of any particular agreement governing the payments may vary among Selling Firms. These additional types of compensation are not offered to all Selling Firms. The terms of any particular agreement governing compensation may vary among Selling Firms and the amounts may be significant. The prospect of receiving, or the receipt of, additional compensation may provide Selling Firms and/or their registered representatives with an incentive to favor sales of the contracts over other variable annuity contracts (or other investments) with respect to which a Selling Firm does not receive additional compensation, or lower levels of additional compensation. You may wish to take such payment arrangements into account when considering and evaluating any recommendation relating to the contracts. Additional information relating to compensation paid in 2012 is contained in the Statement of Additional Information (SAI). Compensation Paid to Other Parties. Depending on the particular selling arrangements, there may be others whom LFD compensates for the distribution activities. For example, LFD may compensate certain "wholesalers", who control access to certain selling offices, for access to those offices or for referrals, and that compensation may be separate from the compensation paid for sales of the contracts. LFD may compensate marketing organizations, associations, brokers or consultants which provide marketing assistance and other services to broker-dealers who distribute the contracts, and which may be affiliated with those broker-dealers. Commissions and other incentives or payments described above are not charged directly to contract owners or the Fund. All compensation is paid from our resources, which include fees and charges imposed on your contract. Return Privilege Within the free-look period after you receive the contract, you may cancel it for any reason by delivering or mailing it postage prepaid, to The Lincoln National Life Insurance Company at PO Box 2340, Fort Wayne, IN 46801-2340. A contract canceled under this provision will be void. Except as explained in the following paragraph, we will return the Contract Value as of the Valuation Date on which we receive the cancellation request. A purchaser who participates in the VAA is subject to the risk of a market loss on the Contract Value during the free-look period. For contracts written in those states whose laws require that we assume this market risk during the free-look period, a contract may be canceled, subject to the conditions explained before, except that we will return the greater of the Purchase Payment(s) or Contract Value as of the Valuation Date we receive the cancellation request. IRA purchasers will also receive the greater of Purchase Payments or Contract Value as of the Valuation Date on which we receive the cancellation request. State Regulation As a life insurance company organized and operated under Indiana law, we are subject to provisions governing life insurers and to regulation by the Indiana Commissioner of Insurance. Our books and accounts are subject to review and examination by the Indiana Department of Insurance at all times. A full examination of our operations is conducted by that Department at least every five years. 24 Records and Reports As presently required by the 1940 Act and applicable regulations, we are responsible for maintaining all records and accounts relating to the VAA. We have entered into an agreement with The Bank of New York Mellon, One Mellon Bank Center, 500 Grant Street, Pittsburgh, Pennsylvania 15258, to provide accounting services to the VAA. We will mail to you, at your last known address of record at the Home Office, at least semi-annually after the first Contract Year, reports containing information required by that Act or any other applicable law or regulation. Other Information You may elect to receive your prospectus, prospectus supplements, quarterly statements, and annual and semiannual reports electronically over the Internet, if you have an e-mail account and access to an Internet browser. Once you select eDelivery, via the Internet Service Center, all documents available in electronic format will no longer be sent to you in hard copy. You will receive an e-mail notification when the documents become available online. It is your responsibility to provide us with your current e-mail address. You can resume paper mailings at any time without cost, by updating your profile at the Internet Service Center, or contacting us. To learn more about this service, please log on to www.LincolnFinancial.com, select service centers and continue on through the Internet Service Center. Legal Proceedings In the ordinary course of its business and otherwise, the Company and its subsidiaries or its separate accounts and Principal Underwriter may become or are involved in various pending or threatened legal proceedings, including purported class actions, arising from the conduct of its business. In some instances, the proceedings include claims for unspecified or substantial punitive damages and similar types of relief in addition to amounts for alleged contractual liability or requests for equitable relief. After consultation with legal counsel and a review of available facts, it is management's opinion that the proceedings, after consideration of any reserves and rights to indemnification, ultimately will be resolved without materially affecting the consolidated financial position of the Company and its subsidiaries, or the financial position of its separate accounts or Principal Underwriter. However, given the large and indeterminate amounts sought in certain of these proceedings and the inherent difficulty in predicting the outcome of such legal proceedings, it is possible that an adverse outcome in certain matters could be material to the Company's operating results for any particular reporting period. 25 Statement of Additional Information Table of Contents for Lincoln National Variable Annuity Account L
Item Page Special terms B-2 Principal Underwriter B-2 Purchase and Pricing of Securities Being Offered B-7 Annuity Payouts B-8 Determination of Accumulation Unit Value B-9 Capital Markets B-9 Advertising & Ratings B-9 Additional Services B-9
For a free copy of the SAI complete the form below. Statement of Additional Information Request Card Lincoln Secured Retirement IncomeSM Version 2 Lincoln National Variable Annuity Account L . Please send me a free copy of the current Statement of Additional Information for Lincoln National Variable Annuity Account L / Lincoln Secured Retirement IncomeSM Version 2. (Please Print) Name: ------------------------------------------------------------------------- Address: ---------------------------------------------------------------------- City --------------------------------------------------- State --------- Zip --------- Mail to: The Lincoln National Life Insurance Co., P.O. Box 2340, Fort Wayne, Indiana 46801 26 (This page intentionally left blank) [THIS PAGE INTENTIONALLY LEFT BLANK] Lincoln Secured Retirement IncomeSM Version 2 Lincoln National Variable Annuity Account L (Registrant) The Lincoln National Life Insurance Company (Depositor) Statement of Additional Information (SAI) This SAI should be read in conjunction with the Lincoln Secured Retirement IncomeSM Version 2 prospectus of Lincoln National Variable Annuity Account L dated _______, 2013. You may obtain a copy of the Lincoln Secured Retirement IncomeSM Version 2 prospectus on request and without charge. Please write Customer Service, The Lincoln National Life Insurance Company, PO Box 2340, Fort Wayne, IN 46802, or call 1-800-341-0441. Table of Contents
Item Page Special Terms B-2 Services B-2 Principal Underwriter B-2 Purchase of Securities Being Offered B-2 Determination of Accumulation and Annuity Unit Value B-2
Item Page Capital Markets B-3 Advertising & Ratings B-3 Other Information B-3 Financial Statements B-3
This SAI is not a prospectus. The date of this SAI is _______, 2013. Special Terms The special terms used in this SAI are the ones defined in the Prospectus. Services Independent Registered Public Accounting Firm Ernst & Young LLP, independent registered public accounting firm, One Commerce Square, 2005 Market Street, Suite 700, Philadelphia, Pennsylvania, 19103, has audited a) our financial statements of the Lincoln National Variable Annuity Account L as of December 31, 2012 and for the year then ended and the statement of changes in net assets in the year ended December 31, 2011; and b) our consolidated financial statements of The Lincoln National Life Insurance Company as of December 31, 2012 and 2011 and for each of the three years in the period ended December 31, 2012, which are included in this SAI and Registration Statement. The aforementioned financial statements are included herein in reliance on Ernst & Young LLP's reports, given on their authority as experts in accounting and auditing. Keeper of Records All accounts, books, records and other documents which are required to be maintained for the VAA are maintained by us or by third parties responsible to Lincoln Life. We have entered into an agreement with The Bank of New York Mellon, One Mellon Bank Center, 500 Grant Street, Pittsburgh, Pennsylvania, 15258, to provide accounting services to the VAA. No separate charge against the assets of the VAA is made by us for this service. Principal Underwriter Lincoln Financial Distributors, Inc. ("LFD"), an affiliate of Lincoln Life, serves as principal underwriter (the "Principal Underwriter") for the contracts, as described in the prospectus. The Principal Underwriter offers the contracts to the public on a continuous basis and anticipates continuing to offer the contracts, but reserves the right to discontinue the offering. The Principal Underwriter offers the contracts through sales representatives, who are associated with Lincoln Financial Advisors Corporation and/or Lincoln Financial Securities Corporation (collectively, "LFN"), our affiliates. The Principal Underwriter also may enter into selling agreements with other broker-dealers ("Selling Firms") for the sale of the contracts. Sales representatives of Selling Firms are appointed as our insurance agents. LFD, acting as Principal Underwriter, paid $2,228,859, $1,864,104 and $1,720,320 to LFA and Selling Firms in 2010, 2011 and 2012 respectively, as sales compensation with respect to the contracts. The Principal Underwriter retained no underwriting commissions for the sale of the contracts. Purchase of Securities Being Offered The variable annuity contracts are offered to the public through licensed insurance agents who specialize in selling our products; through independent insurance brokers; and through certain securities brokers/dealers selected by us whose personnel are legally authorized to sell annuity products. There are no special purchase plans for any class of prospective buyers. However, under certain limited circumstances described in the prospectus under the section Charges and Other Deductions, any applicable account fee and/or surrender charge may be reduced or waived. Both before and after the Annuity Commencement Date, there are exchange privileges between Subaccounts, and from the VAA to the general account (if available) subject to restrictions set out in the prospectus. See The Contracts, in the prospectus. No exchanges are permitted between the VAA and other separate accounts. The offering of the contracts is continuous. Determination of Accumulation and Annuity Unit Value A description of the days on which Accumulation and Annuity Units will be valued is given in the prospectus. The New York Stock Exchange's (NYSE) most recent announcement (which is subject to change) states that it will be closed on weekends and on these holidays: New Year's Day, Martin Luther King Day, President's Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day. If any of these holidays occurs on a weekend day, the Exchange may also be closed on the business day occurring just before or just after the holiday. It may also be closed on other days. B-2 Since the portfolios of some of the fund and series will consist of securities primarily listed on foreign exchanges or otherwise traded outside the United States, those securities may be traded (and the net asset value of those fund and series and of the variable account could therefore be significantly affected) on days when the investor has no access to those funds and series. Capital Markets In any particular year, our capital may increase or decrease depending on a variety of factors - the amount of our statutory income or losses (which is sensitive to equity market and credit market conditions), the amount of additional capital we must hold to support business growth, changes in reserving requirements, our inability to secure capital market solutions to provide reserve relief, such as issuing letters of credit to support captive reinsurance structures, changes in equity market levels, the value of certain fixed-income and equity securities in our investment portfolio and changes in interest rates. Advertising & Ratings We may include in certain advertisements, endorsements in the form of a list of organizations, individuals or other parties which recommend Lincoln Life or the policies. Furthermore, we may occasionally include in advertisements comparisons of currently taxable and tax deferred investment programs, based on selected tax brackets, or discussions of alternative investment vehicles and general economic conditions. Our financial strength is ranked and rated by nationally recognized independent rating agencies. The ratings do not imply approval of the product and do not refer to the performance of the product, or any separate account, including the underlying investment options. Ratings are not recommendations to buy our products. Each of the rating agencies reviews its ratings periodically. Accordingly, all ratings are subject to revision or withdrawal at any time by the rating agencies, and therefore, no assurance can be given that these ratings will be maintained. The current outlook for the insurance subsidiaries is positive for Moody's and stable for A.M. Best, Fitch, and Standard & Poor's. Our financial strength ratings, which are intended to measure our ability to meet contract holder obligations, are an important factor affecting public confidence in most of our products and, as a result, our competitiveness. A downgrade of our financial strength rating could affect our competitive position in the insurance industry by making it more difficult for us to market our products as potential customers may select companies with higher financial strength ratings and by leading to increased withdrawals by current customers seeking companies with higher financial strength ratings. For more information on ratings, including outlooks, see www.LincolnFinancial.com/investor. Annuity Payout Illustrations. These will provide an initial benefit payment based in part on the Annuitant, the Contract Value and the fixed and/or variable Annuity Payout option elected. In addition, variable Annuity Payout illustrations may show the historical results of a variable payout in a Subaccount of the VAA. Compound Interest Illustrations - These will emphasize several advantages of the variable annuity contract. For example, but not by way of illustration, the literature may emphasize the potential tax savings through tax deferral; the potential advantage of the variable annuity account over the fixed account; and the compounding effect when a client makes regular deposits to his or her contract. Internet - An electronic communications network which may be used to provide information regarding Lincoln Life, performance of the subaccounts and advertisement literature. Other Information Due to differences in redemption rates, tax treatment or other considerations, the interests of Contractowners under the variable life accounts could conflict with those of Contractowners under the VAA. In those cases, where assets from variable life and variable annuity separate accounts are invested in the same fund(s) (i.e., where mixed funding occurs), the Boards of Directors of the fund involved will monitor for any material conflicts and determine what action, if any, should be taken. If it becomes necessary for any separate account to replace shares of any fund with another investment, that fund may have to liquidate securities on a disadvantageous basis. Refer to the prospectus for each fund for more information about mixed funding. Financial Statements The December 31, 2012 financial statements of the VAA and the December 31, 2012 consolidated financial statements of Lincoln Life appear on the following pages. B-3 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY S-1 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2012 AND 2011 S-2 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors and Shareholder of The Lincoln National Life Insurance Company We have audited the accompanying consolidated balance sheets of The Lincoln National Life Insurance Company as of December 31, 2012 and 2011, and the related consolidated statements of comprehensive income (loss), stockholder's equity, and cash flows for each of the three years in the period ended December 31, 2012. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company's internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Lincoln National Life Insurance Company at December 31, 2012 and 2011, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2012, in conformity with U.S. generally accepted accounting principles. As discussed in Note 2 to the consolidated financial statements, effective January 1, 2012 and retrospectively applied to all periods presented, the Company changed its method of accounting for costs relating to the acquisition of insurance contracts. Also as discussed in Note 2 to the consolidated financial statements, in 2010 the Company changed its method of accounting for the consolidation of variable interest entities. /s/ Ernst & Young LLP Philadelphia, Pennsylvania April 2, 2013 S-3 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY CONSOLIDATED BALANCE SHEETS (IN MILLIONS)
AS OF DECEMBER 31, -------------------------- 2012 2011 ----------- ------------ ASSETS Investments: Available-for-sale securities, at fair value: Fixed maturity securities (amortized cost: 2012 - $71,221; 2011 - $67,366) $ 80,254 $ 73,607 Variable interest entities' fixed maturity securities (amortized cost: 2012 - $677; 2011 - $673) 708 700 Equity securities (cost: 2012 - $137; 2011 - $135) 157 139 Trading securities 2,437 2,538 Mortgage loans on real estate 6,792 6,589 Real estate 39 112 Policy loans 2,740 2,855 Derivative investments 2,263 2,846 Other investments 1,089 1,059 --------- ---------- Total investments 96,479 90,445 Cash and invested cash 3,278 3,844 Deferred acquisition costs and value of business acquired 6,732 6,942 Premiums and fees receivable 382 409 Accrued investment income 986 949 Reinsurance recoverables 8,284 9,033 Funds withheld reinsurance assets 842 874 Goodwill 2,273 2,273 Other assets 3,751 3,107 Separate account assets 95,373 83,477 ----------- ------------ Total assets $ 218,380 $ 201,353 =========== ============ LIABILITIES AND STOCKHOLDER'S EQUITY LIABILITIES Future contract benefits $ 18,415 $ 18,399 Other contract holder funds 71,615 68,823 Short-term debt 32 10 Long-term debt 1,925 2,429 Reinsurance related embedded derivatives 184 12 Funds withheld reinsurance liabilities 5,192 4,708 Deferred gain on business sold through reinsurance 124 425 Payables for collateral on investments 4,121 3,747 Variable interest entities' liabilities 92 193 Other liabilities 4,738 4,173 Separate account liabilities 95,373 83,477 ----------- ------------ Total liabilities 201,811 186,396 ----------- ------------ CONTINGENCIES AND COMMITMENTS (SEE NOTE 13) STOCKHOLDER'S EQUITY Common stock - 10,000,000 shares authorized, issued and outstanding 10,620 10,605 Retained earnings 2,089 1,532 Accumulated other comprehensive income (loss) 3,860 2,820 ----------- ------------ Total stockholder's equity 16,569 14,957 ----------- ------------ Total liabilities and stockholder's equity $ 218,380 $ 201,353 =========== ============
See accompanying Notes to Consolidated Financial Statements S-4 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (IN MILLIONS)
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ---------- ----------- REVENUES Insurance premiums $ 2,290 $ 2,017 $ 1,929 Insurance fees 3,537 3,228 3,070 Investment advisory fees 86 - - Net investment income 4,551 4,490 4,362 Realized gain (loss): Total other-than-temporary impairment losses on securities (242) (160) (237) Portion of loss recognized in other comprehensive income 103 42 82 ---------- ---------- ---------- Net other-than-temporary impairment losses on securities recognized in earnings (139) (118) (155) Realized gain (loss), excluding other-than-temporary impairment losses on securities 16 (132) (83) ---------- ---------- ---------- Total realized gain (loss) (123) (250) (238) ---------- ---------- ---------- Amortization of deferred gain on business sold through reinsurance 77 110 55 Other revenues and fees 396 376 360 ---------- ---------- ---------- Total revenues 10,814 9,971 9,538 ---------- ---------- ---------- EXPENSES Interest credited 2,424 2,444 2,438 Benefits 2,936 2,204 2,567 Commissions and other expenses 3,838 3,938 3,134 Interest and debt expense 110 108 99 Impairment of intangibles - 744 - ---------- ---------- ---------- Total expenses 9,308 9,438 8,238 ---------- ---------- ---------- Income (loss) before taxes 1,506 533 1,300 Federal income tax expense (benefit) 344 270 305 ---------- ---------- ---------- Net income (loss) 1,162 263 995 Other comprehensive income (loss), net of tax: Unrealized gain (loss) on available-for-sale securities 1,071 1,686 1,083 Unrealized other-than-temporary impairment on available-for-sale securities (2) 23 (18) Unrealized gain (loss) on derivative instruments (31) 146 (1) Funded status of employee benefit plans 2 0 3 ---------- ---------- ---------- Total other comprehensive income (loss), net of tax 1,040 1,855 1,067 ---------- ---------- ---------- Comprehensive income (loss) $ 2,202 $ 2,118 $ 2,062 ========== ========== ==========
See accompanying Notes to Consolidated Financial Statements S-5 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY (IN MILLIONS)
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- COMMON STOCK Balance as of beginning-of-year $ 10,605 $ 10,585 $ 10,588 Stock compensation/issued for benefit plans 15 10 (3) Capital contribution from Lincoln National Corporation - 10 - ----------- ----------- ----------- Balance as of end-of-year 10,620 10,605 10,585 ----------- ----------- ----------- RETAINED EARNINGS Balance as of beginning-of-year 1,532 2,069 2,915 Cumulative effect from adoption of new accounting standards - - (1,157) Net income (loss) 1,162 263 995 Dividends declared (605) (800) (684) ----------- ----------- ----------- Balance as of end-of-year 2,089 1,532 2,069 ----------- ----------- ----------- ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS) Balance as of beginning-of-year 2,820 965 (102) Cumulative effect from adoption of new accounting standards - - 181 Other comprehensive income (loss), net of tax 1,040 1,855 886 ----------- ----------- ----------- Balance as of end-of-year 3,860 2,820 965 ----------- ----------- ----------- Total stockholder's equity as of end-of-year $ 16,569 $ 14,957 $ 13,619 =========== =========== ===========
See accompanying Notes to Consolidated Financial Statements S-6 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY CONSOLIDATED STATEMENTS OF CASH FLOWS (IN MILLIONS)
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- CASH FLOWS FROM OPERATING ACTIVITIES Net income (loss) $ 1,162 $ 263 $ 995 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Deferred acquisition costs, value of business acquired, deferred sales inducements and deferred front-end loads deferrals and interest, net of amortization (283) (151) (170) Trading securities purchases, sales and maturities, net 202 86 39 Change in premiums and fees receivable 27 (75) (32) Change in accrued investment income (37) (45) (44) Change in future contract benefits and other contract holder funds (1,277) 1,241 (202) Change in reinsurance related assets and liabilities 1,438 405 888 Change in federal income tax accruals 208 111 650 Realized (gain) loss 123 250 238 (Income) loss attributable to equity method investments (125) (90) (93) Amortization of deferred gain on business sold through reinsurance (77) (110) (55) Impairment of intangibles - 744 - Change in accounts receivable (359) 60 115 Other 53 (72) 42 --------- ----------- --------- Net cash provided by (used in) operating activities 1,055 2,617 2,371 --------- ----------- --------- CASH FLOWS FROM INVESTING ACTIVITIES Purchases of available-for-sale securities (11,021) (10,359) (12,816) Sales of available-for-sale securities 1,098 1,331 2,642 Maturities of available-for-sale securities 5,757 5,055 4,429 Purchases of other investments (2,112) (4,434) (2,775) Sales or maturities of other investments 2,009 2,784 3,099 Increase (decrease) in payables for collateral on investments 374 2,035 (212) Proceeds from reinsurance recapture 35 204 25 Other (130) (114) (74) --------- --------- --------- Net cash provided by (used in) investing activities (3,990) (3,498) (5,682) --------- ----------- --------- CASH FLOWS FROM FINANCING ACTIVITIES Issuance of long-term debt, net of issuance costs - - 504 Increase (decrease) in short-term debt 18 - (11) Deposits of fixed account values, including the fixed portion of variable 10,667 10,925 11,051 Withdrawals of fixed account values, including the fixed portion of variable (5,618) (4,976) (5,225) Transfers to and from separate accounts, net (2,091) (2,324) (2,958) Common stock issued for benefit plans and excess tax benefits (2) (4) (15) Dividends paid to stockholders (605) (800) (684) --------- ----------- --------- Net cash provided by (used in) financing activities 2,369 2,821 2,662 --------- ----------- --------- Net increase (decrease) in cash and invested cash, including discontinued operations (566) 1,940 (649) Cash and invested cash, including discontinued operations, as of beginning-of-year 3,844 1,904 2,553 --------- ----------- --------- Cash and invested cash, including discontinued operations, as of end-of-year $ 3,278 $ 3,844 $ 1,904 ========= =========== =========
See accompanying Notes to Consolidated Financial Statements S-7 THE LINCOLN NATIONAL LIFE INSURANCE COMPANY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. NATURE OF OPERATIONS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES NATURE OF OPERATIONS The Lincoln National Life Insurance Company ("LNL" or the "Company," which also may be referred to as "we," "our" or "us"), a wholly-owned subsidiary of Lincoln National Corporation ("LNC" or the "Parent Company"), is domiciled in the state of Indiana. We own 100% of the outstanding common stock of one insurance company subsidiary, Lincoln Life & Annuity Company of New York ("LLANY"). We also own several non-insurance companies, including Lincoln Financial Distributors ("LFD") and Lincoln Financial Advisors ("LFA"), LNC's wholesaling and retailing business units, respectively. LNL's principal businesses consist of underwriting annuities, deposit-type contracts and life insurance through multiple distribution channels. LNL is licensed and sells its products throughout the United States of America and several U.S. territories. See Note 22 for additional details. BASIS OF PRESENTATION The accompanying consolidated financial statements are prepared in accordance with United States of America generally accepted accounting principles ("GAAP"). Certain GAAP policies, which significantly affect the determination of financial condition, results of operations and cash flows, are summarized below. In addition, we adopted the provisions of Accounting Standards Update ("ASU") No. 2010-26, "Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts" ("ASU 2010-26") as discussed in Note 2 as of January 1, 2012, and elected to retrospectively restate all prior periods. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of LNL and all other entities in which we have a controlling financial interest and any variable interest entities ("VIEs") in which we are the primary beneficiary. Entities in which we do not have a controlling financial interest and do not exercise significant management influence over the operating and financing decisions are reported using the equity method. The carrying value of our investments that we account for using the equity method on our Consolidated Balance Sheets and equity in earnings on our Consolidated Statements of Comprehensive Income (Loss) is not material. All material inter-company accounts and transactions have been eliminated in consolidation. Our involvement with VIEs is primarily to invest in assets that allow us to gain exposure to a broadly diversified portfolio of asset classes. A VIE is an entity that does not have sufficient equity to finance its own activities without additional financial support or where investors lack certain characteristics of a controlling financial interest. We assess our contractual, ownership or other interests in a VIE to determine if our interest participates in the variability the VIE was designed to absorb and pass onto variable interest holders. We perform an ongoing qualitative assessment of our variable interests in VIEs to determine whether we have a controlling financial interest and would therefore be considered the primary beneficiary of the VIE. If we determine we are the primary beneficiary of a VIE, we consolidate the assets and liabilities of the VIE in our consolidated financial statements. ACCOUNTING ESTIMATES AND ASSUMPTIONS The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities and the disclosures of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses for the reporting period. Those estimates are inherently subject to change and actual results could differ from those estimates. Included among the material (or potentially material) reported amounts and disclosures that require extensive use of estimates are: fair value of certain invested assets and derivatives, asset valuation allowances, deferred acquisition costs ("DAC"), value of business acquired ("VOBA"), deferred sales inducements ("DSI"), goodwill, future contract benefits, other contract holder funds including deferred front-end loads ("DFEL"), pension plans, stock-based incentive compensation, income taxes and the potential effects of resolving litigated matters. BUSINESS COMBINATIONS We use the acquisition method of accounting for all business combination transactions, and accordingly, recognize the fair values of assets acquired, liabilities assumed and any noncontrolling interests in our consolidated financial statements. The allocation of fair values may be subject to adjustment after the initial allocation for up to a one-year period as more information becomes available relative to the fair values as of the acquisition date. The consolidated financial statements include the results of operations of any acquired company since the acquisition date. FAIR VALUE MEASUREMENT Our measurement of fair value is based on assumptions used by market participants in pricing the asset or liability, which may include inherent risk, restrictions on the sale or use of an asset or non-performance risk, which would include our own credit risk. Our estimate of an exchange price is the price in an orderly transaction between market participants to sell the asset or transfer the liability ("exit price") in the principal market, or the most advantageous market in the absence of a principal market, for that asset or liability, as opposed to the price that would be paid to acquire the asset or receive a liability ("entry price"). Pursuant to the Fair Value Measurements and Disclosures Topic of the Financial Accounting Standards Board ("FASB") ACCOUNTING STANDARDS CODIFICATION(TM) ("ASC"), we categorize our financial instruments carried at fair value into a three-level fair value hierarchy, based on the priority of inputs to the respective valuation technique. The three-level hierarchy for fair value measurement is defined as follows: o Level 1 - inputs to the valuation methodology are quoted prices available in active markets for identical investments as of the reporting date, except for large holdings subject to "blockage discounts" that are excluded; S-8 o Level 2 - inputs to the valuation methodology are other than quoted prices in active markets, which are either directly or indirectly observable as of the reporting date, and fair value can be determined through the use of models or other valuation methodologies; and o Level 3 - inputs to the valuation methodology are unobservable inputs in situations where there is little or no market activity for the asset or liability, and we make estimates and assumptions related to the pricing of the asset or liability, including assumptions regarding risk. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the investment. When a determination is made to classify an asset or liability within Level 3 of the fair value hierarchy, the determination is based upon the significance of the unobservable inputs to the overall fair value measurement. Because certain securities trade in less liquid or illiquid markets with limited or no pricing information, the determination of fair value for these securities is inherently more difficult. However, Level 3 fair value investments may include, in addition to the unobservable or Level 3 inputs, observable components, which are components that are actively quoted or can be validated to market-based sources. AVAILABLE-FOR-SALE SECURITIES - FAIR VALUATION METHODOLOGIES AND ASSOCIATED INPUTS Securities classified as available-for-sale ("AFS") consist of fixed maturity and equity securities and are stated at fair value with unrealized gains and losses included within accumulated other comprehensive income (loss) ("AOCI"), net of associated DAC, VOBA, DSI, future contract benefits, other contract holder funds and deferred income taxes. We measure the fair value of our securities classified as AFS based on assumptions used by market participants in pricing the security. The most appropriate valuation methodology is selected based on the specific characteristics of the fixed maturity or equity security, and we consistently apply the valuation methodology to measure the security's fair value. Our fair value measurement is based on a market approach that utilizes prices and other relevant information generated by market transactions involving identical or comparable securities. Sources of inputs to the market approach primarily include third-party pricing services, independent broker quotations or pricing matrices. We do not adjust prices received from third parties; however, we do analyze the third-party pricing services' valuation methodologies and related inputs and perform additional evaluation to determine the appropriate level within the fair value hierarchy. The observable and unobservable inputs to our valuation methodologies are based on a set of standard inputs that we generally use to evaluate all of our AFS securities. Observable inputs include benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data. In addition, market indicators, industry and economic events are monitored, and further market data is acquired if certain triggers are met. For certain security types, additional inputs may be used, or some of the inputs described above may not be applicable. For private placement securities, we use pricing matrices that utilize observable pricing inputs of similar public securities and Treasury yields as inputs to the fair value measurement. Depending on the type of security or the daily market activity, standard inputs may be prioritized differently or may not be available for all AFS securities on any given day. For broker-quoted only securities, non-binding quotes from market makers or broker-dealers are obtained from sources recognized as market participants. For securities trading in less liquid or illiquid markets with limited or no pricing information, we use unobservable inputs to measure fair value. The following summarizes our fair valuation methodologies and associated inputs, which are particular to the specified security type and are in addition to the defined standard inputs to our valuation methodologies for all of our AFS securities discussed above: o Corporate bonds and U.S. Government bonds - We also use Trade Reporting and Compliance Engine(TM) reported tables for our corporate bonds and vendor trading platform data for our U.S. Government bonds. o Mortgage- and asset-backed securities - We also utilize additional inputs, which include new issues data, monthly payment informationand monthly collateral performance, including prepayments, severity, delinquencies, step-down features and over collateralization features for each of our mortgage-backed securities ("MBS"), which include collateralized mortgage obligations and mortgage pass through securities backed by residential mortgages ("RMBS"), commercial mortgage-backed securities ("CMBS") and collateralized debt obligations ("CDOs"). o State and municipal bonds - We also use additional inputs that include information from the Municipal Securities Rule Making Board, as well as material event notices, new issue data, issuer financial statements and Municipal Market Data benchmark yields for our state and municipal bonds. o Hybrid and redeemable preferred and equity securities - We also utilize additional inputs of exchange prices (underlying and common stock of the same issuer) for our hybrid and redeemable preferred and equity securities, including banking, insurance, other financial services and other securities. In order to validate the pricing information and broker-dealer quotes, we employ, where possible, procedures that include comparisons with similar observable positions, comparisons with subsequent sales and observations of general market movements for those security classes. We have policies and procedures in place to review the process that is utilized by our third-party pricing service and the output that is provided to us by the pricing service. On a periodic basis, we test the S-9 pricing for a sample of securities to evaluate the inputs and assumptions used by the pricing service, and we perform a comparison of the pricing service output to an alternative pricing source. We also evaluate prices provided by our primary pricing service to ensure that they are not stale or unreasonable by reviewing the prices for unusual changes from period to period based on certain parameters or for lack of change from one period to the next. AFS SECURITIES - EVALUATION FOR RECOVERY OF AMORTIZED COST We regularly review our AFS securities for declines in fair value that we determine to be other-than-temporary. For an equity security, if we do not have the ability and intent to hold the security for a sufficient period of time to allow for a recovery in value, we conclude that an other-than-temporary impairment ("OTTI") has occurred and the amortized cost of the equity security is written down to the current fair value, with a corresponding charge to realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). When assessing our ability and intent to hold the equity security to recovery, we consider, among other things, the severity and duration of the decline in fair value of the equity security as well as the cause of the decline, a fundamental analysis of the liquidity, and business prospects and overall financial condition of the issuer. For our fixed maturity AFS securities (also referred to as "debt securities"), we generally consider the following to determine whether our unrealized losses are other-than-temporarily impaired: o The estimated range and average period until recovery; o The estimated range and average holding period to maturity; o Remaining payment terms of the security; o Current delinquencies and nonperforming assets of underlying collateral; o Expected future default rates; o Collateral value by vintage, geographic region, industry concentration or property type; o Subordination levels or other credit enhancements as of the balance sheet date as compared to origination; and o Contractual and regulatory cash obligations. For a debt security, if we intend to sell a security, or it is more likely than not we will be required to sell a debt security before recovery of its amortized cost basis and the fair value of the debt security is below amortized cost, we conclude that an OTTI has occurred and the amortized cost is written down to current fair value, with a corresponding charge to realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). If we do not intend to sell a debt security, or it is not more likely than not we will be required to sell a debt security before recovery of its amortized cost basis but the present value of the cash flows expected to be collected is less than the amortized cost of the debt security (referred to as the credit loss), we conclude that an OTTI has occurred and the amortized cost is written down to the estimated recovery value with a corresponding charge to realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss), as this amount is deemed the credit portion of the OTTI. The remainder of the decline to fair value is recorded in other comprehensive income ("OCI") to unrealized OTTI on AFS securities on our Consolidated Statements of Stockholder's Equity, as this amount is considered a noncredit (i.e., recoverable) impairment. When assessing our intent to sell a debt security, or if it is more likely than not we will be required to sell a debt security before recovery of its cost basis, we evaluate facts and circumstances such as, but not limited to, decisions to reposition our security portfolio, sales of securities to meet cash flow needs and sales of securities to capitalize on favorable pricing. In order to determine the amount of the credit loss for a debt security, we calculate the recovery value by performing a discounted cash flow analysis based on the current cash flows and future cash flows we expect to recover. The discount rate is the effective interest rate implicit in the underlying debt security. The effective interest rate is the original yield, or the coupon if the debt security was previously impaired. See the discussion below for additional information on the methodology and significant inputs, by security type, which we use to determine the amount of a credit loss. Our conclusion that it is not more likely than not that we will be required to sell the fixed maturity AFS securities before recovery of their amortized cost basis, the estimated future cash flows are equal to or greater than the amortized cost basis of the debt securities, or we have the ability to hold the equity AFS securities for a period of time sufficient for recovery is based upon our asset-liability management process. Management considers the following as part of the evaluation: o The current economic environment and market conditions; o Our business strategy and current business plans; o The nature and type of security, including expected maturities and exposure to general credit, liquidity, market and interest rate risk; o Our analysis of data from financial models and other internal and industry sources to evaluate the current effectiveness of our hedging and overall risk management strategies; o The current and expected timing of contractual maturities of our assets and liabilities, expectations of prepayments on investments and expectations for surrenders and withdrawals of life insurance policies and annuity contracts; o The capital risk limits approved by management; and o Our current financial condition and liquidity demands. To determine the recovery period of a debt security, we consider the facts and circumstances surrounding the underlying issuer including, but not limited to, the following: o Historical and implied volatility of the security; o Length of time and extent to which the fair value has been less than amortized cost; o Adverse conditions specifically related to the security or to specific conditions in an industry or geographic area; o Failure, if any, of the issuer of the security to make scheduled payments; and S-10 o Recoveries or additional declines in fair value subsequent to the balance sheet date. In periods subsequent to the recognition of an OTTI, the AFS security is accounted for as if it had been purchased on the measurement date of the OTTI. Therefore, for the fixed maturity AFS security, the original discount or reduced premium is reflected in net investment income over the contractual term of the investment in a manner that produces a constant effective yield. To determine recovery value of a corporate bond or CDO, we perform additional analysis related to the underlying issuer including, but not limited to, the following: o Fundamentals of the issuer to determine what we would recover if they were to file bankruptcy versus the price at which the market is trading; o Fundamentals of the industry in which the issuer operates; o Earnings multiples for the given industry or sector of an industry that the underlying issuer operates within, divided by the outstanding debt to determine an expected recovery value of the security in the case of a liquidation; o Expected cash flows of the issuer (e.g., whether the issuer has cash flows in excess of what is required to fund its operations); o Expectations regarding defaults and recovery rates; o Changes to the rating of the security by a rating agency; and o Additional market information (e.g., if there has been a replacement of the corporate debt security). Each quarter we review the cash flows for the MBS to determine whether or not they are sufficient to provide for the recovery of our amortized cost. We revise our cash flow projections only for those securities that are at most risk for impairment based on current credit enhancement and trends in the underlying collateral performance. To determine recovery value of a MBS, we perform additional analysis related to the underlying issuer including, but not limited to, the following: o Discounted cash flow analysis based on the current cash flows and future cash flows we expect to recover; o Level of creditworthiness of the home equity loans or residential mortgages that back an RMBS or commercial mortgages that back a CMBS; o Susceptibility to fair value fluctuations for changes in the interest rate environment; o Susceptibility to reinvestment risks, in cases where market yields are lower than the securities' book yield earned; o Susceptibility to reinvestment risks, in cases where market yields are higher than the book yields earned on a security; o Expectations of sale of such a security where market yields are higher than the book yields earned on a security; and o Susceptibility to variability of prepayments. When evaluating MBS and mortgage-related asset-backed securities ("ABS"), we consider a number of pool-specific factors as well as market level factors when determining whether or not the impairment on the security is temporary or other-than-temporary. The most important factor is the performance of the underlying collateral in the security and the trends of that performance in the prior periods. We use this information about the collateral to forecast the timing and rate of mortgage loan defaults, including making projections for loans that are already delinquent and for those loans that are currently performing but may become delinquent in the future. Other factors used in this analysis include type of underlying collateral (e.g., prime, Alt-A or subprime), geographic distribution of underlying loans and timing of liquidations by state. Once default rates and timing assumptions are determined, we then make assumptions regarding the severity of a default if it were to occur. Factors that impact the severity assumption include expectations for future home price appreciation or depreciation, loan size, first lien versus second lien, existence of loan level private mortgage insurance, type of occupancy and geographic distribution of loans. Once default and severity assumptions are determined for the security in question, cash flows for the underlying collateral are projected including expected defaults and prepayments. These cash flows on the collateral are then translated to cash flows on our tranche based on the cash flow waterfall of the entire capital security structure. If this analysis indicates the entire principal on a particular security will not be returned, the security is reviewed for OTTI by comparing the expected cash flows to amortized cost. To the extent that the security has already been impaired or was purchased at a discount, such that the amortized cost of the security is less than or equal to the present value of cash flows expected to be collected, no impairment is required. Otherwise, if the amortized cost of the security is greater than the present value of the cash flows expected to be collected, and the security was not purchased at a discount greater than the expected principal loss, then impairment is recognized. We further monitor the cash flows of all of our AFS securities backed by pools on an ongoing basis. We also perform detailed analysis on all of our subprime, Alt-A, non-agency residential MBS and on a significant percentage of our AFS securities backed by pools of commercial mortgages. The detailed analysis includes revising projected cash flows by updating the cash flows for actual cash received and applying assumptions with respect to expected defaults, foreclosures and recoveries in the future. These revised projected cash flows are then compared to the amount of credit enhancement (subordination) in the structure to determine whether the amortized cost of the security is recoverable. If it is not recoverable, we record an impairment of the security. TRADING SECURITIES Trading securities consist of fixed maturity and equity securities in designated portfolios, some of which support modified coinsurance ("Modco") and coinsurance with funds withheld ("CFW") reinsurance arrangements. Investment results for the portfolios that support Modco and CFW reinsurance arrangements, including gains and losses from sales, are passed directly to the reinsurers pursuant to contractual terms of the reinsurance arrangements. Trading securities are carried at fair S-11 value and changes in fair value and changes in the fair value of embedded derivative liabilities associated with the underlying reinsurance arrangements, are recorded in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss) as they occur. ALTERNATIVE INVESTMENTS Alternative investments, which consist primarily of investments in Limited Partnerships ("LPs"), are included in other investments on our Consolidated Balance Sheets. We account for our investments in LPs using the equity method to determine the carrying value. Recognition of alternative investment income is delayed due to the availability of the related financial statements, which are generally obtained from the partnerships' general partners. As a result, our venture capital, real estate and oil and gas portfolios are generally on a three-month delay and our hedge funds are on a one-month delay. In addition, the impact of audit adjustments related to completion of calendar-year financial statement audits of the investees are typically received during the second quarter of each calendar year. Accordingly, our investment income from alternative investments for any calendar-year period may not include the complete impact of the change in the underlying net assets for the partnership for that calendar-year period. PAYABLES FOR COLLATERAL ON INVESTMENTS When we enter into collateralized financing transactions on our investments, a liability is recorded equal to the cash collateral received. This liability is included within payables for collateral on investments on our Consolidated Balance Sheets. Income and expenses associated with these transactions are recorded as investment income and investment expenses within net investment income on our Consolidated Statements of Comprehensive Income (Loss). Changes in payables for collateral on investments are reflected within cash flows from investing activities on our Consolidated Statements of Cash Flows. MORTGAGE LOANS ON REAL ESTATE Mortgage loans on real estate are carried at unpaid principal balances adjusted for amortization of premiums and accretion of discounts and are net of valuation allowances. Interest income is accrued on the principal balance of the loan based on the loan's contractual interest rate. Premiums and discounts are amortized using the effective yield method over the life of the loan. Interest income and amortization of premiums and discounts are reported in net investment income on our Consolidated Statements of Comprehensive Income (Loss) along with mortgage loan fees, which are recorded as they are incurred. Our commercial loan portfolio is comprised of long-term loans secured by existing commercial real estate. As such, it does not exhibit risk characteristics unique to mezzanine, construction, residential, agricultural, land or other types of real estate loans. We believe all of the loans in our portfolio share three primary risks: borrower creditworthiness; sustainability of the cash flow of the property; and market risk; therefore, our methods for monitoring and assessing credit risk are consistent for our entire portfolio. Loans are considered impaired when it is probable that, based upon current information and events, we will be unable to collect all amounts due under the contractual terms of the loan agreement. When we determine that a loan is impaired, a valuation allowance is established for the excess carrying value of the loan over its estimated value. The loan's estimated value is based on: the present value of expected future cash flows discounted at the loan's effective interest rate; the loan's observable market price; or the fair value of the loan's collateral. Valuation allowances are maintained at a level we believe is adequate to absorb estimated probable credit losses of each specific loan. Our periodic evaluation of the adequacy of the allowance for losses is based on our past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay (including the timing of future payments), the estimated value of the underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. Trends in market vacancy and rental rates are incorporated into the analysis that we perform for monitored loans and may contribute to the establishment of (or an increase or decrease in) an allowance for credit losses. In addition, we review each loan individually in our commercial mortgage loan portfolio on an annual basis to identify emerging risks. We focus on properties that experienced a reduction in debt-service coverage or that have significant exposure to tenants with deteriorating credit profiles. Where warranted, we establish or increase loss reserves for a specific loan based upon this analysis. Our process for determining past due or delinquency status begins when a payment date is missed, at which time the borrower is contacted. After the grace period expiration that may last up to 10 days, we send a default notice. The default notice generally provides a short time period to cure the default. Our policy is to report loans that are 60 or more days past due, which equates to two or more payments missed, as delinquent. We do not accrue interest on loans 90 days past due, and any interest received on these loans is either applied to the principal or recorded in net investment income on our Consolidated Statements of Comprehensive Income (Loss) when received, depending on the assessment of the collectibility of the loan. We resume accruing interest once a loan complies with all of its original terms or restructured terms. Mortgage loans deemed uncollectible are charged against the allowance for losses, and subsequent recoveries, if any, are credited to the allowance for losses. All mortgage loans that are impaired have an established allowance for credit losses. Changes in valuation allowances are reported in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). We measure and assess the credit quality of our mortgage loans by using loan-to-value and debt-service coverage ratios. The loan-to-value ratio compares the principal amount of the loan to the fair value at origination of the underlying property collateralizing the loan and is commonly expressed as a percentage. Loan-to-value ratios greater than 100% indicate that the principal amount is greater than the collateral value. Therefore, all else being equal, a lower loan-to-value ratio generally indicates a higher quality loan. The debt-service S-12 coverage ratio compares a property's net operating income to its debt-service payments. Debt-service coverage ratios of less than 1.0 indicate that property operations do not generate enough income to cover its current debt payments. Therefore, all else being equal, a higher debt-service coverage ratio generally indicates a higher quality loan. POLICY LOANS Policy loans represent loans we issue to contract holders that use the cash surrender value of their life insurance policy as collateral. Policy loans are carried at unpaid principal balances. REAL ESTATE Real estate includes both real estate held for the production of income and real estate held-for-sale. Real estate held for the production of income is carried at cost less accumulated depreciation. Depreciation is calculated on a straight-line basis over the estimated useful life of the asset. We periodically review properties held for the production of income for impairment. Properties whose carrying values are greater than their projected undiscounted cash flows are written down to estimated fair value, with impairment losses reported in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). The estimated fair value of real estate is generally computed using the present value of expected future cash flows from the real estate discounted at a rate commensurate with the underlying risks. Real estate classified as held-for-sale is stated at the lower of depreciated cost or fair value less expected disposition costs at the time classified as held-for-sale. Real estate is not depreciated while it is classified as held-for-sale. Also, valuation allowances for losses are established, as appropriate, for real estate held-for-sale and any changes to the valuation allowances are reported in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). Real estate acquired through foreclosure proceedings is recorded at fair value at the settlement date. DERIVATIVE INSTRUMENTS We hedge certain portions of our exposure to interest rate risk, foreign currency exchange risk, equity market risk and credit risk by entering into derivative transactions. All of our derivative instruments are recognized as either assets or liabilities on our Consolidated Balance Sheets at estimated fair value. We categorized derivatives into a three-level hierarchy, based on the priority of the inputs to the respective valuation technique as discussed above in "Fair Value Measurement." The accounting for changes in the estimated fair value of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship, and further, on the type of hedging relationship. For those derivative instruments that are designated and qualify as hedging instruments, we designate the hedging instrument based upon the exposure being hedged: as a cash flow hedge or a fair value hedge. For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative instrument is reported as a component of accumulated OCI and reclassified into net income in the same period or periods during which the hedged transaction affects net income. The remaining gain or loss on the derivative instrument in excess of the cumulative change in the present value of designated future cash flows of the hedged item (hedge ineffectiveness), if any, is recognized in net income during the period of change. For derivative instruments that are designated and qualify as a fair value hedge, the gain or loss on the derivative instrument, as well as the offsetting gain or loss on the hedged item attributable to the hedged risk are recognized in net income during the period of change in estimated fair values. For derivative instruments not designated as hedging instruments, but that are economic hedges, the gain or loss is recognized in net income. We purchase and issue financial instruments and products that contain embedded derivative instruments. When it is determined that the embedded derivative possesses economic characteristics that are not clearly and closely related to the economic characteristics of the host contract, and a separate instrument with the same terms would qualify as a derivative instrument, the embedded derivative is bifurcated from the host for measurement purposes. The embedded derivative, which is reported with the host instrument in the Consolidated Balance Sheets, is carried at fair value with changes in fair value recognized in net income during the period of change. We employ several different methods for determining the fair value of our derivative instruments. The fair value of our derivative contracts are measured based on current settlement values, which are based on quoted market prices, industry standard models that are commercially available and broker quotes. These techniques project cash flows of the derivatives using current and implied future market conditions. We calculate the present value of the cash flows to measure the current fair market value of the derivative. CASH AND CASH EQUIVALENTS Cash and invested cash is carried at cost and includes all highly liquid debt instruments purchased with an original maturity of three months or less. DAC, VOBA, DSI AND DFEL Acquisition costs directly related to successful contract acquisitions or renewals of UL insurance, VUL insurance, traditional life insurance, annuities and other investment contracts have been deferred (i.e., DAC) to the extent recoverable. VOBA is an intangible asset that reflects the estimated fair value of in-force contracts in a life insurance company acquisition and represents the portion of the purchase price that is allocated to the value of the right to receive future cash flows from the business in force at the acquisition date. Bonus credits and excess interest for dollar cost averaging contracts are considered DSI. Contract sales charges that are collected in the early years of an insurance contract are deferred (i.e., DFEL), and the unamortized balance is reported in other contract holder funds on our Consolidated Balance Sheets. Both DAC and VOBA amortization, excluding amounts reported in realized gain (loss), is reported within commissions S-13 and other expenses on our Consolidated Statements of Comprehensive Income (Loss). DSI amortization, excluding amounts reported in realized gain (loss), is reported in interest credited on our Consolidated Statements of Comprehensive Income (Loss). The amortization of DFEL, excluding amounts reported in realized gain (loss), is reported within insurance fees on our Consolidated Statements of Comprehensive Income (Loss). The methodology for determining the amortization of DAC, VOBA, DSI and DFEL varies by product type. For all insurance contracts, amortization is based on assumptions consistent with those used in the development of the underlying contract adjusted for emerging experience and expected trends. Acquisition costs for UL and VUL insurance and investment-type products, which include fixed and variable deferred annuities, are generally amortized over the lives of the policies in relation to the incidence of estimated gross profits ("EGPs") from surrender charges, investment, mortality net of reinsurance ceded and expense margins and actual realized gain (loss) on investments. Contract lives for UL and VUL policies are estimated to be 40 years and 30 years, respectively, based on the expected lives of the contracts. Contract lives for fixed and variable deferred annuities are generally between 13 and 30 years, while some of our fixed multi-year guarantee products have amortization periods equal to the guarantee period. The front-end load annuity product has an assumed life of 25 years. Longer lives are assigned to those blocks that have demonstrated favorable lapse experience. Acquisition costs for all traditional contracts, including traditional life insurance contracts, such as individual whole life, group business and term life insurance, are amortized over periods of 7 to 30 years on either a straight-line basis or as a level percent of premium of the related policies depending on the block of business. There is currently no DAC, VOBA, DSI or DFEL balance or related amortization for fixed and variable payout annuities. We account for modifications of insurance contracts that result in a substantially unchanged contract as a continuation of the replaced contract. We account for modifications of insurance contracts that result in a substantially changed contract as an extinguishment of the replaced contract. The carrying amounts of DAC, VOBA, DSI and DFEL are adjusted for the effects of realized and unrealized gains and losses on securities classified as AFS and certain derivatives and embedded derivatives. Amortization expense of DAC, VOBA, DSI and DFEL reflects an assumption for an expected level of credit-related investment losses. When actual credit-related investment losses are realized, we recognize a true-up to our DAC, VOBA, DSI and DFEL amortization within realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss) reflecting the incremental effect of actual versus expected credit-related investment losses. These actual to expected amortization adjustments can create volatility from period to period in realized gain (loss). During the third quarter of each year, we conduct our annual comprehensive review of the assumptions and the projection models used for our estimates of future gross profits underlying the amortization of DAC, VOBA, DSI and DFEL and the calculations of the embedded derivatives and reserves for life insurance and annuity products with living benefit and death benefit guarantees. These assumptions include investment margins, mortality, retention, rider utilization and maintenance expenses (costs associated with maintaining records relating to insurance and individual and group annuity contracts, and with the processing of premium collections, deposits, withdrawals and commissions). Based on our review, the cumulative balances of DAC, VOBA, DSI and DFEL included on our Consolidated Balance Sheets are adjusted with an offsetting benefit or charge to revenue or amortization expense to reflect such change related to our expectations of future EGPs ("unlocking"). We may have unlocking in other quarters as we become aware of information that warrants updating assumptions outside of our annual comprehensive review. We may also identify and implement actuarial modeling refinements that result in increases or decreases to the carrying values of DAC, VOBA, DSI, DFEL, embedded derivatives and reserves for life insurance and annuity products with living benefit and death benefit guarantees. DAC, VOBA, DSI and DFEL are reviewed to ensure that the unamortized portion does not exceed the expected recoverable amounts. REINSURANCE Our insurance companies enter into reinsurance agreements with other companies in the normal course of business. Assets and liabilities and premiums and benefits from certain reinsurance contracts that grant statutory surplus relief to other insurance companies are netted on our Consolidated Balance Sheets and Consolidated Statements of Comprehensive Income (Loss), respectively, because there is a right of offset. All other reinsurance agreements are reported on a gross basis on our Consolidated Balance Sheets as an asset for amounts recoverable from reinsurers or as a component of other liabilities for amounts, such as premiums, owed to the reinsurers, with the exception of Modco agreements for which the right of offset also exists. Reinsurance premiums and benefits paid or provided are accounted for on bases consistent with those used in accounting for the original policies issued and the terms of the reinsurance contracts. Premiums, benefits and DAC are reported net of insurance ceded. GOODWILL We recognize the excess of the purchase price, plus the fair value of any noncontrolling interest in the acquiree, over the fair value of identifiable net assets acquired as goodwill. Goodwill is not amortized, but is reviewed at least annually for indications of value impairment, with consideration given to financial performance and other relevant factors. In addition, certain events, including a significant adverse change in legal factors or the business climate, an adverse action or assessment by a regulator or unanticipated competition, would cause us to review the carrying amounts of goodwill for S-14 impairment. We perform a two-step test in our evaluation of the carrying value of goodwill for impairment, although we do have the option to first assess qualitative factors to determine if it is necessary to complete the two-step goodwill impairment test. In Step 1 of the evaluation, the fair value of each reporting unit is determined and compared to the carrying value of the reporting unit. If the fair value is greater than the carrying value, then the carrying value is deemed to be sufficient and Step 2 is not required. If the fair value estimate is less than the carrying value, it is an indicator that impairment may exist and Step 2 is required to be performed. In Step 2, the implied fair value of the reporting unit's goodwill is determined by assigning the reporting unit's fair value as determined in Step 1 to all of its net assets (recognized and unrecognized) as if the reporting unit had been acquired in a business combination at the date of the impairment test. If the implied fair value of the reporting unit's goodwill is lower than its carrying amount, goodwill is impaired and written down to its fair value, and a charge is reported in impairment of intangibles on our Consolidated Statements of Comprehensive Income (Loss). OTHER ASSETS AND OTHER LIABILITIES Other assets consist primarily of DSI, specifically identifiable intangible assets, property and equipment owned by the Company, balances associated with corporate-owned and bank-owned life insurance, certain reinsurance assets, receivables resulting from sales of securities that had not yet settled as of the balance sheet date, debt issue costs and other prepaid expenses. Other liabilities consist primarily of current and deferred taxes, pension and other employee benefit liabilities, certain reinsurance payables, payables resulting from purchases of securities that had not yet settled as of the balance sheet date, interest on borrowed funds and other accrued expenses. The carrying values of specifically identifiable intangible assets are reviewed at least annually for indicators of impairment in value that are other-than-temporary, including unexpected or adverse changes in the following: the economic or competitive environments in which the company operates; profitability analyses; cash flow analyses; and the fair value of the relevant business operation. If there was an indication of impairment, then the discounted cash flow method would be used to measure the impairment, and the carrying value would be adjusted as necessary and reported in impairment of intangibles on our Consolidated Statements of Comprehensive Income (Loss). Sales force intangibles are attributable to the value of the new business distribution system acquired through business combinations. These assets are amortized on a straight-line basis over their useful life of 25 years. Federal Communications Commission ("FCC") licenses acquired through business combinations are not amortized. Property and equipment owned for company use is carried at cost less allowances for depreciation. Provisions for depreciation of investment real estate and property and equipment owned for company use are computed principally on the straight-line method over the estimated useful lives of the assets, which include buildings, computer hardware and software and other property and equipment. We periodically review the carrying value of our long-lived assets, including property and equipment, for impairment whenever events or circumstances indicate that the carrying amount of such assets may not be fully recoverable. For long-lived assets to be held and used, impairments are recognized when the carrying amount of a long-lived asset is not recoverable and exceeds its fair value. The carrying amount of a long-lived asset is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. An impairment loss is measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value. Long-lived assets to be disposed of by abandonment or in an exchange for a similar productive long-lived asset are classified as held-for-use until they are disposed. Long-lived assets to be sold are classified as held-for-sale and are no longer depreciated. Certain criteria have to be met in order for the long-lived asset to be classified as held-for-sale, including that a sale is probable and expected to occur within one year. Long-lived assets classified as held-for-sale are recorded at the lower of their carrying amount or fair value less cost to sell. SEPARATE ACCOUNT ASSETS AND LIABILITIES We maintain separate account assets, which are reported at fair value. The related liabilities are reported at an amount equivalent to the separate account assets. Investment risks associated with market value changes are borne by the contract holders, except to the extent of minimum guarantees made by the Company with respect to certain accounts. We issue variable annuity contracts through our separate accounts for which investment income and investment gains and losses accrue directly to, and investment risk is borne by, the contract holder (traditional variable annuities). We also issue variable annuity and life contracts through separate accounts that include various types of guaranteed death benefit ("GDB"), guaranteed withdrawal benefit ("GWB") and guaranteed income benefit ("GIB") features. The GDB features include those where we contractually guarantee to the contract holder either: return of no less than total deposits made to the contract less any partial withdrawals ("return of net deposits"); total deposits made to the contract less any partial withdrawals plus a minimum return ("minimum return"); or the highest contract value on any contract anniversary date through age 80 minus any payments or withdrawals following the contract anniversary ("anniversary contract value"). As discussed in Note 6, certain features of these guarantees are accounted for as embedded derivative reserves, whereas other guarantees are accounted for as benefit reserves. Other guarantees contain characteristics of both and are accounted for under an approach that calculates the value of the embedded derivative reserve and the benefit reserve based on the specific characteristics of each guaranteed living benefit ("GLB") feature. We use derivative instruments to hedge our exposure to the risks and earnings volatility that result from the embedded derivatives for living benefits in certain of our variable annuity products. The change in fair value of these instruments tends to move in the opposite direction of the change in the value of S-15 the associated reserves. The net impact of these changes is reported as a component of realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). The "market consistent scenarios" used in the determination of the fair value of the GLB liability are similar to those used by an investment bank to value derivatives for which the pricing is not transparent and the aftermarket is nonexistent or illiquid. We use risk-neutral Monte-Carlo simulations in our calculation to value the entire block of guarantees, which involve 100 unique scenarios per policy or approximately 38 million scenarios. The market consistent scenario assumptions, as of each valuation date, are those we view to be appropriate for a hypothetical market participant. The market consistent inputs include assumptions for the capital markets (e.g., implied volatilities, correlation among indices, risk-free swap curve, etc.), policyholder behavior (e.g., policy lapse, benefit utilization, mortality, etc.), risk margins, administrative expenses and a margin for profit. We believe these assumptions are consistent with those that would be used by a market participant; however, as the related markets develop we will continue to reassess our assumptions. It is possible that different valuation techniques and assumptions could produce a materially different estimate of fair value. FUTURE CONTRACT BENEFITS AND OTHER CONTRACT HOLDER FUNDS Future contract benefits represent liability reserves that we have established and carry based on estimates of how much we will need to pay for future benefits and claims. Other contract holder funds represent liabilities for fixed account values, including the fixed portion of variable, dividends payable, premium deposit funds, undistributed earnings on participating business and other contract holder funds as well the carrying value of DFEL discussed above. The liabilities for future contract benefits and claim reserves for UL and VUL insurance policies consist of contract account balances that accrue to the benefit of the contract holders, excluding surrender charges. The liabilities for future insurance contract benefits and claim reserves for traditional life policies are computed using assumptions for investment yields, mortality and withdrawals based principally on generally accepted actuarial methods and assumptions at the time of contract issue. Investment yield assumptions for traditional direct individual life reserves for all contracts range from 2.25% to 7.75% depending on the time of contract issue. The investment yield assumptions for immediate and deferred paid-up annuities range from 1.00% to 13.50%. These investment yield assumptions are intended to represent an estimation of the interest rate experience for the period that these contract benefits are payable. The liabilities for future claim reserves for variable annuity products containing GDB features are calculated by estimating the present value of total expected benefit payments over the life of the contract from inception divided by the present value of total expected assessments over the life of the contract ("benefit ratio") multiplied by the cumulative assessments recorded from the contract inception through the balance sheet date less the cumulative GDB payments plus interest on the liability. The change in the liability for a period is the benefit ratio multiplied by the assessments recorded for the period less GDB claims paid in the period plus interest. As experience or assumption changes result in a change in expected benefit payments or assessments, the benefit ratio is unlocked, that is, recalculated using the updated expected benefit payments and assessments over the life of the contract since inception. The revised benefit ratio is then applied to the liability calculation described above, with the resulting change in liability reported as benefit ratio unlocking. With respect to our future contract benefits and other contract holder funds, we continually review: overall reserve position, reserving techniques and reinsurance arrangements. As experience develops and new information becomes known, liabilities are adjusted as deemed necessary. The effects of changes in estimates are included in the operating results for the period in which such changes occur. The business written or assumed by us includes participating life insurance contracts, under which the contract holder is entitled to share in the earnings of such contracts via receipt of dividends. The dividend scale for participating policies is reviewed annually and may be adjusted to reflect recent experience and future expectations. As of December 31, 2012 and 2011, participating policies comprised approximately 1% of the face amount of insurance in force, and dividend expenses were $71 million, $79 million and $82 million for the years ended December 31, 2012, 2011 and 2010, respectively. Liabilities for the secondary guarantees on UL-type products are calculated by multiplying the benefit ratio by the cumulative assessments recorded from contract inception through the balance sheet date less the cumulative secondary guarantee benefit payments plus interest. If experience or assumption changes result in a new benefit ratio, the reserves are adjusted to reflect the changes in a manner similar to the unlocking of DAC, VOBA, DFEL and DSI. The accounting for secondary guarantee benefits impacts, and is impacted by, EGPs used to calculate amortization of DAC, VOBA, DFEL and DSI. Future contract benefits on our Consolidated Balance Sheets include GLB features and remaining guaranteed interest and similar contracts that are carried at fair value, which represents approximate exit value including an estimate for our nonperformance risk. Certain of these features have elements of both insurance benefits and embedded derivatives. Through our hybrid accounting approach, we assign benefits to the embedded derivative or insurance based on the life-contingent nature of the benefits. We classify these items in Level 3 within the hierarchy levels described above in "Fair Value Measurement." The fair value of our indexed annuity contracts is based on their approximate surrender values. BORROWED FUNDS LNL's short-term borrowings are defined as borrowings with contractual or expected maturities of one year or less. S-16 Long-term borrowings have contractual or expected maturities greater than one year. DEFERRED GAIN ON BUSINESS SOLD THROUGH REINSURANCE Our reinsurance operations were acquired by Swiss Re Life & Health America, Inc. ("Swiss Re") in December 2001 through a series of indemnity reinsurance transactions. We are recognizing the gain related to these transactions at the rate that earnings on the reinsured business are expected to emerge, over a period of 15 years from the date of sale. COMMITMENTS AND CONTINGENCIES Contingencies arising from environmental remediation costs, regulatory judgments, claims, assessments, guarantees, litigation, recourse reserves, fines, penalties and other sources are recorded when deemed probable and reasonably estimable. INSURANCE FEES Insurance fees for investment and interest-sensitive life insurance contracts consist of asset-based fees, cost of insurance charges, percent of premium charges, contract administration charges and surrender charges that are assessed against contract holder account balances. Investment products consist primarily of individual and group variable and fixed deferred annuities. Interest-sensitive life insurance products include UL insurance, VUL insurance and other interest-sensitive life insurance policies. These products include life insurance sold to individuals, corporate-owned life insurance and bank-owned life insurance. In bifurcating the embedded derivative of our GLB features on our variable annuity products, we attribute to the embedded derivative the portion of total fees collected from the contract holder that relate to the GLB riders (the "attributed fees"), which are not reported within insurance fees on our Consolidated Statements of Comprehensive Income (Loss). These attributed fees represent the present value of future claims expected to be paid for the GLB at the inception of the contract plus a margin that a theoretical market participant would include for risk/profit and are reported within realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). The timing of revenue recognition as it relates to fees assessed on investment contracts is determined based on the nature of such fees. Asset-based fees, cost of insurance and contract administration charges are assessed on a daily or monthly basis and recognized as revenue when assessed and earned. Percent of premium charges are assessed at the time of premium payment and recognized as revenue when assessed and earned. Certain amounts assessed that represent compensation for services to be provided in future periods are reported as unearned revenue and recognized in income over the periods benefited. Surrender charges are recognized upon surrender of a contract by the contract holder in accordance with contractual terms. For investment and interest-sensitive life insurance contracts, the amounts collected from contract holders are considered deposits and are not included in revenue. INSURANCE PREMIUMS Our insurance premiums for traditional life insurance and group insurance products are recognized as revenue when due from the contract holder. Our traditional life insurance products include those products with fixed and guaranteed premiums and benefits and consist primarily of whole life insurance, limited-payment life insurance, term life insurance and certain annuities with life contingencies. Our group non-medical insurance products consist primarily of term life, disability and dental. NET INVESTMENT INCOME Dividends and interest income, recorded in net investment income, are recognized when earned. Amortization of premiums and accretion of discounts on investments in debt securities are reflected in net investment income over the contractual terms of the investments in a manner that produces a constant effective yield. For CDOs and MBS, included in the trading and AFS fixed maturity securities portfolios, we recognize income using a constant effective yield based on anticipated prepayments and the estimated economic life of the securities. When actual prepayments differ significantly from originally anticipated prepayments, the retrospective effective yield is recalculated to reflect actual payments to date and a catch up adjustment is recorded in the current period. In addition, the new effective yield, which reflects anticipated future payments, is used prospectively. Any adjustments resulting from changes in effective yield are reflected in net investment income on our Consolidated Statements of Comprehensive Income (Loss). REALIZED GAIN (LOSS) Realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss) includes realized gains and losses from the sale of investments, write-downs for other-than-temporary impairments of investments, certain derivative and embedded derivative gains and losses, gains and losses on the sale of subsidiaries and businesses and net gains and losses on reinsurance embedded derivative and trading securities. Realized gains and losses on the sale of investments are determined using the specific identification method. Realized gain (loss) is recognized in net income, net of associated amortization of DAC, VOBA, DSI and DFEL. Realized gain (loss) is also net of allocations of investment gains and losses to certain contract holders and certain funds withheld on reinsurance arrangements for which we have a contractual obligation. OTHER REVENUES AND FEES Other revenues and fees consists primarily of fees attributable to broker-dealer services recorded as earned at the time of sale, changes in the market value of our seed capital investments and communications sales recognized as earned, net of agency and representative commissions. INTEREST CREDITED Interest credited includes interest credited to contract holder account balances. Interest crediting rates associated with funds invested in our general account during 2010 through 2012 ranged from 1.00% to 9.00%. S-17 BENEFITS Benefits for UL and other interest-sensitive life insurance products include benefit claims incurred during the period in excess of contract account balances. Benefits also include the change in reserves for life insurance products with secondary guarantee benefits, annuity products with guaranteed death and living benefits, and certain annuities with life contingencies. For traditional life, group health and disability income products, benefits are recognized when incurred in a manner consistent with the related premium recognition policies. PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS Pursuant to the accounting rules for our obligations to employees and agents under our various pension and other postretirement benefit plans, we are required to make a number of assumptions to estimate related liabilities and expenses. We use assumptions for the weighted-average discount rate and expected return on plan assets to estimate pension expense. The discount rate assumptions are determined using an analysis of current market information and the projected benefit flows associated with these plans. The expected long-term rate of return on plan assets is based on historical and projected future rates of return on the funds invested in the plan. The calculation of our accumulated postretirement benefit obligation also uses an assumption of weighted-average annual rate of increase in the per capita cost of covered benefits, which reflects a health care cost trend rate. STOCK-BASED COMPENSATION In general, we expense the fair value of stock awards included in our incentive compensation plans. As of the date LNC's Board of Directors approves stock awards, the fair value of stock options is determined using a Black-Scholes options valuation methodology, and the fair value of other stock awards is based upon the market value of the stock. The fair value of the awards is expensed over the performance or service period, which generally corresponds to the vesting period, and is recognized as an increase to common stock in stockholder's equity. We classify certain stock awards as liabilities. For these awards, the settlement value is classified as a liability on our Consolidated Balance Sheets and the liability is marked-to-market through net income at the end of each reporting period. Stock-based compensation expense is reflected in commissions and other expenses on our Consolidated Statements of Comprehensive Income (Loss). INTEREST AND DEBT EXPENSES Interest expense on our short-term and long-term debt is recognized as due and any associated premiums, discounts, and costs are amortized (accreted) over the term of the related borrowing utilizing the effective interest method. In addition, gains or losses related to certain derivative instruments associated with debt are recognized in interest expense during the period of the change. INCOME TAXES We file a U.S. consolidated income tax return with LNC and its eligible subsidiaries. Ineligible subsidiaries file separate individual corporate tax returns. Subsidiaries operating outside of the U.S. are taxed, and income tax expense is recorded based on applicable foreign statutes. Deferred income taxes are recognized, based on enacted rates, when assets and liabilities have different values for financial statement and tax reporting purposes. A valuation allowance is recorded to the extent required. Considerable judgment and the use of estimates are required in determining whether a valuation allowance is necessary and, if so, the amount of such valuation allowance. In evaluating the need for a valuation allowance, we consider many factors, including: the nature and character of the deferred tax assets and liabilities; taxable income in prior carryback years; future reversals of temporary differences; the length of time carryovers can be utilized; and any tax planning strategies we would employ to avoid a tax benefit from expiring unused. 2. NEW ACCOUNTING STANDARDS ADOPTION OF NEW ACCOUNTING STANDARDS COMPREHENSIVE INCOME TOPIC In June 2011, the FASB issued (ASU) No. 2011-05, "Presentation of Comprehensive Income" ("ASU 2011-05"), with an objective of increasing the prominence of items reported in other comprehensive income ("OCI"). The amendments in ASU 2011-05 provided entities with the option to present the total of comprehensive income, the components of net income and the components of OCI in either a single continuous statement of comprehensive income or in two separate but consecutive statements. In December 2011, the FASB deferred certain requirements in ASU 2011-05 related to the presentation of reclassification adjustments out of accumulated OCI by issuing ASU No. 2011-12, "Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05." The FASB reconsidered these presentation requirements based on input from financial statements users and preparers. The deferral did not affect the adoption of the other requirements in ASU 2011-05. We adopted the remaining provisions of ASU 2011-05 as of January 1, 2012, and have included a single continuous statement of comprehensive income. CONSOLIDATIONS TOPIC In June 2009, the FASB issued ASU No. 2009-17, "Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities" ("ASU 2009-17"), which replaced the consolidation guidance for VIEs with new consolidation guidance whereby entities perform a qualitative assessment of the VIE to identify the variable interest that is the primary beneficiary and ultimately required to consolidate the VIE. In February 2010, the FASB deferred application of the guidance in ASU 2009-17 for reporting entities with interests in an S-18 entity that applies the specialized accounting guidance for investment companies. Effective January 1, 2010, we adopted the amendments in ASU 2009-17 and accordingly reconsidered our involvement with all our VIEs and the primary beneficiary of the VIEs. We concluded we are the primary beneficiary of the VIEs associated with our investments in credit-linked notes ("CLNs"), and, as such, consolidated all of the assets and liabilities of these VIEs and recorded a cumulative effect adjustment of $169 million, after-tax, to the beginning balance of retained earnings as of January 1, 2010. In addition, we considered our investments in LPs and other alternative investments, and concluded these investments are within the scope of the FASB's February 2010 deferral, and, as such, they are not currently subject to the amended consolidation guidance in ASU 2009-17. As a result, we will continue to account for our alternative investments consistent with the accounting policy in Note 1. See Note 4 for more detail regarding the consolidation of our VIEs. FAIR VALUE MEASUREMENTS AND DISCLOSURES TOPIC In May 2011, the FASB issued ASU No. 2011-04, "Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards" ("ASU 2011-04"), which was issued to create a consistent framework for the application of fair value measurement across jurisdictions. The amendments include wording changes to GAAP in order to clarify the FASB's intent about the application of existing fair value measurements and disclosure requirements, as well as to change a particular principle or existing requirement for measuring fair value or disclosing information about fair value measurements. There were no additional fair value measurements required upon the adoption of ASU 2011-04. We adopted the provisions of ASU 2011-04 effective January 1, 2012, and have included the additional disclosures required for fair value measurements in Note 21. FINANCIAL SERVICES - INSURANCE INDUSTRY TOPIC In October 2010, the FASB issued ASU No. 2010-26, "Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts", which clarifies the types of costs incurred by an insurance entity that can be capitalized in the acquisition of insurance contracts. Only those costs incurred that result directly from and are essential to the successful acquisition of new or renewal insurance contracts may be capitalized as deferrable acquisition costs. The determination of deferability must be made on a contract-level basis. Prior to the adoption of ASU 2010-26, we defined DAC as commissions and other costs of acquiring UL insurance, VUL insurance, traditional life insurance, annuities and other investments contracts that vary with and are related primarily to new or renewal business, regardless of whether the acquisition efforts were successful or unsuccessful. Upon the adoption of ASU 2010-26, we revised our accounting policy to only defer acquisition costs directly related to successful contract acquisitions or renewals, and excluded from DAC those costs incurred for soliciting potential customers, market research, training, administration, management of distribution and underwriting functions, unsuccessful acquisition or renewal efforts and product development. In addition, indirect acquisition costs including administrative costs, rent, depreciation, occupancy costs, equipment costs and other general overhead are excluded from DAC. The costs that are considered non-deferrable acquisition costs under ASU 2010-26 are expensed in the period incurred. We adopted the provisions of ASU 2010-26 as of January 1, 2012, and elected to retrospectively restate all prior periods. The following table summarizes the effect of the restatement (in millions) on our previously reported Consolidated Balance Sheets and Consolidated Statements of Comprehensive Income:
AS OF DECEMBER 31, 2011 ------------ Deferred acquisition costs and value of business acquired $ (1,394) Total assets (1,394) Other liabilities (479) Total liabilities (489) Retained earnings (1,137) Accumulated other comprehensive income (loss) 231 Total stockholders' equity (904)
FOR THE YEARS ENDED DECEMBER 31, -------------------------- 2011 2010 ----------- ----------- Realized gain (loss) $ 8 $ 10 Total revenues 9 13 Commissions and other expenses 117 134 Total expenses 117 134 Income (loss) from continuing operations before taxes (108) (122) Federal income tax expense (benefit) (39) (43) Income (loss) from continuing operations (70) (78) Net income (loss) (70) (78)
INTANGIBLES - GOODWILL AND OTHER TOPIC In September 2011, the FASB issued ASU No. 2011-08, "Testing Goodwill for Impairment" ("ASU 2011-08"), which provides an option to first assess qualitative factors to determine if it is necessary to complete the two-step goodwill impairment test. If the assessment of relevant events and circumstances leads to a conclusion that it is not more likely than not that the fair value of a reporting unit is less than its carrying value, then performing the two-step impairment test is unnecessary. However, if a conclusion is reached otherwise, the two-step impairment test must be completed. An entity has an unconditional option to bypass the qualitative assessment for any reporting unit and proceed directly to the two-step goodwill impairment test, and resume qualitative assessment for the same reporting unit in a subsequent reporting period. We adopted the provisions of ASU 2011-08 effective January 1, 2012. The adoption did not have a material effect on our consolidated financial condition and results of operations. S-19 In July 2012, the FASB issued ASU No. 2012-02, "Testing Indefinite-Lived Intangible Assets for Impairment" ("ASU 2012-02"), which provides an option to first assess qualitative factors to determine whether the existence of events and circumstances indicate that it is more likely than not that the indefinite-lived intangible asset is impaired. If based on the qualitative assessment an entity determines that it is not more likely than not that the indefinite-lived intangible asset is impaired, then the quantitative impairment test is not required. In addition, an entity has the option to bypass the qualitative assessment in any period and proceed directly to the quantitative assessment, with the option to return to the qualitative assessment in any subsequent period. We adopted the provisions of ASU 2012-02 effective October 1, 2012. The adoption did not have a material effect on our consolidated financial condition and results of operations. TRANSFERS AND SERVICING TOPIC In April 2011, the FASB issued ASU No. 2011-03, "Reconsideration of Effective Control for Repurchase Agreements" ("ASU 2011-03"), which revises the criteria for assessing effective control for repurchase agreements and other similar agreements. The determination of whether the transfer of a financial asset subject to a repurchase agreement is a sale is based, in part, on whether the entity maintains effective control over the financial asset. ASU 2011-03 removes: the criterion requiring the transferor to have the ability to repurchase or redeem the financial asset on substantially the agreed terms, even in the event of default by the transferee; and the related requirement to demonstrate that the transferor possesses adequate collateral to fund substantially all the cost of purchasing replacement financial assets. We adopted the provisions of ASU 2011-03 effective January 1, 2012. The adoption did not have a material effect on our consolidated financial condition and results of operations. FUTURE ADOPTION OF NEW ACCOUNTING STANDARDS BALANCE SHEET TOPIC In December 2011, the FASB issued ASU No. 2011-11, "Disclosures about Offsetting Assets and Liabilities" ("ASU 2011-11"), to address certain comparability issues between financial statements prepared in accordance with GAAP and those prepared in accordance with International Financial Reporting Standards. In January 2013, the FASB issued ASU No. 2013-01, "Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities" ("ASU 2013-01"), to provide information regarding the scope of the disclosures required by ASU 2011-11 to the financial instruments and derivatives reported in an entity's financial statements. ASU 2011-11 will require an entity to provide enhanced disclosures about certain financial instruments and derivatives, as defined in ASU 2013-01, to enable users to understand the effects of offsetting in the financial statements as well as the effects of master netting arrangements on an entity's financial condition. The amendments in ASU 2011-11 and ASU 2013-01, are effective for annual and interim reporting periods beginning on or after January 1, 2013, with respective disclosures required for all comparative periods presented. We will adopt the requirements in ASU 2011-11 and ASU 2013-01 for the quarterly period ending March 31, 2013, and will include the required disclosures in the notes to our consolidated financial statements. COMPREHENSIVE INCOME TOPIC In February 2013, the FASB issued ASU No. 2013-02, "Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income" ("ASU 2013-02"), which requires enhanced reporting of such amounts either on the face of the financial statements or in the notes to the financial statements. Under ASU 2013-02, the type of reclassification out of AOCI, as defined under current GAAP, will dictate whether the disclosure must provide the effect of the reclassification on the respective financial statement line items or whether cross-referencing to other disclosures that provide additional detail about the reclassification will be required. The amendments in ASU 2013-02 are effective prospectively for reporting periods beginning after December 15, 2012. We will adopt the requirements of ASU 2013-02 beginning with our financial statements for the quarterly period ending March 31, 2013, and will include the enhanced disclosures in the notes to our consolidated financial statements. S-20 3. REINSURANCE CEDED, REINSURANCE RECAPTURED, CAPITAL CONTRIBUTIONS AND REINSURANCE NOVATED REINSURANCE CEDED TO LINCOLN NATIONAL REINSURANCE COMPANY (BARBADOS) LIMITED ("LNBAR") We completed a reinsurance transaction during the fourth quarter of 2012 whereby we ceded a block of business to LNBAR, a wholly-owned subsidiary of LNC, which resulted in the release of $164 million of capital previously supporting a portion of statutory reserves related to our Duet/Legend business. The following summarizes the effect of this transaction (in millions) on our Consolidated Balance Sheets as of December 31, 2012: ASSETS Cash and invested cash $ (32) Deferred acquisition costs and value of business acquired (148) Reinsurance recoverables 547 ---------- Total assets $ 367 ========== LIABILITIES Other contract holder funds $ (44) Deferred gain on indemnity reinsurance (233) Funds withheld reinsurance liabilities 676 Other liabilities (32) ---------- Total liabilities $ 367 ==========
REINSURANCE RECAPTURED FROM LNBAR During fourth quarter 2012, we recaptured a block of secondary guaranteed UL business previously ceded to LNBAR. The following summarizes the effect of this transaction (in millions) on our Consolidated Balance Sheets and Consolidated Statements of Comprehensive Income as of and for the year ended December 31, 2012: ASSETS Cash and invested cash $ 119 Other assets (34) ---------- Total assets $ 85 ========== LIABILITIES Reinsurance related embedded derivatives $ 39 Other liabilities 45 ---------- Total liabilies $ 84 ========== REVENUES AND EXPENSES Benefits $ 290 Commissions and other expenses (289) ---------- Net income (loss) $ 1 ==========
During fourth quarter 2011, we recaptured portions of business previously ceded to LNBAR. The following summarizes the effect of this transaction (in millions) on our Consolidated Balance Sheets and Consolidated Statements of Comprehensive Income as of and for the year ended December 31, 2011: ASSETS Cash $ 204 Deferred acquisition costs 243 ---------- Total assets $ 447 ========== LIABILITIES Future contract benefits $ 613 Other contract holder funds 18 Funds withheld reinsurance liabilities (300) Deferred gain (loss) on business sold through reinsurance 106 Other liabilities 4 ---------- Total liabilities $ 441 ========== REVENUES AND EXPENSES Amortization of deferred gain (loss) on business sold through reinsurance: Write-off of unamortized deferred gain (loss) $ 34 Benefits (24) Federal income tax expense (4) ---------- Net income $ 6 ==========
REINSURANCE NOVATED FROM LRCVII TO LNBAR During third quarter 2012, LRCVII novated SUL business to LNBAR. The following summarizes the effect of this transaction (in millions) on our Consolidated Balance Sheets as of December 31, 2012: ASSETS Cash and invested cash $ (52) ---------- Total assets $ (52) ========== LIABILITIES Reinsurance related embedded derivatives (18) Deferred gain on indemnity reinsurance 8 Long-term debt (500) Funds withheld reinsurance liabilities 500 Other liabilities (16) ---------- Total liabilities $ (26) ========== REVENUES AND EXPENSES Net investment income $ (13) Benefits 13 ---------- Net Income $ (26) ==========
CAPITAL CONTRIBUTIONS On December 30, 2011, LNC transferred ownership of LIAC to LNL. In addition, LNC assumed certain liabilities from LNL during 2011 (reflected in "Other" in the table below). The following summarizes the effect of these capital contributions (in millions):
FOR THE YEARS ENDED DECEMBER 31, -------------------------- 2011 2011 ---------- ---------- LIAC OTHER ---------- ---------- Cash and invested cash $ 1 $ - Other assets 9 - Other liabilities (5) 5 ---------- -------- Total(1) $ 5 $ 5 ========== ==========
(1) Reported in capital contribution from LNC on our Consolidated Statements of Stockholder's Equity. S-21 4. VARIABLE INTEREST ENTITIES CONSOLIDATED VIES CLNS We have invested in the Class 1 notes of two CLN structures, which represent special purpose trusts combining asset-backed securities with credit default swaps to produce multi-class structured securities. The CLN structures also include subordinated Class 2 notes, which are held by third parties, and, together with the Class 1 notes, represent 100% of the outstanding notes of the CLN structures. The entities that issued the CLNs are financed by the note holders, and, as such, the note holders participate in the expected losses and residual returns of the entities. Because the note holders do not have voting rights or similar rights, we determined the entities issuing the CLNs are VIEs, and as a note holder, our interest represented a variable interest. We have the power to direct the most significant activity affecting the performance of both CLN structures, as we have the ability to actively manage the reference portfolio underlying the credit default swaps. In addition, we receive returns from the CLN structures and may absorb losses that could potentially be significant to the CLN structures. As such, we concluded that we are the primary beneficiary of the VIEs associated with the CLNs. We reflected the assets and liabilities on our Consolidated Balance Sheets and recognized the results of operations of these VIEs on our Consolidated Statements of Comprehensive Income (Loss) since adopting new accounting guidance in the first quarter of 2010. See "Consolidations Topic" in Note 2 for more detail regarding the effect of the adoption. As a result of consolidating the CLNs, we also consolidate the derivative instruments in the CLN structures. The credit default swaps create variability in the CLN structures and expose the note holders to the credit risk of the referenced portfolio. The contingent forward contracts transfer a portion of the loss in the underlying fixed maturity corporate asset-backed credit card loan securities back to the counterparty after credit losses reach our attachment point. The following summarizes information regarding the CLN structures (dollars in millions) as of December 31, 2012:
AMOUNT AND DATE OF ISSUANCE --------------------------- $400 $200 DECEMBER APRIL 2006 2007 ------------- ----------- Original attachment point (subordination) 5.50 % 2.05 % Current attachment point (subordination) 4.17 % 1.48 % Maturity 12/20/2016 3/20/2017 Current rating of tranche BB- Ba2 Current rating of underlying collateral pool Aa1-B3 Aaa-Caa2 Number of defaults in underlying collateral pool 2 2 Number of entities 123 99 Number of countries 20 21
There has been no event of default on the CLNs themselves. Based upon our analysis, the remaining subordination as represented by the attachment point should be sufficient to absorb future credit losses, subject to changing market conditions. Similar to other debt market instruments, our maximum principal loss is limited to our original investment. The following summarizes the exposure of the CLN structures' underlying collateral by industry and rating as of December 31, 2012:
AAA AA A BBB BB B CCC TOTAL --------- --------- --------- --------- --------- --------- --------- --------- INDUSTRY Financial intermediaries - % 2.1 % 7.0 % 1.4 % - % - % - % 10.5 % Telecommunications - % - % 5.5 % 4.5 % - % 0.5 % - % 10.5 % Oil and gas 0.3 % 2.1 % 1.0 % 4.6 % - % - % - % 8.0 % Utilities - % - % 2.6 % 2.0 % - % - % - % 4.6 % Chemicals and plastics - % - % 2.3 % 1.2 % 0.4 % - % - % 3.9 % Drugs 0.3 % 2.2 % 1.2 % - % - % - % - % 3.7 % Retailers (except food and drug) - % - % 2.1 % 0.9 % 0.5 % - % - % 3.5 % Industrial equipment - % - % 3.0 % 0.3 % - % - % - % 3.3 % Sovereign - % 0.7 % 1.2 % 1.3 % - % - % - % 3.2 % Conglomerates - % 2.3 % 0.9 % - % - % - % - % 3.2 % Forest products - % - % - % 1.6 % 1.4 % - % - % 3.0 % Other - % 4.5 % 15.4 % 17.4 % 4.1 % 0.9 % 0.3 % 42.6 % --------- --------- --------- --------- --------- --------- --------- --------- Total 0.6 % 13.9 % 42.2 % 35.2 % 6.4 % 1.4 % 0.3 % 100.0 % ========= ========= ========= ========= ========= ========= ========= =========
S-22 STATUTORY TRUST NOTE In August 2011, we purchased a $100 million note issued by a statutory trust ("Issuer") in a private placement offering. The proceeds were used by the Issuer to purchase U.S. Treasury securities to be held as collateral assets supporting an excess mortality swap. Our maximum exposure to loss is limited to our original investment in the notes. We have concluded that the Issuer of the note is a VIE as the entity does not have sufficient equity to support its activities without additional financial support, and as a note holder, our interest represents a variable interest. In our evaluation of the primary beneficiary, we concluded that our economic interest was greater than our stated power. As a result, we concluded that we are the primary beneficiary of the VIE and consolidate all of the assets and liabilities of the Issuer on our Consolidated Balance Sheets as of August 1, 2011. Asset and liability information (dollars in millions) for these consolidated VIEs included on our Consolidated Balance Sheets was as follows:
AS OF DECEMBER 31, 2012 AS OF DECEMBER 31, 2011 ---------------------------------------- ---------------------------------------- NUMBER NUMBER OF NOTIONAL CARRYING OF NOTIONAL CARRYING INSTRUMENTS AMOUNTS VALUE INSTRUMENTS AMOUNTS VALUE ----------- ----------- ---------- ----------- ---------- ----------- ASSETS Fixed maturity securities: Asset-backed credit card loan N/A $ - $ 598 N/A $ - $ 592 U.S. government bonds N/A - 110 N/A - 108 Excess mortality swap 1 100 - 1 100 - ----------- ----------- ---------- ----------- ---------- ----------- Total assets(1) 1 $ 100 $ 708 1 $ 100 $ 700 =========== =========== ========== =========== ========== =========== LIABILITIES Non-qualifying hedges: Credit default swaps 2 $ 600 $ 129 2 $ 600 $ 295 Contingent forwards 2 - (1) 2 - (4) ----------- ----------- ---------- ----------- ---------- ----------- Total non-qualifying hedges 4 600 128 4 600 291 ----------- ----------- ---------- ----------- ---------- ----------- Federal income tax N/A - (36) N/A - (98) ----------- ----------- ---------- ----------- ---------- ----------- Total liabilities(2) 4 $ 600 $ 92 4 $ 600 $ 193 =========== =========== ========== =========== ========== ===========
(1) Reported in VIEs' fixed maturity securities on our Consolidated Balance Sheets. (2) Reported in VIEs' liabilities on our Consolidated Balance Sheets. For details related to the fixed maturity AFS securities for these VIEs, see Note 5. As described more fully in Note 1, we regularly review our investment holdings for OTTI. Based upon this review, we believe that the fixed maturity securities were not other-than-temporarily impaired as of December 31, 2012. The gains (losses) for these consolidated VIEs (in millions) recorded on our Consolidated Statements of Comprehensive Income (Loss) were as follows:
FOR THE YEARS ENDED DECEMBER 31, ------------------------- 2012 2011 ----------- ---------- NON-QUALIFYING HEDGES Credit default swaps $ 166 $ (80) Contingent forwards (3) (2) ----------- ---------- Total non-qualifying hedges(1) $ 163 $ (82) =========== ==========
(1) Reported in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). UNCONSOLIDATED VIES Effective December 31, 2010, we issued a $500 million long-term senior note in exchange for a corporate bond AFS security of like principal and duration from a non-affiliated VIE whose primary activities are to acquire, hold and issue notes and loans, as well as pay and collect interest on the notes and loans. We have concluded that we are not the primary beneficiary of this VIE because we do not have power over the activities that most significantly affect its economic performance. In addition, the terms of the senior note provide us with a set-off right to the corporate bond AFS security we purchased from the VIE; therefore, neither appears on our Consolidated Balance Sheets. We assigned the corporate bond AFS security to one of our subsidiaries and issued a guarantee to our subsidiary for the timely payment of the corporate bond's principal. S-23 Through our investment activities, we make passive investments in structured securities issued by VIEs for which we are not the manager. These structured securities include our RMBS, CMBS and CDOs. We have not provided financial or other support with respect to these VIEs other than our original investment. We have determined that we are not the primary beneficiary of these VIEs due to the relative size of our investment in comparison to the principal amount of the structured securities issued by the VIEs and the level of credit subordination that reduces our obligation to absorb losses or right to receive benefits. Our maximum exposure to loss on these structured securities is limited to the amortized cost for these investments. We recognize our variable interest in these VIEs at fair value on our Consolidated Balance Sheets. For information about these structured securities, see Note 5. 5. INVESTMENTS AFS SECURITIES Pursuant to the Fair Value Measurements and Disclosures Topic of the FASB ASC, we have categorized AFS securities into a three-level hierarchy, based on the priority of the inputs to the respective valuation technique. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3), as described in Note 1, which also includes additional disclosures regarding our fair value measurements. The amortized cost, gross unrealized gains, losses and OTTI and fair value of AFS securities (in millions) were as follows:
AS OF DECEMBER 31, 2012 -------------------------------------------------------------------- GROSS UNREALIZED AMORTIZED ---------------------------------------- FAIR COST GAINS LOSSES OTTI VALUE ----------- ----------- ---------- ----------- ---------- FIXED MATURITY SECURITIES: Corporate bonds $ 59,127 $ 7,977 $ 216 $ 104 $ 66,784 U.S. government bonds 339 54 - - 393 Foreign government bonds 549 91 - - 640 RMBS 5,494 449 3 57 5,883 CMBS 925 63 14 19 955 CDOs 189 2 3 8 180 State and municipal bonds 3,455 795 7 - 4,243 Hybrid and redeemable preferred securities 1,143 103 70 - 1,176 VIEs' fixed maturity securities 677 31 - - 708 ----------- ----------- ---------- ----------- ---------- Total fixed maturity securities 71,898 9,565 313 188 80,962 Equity securities 137 22 2 - 157 ----------- ----------- ---------- ----------- ---------- Total AFS securities $ 72,035 $ 9,587 $ 315 $ 188 $ 81,119 =========== =========== ========== =========== ==========
AS OF DECEMBER 31, 2011 -------------------------------------------------------------------- GROSS UNREALIZED AMORTIZED ---------------------------------------- FAIR COST GAINS LOSSES OTTI VALUE ----------- ----------- ---------- ----------- ---------- FIXED MATURITY SECURITIES: Corporate bonds $ 52,665 $ 5,989 $ 507 $ 60 $ 58,087 U.S. government bonds 395 50 - - 445 Foreign government bonds 654 64 - - 718 RMBS 7,331 522 70 119 7,664 CMBS 1,563 68 93 9 1,529 CDOs 120 - 19 - 101 State and municipal bonds 3,399 553 9 - 3,943 Hybrid and redeemable preferred securities 1,239 47 166 - 1,120 VIEs' fixed maturity securities 673 27 - - 700 ----------- ----------- ---------- ----------- ---------- Total fixed maturity securities 68,039 7,320 864 188 74,307 Equity securities 135 16 12 - 139 ----------- ----------- ---------- ----------- ---------- Total AFS securities $ 68,174 $ 7,336 $ 876 $ 188 $ 74,446 =========== =========== ========== =========== ==========
S-24 The amortized cost and fair value of fixed maturity AFS securities by contractual maturities (in millions) as of December 31, 2012, were as follows:
AMORTIZED FAIR COST VALUE ----------- ------------ Due in one year or less $ 2,872 $ 2,922 Due after one year through five years 12,334 13,470 Due after five years through ten years 23,662 26,520 Due after ten years 26,422 31,032 ----------- ------------ Subtotal 65,290 73,944 ----------- ------------ MBS 6,419 6,838 CDOs 189 180 ----------- ------------ Total fixed maturity AFS securities $ 71,898 $ 80,962 =========== ============
Actual maturities may differ from contractual maturities because issuers may have the right to call or pre-pay obligations. The fair value and gross unrealized losses, including the portion of OTTI recognized in OCI, of AFS securities (dollars in millions), aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows:
AS OF DECEMBER 31, 2012 ----------------------------------------------------------------------------------- LESS THAN OR EQUAL GREATER THAN TO TWELVE MONTHS TWELVE MONTHS TOTAL ------------------------- ------------------------- ------------------------- GROSS GROSS GROSS UNREALIZED UNREALIZED UNREALIZED LOSSES LOSSES LOSSES FAIR AND FAIR AND FAIR AND VALUE OTTI VALUE OTTI VALUE OTTI ----------- ---------- ----------- ---------- ----------- ---------- FIXED MATURITY SECURITIES: Corporate bonds $ 2,814 $ 142 $ 918 $ 178 $ 3,732 $ 320 RMBS 253 36 196 24 449 60 CMBS 63 16 104 17 167 33 CDOs 10 8 53 3 63 11 State and municipal bonds 64 1 24 6 88 7 Hybrid and redeemable preferred securities 71 3 281 67 352 70 ----------- ---------- ----------- ---------- ----------- ---------- Total fixed maturity securities 3,275 206 1,576 295 4,851 501 Equity securities 7 2 - - 7 2 ----------- ---------- ----------- ---------- ----------- ---------- Total AFS securities $ 3,282 $ 208 $ 1,576 $ 295 $ 4,858 $ 503 =========== ========== =========== ========== =========== ========== Total number of AFS securities in an unrealized loss position 617 ==========
AS OF DECEMBER 31, 2011 ----------------------------------------------------------------------------------- LESS THAN OR EQUAL GREATER THAN TO TWELVE MONTHS TWELVE MONTHS TOTAL ------------------------- ------------------------- ------------------------- GROSS GROSS GROSS UNREALIZED UNREALIZED UNREALIZED LOSSES LOSSES LOSSES FAIR AND FAIR AND FAIR AND VALUE OTTI VALUE OTTI VALUE OTTI ----------- ---------- ----------- ---------- ----------- ---------- FIXED MATURITY SECURITIES: Corporate bonds $ 2,764 $ 152 $ 1,420 $ 415 $ 4,184 $ 567 RMBS 525 118 408 71 933 189 CMBS 173 15 136 87 309 102 CDOs 9 1 80 18 89 19 State and municipal bonds 31 - 30 9 61 9 Hybrid and redeemable preferred securities 315 23 340 143 655 166 ----------- ---------- ----------- ---------- ----------- ---------- Total fixed maturity securities 3,817 309 2,414 743 6,231 1,052 Equity securities 38 12 - - 38 12 ----------- ---------- ----------- ---------- ----------- ---------- Total AFS securities $ 3,855 $ 321 $ 2,414 $ 743 $ 6,269 $ 1,064 =========== ========== =========== ========== =========== ========== Total number of AFS securities in an unrealized loss position 891 ==========
S-25 For information regarding our investments in VIEs, see Note 4. The fair value, gross unrealized losses, the portion of OTTI recognized in OCI (in millions) and number of AFS securities where the fair value had declined and remained below amortized cost by greater than 20% were as follows:
AS OF DECEMBER 31, 2012 -------------------------------------------------------- GROSS UNREALIZED NUMBER FAIR ------------------------- OF VALUE LOSSES OTTI SECURITIES(1) ---------- ----------- ----------- ------------- Less than six months $ 34 $ 9 $ 1 14 Nine months or greater, but less than twelve months 15 10 - 3 Twelve months or greater 385 175 125 131 ---------- ----------- ----------- ------------- Total $ 434 $ 194 $ 126 148 ========== =========== =========== =============
AS OF DECEMBER 31, 2011 -------------------------------------------------------- GROSS UNREALIZED NUMBER FAIR ------------------------- OF VALUE LOSSES OTTI SECURITIES(1) ---------- ----------- ----------- ------------- Less than six months $ 378 $ 123 $ 29 56 Six months or greater, but less than nine months 51 28 12 18 Nine months or greater, but less than twelve months 2 - 1 7 Twelve months or greater 596 454 102 175 ---------- ----------- ----------- ------------- Total $ 1,027 $ 605 $ 144 256 ========== =========== =========== =============
(1) We may reflect a security in more than one aging category based on various purchase dates. We regularly review our investment holdings for OTTI. Our gross unrealized losses on AFS securities as of December 31, 2012, decreased $561 million in comparison to December 31, 2011. As discussed further below, we believe the unrealized loss position as of December 31, 2012, did not represent OTTI as we did not intend to sell these fixed maturity AFS securities, it is not more likely than not that we will be required to sell the fixed maturity AFS securities before recovery of their amortized cost basis, the estimated future cash flows were equal to or greater than the amortized cost basis of the debt securities, or we had the ability and intent to hold the equity AFS securities for a period of time sufficient for recovery. Based upon this evaluation as of December 31, 2012, management believes we have the ability to generate adequate amounts of cash from our normal operations (e.g., insurance premiums and fees and investment income) to meet cash requirements with a prudent margin of safety without requiring the sale of our temporarily-impaired securities. As of December 31, 2012, the unrealized losses associated with our corporate bond securities were attributable primarily to securities that were backed by commercial loans and individual issuer companies. For our corporate bond securities with commercial loans as the underlying collateral, we evaluated the projected credit losses in the underlying collateral and concluded that we had sufficient subordination or other credit enhancement when compared with our estimate of credit losses for the individual security and we expected to recover the entire amortized cost for each security. For individual issuers, we performed detailed analysis of the financial performance of the issuer and determined that we expected to recover the entire amortized cost for each security. As of December 31, 2012, the unrealized losses associated with our MBS and CDOs were attributable primarily to collateral losses and credit spreads. We assessed for credit impairment using a cash flow model as discussed above. The key assumptions included default rates, severities and prepayment rates. We estimated losses for a security by forecasting the underlying loans in each transaction. The forecasted loan performance was used to project cash flows to the various tranches in the structure, as applicable. Our forecasted cash flows also considered, as applicable, independent industry analyst reports and forecasts, sector credit ratings and other independent market data. Based upon our assessment of the expected credit losses of the security given the performance of the underlying collateral compared to our subordination or other credit enhancement, we expected to recover the entire amortized cost basis of each security. As of December 31, 2012, the unrealized losses associated with our hybrid and redeemable preferred securities were attributable primarily to wider credit spreads caused by illiquidity in the market and subordination within the capital structure, as well as credit risk of specific issuers. For our hybrid and redeemable preferred securities, we evaluated the financial performance of the issuer based upon credit performance and investment ratings and determined we expected to recover the entire amortized cost of each security. Changes in the amount of credit loss of OTTI recognized in net income (loss) where the portion related to other factors was S-26 recognized in OCI (in millions) on fixed maturity AFS securities were as follows:
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------- 2012 2011 2010 ------------ ---------- ----------- Balance as of beginning-of-year $ 380 $ 309 $ 260 Increases attributable to: Credit losses on securities for which an OTTI was not previously recognized 98 54 13 Credit losses on securities for which an OTTI was previously recognized 59 68 61 Decreases attributable to: Securities sold (135) (51) (25) ------------ ---------- ----------- Balance as of end-of-year $ 402 $ 380 $ 309 ============ ========== ===========
During 2012, 2011 and 2010, we recorded credit losses on securities for which an OTTI was not previously recognized as we determined the cash flows expected to be collected would not be sufficient to recover the entire amortized cost basis of the debt security. The credit losses we recorded on securities for which an OTTI was not previously recognized were attributable primarily to one or a combination of the following reasons: o Failure of the issuer of the security to make scheduled payments; o Deterioration of creditworthiness of the issuer; o Deterioration of conditions specifically related to the security; o Deterioration of fundamentals of the industry in which the issuer operates; o Deterioration of fundamentals in the economy including, but not limited to, higher unemployment and lower housing prices; and o Deterioration of the rating of the security by a rating agency. We recognize the OTTI attributed to the noncredit portion as a separate component in OCI referred to as unrealized OTTI on AFS securities. TRADING SECURITIES Trading securities at fair value (in millions) consisted of the following:
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ---------- FIXED MATURITY SECURITIES: Corporate bonds $ 1,817 $ 1,780 U.S. government bonds 310 376 Foreign government bonds 32 39 RMBS 188 237 CMBS 17 31 CDOs 4 4 State and municipal bonds 25 24 Hybrid and redeemable preferred securities 42 45 ----------- ---------- Total fixed maturity securities 2,435 2,536 Equity securities 2 2 ----------- ---------- Total trading securities $ 2,437 $ 2,538 =========== ==========
The portion of the market adjustment for losses that relate to trading securities still held as of December 31, 2012, 2011 and 2010, was $53 million, $115 million and $86 million, respectively. MORTGAGE LOANS ON REAL ESTATE Mortgage loans on real estate principally involve commercial real estate. The commercial loans are geographically diversified throughout the U.S. with the largest concentrations in California and Texas, which accounted for 31% and 32% of mortgage loans on real estate as of December 31, 2012 and 2011, respectively. The following provides the composition of our mortgage loans on real estate (in millions):
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ---------- Current $ 6,791 $ 6,579 Valuation allowance associated with impaired mortgage loans on real estate (6) (3) Unamortized premium (discount) 7 13 ----------- ---------- Total carrying value $ 6,792 $ 6,589 =========== ==========
S-27 The number of impaired mortgage loans on real estate, each of which had an associated specific valuation allowance, and the carrying value of impaired mortgage loans on real estate (dollars in millions) were as follows:
AS OF DECEMBER 31, -------------------------- 2012 2011 ----------- ----------- Number of impaired mortgage loans on real estate 4 3 =========== =========== Principal balance of impaired mortgage loans on real estate $ 38 $ 11 Valuation allowance associated with impaired mortgage loans on real estate (6) (3) ----------- ----------- Carrying value of impaired mortgage loans on real estate $ 32 $ 8 =========== ===========
The average carrying value on the impaired mortgage loans on real estate (in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Average carrying value for impaired mortgage loans on real estate $ 17 $ 15 $ 29 Interest income recognized on impaired mortgage loans on real estate 1 1 3 Interest income collected on impaired mortgage loans on real estate 1 1 3
As described in Note 1, we use the loan-to-value and debt-service coverage ratios as credit quality indicators for our mortgage loans, which were as follows (dollars in millions):
AS OF DECEMBER 31, 2012 AS OF DECEMBER 31, 2011 --------------------------------------- ---------------------------------------- DEBT- DEBT- SERVICE SERVICE PRINCIPAL % OF COVERAGE PRINCIPAL % OF COVERAGE AMOUNT TOTAL RATIO AMOUNT TOTAL RATIO ---------- ----------- ---------- ----------- ----------- ----------- LOAN-TO-VALUE Less than 65% $ 5,526 81.3 % 1.68 $ 5,173 78.6 % 1.61 65% to 74% 869 12.8 % 1.39 1,130 17.2 % 1.38 75% to 100% 350 5.2 % 0.82 256 3.9 % 0.95 Greater than 100% 46 0.7 % 0.79 20 0.3 % 0.73 ---------- ----------- ----------- ------------ Total mortgage loans on real estate $ 6,791 100.0 % $ 6,579 100.0 % ========== =========== =========== ============
S-28 ALTERNATIVE INVESTMENTS As of December 31, 2012 and 2011, alternative investments included investments in 98 and 96 different partnerships, respectively, and the portfolio represented less than 1% of our overall invested assets. NET INVESTMENT INCOME The major categories of net investment income (in millions) on our Consolidated Statements of Comprehensive Income (Loss) were as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Fixed maturity AFS securities $ 3,813 $ 3,724 $ 3,577 Equity AFS securities 6 5 5 Trading securities 138 145 148 Mortgage loans on real estate 381 392 407 Real estate 11 18 16 Standby real estate equity commitments - 1 1 Policy loans 163 161 167 Invested cash 4 3 5 Commercial mortgage loan prepayment and bond make-whole premiums 39 75 61 Alternative investments 125 90 93 Consent fees 3 3 8 Other investments (5) - 7 ----------- ----------- ----------- Investment income 4,678 4,617 4,495 Investment expense (127) (127) (133) ----------- ----------- ----------- Net investment income $ 4,551 $ 4,490 $ 4,362 =========== =========== ===========
REALIZED GAIN (LOSS) RELATED TO CERTAIN INVESTMENTS The detail of the realized gain (loss) related to certain investments (in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Fixed maturity AFS securities: Gross gains $ 14 $ 84 $ 100 Gross losses (187) (218) (241) Equity AFS securities: Gross gains 1 10 9 Gross losses (9) - (4) Gain (loss) on other investments 15 27 (4) Associated amortization of DAC, VOBA, DSI and DFEL and changes in other contract holder funds 2 (9) 8 ----------- ----------- ----------- Total realized gain (loss) related to certain investments $ (164) $ (106) $ (132) =========== =========== ===========
Details underlying write-downs taken as a result of OTTI (in millions) that were recognized in net income (loss) and included in realized gain (loss) on AFS securities above, and the portion of OTTI recognized in OCI (in millions) were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- OTTI RECOGNIZED IN NET INCOME (LOSS) Fixed maturity securities: Corporate bonds $ (62) $ (13) $ (88) RMBS (50) (76) (61) CMBS (47) (56) (41) CDOs (2) (1) (1) Hybrid and redeemable preferred securities - (2) (5) -------- --------- -------- Total fixed maturity securities (161) (148) (196) Equity securities (8) - (3) -------- --------- -------- Gross OTTI recognized in net income (loss) (169) (148) (199) Associated amortization of DAC, VOBA, DSI and DFEL 30 30 44 ---------- ----------- ---------- Net OTTI recognized in net income (loss), pre-tax $ (139) $ (118) $ (155) ========== =========== ========== PORTION OF OTTI RECOGNIZED IN OCI Gross OTTI recognized in OCI $ 118 $ 54 $ 93 Change in DAC, VOBA, DSI and DFEL (15) (12) (11) ---------- ----------- ---------- Net portion of OTTI recognized in OCI, pre-tax $ 103 $ 42 $ 82 ========== =========== ==========
DETERMINATION OF CREDIT LOSSES ON CORPORATE BONDS AND CDOS As of December 31, 2012 and 2011, we reviewed our corporate bond and CDO portfolios for potential shortfall in contractual principal and interest based on numerous subjective and objective inputs. The factors used to determine the amount of credit loss for each individual security, include, but are not limited to, near term risk, substantial discrepancy between book and market value, sector or company-specific volatility, negative operating trends and trading levels wider than peers. DETERMINATION OF CREDIT LOSSES ON MBS As of December 31, 2012 and 2011, default rates were projected by considering underlying MBS loan performance and collateral type. Projected default rates on existing delinquencies vary between 10% to 100% depending on loan type and severity of delinquency status. In addition, we estimate the potential contributions of currently performing loans that may become delinquent in the future based on the change in delinquencies and loan liquidations experienced in the recent history. Finally, we develop a default rate timing curve by aggregating the defaults for all loans in the pool (delinquent S-29 loans, foreclosure and real estate owned and new delinquencies from currently performing loans) and the associated loan level loss severities. We use certain available loan characteristics such as lien status, loan sizes and occupancy to estimate the loss severity of loans. Second lien loans are assigned 100% severity, if defaulted. For first lien loans, we assume a minimum of 30% severity with higher severity assumed for investor properties and further housing price depreciation. With the default rate timing curve and loan-level loss severity, we derive the future expected credit losses. PAYABLES FOR COLLATERAL ON INVESTMENTS The carrying values of the payables for collateral on investments (in millions) included on our Consolidated Balance Sheets and the fair value of the related investments or collateral consisted of the following:
AS OF DECEMBER 31, 2012 AS OF DECEMBER 31, 2011 ------------------------- -------------------------- CARRYING FAIR CARRYING FAIR VALUE VALUE VALUE VALUE ---------- ----------- ----------- ----------- Collateral payable held for derivative investments(1) $ 2,507 $ 2,507 $ 2,994 $ 2,994 Securities pledged under securities lending agreements(2) 197 189 200 193 Securities pledged under reverse repurchase agreements(3) 280 294 280 294 Securities pledged for Term Asset-Backed Securities Loan Facility ("TALF")(4) 37 52 173 199 Investments pledged for Federal Home Loan Bank of Indianapolis ("FHLBI")(5) 1,100 1,936 100 142 ---------- ----------- ----------- ----------- Total payables for collateral on investments $ 4,121 $ 4,978 $ 3,747 $ 3,822 ========== =========== =========== ===========
(1) We obtain collateral based upon contractual provisions with our counterparties. These agreements take into consideration the counterparties' credit rating as compared to ours, the fair value of the derivative investments and specified thresholds that if exceeded result in the receipt of cash that is typically invested in cash and invested cash. See Note 6 for details about maximum collateral potentially required to post on our credit default swaps. (2) Our pledged securities under securities lending agreements are included in fixed maturity AFS securities on our Consolidated Balance Sheets. We generally obtain collateral in an amount equal to 102% and 105% of the fair value of the domestic and foreign securities, respectively. We value collateral daily and obtain additional collateral when deemed appropriate. The cash received in our securities lending program is typically invested in cash and invested cash or fixed maturity AFS securities. (3) Our pledged securities under reverse repurchase agreements are included in fixed maturity AFS securities on our Consolidated Balance Sheets. We obtain collateral in an amount equal to 95% of the fair value of the securities, and our agreements with third parties contain contractual provisions to allow for additional collateral to be obtained when necessary. The cash received in our reverse repurchase program is typically invested in fixed maturity AFS securities. (4) Our pledged securities for TALF are included in fixed maturity AFS securities on our Consolidated Balance Sheets. We obtain collateral in an amount that has typically averaged 90% of the fair value of the TALF securities. The cash received in these transactions is invested in fixed maturity AFS securities. (5) Our pledged investments for FHLBI are included in fixed maturity AFS securities and mortgage loans on real estate on our Consolidated Balance Sheets. The collateral requirements are generally 105% to 115% of the fair value for fixed maturity AFS securities and 155% to 175% of the fair value for mortgage loans on real estate. The cash received in these transactions is primarily invested in cash and invested cash or fixed maturity AFS securities. S-30 Increase (decrease) in payables for collateral on investments (in millions) included on the Consolidated Statements of Cash Flows consisted of the following:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Collateral payable held for derivative investments $ (487) $ 2,141 $ 219 Securities pledged under securities lending agreements (3) 1 (302) Securities pledged under reverse repurchase agreements - - (64) Securities pledged for TALF (136) (107) (65) Investments pledged for FHLBI 1,000 - - ----------- ----------- ----------- Total increase (decrease) in payables for collateral on investments $ 374 $ 2,035 $ (212) =========== =========== ===========
INVESTMENT COMMITMENTS As of December 31, 2012, our investment commitments were $536 million, which included $226 million of LPs, $146 million of private placement securities and $164 million of mortgage loans on real estate. CONCENTRATIONS OF FINANCIAL INSTRUMENTS As of December 31, 2012 and 2011, our most significant investments in one issuer were our investments in securities issued by the Federal Home Loan Mortgage Corporation with a fair value of $3.6 billion and $4.7 billion, respectively, or 4% and 5% of our invested assets portfolio, respectively, and our investments in securities issued by Fannie Mae with a fair value of $2.2 billion and $2.5 billion, respectively, or 2% and 3% of our invested assets portfolio, respectively. These investments are included in corporate bonds in the tables above. As of December 31, 2012, our most significant investments in one industry were our investment securities in the electric industry with a fair value of $8.4 billion, or 9% of our invested assets portfolio and our investment securities in the banking industry with a fair value of $5.3 billion, or 5% of our invested assets portfolio. As of December 31, 2011, our most significant investments in one industry were our investment securities in the electric industry with a fair value of $7.5 billion, or 8% of our invested assets portfolio and our investment securities in the collateralized mortgage and other obligations industry with a fair value of $5.3 billion, or 6% of our invested assets portfolio. We utilized the industry classifications to obtain the concentration of financial instruments amount; as such, this amount will not agree to the AFS securities table above. 6. DERIVATIVE INSTRUMENTS We maintain an overall risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate risk, foreign currency exchange risk, equity market risk, default risk, basis risk and credit risk. We assess these risks by continually identifying and monitoring changes in our exposures that may adversely affect expected future cash flows and by evaluating hedging opportunities. Derivative activities are monitored by various management committees. The committees are responsible for overseeing the implementation of various hedging strategies that are developed through the analysis of financial simulation models and other internal and industry sources. The resulting hedging strategies are incorporated into our overall risk management strategies. See Note 1 for a detailed discussion of the accounting treatment for derivative instruments. See Note 21 for additional disclosures related to the fair value of our financial instruments and see Note 4 for derivative instruments related to our consolidated VIEs. INTEREST RATE CONTRACTS We use derivative instruments as part of our interest rate risk management strategy. These instruments are economic hedges unless otherwise noted and include: CONSUMER PRICE INDEX SWAPS We use consumer price index swaps to hedge the liability exposure on certain options in fixed annuity products. Consumer price index swaps are contracts entered into at no cost and whose payoff is the difference between the consumer price index inflation rate and the fixed rate determined as of inception. FORWARD-STARTING INTEREST RATE SWAPS We use forward-starting interest rate swaps designated and qualifying as cash flow hedges to hedge our exposure to interest rate fluctuations related to the forecasted purchase of certain assets and liabilities. INTEREST RATE CAP AGREEMENTS We use interest rate cap agreements to provide a level of protection from the effect of rising interest rates to economically hedge certain life insurance products and annuity contracts. Interest rate cap agreements entitle us to receive quarterly payments from the counterparties on specified future reset dates, contingent on future interest rates. For each cap, the amount of such quarterly payments, if any, is determined by the excess of a market interest rate over a specified cap rate, multiplied by the notional amount divided by four. S-31 INTEREST RATE CAP CORRIDORS We use interest rate cap corridors to provide a level of protection from the effect of rising interest rates for certain life insurance products and annuity contracts. Interest rate cap corridors involve purchasing an interest rate cap at a specific cap rate and selling an interest rate cap with a higher cap rate. For each corridor, the amount of quarterly payments, if any, is determined by the rate at which the underlying index rate resets above the original capped rate. The corridor limits the benefit the purchaser can receive as the related interest rate index rises above the higher capped rate. There is no additional liability to us other than the purchase price associated with the interest rate cap corridor. INTEREST RATE FUTURES We use interest rate futures contracts to hedge the liability exposure on certain options in variable annuity products. These futures contracts require payment between our counterparty and us on a daily basis for changes in the futures index price. INTEREST RATE SWAP AGREEMENTS We use interest rate swap agreements to hedge the liability exposure on certain options in variable annuity products. We also use interest rate swap agreements designated and qualifying as cash flow hedges. These instruments either hedge the interest rate risk of floating rate bond coupon payments by replicating a fixed rate bond, or hedge our exposure to fixed rate bond coupon payments and the change in the underlying asset values as interest rates fluctuate. Finally, we use interest rate swap agreements designated and qualifying as fair value hedges to hedge against changes in the value of anticipated transactions and commitments as interest rates fluctuate. TREASURY AND REVERSE TREASURY LOCKS We use treasury locks designated and qualifying as cash flow hedges to hedge the interest rate exposure related to our issuance of fixed rate securities or the anticipated future cash flows of floating rate fixed maturity securities due to changes in interest rates. In addition, we use reverse treasury locks designated and qualifying as cash flow hedges to hedge the interest rate exposure related to the purchase of fixed rate securities or the anticipated future cash flows of floating rate fixed maturity securities due to changes in interest rates. These derivatives are primarily structured to hedge interest rate risk inherent in the assumptions used to price certain liabilities. FOREIGN CURRENCY CONTRACTS We use derivative instruments as part of our foreign currency risk management strategy. These instruments are economic hedges unless otherwise noted and include: CURRENCY FUTURES We use currency futures to hedge foreign exchange risk associated with certain options in variable annuity products. Currency futures exchange one currency for another at a specified date in the future at a specified exchange rate. FOREIGN CURRENCY SWAPS We use foreign currency swaps designated and qualifying as cash flow hedges, which are traded over-the-counter, to hedge some of the foreign exchange risk of investments in fixed maturity securities denominated in foreign currencies. A foreign currency swap is a contractual agreement to exchange the currencies of two different countries at a specified rate of exchange in the future. EQUITY MARKET CONTRACTS We use derivative instruments as part of our equity market risk management strategy that are economic hedges and include: CALL OPTIONS BASED ON THE S&P 500 INDEX(R) ("S&P 500") We use indexed annuity contracts to permit the holder to elect an interest rate return or an equity market component, where interest credited to the contracts is linked to the performance of the S&P 500. Contract holders may elect to rebalance index options at renewal dates, either annually or biannually. As of each renewal date, we have the opportunity to re-price the indexed component by establishing participation rates, caps, spreads and specified rates, subject to contractual guarantees. We purchase call options that are highly correlated to the portfolio allocation decisions of our contract holders, such that we are economically hedged with respect to equity returns for the current reset period. EQUITY FUTURES We use equity futures contracts to hedge the liability exposure on certain options in variable annuity products. These futures contracts require payment between our counterparty and us on a daily basis for changes in the futures index price. PUT OPTIONS We use put options to hedge the liability exposure on certain options in variable annuity products. Put options are contracts that require counterparties to pay us at a specified future date the amount, if any, by which a specified equity index is less than the strike rate stated in the agreement, applied to a notional amount. TOTAL RETURN SWAPS We use total return swaps to hedge a portion of the liability related to our deferred compensation plans. We receive the total return on a portfolio of indexes and pay a floating rate of interest. In addition, we use total return swaps to hedge the liability exposure on certain options in variable annuity products. We receive the total return on a portfolio of indexes and pay a floating rate of interest. VARIANCE SWAPS We use variance swaps to hedge the liability exposure on certain options in variable annuity products. Variance swaps are contracts entered into at no cost and whose payoff is the difference between the realized variance rate of an underlying index and the fixed variance rate determined as of inception. S-32 CREDIT CONTRACTS We use derivative instruments as part of our credit risk management strategy that are economic hedges and include: CREDIT DEFAULT SWAPS - BUYING PROTECTION We buy credit default swaps to hedge against a drop in bond prices due to credit concerns of certain bond issuers. A credit default swap allows us to put the bond back to the counterparty at par upon a default event by the bond issuer. A default event is defined as bankruptcy, failure to pay, obligation acceleration or restructuring. CREDIT DEFAULT SWAPS - SELLING PROTECTION We sell credit default swaps to offer credit protection to contract holders and investors. The credit default swaps hedge the contract holders and investors against a drop in bond prices due to credit concerns of certain bond issuers. A credit default swap allows the investor to put the bond back to us at par upon a default event by the bond issuer. A default event is defined as bankruptcy, failure to pay, obligation acceleration or restructuring. EMBEDDED DERIVATIVES We have embedded derivatives that include: GLB RESERVES EMBEDDED DERIVATIVES We use a hedging strategy designed to mitigate the risk and income statement volatility caused by changes in the equity markets, interest rates and volatility associated with GLBs offered in our variable annuity products, including products with GWB and GIB features. The hedging strategy is designed such that changes in the value of the hedge contracts due to changes in equity markets, interest rates and implied volatilities move in the opposite direction of changes in embedded derivative GLB reserves caused by those same factors. We rebalance our hedge positions based upon changes in these factors as needed. While we actively manage our hedge positions, these hedge positions may not be totally effective in offsetting changes in the embedded derivative reserve due to, among other things, differences in timing between when a market exposure changes and corresponding changes to the hedge positions, extreme swings in the equity markets and interest rates, market volatility, contract holder behavior, divergence between the performance of the underlying funds and the hedging indices, divergence between the actual and expected performance of the hedge instruments and our ability to purchase hedging instruments at prices consistent with our desired risk and return trade-off. However, the hedging results do not impact LNL due to a funds withheld agreement with LNBAR, which causes the financial impact of the derivatives as well as the cash flow activity to be reflected on LNBAR. Certain features of these guarantees have elements of both insurance benefits accounted for under the Financial Services - Insurance - Claim Costs and Liabilities for Future Policy Benefits Subtopic of the FASB ASC ("benefit reserves") and embedded derivatives accounted for under the Derivatives and Hedging and the Fair Value Measurements and Disclosures Topics of the FASB ASC ("embedded derivative reserves"). We calculate the value of the embedded derivative reserve and the benefit reserve based on the specific characteristics of each GLB feature. INDEXED ANNUITY CONTRACTS EMBEDDED DERIVATIVES We distribute indexed annuity contracts that permit the holder to elect an interest rate return or an equity market component, where interest credited to the contracts is linked to the performance of the S&P 500. Contract holders may elect to rebalance index options at renewal dates, either annually or biannually. As of each renewal date, we have the opportunity to re-price the indexed component by establishing participation rates, caps, spreads and specified rates, subject to contractual guarantees. We purchase S&P 500 call options that are highly correlated to the portfolio allocation decisions of our contract holders, such that we are economically hedged with respect to equity returns for the current reset period. REINSURANCE RELATED EMBEDDED DERIVATIVES We have certain modified coinsurance arrangements and coinsurance with funds withheld reinsurance arrangements with embedded derivatives related to the withheld assets of the related funds. These derivatives are considered total return swaps with contractual returns that are attributable to various assets and liabilities associated with these reinsurance arrangements. We are involved in an inter-company reinsurance agreement where we cede to LNBAR the risk under certain UL contracts for no lapse benefit guarantees. If our contract holders' account value is not sufficient to pay the cost of insurance charges required to keep the policy inforce, and the contract holder has made required deposits, LNBAR will reimburse us for the charges. S-33 We have derivative instruments with off-balance-sheet risks whose notional or contract amounts exceed the credit exposure. Outstanding derivative instruments with off-balance-sheet risks (in millions) were as follows:
AS OF DECEMBER 31, 2012 AS OF DECEMBER 31, 2011 ---------------------------------------- ---------------------------------------- FAIR VALUE FAIR VALUE NOTIONAL ------------------------- NOTIONAL ------------------------- AMOUNTS ASSET LIABILITY AMOUNTS ASSET LIABILITY ----------- ---------- ----------- ----------- ---------- ----------- QUALIFYING HEDGES Cash flow hedges: Interest rate contracts(1) $ 2,001 $ 353 $ 224 $ 2,212 $ 385 $ 241 Foreign currency contracts(1) 420 39 26 340 52 14 ----------- ----------- ----------- ----------- ---------- ----------- Total cash flow hedges 2,421 392 250 2,552 437 255 ----------- ----------- ----------- ----------- ---------- ----------- NON-QUALIFYING HEDGES Interest rate contracts(1) 35,539 1,030 474 30,232 1,042 475 Foreign currency contracts(1) 48 - - 4 - - Equity market contracts(1) 19,744 1,734 170 16,300 2,152 55 Equity collar(1) 9 1 - - - - Credit contracts(1) - - - 48 - - Credit contracts(2) 149 - 11 148 - 16 Embedded derivatives: Indexed annuity contracts(3) - - 732 - - 399 Guaranteed living benefits ("GLB") reserves(3) - - 909 - - 2,217 Reinsurance related(4) - - 184 - 12 ----------- ----------- ----------- ----------- ---------- ----------- Total derivative instruments $ 57,910 $ 3,157 $ 2,730 $ 49,284 $ 3,631 $ 3,429 =========== =========== =========== =========== ========== ===========
(1) Reported in derivative investments on our Consolidated Balance Sheets. (2) Reported in other liabilities on our Consolidated Balance Sheets. (3) Reported in future contract benefits on our Consolidated Balance Sheets. (4) Reported in reinsurance related embedded derivatives on our Consolidated Balance Sheets. The maturity of the notional amounts of derivative instruments (in millions) was as follows:
REMAINING LIFE AS OF DECEMBER 31, 2012 ----------------------------------------------------------------------------------- LESS THAN 1 - 5 6 - 10 11 - 30 OVER 30 1 YEAR YEARS YEARS YEARS YEARS TOTAL ----------- ---------- ----------- ---------- ----------- ---------- Interest rate contracts(1) $ 2,834 $ 19,828 $ 5,901 $ 8,977 $ - $ 37,540 Foreign currency contracts(2) 48 205 200 15 - 468 Equity market contracts 10,667 3,895 5,165 23 3 19,753 Credit contracts - 149 - - - 149 ----------- ---------- ----------- ---------- ----------- ---------- Total derivative instruments with notional amounts $ 13,549 $ 24,077 $ 11,266 $ 9,015 $ 3 $ 57,910 =========== ========== =========== ========== =========== ==========
(1) As of December 31, 2012, the latest maturity date for which we were hedging our exposure to the variability in future cash flows for these instruments was June 2042. (2) As of December 31, 2012, the latest maturity date for which we were hedging our exposure to the variability in future cash flows for these instruments was April 2028. S-34 The change in our unrealized gain (loss) on derivative instruments in accumulated OCI (in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- UNREALIZED GAIN (LOSS) ON DERIVATIVE INSTRUMENTS Balance as of beginning-of-year $ 132 $ (14) $ (13) Cumulative effect from adoption of new accounting standards - - 3 Other comprehensive income (loss): Unrealized holding gains (losses) arising during the year: Cash flow hedges: Interest rate contracts (41) 201 (18) Foreign currency contracts (22) 3 14 AFS securities embedded derivatives - - 2 Change in foreign currency exchange rate adjustment (12) 7 4 Change in DAC, VOBA, DSI and DFEL 14 1 (1) Income tax benefit (expense) 20 (74) (1) Less: Reclassification adjustment for gains (losses) included in net income (loss): Cash flow hedges: Interest rate contracts(1) (21) (15) 4 Foreign currency contracts(1) 3 2 2 Associated amortization of DAC, VOBA, DSI and DFEL 3 1 - Income tax benefit (expense) 5 4 (2) ---------- ----------- ---------- Balance as of end-of-year $ 101 $ 132 $ (14) ========== =========== ==========
(1) The OCI offset is reported within net investment income on our Consolidated Statements of Comprehensive Income (Loss). The gains (losses) on derivative instruments (in millions) recorded within income (loss) from continuing operations on our Consolidated Statements of Comprehensive Income (Loss) were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- QUALIFYING HEDGES Cash flow hedges: Interest rate contracts(1) $ (22) $ (15) $ 3 Foreign currency contracts(1) 3 2 2 ---------- ----------- ---------- Total cash flow hedges (19) (13) 5 ---------- ----------- ---------- NON-QUALIFYING HEDGES Interest rate contracts(1) (26) (44) 5 Interest rate contracts(2) 52 1,144 175 Foreign currency contracts(1) - - 43 Foreign currency contracts(2) (8) (12) (13) Equity market contracts(2) (1,014) 315 (386) Equity market contracts(3) (362) 26 (118) Credit contracts(1) - - 1 Credit contracts(2) 2 (7) 7 Embedded derivatives: Indexed annuity contracts(2) (136) 5 (81) GLB reserves(2) 1,308 (1,809) 268 Reinsurance related(2) (50) (47) (71) AFS securities(1) - - (4) ---------- ----------- ---------- Total derivative instruments $ (253) $ (442) $ (169) ========== =========== ==========
(1) Reported in net investment income on our Consolidated Statements of Comprehensive Income (Loss). (2) Reported in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). (3) Reported in commissions and other expenses on our Consolidated Statements of Comprehensive Income (Loss). Gains (losses) (in millions) on derivative instruments designated and qualifying as cash flow hedges were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ----------- ----------- ---------- Gain (loss) recognized as a component of OCI with the offset to net investment income $ (18) $ (13) $ 6
As of December 31, 2012, $21 million of the deferred net losses on derivative instruments in accumulated OCI were expected to be reclassified to earnings during the next 12 months. This reclassification would be due primarily to the interest rate variances related to the interest rate swap agreements. For the years ended December 31, 2012 and 2011, there were no material reclassifications to earnings due to hedged firm commitments no longer deemed probable or due to hedged forecasted transactions that had not occurred by the end of the originally specified time period. S-35 Information related to our open credit default swap liabilities for which we are the seller (dollars in millions) was as follows:
AS OF DECEMBER 31, 2012 ----------------------------------------------------------------------------------------------------------------- CREDIT REASON NATURE RATING OF NUMBER MAXIMUM FOR OF UNDERLYING OF FAIR POTENTIAL MATURITY ENTERING RECOURSE OBLIGATION(1) INSTRUMENTS VALUE(2) PAYOUT ------------------------- ----------- ---------- ------------- ----------- ----------- --------- 12/20/2016(3) (4) (5) BBB- 3 $ (4) $ 68 03/20/2017(3) (4) (5) BBB- 4 (7) 81 ----------- ----------- --------- 7 $ (11) $ 149 =========== =========== =========
AS OF DECEMBER 31, 2011 ----------------------------------------------------------------------------------------------------------------- CREDIT REASON NATURE RATING OF NUMBER MAXIMUM FOR OF UNDERLYING OF FAIR POTENTIAL MATURITY ENTERING RECOURSE OBLIGATION(1) INSTRUMENTS VALUE(2) PAYOUT ------------------------- ----------- ---------- ------------- ----------- ----------- --------- 12/20/2012(6) (4) (5) BBB+ 4 $ - $ 40 12/20/2016(3) (4) (5) BBB+ 3 (12) 68 03/20/2017(3) (4) (5) BBB 2 (4) 40 ----------- ----------- --------- 9 $ (16) $ 148 =========== =========== =========
(1) Represents average credit ratings based on the midpoint of the applicable ratings among Moody's, S&P and Fitch Ratings, as scaled to the corresponding S&P ratings. (2) Broker quotes are used to determine the market value of credit default swaps. (3) These credit default swaps were sold to a counter-party of the consolidated VIEs discussed in Note 4. (4) Credit default swaps were entered into in order to generate income by providing default protection in return for a quarterly payment. (5) Sellers do not have the right to demand indemnification or compensation from third parties in case of a loss (payment) on the contract. (6) These credit default swaps were sold to our contract holders, prior to 2007, where we determined there was a spread versus premium mismatch. Details underlying the associated collateral of our open credit default swaps for which we are the seller, if credit risk related contingent features were triggered (in millions) are as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ---------- ----------- Maximum potential payout $ 149 $ 148 Less: Counterparty thresholds - - ---------- ----------- Maximum collateral potentially required to post $ 149 $ 148 ========== ===========
Certain of our credit default swap agreements contain contractual provisions that allow for the netting of collateral with our counterparties related to all of our collateralized financing transactions that we have outstanding. If these netting agreements were not in place, we would have been required to post approximately $11 million as of December 31, 2012, after considering the fair values of the associated investments counterparties' credit ratings as compared to ours and specified thresholds that once exceeded result in the payment of cash. CREDIT RISK We are exposed to credit loss in the event of nonperformance by our counterparties on various derivative contracts and reflect assumptions regarding the credit or NPR. The NPR is based upon assumptions for each counterparty's credit spread over the estimated weighted average life of the counterparty exposure less collateral held. As of December 31, 2012, the NPR adjustment was $2 million. The credit risk associated with such agreements is minimized by purchasing such agreements from financial institutions with long-standing, superior performance records. Additionally, we maintain a policy of requiring all derivative contracts to be governed by an International Swaps and Derivatives Association ("ISDA") Master Agreement. We are required to maintain minimum ratings as a matter of routine practice in negotiating ISDA agreements. Under some ISDA agreements, our insurance subsidiaries have agreed to maintain certain financial strength or claims-paying ratings. A downgrade below these levels could result in termination of derivative contracts, at which time any amounts payable by us would be dependent on the market value of the underlying derivative contracts. In certain transactions, we and the counterparty have entered into a collateral support agreement requiring either party to post collateral when net exposures exceed pre-determined thresholds. These thresholds vary by counterparty and credit rating. The amount of such exposure is essentially the net replacement cost or market value less collateral held for such agreements with each counterparty if the net market value is in our favor. As of December 31, 2012, our exposure was $13 million. S-36 The amounts recognized (in millions) by S&P credit rating of counterparty, for which we had the right to reclaim cash collateral or were obligated to return cash collateral, were as follows:
AS OF DECEMBER 31, 2012 AS OF DECEMBER 31, 2011 -------------------------- -------------------------- COLLATERAL COLLATERAL COLLATERAL COLLATERAL POSTED BY POSTED BY POSTED BY POSTED BY S&P COUNTER- LNC COUNTER- LNC CREDIT PARTY (HELD BY PARTY (HELD BY RATING OF (HELD BY COUNTER- (HELD BY COUNTER- COUNTERPARTY LNC) PARTY) LNC) PARTY) -------------------------- ----------- ----------- ----------- ----------- AA $ 41 $ - $ 35 $ - AA- 58 - 219 - A+ 551 - 826 - A 762 (68) 1,613 (69) A- 1,113 - 373 - BBB 4 - - - ----------- ----------- ----------- ----------- $ 2,529 $ (68) $ 3,066 $ (69) =========== =========== =========== ===========
7. FEDERAL INCOME TAXES The federal income tax expense (benefit) on continuing operations (in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ----------- ----------- ---------- Current $ (320) $ (84) $ (74) Deferred 664 354 379 ----------- ----------- ---------- Federal income tax expense (benefit) $ 344 $ 270 $ 305 =========== =========== ==========
A reconciliation of the effective tax rate differences (in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ----------- ----------- ---------- Tax rate times pre-tax income $ 527 $ 186 $ 456 Effect of: Separate account dividend received deduction (128) (135) (109) Tax credits (34) (46) (39) Goodwill (2) 260 - Change in uncertain tax positions (88) 7 3 Other items 69 (2) (6) ----------- ----------- ---------- Federal income tax expense (benefit) $ 344 $ 270 $ 305 =========== =========== ========== Effective tax rate 23 % 51 % 23 % =========== =========== ==========
The effective tax rate is the ratio of tax expense over pre-tax income (loss). The change in uncertain tax positions relates primarily to the lapse of statute of limitations for prior year tax returns. Other items include corrections of immaterial errors in prior period. The federal income tax asset (liability) (in millions) was as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ---------- ----------- Current $ 173 $ (276) Deferred (3,391) (2,233) ---------- ----------- Total federal income tax asset (liability) $ (3,218) $ (2,509) ========== ===========
Significant components of our deferred tax assets and liabilities (in millions) were as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ---------- DEFERRED TAX ASSETS Future contract benefits and other contract holder funds $ 900 $ 1,034 Deferred gain on business sold through reinsurance 27 136 Reinsurance related embedded derivative asset 141 123 Investments 448 222 Compensation and benefit plans 141 130 Net operating loss 4 - Net capital loss 32 59 Tax credits 205 200 VIE 36 98 Other 44 197 ----------- ---------- Total deferred tax assets 1,978 2,199 ----------- ----------
S-37
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ---------- DEFERRED TAX LIABILITIES DAC $ 1,393 $ 1,412 VOBA 239 370 Net unrealized gain on AFS securities 3,283 2,188 Net unrealized gain on trading securities 150 126 Intangibles 172 173 Other 132 163 ----------- ---------- Total deferred tax liabilities 5,369 4,432 ----------- ---------- Net deferred tax asset (liability) $ (3,391) $ (2,233) =========== ==========
As of December 31, 2012, the Company had $11 million of net operating loss carryforwards that begin to expire in 2031 and $90 million of capital loss carryforwards that begin to expire in 2014. In addition, the Company had $139 million of alternative minimum tax credits that are not subject to expiration and $66 million of general business credits that begin to expire in 2030. Although realization is not assured, management believes that it is more likely than not that the Company will realize the benefits of its deferred tax assets, and, accordingly, no valuation allowance has been recorded. As of December 31, 2012 and 2011, $59 million and $191 million, respectively, of our unrecognized tax benefits presented below, if recognized, would have affected our income tax expense and our effective tax rate. The Company is not aware of any events for which it is likely that unrecognized tax benefits will significantly increase or decrease within the next year. A reconciliation of the unrecognized tax benefits (in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, ------------------------- 2012 2011 ----------- ----------- Balance as of beginning-of-year $ 275 $ 278 Increases for prior year tax positions - 2 Decreases for prior year tax positions (145) (11) Increases for current year tax positions 3 12 Decreases for current year tax positions - (6) Decreases for settlements with taxing authorities (2) - Decreases for lapse of statute of limitations (64) - ----------- ----------- Balance as of end-of-year $ 67 $ 275 =========== ===========
We recognize interest and penalties accrued, if any, related to unrecognized tax benefits as a component of tax expense. For the years ended December 31, 2012, 2011 and 2010, we recognized interest and penalty expense (benefit) related to uncertain tax positions of $(78) million, $8 million and $6 million, respectively. We had accrued interest and penalty expense related to the unrecognized tax benefits of $11 million and $89 million as of December 31, 2012 and 2011, respectively. The Company is subject to examination by U.S. federal, state, local and non-U.S. income authorities. The Company is currently under examination by the IRS for tax years 2009 through 2011. The IRS concluded its examination of tax years 2007 and 2008 on January 18, 2013. The Company has protested the final assessment, which is being combined with tax years 2005 and 2006 in IRS Appeals. The IRS also completed its examination of tax years 2005 and 2006, and 2006 of the former Jefferson-Pilot Corporation ("JP") and its subsidiaries during 2010. The Company believes a portion of the 2005 through 2008 assessments is inconsistent with current laws and is using the established IRS Appeals process to attempt to settle the remaining issues. The IRS also concluded its examination of non-consolidated returns for JP Life Insurance Company and JP Financial Insurance Company for the tax years ended April 1, 2007, and July 1, 2007, respectively, with agreement on all adjustments on January 18, 2013. The Company does not expect any adjustments that might result from those audits would be material to its consolidated results of operations or its financial condition. S-38 8. DAC, VOBA, DSI AND DFEL Changes in DAC (in millions) were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- Balance as of beginning-of-year $ 5,887 $ 6,029 $ 7,310 Cumulative effect from adoption of new accounting standards - - (1,483) Business acquired (sold) through reinsurance (126) 184 (14) Deferrals 1,294 1,368 1,353 Amortization, net of interest: Unlocking (71) (130) 93 Amortization, excluding unlocking, net of interest (760) (666) (654) Adjustment related to realized (gains) losses (49) (39) (51) Adjustment related to unrealized (gains) losses (145) (859) (525) ---------- ----------- ---------- Balance as of end-of-year $ 6,030 $ 5,887 $ 6,029 ========== =========== ==========
Changes in VOBA (in millions) were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ----------- Balance as of beginning-of-year $ 1,055 $ 1,378 $ 2,086 Business acquired (sold) through reinsurance (20) 12 - Deferrals 12 20 26 Amortization: Unlocking (23) 174 (48) Amortization, excluding unlocking (225) (279) (350) Accretion of interest(1) 73 78 89 Adjustment related to realized (gains) losses 9 (6) (7) Adjustment related to unrealized (gains) losses (179) (322) (418) ---------- ----------- ----------- Balance as of end-of-year $ 702 $ 1,055 $ 1,378 ========== =========== ===========
(1) The interest accrual rates utilized to calculate the accretion of interest ranged from 3.30% to 7.05%. Estimated future amortization of VOBA, net of interest (in millions), as of December 31, 2012, was as follows: 2013 $ 94 2014 72 2015 64 2016 57 2017 52 Changes in DSI (in millions) were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- Balance as of beginning-of-year $ 309 $ 324 $ 361 Deferrals 39 39 66 Amortization, net of interest: Unlocking 14 (2) (3) Amortization, excluding unlocking, net of interest (43) (36) (48) Adjustment related to realized (gains) losses (5) (3) (11) Adjustment related to unrealized (gains) losses (18) (13) (41) ---------- ----------- ---------- Balance as of end-of-year $ 296 $ 309 $ 324 ========== =========== ==========
Changes in DFEL (in millions) were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- Balance as of beginning-of-year $ 1,360 $ 1,472 $ 1,273 Business acquired (sold) through reinsurance (44) 18 22 Deferrals 348 544 546 Amortization, net of interest: Unlocking (69) 31 (1) Amortization, excluding unlocking, net of interest (206) (160) (190) Adjustment related to realized (gains) losses (5) (8) (4) Adjustment related to unrealized (gains) losses (42) (537) (174) ---------- ----------- ---------- Balance as of end-of-year $ 1,342 $ 1,360 $ 1,472 ========== =========== ==========
S-39 9. REINSURANCE The following summarizes reinsurance amounts (in millions) recorded on our Consolidated Statements of Comprehensive Income (Loss), excluding amounts attributable to the indemnity reinsurance transaction with Swiss Re:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- Direct insurance premiums and fees $ 7,096 $ 6,735 $ 6,338 Reinsurance assumed 18 21 22 Reinsurance ceded (1,287) (1,511) (1,361) ---------- ----------- ---------- Total insurance premiums and fees $ 5,827 $ 5,245 $ 4,999 ========== =========== ========== Direct insurance benefits $ 4,714 $ 4,828 $ 4,321 Reinsurance recoveries netted against benefits (1,778) (2,624) (1,754) ---------- ----------- ---------- Total benefits $ 2,936 $ 2,204 $ 2,567 ========== =========== ==========
We cede insurance to other companies. The portion of risks exceeding our retention limit is reinsured with other insurers. We seek reinsurance coverage within the businesses that sell life insurance and annuities in order to limit our exposure to mortality losses and enhance our capital management. As discussed in Note 24, a portion of this reinsurance activity is with affiliated companies. Under our reinsurance program, we reinsure approximately 30% to 35% of the mortality risk on newly issued non-term life insurance contracts and approximately 25% to 30% of total mortality risk including term insurance contracts. Our policy for this program is to retain no more than $20 million on a single insured life issued on fixed, VUL and term life insurance contracts. Portions of our deferred annuity business have been reinsured on a Modco basis with other companies to limit our exposure to interest rate risks. As of December 31, 2012, the reserves associated with these reinsurance arrangements totaled $809 million. To cover products other than life insurance, we acquire other reinsurance coverages with retentions and limits. We obtain reinsurance from a diverse group of reinsurers, and we monitor concentration as well as financial strength ratings of our principal reinsurers. Our reinsurance operations were acquired by Swiss Re in December 2001, through a series of indemnity reinsurance transactions. Swiss Re represents our largest reinsurance exposure. Under the indemnity reinsurance agreements, Swiss Re reinsured certain of our liabilities and obligations. As we are not relieved of our legal liability to the ceding companies, the liabilities and obligations associated with the reinsured contracts remain on our Consolidated Balance Sheets with a corresponding reinsurance receivable from Swiss Re, which totaled $3.4 billion and $3.5 billion as of December 31, 2012 and 2011, respectively. Swiss Re has funded a trust, with a balance of $1.8 billion as of December 31, 2012, to support this business. In addition to various remedies that we would have in the event of a default by Swiss Re, we continue to hold assets in support of certain of the transferred reserves. These assets are reported within trading securities or mortgage loans on real estate on our Consolidated Balance Sheets. Our liabilities for funds withheld and embedded derivatives as of December 31, 2012, included $1.5 billion and $176 million, respectively, related to the business reinsured by Swiss Re. We recorded the gain related to the indemnity reinsurance transactions on the business sold to Swiss Re as a deferred gain on business sold through reinsurance on our Consolidated Balance Sheets. The deferred gain is being amortized into income at the rate that earnings on the reinsured business are expected to emerge, over a period of 15 years from the date of sale. During 2012, 2011 and 2010, we amortized $48 million, $49 million and $49 million, after-tax, respectively, of deferred gain on business sold through reinsurance. 10. GOODWILL AND SPECIFICALLY IDENTIFIABLE INTANGIBLE ASSETS The changes in the carrying amount of goodwill (in millions) by reportable segment were as follows:
FOR THE YEAR ENDED DECEMBER 31, 2012 ------------------------------------------------------- ACQUISITION CUMULATIVE BALANCE IMPAIRMENT AS OF AS OF BALANCE BEGINNING- BEGINNING- AS OF END- OF-YEAR OF-YEAR IMPAIRMENT OF-YEAR ------------ ----------- ------------- ----------- Annuities $ 1,040 $ (600) $ - $ 440 Retirement Plan Services 20 - - 20 Life Insurance 2,186 (647) - 1,539 Group Protection 274 - - 274 Other Operations - Media 176 (176) - - ------------ ----------- ----------- ----------- Total goodwill $ 3,696 $ (1,423) $ - $ 2,273 ============ =========== =========== ===========
S-40
FOR THE YEAR ENDED DECEMBER 31, 2011 ------------------------------------------------------- ACQUISITION CUMULATIVE BALANCE IMPAIRMENT AS OF AS OF BALANCE BEGINNING- BEGINNING- AS OF END- OF-YEAR OF-YEAR IMPAIRMENT OF-YEAR ------------ ----------- ------------- ----------- Annuities $ 1,040 $ (600) $ - $ 440 Retirement Plan Services 20 - - 20 Life Insurance 2,186 - (647) 1,539 Group Protection 274 - - 274 Other Operations - Media 176 (79) (97) - ------------ ----------- ------------- ----------- Total goodwill $ 3,696 $ (679) $ (744) $ 2,273 ============ =========== ============= ===========
We perform a Step 1 goodwill impairment analysis on all of our reporting units at least annually on October 1. To determine the implied fair value for our reporting units, we utilize primarily a discounted cash flow valuation technique ("income approach"), although limited available market data is also considered. In determining the estimated fair value, we consider discounted cash flow calculations, the level of LNC's share price and assumptions that market participants would make in valuing the reporting unit. This analysis requires us to make judgments about revenues, earnings projections, capital market assumptions and discount rates. As of October 1, 2012, our Annuities, Retirement Plan Services and Group Protection reporting units passed the Step 1 analysis, and although the carrying value of the net assets for Group Protection was within the estimated fair value range, we deemed it prudent to validate the carrying value of goodwill through a Step 2 analysis. Given the Step 1 results, we also performed a Step 2 analysis for our Life Insurance reporting unit. Based upon our Step 2 analysis for Life Insurance and Group Protection, we determined that there was no impairment due to the implied fair value of goodwill being in excess of the carrying value of goodwill. As of October 1, 2011, our Annuities, Retirement Plan Services and Group Protection reporting units passed the Step 1 analysis, and although the carrying value of the net assets for Group Protection was within the estimated fair value range, we deemed it prudent to validate the carrying value of goodwill through a Step 2 analysis. Given the Step 1 results, we also performed a Step 2 analysis for our Life Insurance and Media reporting units. Based upon our Step 2 analysis for Life Insurance, we recorded a goodwill impairment that was attributable primarily to marketplace dynamics and lower expectations associated with product changes that we have implemented or will implement shortly that we believe will have an unfavorable effect on our sales levels for a period of time. Based upon our Step 2 analysis for Group Protection, we determined that there was no impairment due to the implied fair value of goodwill being in excess of the carrying value of goodwill. Based upon our Step 2 analysis for Media, we recorded a goodwill impairment that was primarily a result of the deterioration in operating environment and outlook for the business. As of October 1, 2010, all of our reporting units passed the Step 1 analysis, and although the carrying value of the net assets was within the estimated fair value range for our Life Insurance reporting unit, we deemed it prudent to validate the carrying value of goodwill through a Step 2 analysis. In our Step 2 analysis of the Life Insurance reporting unit, we determined there was no impairment due to the implied fair value of goodwill being in excess of the carrying value of goodwill. S-41 The gross carrying amounts and accumulated amortization (in millions) for each major specifically identifiable intangible asset class by reportable segment were as follows:
AS OF DECEMBER 31, 2012 AS OF DECEMBER 31, 2011 ------------------------- ------------------------- GROSS GROSS CARRYING ACCUMULATED CARRYING ACCUMULATED AMOUNT AMORTIZATION AMOUNT AMORTIZATION ----------- ------------ ----------- ------------ Life Insurance: Sales force $ 100 $ 27 $ 100 $ 23 Retirement Plan Services: Mutual fund contract rights(1) 5 - 2 - Other Operations: FCC licenses(1) 129 - 118 - Other 4 3 4 3 ----------- ------------ ----------- ------------ Total $ 238 $ 30 $ 224 $ 26 =========== ============ =========== ============
(1) No amortization recorded as the intangible asset has indefinite life. Future estimated amortization of specifically identifiable intangible assets (in millions) as of December 31, 2012, was as follows: 2013 $ 4 2014 4 2015 4 2016 4 2017 4 11. GUARANTEED BENEFIT FEATURES Information on the GDB features outstanding (dollars in millions) was as follows (our variable contracts with guarantees may offer more than one type of guarantee in each contract; therefore, the amounts listed are not mutually exclusive):
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ------------ RETURN OF NET DEPOSITS Total account value $ 63,478 $ 54,004 Net amount at risk(1) 392 1,379 Average attained age of contract holders 60 years 59 years MINIMUM RETURN Total account value $ 149 $ 155 Net amount at risk(1) 37 48 Average attained age of contract holders 73 years 72 years Guaranteed minimum return 5 % 5 % ANNIVERSARY CONTRACT VALUE Total account value $ 23,019 $ 21,648 Net amount at risk(1) 1,133 2,939 Average attained age of contract holders 67 years 67 years
(1) Represents the amount of death benefit in excess of the account balance. The decrease in net amount at risk when comparing December 31, 2012, to December 31, 2011, was attributable primarily to the increase in equity markets during 2012. The determination of GDB liabilities is based on models that involve a range of scenarios and assumptions, including those regarding expected market rates of return and volatility, contract surrender rates and mortality experience. The following summarizes the balances of and changes in the liabilities for GDB (in millions), which were recorded in future contract benefits on our Consolidated Balance Sheets:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ----------- ----------- ---------- Balance as of beginning-of-year $ 84 $ 44 $ 71 Changes in reserves 64 93 57 Benefits paid (44) (53) (84) ----------- ----------- ---------- Balance as of end-of-year $ 104 $ 84 $ 44 =========== =========== ==========
S-42 Account balances of variable annuity contracts with guarantees (in millions) were invested in separate account investment options as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ---------- ASSET TYPE Domestic equity $ 37,899 $ 34,286 International equity 14,850 13,095 Bonds 21,174 17,735 Money market 7,747 5,892 ----------- ---------- Total $ 81,670 $ 71,008 =========== ========== Percent of total variable annuity separate account values 98 % 98 %
Future contract benefits also includes reserves for our products with secondary guarantees for our products sold through our Life Insurance segment. These UL and VUL products with secondary guarantees represented 38% of permanent life insurance in force as of December 31, 2012, and 29% of total sales for these products for the year ended December 31, 2012. 12. SHORT-TERM AND LONG-TERM DEBT Details underlying short-term and long-term debt (in millions) were as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ---------- Short-Term Debt Short-term notes payable to LNC $ 28 $ 10 Current maturities of long-term debt 4 - ----------- ---------- Total short-term debt $ 32 $ 10 =========== ========== Long-Term Debt, Excluding Current Portion 2.75% note, due 2013 $ - $ 4 LIBOR + 3 bps notes, due 2017 250 250 LIBOR + 100 bps loan, due 2037 375 375 LIBOR + 341 bps loan, due 2040 - 500 Surplus notes due LNC: 9.76% surplus note, due 2024 50 50 6.56% surplus note, due 2028 500 500 6.03% surplus note, due 2028 750 750 ----------- ---------- Total surplus notes 1,300 1,300 ----------- ---------- Total long-term debt $ 1,925 $ 2,429 =========== ==========
Future principal payments due on long-term debt (in millions) as of December 31, 2012, were as follows: 2013 $ 4 2014 - 2015 - 2016 - 2017 250 Thereafter 1,675 ---------- Total $ 1,929 ==========
On September 10, 2010, LNC issued a note of $4 million to LFM. This note calls for us to pay the principal amount of the note on or before September 10, 2013, and interest to be paid semiannually at an annual rate of 2.75%. We have a $250 million floating-rate loan outstanding under our borrowing capacity with the Federal Home Loan Bank of Indianapolis due June 20, 2017. We issued a surplus note for $50 million to LNC in 1994. The note calls for us to pay the principal amount of the note on or before September 30, 2024, and interest to be paid semiannually at an annual rate of 9.76%. Subject to approval by the Indiana Insurance Commissioner, we have the right to repay the note on any March 31 or September 30. We issued a surplus note for $500 million to LNC in 1998. The note calls for us to pay the principal amount of the note on or before March 31, 2028, and interest to be paid quarterly at an annual rate of 6.56%. Subject to approval by the Indiana Insurance Commissioner, LNC also has a right to redeem the note for immediate repayment in total or in part once per year on the anniversary date of the note. Any payment of interest or repayment of principal may be paid only out of our statutory earnings, only if our statutory capital surplus exceeds our statutory capital as of the date of note issuance of $2.3 billion, and subject to approval by the Indiana Insurance Commissioner. We issued a surplus note for $750 million to LNC in 1998. The note calls for us to pay the principal amount of the note on or before December 31, 2028, and interest to be paid quarterly at an annual rate of 6.03%. Subject to approval by the Indiana Insurance Commissioner, LNC also has a right to redeem the note for immediate repayment in total or in part once per year on the anniversary date of the note. Any payment of interest or repayment of principal may be paid only out of our statutory earnings, only if our statutory capital surplus exceeds our statutory capital surplus as of the date of note issuance of $2.4 billion, and subject to approval by the Indiana Insurance Commissioner. On October 9, 2007, we issued a note of $375 million to LNC. This note calls for us to pay the principal amount of the note on or before October 9, 2037, and interest to be paid quarterly at an annual rate of LIBOR + 100 bps. S-43 On July 1, 2010, we issued a note of $500 million to LNC. This note calls for us to pay the principal amount of the note on or before June 5, 2040, and interest to be paid annually at an annual rate of LIBOR + 341 bps. On July 1, 2012, we repaid all of our LIBOR + 341 bps note due 2040. 13. CONTINGENCIES AND COMMITMENTS CONTINGENCIES REGULATORY AND LITIGATION MATTERS Regulatory bodies, such as state insurance departments, the SEC, Financial Industry Regulatory Authority and other regulatory bodies regularly make inquiries and conduct examinations or investigations concerning our compliance with, among other things, insurance laws, securities laws, laws governing the activities of broker-dealers, registered investment advisors and unclaimed property laws. LNL and its subsidiaries are involved in various pending or threatened legal or regulatory proceedings, including purported class actions, arising from the conduct of business both in the ordinary course and otherwise. In some of the matters, very large and/or indeterminate amounts, including punitive and treble damages, are sought. Modern pleading practice in the U.S. permits considerable variation in the assertion of monetary damages or other relief. Jurisdictions may permit claimants not to specify the monetary damages sought or may permit claimants to state only that the amount sought is sufficient to invoke the jurisdiction of the trial court. In addition, jurisdictions may permit plaintiffs to allege monetary damages in amounts well exceeding reasonably possible verdicts in the jurisdiction for similar matters. This variability in pleadings, together with the actual experiences of LNL in litigating or resolving through settlement numerous claims over an extended period of time, demonstrates to management that the monetary relief which may be specified in a lawsuit or claim bears little relevance to its merits or disposition value. Due to the unpredictable nature of litigation, the outcome of a litigation matter and the amount or range of potential loss at particular points in time is normally difficult to ascertain. Uncertainties can include how fact finders will evaluate documentary evidence and the credibility and effectiveness of witness testimony, and how trial and appellate courts will apply the law in the context of the pleadings or evidence presented, whether by motion practice, or at trial or on appeal. Disposition valuations are also subject to the uncertainty of how opposing parties and their counsel will themselves view the relevant evidence and applicable law. We establish liabilities for litigation and regulatory loss contingencies when information related to the loss contingencies shows both that it is probable that a loss has been incurred and the amount of the loss can be reasonably estimated. It is possible that some matters could require us to pay damages or make other expenditures or establish accruals in amounts that could not be estimated as of December 31, 2012. While the potential future charges could be material in the particular quarterly or annual periods in which they are recorded, based on information currently known by management, management does not believe any such charges are likely to have a material adverse effect on LNL's financial condition. For some matters, the Company is able to estimate a reasonably possible range of loss. For such matters in which a loss is probable, an accrual has been made. For such matters where a loss is believed to be reasonably possible, but not probable, no accrual has been made. Accordingly, the estimate contained in this paragraph reflects two types of matters. For some matters included within this estimate, an accrual has been made, but there is a reasonable possibility that an exposure exists in excess of the amount accrued. In these cases, the estimate reflects the reasonably possible range of loss in excess of the accrued amount. For other matters included within this estimation, no accrual has been made because a loss, while potentially estimable, is believed to be reasonably possible but not probable. In these cases, the estimate reflects the reasonably possible loss or range of loss. As of December 31, 2012, we estimate the aggregate range of reasonably possible losses, including amounts in excess of amounts accrued for these matters as of such date, to be up to approximately $200 million. For other matters, we are not currently able to estimate the reasonably possible loss or range of loss. We are often unable to estimate the possible loss or range of loss until developments in such matters have provided sufficient information to support an assessment of the range of possible loss, such as quantification of a damage demand from plaintiffs, discovery from other parties and investigation of factual allegations, rulings by the court on motions or appeals, analysis by experts, and the progress of settlement negotiations. On a quarterly and annual basis, we review relevant information with respect to litigation contingencies and update our accruals, disclosures and estimates of reasonably possible losses or ranges of loss based on such reviews. On June 13, 2009, a single named plaintiff filed a putative national class action in the Circuit Court of Allen County, Indiana, captioned Peter S. Bezich v. LNL, No. 02C01-0906-PL73, asserting he was charged a cost-of-insurance fee that exceeded the applicable mortality charge, and that this fee breached the terms of the insurance contract. The parties are conducting fact discovery, and no class certification motion has yet been filed. We dispute the allegations and are vigorously defending this matter. On July 23, 2012, LNL was added as a noteholder defendant to a putative class action adversary proceeding ("Adversary Proceeding") captioned LEHMAN BROTHERS SPECIAL FINANCING, INC. V. S-44 BANK OF AMERICA, N.A. ET AL., Adv. Pro. No. 10-03547 (JMP) and instituted under IN RE LEHMAN BROTHERS HOLDINGS INC. in the United States Bankruptcy Court in the Southern District of New York. Plaintiff Lehman Brothers Special Financing Inc. ("LBSF") seeks to (i) overturn the application of certain priority of payment provisions in 47 collateralized debt obligation transactions on the basis such provisions are unenforceable under the Bankruptcy Code; and (ii) recover funds paid out to Noteholders in accordance with the Note agreements. The Adversary proceeding is stayed through July 20, 2013, and LNL's response is currently due to be filed on September 5, 2013. We are currently being audited on behalf of multiple states' treasury and controllers' offices for compliance with laws and regulations concerning the identification, reporting and escheatment of unclaimed contract benefits or abandoned funds. The audits focus on insurance company processes and procedures for identifying unreported death claims, and their use of the Social Security Master Death File to identify deceased policy and contract holders. In addition, we subsidiaries are the subject of multiple regulatory inquiries and examinations with a similar focus on the handling of unreported claims and abandoned property. The audits and related examination activity may result in payments to beneficiaries, escheatment of funds deemed abandoned under state laws, administrative penalties and changes in our procedures for the identification of unreported claims and handling of escheatable property. COMMITMENTS LEASES We lease our home office properties. In 2006, we exercised the right and option to extend the Fort Wayne lease for two extended terms such that the lease shall expire in 2019. We retain our right and option to exercise the remaining four extended terms of five years each in accordance with the lease agreement. These agreements also provide us with the right of first refusal to purchase the properties at a price defined in the agreements and the option to purchase the leased properties at fair market value on the last day of any renewal period. In 2012, we exercised the right and option to extend the Hartford lease for one extended term such that the lease shall expire in 2018. Total rental expense on operating leases for the years ended December 31, 2012, 2011 and 2010, was $37 million, $36 million and $40 million, respectively. Future minimum rental commitments (in millions) as of December 31, 2012, were as follows: 2013 $ 31 2014 31 2015 26 2016 22 2017 16 VULNERABILITY FROM CONCENTRATIONS As of December 31, 2012, we did not have a concentration of: business transactions with a particular customer or lender; sources of supply of labor or services used in the business; or a market or geographic area in which business is conducted that makes us vulnerable to an event that is at least reasonably possible to occur in the near term and which could cause a severe impact to our financial condition. Although we do not have any significant concentration of customers, our American Legacy Variable Annuity ("ALVA") product offered in our Annuities segment is significant to this segment. The ALVA product accounted for 19%, 22% and 25% of Annuities' variable annuity product deposits in 2012, 2011 and 2010, respectively, and represented approximately 50%, 54% and 58% of the segment's total variable annuity product account values as of December 31, 2012, 2011 and 2010, respectively. In addition, fund choices for certain of our other variable annuity products offered in our Annuities segment include American Fund Insurance Series(SM) ("AFIS") funds. For the Annuities segment, AFIS funds accounted for 21%, 27% and 29% of variable annuity product deposits in 2012, 2011 and 2010, respectively, and represented 58%, 62% and 66% of the segment's total variable annuity product account values as of December 31, 2012, 2011 and 2010, respectively. OTHER CONTINGENCY MATTERS State guaranty funds assess insurance companies to cover losses to contract holders of insolvent or rehabilitated companies. Mandatory assessments may be partially recovered through a reduction in future premium taxes in some states. We have accrued for expected assessments net of estimated future premium tax deductions of $32 million and $29 million as of December 31, 2012 and 2011, respectively. S-45 14. SHARES AND STOCKHOLDER'S EQUITY All authorized and issued shares of LNL are owned by LNC. ACCUMULATED OCI The following summarizes the components and changes in accumulated OCI (in millions):
FOR THE YEARS ENDED DECEMBER 31, ------------------------------------- 2012 2011 2010 ---------- ---------- --------- UNREALIZED GAIN (LOSS) ON AFS SECURITIES Balance as of beginning-of-year $ 2,805 $ 1,119 $ 36 Cumulative effect from adoption of new accounting standards - - 183 Unrealized holding gains (losses) arising during the year 2,631 3,292 2,322 Change in foreign currency exchange rate adjustment 14 (5) (6) Change in DAC, VOBA, DSI, future contract benefits and other contract holder funds (1,233) (798) (1,038) Income tax benefit (expense) (459) (890) (461) Less: Reclassification adjustment for gains (losses) included in net income (loss) (181) (124) (136) Associated amortization of DAC, VOBA, DSI and DFEL (1) (10) 8 Income tax benefit (expense) 64 47 45 ---------- ---------- ----------- Balance as of end-of-year $ 3,876 $ 2,805 $ 1,119 ========== ========== =========== UNREALIZED OTTI ON AFS SECURITIES Balance as of beginning-of-year $ (103) $ (126) $ (108) (Increases) attributable to: Cumulative effect from adoption of new accounting standards - - (5) Gross OTTI recognized in OCI during the year (118) (54) (93) Change in DAC, VOBA, DSI and DFEL 15 12 11 Income tax benefit (expense) 35 15 28 Decreases attributable to: Sales, maturities or other settlements of AFS securities 118 99 81 Change in DAC, VOBA, DSI and DFEL (17) (21) (19) Income tax benefit (expense) (35) (28) (21) ---------- ---------- ----------- Balance as of end-of-year $ (105) $ (103) $ (126) ========== ========== =========== UNREALIZED GAIN (LOSS) ON DERIVATIVE INSTRUMENTS Balance as of beginning-of-year $ 132 $ (14) $ (13) Cumulative effect from adoption of new accounting standards - - 3 Unrealized holding gains (losses) arising during the year (63) 204 (2) Change in foreign currency exchange rate adjustment (12) 7 4 Change in DAC, VOBA, DSI and DFEL 14 1 (1) Income tax benefit (expense) 20 (74) (1) Less: Reclassification adjustment for gains (losses) included in net income (loss) (18) (13) 6 Associated amortization of DAC, VOBA, DSI and DFEL 3 1 - Income tax benefit (expense) 5 4 (2) ---------- ---------- ----------- Balance as of end-of-year $ 101 $ 132 $ (14) ========== ========== =========== FUNDED STATUS OF EMPLOYEE BENEFIT PLANS Balance as of beginning-of-year $ (14) $ (14) $ (17) Adjustment arising during the year 3 1 4 Income tax benefit (expense) (1) (1) (1) ---------- ---------- ----------- Balance as of end-of-year $ (12) $ (14) $ (14) ========== ========== ===========
S-46 15. REALIZED GAIN (LOSS) Details underlying realized gain (loss) (in millions) reported on our Consolidated Statements of Comprehensive Income (Loss) were as follows:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ---------- Total realized gain (loss) related to certain investments(1) $ (164) $ (106) $ (132) Realized gain (loss) on the mark-to-market on certain instruments(2) 138 (65) (41) Indexed annuity net derivative results:(3) Gross gain (loss) 16 2 34 Associated amortization of DAC, VOBA, DSI and DFEL (5) (2) (14) Variable annuity net derivatives results:(4) Gross gain (loss) (77) (51) (30) Associated amortization of DAC, VOBA, DSI and DFEL (31) (28) (55) ---------- ----------- ---------- Total realized gain (loss) $ (123) $ (250) $ (238) ========== =========== ==========
(1) See "Realized Gain (Loss) Related to Certain Investments" section in Note 5. (2) Represents changes in the fair values of certain derivative investments (including those associated with our consolidated VIEs), total return swaps (embedded derivatives that are theoretically included in our various modified coinsurance and coinsurance with funds withheld reinsurance arrangements that have contractual returns related to various assets and liabilities associated with these arrangements) and trading securities. (3) Represents the net difference between the change in the fair value of the S&P 500 call options that we hold and the change in the fair value of the embedded derivative liabilities of our indexed annuity products along with changes in the fair value of embedded derivative liabilities related to index call options we may purchase in the future to hedge contract holder index allocations applicable to future reset periods for our indexed annuity products. (4) Includes the net difference in the change in embedded derivative reserves of our GLB products and the change in the fair value of the derivative instruments we own to hedge GDB and GLB products, including the cost of purchasing the hedging instruments. 16. COMMISSIONS AND OTHER EXPENSES Details underlying commissions and other expenses (in millions) were as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Commissions $ 1,972 $ 2,534 $ 1,859 General and administrative expenses 1,553 1,392 1,293 Expenses associated with reserve financing and unrelated LOCs 40 24 16 DAC and VOBA deferrals and interest, net of amortization (300) (565) (509) Broker-dealer expenses 243 236 212 Specifically identifiable intangible asset amortization 4 4 4 Media expenses 66 69 59 Taxes, licenses and fees 244 244 192 Merger-related expenses - - 9 Restructuring charges (recoveries) 16 - (1) ----------- ----------- ----------- Total $ 3,838 $ 3,938 $ 3,134 =========== =========== ===========
S-47 17. PENSION, POSTRETIREMENT HEALTH CARE AND LIFE INSURANCE BENEFIT PLANS LNC and LNL maintain qualified funded defined benefit pension plans in which many of our employees and agents are participants. LNC and LNL also maintain non-qualified, unfunded defined benefit pension plans for certain employees and agents. In addition, for certain former employees, we have supplemental retirement plans that provide defined benefit pension benefits in excess of limits imposed by federal tax law. All of our defined benefit pension plans are frozen, and there are no new participants and no future accruals of benefits from the date of the freeze. The eligibility requirements for each plan are described in each plan document and vary for each plan based on completion of a specified period of continuous service and date of hire, subject to age limitations. The frozen pension plan benefits are calculated either on a traditional final pay or cash balance formula. Those formulas are based upon years of credited service and eligible earnings as defined in each plan document. The traditional formula provides benefits stated in terms of a single life annuity payable at age 65. The cash balance formula provides benefits stated as a lump sum hypothetical account balance. That account balance equals the sum of the employee's accumulated annual benefit credits plus interest credits. Benefit credits, which are based on years of service and base salary plus bonus, ceased as of the date the plan was frozen. Interest credits continue until the participant's benefit is paid. LNC and LNL also sponsor a voluntary employees' beneficiary association ("VEBA") trust that provides postretirement medical, dental and life insurance benefits to retired full-time employees and agents who, depending on the plan, have worked for us for at least 10 years and attained age 55 (age 60 for agents). VEBAs are a special type of tax-exempt trust used to provide benefits that are subject to preferential tax treatment under the Internal Revenue Code. Medical and dental benefits are available to spouses and other eligible dependents of retired employees and agents. Retirees may be required to contribute toward the cost of these benefits. Eligibility and the amount of required contribution for these benefits varies based upon a variety of factors including years of service and year of retirement. S-48 OBLIGATIONS, FUNDED STATUS AND ASSUMPTIONS Information (in millions) with respect to our benefit plans' assets and obligations was as follows:
AS OF OR FOR THE YEARS ENDED DECEMBER 31, ------------------------------------------------------ 2012 2011 2012 2011 ----------- ---------- ----------- ---------- OTHER PENSION BENEFITS POSTRETIREMENT BENEFITS ------------------------- ------------------------- CHANGE IN PLAN ASSETS Fair value as of beginning-of-year $ 137 $ 128 $ 5 $ 5 Actual return on plan assets 17 17 - - Company and participant contributions - - 4 4 Benefits paid (9) (8) (4) (4) ----------- ----------- ----------- ------------ Fair value as of end-of-year 145 137 5 5 ----------- ----------- ----------- ------------ CHANGE IN BENEFIT OBLIGATION Balance as of beginning-of-year 121 116 21 21 Interest cost 5 6 1 1 Company and participant contributions - - 1 1 Actuarial (gains) losses 9 7 (2) 1 Benefits paid (9) (8) (4) (3) ----------- ----------- ----------- ------------ Balance as of end-of-year 126 121 17 21 ----------- ----------- ----------- ------------ Funded status of the plans $ 19 $ 16 $ (12) $ (16) =========== =========== =========== ============ AMOUNTS RECOGNIZED ON THE CONSOLIDATED BALANCE SHEETS Other assets $ 21 $ 18 $ - $ - Other liabilities (2) (2) (12) (16) ----------- ----------- ----------- ------------ Net amount recognized $ 19 $ 16 $ (12) $ (16) =========== =========== =========== ============ AMOUNTS RECOGNIZED IN ACCUMULATED OCI, NET OF TAX Net (gain) loss $ 13 $ 14 $ (1) $ - Prior service credit - - - - ----------- ----------- ----------- ------------ Net amount recognized $ 13 $ 14 $ (1) $ - =========== =========== =========== ============ RATE OF INCREASE IN COMPENSATION Retiree Life Insurance Plan N/A N/A 4.00 % 4.00 % All other plans N/A N/A N/A N/A WEIGHTED-AVERAGE ASSUMPTIONS Benefit obligations: Weighted-average discount rate 3.93 % 4.25 % 4.03 % 4.25 % Expected return on plan assets 6.50 % 8.00 % 6.50 % 6.50 % Net periodic benefit cost: Weighted-average discount rate 4.25 % 5.25 % 4.25 % 5.00 % Expected return on plan assets 6.50 % 8.00 % 6.50 % 6.50 %
Consistent with our benefit plans' year end, we use December 31 as the measurement date. The discount rate was determined based on a corporate yield curve as of December 31, 2012, and projected benefit obligation cash flows for the pension plans. We reevaluate this assumption each plan year. For 2013, our discount rate for the pension plans will be 3.93%. The expected return on plan assets was determined based on historical and expected future returns of the various asset categories, using the plans' target allocation. We reevaluate this assumption each plan year. For 2013, our expected return on plan assets is 6.50% for the plans. S-49 The calculation of the accumulated other postretirement benefit obligation assumes a weighted-average annual rate of increase in the per capita cost of covered benefits (i.e., health care cost trend rate) as follows:
AS OF OR FOR THE YEARS ENDED DECEMBER 31, ----------- -- ---------- -- ----------- 2012 2011 2010 ----------- ---------- ----------- Pre-65 health care cost trend rate 8.00 % 8.50 % 9.50 % Post-65 health care cost trend rate 8.00 % 8.50 % 9.50 % Ultimate trend rate 4.50 % 4.50 % 5.00 % Year that the rate reaches the ultimate trend rate 2020 2021 2020
We expect the health care cost trend rate for 2013 to be 8.00% for both the pre-65 and the post-65 population. A one-percentage point increase in assumed health care cost trend rates would have increased the accumulated postretirement benefit obligation by less than $1 million and total service and interest cost components by less than $1 million. A one-percentage point decrease in assumed health care cost trend rates would have decreased the accumulated postretirement benefit obligation by less than $1 million and total service and interest cost components by less than $1 million. Information for our pension plans with an accumulated benefit obligation in excess of plan assets (in millions) was as follows:
AS OF DECEMBER 31, -------------------------- 2012 2011 ----------- ----------- Accumulated benefit obligation $ 2 $ 2 Projected benefit obligation 2 2 Fair value of plan assets - -
COMPONENTS OF NET PERIODIC BENEFIT COST The components of net periodic benefit cost for our pension plans' and other postretirement plans' expense (recovery) (in millions) were as follows:
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------------------------------------------------- PENSION BENEFITS OTHER POSTRETIREMENT BENEFITS ---------------------------------------- --------------------------------------- 2012 2011 2010 2012 2011 2010 ----------- ---------- ----------- ---------- ----------- ---------- Interest cost $ 5 $ 6 $ 7 $ 1 $ 1 $ 1 Expected return on plan assets (9) (10) (9) - - - Recognized net actuarial loss (gain) 1 2 2 - - - ----------- ---------- ----------- ---------- ----------- ---------- Net periodic benefit expense $ (3) $ (2) $ - $ 1 $ 1 $ 1 (recovery) =========== ========== =========== ========== =========== ==========
We expect our 2013 pension plans' income to be approximately $3 million. For 2013, the estimated amount of amortization from accumulated OCI into net periodic benefit expense related to net actuarial loss or gain is expected to be a $1 million loss for our pension plans and a less than $1 million gain for our other postretirement plans. PLAN ASSETS Our pension plans' asset target allocations by asset category based on estimated fair values were as follows:
2012 2011 ----------- ----------- Fixed maturity securities 80 % 80 % Common stock: Domestic equity 14 % 14 % International equity 6 % 6 %
The investment objectives for the assets related to our pension plans are to: o Maintain sufficient liquidity to pay obligations of the plans as they come due; o Minimize the effect of a single investment loss and large losses to the plans through prudent risk/reward diversification consistent with sound fiduciary standards; o Maintain an appropriate asset allocation policy; o Earn a return commensurate with the level of risk assumed through the asset allocation policy; and o Control costs of administering and managing the plans' investment operations. Investments can be made in various asset classes and styles, including, but not limited to: domestic and international equity, fixed income securities, derivatives and other asset classes the investment managers deem prudent. Our plans follow a strategic asset allocation policy that strives to systemically S-50 increase the percentage of assets in liability-matching fixed income investments as funding levels increase. We currently target asset weightings as follows: domestic equity allocations (14%) are split into large cap (10%), small cap (2%) and hedge funds (2%). Fixed maturity securities represent core fixed income investments. The performance of the pension trust assets is monitored on a quarterly basis relative to the plans' objectives. Our qualified pension plans' assets have been combined into a master retirement trust where a variety of qualified managers, including manager of managers, are expected to have returns that exceed the median of similar funds over three-year periods, above an appropriate index over five-year periods and meet real return standards over ten-year periods. Managers are monitored for adherence to approved investment policy guidelines and managers not meeting these criteria are subject to additional due diligence review, corrective action or possible termination. FAIR VALUE OF PLAN ASSETS See "Fair Value Measurement" in Note 1 for discussion of how we categorize our pension plans' assets into the three-level fair value hierarchy. See "Financial Instruments Carried at Fair Value" in Note 21 for a summary of our fair value measurements of our pension plans' assets by the three-level fair value hierarchy. The following summarizes our fair value measurements of benefit plans' assets (in millions) on a recurring basis by asset category:
AS OF DECEMBER 31, ------------------------------------------------------ 2012 2011 2012 2011 ----------- ----------- ----------- ---------- OTHER PENSION PLANS POSTRETIREMENT BENEFITS -------------------------- ------------------------- Fixed maturity securities: Corporate bonds $ 48 $ 53 $ - $ - U.S. government bonds 26 16 - - Foreign government bonds 2 3 - - RMBS - - - - CMBS - 1 - - CDOs - - - - Common stock 66 61 - - Cash and invested cash 3 3 5 5 ----------- ----------- ----------- ---------- Total $ 145 $ 137 $ 5 $ 5 =========== =========== =========== ==========
VALUATION METHODOLOGIES AND ASSOCIATED INPUTS FOR PENSION PLANS' ASSETS The fair value measurements of our pension plans' assets are based on assumptions used by market participants in pricing the security. The most appropriate valuation methodology is selected based on the specific characteristics of the security, and the valuation methodology is consistently applied to measure the security's fair value. The fair value measurement is based on a market approach, which utilizes prices and other relevant information generated by market transactions involving identical or comparable securities. Sources of inputs to the market approach include third-party pricing services, independent broker quotations or pricing matrices. Both observable and unobservable inputs are used in the valuation methodologies. Observable inputs include benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data. In addition, market indicators, industry and economic events are monitored and further market data is acquired if certain triggers are met. For certain security types, additional inputs may be used, or some of the inputs described above may not be applicable. For broker-quoted only securities, quotes from market makers or broker-dealers are obtained from sources recognized to be market participants. In order to validate the pricing information and broker-dealer quotes, procedures are employed, where possible, that include comparisons with similar observable positions, comparisons with subsequent sales, discussions with brokers and observations of general market movements for those security classes. For those securities trading in less liquid or illiquid markets with limited or no pricing information, unobservable inputs are used in order to measure the fair value of these securities. In cases where this information is not available, such as for privately placed securities, fair value is estimated using an internal pricing matrix. This matrix relies on judgment concerning the discount rate used in calculating expected future cash flows, credit quality, industry sector performance and expected maturity. Prices received from third parties are not adjusted; however, the third-party pricing services' valuation methodologies and related inputs are evaluated and additional evaluation is performed to determine the appropriate level within the fair value hierarchy. The observable and unobservable inputs to the valuation methodologies are based on general standard inputs. The standard inputs used in order of priority are benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data. Depending on the type of security or the daily market activity, standard inputs may be prioritized differently or may not be available for all securities on any given day. S-51 Cash and invested cash is carried at cost, which approximates fair value. This category includes highly liquid debt instruments purchased with a maturity of three months or less. Due to the nature of these assets, we believe these assets should be classified as Level 2. PLAN CASH FLOWS It is our practice to make contributions to the qualified pension plans to comply with minimum funding requirements of the Employee Retirement Income Security Act of 1974, as amended and with guidance issued there under. In accordance with such practice, no contributions were required for the years ended December 31, 2012 or 2011. Based on our calculations, we do not expect to be required to make any contributions to our qualified pension plans in 2013 under applicable pension law. For our nonqualified pension plans, we fund the benefits as they become due to retirees. The amount expected to be contributed to the nonqualified pension plans during 2013 is less than $1 million. We expect the following benefit payments (in millions):
DEFINED OTHER BENEFIT POST- PENSION RETIREMENT PLANS PLANS ------------- ---------- 2013 $ 10 $ 2 2014 10 2 2015 10 2 2016 9 1 2017 9 1 Following five years thereafter 41 6
18. DEFINED CONTRIBUTION AND DEFERRED COMPENSATION PLANS DEFINED CONTRIBUTION PLANS LNC and we sponsor defined contribution plans, which include money purchase plans, for eligible employees and agents. LNC and we make contributions and matching contributions to each of the active plans in accordance with the plan documents and various limitations under Section 401(a) of the Internal Revenue Code of 1986, as amended. For the years ended December 31, 2012, 2011 and 2010, expenses (income) for these plans were $68 million, $65 million and $60 million, respectively. DEFERRED COMPENSATION PLANS LNC and we sponsor six separate non-qualified, unfunded, deferred compensation plans for employees, agents and non-employee directors. The results for certain investment options within the plans are hedged by total return swaps. Participants' account values change due primarily to investment earnings driven by market fluctuations. Our expenses increase or decrease in direct proportion to the change in market value of the participants' investment options. Participants are able to select our stock as an investment option; however, it is not hedged by the total return swaps and is a primary source of expense volatility related to these plans. For further discussion of total return swaps related to our deferred compensation plans, see Note 6. Information (in millions) with respect to these plans was as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ----------- Total liabilities(1) $ 335 $ 304 Investments held to fund liabilities(2) 146 133
(1) Reported in other liabilities on our Consolidated Balance Sheets. (2) Reported in other assets on our Consolidated Balance Sheets. DEFERRED COMPENSATION PLAN FOR EMPLOYEES Participants may elect to defer a portion of their compensation as defined by the plan. Participants may select from prescribed "phantom" investment options that are used as measures for calculating the returns that are notionally credited to their accounts. Under the terms of the plan, we agree to pay out amounts based upon the aggregate performance of the investment measures selected by the participants. We make matching contributions based upon amounts placed into the plan by individuals after participants have exceeded applicable limits of the Internal Revenue Code. The amounts of our contributions are calculated in accordance with the plan document. Expenses (income) (in millions) for this plan were as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Employer matching contributions $ 7 $ 6 $ 6 Increase (decrease) in measurement of liabilities, net of total return swap 11 1 1 ----------- ----------- ----------- Total plan expenses (income) $ 18 $ 7 $ 7 =========== =========== ===========
DEFERRED COMPENSATION PLANS FOR AGENTS We sponsor three deferred compensation plans for certain eligible agents. Participants may elect to defer a portion of their compensation as defined by the respective plan. Participants may select from prescribed "phantom" investment options that are used as measures for calculating the returns that are notionally credited to their accounts. Under the terms of these plans, we agree to pay out amounts based upon the aggregate performance of the investment measures selected by the participants. We make matching contributions based upon amounts placed into the plans by individuals after participants have exceeded applicable limits of the Internal Revenue Code. The amounts of our contributions are calculated in accordance S-52 with the plans' documents. Expenses (income) (in millions) for these plans were as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Employer matching contributions $ 1 $ 1 $ 3 Increase (decrease) in measurement of liabilities, net of total return swap 5 - 3 ----------- ----------- ----------- Total plan expenses (income) $ 6 $ 1 $ 6 =========== =========== ===========
DEFERRED COMPENSATION PLAN FOR NON-EMPLOYEE DIRECTORS Non-employee directors may defer a portion of their annual retainers, and we credit deferred stock units annually to their accounts. The prescribed "phantom" investment options are identical to those offered in the employees' deferred compensation plan. For the years ended December 31, 2012, 2011 and 2010, expenses (income) for this plan were $2 million, less than ($1) million and $2 million, respectively. DEFERRED COMPENSATION PLAN FOR FORMER JP AGENTS Eligible former agents of Jefferson-Pilot Corporation may participate in this deferred compensation plan. Participants may elect to defer commissions and bonuses and specify where this deferred compensation will be invested in selected notional mutual funds. Participants may not receive the returns on these funds until attaining a specified age or in the event of a significant lifestyle change. The funded amount is rebalanced to match the funds that have been elected under the deferred compensation plan. The plan obligation increases with contributions, deferrals and investment gains, and decreases with withdrawals and investment losses. The plan assets increase with investment gains and decrease with investment losses and payouts of benefits. For the years ended December 31, 2012, 2011 and 2010, expenses (income) for this plan were $3 million, $4 million and $2 million, respectively. 19. STOCK-BASED INCENTIVE COMPENSATION PLANS Our employees and agents are included in LNC's various incentive plans that provide for the issuance of stock options, performance shares (performance-vested shares as opposed to time-vested shares), SARs, restricted stock units and restricted stock awards ("nonvested stock"). LNC issues new shares to satisfy option exercises. Total compensation expense (in millions) for all of our stock-based incentive compensation plans was as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Stock options $ 8 $ 8 $ 5 Performance shares 5 2 (1) SARs 1 - - RSUs and nonvested stock 17 12 11 ----------- ----------- ----------- Total $ 31 $ 22 $ 15 =========== =========== =========== Recognized tax benefit $ 11 $ 8 $ 5 =========== =========== ===========
20. STATUTORY INFORMATION AND RESTRICTIONS We prepare financial statements in accordance with statutory accounting principles ("SAP") prescribed or permitted by the insurance departments of our states of domicile, which may vary materially from GAAP. Prescribed SAP includes the Accounting Practices and Procedures Manual of the National Association of Insurance Commissioners ("NAIC") as well as state laws, regulations and administrative rules. Permitted SAP encompasses all accounting practices not so prescribed. The principal differences between statutory financial statements and financial statements prepared in accordance with GAAP are that statutory financial statements do not reflect DAC, some bond portfolios may be carried at amortized cost, assets and liabilities are presented net of reinsurance, contract holder liabilities are generally valued using more conservative assumptions and certain assets are non-admitted. We are subject to the applicable laws and regulations of our states of domicile. Changes in these laws and regulations could change capital levels or capital requirements for the Company. Statutory capital and surplus, net gain (loss) from operations, after-tax, net income (loss) and dividends to LNC amounts (in millions) below consists of all or a combination of the following entities: LNL, Lincoln Reinsurance Company of South Carolina, Lincoln Reinsurance Company of South Carolina II, Lincoln Life & Annuity Company of New York ("LLANY"), Lincoln Reinsurance Company of Vermont I, Lincoln Reinsurance Company of Vermont II, Lincoln Reinsurance Company of Vermont III and Lincoln Reinsurance Company of Vermont IV.
AS OF DECEMBER 31, ------------------------- 2012 2011 ---------- ----------- Capital and surplus $ 6,457 $ 7,054
S-53
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------- 2012 2011 2010 ---------- ----------- ----------- Net gain (loss) from operations, after-tax $ 649 $ 291 $ 553 Net income (loss) 600 104 430 Dividends to LNC 605 800 684
The increase in statutory net income (loss) for the year ended December 31, 2012, from that of 2011, was primarily due to a decrease in realized losses in invested assets, an increase in favorable tax items over prior year and favorable reserve development in variable annuities due to improvements in the equity market and less volatility in the forward interest rates. The decrease in statutory net income (loss) for the year ended December 31, 2011, from that of 2010, was primarily due to increased realized losses in invested assets, an increase in reserves on UL secondary guarantee products and prior year favorable tax items that did not repeat in 2011. Our states of domicile, Indiana for LNL and New York for LLANY, have adopted certain prescribed accounting practices that differ from those found in NAIC SAP. These prescribed practices are the use of continuous Commissioners Annuity Reserve Valuation Method ("CARVM") in the calculation of reserves as prescribed by the state of New York, the calculation of reserves on universal life policies based on the Indiana universal life method as prescribed by the state of Indiana for policies issued before January 1, 2006 and the use of a more conservative valuation interest rate on certain annuities prescribed by the states of Indiana and New York. The Vermont insurance subsidiaries also have an accounting practice permitted by the state of Vermont that differs from that found in NAIC SAP. Specifically, it is accounting for the lesser of the face amount of all amounts outstanding under an LOC and the value of the Valuation of Life Insurance Policies Model Regulation ("XXX") additional statutory reserves as an admitted asset and a form of surplus as of December 31, 2012 and 2011. The favorable (unfavorable) effects on statutory surplus compared to NAIC statutory surplus from the use of these prescribed and permitted practices (in millions) were as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ---------- ----------- Calculation of reserves using the Indiana universal life method $ 249 $ 270 Calculation of reserves using continuous CARVM (2) (2) Conservative valuation rate on certain annuities (26) (20) Lesser of LOC and XXX additional reserve as surplus 2,483 1,731
We are subject to certain insurance department regulatory restrictions as to the transfer of funds and payment of dividends to the holding company. Under Indiana laws and regulations, LNL may pay dividends to LNC without prior approval of the Indiana Insurance Commissioner (the "Commissioner"), only from unassigned surplus and must receive prior approval of the Commissioner to pay a dividend if such dividend, along with all other dividends paid within the preceding 12 consecutive months, would exceed the statutory limitation. The current statutory limitation is the greater of 10% of the insurer's contract holders' surplus, as shown on its last annual statement on file with the Commissioner or the insurer's statutory net gain from operations for the previous 12 months, but in no event to exceed statutory unassigned surplus. Indiana law gives the Commissioner broad discretion to disapprove requests for dividends in excess of these limits. We expect that we could pay dividends of approximately $643 million in 2013 without prior approval from the respective state commissioner. All payments of principal and interest on the surplus notes must be approved by the respective Commissioner of Insurance. S-54 21. FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying values and estimated fair values of our financial instruments (in millions) were as follows:
AS OF DECEMBER 31, 2012 AS OF DECEMBER 31, 2011 ------------------------- ------------------------- CARRYING FAIR CARRYING FAIR VALUE VALUE VALUE VALUE ----------- ---------- ----------- ---------- ASSETS AFS securities: Fixed maturity securities $ 80,254 $ 80,254 $ 73,607 $ 73,607 VIEs' fixed maturity securities 708 708 700 700 Equity securities 157 157 139 139 Trading securities 2,437 2,437 2,538 2,538 Mortgage loans on real estate 6,792 7,446 6,589 7,233 Derivative investments 2,263 2,263 2,846 2,846 Other investments 1,089 1,089 1,059 1,059 Cash and invested cash 3,278 3,278 3,844 3,844 Separate account assets 95,373 95,373 83,477 83,477 LIABILITIES Future contract benefits: Indexed annuity contracts embedded derivatives (732) (732) (399) (399) GLB reserves embedded derivatives (909) (909) (2,217) (2,217) Other contract holder funds: Remaining guaranteed interest and similar contracts (867) (867) (1,114) (1,114) Account values of certain investment contracts (28,480) (32,620) (27,403) (30,739) Short-term debt (32) (32) (10) (10) Long-term debt (1,925) (1,972) (2,429) (2,466) Reinsurance related embedded derivatives (184) (184) (12) (12) VIEs' liabilities - derivative instruments (128) (128) (291) (291) Other liabilities: Credit default swaps (11) (11) (16) (16) BENEFIT PLANS' ASSETS(1) 150 150 142 142
(1) Included in the funded statuses of the benefit plans, which is reported in other liabilities on our Consolidated Balance Sheets. Refer to Note 17 for additional detail. VALUATION METHODOLOGIES AND ASSOCIATED INPUTS FOR FINANCIAL INSTRUMENTS NOT CARRIED AT FAIR VALUE The following discussion outlines the methodologies and assumptions used to determine the fair value of our financial instruments not carried at fair value on our Consolidated Balance Sheets. Considerable judgment is required to develop these assumptions used to measure fair value. Accordingly, the estimates shown are not necessarily indicative of the amounts that would be realized in a one-time, current market exchange of all of our financial instruments. MORTGAGE LOANS ON REAL ESTATE The fair value of mortgage loans on real estate is established using a discounted cash flow method based on credit rating, maturity and future income. The ratings for mortgages in good standing are based on property type, location, market conditions, occupancy, debt-service coverage, loan-to-value, quality of tenancy, borrower and payment record. The fair value for impaired mortgage loans is based on the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's market price or the fair value of the collateral if the loan is collateral dependent. The inputs used to measure the fair value of our mortgage loans on real estate are classified as Level 2 within the fair value hierarchy. OTHER INVESTMENTS The carrying value of our assets classified as other investments approximates fair value. Other investments include LPs and other privately held investments that are accounted for using the equity method of accounting and the carrying value is based on our proportional share of the net assets of the LPs. The inputs used to measure the fair value of our other investments are classified as Level 3 within the fair value hierarchy. OTHER CONTRACT HOLDER FUNDS Other contract holder funds include remaining guaranteed interest and similar contracts and account values of certain investment contracts. The fair value for the remaining guaranteed interest and similar contracts is estimated using discounted cash flow calculations as of the balance sheet date. These calculations are based on interest rates currently offered on similar contracts with maturities that are consistent with those remaining for the contracts being valued. As of December 31, 2012 and 2011, the remaining guaranteed interest and similar contracts carrying value approximated fair value. The fair value of the account values of certain investment contracts is based on their approximate surrender value as of the balance sheet date. The inputs used to measure the fair value of our other contract holder funds are classified as Level 3 within the fair value hierarchy. S-55 SHORT-TERM AND LONG-TERM DEBT The fair value of long-term debt is based on quoted market prices. For short-term debt, excluding current maturities of long-term debt, the carrying value approximates fair value. The inputs used to measure the fair value of our short-term and long-term debt are classified as Level 2 within the fair value hierarchy. FINANCIAL INSTRUMENTS CARRIED AT FAIR VALUE We did not have any assets or liabilities measured at fair value on a nonrecurring basis as of December 31, 2012 or 2011, and we noted no changes in our valuation methodologies between these periods. The following summarizes our financial instruments carried at fair value (in millions) on a recurring basis by the fair value hierarchy levels described above:
AS OF DECEMBER 31, 2012 -------------------------------------------------------- QUOTED PRICES IN ACTIVE MARKETS FOR SIGNIFICANT SIGNIFICANT IDENTICAL OBSERVABLE UNOBSERVABLE TOTAL ASSETS INPUTS INPUTS FAIR (LEVEL 1) (LEVEL 2) (LEVEL 3) VALUE ------------ ------------ ------------- ----------- ASSETS Investments: Fixed maturity AFS securities: Corporate bonds $ 65 $ 64,654 $ 2,065 $ 66,784 U.S. government bonds 362 30 1 393 Foreign government bonds - 594 46 640 RMBS - 5,880 3 5,883 CMBS - 928 27 955 CDOs - 26 154 180 State and municipal bonds - 4,211 32 4,243 Hybrid and redeemable preferred securities 30 1,030 116 1,176 VIEs' fixed maturity securities 110 598 - 708 Equity AFS securities 44 26 87 157 Trading securities 2 2,379 56 2,437 Derivative investments - 347 1,916 2,263 Cash and invested cash - 3,278 - 3,278 Separate account assets 1,519 93,854 - 95,373 ------------ ------------ ------------- ----------- Total assets $ 2,132 $177,835 $ 4,503 $ 184,470 ============ ============ ============= =========== LIABILITIES Future contract benefits: Indexed annuity contracts embedded derivatives $ - $ - $ (732) $ (732) GLB reserves embedded derivatives - - (909) (909) Reinsurance related embedded derivatives - (184) - (184) VIEs' liabilities - derivative instruments - - (128) (128) Other liabilities: Credit default swaps - - (11) (11) ------------ ------------ ------------- ----------- Total liabilities $ - $ (184) $ (1,780) $ (1,964) ============ ============ ============= =========== BENEFIT PLANS' ASSETS $ 16 $ 134 $ - $ 150 ============ ============ ============= ===========
S-56
AS OF DECEMBER 31, 2011 --------------------------------------------------------- QUOTED PRICES IN ACTIVE MARKETS FOR SIGNIFICANT SIGNIFICANT IDENTICAL OBSERVABLE UNOBSERVABLE TOTAL ASSETS INPUTS INPUTS FAIR (LEVEL 1) (LEVEL 2) (LEVEL 3) VALUE ------------- ------------ ------------- ----------- ASSETS Investments: Fixed maturity AFS securities: Corporate bonds $ 61 $ 55,603 $ 2,423 $ 58,087 U.S. government bonds 426 18 1 445 Foreign government bonds - 621 97 718 RMBS - 7,506 158 7,664 CMBS - 1,498 31 1,529 CDOs - - 101 101 State and municipal bonds - 3,943 - 3,943 Hybrid and redeemable preferred securities 15 1,006 99 1,120 VIEs' fixed maturity securities 108 592 - 700 Equity AFS securities 37 46 56 139 Trading securities 2 2,469 67 2,538 Derivative investments - 362 2,484 2,846 Cash and invested cash - 3,844 - 3,844 Separate account assets 1,582 81,895 - 83,477 ------------- ------------ ------------- ----------- Total assets $ 2,231 $ 159,403 $ 5,517 $ 167,151 ============= ============ ============= =========== LIABILITIES Future contract benefits: Indexed annuity contracts embedded derivatives $ - $ - $ (399) $ (399) GLB reserves embedded derivatives - - (2,217) (2,217) Reinsurance related embedded derivatives - (12) - (12) VIEs' liabilities - derivative instruments - - (291) (291) Other liabilities: Credit default swaps - - (16) (16) ------------- ------------ ------------- ----------- Total liabilities $ - $ (12) $ (2,923) $ (2,935) ============= ============ ============= =========== BENEFIT PLANS' ASSETS $ 14 $ 128 $ - $ 142 ============= ============ ============= ===========
S-57 The following summarizes changes to our financial instruments carried at fair value (in millions) and classified within Level 3 of the fair value hierarchy. This summary excludes any effect of amortization of DAC, VOBA, DSI and DFEL. The gains and losses below may include changes in fair value due in part to observable inputs that are a component of the valuation methodology.
FOR THE YEAR ENDED DECEMBER 31, 2012 ------------------------------------------------------------------------------------ PURCHASES, GAINS ISSUANCES, TRANSFERS ITEMS (LOSSES) SALES, IN OR INCLUDED IN MATURITIES, OUT BEGINNING IN OCI SETTLEMENTS, OF ENDING FAIR NET AND CALLS, LEVEL 3, FAIR VALUE INCOME OTHER(1) NET NET(2) VALUE ----------- ---------- ----------- ------------ ----------- ----------- Investments:(3) Fixed maturity AFS securities: Corporate bonds $ 2,423 $ (25) $ 35 $ 274 $ (642) $ 2,065 U.S. government bonds 1 - - - - 1 Foreign government bonds 97 - - (5) (46) 46 RMBS 158 (3) 3 (8) (147) 3 CMBS 31 (11) 16 (11) 2 27 CDOs 101 (2) 8 61 (14) 154 State and municipal bonds - - - 32 - 32 Hybrid and redeemable preferred securities 99 (1) 23 - (5) 116 Equity AFS securities 56 (8) 13 26 - 87 Trading securities 67 3 4 (2) (16) 56 Derivative investments 2,484 (823) 73 182 - 1,916 Future contract benefits:(4) Indexed annuity contracts embedded derivatives (399) (136) - (197) - (732) GLB reserves embedded derivatives (2,217) 1,308 - - - (909) VIEs' liabilities - derivative instruments(5) (291) 163 - - - (128) Other liabilities: Credit default swaps(6) (16) 5 - - - (11) ----------- ---------- ----------- ------------ ----------- ----------- Total, net $ 2,594 $ 470 $ 175 $ 352 $ (868) $ 2,723 =========== ========== =========== ============ =========== ===========
S-58
FOR THE YEAR ENDED DECEMBER 31, 2011 ------------------------------------------------------------------------------------ PURCHASES, GAINS ISSUANCES, TRANSFERS ITEMS (LOSSES) SALES, IN OR INCLUDED IN MATURITIES, OUT BEGINNING IN OCI SETTLEMENTS, OF ENDING FAIR NET AND CALLS, LEVEL 3, FAIR VALUE INCOME OTHER(1) NET NET(2) VALUE ----------- ---------- ----------- ------------ ----------- ----------- Investments:(3) Fixed maturity AFS securities: Corporate bonds $ 2,353 $ 3 $ 42 $ (134) $ 159 $ 2,423 U.S. government bonds 2 - - (1) - 1 Foreign government bonds 113 - 4 (3) (17) 97 RMBS 119 (3) 6 36 - 158 CMBS 102 (62) 61 (74) 4 31 CDOs 171 19 (17) (72) - 101 Hybrid and redeemable preferred securities 114 (1) (5) (7) (2) 99 Equity AFS securities 91 8 (12) 3 (34) 56 Trading securities 74 3 1 (7) (4) 67 Derivative investments 1,494 495 383 112 - 2,484 Future contract benefits:(4) Indexed annuity contracts embedded derivatives (497) 5 - 93 - (399) GLB reserves embedded derivatives (408) (1,809) - - - (2,217) VIEs' liabilities - derivative instruments(5) (209) (82) - - - (291) Other liabilities: Credit default swaps(6) (16) (6) - 6 - (16) ----------- ---------- ----------- ------------ ----------- ----------- Total, net $ 3,503 $ (1,430) $ 463 $ (48) $ 106 $ 2,594 =========== ========== =========== ============ =========== =========== Benefit plans' assets(7) $ 6 $ - $ - $ (6) $ - $ - =========== ========== =========== ============ =========== ===========
S-59
FOR THE YEAR ENDED DECEMBER 31, 2010 ------------------------------------------------------------------------------------ PURCHASES, GAINS ISSUANCES, TRANSFERS ITEMS (LOSSES) SALES, IN OR INCLUDED IN MATURITIES, OUT BEGINNING IN OCI SETTLEMENTS, OF ENDING FAIR NET AND CALLS, LEVEL 3, FAIR VALUE INCOME OTHER(1) NET NET(2) VALUE ----------- ---------- ----------- ------------ ----------- ----------- Investments:(3) Fixed maturity AFS securities: Corporate bonds $ 2,117 $ (42) $ 53 $ 279 $ (54) $ 2,353 U.S. government bonds 3 - - (4) 3 2 Foreign government bonds 92 - 8 (4) 17 113 RMBS 135 (5) 10 (17) (4) 119 CMBS 252 (47) 84 (72) (115) 102 CDOs 153 1 30 (13) - 171 CLNs 322 - 278 - (600) - Hybrid and redeemable preferred securities 150 2 (23) (15) - 114 Equity AFS securities 88 - 8 (5) - 91 Trading securities 90 2 (10) (7) (1) 74 Derivative investments 1,238 (166) 7 415 - 1,494 Future contract benefits:(4) Indexed annuity contracts embedded derivatives (419) (81) - 3 - (497) GLB reserves embedded derivatives (676) 268 - - - (408) VIEs' liabilities - derivative instruments(5) - 16 - - (225) (209) Other liabilities: Credit default swaps(6) (65) 7 - 42 - (16) ----------- ---------- ----------- ------------ ----------- ----------- Total, net $ 3,480 $ (45) $ 445 $ 602 $ (979) $ 3,503 =========== ========== =========== ============ =========== =========== Benefit plans' assets (7) $ - $ - $ - $ 6 $ - $ 6 =========== ========== =========== ============ =========== ===========
(1) The changes in fair value of the interest rate swaps are offset by an adjustment to derivative investments (see Note 6). (2) Transfers in or out of Level 3 for AFS and trading securities are displayed at amortized cost as of the beginning-of-year. For AFS and trading securities, the difference between beginning-of-year amortized cost and beginning-of-year fair value was included in OCI and earnings, respectively, in prior years. (3) Amortization and accretion of premiums and discounts are included in net investment income on our Consolidated Statements of Comprehensive Income (Loss). Gains (losses) from sales, maturities, settlements and calls and OTTI are included in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). (4) Gains (losses) from sales, maturities, settlements and calls are included in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). (5) The changes in fair value of the credit default swaps and contingency forwards are included in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). (6) Gains (losses) from sales, maturities, settlements and calls are included in net investment income on our Consolidated Statements of Comprehensive Income (Loss). (7) The expected return on plan assets is reported in commissions and other expenses on our Consolidated Statements of Comprehensive Income (Loss). S-60 The following provides the components of the items included in issuances, sales, maturities, settlements, calls, net, excluding any effect of amortization of DAC, VOBA, DSI and DFEL and changes in future contract benefits (in millions) as reported above:
FOR THE YEAR ENDED DECEMBER 31, 2012 ------------------------------------------------------------------------------------ ISSUANCES SALES MATURITIES SETTLEMENTS CALLS TOTAL ----------- ---------- ----------- ----------- ----------- ----------- Investments: Fixed maturity AFS securities: Corporate bonds $ 363 $ (26) $ (6) $ (51) $ (6) $ 274 Foreign government bonds - - (5) - - (5) RMBS - - (6) (2) - (8) CMBS - - - (11) - (11) CDOs 72 - - (11) - 61 State and municipal bonds 32 - - - - 32 Equity AFS securities 26 - - - - 26 Trading securities - - - (2) - (2) Derivative investments 454 (34) (238) - - 182 Future contract benefits: Indexed annuity contracts embedded derivatives (99) - - (98) - (197) ----------- ---------- ----------- ----------- ----------- ----------- Total, net $ 848 $ (60) $ (255) $ (175) $ (6) $ 352 =========== ========== =========== =========== =========== ===========
FOR THE YEAR ENDED DECEMBER 31, 2011 ------------------------------------------------------------------------------------ ISSUANCES SALES MATURITIES SETTLEMENTS CALLS TOTAL ----------- ---------- ----------- ----------- ----------- ----------- Investments: Fixed maturity AFS securities: Corporate bonds $ 237 $ (216) $ (15) $ (51) $ (89) $ (134) U.S. government bonds - - - (1) - (1) Foreign government bonds - (3) - - - (3) RMBS 51 - - (15) - 36 CMBS - (50) - (24) - (74) CDOs - (33) - (39) - (72) Hybrid and redeemable preferred securities 9 (16) - - - (7) Equity AFS securities 19 (16) - - - 3 Trading securities - (2) - (5) - (7) Derivative investments 396 (7) (277) - - 112 Future contract benefits: Indexed annuity contracts embedded derivatives (59) - - 152 - 93 Other liabilities: Credit default swaps - 6 - - - 6 ----------- ---------- ----------- ----------- ----------- ----------- Total, net $ 653 $ (337) $ (292) $ 17 $ (89) $ (48) =========== ========== =========== ========== =========== =========== Benefit plans' assets $ - $ (3) $ (3) $ - $ - $ (6) =========== ========== =========== ========== =========== ===========
S-61 The following summarizes changes in unrealized gains (losses) included in net income, excluding any effect of amortization of DAC, VOBA, DSI and DFEL and changes in future contract benefits, related to financial instruments carried at fair value classified within Level 3 that we still held (in millions):
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ---------- ----------- Investments:(1) Derivative investments $ (823) $ 472 $ (163) Future contract benefits:(1) Indexed annuity contracts embedded derivatives (10) (1) 44 GLB reserves embedded derivatives 1,472 (1,615) 419 VIEs' liabilities - derivative instruments(1) 163 (82) 16 Other liabilities: Credit default swaps(2) 6 (8) (12) ----------- ---------- ----------- Total, net $ 808 $ (1,234) $ 304 =========== ========== ===========
(1) Included in realized gain (loss) on our Consolidated Statements of Comprehensive Income (Loss). (2) Included in net investment income on our Consolidated Statements of Comprehensive Income (Loss). The following provides the components of the transfers in and out of Level 3 (in millions) as reported above:
FOR THE YEAR ENDED DECEMBER 31, 2012 ---------------------------------------- TRANSFERS TRANSFERS IN TO OUT OF LEVEL 3 LEVEL 3 TOTAL ----------- ---------- ----------- Investments: Fixed maturity AFS securities: Corporate bonds $ 35 $ (677) $ (642) Foreign government bonds - (46) (46) RMBS - (147) (147) CMBS 5 (3) 2 CDOs 6 (20) (14) Hybrid and redeemable preferred securities 35 (40) (5) Trading securities 2 (18) (16) ----------- ---------- ----------- Total, net $ 83 $ (951) $ (868) =========== ========== ===========
FOR THE YEAR ENDED DECEMBER 31, 2011 ---------------------------------------- TRANSFERS TRANSFERS IN TO OUT OF LEVEL 3 LEVEL 3 TOTAL ----------- ---------- ----------- Investments: Fixed maturity AFS securities: Corporate bonds $ 246 $ (87) $ 159 Foreign government bonds - (17) (17) CMBS 4 - 4 Hybrid and redeemable preferred securities 18 (20) (2) Equity AFS securities 1 (35) (34) Trading securities 1 (5) (4) ----------- ---------- ----------- Total, net $ 270 $ (164) $ 106 =========== ========== ===========
FOR THE YEAR ENDED DECEMBER 31, 2010 ---------------------------------------- TRANSFERS TRANSFERS IN TO OUT OF LEVEL 3 LEVEL 3 TOTAL ----------- ---------- ----------- Investments: Fixed maturity AFS securities: Corporate bonds $ 144 $ (198) $ (54) U.S. government bonds 3 - 3 Foreign government bonds 17 - 17 RMBS - (4) (4) CMBS 3 (118) (115) CLNs - (600) (600) Trading securities - (1) (1) VIEs' liabilities - derivative instruments (225) - (225) ----------- ---------- ----------- Total, net $ (58) $ (921) $ (979) =========== ========== ===========
Transfers in and out of Level 3 are generally the result of observable market information on a security no longer being available or becoming available to our pricing vendors. For the years ended December 31, 2012, 2011 and 2010, our corporate bonds, RMBS and CMBS transfers in and out were attributable primarily to the securities' observable market information no longer being available or becoming available. For the year ended December 31, 2010, the CLNs transfers out of Level 3 and VIEs' liabilities - derivative instruments transfer into Level 3 were related to new accounting guidance that is discussed in Note 2. Transfers in and out of Levels 1 and 2 are generally the result of a change in the type of input used to measure the fair value of an asset or liability at the end of the reporting period. When quoted prices in active markets become available, transfers from Level 2 to Level 1 will result. When quoted prices in active markets become unavailable, but we are able to employ a valuation methodology using significant observable inputs, transfers from Level 1 to Level 2 will result. There were no significant transfers between Levels 1 and 2 of the fair value during 2012, 2011 and 2010. S-62 The following summarizes the fair value (in millions), valuation techniques and significant unobservable inputs of the Level 3 fair value measurements as of December 31, 2012:
FAIR VALUATION SIGNIFICANT INPUT VALUE TECHNIQUE UNOBSERVABLE INPUTS RANGES ---------- ----------------------- -------------------------------- --------------- ASSETS Investments: Fixed maturity AFS and trading securities Corporate bonds $ 902 Discounted cash flow Liquidity/duration adjustment(1) 1.7% - 13.5% Foreign government bonds 46 Discounted cash flow Liquidity/duration adjustment(1) 2.3% - 5.3% Hybrid and redeemable preferred stock 21 Discounted cash flow Liquidity/duration adjustment(1) 2.7% - 2.9% Equity AFS and trading securities 24 Discounted cash flow Liquidity/duration adjustment(1) 4.3% - 4.5% LIABILITIES Future contract benefits: Indexed annuity contracts embedded derivatives (732) Discounted cash flow Lapse rate(2) 1.0% - 15.0%(7) Mortality rate(5) GLB reserves embedded derivatives (858) Monte Carlo simulation Long-term lapse rate(2) 1.0% - 27.0% Utilization of guaranteed withdrawal(3) 90.0% - 100.0% NPR(4) 0.03% - 0.54%(7) Mortality rate(5) Volatility(6) 1.0% - 35.0%
(1) The liquidity/duration adjustment input represents an estimated market participant composite of adjustments attributable to liquidity premiums, expected durations, structures and credit quality that would be applied to the market observable information of an investment. (2) The lapse rate input represents the estimated probability of a contract surrendering during a year, and thereby forgoing any future benefits. The range for indexed annuity contracts represents the lapse rates during the surrender charge period. (3) The utilization of guaranteed withdrawals input represents the estimated percentage of contract holders that utilize the guaranteed withdrawal feature. (4) The NPR input represents the estimated additional credit spread that market participants would apply to the market observable discount rate when pricing a contract. (5) The mortality rate input represents the estimated probability of when an individual belonging to a particular group, categorized according to age or some other factor such as gender, will die. (6) The volatility input represents overall volatilities assumed for the underlying variable annuity funds, which include a mixture of equity and fixed income assets. Fair value of the variable annuity GLB embedded derivatives would increase if higher volatilities were used for valuation. (7) Based on the "Annuity 2000 Mortality Table" developed by the Society of Actuaries Committee on Life Insurance Research that was adopted by the National Association of Insurance Commissioners in 1996 for our mortality input. From the table above, we have excluded Level 3 fair value measurements obtained from independent, third-party pricing sources. We do not develop the significant inputs used to measure the fair value of these assets and liabilities, and the information regarding the significant inputs is not readily available to us. Independent broker-quoted fair values are non-binding quotes developed by market makers or broker-dealers obtained from third-party sources recognized as market participants. The fair value of a broker-quoted asset or liability is based solely on the receipt of an updated quote from a single market maker or a broker-dealer recognized as a market participant as we do not adjust broker quotes when used as the fair value measurement for an asset or liability. Significant increases or decreases in any of the quotes received from a third-party broker-dealer may result in a significantly higher or lower fair value measurement. S-63 Changes in any of the significant inputs presented in the table above may result in a significant change in the fair value measurement of the asset or liability as follows: o INVESTMENTS - An increase in the liquidity/duration adjustment input would result in a decrease in the fair value measurement. o INDEXED ANNUITY CONTRACTS EMBEDDED DERIVATIVES - An increase in the lapse rate or mortality rate inputs would result in a decrease in the fair value measurement. o GLB RESERVES EMBEDDED DERIVATIVES - An increase in our lapse rate, wait period, NPR or mortality rate inputs would result in a decrease in the fair value measurement. An increase in the percent of maximum withdrawal amount input would result in an increase in the fair value measurement. For each category discussed above, the unobservable inputs are not inter-related; therefore, a directional change in one input will not affect the other inputs. As part of our on-going valuation process, we assess the reasonableness of our valuation techniques or models and make adjustments as necessary. For more information, see "Summary of Significant Accounting Policies" above. 22. SEGMENT INFORMATION We provide products and services and report results through our Annuities, Retirement Plan Services, Life Insurance and Group Protection segments. We also have Other Operations, which includes the financial data for operations that are not directly related to the business segments. Our reporting segments reflect the manner by which our chief operating decision makers view and manage the business. The following is a brief description of these segments and Other Operations. The Annuities segment provides tax-deferred investment growth and lifetime income opportunities for its clients by offering fixed (including indexed), and variable annuities. The Retirement Plan Services segment provides employer-sponsored defined benefit, and individual retirement accounts, as well as individual and group variable annuities, group fixed annuities and mutual-fund based programs in the retirement plan marketplace. The Life Insurance segment focuses in the creation and protection of wealth through life insurance products, including term insurance, a linked-benefit product (which is a UL policy linked with riders that provide for long-term care costs), indexed UL and both single and survivorship versions of UL and VUL, including corporate-owned UL and VUL insurance and bank-owned UL and VUL insurance products. The Group Protection segment offers principally group non-medical insurance products, including term life, universal life, disability, dental, vision, accident and critical illness insurance to the employer market place through various forms of contributory and non-contributory plans. Its products are marketed primarily through a national distribution system of regional group offices. These offices develop business through employee benefit brokers, third-party administrators and other employee benefit firms. Other Operations includes investments related to the excess capital in our insurance subsidiaries; investments in media properties and other corporate investments; benefit plan net liability; the unamortized deferred gain on indemnity reinsurance related to the sale of reinsurance; the results of certain disability income business; our run-off Institutional Pension business, the majority of which was sold on a group annuity basis; and debt costs. Segment operating revenues and income (loss) from operations are internal measures used by our management and Board of Directors to evaluate and assess the results of our segments. Income (loss) from operations is GAAP net income excluding the after-tax effects of the following items, as applicable: o Realized gains and losses associated with the following ("excluded realized gain (loss)"): - Sales or disposals of securities; - Impairments of securities; - Changes in the fair value of derivatives, embedded derivatives within certain reinsurance arrangements and our trading securities; - Changes in the fair value of the derivatives we own to hedge our GDB riders within our variable annuities; - Changes in the fair value of the embedded derivatives of our GLB riders accounted for at fair value, net of the change in the fair value of the derivatives we own to hedge them; and - Changes in the fair value of the embedded derivative liabilities related to index call options we may purchase in the future to hedge contract holder index allocations applicable to future reset periods for our indexed annuity products accounted for at fair value. o Changes in reserves resulting from benefit ratio unlocking on our GDB and GLB riders; o Income (loss) from reserve changes, net of related amortization, on business sold through reinsurance; o Gains (losses) on early extinguishment of debt; o Losses from the impairment of intangible assets; o Income (loss) from discontinued operations; and o Income (loss) from the initial adoption of new accounting standards. Operating revenues represent GAAP revenues excluding the pre-tax effects of the following items, as applicable: o Excluded realized gain (loss); o Revenue adjustments from the initial adoption of new accounting standards; o Amortization of DFEL arising from changes in GDB and GLB benefit ratio unlocking; and o Amortization of deferred gains arising from the reserve changes on business sold through reinsurance. S-64 We use our prevailing corporate federal income tax rate of 35% while taking into account any permanent differences for events recognized differently in our financial statements and federal income tax returns when reconciling our non-GAAP measures to the most comparable GAAP measure. Operating revenues and income (loss) from operations do not replace revenues and net income as the GAAP measures of our consolidated results of operations. Segment information (in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------- 2012 2011 2010 ----------- ------------ ---------- REVENUES Operating revenues: Annuities $ 2,713 $ 2,588 $ 2,415 Retirement Plan Services 1,015 988 971 Life Insurance 4,817 4,347 4,160 Group Protection 2,090 1,938 1,831 Other Operations 411 449 470 Excluded realized gain (loss), pre-tax (235) (342) (312) Amortization of deferred gain arising from reserve changes on business sold through reinsurance, pre-tax 3 3 3 ----------- ------------ --------- Total revenues $ 10,814 $ 9,971 $ 9,538 =========== ============ =========
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------- 2012 2011 2010 ----------- ------------ ---------- NET INCOME (LOSS) Income (loss) from operations: Annuities $ 608 $ 549 $ 450 Retirement Plan Services 131 146 143 Life Insurance 538 463 533 Group Protection 72 97 68 Other Operations (39) (28) 3 Excluded realized gain (loss), after-tax (152) (222) (204) Gain (loss) on early extinguishment of debt, after-tax - - - Income (expense) from reserve changes (net of related amortization) on business sold through reinsurance, after-tax 2 2 2 Impairment of intangibles, after-tax 2 (744) - Benefit ratio unlocking, after-tax - - - ----------- ------------ --------- Income (loss) from continuing operations, after-tax 1,162 263 995 ----------- ------------ --------- Net income (loss) $ 1,162 $ 263 $ 995 =========== ============ =========
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ---------- ----------- NET INVESTMENT INCOME Annuities $ 1,058 $ 1,091 $ 1,107 Retirement Plan Services 797 792 769 Life Insurance 2,297 2,168 2,040 Group Protection 161 152 141 Other Operations 238 287 305 ----------- ---------- ----------- Total net investment income $ 4,551 $ 4,490 $ 4,362 =========== ========== ===========
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ---------- ----------- AMORTIZATION OF DAC AND VOBA, NET OF INTEREST Annuities $ 307 $ 335 $ 346 Retirement Plan Services 42 33 53 Life Insurance 609 416 431 Group Protection 48 39 40 ----------- ---------- ----------- Total amortization of DAC and VOBA, net of interest $ 1,006 $ 823 $ 870 =========== ========== ===========
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ---------- ----------- FEDERAL INCOME TAX EXPENSE (BENEFIT) Annuities $ 117 $ 92 $ 83 Retirement Plan Services 29 56 53 Life Insurance 326 202 246 Group Protection 38 52 37 Other Operations (82) (13) (6) Excluded realized gain (loss) (83) (120) (109) Reserve changes (net of related amortization) on business sold through reinsurance 1 1 1 Impairment of intangibles (2) - - ----------- ---------- ----------- Total federal income tax expense (benefit) $ 344 $ 270 $ 305 =========== ========== ===========
AS OF DECEMBER 31, ------------------------- 2012 2011 ---------- ----------- ASSETS Annuities $ 107,872 $ 99,010 Retirement Plan Services 30,654 28,633 Life Insurance 62,867 57,623 Group Protection 3,733 3,429 Other Operations 13,254 12,658 ---------- ----------- Total assets $ 218,380 $ 201,353 ========== ===========
S-65 23. SUPPLEMENTAL DISCLOSURES OF CASH FLOW DATA The following summarizes our supplemental cash flow data (in millions):
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ---------- ----------- Interest paid $ 134 $ 88 $ 94 Income taxes paid (received) 136 159 (345) Significant non-cash investing and financing transactions: Reinsurance ceded: Carrying value of assets $ 367 $ - $ 188 Carrying value of liabilities (367) - (188) ----------- ---------- ----------- Total reinsurance ceded $ - $ - $ - =========== ========== =========== Reinsurance recaptured: Carrying value of assets $ (34) $ 243 $ 110 Carrying value of liabilities (84) (441) (115) ----------- ---------- ----------- Total reinsurance recaptured $ (118) $ (198) $ (5) =========== ========== =========== Reinsurance novated: Carrying value of assets $ 0 $ - $ - Carrying value of liabilities (26) - - ----------- ---------- ----------- Total reinsurance novated $ (26) $ - $ - =========== ========== =========== Capital contributions: Carrying value of assets (includes cash and invested cash) $ - $ 10 $ - Carrying value of liabilities - - - ----------- ---------- ----------- Total capital contributions $ - $ 10 $ - =========== ========== ===========
24. TRANSACTIONS WITH AFFILIATES Transactions with affiliates (in millions) recorded on our consolidated financial statements were as follows:
AS OF DECEMBER 31, ------------------------- 2012 2011 ----------- ----------- Assets with affiliates: Corporate bonds(1) $ 100 $ 100 Ceded reinsurance contracts(2) 2,887 3,318 Ceded reinsurance contracts(3) 9 340 Cash management agreement investment(4) 748 394 Service agreement receivable(4) 15 1 Liabilities with affiliates: Assumed reinsurance contracts(5) 438 432 Assumed reinsurance contracts(3) 183 181 Ceded reinsurance contracts(6) 4,252 3,668 Inter-company short-term debt(7) 28 10 Inter-company long-term debt(8) 1,679 2,179
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------- 2012 2011 2010 ----------- ----------- ----------- Revenues with affiliates: Premiums received on assumed (paid on ceded) reinsurance contracts(9) $ (188) $ (335) $ (268) Fees for management of general account(10) (92) - - Benefits and expenses with affiliates: Reinsurance (recoveries) benefits on ceded reinsurance contracts(11) (433) (1,181) (638) Service agreement payments(12) 114 75 58 Interest expense on inter-company debt(13) 109 107 98
(1) Reported in fixed maturity AFS securities on our Consolidated Balance Sheets. S-66 (2) Reported in reinsurance recoverables on our Consolidated Balance Sheets. (3) Reported in reinsurance related embedded derivatives on our Consolidated Balance Sheets. (4) Reported in other assets on our Consolidated Balance Sheets. (5) Reported in future contract benefits on our Consolidated Balance Sheets. (6) Reported in funds withheld reinsurance liabilities on our Consolidated Balance Sheets. (7) Reported in short-term debt on our Consolidated Balance Sheets. (8) Reported in long-term debt on our Consolidated Balance Sheets. (9) Reported in insurance premiums on our Consolidated Statements of Comprehensive Income (Loss). (10) Reported in net investment income on our Consolidated Statements of Comprehensive Income (Loss). (11) Reported in benefits on our Consolidated Statements of Comprehensive Income (Loss). (12) Reported in commissions and other expenses on our Consolidated Statements of Comprehensive Income (Loss). (13) Reported in interest and debt expense on our Consolidated Statements of Comprehensive Income (Loss). CORPORATE BONDS LNC issues corporate bonds to us for a predetermined face value to be repaid by LNC at a predetermined maturity with a specified interest rate. We purchase these investments for our segmented portfolios that have yield, duration and other characteristics. CASH MANAGEMENT AGREEMENT In order to manage our capital more efficiently, we participate in an inter-company cash management program where LNC can lend to or borrow from us to meet short-term borrowing needs. The cash management program is essentially a series of demand loans, which are permitted under applicable insurance laws, among LNC and its affiliates that reduces overall borrowing costs by allowing LNC and its subsidiaries to access internal resources instead of incurring third-party transaction costs. The borrowing and lending limit is currently the lesser of 3% of our admitted assets and 25% of our surplus, in both cases, as of our most recent year end. SERVICE AGREEMENT In accordance with service agreements with LNC and other subsidiaries of LNC for personnel and facilities usage, general management services and investment management services, we receive services from and provide services to affiliated companies and also receive an allocation of corporate overhead from LNC. Corporate overhead expenses are allocated based on specific methodologies for each function. The majority of the expenses are allocated based on the following methodologies: investments by product, assets under management, weighted policies in force, headcount and sales. FEES FOR MANAGEMENT OF GENERAL ACCOUNT On January 4, 2010, LNC closed on a purchase and sale agreement pursuant to which all of the outstanding capital stock of Delaware Management Holdings, Inc. ("Delaware") was sold. In addition, we entered into investment advisory agreements with Delaware, pursuant to which Delaware will continue to manage the majority of our general account insurance assets. Effective January 1, 2012, LNL entered into an Investment Advisory Agreement with Lincoln Investment Management Company ("LIMCO"), also a wholly-owned subsidiary of LNC. LIMCO provides investment advisory services to LNL and enters into sub-advisory agreements with other third-party investment advisers. CEDED REINSURANCE CONTRACTS As discussed in Note 9, we cede insurance contracts to and assume insurance contracts from affiliated companies. We cede certain guaranteed benefit risks (including certain GDB and GWB benefits) to LNBAR. As discussed in Note 3, we also cede the risks for no-lapse benefit guarantees under certain UL contracts to LNBAR. Substantially all reinsurance ceded to affiliated companies is with unauthorized companies. To take reserve credit for such reinsurance, we hold assets from the reinsurer, including funds held under reinsurance treaties, and are the beneficiary of letters of credit aggregating $76 million and $71 million as of December 31, 2012 and 2011, respectively. The letters of credit are obtained by the affiliate reinsurer and issued by banks in order for the Company to recognize the reserve credit. 25. SUBSEQUENT EVENTS On March 25, 2013, LNL paid a cash dividend in the amount of $150 million to LNC. S-67 LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L L-1 LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L STATEMENTS OF ASSETS AND LIABILITIES DECEMBER 31, 2012
MORTALITY & CONTRACT EXPENSE CONTRACT REDEMPTIONS GUARANTEE PURCHASES DUE TO CHARGES PAYABLE DUE FROM THE THE LINCOLN TO THE LINCOLN LINCOLN NATIONAL NATIONAL LIFE NATIONAL LIFE LIFE INSURANCE INSURANCE INSURANCE SUBACCOUNT INVESTMENTS COMPANY TOTAL ASSETS COMPANY COMPANY NET ASSETS ------------------------------------------------------------------------------------------------------------------------------------ ABVPSF Global Thematic Growth Class B $ 1,872,400 $ 151 $ 1,872,551 $ -- $ 149 $ 1,872,402 ABVPSF Growth Class B 1,189,737 415 1,190,152 -- 94 1,190,058 ABVPSF Growth and Income Class B 1,214,053 840 1,214,893 -- 97 1,214,796 American Century VP Balanced Class I 16,030,962 19,638 16,050,600 -- 1,276 16,049,324 American Century VP Inflation Protection Class I 1,627,572 -- 1,627,572 2,211 133 1,625,228 American Funds Global Growth Class 2 4,965,346 1,062 4,966,408 -- 392 4,966,016 American Funds Growth Class 2 23,435,325 -- 23,435,325 6,248 1,849 23,427,228 American Funds Growth-Income Class 2 7,932,599 997 7,933,596 -- 631 7,932,965 American Funds International Class 2 11,349,772 1,856 11,351,628 -- 913 11,350,715 BlackRock Global Allocation V.I. Class I 1,214,524 706 1,215,230 -- 98 1,215,132 Delaware VIP Diversified Income Standard Class 7,054,875 1,869 7,056,744 -- 575 7,056,169 Delaware VIP High Yield Standard Class 3,073,108 4,839 3,077,947 -- 249 3,077,698 Delaware VIP REIT Service Class 11,574,110 3,047 11,577,157 -- 930 11,576,227 Delaware VIP Small Cap Value Service Class 8,062,218 -- 8,062,218 643 638 8,060,937 Delaware VIP Smid Cap Growth Service Class 4,312,653 657 4,313,310 -- 345 4,312,965 Dreyfus Opportunistic Small Cap Initial Class 24,279,952 -- 24,279,952 809 1,915 24,277,228 Dreyfus Stock Index Initial Class 48,738,031 20,259 48,758,290 -- 3,849 48,754,441 DWS Alternative Asset Allocation VIP Class A 130,970 8 130,978 -- 11 130,967 DWS Equity 500 Index VIP Class A 1,753,918 3,031 1,756,949 -- 140 1,756,809 DWS Small Cap Index VIP Class A 1,996,898 460 1,997,358 -- 157 1,997,201 Fidelity VIP Asset Manager Initial Class 39,405,684 2,662 39,408,346 -- 3,163 39,405,183 Fidelity VIP Contrafund Service Class 2 18,404,613 -- 18,404,613 8,449 1,463 18,394,701 Fidelity VIP Equity-Income Initial Class 38,916,381 -- 38,916,381 13,192 3,072 38,900,117 Fidelity VIP Growth Initial Class 64,752,320 14,053 64,766,373 -- 5,120 64,761,253 Fidelity VIP Money Market Initial Class 7,989 101 8,090 -- -- 8,090 Janus Aspen Series Worldwide Institutional Class 8,843,580 -- 8,843,580 2,192 697 8,840,691 LVIP Baron Growth Opportunities Service Class 14,063,790 -- 14,063,790 2,310 1,113 14,060,367 LVIP BlackRock Inflation Protected Bond Standard Class 69,231 -- 69,231 -- 6 69,225 LVIP Clarion Global Real Estate Standard Class 623,588 80 623,668 -- 50 623,618 LVIP Delaware Bond Standard Class 7,916,606 -- 7,916,606 3,041 640 7,912,925 LVIP Delaware Diversified Floating Rate Service Class 25,231 5 25,236 -- 2 25,234 LVIP Delaware Foundation Aggressive Allocation Standard Class 156,632 68 156,700 -- 13 156,687 LVIP Delaware Foundation Conservative Allocation Standard Class 1,134,016 118 1,134,134 -- 88 1,134,046 LVIP Delaware Foundation Moderate Allocation Standard Class 309,227 6 309,233 -- 25 309,208 LVIP Delaware Growth and Income Standard Class 3,802,776 3,227 3,806,003 -- 301 3,805,702 LVIP Delaware Social Awareness Standard Class 12,425,261 1,593 12,426,854 -- 984 12,425,870 LVIP Global Income Standard Class 247,615 101 247,716 -- 20 247,696
See accompanying notes. L-2
MORTALITY & CONTRACT EXPENSE CONTRACT REDEMPTIONS GUARANTEE PURCHASES DUE TO CHARGES PAYABLE DUE FROM THE THE LINCOLN TO THE LINCOLN LINCOLN NATIONAL NATIONAL LIFE NATIONAL LIFE LIFE INSURANCE INSURANCE INSURANCE SUBACCOUNT INVESTMENTS COMPANY TOTAL ASSETS COMPANY COMPANY NET ASSETS ------------------------------------------------------------------------------------------------------------------------------------ LVIP Mondrian International Value Standard Class $ 3,767,581 $ 944 $ 3,768,525 $ -- $ 296 $ 3,768,229 LVIP Protected Profile 2010 Standard Class 786,044 -- 786,044 25,375 64 760,605 LVIP Protected Profile 2020 Standard Class 2,134,886 1,527 2,136,413 -- 172 2,136,241 LVIP Protected Profile 2030 Standard Class 2,959,712 1,180 2,960,892 -- 240 2,960,652 LVIP Protected Profile 2040 Standard Class 1,229,391 1,054 1,230,445 -- 99 1,230,346 LVIP Protected Profile 2050 Standard Class 25,464 127 25,591 -- 2 25,589 LVIP Protected Profile Conservative Standard Class 2,295,588 -- 2,295,588 21,953 186 2,273,449 LVIP Protected Profile Growth Standard Class 5,178,911 4,066 5,182,977 -- 416 5,182,561 LVIP Protected Profile Moderate Standard Class 5,013,575 2,973 5,016,548 -- 401 5,016,147 LVIP SSgA Bond Index Standard Class 706,463 -- 706,463 2,148 57 704,258 LVIP SSgA Emerging Markets 100 Standard Class 1,253,484 4,826 1,258,310 -- 101 1,258,209 LVIP SSgA Global Tactical Allocation RPM Standard Class 1,860,877 444 1,861,321 -- 150 1,861,171 LVIP SSgA International Index Standard Class 105,372 -- 105,372 1,126 9 104,237 LVIP SSgA S&P 500 Index Standard Class 21,115 -- 21,115 -- 2 21,113 LVIP SSgA Small-Cap Index Standard Class 5,536 -- 5,536 -- -- 5,536 LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class 15,642,467 -- 15,642,467 637 1,239 15,640,591 LVIP UBS Large Cap Growth RPM Standard Class 1,520,770 597 1,521,367 -- 120 1,521,247 NB AMT Large Cap Value I Class 4,320,689 -- 4,320,689 1,433 341 4,318,915 NB AMT Mid Cap Growth I Class 6,597,655 1,145 6,598,800 -- 524 6,598,276 T. Rowe Price International Stock Class I 11,675,252 -- 11,675,252 823 934 11,673,495
See accompanying notes. L-3 LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L STATEMENTS OF OPERATIONS YEAR ENDED DECEMBER 31, 2012
DIVIDENDS FROM MORTALITY AND NET INVESTMENT EXPENSE INVESTMENT SUBACCOUNT INCOME GUARANTEE CHARGES INCOME (LOSS) ---------------------------------------------------------------------------------------------------------------- ABVPSF Global Thematic Growth Class B $ -- $ (19,328) $ (19,328) ABVPSF Growth Class B -- (11,671) (11,671) ABVPSF Growth and Income Class B 15,366 (11,043) 4,323 American Century VP Balanced Class I 334,905 (159,773) 175,132 American Century VP Inflation Protection Class I 38,357 (13,562) 24,795 American Funds Global Growth Class 2 42,367 (45,527) (3,160) American Funds Growth Class 2 182,143 (225,764) (43,621) American Funds Growth-Income Class 2 125,224 (75,641) 49,583 American Funds International Class 2 162,743 (113,511) 49,232 BlackRock Global Allocation V.I. Class I 18,373 (12,381) 5,992 Delaware VIP Diversified Income Standard Class 213,238 (68,319) 144,919 Delaware VIP High Yield Standard Class 254,700 (29,348) 225,352 Delaware VIP REIT Service Class 150,123 (114,312) 35,811 Delaware VIP Small Cap Value Service Class 28,265 (78,795) (50,530) Delaware VIP Smid Cap Growth Service Class 368 (43,598) (43,230) Dreyfus Opportunistic Small Cap Initial Class -- (235,624) (235,624) Dreyfus Stock Index Initial Class 1,002,207 (484,506) 517,701 DWS Alternative Asset Allocation VIP Class A 3,891 (1,196) 2,695 DWS Equity 500 Index VIP Class A 44,868 (21,230) 23,638 DWS Small Cap Index VIP Class A 16,732 (18,554) (1,822) Fidelity VIP Asset Manager Initial Class 602,417 (391,119) 211,298 Fidelity VIP Contrafund Service Class 2 203,186 (177,708) 25,478 Fidelity VIP Equity-Income Initial Class 1,184,649 (377,314) 807,335 Fidelity VIP Growth Initial Class 390,524 (652,521) (261,997) Fidelity VIP Money Market Initial Class 27 -- 27 Janus Aspen Series Worldwide Institutional Class 73,629 (82,960) (9,331) LVIP Baron Growth Opportunities Service Class 159,656 (137,083) 22,573 LVIP BlackRock Inflation Protected Bond Standard Class -- (201) (201) LVIP Clarion Global Real Estate Standard Class -- (5,368) (5,368) LVIP Delaware Bond Standard Class 158,613 (78,061) 80,552 LVIP Delaware Diversified Floating Rate Service Class 75 (55) 20 LVIP Delaware Foundation Aggressive Allocation Standard Class 2,481 (1,199) 1,282 LVIP Delaware Foundation Conservative Allocation Standard Class 24,360 (9,571) 14,789 LVIP Delaware Foundation Moderate Allocation Standard Class 6,993 (2,660) 4,333 LVIP Delaware Growth and Income Standard Class 41,401 (38,052) 3,349 LVIP Delaware Social Awareness Standard Class 94,032 (122,242) (28,210) LVIP Global Income Standard Class 4,725 (2,490) 2,235 LVIP Mondrian International Value Standard Class 107,950 (37,735) 70,215 LVIP Protected Profile 2010 Standard Class 17,377 (7,119) 10,258 LVIP Protected Profile 2020 Standard Class 42,116 (20,184) 21,932 LVIP Protected Profile 2030 Standard Class 51,164 (26,853) 24,311 LVIP Protected Profile 2040 Standard Class 19,888 (10,792) 9,096 LVIP Protected Profile 2050 Standard Class 212 (714) (502) LVIP Protected Profile Conservative Standard Class 84,531 (21,708) 62,823 LVIP Protected Profile Growth Standard Class 129,566 (51,409) 78,157 LVIP Protected Profile Moderate Standard Class 161,763 (48,458) 113,305 LVIP SSgA Bond Index Standard Class 17,096 (6,103) 10,993 LVIP SSgA Emerging Markets 100 Standard Class 31,910 (12,115) 19,795 LVIP SSgA Global Tactical Allocation RPM Standard Class 62,015 (18,065) 43,950 LVIP SSgA International Index Standard Class 1,635 (878) 757 LVIP SSgA S&P 500 Index Standard Class 194 (57) 137 LVIP SSgA Small-Cap Index Standard Class 34 (18) 16 LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class -- (155,437) (155,437) LVIP UBS Large Cap Growth RPM Standard Class -- (15,007) (15,007) NB AMT Large Cap Value I Class 17,749 (42,512) (24,763) NB AMT Mid Cap Growth I Class -- (66,892) (66,892) T. Rowe Price International Stock Class I 141,074 (111,488) 29,586
See accompanying notes. L-4
DIVIDENDS NET CHANGE FROM TOTAL IN UNREALIZED NET INCREASE NET REALIZED NET REALIZED NET REALIZED APPRECIATION OR IN NET ASSETS GAIN (LOSS) GAIN ON GAIN (LOSS) DEPRECIATION RESULTING SUBACCOUNT ON INVESTMENTS INVESTMENTS ON INVESTMENTS ON INVESTMENTS FROM OPERATIONS ------------------------------------------------------------------------------------------------------------------------------------ ABVPSF Global Thematic Growth Class B $ 6,755 $ -- $ 6,755 $ 227,554 $ 214,981 ABVPSF Growth Class B 23,544 -- 23,544 120,174 132,047 ABVPSF Growth and Income Class B 32 -- 32 151,878 156,233 American Century VP Balanced Class I 41,813 -- 41,813 1,431,725 1,648,670 American Century VP Inflation Protection Class I 9,726 26,244 35,970 19,969 80,734 American Funds Global Growth Class 2 10,853 -- 10,853 886,632 894,325 American Funds Growth Class 2 262,776 -- 262,776 3,293,026 3,512,181 American Funds Growth-Income Class 2 (2,094) -- (2,094) 1,085,307 1,132,796 American Funds International Class 2 (239,726) -- (239,726) 1,952,551 1,762,057 BlackRock Global Allocation V.I. Class I (2,368) 3,561 1,193 92,156 99,341 Delaware VIP Diversified Income Standard Class 66,016 208,486 274,502 (11,833) 407,588 Delaware VIP High Yield Standard Class 31,560 -- 31,560 198,684 455,596 Delaware VIP REIT Service Class (156,357) -- (156,357) 1,754,601 1,634,055 Delaware VIP Small Cap Value Service Class 117,480 560,907 678,387 285,396 913,253 Delaware VIP Smid Cap Growth Service Class 93,506 249,551 343,057 56,161 355,988 Dreyfus Opportunistic Small Cap Initial Class (1,285,422) -- (1,285,422) 5,728,863 4,207,817 Dreyfus Stock Index Initial Class 944,661 2,451,154 3,395,815 2,773,632 6,687,148 DWS Alternative Asset Allocation VIP Class A (255) 916 661 4,593 7,949 DWS Equity 500 Index VIP Class A 121,716 -- 121,716 145,738 291,092 DWS Small Cap Index VIP Class A 3,169 444 3,613 262,859 264,650 Fidelity VIP Asset Manager Initial Class (111,027) 288,445 177,418 3,853,658 4,242,374 Fidelity VIP Contrafund Service Class 2 (59,858) -- (59,858) 2,469,034 2,434,654 Fidelity VIP Equity-Income Initial Class (468,807) 2,437,347 1,968,540 2,961,955 5,737,830 Fidelity VIP Growth Initial Class 706,824 -- 706,824 7,811,889 8,256,716 Fidelity VIP Money Market Initial Class -- -- -- -- 27 Janus Aspen Series Worldwide Institutional Class (272,302) -- (272,302) 1,765,035 1,483,402 LVIP Baron Growth Opportunities Service Class 829,737 658,776 1,488,513 692,384 2,203,470 LVIP BlackRock Inflation Protected Bond Standard Class 171 654 825 (367) 257 LVIP Clarion Global Real Estate Standard Class 11,108 -- 11,108 109,172 114,912 LVIP Delaware Bond Standard Class 103,222 180,419 283,641 63,125 427,318 LVIP Delaware Diversified Floating Rate Service Class 53 -- 53 93 166 LVIP Delaware Foundation Aggressive Allocation Standard Class 479 -- 479 11,290 13,051 LVIP Delaware Foundation Conservative Allocation Standard Class (5,028) -- (5,028) 83,714 93,475 LVIP Delaware Foundation Moderate Allocation Standard Class 161 392 553 20,523 25,409 LVIP Delaware Growth and Income Standard Class 55,151 3,498 58,649 446,694 508,692 LVIP Delaware Social Awareness Standard Class 16,853 863,361 880,214 767,991 1,619,995 LVIP Global Income Standard Class 435 448 883 12,759 15,877 LVIP Mondrian International Value Standard Class (285,811) -- (285,811) 515,999 300,403 LVIP Protected Profile 2010 Standard Class 39,300 -- 39,300 (1,220) 48,338 LVIP Protected Profile 2020 Standard Class 37,780 -- 37,780 85,354 145,066 LVIP Protected Profile 2030 Standard Class 36,833 -- 36,833 114,312 175,456 LVIP Protected Profile 2040 Standard Class 10,746 -- 10,746 45,574 65,416 LVIP Protected Profile 2050 Standard Class 18,592 -- 18,592 (3,905) 14,185 LVIP Protected Profile Conservative Standard Class 47,437 10,256 57,693 65,370 185,886 LVIP Protected Profile Growth Standard Class 28,000 -- 28,000 295,294 401,451 LVIP Protected Profile Moderate Standard Class 35,224 -- 35,224 246,920 395,449 LVIP SSgA Bond Index Standard Class 4,052 84 4,136 1,132 16,261 LVIP SSgA Emerging Markets 100 Standard Class (54,151) 107,534 53,383 36,060 109,238 LVIP SSgA Global Tactical Allocation RPM Standard Class (5,892) -- (5,892) 134,395 172,453 LVIP SSgA International Index Standard Class (706) -- (706) 13,634 13,685 LVIP SSgA S&P 500 Index Standard Class 1 -- 1 (16) 122 LVIP SSgA Small-Cap Index Standard Class -- -- -- 62 78 LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class 221,546 443,946 665,492 1,703,523 2,213,578 LVIP UBS Large Cap Growth RPM Standard Class 48,333 -- 48,333 176,831 210,157 NB AMT Large Cap Value I Class (181,382) -- (181,382) 825,620 619,475 NB AMT Mid Cap Growth I Class 192,989 -- 192,989 575,817 701,914 T. Rowe Price International Stock Class I (13,166) -- (13,166) 1,775,409 1,791,829
L-5 LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L STATEMENTS OF CHANGES IN NET ASSETS YEARS ENDED DECEMBER 31, 2011 AND 2012
ABVPSF GLOBAL ABVPSF AMERICAN THEMATIC ABVPSF GROWTH AND CENTURY GROWTH GROWTH INCOME VP BALANCED CLASS B CLASS B CLASS B CLASS I SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ----------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 2,785,369 $ 1,177,462 $ 901,820 $ 17,425,978 Changes From Operations: - Net investment income (loss) (15,946) (11,433) 529 152,562 - Net realized gain (loss) on investments 39,277 30,170 (23,295) (127,843) - Net change in unrealized appreciation or depreciation on investments (659,328) (14,258) 68,066 711,571 ------------ ------------ ------------ ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (635,997) 4,479 45,300 736,290 Changes From Unit Transactions: - Contract purchases 213,983 124,812 279,536 1,138,890 - Contract withdrawals (501,559) (222,843) (274,381) (3,425,909) ------------ ------------ ------------ ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (287,576) (98,031) 5,155 (2,287,019) ------------ ------------ ------------ ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS (923,573) (93,552) 50,455 (1,550,729) ------------ ------------ ------------ ------------- NET ASSETS AT DECEMBER 31, 2011 1,861,796 1,083,910 952,275 15,875,249 Changes From Operations: - Net investment income (loss) (19,328) (11,671) 4,323 175,132 - Net realized gain (loss) on investments 6,755 23,544 32 41,813 - Net change in unrealized appreciation or depreciation on investments 227,554 120,174 151,878 1,431,725 ------------ ------------ ------------ ------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 214,981 132,047 156,233 1,648,670 Changes From Unit Transactions: - Contract purchases 238,806 114,438 245,130 679,979 - Contract withdrawals (443,181) (140,337) (138,842) (2,154,574) ------------ ------------ ------------ ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (204,375) (25,899) 106,288 (1,474,595) ------------ ------------ ------------ ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 10,606 106,148 262,521 174,075 ------------ ------------ ------------ ------------- NET ASSETS AT DECEMBER 31, 2012 $ 1,872,402 $ 1,190,058 $ 1,214,796 $ 16,049,324 ============ ============ ============ =============
See accompanying notes. L-6
AMERICAN CENTURY AMERICAN AMERICAN AMERICAN VP INFLATION FUNDS FUNDS FUNDS PROTECTION GLOBAL GROWTH GROWTH GROWTH-INCOME CLASS I CLASS 2 CLASS 2 CLASS 2 SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 792,299 $ 5,565,771 $ 24,737,180 $8,174,284 Changes From Operations: - Net investment income (loss) 19,815 14,348 (90,357) 39,942 - Net realized gain (loss) on investments 25,915 3,093 188,651 (78,857) - Net change in unrealized appreciation or depreciation on investments 19,404 (535,854) (1,287,244) (166,305) ------------- ------------- ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS 65,134 (518,413) (1,188,950) (205,220) Changes From Unit Transactions: - Contract purchases 848,435 884,246 3,021,527 1,342,893 - Contract withdrawals (564,557) (1,430,811) (4,955,370) (2,193,500) ------------- ------------- ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 283,878 (546,565) (1,933,843) (850,607) ------------- ------------- ------------ ------------ TOTAL INCREASE (DECREASE) IN NET ASSETS 349,012 (1,064,978) (3,122,793) (1,055,827) ------------- ------------- ------------ ------------ NET ASSETS AT DECEMBER 31, 2011 1,141,311 4,500,793 21,614,387 7,118,457 Changes From Operations: - Net investment income (loss) 24,795 (3,160) (43,621) 49,583 - Net realized gain (loss) on investments 35,970 10,853 262,776 (2,094) - Net change in unrealized appreciation or depreciation on investments 19,969 886,632 3,293,026 1,085,307 ------------- ------------- ------------ ------------ NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 80,734 894,325 3,512,181 1,132,796 Changes From Unit Transactions: - Contract purchases 658,327 718,776 1,960,367 1,087,808 - Contract withdrawals (255,144) (1,147,878) (3,659,707) (1,406,096) ------------- ------------- ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 403,183 (429,102) (1,699,340) (318,288) ------------- ------------- ------------ ------------ TOTAL INCREASE (DECREASE) IN NET ASSETS 483,917 465,223 1,812,841 814,508 ------------- ------------- ------------ ------------ NET ASSETS AT DECEMBER 31, 2012 $ 1,625,228 $ 4,966,016 $ 23,427,228 $7,932,965 ============= ============= ============ ============
AMERICAN BLACKROCK DELAWARE VIP FUNDS GLOBAL DIVERSIFIED DELAWARE VIP DELAWARE VIP INTERNATIONAL ALLOCATION V.I. INCOME HIGH YIELD REIT CLASS 2 CLASS I STANDARD CLASS STANDARD CLASS SERVICE CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ----------------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 16,871,090 $ 884,156 $ 7,355,730 $ 3,063,324 $ 10,830,826 Changes From Operations: - Net investment income (loss) 89,321 17,029 237,209 238,781 41,437 - Net realized gain (loss) on investments (111,726) 39,649 427,649 51,984 (564,133) - Net change in unrealized appreciation or depreciation on investments (2,096,938) (112,005) (289,341) (243,140) 1,520,545 ------------- --------------- ------------- ------------ ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (2,119,343) (55,327) 375,517 47,625 997,849 Changes From Unit Transactions: - Contract purchases 2,038,304 874,928 964,104 693,895 2,528,097 - Contract withdrawals (5,203,600) (525,062) (1,957,231) (973,114) (3,401,978) ------------- --------------- ------------- ------------ ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (3,165,296) 349,866 (993,127) (279,219) (873,881) ------------- --------------- ------------- ------------ ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS (5,284,639) 294,539 (617,610) (231,594) 123,968 ------------- --------------- ------------- ------------ ------------- NET ASSETS AT DECEMBER 31, 2011 11,586,451 1,178,695 6,738,120 2,831,730 10,954,794 Changes From Operations: - Net investment income (loss) 49,232 5,992 144,919 225,352 35,811 - Net realized gain (loss) on investments (239,726) 1,193 274,502 31,560 (156,357) - Net change in unrealized appreciation or depreciation on investments 1,952,551 92,156 (11,833) 198,684 1,754,601 ------------- --------------- ------------- ------------ ------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 1,762,057 99,341 407,588 455,596 1,634,055 Changes From Unit Transactions: - Contract purchases 979,169 416,020 1,082,769 533,279 1,536,553 - Contract withdrawals (2,976,962) (478,924) (1,172,308) (742,907) (2,549,175) ------------- --------------- ------------- ------------ ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (1,997,793) (62,904) (89,539) (209,628) (1,012,622) ------------- --------------- ------------- ------------ ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS (235,736) 36,437 318,049 245,968 621,433 ------------- --------------- ------------- ------------ ------------- NET ASSETS AT DECEMBER 31, 2012 $ 11,350,715 $ 1,215,132 $ 7,056,169 $ 3,077,698 $ 11,576,227 ============= =============== ============= ============ =============
L-7
DELAWARE VIP DELAWARE VIP DREYFUS SMALL CAP SMID CAP OPPORTUNISTIC DREYFUS VALUE GROWTH SMALL CAP STOCK INDEX SERVICE CLASS SERVICE CLASS INITIAL CLASS INITIAL CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT --------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 8,829,991 $ 2,702,240 $ 30,502,057 $ 57,034,613 Changes From Operations: - Net investment income (loss) (58,935) (8,845) (153,077) 432,213 - Net realized gain (loss) on investments 261,618 213,909 (1,729,038) 1,827,043 - Net change in unrealized appreciation or depreciation on investments (440,589) (66,671) (2,134,578) (1,624,599) ------------- ------------- ------------- -------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (237,906) 138,393 (4,016,693) 634,657 Changes From Unit Transactions: - Contract purchases 2,083,099 2,198,796 1,917,540 3,620,369 - Contract withdrawals (3,029,487) (1,243,840) (5,659,316) (13,819,377) ------------- ------------- ------------- -------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (946,388) 954,956 (3,741,776) (10,199,008) ------------- ------------- ------------- -------------- TOTAL INCREASE (DECREASE) IN NET ASSETS (1,184,294) 1,093,349 (7,758,469) (9,564,351) ------------- ------------- ------------- -------------- NET ASSETS AT DECEMBER 31, 2011 7,645,697 3,795,589 22,743,588 47,470,262 Changes From Operations: - Net investment income (loss) (50,530) (43,230) (235,624) 517,701 - Net realized gain (loss) on investments 678,387 343,057 (1,285,422) 3,395,815 - Net change in unrealized appreciation or depreciation on investments 285,396 56,161 5,728,863 2,773,632 ------------- ------------- ------------- -------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 913,253 355,988 4,207,817 6,687,148 Changes From Unit Transactions: - Contract purchases 954,513 1,544,888 697,950 1,491,710 - Contract withdrawals (1,452,526) (1,383,500) (3,372,127) (6,894,679) ------------- ------------- ------------- -------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (498,013) 161,388 (2,674,177) (5,402,969) ------------- ------------- ------------- -------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 415,240 517,376 1,533,640 1,284,179 ------------- ------------- ------------- -------------- NET ASSETS AT DECEMBER 31, 2012 $ 8,060,937 $ 4,312,965 $ 24,277,228 $ 48,754,441 ============= ============= ============= ==============
See accompanying notes. L-8
DWS DWS DWS FIDELITY VIP ALTERNATIVE ASSET EQUITY 500 SMALL CAP FIDELITY VIP CONTRAFUND ALLOCATION VIP INDEX VIP INDEX VIP ASSET MANAGER SERVICE CLASS A CLASS A CLASS A INITIAL CLASS CLASS 2 SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ------------------------------------------------------------------------------------------------------------------------------------ NET ASSETS AT JANUARY 1, 2011 $ 83,584 $ 2,424,596 $2,082,615 $ 44,114,945 $ 19,333,235 Changes From Operations: - Net investment income (loss) 571 18,601 (1,684) 381,497 (44,773) - Net realized gain (loss) on investments 1,130 23,823 (9,441) 1,309 (344,854) - Net change in unrealized appreciation or depreciation on investments (6,484) (16,178) (85,176) (1,732,393) (243,570) ----------------- ------------- ----------- ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (4,783) 26,246 (96,301) (1,349,587) (633,197) Changes From Unit Transactions: - Contract purchases 85,695 455,399 277,836 2,003,174 3,257,505 - Contract withdrawals (66,943) (539,935) (490,663) (6,330,954) (5,516,353) ----------------- ------------- ----------- ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 18,752 (84,536) (212,827) (4,327,780) (2,258,848) ----------------- ------------- ----------- ------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 13,969 (58,290) (309,128) (5,677,367) (2,892,045) ----------------- ------------- ----------- ------------- ------------- NET ASSETS AT DECEMBER 31, 2011 97,553 2,366,306 1,773,487 38,437,578 16,441,190 Changes From Operations: - Net investment income (loss) 2,695 23,638 (1,822) 211,298 25,478 - Net realized gain (loss) on investments 661 121,716 3,613 177,418 (59,858) - Net change in unrealized appreciation or depreciation on investments 4,593 145,738 262,859 3,853,658 2,469,034 ----------------- ------------- ----------- ------------- ------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 7,949 291,092 264,650 4,242,374 2,434,654 Changes From Unit Transactions: - Contract purchases 105,748 271,359 185,921 1,115,228 2,056,646 - Contract withdrawals (80,283) (1,171,948) (226,857) (4,389,997) (2,537,789) ----------------- ------------- ----------- ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 25,465 (900,589) (40,936) (3,274,769) (481,143) ----------------- ------------- ----------- ------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 33,414 (609,497) 223,714 967,605 1,953,511 ----------------- ------------- ----------- ------------- ------------- NET ASSETS AT DECEMBER 31, 2012 $ 130,967 $ 1,756,809 $1,997,201 $ 39,405,183 $ 18,394,701 ================= ============= =========== ============= =============
JANUS ASPEN SERIES FIDELITY VIP FIDELITY VIP FIDELITY VIP WORLDWIDE EQUITY-INCOME GROWTH MONEY MARKET INSTITUTIONAL INITIAL CLASS INITIAL CLASS INITIAL CLASS CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT -------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 43,377,161 $ 72,062,172 $ 22,220 $ 11,492,633 Changes From Operations: - Net investment income (loss) 563,546 (441,743) 48 (43,433) - Net realized gain (loss) on investments (1,020,778) 895,016 -- (545,647) - Net change in unrealized appreciation or depreciation on investments 612,803 (477,573) -- (886,860) ------------- -------------- ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS 155,571 (24,300) 48 (1,475,940) Changes From Unit Transactions: - Contract purchases 3,579,460 5,554,044 217,822 1,412,829 - Contract withdrawals (10,095,740) (15,920,158) (197,217) (3,252,689) ------------- -------------- ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (6,516,280) (10,366,114) 20,605 (1,839,860) ------------- -------------- ------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS (6,360,709) (10,390,414) 20,653 (3,315,800) ------------- -------------- ------------- ------------- NET ASSETS AT DECEMBER 31, 2011 37,016,452 61,671,758 42,873 8,176,833 Changes From Operations: - Net investment income (loss) 807,335 (261,997) 27 (9,331) - Net realized gain (loss) on investments 1,968,540 706,824 -- (272,302) - Net change in unrealized appreciation or depreciation on investments 2,961,955 7,811,889 -- 1,765,035 ------------- -------------- ------------- ------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 5,737,830 8,256,716 27 1,483,402 Changes From Unit Transactions: - Contract purchases 1,609,039 2,336,751 107,973 228,388 - Contract withdrawals (5,463,204) (7,503,972) (142,783) (1,047,932) ------------- -------------- ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (3,854,165) (5,167,221) (34,810) (819,544) ------------- -------------- ------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 1,883,665 3,089,495 (34,783) 663,858 ------------- -------------- ------------- ------------- NET ASSETS AT DECEMBER 31, 2012 $ 38,900,117 $ 64,761,253 $ 8,090 $ 8,840,691 ============= ============== ============= =============
L-9
LVIP LVIP LVIP BARON BLACKROCK LVIP CLARION DELAWARE GROWTH INFLATION GLOBAL REAL BOND OPPORTUNITIES PROTECTED BOND ESTATE STANDARD SERVICE CLASS STANDARD CLASS STANDARD CLASS CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT --------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 16,384,821 $ -- $ 631,722 $ 8,051,380 Changes From Operations: - Net investment income (loss) (154,301) -- (5,675) 188,305 - Net realized gain (loss) on investments 1,120,803 -- 29,041 299,081 - Net change in unrealized appreciation or depreciation on investments (399,846) -- (74,251) 5,467 ------------- -------------- -------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS 566,656 -- (50,885) 492,853 Changes From Unit Transactions: - Contract purchases 1,990,754 -- 103,911 1,819,209 - Contract withdrawals (5,040,772) -- (181,226) (2,367,280) ------------- -------------- -------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (3,050,018) -- (77,315) (548,071) ------------- -------------- -------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS (2,483,362) -- (128,200) (55,218) ------------- -------------- -------------- ------------- NET ASSETS AT DECEMBER 31, 2011 13,901,459 -- 503,522 7,996,162 Changes From Operations: - Net investment income (loss) 22,573 (201) (5,368) 80,552 - Net realized gain (loss) on investments 1,488,513 825 11,108 283,641 - Net change in unrealized appreciation or depreciation on investments 692,384 (367) 109,172 63,125 ------------- -------------- -------------- ------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 2,203,470 257 114,912 427,318 Changes From Unit Transactions: - Contract purchases 691,688 100,213 97,203 1,165,925 - Contract withdrawals (2,736,250) (31,245) (92,019) (1,676,480) ------------- -------------- -------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (2,044,562) 68,968 5,184 (510,555) ------------- -------------- -------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 158,908 69,225 120,096 (83,237) ------------- -------------- -------------- ------------- NET ASSETS AT DECEMBER 31, 2012 $ 14,060,367 $ 69,225 $ 623,618 $ 7,912,925 ============= ============== ============== =============
See accompanying notes. L-10
LVIP LVIP LVIP LVIP DELAWARE DELAWARE DELAWARE DELAWARE LVIP FOUNDATION FOUNDATION FOUNDATION GROWTH DELAWARE AGGRESSIVE CONSERVATIVE MODERATE AND DIVERSIFIED ALLOCATION ALLOCATION ALLOCATION INCOME FLOATING RATE STANDARD STANDARD STANDARD STANDARD SERVICE CLASS CLASS CLASS CLASS CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT -------------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ -- $ 83,270 $1,017,302 $ 154,355 $ 4,254,556 Changes From Operations: - Net investment income (loss) 51 1,175 56,278 3,906 778 - Net realized gain (loss) on investments (11) 3,051 (6,025) (354) 19,238 - Net change in unrealized appreciation or depreciation on investments (42) (6,636) (38,575) (9,175) (5,842) ------------- ---------- ------------ ----------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (2) (2,410) 11,678 (5,623) 14,174 Changes From Unit Transactions: - Contract purchases 4,631 34,336 150,476 119,216 434,617 - Contract withdrawals (790) (14,782) (184,377) (36,027) (1,033,773) ------------- ---------- ------------ ----------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 3,841 19,554 (33,901) 83,189 (599,156) ------------- ---------- ------------ ----------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 3,839 17,144 (22,223) 77,566 (584,982) ------------- ---------- ------------ ----------- ------------- NET ASSETS AT DECEMBER 31, 2011 3,839 100,414 995,079 231,921 3,669,574 Changes From Operations: - Net investment income (loss) 20 1,282 14,789 4,333 3,349 - Net realized gain (loss) on investments 53 479 (5,028) 553 58,649 - Net change in unrealized appreciation or depreciation on investments 93 11,290 83,714 20,523 446,694 ------------- ---------- ------------ ----------- ------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 166 13,051 93,475 25,409 508,692 Changes From Unit Transactions: - Contract purchases 28,726 58,447 271,976 60,001 230,619 - Contract withdrawals (7,497) (15,225) (226,484) (8,123) (603,183) ------------- ---------- ------------ ----------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 21,229 43,222 45,492 51,878 (372,564) ------------- ---------- ------------ ----------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 21,395 56,273 138,967 77,287 136,128 ------------- ---------- ------------ ----------- ------------- NET ASSETS AT DECEMBER 31, 2012 $25,234 $ 156,687 $1,134,046 $ 309,208 $ 3,805,702 ============= ========== ============ =========== =============
LVIP LVIP LVIP DELAWARE LVIP MONDRIAN PROTECTED SOCIAL GLOBAL INTERNATIONAL PROFILE AWARENESS INCOME VALUE 2010 STANDARD STANDARD STANDARD STANDARD CLASS CLASS CLASS CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ---------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 14,040,223 $ 147,459 $ 5,069,710 $ 832,709 Changes From Operations: - Net investment income (loss) (37,044) 8,024 89,298 (1,158) - Net realized gain (loss) on investments (62,288) 2,743 (305,470) 26,951 - Net change in unrealized appreciation or depreciation on investments 118,294 (12,194) (9,143) (26,091) ------------- ----------- ------------- ---------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS 18,962 (1,427) (225,315) (298) Changes From Unit Transactions: - Contract purchases 920,989 225,094 550,831 136,129 - Contract withdrawals (3,202,651) (133,458) (1,335,677) $(258,866) ------------- ----------- ------------- ---------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (2,281,662) 91,636 (784,846) (122,737) ------------- ----------- ------------- ---------- TOTAL INCREASE (DECREASE) IN NET ASSETS (2,262,700) 90,209 (1,010,161) (123,035) ------------- ----------- ------------- ---------- NET ASSETS AT DECEMBER 31, 2011 11,777,523 237,668 4,059,549 709,674 Changes From Operations: - Net investment income (loss) (28,210) 2,235 70,215 10,258 - Net realized gain (loss) on investments 880,214 883 (285,811) 39,300 - Net change in unrealized appreciation or depreciation on investments 767,991 12,759 515,999 (1,220) ------------- ----------- ------------- ---------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 1,619,995 15,877 300,403 48,338 Changes From Unit Transactions: - Contract purchases 495,017 62,180 407,096 366,616 - Contract withdrawals (1,466,665) (68,029) (998,819) (364,023) ------------- ----------- ------------- ---------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (971,648) (5,849) (591,723) 2,593 ------------- ----------- ------------- ---------- TOTAL INCREASE (DECREASE) IN NET ASSETS 648,347 10,028 (291,320) 50,931 ------------- ----------- ------------- ---------- NET ASSETS AT DECEMBER 31, 2012 $ 12,425,870 $ 247,696 $ 3,768,229 $ 760,605 ============= =========== ============= ==========
L-11
LVIP LVIP LVIP LVIP PROTECTED PROTECTED PROTECTED PROTECTED PROFILE PROFILE PROFILE PROFILE 2020 2030 2040 2050 STANDARD STANDARD STANDARD STANDARD CLASS CLASS CLASS CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ----------------------------------------------------------------------------------------------------------- ------------ NET ASSETS AT JANUARY 1, 2011 $2,238,428 $ 2,288,763 $ 788,425 $ -- Changes From Operations: - Net investment income (loss) (5,179) (8,438) (3,465) (266) - Net realized gain (loss) on investments 65,824 47,678 19,257 2 - Net change in unrealized appreciation or depreciation on investments (76,103) (79,977) (44,763) 4,344 ----------- ------------ ------------ ----------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (15,458) (40,737) (28,971) 4,080 Changes From Unit Transactions: - Contract purchases 522,542 1,021,596 363,142 265,157 - Contract withdrawals (735,433) (789,934) (176,536) -- ----------- ------------ ------------ ----------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (212,891) 231,662 186,606 265,157 ----------- ------------ ------------ ----------- TOTAL INCREASE (DECREASE) IN NET ASSETS (228,349) 190,925 157,635 269,237 ----------- ------------ ------------ ----------- NET ASSETS AT DECEMBER 31, 2011 2,010,079 2,479,688 946,060 269,237 Changes From Operations: - Net investment income (loss) 21,932 24,311 9,096 (502) - Net realized gain (loss) on investments 37,780 36,833 10,746 18,592 - Net change in unrealized appreciation or depreciation on investments 85,354 114,312 45,574 (3,905) ----------- ------------ ------------ ----------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 145,066 175,456 65,416 14,185 Changes From Unit Transactions: - Contract purchases 388,254 640,079 358,009 33,656 - Contract withdrawals (407,158) (334,571) (139,139) (291,489) ----------- ------------ ------------ ----------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (18,904) 305,508 218,870 (257,833) ----------- ------------ ------------ ----------- TOTAL INCREASE (DECREASE) IN NET ASSETS 126,162 480,964 284,286 (243,648) ----------- ------------ ------------ ----------- NET ASSETS AT DECEMBER 31, 2012 $2,136,241 $ 2,960,652 $ 1,230,346 $ 25,589 =========== ============ ============ ===========
See accompanying notes. L-12
LVIP LVIP LVIP LVIP PROTECTED PROTECTED PROTECTED SSGA PROFILE PROFILE PROFILE BOND CONSERVATIVE GROWTH MODERATE INDEX STANDARD STANDARD STANDARD STANDARD CLASS CLASS CLASS CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT -------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 3,721,821 $ 5,201,715 $ 4,879,150 $ 485,640 Changes From Operations: - Net investment income (loss) 15,021 51,872 38,644 13,548 - Net realized gain (loss) on investments 222,207 3,830 37,666 9,173 - Net change in unrealized appreciation or depreciation on investments (124,396) (114,894) (68,663) 5,340 ------------ ------------- ------------ ----------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS 112,832 (59,192) 7,647 28,061 Changes From Unit Transactions: - Contract purchases 2,090,489 1,080,922 1,174,813 647,758 - Contract withdrawals (3,822,891) (1,102,859) (1,282,687) (578,255) ------------ ------------- ------------ ----------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (1,732,402) (21,937) (107,874) 69,503 ------------ ------------- ------------ ----------- TOTAL INCREASE (DECREASE) IN NET ASSETS (1,619,570) (81,129) (100,227) 97,564 ------------ ------------- ------------ ----------- NET ASSETS AT DECEMBER 31, 2011 2,102,251 5,120,586 4,778,923 583,204 Changes From Operations: - Net investment income (loss) 62,823 78,157 113,305 10,993 - Net realized gain (loss) on investments 57,693 28,000 35,224 4,136 - Net change in unrealized appreciation or depreciation on investments 65,370 295,294 246,920 1,132 ------------ ------------- ------------ ----------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 185,886 401,451 395,449 16,261 Changes From Unit Transactions: - Contract purchases 497,293 573,060 492,770 394,434 - Contract withdrawals (511,981) (912,536) (650,995) (289,641) ------------ ------------- ------------ ----------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (14,688) (339,476) (158,225) 104,793 ------------ ------------- ------------ ----------- TOTAL INCREASE (DECREASE) IN NET ASSETS 171,198 61,975 237,224 121,054 ------------ ------------- ------------ ----------- NET ASSETS AT DECEMBER 31, 2012 $ 2,273,449 $ 5,182,561 $ 5,016,147 $ 704,258 ============ ============= ============ ===========
LVIP SSGA GLOBAL LVIP SSGA TACTICAL LVIP SSGA LVIP SSGA LVIP SSGA EMERGING ALLOCATION INTERNATIONAL S&P 500 SMALL-CAP MARKETS RPM INDEX INDEX INDEX 100 STANDARD STANDARD STANDARD STANDARD STANDARD CLASS CLASS CLASS CLASS CLASS SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ----------------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $1,343,516 $1,938,112 $ 111,675 $ -- $ -- Changes From Operations: - Net investment income (loss) 19,420 5,973 43 -- -- - Net realized gain (loss) on investments 149,492 (19,438) 2,766 -- -- - Net change in unrealized appreciation or depreciation on investments (390,103) (1,240) (19,144) -- -- ------------ ----------- ------------- ---------- ---------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (221,191) (14,705) (16,335) -- -- Changes From Unit Transactions: - Contract purchases 835,723 278,151 150,503 -- -- - Contract withdrawals (812,961) (424,911) (173,730) -- -- ------------ ----------- ------------- ---------- ---------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 22,762 (146,760) (23,227) -- -- ------------ ----------- ------------- ---------- ---------- TOTAL INCREASE (DECREASE) IN NET ASSETS (198,429) (161,465) (39,562) -- -- ------------ ----------- ------------- ---------- ---------- NET ASSETS AT DECEMBER 31, 2011 1,145,087 1,776,647 72,113 -- -- Changes From Operations: - Net investment income (loss) 19,795 43,950 757 137 16 - Net realized gain (loss) on investments 53,383 (5,892) (706) 1 -- - Net change in unrealized appreciation or depreciation on investments 36,060 134,395 13,634 (16) 62 ------------ ----------- ------------- ---------- ---------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 109,238 172,453 13,685 122 78 Changes From Unit Transactions: - Contract purchases 629,454 131,012 47,998 21,005 5,458 - Contract withdrawals (625,570) (218,941) (29,559) (14) -- ------------ ----------- ------------- ---------- ---------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 3,884 (87,929) 18,439 20,991 5,458 ------------ ----------- ------------- ---------- ---------- TOTAL INCREASE (DECREASE) IN NET ASSETS 113,122 84,524 32,124 21,113 5,536 ------------ ----------- ------------- ---------- ---------- NET ASSETS AT DECEMBER 31, 2012 $1,258,209 $1,861,171 $ 104,237 $21,113 $ 5,536 ============ =========== ============= ========== ==========
L-13
LVIP LVIP T. ROWE PRICE UBS STRUCTURED LARGE CAP MID-CAP GROWTH NB AMT NB AMT T. ROWE PRICE GROWTH RPM LARGE CAP MID CAP INTERNATIONAL STANDARD STANDARD VALUE I GROWTH I STOCK CLASS CLASS CLASS CLASS CLASS I SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ---------------------------------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2011 $ 18,420,566 $ 1,591,476 $ 6,050,361 $ 7,404,066 $ 14,509,437 Changes From Operations: - Net investment income (loss) (170,414) (11,585) (53,172) (71,613) 57,922 - Net realized gain (loss) on investments 307,002 45,921 (310,844) 309,557 84,915 - Net change in unrealized appreciation or depreciation on investments (791,209) (129,096) (281,346) (270,492) (1,892,432) -------------- ------------ ------------ ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (654,621) (94,760) (645,362) (32,548) (1,749,595) Changes From Unit Transactions: - Contract purchases 2,352,758 220,916 632,567 1,291,615 1,063,847 - Contract withdrawals (5,001,448) (326,360) (1,746,988) (2,275,365) (3,038,863) -------------- ------------ ------------ ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (2,648,690) (105,444) (1,114,421) (983,750) (1,975,016) -------------- ------------ ------------ ------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS (3,303,311) (200,204) (1,759,783) (1,016,298) (3,724,611) -------------- ------------ ------------ ------------- ------------- NET ASSETS AT DECEMBER 31, 2011 15,117,255 1,391,272 4,290,578 6,387,768 10,784,826 Changes From Operations: - Net investment income (loss) (155,437) (15,007) (24,763) (66,892) 29,586 - Net realized gain (loss) on investments 665,492 48,333 (181,382) 192,989 (13,166) - Net change in unrealized appreciation or depreciation on investments 1,703,523 176,831 825,620 575,817 1,775,409 -------------- ------------ ------------ ------------- ------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 2,213,578 210,157 619,475 701,914 1,791,829 Changes From Unit Transactions: - Contract purchases 840,833 223,729 194,359 538,657 426,592 - Contract withdrawals (2,531,075) (303,911) (785,497) (1,030,063) (1,329,752) -------------- ------------ ------------ ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (1,690,242) (80,182) (591,138) (491,406) (903,160) -------------- ------------ ------------ ------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS 523,336 129,975 28,337 210,508 888,669 -------------- ------------ ------------ ------------- ------------- NET ASSETS AT DECEMBER 31, 2012 $ 15,640,591 $ 1,521,247 $ 4,318,915 $ 6,598,276 $ 11,673,495 ============== ============ ============ ============= =============
See accompanying notes. L-14 LINCOLN NATIONAL VARIABLE ANNUITY ACCOUNT L NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2012 1. ACCOUNTING POLICIES AND VARIABLE ACCOUNT INFORMATION THE VARIABLE ACCOUNT: Lincoln National Variable Annuity Account L (the Variable Account) is a segregated investment account of The Lincoln National Life Insurance Company (the Company) and is registered as a unit investment trust with the Securities and Exchange Commission under the Investment Company Act of 1940, as amended. The operations of the Variable Account, which commenced on September 26, 1996, are part of the operations of the Company. The Variable Account offers only one product (Group Variable Annuity) at two fee rates. The contracts are eligible for the lower, or "Breakpoint", mortality and expense risk charge if criteria has been satisfied that the Company realizes lower issue and administrative costs. The assets of the Variable Account are owned by the Company. The Variable Account's assets support the annuity contracts and may not be used to satisfy liabilities arising from any other business of the Company. BASIS OF PRESENTATION: The accompanying financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for unit investment trusts. ACCOUNTING ESTIMATES: The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions affecting the reported amounts as of the date of the financial statements. Those estimates are inherently subject to change and actual results could differ from those estimates. Included among the material (or potentially material) reported amounts that require use of estimates is the fair value of certain assets. INVESTMENTS: The assets of the Variable Account are divided into variable subaccounts, each of which may be invested in shares of one of fifty-seven mutual funds (the Funds) of thirteen diversified, open-ended management investment companies, each Fund with its own investment objective. The Funds are: AllianceBernstein Variable Products Series Fund, Inc. (ABVPSF): ABVPSF Global Thematic Growth Class B Fund ABVPSF Growth Class B Fund ABVPSF Growth and Income Class B Fund American Century Variable Portfolios, Inc. (American Century VP): American Century VP Balanced Class I Portfolio American Century VP Inflation Protection Class I Portfolio American Funds Insurance Series (American Funds): American Funds Global Growth Class 2 Fund American Funds Growth Class 2 Fund American Funds Growth-Income Class 2 Fund American Funds International Class 2 Fund BlackRock Variable Series Funds, Inc. (BlackRock): BlackRock Global Allocation V.I. Class I Fund Delaware VIP Trust (Delaware VIP): Delaware VIP Diversified Income Standard Class Series Delaware VIP High Yield Standard Class Series Delaware VIP REIT Service Class Series Delaware VIP Small Cap Value Service Class Series Delaware VIP Smid Cap Growth Service Class Series Dreyfus Variable Investment Fund (Dreyfus): Dreyfus Opportunistic Small Cap Initial Class Portfolio Dreyfus Stock Index Initial Class Fund DWS Variable Series II (DWS): DWS Alternative Asset Allocation VIP Class A Portfolio DWS Investments VIT Funds (DWS): DWS Equity 500 Index VIP Class A Portfolio DWS Small Cap Index VIP Class A Portfolio Fidelity Variable Insurance Products Fund (Fidelity VIP): Fidelity VIP Asset Manager Initial Class Portfolio Fidelity VIP Contrafund Service Class 2 Portfolio Fidelity VIP Equity-Income Initial Class Portfolio Fidelity VIP Growth Initial Class Portfolio Fidelity VIP Money Market Initial Class Portfolio Janus Aspen Series: Janus Aspen Series Worldwide Institutional Class Portfolio Lincoln Variable Insurance Products Trust (LVIP)*: LVIP Baron Growth Opportunities Service Class Fund LVIP BlackRock Inflation Protected Bond Standard Class Fund LVIP Clarion Global Real Estate Standard Class Fund LVIP Delaware Bond Standard Class Fund LVIP Delaware Diversified Floating Rate Service Class Fund LVIP Delaware Foundation Aggressive Allocation Standard Class Fund LVIP Delaware Foundation Conservative Allocation Standard Class Fund LVIP Delaware Foundation Moderate Allocation Standard Class Fund LVIP Delaware Growth and Income Standard Class Fund LVIP Delaware Social Awareness Standard Class Fund LVIP Global Income Standard Class Fund LVIP Mondrian International Value Standard Class Fund LVIP Protected Profile 2010 Standard Class Fund LVIP Protected Profile 2020 Standard Class Fund LVIP Protected Profile 2030 Standard Class Fund LVIP Protected Profile 2040 Standard Class Fund LVIP Protected Profile 2050 Standard Class Fund LVIP Protected Profile Conservative Standard Class Fund L-15 LVIP Protected Profile Growth Standard Class Fund LVIP Protected Profile Moderate Standard Class Fund LVIP SSgA Bond Index Standard Class Fund LVIP SSgA Emerging Markets 100 Standard Class Fund LVIP SSgA Global Tactical Allocation RPM Standard Class Fund LVIP SSgA International Index Standard Class Fund LVIP SSgA S&P 500 Index Standard Class Fund LVIP SSgA Small-Cap Index Standard Class Fund LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class Fund LVIP UBS Large Cap Growth RPM Standard Class Fund Neuberger Berman Advisors Management Trust (NB AMT): NB AMT Large Cap Value I Class Portfolio NB AMT Mid Cap Growth I Class Portfolio T. Rowe Price International Series, Inc. (T. Rowe Price): T. Rowe Price International Stock Class I Portfolio * Denotes an affiliate of The Lincoln National Life Insurance Company. The Fidelity VIP Money Market Portfolio is used only for investments of initial contributions for which the Company has not received complete order instructions. Upon receipt of complete order instructions, the payments transferred to the Fidelity VIP Money Market Portfolio are allocated to purchase shares of one of the above Funds. Investments in the Funds are stated at fair value as determined by the closing net asset value per share on December 31, 2012. The difference between cost and net asset value is reflected as unrealized appreciation or depreciation of investments. The Variable Account's investments in the Funds are valued in accordance with the Fair Value Measurements and Disclosure Topic of the Financial Accounting Standards Board Accounting Standards Codification (Topic). The Topic defines fair value as the price that the Variable Account would receive to sell an asset or pay to transfer a liability in an orderly transaction between market participants at the measurement date. The Topic also establishes a framework for measuring fair value and a three-level hierarchy for fair value measurements based upon the transparency of inputs to the valuation of an asset or liability. Inputs may be observable or unobservable and refer broadly to the assumptions that market participants would use in pricing the asset or liability. Observable inputs reflect the assumptions market participants would use in pricing the asset or liability based on market data obtained from sources independent of the reporting entity. Unobservable inputs reflect the reporting entity's own assessment regarding the assumptions market participants would use in pricing the asset or liability and are developed based on the best information available in the circumstances. The Variable Account's investments in the Funds are assigned a level based upon the observability of the inputs which are significant to the overall valuation. The three-tier hierarchy of inputs is summarized below. Level 1 - inputs to the valuation methodology are quoted prices in active markets Level 2 - inputs to the valuation methodology are observable, directly or indirectly Level 3 - inputs to the valuation methodology are unobservable and reflect assumptions on the part of the reporting entity The Variable Account's investments in the Funds are valued within the fair value hierarchy as Level 2. Net asset value is quoted by the Funds as derived by the fair value of the Funds' underlying investments. The Funds are not considered Level 1 as they are not traded in the open market; rather the Company sells and redeems shares at net asset value with the Funds. Investment transactions are accounted for on a trade-date basis. The cost of investments sold is determined by the average cost method. DIVIDENDS: Dividends paid to the Variable Account are automatically reinvested in shares of the Funds on the payable date with the exception of Fidelity VIP Money Market Portfolio, which is invested monthly. Dividend income is recorded on the ex-dividend date. FEDERAL INCOME TAXES: Operations of the Variable Account form a part of and are taxed with operations of the Company, which is taxed as a "life insurance company" under the Internal Revenue Code. The Variable Account will not be taxed as a regulated investment company under Subchapter M of the Internal Revenue Code, as amended. Under current federal income tax law, no federal income taxes are payable or receivable with respect to the Variable Account's net investment income and the net realized gain (loss) on investments. INVESTMENT FUND CHANGES: During 2011, the LVIP Delaware Diversified Floating Rate Service Class Fund and the LVIP Protected Profile 2050 Standard Class Fund became available as investment options for account contract owners. Accordingly, for the subaccounts that commenced operations during 2011, the 2011 statements of changes in net assets and total return and investment income ratios in note 3 are for the period from the commencement of operations to December 31, 2011. L-16 Also during 2011, the following funds changed their names:
PREVIOUS FUND NAME NEW FUND NAME -------------------------------------------------------------------------------------------------------------------------- LVIP Wilshire 2010 Profile Standard Class Fund LVIP Protected Profile 2010 Standard Class Fund LVIP Wilshire 2020 Profile Standard Class Fund LVIP Protected Profile 2020 Standard Class Fund LVIP Wilshire 2030 Profile Standard Class Fund LVIP Protected Profile 2030 Standard Class Fund LVIP Wilshire 2040 Profile Standard Class Fund LVIP Protected Profile 2040 Standard Class Fund LVIP Wilshire Conservative Profile Standard Class Fund LVIP Protected Profile Conservative Standard Class Fund LVIP Wilshire Moderately Aggressive Profile Standard Class Fund LVIP Protected Profile Growth Standard Class Fund LVIP Wilshire Moderate Profile Standard Class Fund LVIP Protected Profile Moderate Standard Class Fund
During 2012, the LVIP BlackRock Inflation Protected Bond Standard Class Fund, the LVIP SSgA S&P 500 Index Standard Class Fund and the LVIP SSgA Small-Cap Index Standard Class Fund became available as investment options for account contract owners. Accordingly, for the subaccounts that commenced operations during 2012, the 2012 statements of operations and statements of changes in net assets and total return and investment income ratios in note 3 are for the period from the commencement of operations to December 31, 2012. Also during 2012, the following funds changed their names:
PREVIOUS FUND NAME NEW FUND NAME ------------------------------------------------------------------------------------------------------------------------------- DWS Alternative Asset Allocation Plus VIP Class A Portfolio DWS Alternative Asset Allocation VIP Class A Portfolio LVIP Cohen & Steers Real Estate Standard Class Fund LVIP Clarion Global Real Estate Standard Class Fund LVIP SSgA Global Tactical Allocation Standard Class Fund LVIP SSgA Global Tactical Allocation RPM Standard Class Fund LVIP Janus Capital Appreciation Standard Class Fund LVIP UBS Large Cap Growth RPM Standard Class Fund NB AMT Partners I Class Portfolio NB AMT Large Cap Value I Class Portfolio
2. MORTALITY AND EXPENSE GUARANTEES AND OTHER TRANSACTIONS WITH AFFILIATES Amounts are paid to the Company for mortality and expense guarantees at a percentage of the current value of the Variable Account each day with the exception of Fidelity VIP Money Market Portfolio, which does not have a mortality and expense charge. The rates are as follows: - Standard at a daily rate of .00273973 (1.00% on an annual basis) - Breakpoint at a daily rate of .00205479 (.75% on an annual basis) Accordingly, the Company is responsible for all sales, general and administrative expenses applicable to the Variable Account. 3. FINANCIAL HIGHLIGHTS A summary of the fee rates, unit values, units outstanding, net assets and total return and investment income ratios for variable annuity contracts as of and for each year or period in the five years ended December 31, 2012, follows:
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- ABVPSF GLOBAL THEMATIC GROWTH CLASS B 2012 0.75% 1.00% $ 4.60 $ 4.74 407,020 $ 1,872,402 12.11% 12.40% 0.00% 2011 0.75% 1.00% 4.10 4.22 453,695 1,861,796 -24.17% -23.98% 0.35% 2010 0.75% 1.00% 5.41 5.55 514,709 2,785,369 17.40% 17.70% 1.97% 2009 0.75% 1.00% 4.60 4.71 560,973 2,585,875 51.62% 52.00% 0.00% 2008 0.75% 1.00% 3.04 3.10 562,350 1,709,433 -47.99% -47.86% 0.00% ABVPSF GROWTH CLASS B 2012 0.75% 1.00% 8.17 8.42 145,376 1,190,058 12.45% 12.73% 0.00% 2011 0.75% 1.00% 7.27 7.47 148,943 1,083,910 -0.04% 0.21% 0.00% 2010 0.75% 1.00% 7.27 7.46 161,724 1,177,462 13.65% 13.94% 0.05% 2009 0.75% 1.00% 6.40 6.55 175,880 1,126,600 31.55% 31.87% 0.00% 2008 0.75% 1.00% 4.86 4.96 180,984 880,928 -43.17% -43.03% 0.00%
L-17
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- ABVPSF GROWTH AND INCOME CLASS B 2012 0.75% 1.00% $13.21 $13.50 91,918 $ 1,214,796 16.08% 16.37% 1.38% 2011 0.75% 1.00% 11.38 11.60 83,635 952,275 5.01% 5.28% 1.05% 2010 0.75% 1.00% 10.84 11.02 83,141 901,820 11.68% 11.96% 0.00% 2009 0.75% 1.00% 9.70 9.84 104,851 1,018,193 19.15% 19.45% 3.60% 2008 0.75% 1.00% 8.14 8.24 95,769 780,345 -41.25% -41.14% 1.77% AMERICAN CENTURY VP BALANCED CLASS I 2012 0.75% 1.00% 33.08 34.22 483,889 16,049,324 10.69% 10.97% 2.06% 2011 0.75% 1.00% 29.89 30.84 529,970 15,875,249 4.28% 4.54% 1.89% 2010 0.75% 1.00% 28.66 29.49 606,823 17,425,978 10.53% 10.80% 1.88% 2009 0.75% 1.00% 25.93 26.62 675,956 17,565,553 14.33% 14.62% 5.35% 2008 0.75% 1.00% 22.68 23.22 761,745 17,309,845 -21.12% -20.93% 2.68% AMERICAN CENTURY VP INFLATION PROTECTION CLASS I 2012 0.75% 1.00% 13.08 13.20 124,230 1,625,228 6.48% 6.75% 2.82% 2011 0.75% 1.00% 12.28 12.36 92,897 1,141,311 10.98% 11.26% 3.96% 2010 0.75% 1.00% 11.07 11.11 71,574 792,299 4.32% 4.58% 1.85% 2009 7/27/09 0.75% 1.00% 10.61 10.63 42,292 448,778 1.33% 5.45% 1.26% AMERICAN FUNDS GLOBAL GROWTH CLASS 2 2012 0.75% 1.00% 18.02 18.42 274,966 4,966,016 21.34% 21.65% 0.91% 2011 0.75% 1.00% 14.85 15.14 302,484 4,500,793 -9.79% -9.57% 1.25% 2010 0.75% 1.00% 16.46 16.74 337,607 5,565,771 10.63% 10.91% 1.50% 2009 0.75% 1.00% 14.88 15.09 356,289 5,308,480 40.89% 41.24% 1.45% 2008 0.75% 1.00% 10.56 10.69 375,792 3,972,915 -39.00% -38.85% 1.80% AMERICAN FUNDS GROWTH CLASS 2 2012 0.75% 1.00% 11.42 11.78 2,046,065 23,427,228 16.72% 17.01% 0.79% 2011 0.75% 1.00% 9.79 10.07 2,203,885 21,614,387 -5.23% -4.99% 0.61% 2010 0.75% 1.00% 10.33 10.59 2,391,020 24,737,180 17.50% 17.79% 0.70% 2009 0.75% 1.00% 8.79 8.99 2,719,762 23,965,826 38.02% 38.37% 0.67% 2008 0.75% 1.00% 6.37 6.50 2,778,102 17,724,499 -44.53% -44.39% 0.79% AMERICAN FUNDS GROWTH-INCOME CLASS 2 2012 0.75% 1.00% 13.60 13.90 582,370 7,932,965 16.31% 16.60% 1.63% 2011 0.75% 1.00% 11.70 11.92 607,917 7,118,457 -2.81% -2.56% 1.49% 2010 0.75% 1.00% 12.03 12.23 678,662 8,174,284 10.32% 10.59% 1.49% 2009 0.75% 1.00% 10.91 11.06 721,001 7,872,039 29.94% 30.26% 1.63% 2008 0.75% 1.00% 8.40 8.49 748,494 6,288,093 -38.47% -38.31% 1.68% AMERICAN FUNDS INTERNATIONAL CLASS 2 2012 0.75% 1.00% 13.06 13.46 868,210 11,350,715 16.73% 17.03% 1.42% 2011 0.75% 1.00% 11.19 11.51 1,034,750 11,586,451 -14.82% -14.61% 1.60% 2010 0.75% 1.00% 13.13 13.47 1,283,685 16,871,090 6.17% 6.43% 1.98% 2009 0.75% 1.00% 12.37 12.66 1,482,031 18,351,540 41.65% 42.00% 1.59% 2008 0.75% 1.00% 8.73 8.91 1,541,742 13,474,872 -42.70% -42.56% 1.88% BLACKROCK GLOBAL ALLOCATION V.I. CLASS I 2012 0.75% 1.00% 12.96 13.07 93,759 1,215,132 9.18% 9.46% 1.48% 2011 0.75% 1.00% 11.87 11.95 99,310 1,178,695 -4.45% -4.22% 2.61% 2010 0.75% 1.00% 12.42 12.47 71,179 884,156 8.96% 9.24% 1.74% 2009 7/20/09 0.75% 1.00% 11.40 11.42 33,672 383,871 0.67% 11.50% 4.12% DELAWARE VIP DIVERSIFIED INCOME STANDARD CLASS 2012 0.75% 1.00% 17.43 17.81 404,524 7,056,169 6.13% 6.39% 3.09% 2011 0.75% 1.00% 16.43 16.74 409,849 6,738,120 5.34% 5.60% 4.35% 2010 0.75% 1.00% 15.60 15.85 471,338 7,355,730 6.98% 7.25% 4.69% 2009 0.75% 1.00% 14.58 14.78 505,506 7,376,772 25.70% 26.01% 5.96% 2008 0.75% 1.00% 11.60 11.73 500,660 5,810,708 -5.49% -5.26% 3.55% DELAWARE VIP HIGH YIELD STANDARD CLASS 2012 0.75% 1.00% 17.40 17.73 176,736 3,077,698 16.65% 16.94% 8.56% 2011 0.75% 1.00% 14.92 15.16 189,691 2,831,730 1.36% 1.62% 8.83% 2010 0.75% 1.00% 14.71 14.92 208,040 3,063,324 14.17% 14.46% 7.66% 2009 0.75% 1.00% 12.89 13.04 206,221 2,661,007 47.49% 47.86% 6.59% 2008 0.75% 1.00% 8.74 8.82 149,172 1,304,781 -24.93% -24.74% 8.49%
L-18
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- DELAWARE VIP REIT SERVICE CLASS 2012 0.75% 1.00% $29.46 $30.38 392,488 $11,576,227 15.45% 15.74% 1.30% 2011 0.75% 1.00% 25.52 26.25 428,767 10,954,794 9.52% 9.79% 1.37% 2010 0.75% 1.00% 23.30 23.90 464,315 10,830,826 25.35% 25.66% 2.57% 2009 0.75% 1.00% 18.59 19.02 482,547 8,980,777 22.01% 22.32% 4.24% 2008 0.75% 1.00% 15.24 15.55 563,961 8,600,927 -35.93% -35.77% 2.06% DELAWARE VIP SMALL CAP VALUE SERVICE CLASS 2012 0.75% 1.00% 17.89 18.28 450,097 8,060,937 12.50% 12.79% 0.35% 2011 0.75% 1.00% 15.90 16.21 480,324 7,645,697 -2.57% -2.33% 0.30% 2010 0.75% 1.00% 16.32 16.59 540,575 8,829,991 30.60% 30.93% 0.46% 2009 0.75% 1.00% 12.50 12.67 555,313 6,945,896 30.25% 30.58% 0.66% 2008 0.75% 1.00% 9.59 9.70 569,271 5,464,975 -30.76% -30.59% 0.48% DELAWARE VIP SMID CAP GROWTH SERVICE CLASS 2012 0.75% 1.00% 11.84 12.21 363,549 4,312,965 9.61% 9.88% 0.01% 2011 0.75% 1.00% 10.81 11.11 350,408 3,795,589 6.83% 7.09% 0.72% 2010 10/8/10 0.75% 1.00% 10.11 10.38 266,490 2,702,240 13.45% 13.51% 0.00% DELAWARE VIP TREND SERVICE CLASS 2009 0.75% 1.00% 7.47 7.65 282,506 2,119,971 52.84% 53.22% 0.00% 2008 0.75% 1.00% 4.89 4.99 273,105 1,339,330 -47.39% -47.26% 0.00% DREYFUS OPPORTUNISTIC SMALL CAP INITIAL CLASS 2012 0.75% 1.00% 23.82 24.64 1,016,901 24,277,228 19.36% 19.66% 0.00% 2011 0.75% 1.00% 19.96 20.59 1,137,365 22,743,588 -14.70% -14.49% 0.42% 2010 0.75% 1.00% 23.39 24.08 1,301,328 30,502,057 29.85% 30.17% 0.76% 2009 0.75% 1.00% 18.02 18.50 1,463,419 26,415,246 24.78% 25.10% 1.66% 2008 0.75% 1.00% 14.44 14.79 1,659,181 23,995,706 -38.21% -38.06% 0.92% DREYFUS STOCK INDEX INITIAL CLASS 2012 0.75% 1.00% 47.72 49.36 1,018,877 48,754,441 14.59% 14.87% 2.02% 2011 0.75% 1.00% 41.65 42.97 1,136,755 47,470,262 0.86% 1.12% 1.80% 2010 0.75% 1.00% 41.29 42.50 1,378,411 57,034,613 13.70% 13.98% 1.80% 2009 0.75% 1.00% 36.32 37.28 1,553,211 56,524,261 25.08% 25.39% 2.08% 2008 0.75% 1.00% 29.04 29.73 1,755,524 51,067,523 -37.77% -37.61% 2.08% DWS ALTERNATIVE ASSET ALLOCATION VIP CLASS A 2012 0.75% 1.00% 13.08 13.20 10,010 130,967 8.63% 8.90% 3.26% 2011 0.75% 1.00% 12.04 12.04 8,100 97,553 -3.83% -3.83% 1.50% 2010 1.00% 1.00% 12.52 12.52 6,674 83,584 11.35% 11.35% 1.19% 2009 11/16/09 1.00% 1.00% 11.25 11.25 143 1,607 -0.89% -0.89% 0.00% DWS EQUITY 500 INDEX VIP CLASS A 2012 0.75% 1.00% 14.00 14.30 125,401 1,756,809 14.55% 14.83% 2.09% 2011 0.75% 1.00% 12.22 12.45 193,503 2,366,306 0.82% 1.07% 1.75% 2010 0.75% 1.00% 12.12 12.32 199,957 2,424,596 13.56% 13.85% 1.91% 2009 0.75% 1.00% 10.67 10.82 233,308 2,491,222 25.07% 25.38% 2.84% 2008 0.75% 1.00% 8.53 8.63 231,326 1,974,628 -37.78% -37.62% 2.23% DWS SMALL CAP INDEX VIP CLASS A 2012 0.75% 1.00% 15.31 15.65 130,153 1,997,201 15.09% 15.38% 0.88% 2011 0.75% 1.00% 13.31 13.56 133,027 1,773,487 -5.37% -5.13% 0.89% 2010 0.75% 1.00% 14.06 14.29 147,905 2,082,615 25.14% 25.45% 0.92% 2009 0.75% 1.00% 11.24 11.39 161,946 1,822,036 25.31% 25.63% 1.83% 2008 0.75% 1.00% 8.97 9.07 173,355 1,555,651 -34.78% -34.62% 1.58% FIDELITY VIP ASSET MANAGER INITIAL CLASS 2012 0.75% 1.00% 35.22 36.43 1,117,038 39,405,183 11.36% 11.64% 1.52% 2011 0.75% 1.00% 31.63 32.63 1,213,528 38,437,578 -3.53% -3.29% 1.89% 2010 0.75% 1.00% 32.79 33.74 1,343,770 44,114,945 13.13% 13.41% 1.64% 2009 0.75% 1.00% 28.98 29.75 1,523,997 44,222,649 27.83% 28.15% 2.36% 2008 0.75% 1.00% 22.67 23.22 1,695,153 38,475,274 -29.43% -29.25% 2.54%
L-19
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- FIDELITY VIP CONTRAFUND SERVICE CLASS 2 2012 0.75% 1.00% $15.24 $15.71 1,205,276 $18,394,701 14.99% 15.27% 1.13% 2011 0.75% 1.00% 13.25 13.63 1,238,854 16,441,190 -3.75% -3.51% 0.75% 2010 0.75% 1.00% 13.77 14.13 1,402,304 19,333,235 15.76% 16.05% 1.02% 2009 0.75% 1.00% 11.89 12.17 1,486,546 17,706,512 34.12% 34.46% 1.21% 2008 0.75% 1.00% 8.87 9.05 1,486,186 13,197,378 -43.26% -43.12% 0.80% FIDELITY VIP EQUITY-INCOME INITIAL CLASS 2012 0.75% 1.00% 33.42 34.57 1,160,289 38,900,117 16.14% 16.43% 3.06% 2011 0.75% 1.00% 28.77 29.69 1,282,791 37,016,452 -0.03% 0.22% 2.36% 2010 0.75% 1.00% 28.78 29.62 1,503,500 43,377,161 14.00% 14.29% 1.77% 2009 0.75% 1.00% 25.25 25.92 1,699,575 43,015,866 28.91% 29.24% 2.28% 2008 0.75% 1.00% 19.59 20.06 1,917,427 37,627,702 -43.23% -43.08% 2.36% FIDELITY VIP GROWTH INITIAL CLASS 2012 0.75% 1.00% 45.66 47.23 1,415,464 64,761,253 13.55% 13.83% 0.59% 2011 0.75% 1.00% 40.21 41.49 1,530,863 61,671,758 -0.80% -0.55% 0.35% 2010 0.75% 1.00% 40.54 41.72 1,774,948 72,062,172 22.94% 23.25% 0.27% 2009 0.75% 1.00% 32.97 33.85 2,011,962 66,445,466 27.01% 27.33% 0.44% 2008 0.75% 1.00% 25.96 26.58 2,259,073 58,726,912 -47.69% -47.56% 0.77% FIDELITY VIP MONEY MARKET INITIAL CLASS 2012 0.00% 0.00% 18.00 18.03 449 8,090 0.12% 0.14% 0.14% 2011 0.00% 0.00% 17.98 17.98 2,384 42,873 0.11% 0.11% 0.11% 2010 0.00% 0.00% 17.96 17.96 1,237 22,220 0.24% 0.24% 0.18% 2009 0.00% 0.00% 17.92 17.92 771 13,820 0.72% 0.72% 0.96% 2008 0.00% 0.00% 17.79 17.82 3,284 58,416 3.02% 3.02% 3.49% JANUS ASPEN SERIES WORLDWIDE INSTITUTIONAL CLASS 2012 0.75% 1.00% 14.21 14.70 620,209 8,840,691 18.89% 19.18% 0.87% 2011 0.75% 1.00% 11.95 12.33 682,174 8,176,833 -14.60% -14.39% 0.56% 2010 0.75% 1.00% 14.00 14.41 819,249 11,492,633 14.68% 14.97% 0.61% 2009 0.75% 1.00% 12.21 12.53 918,814 11,242,040 36.33% 36.67% 1.42% 2008 0.75% 1.00% 8.95 9.17 1,004,075 9,009,222 -45.21% -45.08% 1.19% LVIP BARON GROWTH OPPORTUNITIES SERVICE CLASS 2012 0.75% 1.00% 38.67 40.00 362,634 14,060,367 17.07% 17.36% 1.14% 2011 0.75% 1.00% 33.03 34.08 419,765 13,901,459 2.99% 3.25% 0.00% 2010 0.75% 1.00% 32.07 33.01 509,670 16,384,821 25.13% 25.44% 0.00% 2009 0.75% 1.00% 25.63 26.32 582,238 14,963,025 36.95% 37.29% 0.00% 2008 0.75% 1.00% 18.72 19.17 632,290 11,860,923 -39.74% -39.59% 0.00% LVIP BLACKROCK INFLATION PROTECTED BOND STANDARD CLASS 2012 5/17/12 1.00% 1.00% 10.26 10.26 6,748 69,225 2.22% 2.22% 0.00% LVIP CLARION GLOBAL REAL ESTATE STANDARD CLASS 2012 0.75% 1.00% 8.44 8.56 73,829 623,618 23.44% 23.75% 0.00% 2011 0.75% 1.00% 6.84 6.91 73,611 503,522 -9.58% -9.35% 0.00% 2010 0.75% 1.00% 7.56 7.63 83,533 631,722 16.80% 17.10% 0.00% 2009 0.75% 1.00% 6.47 6.51 56,051 362,862 36.46% 36.80% 0.00% 2008 0.75% 1.00% 4.74 4.76 18,355 87,068 -42.61% -42.47% 2.01% LVIP DELAWARE BOND STANDARD CLASS 2012 0.75% 1.00% 15.86 16.21 498,292 7,912,925 5.55% 5.81% 2.00% 2011 0.75% 1.00% 15.03 15.32 531,555 7,996,162 6.57% 6.83% 3.41% 2010 0.75% 1.00% 14.10 14.34 570,500 8,051,380 7.41% 7.68% 3.56% 2009 0.75% 1.00% 13.13 13.31 566,723 7,446,362 17.72% 18.01% 4.44% 2008 0.75% 1.00% 11.15 11.28 525,501 5,865,412 -3.89% -3.65% 5.13% LVIP DELAWARE DIVERSIFIED FLOATING RATE SERVICE CLASS 2012 1.00% 1.00% 10.05 10.05 2,511 25,234 2.93% 2.93% 1.35% 2011 7/8/11 1.00% 1.00% 9.76 9.76 393 3,839 -2.14% -2.14% 2.73% LVIP DELAWARE FOUNDATION AGGRESSIVE ALLOCATION STANDARD CLASS 2012 1.00% 1.00% 14.52 14.52 10,788 156,687 12.16% 12.16% 2.07% 2011 1.00% 1.00% 12.95 12.95 7,754 100,414 -3.00% -3.00% 2.34% 2010 0.75% 1.00% 13.35 13.40 6,233 83,270 11.36% 11.64% 3.52% 2009 7/14/09 0.75% 1.00% 11.99 12.00 1,736 20,827 13.90% 21.57% 1.74%
L-20
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- LVIP DELAWARE FOUNDATION CONSERVATIVE ALLOCATION STANDARD CLASS 2012 0.75% 1.00% $13.77 $14.07 81,986 $ 1,134,046 9.53% 9.81% 2.41% 2011 0.75% 1.00% 12.57 12.82 78,818 995,079 1.21% 1.47% 6.45% 2010 0.75% 1.00% 12.42 12.63 81,634 1,017,302 9.33% 9.61% 1.70% 2009 0.75% 1.00% 11.36 11.52 85,146 969,859 21.62% 21.93% 3.00% 2008 0.75% 1.00% 9.34 9.45 85,416 799,875 -27.68% -27.50% 2.39% LVIP DELAWARE FOUNDATION MODERATE ALLOCATION STANDARD CLASS 2012 0.75% 1.00% 14.19 14.30 21,793 309,208 10.20% 10.42% 2.62% 2011 0.75% 1.00% 12.88 12.88 18,011 231,921 -0.73% -0.73% 2.88% 2010 1.00% 1.00% 12.97 12.97 11,901 154,355 9.91% 9.91% 6.12% 2009 8/28/09 1.00% 1.00% 11.80 11.80 4 48 8.15% 8.15% 0.00% LVIP DELAWARE GROWTH AND INCOME STANDARD CLASS 2012 0.75% 1.00% 10.72 11.05 354,280 3,805,702 14.17% 14.46% 1.07% 2011 0.75% 1.00% 9.39 9.66 390,097 3,669,574 0.19% 0.44% 1.00% 2010 0.75% 1.00% 9.37 9.61 453,326 4,254,556 11.81% 12.09% 0.91% 2009 0.75% 1.00% 8.38 8.58 520,227 4,366,120 23.44% 23.75% 1.12% 2008 0.75% 1.00% 6.79 6.93 589,773 4,008,978 -36.41% -36.25% 1.28% LVIP DELAWARE SOCIAL AWARENESS STANDARD CLASS 2012 0.75% 1.00% 17.62 18.22 703,524 12,425,870 14.14% 14.42% 0.75% 2011 0.75% 1.00% 15.44 15.93 761,073 11,777,523 -0.36% -0.11% 0.70% 2010 0.75% 1.00% 15.49 15.95 904,374 14,040,223 10.46% 10.74% 0.60% 2009 0.75% 1.00% 14.03 14.40 996,878 14,010,749 28.71% 29.03% 0.70% 2008 0.75% 1.00% 10.90 11.16 1,101,328 12,023,926 -35.06% -34.90% 0.88% LVIP GLOBAL INCOME STANDARD CLASS 2012 1.00% 1.00% 12.52 12.52 19,785 247,696 6.62% 6.62% 1.90% 2011 1.00% 1.00% 11.74 11.74 20,240 237,668 0.08% 0.08% 4.68% 2010 1.00% 1.00% 11.73 11.73 12,568 147,459 8.59% 8.59% 2.85% 2009 7/15/09 1.00% 1.00% 10.80 10.80 6,160 66,561 5.35% 5.35% 3.68% LVIP MONDRIAN INTERNATIONAL VALUE STANDARD CLASS 2012 0.75% 1.00% 15.25 15.58 246,515 3,768,229 8.53% 8.80% 2.77% 2011 0.75% 1.00% 14.05 14.32 288,351 4,059,549 -5.17% -4.93% 2.84% 2010 0.75% 1.00% 14.81 15.06 341,663 5,069,710 1.44% 1.70% 3.11% 2009 0.75% 1.00% 14.60 14.81 425,403 6,223,680 20.03% 20.33% 3.27% 2008 0.75% 1.00% 12.17 12.31 503,462 6,132,921 -37.29% -37.13% 4.48% LVIP PROTECTED PROFILE 2010 STANDARD CLASS 2012 0.75% 1.00% 11.57 11.74 65,720 760,605 7.46% 7.73% 2.39% 2011 0.75% 1.00% 10.77 10.89 65,779 709,674 0.24% 0.49% 0.83% 2010 0.75% 1.00% 10.74 10.84 77,423 832,709 10.36% 10.63% 1.15% 2009 0.75% 1.00% 9.74 9.80 73,801 719,040 23.16% 23.47% 2.10% 2008 0.75% 1.00% 7.90 7.94 55,025 435,193 -24.67% -24.48% 3.42% LVIP PROTECTED PROFILE 2020 STANDARD CLASS 2012 0.75% 1.00% 10.99 11.14 194,273 2,136,241 7.30% 7.57% 2.06% 2011 0.75% 1.00% 10.24 10.36 196,176 2,010,079 -0.80% -0.55% 0.76% 2010 0.75% 1.00% 10.32 10.42 216,761 2,238,428 10.92% 11.19% 1.00% 2009 0.75% 1.00% 9.31 9.37 144,789 1,348,029 24.41% 24.72% 1.90% 2008 0.75% 1.00% 7.48 7.51 122,899 919,581 -27.62% -27.44% 1.87% LVIP PROTECTED PROFILE 2030 STANDARD CLASS 2012 0.75% 1.00% 10.62 10.78 278,616 2,960,652 6.82% 7.09% 1.90% 2011 0.75% 1.00% 9.95 10.06 249,283 2,479,688 -1.55% -1.31% 0.66% 2010 0.75% 1.00% 10.10 10.20 226,525 2,288,763 11.43% 11.71% 0.91% 2009 0.75% 1.00% 9.07 9.13 178,202 1,615,827 26.68% 26.99% 2.09% 2008 0.75% 1.00% 7.16 7.19 70,442 504,196 -31.47% -31.30% 1.48% LVIP PROTECTED PROFILE 2040 STANDARD CLASS 2012 0.75% 1.00% 9.89 10.03 124,354 1,230,346 6.06% 6.32% 1.84% 2011 0.75% 1.00% 9.33 9.44 101,413 946,060 -2.44% -2.20% 0.63% 2010 0.75% 1.00% 9.56 9.65 82,452 788,425 12.53% 12.82% 0.94% 2009 0.75% 1.00% 8.50 8.55 60,926 517,698 29.65% 29.97% 1.47% 2008 0.75% 1.00% 6.55 6.58 37,059 242,878 -36.19% -36.03% 0.87%
L-21
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- LVIP PROTECTED PROFILE 2050 STANDARD CLASS 2012 1.00% 1.00% $ 9.67 $ 9.67 2,647 $ 25,589 4.93% 4.93% 0.30% 2011 7/15/11 1.00% 1.00% 9.21 9.21 29,223 269,237 -7.17% -7.17% 0.00% LVIP PROTECTED PROFILE CONSERVATIVE STANDARD CLASS 2012 0.75% 1.00% 14.50 14.78 156,741 2,273,449 8.68% 8.96% 3.87% 2011 0.75% 1.00% 13.34 13.56 157,522 2,102,251 2.65% 2.91% 1.52% 2010 0.75% 1.00% 13.00 13.18 286,321 3,721,821 9.40% 9.68% 3.77% 2009 0.75% 1.00% 11.88 12.02 267,910 3,183,545 23.61% 23.92% 4.30% 2008 0.75% 1.00% 9.61 9.70 264,582 2,543,244 -19.25% -19.05% 1.96% LVIP PROTECTED PROFILE GROWTH STANDARD CLASS 2012 0.75% 1.00% 13.22 13.47 391,875 5,182,561 8.06% 8.33% 2.50% 2011 0.75% 1.00% 12.23 12.43 418,427 5,120,586 -1.00% -0.75% 1.97% 2010 0.75% 1.00% 12.35 12.53 420,843 5,201,715 11.60% 11.88% 2.89% 2009 0.75% 1.00% 11.07 11.20 409,680 4,537,418 27.75% 28.07% 4.70% 2008 0.75% 1.00% 8.67 8.74 372,615 3,230,340 -34.08% -33.92% 1.09% LVIP PROTECTED PROFILE MODERATE STANDARD CLASS 2012 0.75% 1.00% 14.01 14.28 357,635 5,016,147 8.50% 8.77% 3.29% 2011 0.75% 1.00% 12.91 13.13 369,710 4,778,923 0.16% 0.41% 1.76% 2010 0.75% 1.00% 12.89 13.07 378,148 4,879,150 10.85% 11.12% 2.98% 2009 0.75% 1.00% 11.63 11.77 376,162 4,378,100 26.76% 27.08% 4.26% 2008 0.75% 1.00% 9.18 9.26 436,310 4,005,220 -27.35% -27.17% 2.12% LVIP SSGA BOND INDEX STANDARD CLASS 2012 0.75% 1.00% 11.91 12.02 59,085 704,258 2.82% 3.08% 2.74% 2011 0.75% 1.00% 11.58 11.66 50,337 583,204 6.33% 6.59% 3.71% 2010 0.75% 1.00% 10.89 10.94 44,556 485,640 4.91% 5.17% 2.71% 2009 7/6/09 0.75% 1.00% 10.38 10.40 10,015 104,047 -0.52% 2.61% 3.50% LVIP SSGA EMERGING MARKETS 100 STANDARD CLASS 2012 0.75% 1.00% 16.21 16.35 77,620 1,258,209 11.53% 11.81% 2.61% 2011 0.75% 1.00% 14.53 14.62 78,785 1,145,087 -15.78% -15.57% 2.43% 2010 0.75% 1.00% 17.25 17.32 77,860 1,343,516 26.50% 26.82% 1.71% 2009 6/29/09 0.75% 1.00% 13.64 13.66 42,116 574,480 21.46% 35.70% 1.67% LVIP SSGA GLOBAL TACTICAL ALLOCATION RPM STANDARD CLASS 012 0.75% 1.00% 12.45 12.69 149,416 1,861,171 10.04% 10.32% 3.40% 011 0.75% 1.00% 11.31 11.50 156,978 1,776,647 -0.78% -0.53% 1.30% 010 0.75% 1.00% 11.40 11.56 169,896 1,938,112 7.65% 7.92% 1.05% 009 0.75% 1.00% 10.59 10.71 165,203 1,750,486 29.50% 29.82% 6.69% 008 0.75% 1.00% 8.18 8.25 201,111 1,645,101 -41.05% -40.90% 0.64% LVIP SSGA INTERNATIONAL INDEX STANDARD CLASS 2012 0.75% 1.00% 13.03 13.15 8,001 104,237 16.95% 17.26% 1.86% 2011 0.75% 1.00% 11.14 11.14 6,474 72,113 -13.25% -13.25% 1.04% 2010 1.00% 1.00% 12.84 12.84 8,697 111,675 5.98% 5.98% 1.50% 2009 7/16/09 1.00% 1.00% 12.12 12.12 4,951 59,991 19.49% 19.49% 2.53% LVIP SSGA S&P 500 INDEX STANDARD CLASS 2012 5/21/12 1.00% 1.00% 10.73 10.73 1,968 21,113 9.05% 9.05% 2.06% LVIP SSGA SMALL-CAP INDEX STANDARD CLASS 2012 6/19/12 1.00% 1.00% 10.92 10.92 507 5,536 8.17% 8.17% 1.01% LVIP T. ROWE PRICE STRUCTURED MID-CAP GROWTH STANDARD CLASS 2012 0.75% 1.00% 17.25 17.84 904,684 15,640,591 15.15% 15.43% 0.00% 2011 0.75% 1.00% 14.98 15.46 1,006,689 15,117,255 -4.82% -4.59% 0.00% 2010 0.75% 1.00% 15.74 16.20 1,167,911 18,420,566 27.09% 27.41% 0.00% 2009 0.75% 1.00% 12.39 12.71 1,309,307 16,250,903 44.89% 45.25% 0.10% 2008 0.75% 1.00% 8.55 8.75 1,423,681 12,193,479 -43.35% -43.20% 0.00% LVIP UBS LARGE CAP GROWTH RPM STANDARD CLASS 2012 0.75% 1.00% 7.61 7.85 199,348 1,521,247 15.23% 15.52% 0.00% 2011 0.75% 1.00% 6.60 6.79 210,235 1,391,272 -6.62% -6.39% 0.21% 2010 0.75% 1.00% 7.07 7.26 224,617 1,591,476 10.24% 10.51% 0.73% 2009 0.75% 1.00% 6.42 6.57 247,111 1,588,529 37.15% 37.49% 0.85% 2008 0.75% 1.00% 4.68 4.78 279,582 1,310,114 -41.41% -41.26% 0.66%
L-22
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- NB AMT LARGE CAP VALUE I CLASS 2012 0.75% 1.00% $17.00 $17.58 253,438 $ 4,318,915 15.44% 15.73% 0.41% 2011 0.75% 1.00% 14.72 15.19 290,712 4,290,578 -12.24% -12.02% 0.00% 2010 0.75% 1.00% 16.78 17.27 359,925 6,050,361 14.52% 14.80% 0.66% 2009 0.75% 1.00% 14.65 15.04 408,049 5,993,548 54.52% 54.91% 2.64% 2008 0.75% 1.00% 9.48 9.71 449,518 4,271,182 -52.87% -52.75% 0.50% NB AMT MID CAP GROWTH I CLASS 2012 0.75% 1.00% 9.38 9.67 702,641 6,598,276 11.30% 11.57% 0.00% 2011 0.75% 1.00% 8.42 8.66 757,209 6,387,768 -0.53% -0.28% 0.00% 2010 0.75% 1.00% 8.47 8.69 873,255 7,404,066 27.81% 28.13% 0.00% 2009 0.75% 1.00% 6.63 6.78 975,025 6,471,128 30.29% 30.62% 0.00% 2008 0.75% 1.00% 5.09 5.19 1,026,161 5,224,044 -43.93% -43.79% 0.00% T. ROWE PRICE INTERNATIONAL STOCK CLASS I 2012 0.75% 1.00% 18.60 19.24 626,616 11,673,495 17.26% 17.55% 1.25% 2011 0.75% 1.00% 15.86 16.36 678,905 10,784,826 -13.70% -13.49% 1.43% 2010 0.75% 1.00% 18.38 18.91 788,274 14,509,437 13.32% 13.60% 0.89% 2009 0.75% 1.00% 16.22 16.65 900,546 14,630,234 50.87% 51.25% 2.71% 2008 0.75% 1.00% 10.75 11.01 973,595 10,481,445 -49.21% -49.09% 1.91%
(1) Reflects less than a full year of activity. Funds were first received in this option on the commencement date noted or the option was inactive at the date funds were received. (2) These amounts represent the annualized minimum and maximum contract expenses of the separate account, consisting primarily of mortality and expense charges, for each period indicated. The ratios include only those expenses that result in a direct reduction to unit values. Charges made directly to contract owner accounts through the redemption of units and expenses of the underlying funds have been excluded. (3) As the unit value is presented as a range of minimum to maximum values for only those subaccounts which existed for the entire year, some individual contract unit values may not be within the ranges presented as a result of partial year activity. (4) These amounts represent the total return, including changes in value of mutual funds, and reflect deductions for all items included in the fee rate. The total return does not include contract charges deducted directly from policy account values. The total return is not annualized. As the total return is presented as a range of minimum to maximum values for only those subaccounts which existed for the entire year, some individual contract total returns may not be within the ranges presented as a result of partial year activity. (5) These amounts represent the dividends, excluding distributions of capital gains, received by the subaccount from the underlying mutual fund, net of management fees assessed by the fund manager, divided by the average net assets. These ratios exclude those expenses, such as mortality and expense guarantee charges, that result in direct reductions in the unit values. The recognition of investment income by the subaccount is affected by the timing of the declaration of dividends by the underlying fund in which the subaccounts invest. Investment income ratios are not annualized. Note: Fee rate, unit value and total return minimum and maximum are the same where there is only one active contract level charge for the subaccount. L-23 4. PURCHASES AND SALES OF INVESTMENTS The aggregate cost of investments purchased and the aggregate proceeds from investments sold were as follows for 2012:
AGGREGATE AGGREGATE COST OF PROCEEDS SUBACCOUNT PURCHASES FROM SALES --------------------------------------------------------------------------------------------- ABVPSF Global Thematic Growth Class B $ 176,967 $ 400,716 ABVPSF Growth Class B 88,468 126,418 ABVPSF Growth and Income Class B 253,873 143,864 American Century VP Balanced Class I 491,332 1,810,391 American Century VP Inflation Protection Class I 693,943 236,500 American Funds Global Growth Class 2 497,566 928,634 American Funds Growth Class 2 877,154 2,615,130 American Funds Growth-Income Class 2 848,535 1,117,233 American Funds International Class 2 485,619 2,437,875 BlackRock Global Allocation V.I. Class I 320,912 373,246 Delaware VIP Diversified Income Standard Class 1,163,152 899,120 Delaware VIP High Yield Standard Class 658,390 646,462 Delaware VIP REIT Service Class 945,683 1,924,060 Delaware VIP Small Cap Value Service Class 1,191,114 1,176,595 Delaware VIP Smid Cap Growth Service Class 1,436,515 1,068,854 Dreyfus Opportunistic Small Cap Initial Class 192,873 3,101,498 Dreyfus Stock Index Initial Class 3,771,668 6,240,272 DWS Alternative Asset Allocation VIP Class A 109,214 80,176 DWS Equity 500 Index VIP Class A 257,480 1,133,476 DWS Small Cap Index VIP Class A 157,824 200,201 Fidelity VIP Asset Manager Initial Class 1,195,399 3,972,644 Fidelity VIP Contrafund Service Class 2 1,275,126 1,719,099 Fidelity VIP Equity-Income Initial Class 4,275,364 4,870,240 Fidelity VIP Growth Initial Class 921,769 6,382,564 Fidelity VIP Money Market Initial Class 113,800 152,927 Janus Aspen Series Worldwide Institutional Class 146,622 972,989 LVIP Baron Growth Opportunities Service Class 1,141,843 2,500,830 LVIP BlackRock Inflation Protected Bond Standard Class 100,814 31,387 LVIP Clarion Global Real Estate Standard Class 84,849 85,140 LVIP Delaware Bond Standard Class 1,114,820 1,377,348 LVIP Delaware Diversified Floating Rate Service Class 28,779 7,533 LVIP Delaware Foundation Aggressive Allocation Standard Class 60,834 15,400 LVIP Delaware Foundation Conservative Allocation Standard Class 256,150 196,638 LVIP Delaware Foundation Moderate Allocation Standard Class 64,856 8,256 LVIP Delaware Growth and Income Standard Class 148,970 515,042 LVIP Delaware Social Awareness Standard Class 1,195,752 1,332,521 LVIP Global Income Standard Class 62,263 65,434 LVIP Mondrian International Value Standard Class 352,958 876,265 LVIP Protected Profile 2010 Standard Class 376,235 338,031 LVIP Protected Profile 2020 Standard Class 391,675 389,510 LVIP Protected Profile 2030 Standard Class 618,604 288,336 LVIP Protected Profile 2040 Standard Class 349,650 108,106 LVIP Protected Profile 2050 Standard Class 33,029 291,464 LVIP Protected Profile Conservative Standard Class 523,596 442,273 LVIP Protected Profile Growth Standard Class 538,854 803,073 LVIP Protected Profile Moderate Standard Class 502,079 548,824 LVIP SSgA Bond Index Standard Class 384,050 265,704 LVIP SSgA Emerging Markets 100 Standard Class 676,936 549,793 LVIP SSgA Global Tactical Allocation RPM Standard Class 154,389 200,315 LVIP SSgA International Index Standard Class 48,971 28,572 LVIP SSgA S&P 500 Index Standard Class 21,188 58 LVIP SSgA Small-Cap Index Standard Class 5,492 18 LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class 866,865 2,279,647 LVIP UBS Large Cap Growth RPM Standard Class 182,560 278,255 NB AMT Large Cap Value I Class 126,453 741,617 NB AMT Mid Cap Growth I Class 342,586 901,984 T. Rowe Price International Stock Class I 291,391 1,163,385
L-24 5. INVESTMENTS The following is a summary of investments owned at December 31, 2012:
NET SHARES ASSET FAIR VALUE SUBACCOUNT OWNED VALUE OF SHARES COST OF SHARES -------------------------------------------------------------------------------------------------------------------------- ABVPSF Global Thematic Growth Class B 114,032 $16.42 $ 1,872,400 $ 1,771,748 ABVPSF Growth Class B 52,877 22.50 1,189,737 945,185 ABVPSF Growth and Income Class B 58,763 20.66 1,214,053 1,156,318 American Century VP Balanced Class I 2,248,382 7.13 16,030,962 15,267,790 American Century VP Inflation Protection Class I 135,068 12.05 1,627,572 1,565,721 American Funds Global Growth Class 2 211,832 23.44 4,965,346 4,446,556 American Funds Growth Class 2 387,681 60.45 23,435,325 20,074,184 American Funds Growth-Income Class 2 207,442 38.24 7,932,599 7,483,041 American Funds International Class 2 644,141 17.62 11,349,772 11,493,699 BlackRock Global Allocation V.I. Class I 75,436 16.10 1,214,524 1,183,800 Delaware VIP Diversified Income Standard Class 637,297 11.07 7,054,875 6,509,823 Delaware VIP High Yield Standard Class 502,964 6.11 3,073,108 2,800,375 Delaware VIP REIT Service Class 961,305 12.04 11,574,110 11,857,288 Delaware VIP Small Cap Value Service Class 244,014 33.04 8,062,218 7,044,285 Delaware VIP Smid Cap Growth Service Class 182,199 23.67 4,312,653 4,011,046 Dreyfus Opportunistic Small Cap Initial Class 766,897 31.66 24,279,952 31,602,836 Dreyfus Stock Index Initial Class 1,529,756 31.86 48,738,031 40,655,970 DWS Alternative Asset Allocation Class A 9,422 13.90 130,970 127,896 DWS VIT Equity 500 Index Class A 116,850 15.01 1,753,918 1,487,618 DWS VIT Small Cap Index Class A 147,264 13.56 1,996,898 1,860,382 Fidelity VIP Asset Manager Initial Class 2,597,606 15.17 39,405,684 39,605,052 Fidelity VIP Contrafund Service Class 2 707,870 26.00 18,404,613 18,305,168 Fidelity VIP Equity-Income Initial Class 1,951,674 19.94 38,916,381 42,563,078 Fidelity VIP Growth Initial Class 1,539,889 42.05 64,752,320 56,709,620 Fidelity VIP Money Market Initial Class 7,989 1.00 7,989 7,989 Janus Aspen Series Worldwide Institutional Class 287,690 30.74 8,843,580 10,445,221 LVIP Baron Growth Opportunities Service Class 400,861 35.08 14,063,790 9,355,631 LVIP BlackRock Inflation Protected Bond Standard Class 6,031 11.48 69,231 69,598 LVIP Clarion Global Real Estate Standard Class 73,389 8.50 623,588 479,927 LVIP Delaware Bond Standard Class 557,037 14.21 7,916,606 7,417,552 LVIP Delaware Diversified Floating Rate Service Class 2,489 10.14 25,231 25,180 LVIP Delaware Foundation Aggressive Allocation Standard Class 11,871 13.19 156,632 144,936 LVIP Delaware Foundation Conservative Allocation Standard Class 78,192 14.50 1,134,016 1,130,342 LVIP Delaware Foundation Moderate Allocation Standard Class 21,360 14.48 309,227 290,264 LVIP Delaware Growth and Income Standard Class 115,107 33.04 3,802,776 3,318,641 LVIP Delaware Social Awareness Standard Class 381,904 32.54 12,425,261 12,318,627 LVIP Global Income Standard Class 20,977 11.80 247,615 244,193 LVIP Mondrian International Value Standard Class 247,168 15.24 3,767,581 4,696,364 LVIP Protected Profile 2010 Standard Class 69,815 11.26 786,044 713,696 LVIP Protected Profile 2020 Standard Class 197,895 10.79 2,134,886 1,908,289 LVIP Protected Profile 2030 Standard Class 278,509 10.63 2,959,712 2,571,029 LVIP Protected Profile 2040 Standard Class 122,829 10.01 1,229,391 1,100,993 LVIP Protected Profile 2050 Standard Class 2,709 9.40 25,464 25,025 LVIP Protected Profile Conservative Standard Class 178,645 12.85 2,295,588 2,079,299 LVIP Protected Profile Growth Standard Class 435,129 11.90 5,178,911 4,947,701 LVIP Protected Profile Moderate Standard Class 399,106 12.56 5,013,575 4,606,819 LVIP SSgA Bond Index Standard Class 61,055 11.57 706,463 701,569 LVIP SSgA Emerging Markets 100 Standard Class 119,985 10.45 1,253,484 1,424,591 LVIP SSgA Global Tactical Allocation RPM Standard Class 169,928 10.95 1,860,877 1,855,107 LVIP SSgA International Index Standard Class 13,268 7.94 105,372 102,255 LVIP SSgA S&P 500 Index Standard Class 2,072 10.19 21,115 21,131 LVIP SSgA Small-Cap Index Standard Class 283 19.60 5,536 5,474 LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class 997,098 15.69 15,642,467 13,772,250 LVIP UBS Large Cap Growth RPM Standard Class 64,576 23.55 1,520,770 1,221,205 NB AMT Large Cap Value I Class 372,473 11.60 4,320,689 4,985,847 NB AMT Mid Cap Growth I Class 213,034 30.97 6,597,655 5,062,011 T. Rowe Price International Stock Class I 839,946 13.90 11,675,252 11,043,180
L-25 6. CHANGES IN UNITS OUTSTANDING The change in units outstanding for the year ended December 31, 2012, is as follows:
UNITS UNITS NET INCREASE SUBACCOUNT ISSUED REDEEMED (DECREASE) ---------------------------------------------------------------------------------------------------------- ABVPSF Global Thematic Growth Class B 41,931 (88,606) (46,675) ABVPSF Growth Class B 12,037 (15,604) (3,567) ABVPSF Growth and Income Class B 19,589 (11,306) 8,283 American Century VP Balanced Class I 10,199 (56,280) (46,081) American Century VP Inflation Protection Class I 50,052 (18,719) 31,333 American Funds Global Growth Class 2 28,734 (56,252) (27,518) American Funds Growth Class 2 72,775 (230,595) (157,820) American Funds Growth-Income Class 2 61,008 (86,555) (25,547) American Funds International Class 2 31,018 (197,558) (166,540) BlackRock Global Allocation V.I. Class I 24,498 (30,049) (5,551) Delaware VIP Diversified Income Standard Class 46,242 (51,567) (5,325) Delaware VIP High Yield Standard Class 26,305 (39,260) (12,955) Delaware VIP REIT Service Class 31,689 (67,968) (36,279) Delaware VIP Small Cap Value Service Class 37,159 (67,386) (30,227) Delaware VIP Smid Cap Growth Service Class 102,224 (89,083) 13,141 Dreyfus Opportunistic Small Cap Initial Class 10,755 (131,219) (120,464) Dreyfus Stock Index Initial Class 9,848 (127,726) (117,878) DWS Alternative Asset Allocation VIP Class A 8,327 (6,417) 1,910 DWS Equity 500 Index VIP Class A 17,036 (85,138) (68,102) DWS Small Cap Index VIP Class A 10,641 (13,515) (2,874) Fidelity VIP Asset Manager Initial Class 12,345 (108,835) (96,490) Fidelity VIP Contrafund Service Class 2 81,110 (114,688) (33,578) Fidelity VIP Equity-Income Initial Class 20,218 (142,720) (122,502) Fidelity VIP Growth Initial Class 14,900 (130,299) (115,399) Fidelity VIP Money Market Initial Class 6,328 (8,263) (1,935) Janus Aspen Series Worldwide Institutional Class 8,367 (70,332) (61,965) LVIP Baron Growth Opportunities Service Class 11,760 (68,891) (57,131) LVIP BlackRock Inflation Protected Bond Standard Class 9,819 (3,071) 6,748 LVIP Clarion Global Real Estate Standard Class 11,664 (11,446) 218 LVIP Delaware Bond Standard Class 53,590 (86,853) (33,263) LVIP Delaware Diversified Floating Rate Service Class 2,874 (756) 2,118 LVIP Delaware Foundation Aggressive Allocation Standard Class 4,156 (1,122) 3,034 LVIP Delaware Foundation Conservative Allocation Standard Class 17,805 (14,637) 3,168 LVIP Delaware Foundation Moderate Allocation Standard Class 4,353 (571) 3,782 LVIP Delaware Growth and Income Standard Class 14,947 (50,764) (35,817) LVIP Delaware Social Awareness Standard Class 18,140 (75,689) (57,549) LVIP Global Income Standard Class 4,861 (5,316) (455) LVIP Mondrian International Value Standard Class 19,799 (61,635) (41,836) LVIP Protected Profile 2010 Standard Class 32,060 (32,119) (59) LVIP Protected Profile 2020 Standard Class 34,624 (36,527) (1,903) LVIP Protected Profile 2030 Standard Class 57,088 (27,755) 29,333 LVIP Protected Profile 2040 Standard Class 34,590 (11,649) 22,941 LVIP Protected Profile 2050 Standard Class 3,503 (30,079) (26,576) LVIP Protected Profile Conservative Standard Class 32,188 (32,969) (781) LVIP Protected Profile Growth Standard Class 35,119 (61,671) (26,552) LVIP Protected Profile Moderate Standard Class 27,924 (39,999) (12,075) LVIP SSgA Bond Index Standard Class 31,516 (22,768) 8,748 LVIP SSgA Emerging Markets 100 Standard Class 35,259 (36,424) (1,165) LVIP SSgA Global Tactical Allocation RPM Standard Class 8,975 (16,537) (7,562) LVIP SSgA International Index Standard Class 3,933 (2,406) 1,527 LVIP SSgA S&P 500 Index Standard Class 1,970 (2) 1,968 LVIP SSgA Small-Cap Index Standard Class 507 -- 507 LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class 29,830 (131,835) (102,005) LVIP UBS Large Cap Growth RPM Standard Class 26,371 (37,258) (10,887) NB AMT Large Cap Value I Class 8,097 (45,371) (37,274) NB AMT Mid Cap Growth I Class 41,475 (96,043) (54,568) T. Rowe Price International Stock Class I 11,848 (64,137) (52,289)
L-26 The change in units outstanding for the year ended December 31, 2011, is as follows:
UNITS UNITS NET INCREASE SUBACCOUNT ISSUED REDEEMED (DECREASE) ------------------------------------------------------------------------------------------------------------ ABVPSF Global Thematic Growth Class B 28,716 (89,730) (61,014) ABVPSF Growth Class B 13,669 (26,450) (12,781) ABVPSF Growth and Income Class B 17,866 (17,372) 494 American Century VP Balanced Class I 12,219 (89,072) (76,853) American Century VP Inflation Protection Class I 68,599 (47,276) 21,323 American Funds Global Growth Class 2 36,255 (71,378) (35,123) American Funds Growth Class 2 99,774 (286,909) (187,135) American Funds Growth-Income Class 2 55,300 (126,045) (70,745) American Funds International Class 2 40,057 (288,992) (248,935) BlackRock Global Allocation V.I. Class I 55,571 (27,440) 28,131 Delaware VIP Diversified Income Standard Class 39,450 (100,939) (61,489) Delaware VIP High Yield Standard Class 35,146 (53,495) (18,349) Delaware VIP REIT Service Class 54,085 (89,633) (35,548) Delaware VIP Small Cap Value Service Class 73,699 (133,950) (60,251) Delaware VIP Smid Cap Growth Service Class 169,326 (85,408) 83,918 Dreyfus Opportunistic Small Cap Initial Class 17,732 (181,695) (163,963) Dreyfus Stock Index Initial Class 12,531 (254,187) (241,656) DWS Alternative Asset Allocation VIP Class A 6,619 (5,193) 1,426 DWS Equity 500 Index VIP Class A 25,084 (31,538) (6,454) DWS Small Cap Index VIP Class A 12,048 (26,926) (14,878) Fidelity VIP Asset Manager Initial Class 17,713 (147,955) (130,242) Fidelity VIP Contrafund Service Class 2 87,959 (251,409) (163,450) Fidelity VIP Equity-Income Initial Class 28,432 (249,141) (220,709) Fidelity VIP Growth Initial Class 19,714 (263,799) (244,085) Fidelity VIP Money Market Initial Class 10,874 (9,727) 1,147 Janus Aspen Series Worldwide Institutional Class 13,567 (150,642) (137,075) LVIP Baron Growth Opportunities Service Class 14,820 (104,725) (89,905) LVIP Clarion Global Real Estate Standard Class 12,728 (22,650) (9,922) LVIP Delaware Bond Standard Class 72,255 (111,200) (38,945) LVIP Delaware Diversified Floating Rate Service Class 474 (81) 393 LVIP Delaware Foundation Aggressive Allocation Standard Class 2,592 (1,071) 1,521 LVIP Delaware Foundation Conservative Allocation Standard Class 7,740 (10,556) (2,816) LVIP Delaware Foundation Moderate Allocation Standard Class 8,847 (2,737) 6,110 LVIP Delaware Growth and Income Standard Class 21,700 (84,929) (63,229) LVIP Delaware Social Awareness Standard Class 21,760 (165,061) (143,301) LVIP Global Income Standard Class 18,743 (11,071) 7,672 LVIP Mondrian International Value Standard Class 20,015 (73,327) (53,312) LVIP Protected Profile 2010 Standard Class 12,229 (23,873) (11,644) LVIP Protected Profile 2020 Standard Class 41,284 (61,869) (20,585) LVIP Protected Profile 2030 Standard Class 52,454 (29,696) 22,758 LVIP Protected Profile 2040 Standard Class 35,187 (16,226) 18,961 LVIP Protected Profile 2050 Standard Class 29,223 -- 29,223 LVIP Protected Profile Conservative Standard Class 33,749 (162,548) (128,799) LVIP Protected Profile Growth Standard Class 39,814 (42,230) (2,416) LVIP Protected Profile Moderate Standard Class 41,703 (50,141) (8,438) LVIP SSgA Bond Index Standard Class 52,471 (46,690) 5,781 LVIP SSgA Emerging Markets 100 Standard Class 40,505 (39,580) 925 LVIP SSgA Global Tactical Allocation RPM Standard Class 18,586 (31,504) (12,918) LVIP SSgA International Index Standard Class 11,124 (13,347) (2,223) LVIP T. Rowe Price Structured Mid-Cap Growth Standard Class 56,616 (217,838) (161,222) LVIP UBS Large Cap Growth RPM Standard Class 30,862 (45,244) (14,382) NB AMT Large Cap Value I Class 9,087 (78,300) (69,213) NB AMT Mid Cap Growth I Class 90,289 (206,335) (116,046) T. Rowe Price International Stock Class I 12,943 (122,312) (109,369)
7. SUBSEQUENT EVENT Subsequent events were evaluated through the date these financial statements were issued. L-27 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM Board of Directors of The Lincoln National Life Insurance Company and Contract Owners of Lincoln National Variable Annuity Account L We have audited the accompanying statements of assets and liabilities of Lincoln National Variable Annuity Account L ("Variable Account"), comprised of the subaccounts described in Note 1, as of December 31, 2012, and the related statements of operations for the year then ended and the statements of changes in net assets for each of the two years in the period then ended, or for those sub-accounts operating for portions of such periods as disclosed in the financial statements. These financial statements are the responsibility of the Variable Account's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Variable Account's internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Variable Account's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our procedures included confirmation of investments owned as of December 31, 2012, by correspondence with the fund companies, or their transfer agents, as applicable. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of each of the respective subaccounts constituting Lincoln National Variable Annuity Account L at December 31, 2012, and the results of their operations and the changes in their net assets for the periods described above, in conformity with U.S. generally accepted accounting principles. /s/ Ernst & Young LLP Philadelphia, Pennsylvania April 12, 2013 L-28 Lincoln National Variable Annuity Account L PART C - OTHER INFORMATION Item 24. Financial Statements and Exhibits (a) List of Financial Statements 1. Part A The Table of Condensed Financial Information is included in Part A of this Registration Statement. (Not Applicable) 2. Part B The following financial statements for the Variable Account are included in Part B of this Registration Statement. Statement of Assets and Liabilities - December 31, 2012 Statement of Operations - Year ended December 31, 2012 Statements of Changes in Net Assets - Years ended December 31, 2012 and 2011 Notes to Financial Statements - December 31, 2012 Report of Independent Registered Public Accounting Firm 3. Part B The following consolidated financial statements for The Lincoln National Life Insurance Company are included in Part B of this Registration Statement. Consolidated Balance Sheets - Years ended December 31, 2012 and 2011 Consolidated Statements of Comprehensive Income (Loss) - Years ended December 31, 2012, 2011 and 2010 Consolidated Statements of Stockholders' Equity - Years ended December 31, 2012, 2011 and 2010 Consolidated Statements of Cash Flows - Years ended December 31, 2012, 2011, and 2010 Notes to Consolidated Financial Statements - December 31, 2012 Report of Independent Registered Public Accounting Firm (b) List of Exhibits (1) Resolution of Board of Directors and Memorandum from the President of The Lincoln National Life Insurance Company authorizing establishment of the Variable Account are incorporated herein by reference to Post-Effective Amendment No. 15 (File No. 033-25990) filed on April 22, 1999. (2) Not Applicable (3)(a) Broker-Dealer Selling Agreement among The Lincoln National Life Insurance Company, Lincoln Life & Annuity Company of New York and Lincoln Financial Distributors, Inc. incorporated herein by reference to Pre-Effective Amendment No. 1 (File No. 333-170897) filed on April 8, 2011. (b) Amended and Restated Principal Underwriting Agreement dated May 1, 2007 between The Lincoln National Life Insurance Company and Lincoln Financial Distributors, Inc. incorporated herein by reference to Post-Effective Amendment No. 24 (File No. 333-61554) filed on December 18, 2007. (4) Variable Annuity Contract (AN-701) (5) Application (EM12812-MF12) incorporated herein by reference Registration Statement on Form N-4 filed on October 15, 2012. (6)(a) Articles of Incorporation of The Lincoln National Life Insurance Company incorporated herein by reference to Pre-Effective Amendment No. 1 (File No. 333-04999) filed on September 24, 1996. (b) By-Laws of The Lincoln National Life Insurance Company incorporated herein by reference to Post-Effective Amendment No. 3 on Form N-6 (File No. 333-118478) filed on April 5, 2007. (7) Automatic Indemnity Reinsurance Agreement Amended and Restated as of October 1, 2009 between The Lincoln National Life Insurance Company and Lincoln National Reinsurance Company (Barbados) Limited incorporated herein by reference to Post-Effective Amendment No. 43 (File No. 033-26032) filed on April 7, 2010. (8)(a) Accounting and Financial Administration Services Agreement dated October 1, 2007 among Mellon Bank, N.A., The Lincoln National Life Insurance Company and Lincoln Life & Annuity Company of New York incorporated herein by reference to Registration Statement on Form N-4 (File No. 333-147673) filed on November 28, 2007. (b) Fund Participation Agreement between The Lincoln National Life Insurance Company and Lincoln Variable Insurance Products Trust incorporated herein by reference to Post-Effective Amendment No. 18 on Form N-6 (File No. 333-146507) filed on April 3, 2012. (c) Rule 22c-2 Agreement between The Lincoln National Life Insurance Company and Lincoln Variable Insurance Products Trust incorporated herein by reference to Post-Effective Amendment No. 30 (File No. 333-36304) filed on May 29, 2008. (9) Opinion and Consent of Mary Jo Ardington, Associate General Counsel of The Lincoln National Life Insurance Company as to the legality of securities being issued (10)(a) Consent of Ernst & Young LLP, Independent Registered Public Accounting Firm (b) Power of Attorney - Principal Officers and Directors of The Lincoln National Life Insurance Company (11) Not Applicable (12) Not Applicable (13) Organizational Chart of The Lincoln National Insurance Holding Company System incorporated herein by reference to Post-Effective Amendment No. 48 (File No. 033-26032) filed on September 21, 2012. Item 25. Directors and Officers of the Depositor The following list contains the officers and directors of The Lincoln National Life Insurance Company who are engaged directly or indirectly in activities relating to Lincoln National Variable Annuity Account L as well as the contracts. The list also shows The Lincoln National Life Insurance Company's executive officers.
Name Positions and Offices with Depositor --------------------------- -------------------------------------------------------------------- Dennis R. Glass** President and Director Chuck C. Cornelio*** Executive Vice President, Chief Administrative Officer and Director Randal J. Freitag** Executive Vice President, Chief Financial Officer and Director Mark E. Konen** Executive Vice President and Director Keith J. Ryan* Vice President and Director Charles A. Brawley, III** Vice President and Secretary Ellen Cooper** Executive Vice President, Chief Investment Officer and Director Jeffrey D. Coutts** Senior Vice President and Treasurer
*Principal business address is 1300 South Clinton Street, Fort Wayne, Indiana 46802 **Principal business address is Radnor Financial Center, 150 Radnor Chester Road, Radnor, PA 19087 ***Principal business address is 100 North Greene Street, Greensboro, NC 27401 Item 26. Persons Controlled by or Under Common Control with the Depositor or Registrant See Exhibit 13: Organizational Chart of the Lincoln National Insurance Holding Company System. Item 27. Number of Contractowners As of February 28, 2013 there were 49, 443 participants in group contracts under Account L. Item 28. Indemnification a) Brief description of indemnification provisions. In general, Article VII of the By-Laws of The Lincoln National Life Insurance Company provides that Lincoln Life will indemnify certain persons against expenses, judgments and certain other specified costs incurred by any such person if he/she is made a party or is threatened to be made a party to a suit or proceeding because he/she was a director, officer, or employee of Lincoln Life, as long as he/she acted in good faith and in a manner he/she reasonably believed to be in the best interests of, or act opposed to the best interests of, Lincoln Life. Certain additional conditions apply to indemnification in criminal proceedings. B-2 In particular, separate conditions govern indemnification of directors, officers, and employees of Lincoln Life in connection with suits by, or in the right of, Lincoln Life. Please refer to Article VII of the By-Laws of Lincoln Life (Exhibit no. 6(b) hereto) for the full text of the indemnification provisions. Indemnification is permitted by, and is subject to the requirements of, Indiana law. b) Undertaking pursuant to Rule 484 of Regulation C under the Securities Act of 1933: Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the provisions described in Item 28(a) above or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer, or controlling person of the Registrant in the successful defense of any such action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. Item 29. Principal Underwriter (a) Lincoln Financial Distributors, Inc. ("LFD") currently serves as Principal Underwriter for: Lincoln National Variable Annuity Account C; Lincoln National Flexible Premium Variable Life Account D; Lincoln National Variable Annuity Account E; Lincoln National Flexible Premium Variable Life Account F; Lincoln National Flexible Premium Variable Life Account G; Lincoln National Variable Annuity Account H; Lincoln Life & Annuity Variable Annuity Account H; Lincoln Life Flexible Premium Variable Life Account J; Lincoln Life Flexible Premium Variable Life Account K; Lincoln National Variable Annuity Account L; Lincoln Life & Annuity Variable Annuity Account L; Lincoln Life Flexible Premium Variable Life Account M; Lincoln Life & Annuity Flexible Premium Variable Life Account M; Lincoln Life Variable Annuity Account N; Lincoln New York Account N for Variable Annuities; Lincoln Life Variable Annuity Account Q; Lincoln Life Flexible Premium Variable Life Account R; LLANY Separate Account R for Flexible Premium Variable Life Insurance; Lincoln Life Flexible Premium Variable Life Account S; LLANY Separate Account S for Flexible Premium Variable Life Insurance; Lincoln Life Variable Annuity Account T; Lincoln Life Variable Annuity Account W; and Lincoln Life Flexible Premium Variable Life Account Y and Lincoln Life & Annuity Flexible Premium Variable Life Account Y; Lincoln Life Variable Annuity Account JF-H; Lincoln Life Variable Annuity Account JF-I; Lincoln Life Flexible Premium Variable Life Account JF-A; Lincoln Life Flexible Premium Variable Life Account JF-C; Lincoln Life Variable Annuity Account JL-A; Lincoln Life & Annuity Flexible Premium Variable Life Account JA-B; Lincoln Variable Insurance Products Trust; Lincoln Advisors Trust. (b) Officers and Directors of Lincoln Financial Distributors, Inc.:
Name Positions and Offices with Underwriter ------------------------- ----------------------------------------------------- Wilford H. Fuller* President, Chief Executive Officer and Director David M. Kittredge* Senior Vice President Jeffrey D. Coutts* Senior Vice President and Treasurer Patrick J. Caulfield** Vice President and Chief Compliance Officer Joel Schwartz* Senior Vice President and Director Elizabeth F. Conover*** Assistant Vice President and Chief Financial Officer Thomas P. O'Neill* Senior Vice President and Director Nancy A. Smith* Secretary
*Principal Business address is Radnor Financial Center, 150 Radnor Chester Road, Radnor, PA 19087 **Principal Business address is 350 Church Street, Hartford, CT 06103 ***Principal Business address is 100 Greene Street, Greensboro, NC 27401 (c) N/A Item 30. Location of Accounts and Records All accounts, books, and other documents, except accounting records, required to be maintained by Section 31a of the 1940 Act and the Rules promulgated thereunder are maintained by The Lincoln National Life Insurance Company, 1300 South Clinton Street, Fort Wayne, Indiana 46802. The accounting records are maintained by The Bank of New York Mellon, One Mellon Bank Center, 500 Grant Street, Pittsburgh, PA 15258. B-3 Item 31. Management Services Not Applicable. Item 32. Undertakings (a) Registrant undertakes that it will file a post-effective amendment to this registration statement as frequently as necessary to ensure that the audited financial statements in the registration statement are never more than 16 months old for so long as payments under the variable annuity contracts may be accepted. (b) Registrant undertakes that it will include either (1) as part of any application to purchase a Certificate or an Individual Contract offered by the Prospectus, a space that an applicant can check to request a Statement of Additional Information, or (2) a post card or a similar written communication affixed to or included in the Prospectus that the applicant can remove to send for a Statement of Additional Information. (c) Registrant undertakes to deliver any Statement of Additional Information and any financial statements required to be made available under this Form promptly upon written or oral request to Lincoln Life at the address or phone number listed in the Prospectus. (d) The Lincoln National Life Insurance Company hereby represents that the fees and charges deducted under the contract, in the aggregate, are reasonable in relation to the services rendered, the expenses expected to be incurred, and the risks assumed by The Lincoln National Life Insurance Company. (e) Registrant hereby represents that it is relying on the American Council of Life Insurance (avail. Nov. 28, 1988) no-action letter with respect to Contracts used in connection with retirement plans meeting the requirements of Section 403(b) of the Internal Revenue Code, and represents further that it will comply with the provisions of paragraphs (1) through (4) set forth in that no-action letter. Item 33. For contracts sold in connection with the Texas Optional Retirement Program, Registrant is relying on Rule 6c-7 and represents that paragraphs (a) through (d) of that rule have been complied with. SIGNATURES a) As required by the Securities Act of 1933 and the Investment Company Act of 1940, the Registrant has caused this Pre-Effective Amendment No. 1 Registration Statement to be signed on its behalf, in the City of Fort Wayne, and State of Indiana on this 28th day of May, 2013. Lincoln National Variable Annuity Account L (Registrant) Lincoln Secured Retirement IncomeSM Version 2 By: /s/ John D. Weber ------------------------------------ John D. Weber Vice President, The Lincoln National Life Insurance Company (Title) THE LINCOLN NATIONAL LIFE INSURANCE COMPANY (Depositor) By: /s/ Stephen R. Turer ------------------------------------ Stephen R. Turer (Signature-Officer of Depositor) Senior Vice President, The Lincoln National Life Insurance Company (Title)
(b) As required by the Securities Act of 1933, this Amendment to the Registration Statement has been signed by the following persons in their capacities indicated on May 28, 2013. B-4 Signature Title * President and Director (Principal Executive Officer) ------------------------------ Dennis R. Glass * Executive Vice President, Chief Investment Officer and Direc- ------------------------------ tor Ellen Cooper * Executive Vice President, Chief Administrative Officer and Direc- ------------------------------ tor Charles C. Cornelio * Executive Vice President, Chief Financial Officer and Director ------------------------------ (Principal Financial Officer) Randal J. Freitag * Senior Vice President and Director ------------------------------ Mark E. Konen * Vice President and Director ------------------------------ Keith J. Ryan *By: /s/ John D. Weber Pursuant to a Power of Attorney --------------------------- John D. Weber
B-5