497 1 swlsupp.txt VARIABLE ANNUITY FUND I OF SOUTHWESTERN LIFE 497 REASSURE AMERICA LIFE INSURANCE COMPANY and Variable Annuity Fund I of Southwestern Life Prospectus Supplement Dated October 1, 2007 The following sections regarding the Company in your Prospectus are supplemented by the disclosure provided herein: Cover Page; VFL; and Principal Underwriter. All references in the Prospectus to "We," "Us," "Our," "VFL" or the "Company" now refer to Reassure America Life Insurance Company. On September 30, 2007, Valley Forge Life Insurance Company ("VFL") merged with one of its affiliates, Reassure America Life Insurance Company, with VFL surviving the merger. Immediately following the merger, VFL changed its name to Reassure America Life Insurance Company ("REASSURE"). There have been no changes to your Contract or any of your benefits as a result of the merger. The Contracts and riders are no longer offered for sale. REASSURE will accept any additional purchase payments you wish to make and will process all transactions and claims under your Contract. There have been no changes to Variable Annuity Fund I of Southwestern Life as a result of the merger. If you have any questions, please contact us at our Service Center at P.O. Box 9045, Dallas, TX 75374-9045, 1-800-792-4368. In addition, the following section in the Prospectus is amended as follows. FINANCIAL STATEMENTS The following financial statements are contained in the Statement of Additional Information: o Audited financial statements of VFL o Audited financial statements of REASSURE o Unaudited pro forma financial statements which give effect to the merger of REASSURE and VFL -------------------------------------------------------------------------------- REASSURE AMERICA LIFE INSURANCE COMPANY and Variable Annuity Fund I of Southwestern Life Statement of Additional Information Supplement Dated October 1, 2007 The following sections regarding the Company in the Statement of Additional Information (SAI) are supplemented by the disclosure provided herein: Cover Page; Company; and Distributor. All references in the SAI to "We," "Us," "Our," "VFL" or the "Company" now refer to Reassure America Life Insurance Company. In addition, the following sections in the SAI are amended as follows. 1. The following replaces the information contained under the heading "Company": On September 30, 2007, Valley Forge Life Insurance Company ("VFL") merged with its affiliate, Reassure America Life Insurance Company, with VFL as the surviving legal entity. Immediately following the merger, VFL changed its name to Reassure America Life Insurance Company ("REASSURE"). REASSURE (the "Company") is a wholly-owned subsidiary of Swiss Re Life & Health America Inc. ("SRLHA"). SRLHA is ultimately controlled by Swiss Reinsurance Company. The Company is an Indiana corporation principally engaged in the administration of a closed block of life and health insurance and annuities. It is licensed in the District of Columbia, Puerto Rico and all states except New York. As of December 28, 2006, Southwestern Life Insurance Company ("Southwestern") was merged into one of its affiliates, VFL, with VFL surviving the merger, and all outstanding contracts of Southwestern became the obligations of VFL. Prior to December 28, 2006, the Contract was issued by Southwestern. There have been no changes to your Contract or any of your benefits as a result of the merger. There have been no changes to Variable Annuity Fund I of Southwestern Life as a result of the merger. 2. The following replaces the information contained under the heading "Experts": The statutory basis financial statements of Valley Forge Life Insurance Company for the years ended December 31, 2006 included in this Statement of Additional Information, have been so included in reliance on the reports of PricewaterhouseCoopers LLP, 300 Madison Avenue, New York, NY 10017, an independent auditor, on the authority of said firm as experts in auditing and accounting. The statutory basis financial statements of Reassure America Life Insurance Company for the years ended December 31, 2006 included in this Statement of Additional Information, have been so included in reliance on the reports of PricewaterhouseCoopers LLP, 300 Madison Avenue, New York, NY 10017, an independent auditor, on the authority of said firm as experts in auditing and accounting. The principal business address of PricewaterhouseCoopers LLP is 300 Madison Avenue, New York, NY 10017. 3. The following replaces the information contained under the heading "Financial Statements": The financial statements are provided below. VALLEY FORGE LIFE INSURANCE COMPANY (A WHOLLY-OWNED SUBSIDIARY OF SWISS RE LIFE & HEALTH AMERICA INC.) STATUTORY-BASIS FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 VALLEY FORGE LIFE INSURANCE COMPANY Index -------------------------------------------------------------------------------- Report of Independent Auditors 1 Statutory-Basis Financial Statements and Notes 3 Supplemental Schedule of Selected Statutory-Basis Financial Data 29 Supplemental Schedule of Investment Risks Interrogatories 31 Summary Investment Schedule 34 Note to Supplemental Schedules of Selected Statutory-Basis Financial Data 35
REPORT OF INDEPENDENT AUDITORS To the Board of Directors and Shareholder of Valley Forge Life Insurance Company: We have audited the accompanying statutory-basis balance sheets of Valley Forge Life Insurance Company (the "Company") as of December 31, 2006 and 2005, and the related statutory-basis statements of operations and changes in capital and surplus, and cash flows for each of the three years then ended. 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 audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. As described in Note 1 to the financial statements, the Company prepared these financial statements using accounting practices prescribed or permitted by the Indiana Department of Insurance, which practices differ from accounting principles generally accepted in the United States of America. The effects on the financial statements of the variances between the statutory basis of accounting and accounting principles generally accepted in the United States of America, although not reasonably determinable, are presumed to be material. In our opinion, because of the effects of the matter discussed in the preceding paragraph, the financial statements referred to above do not present fairly, in conformity with accounting principles generally accepted in the United States of America, the financial position of the Company as of December 31, 2006 and 2005, or the results of its operations or its cash flows for each of the three years then ended. In our opinion, the financial statements referred to above present fairly, in all material respects, the admitted assets, liabilities and surplus of the Company as of December 31, 2006 and 2005, and the results of its operations and its cash flows for each of the three years then ended, on the basis of accounting described in Note 1. 1 REPORT OF INDEPENDENT AUDITORS (CONTINUED) Our audit was conducted for the purpose of forming an opinion on the basic statutory-basis financial statements taken as a whole. The accompanying Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule of the Company as of December 31, 2006 and for the year then ended are presented for purposes of additional analysis and are not a required part of the basic statutory-basis financial statements. The effects on the Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule of the variances between the statutory basis of accounting and accounting principles generally accepted in the United States of America, although not reasonably determinable, are presumed to be material. As a consequence, the Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule do not present fairly, in conformity with accounting principles generally accepted in the United States of America, such information of the Company as of December 31, 2006 and for the year then ended. The Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule have been subjected to the auditing procedures applied in the audit of the basic statutory basis financial statements and, in our opinion, are fairly stated in all material respects in relation to the basic statutory basis financial statements taken as a whole. April 26, 2007, except for the financial statements and disclosures for the year ended December 31, 2004, and the subsequent event discussed in Note 16, as to which the date is September 27, 2007. 2 VALLEY FORGE LIFE INSURANCE COMPANY Balance Sheets (Statutory-Basis) --------------------------------------------------------------------------------
DECEMBER 31, --------------------------------- 2006 2005 (RESTATED) -------------- --------------- (IN THOUSANDS, EXCEPT SHARE DATA) ADMITTED ASSETS Bonds $3,415,375 $3,896,623 Preferred stocks 106,351 9,908 Common stocks 55 33 Mortgage loans 1,561 1,601 Real estate - 14,298 Cash (including short-term investments of $304,346 and $36,103, respectively) 273,722 29,413 Policy loans 201,420 206,203 Other invested assets 21,161 13,051 ---------- ---------- CASH AND INVESTED ASSETS 4,019,645 4,171,130 Accrued investment income 37,293 45,838 Premiums and considerations due and uncollected (53,586) (46,851) Amounts due from reinsurers 74,264 78,872 Net deferred federal income tax asset 26,213 27,606 Receivables from affiliates - 2,807 Other admitted assets 2,275 15,916 Separate account assets 358,190 457,099 ---------- ---------- TOTAL ADMITTED ASSETS $4,464,294 $4,752,417 ========== ========== LIABILITIES Aggregate reserves for life, accident and health and annuity contracts $2,389,524 $2,500,992 Policy claims and benefits on life and accident and health contracts 58,175 65,274 Liability for deposit-type contracts 131,806 152,808 Other contract liabilities 60,766 12,848 Interest maintenance reserve 69,592 75,346 Federal income taxes payable 60,406 36,598 Commissions payable and expense allowances on reinsurance assumed 2,886 2,207 Funds held under reinsurance treaties with affiliates 819,627 843,556 Due from separate accounts (6,856) (7,577) Accounts payable and accrued expenses 18,749 17,167 Payable to affiliates 6,129 - Asset valuation reserve 16,371 19,634 Other liabilities 17,726 40,032 Separate account liabilities 358,190 457,099 ---------- ---------- TOTAL LIABILITIES $4,003,091 $4,215,984 ---------- ---------- CAPITAL AND SURPLUS Common stock - par value $50 per share: authorized 200,000 shares; issued and outstanding, 50,000 shares 2,500 2,500 Gross paid-in and contributed capital 303,641 375,658 Unassigned surplus 155,062 158,275 ---------- ---------- TOTAL CAPITAL AND SURPLUS 461,203 536,433 ---------- ---------- TOTAL LIABILITIES, CAPITAL AND SURPLUS $4,464,294 $4,752,417 ========== ==========
The accompanying notes are an integral component of the financial statements 3 VALLEY FORGE LIFE INSURANCE COMPANY Statements of Operations and Changes in Capital and Surplus (Statutory-Basis) -----------------------------------------------------------------------------
YEARS ENDED DECEMBER 31, ------------------------------------- 2006 2005 2004 (RESTATED) (RESTATED) --------- -------------- ---------- (IN THOUSANDS) REVENUES Premiums and annuity considerations $ 284,762 $ 274,905 $ 362,593 Net investment income 236,001 250,795 253,087 Amortization of interest maintenance reserve 9,963 10,666 10,061 Commissions and expense allowances on reinsurance ceded 84,724 76,265 237,999 Reserve adjustments on modified coinsurance, net (14,974) (16,176) (18,712) Other revenues 4,505 2,224 40,107 --------- ---------- ---------- TOTAL REVENUES 604,981 598,679 885,135 --------- ---------- ---------- BENEFITS AND EXPENSES Policy claims and benefits 388,062 401,400 467,593 Decrease in aggregate reserves for life and accident and health contracts (111,468) (97,923) 655,118 Reserve transfers deduction - - (664,019) Commissions and expense allowances 14,071 18,203 59,285 General insurance expenses and taxes, licenses and fees 46,658 95,017 124,288 Due from separate accounts (18,696) (20,040) (22,893) Other expenses (1,112) 1,122 (7,248) Interest on funds withheld for reinsurers 58,543 40,995 19,206 --------- ---------- ---------- TOTAL BENEFITS AND EXPENSES 376,058 438,774 631,330 --------- ---------- ---------- Gain from operations before dividends to policyholders, federal income taxes, and net realized capital gains 228,923 159,905 253,805 Dividends to policyholders 7,762 6,219 6,114 --------- ---------- ---------- OPERATING INCOME BEFORE INCOME TAXES AND NET REALIZED CAPITAL GAINS 221,161 153,686 247,691 Federal income tax (benefit) expense on operations 61,444 (14,825) 383,136 --------- ---------- ---------- GAIN (LOSS) FROM OPERATIONS BEFORE NET REALIZED CAPITAL GAINS 159,717 168,511 (135,445) Net realized capital gains, less federal income tax losses of $(187), $(6,189) and $(7,114), respectively, and excluding net gains (losses) of $(4,208), $27,002 and $10,259, respectively, transferred to the interest maintenance reserve 1,355 19,056 2,132 --------- ---------- ---------- NET INCOME (LOSS) 161,072 187,567 (133,313) OTHER CHANGES IN CAPITAL AND SURPLUS Change in net unrealized capital gains 333 2,036 691 Change in net deferred income tax (8,339) (97,983) 215,551 Change in non-admitted assets 6,981 103,789 (193,202) Change in liability for reinsurance in unauthorized companies 19,894 (19,506) (7,812) Change in asset valuation reserve 3,263 (3,628) (8,725) Change in capitalized ceding commissions (11,134) (920) 203,338 Dividend to parent (247,300) (363,100) 316,809 --------- ---------- ---------- NET INCOME (LOSS) AND OTHER CHANGES IN CAPITAL AND SURPLUS (75,230) (191,745) 393,337 Capital and surplus, beginning of year 536,433 728,178 334,841 --------- ---------- ---------- CAPITAL AND SURPLUS, END OF YEAR $ 461,203 $ 536,433 $ 728,178 ========= ========== ==========
The accompanying notes are an integral component of the financial statements 4 VALLEY FORGE LIFE INSURANCE COMPANY Statements of Cash Flows (Statutory-Basis) --------------------------------------------------------------------------------
YEARS ENDED DECEMBER 31, ------------------------------------------ 2006 2005 2004 (RESTATED) (RESTATED) ----------- ------------- ------------ (IN THOUSANDS) CASH FROM OPERATIONS Premiums collected, net of reinsurance $ 284,712 $ 308,033 $ 395,910 Net investment income 207,636 232,809 214,976 Miscellaneous income 63,341 45,313 279,139 Benefits and loss related payments (360,726) (377,310) (510,518) Net transfer to separate accounts 19,417 20,415 20,680 Commissions, expense paid and other deductions (111,096) (166,479) 557,701 Dividends paid to policyholders (5,923) (6,369) (3,794) Federal income taxes paid (39,902) (24,387) (331,214) ----------- ---------- ----------- NET CASH PROVIDED BY OPERATIONS 57,459 32,025 622,880 ----------- ---------- ----------- CASH FROM INVESTING ACTIVITIES Proceeds from investments sold, matured or repaid Bonds 1,331,783 1,033,298 1,069,909 Stocks 6,630 1,228 14,479 Mortgage loans 40 46 42 Real estate 17,973 - - Other invested assets 3,588 4,302 4,941 Net gains on short term investments 2,493 - (5) ----------- ---------- ----------- Total investment proceeds 1,362,507 1,038,874 1,089,366 ----------- ---------- ----------- Cost of investments acquired: Bonds (908,297) (860,896) (2,946,211) Stocks (66) (30) (9,923) Real estate - - (14,920) Other invested assets (13,420) (2,595) (162) Miscellaneous applications - (186) (1,058) ----------- ---------- ----------- Total cost of investment acquired (921,783) (863,707) (2,972,274) Decrease in contract loans 4,699 3,313 13,278 ----------- ---------- ----------- NET CASH PROVIDED BY (USED IN) INVESTMENTS 445,423 178,480 (1,869,630) ----------- ---------- ----------- CASH FROM FINANCING AND MISCELLANEOUS SOURCES Dividend to parent (247,300) (363,100) - Capital contributions - - 316,809 Net deposits on deposit-type contracts and other insurance liabilities (21,002) 89,282 50 Other sources, net 9,729 (11,830) 919,347 ----------- ---------- ----------- NET CASH PROVIDED BY (USED IN) FINANCING AND MISCELLANEOUS SOURCES (258,573) (285,648) 1,236,206 ----------- ---------- ----------- Net increase (decrease) in cash and short-term investments 244,309 (75,143) (10,544) CASH AND SHORT-TERM INVESTMENTS, BEGINNING OF YEAR 29,413 104,556 115,101 ----------- ---------- ----------- CASH AND SHORT-TERM INVESTMENTS, END OF YEAR $ 273,722 $ 29,413 $ 104,557 ========== ========== ===========
The accompanying notes are an integral component of the financial statements 5 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 1. BASIS OF PRESENTATION AND NATURE OF BUSINESS ORGANIZATION Valley Forge Life Insurance Company, ("VFL" or the "Company"), an Indiana domiciled insurance company, is a wholly-owned subsidiary of Swiss Re Life & Health America Inc. (the "Parent" or "SRLHA"), which in turn is a wholly-owned indirect subsidiary of Swiss Reinsurance Company of Zurich, Switzerland ("Swiss Re" or "SRZ"). On February 5, 2004, SRLHA announced the acquisition of CNA Financial Corporation's ("CNAF") individual life insurance and annuity business, including VFL. As a result of the acquisition, effective March 6, 2004, VFL ceased accepting new policy applications. On April 30, 2004, SRLHA closed on the purchase of VFL from CNAF. The final adjusted purchase price was $629,673, which included an operations facility in Nashville. Concurrent with the purchase, the Company ceded 100% of its Long Term Care ("LTC") exposure to Continental Casualty Company ("CCC"). Prior to the acquisition, the Company was a Pennsylvania domiciled insurance company and a wholly-owned subsidiary of Continental Assurance Company ("CAC") which is wholly owned by CCC. CCC is wholly-owned by The Continental Corporation ("TCC"). TCC is wholly-owned by CNAF. Loews Corporation ("Loews") owned approximately 90% of the outstanding common stock of CNAF at December 31, 2003. Effective December 29, 2004, the Company redomesticated to the State of Indiana. On September 30, 2006, Sage Life Assurance of America, Inc. ("Sage Life"), an affiliate, was merged with and into the Company. The transaction was accounted for as a statutory merger. All Sage Life shares of capital stock were cancelled and ceased to exist. No consideration of any kind was given to shareholders of Sage Life. On December 28, 2006, Southwestern Life Insurance Company ("Southwestern Life" or "SWL"), an affiliate, was merged with and into the Company. The transaction was accounted for as a statutory merger. All Southwestern Life shares of capital stock were cancelled and ceased to exist. No consideration of any kind was given to shareholders of Southwestern Life. The prior years information in this statement has been restated to reflect both mergers. As successor by merger to Sage Life, the Company has a wholly-owned subsidiary, SL Distributors, Inc. ("SLD"), which is a registered broker-dealer and the principal underwriter of the Sage Life and Southwestern Life variable contracts and related separate accounts of the Company. The Company will maintain capital in SLD at a level required to satisfy the net capital requirements, as prescribed by the rules of the United States Securities & Exchange Commission and the National Association of Securities Dealers, currently $5 for a limited purpose broker-dealer. In August 2006, the Company contributed capital of $50 to SLD. In December 2005 and May 2004, respectively, the Company (as successor by merger to Sage Life) contributed capital of $30 and $15 to SLD. 6 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- BUSINESS The Company is authorized to transact business in the District of Columbia, Puerto Rico and all states except New York. Consistent with SRLHA's Administrative Reinsurance ("Admin Re(SM)") business model, which involves the acquisition of blocks of life insurance policies or other insurance companies, VFL ceased writing new business at the date of acquisition by SRLHA and has outsourced all of the policy administration functions to a third party administrator ("TPA"). Prior to ceasing writing new business, the Company provided financial protection to individuals through a full product line of term life insurance, universal life insurance, annuities and other products. During 2005, the Company completed a system conversion of its policy administration from those systems of its former parent, to those of a TPA. Effective October 1, 2005, the TPA commenced administrative operations in the Nashville, TN facility formerly owned by VFL. In addition, the TPA hired a significant portion of employees that were formerly staff of VFL to perform such administrative functions. Effective December 31, 2005, the Company no longer has direct employees. BASIS OF PRESENTATION The accompanying financial statements of the Company have been prepared in accordance with the accounting practices prescribed or permitted by the Indiana Department of Insurance (the "Department"). Pursuant to Indiana Insurance Law, the Department recognizes as "prescribed" practices the codified Statements of Statutory Accounting Principles ("SSAP") incorporated into the National Association of Insurance Commissioners' ("NAIC") Accounting Practices and Procedures Manual. "Permitted" statutory accounting practices encompass all accounting practices that are not prescribed; such practices may differ from state to state, may differ from company to company within a state, and may change in the future. ESTIMATES, RISK AND UNCERTAINTIES The preparation of financial statements requires the use of estimates and assumptions developed by management. Any adjustments to reported bases of assets or liabilities resulting from changes in estimates are recognized in the period the estimates are revised. Mortality experience is a significant factor in the determination of the results of operations. This factor is generally predictable over time but is subject to fluctuations from year to year. A significant fluctuation from year to year could adversely affect the Company's results of operations. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Statutory accounting practices followed by the Company differ from accounting principles generally accepted in the United States of America ("GAAP"). The more significant variances from GAAP are as follows: Investments: The reported values of bonds and stocks are determined in accordance with methods prescribed by the NAIC. Bonds are stated principally at amortized cost using the interest method. Preferred stocks are reported at cost or amortized cost. Non-affiliated common stocks are reported at fair value as determined by the Securities Valuation Office ("SVO") of the NAIC. Changes between cost and admitted invested asset amounts, net of 7 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- tax, are credited or charged directly to unassigned surplus as unrealized gains or losses. For GAAP, the Company's fixed maturity investments are classified as either available-for-sale or trading. All the fixed maturity investments are reported at fair value. The changes in fair value for investments classified as available-for-sale are reported, net of tax, as a separate component of other comprehensive income and changes in investments classified as trading are reported as a separate component of net income. Mortgage loans on real estate are stated at their aggregate unpaid principal balance, less allowance for impairment. Valuation allowances, if necessary, are established for mortgage loans based on the difference between the unpaid loan balance and the estimated fair value of the underlying real estate when such loans are determined to be in default as to scheduled payments. All-risk or multi-peril insurance coverage containing a mortgage loss payable clause in favor of the Company is required on all properties covered by mortgage loans for no less than the value of the mortgage loan. Under GAAP, valuation allowances would be established when the Company determines it is probable that it will be unable to collect all amounts due (both principal and interest) according to the contractual terms of the loan agreement. For statutory reporting, an asset valuation reserve ("AVR"), which represents a provision for fluctuations in the value of invested assets as determined by an NAIC prescribed formula, is reported as a liability. Changes in the liability are credited or charged directly to unassigned surplus. An AVR is not recognized for GAAP. Under a formula prescribed by the NAIC, the Company defers in an interest maintenance reserve ("IMR") the portion of realized capital gains and losses, net of taxes, attributable to changes in the general level of interest rates and amortizes these deferred amounts over the remaining period to maturity of the securities sold using the NAIC Grouped Method. Realized capital gains and losses, net of taxes and transfers to the IMR, are reported as a separate component of income. For GAAP, realized capital gains and losses are included in income as a component of revenue when the related securities are sold or called. Under both statutory accounting and GAAP, when a decline in fair value is determined to be other than temporary, realized losses are recorded in the statement of operations. Policy Acquisition Costs: For statutory accounting, costs of acquiring and renewing business are expensed when incurred. Under GAAP, acquisition costs related to traditional life insurance and certain long-duration accident and health insurance, to the extent recoverable from future policy-related revenues, are deferred and amortized over the premium-paying period of the related policies using assumptions consistent with those used in computing policy benefit reserves. For annuity and universal life insurance, to the extent recoverable from future gross profits, deferred policy acquisition costs are amortized generally in proportion to the present value of expected gross profits from investment income, mortality and expense margins. Non-admitted Assets: Certain assets, designated as "non-admitted", are excluded from the balance sheet and charged directly to unassigned surplus. These assets are principally deferred federal income tax assets and agents' debit balances. Such amounts are included in total assets under GAAP to the extent realizable. 8 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Aggregate Reserves for Life and Accident and Health Contracts: The aggregate reserves for life and accident and health insurance contracts are based on statutorily prescribed mortality, morbidity and interest assumptions, rather than on the mortality, morbidity, interest and withdrawal assumptions anticipated by the Company when the policies were issued, as would be required under GAAP. Under statutory accounting, additional reserves are established when the results of cash flow testing under various interest rate scenarios indicate the need for such reserves or the net premiums exceed the gross premiums on any insurance in force. Universal Life and Annuities: Revenues from universal life insurance and annuity contracts consist of premiums. Benefits consist of mortality, surrenders and changes in the policy reserves. For GAAP, premiums in excess of policy fees and charges are not recorded as revenues but are credited to a fund balance liability. Benefits consist of interest credited to the fund balance and mortality in excess of the fund balance. Modified Coinsurance: Reserves ceded under modified coinsurance agreements are retained by the ceding companies. For GAAP, the Company records separate payables and receivables for the ceded modified coinsurance contracts. Reinsurance Assumed: For statutory accounting, the assets transferred relating to the reinsurance of inforce blocks of business are recorded as a component of premiums and annuity considerations in the statement of operations with a corresponding increase in the aggregate reserves for life and accident and health contracts. Under GAAP, the related asset and liability transfers are recorded in the balance sheet only. Reinsurance Ceded: For statutory accounting, a liability is provided for unsecured reinsurance ceded to unauthorized companies and changes to the liability are credited or charged directly to unassigned surplus. Under GAAP, an allowance for amounts deemed uncollectible would be established with a charge to earnings. Under statutory accounting, any increase in surplus, net of federal income taxes, resulting from the reinsurance of life and accident and health inforce business is deferred and credited directly to unassigned surplus and recognized in commissions and expense allowances on reinsurance ceded as earnings emerge from the underlying business. Under GAAP, gains from the reinsurance of inforce blocks of business are deferred and amortized into income over the settlement period of the liabilities assumed. Certain policy-related assets and liabilities are reported net of reinsurance ceded. Such netting is not permitted under GAAP unless a legal right of offset exists. Federal Income Taxes: Deferred federal income taxes are provided to reflect the net tax effects of temporary differences between the carrying amounts of statutory-basis assets and liabilities and the amounts used for federal income tax purposes. The change in net deferred taxes is charged or credited to unassigned surplus. Deferred tax assets in excess of certain defined limitations are excluded from the balance sheet and charged to surplus as a non-admitted asset. Under GAAP, deferred federal income taxes reflect the net tax effect of temporary differences between the carrying amounts of GAAP basis assets and liabilities and the amounts used for federal income tax purposes. The change in net deferred taxes, excluding the amount related to other comprehensive income, is a component of net income. A valuation allowance is established for deferred tax assets not expected to be realized. 9 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Other significant accounting policies include the following: Life premiums and annuity considerations are recognized as revenue when due. On Universal Life-type insurance policies and annuities with life contingencies, premiums and considerations are recognized when collected. Deposits on deposit-type contracts are recorded directly as a liability when received. Realized gains and losses from sales of investments are determined using the specific identification basis. The Company performs a periodic review of its investment portfolio to determine if there has been an other-than-temporary decline in the fair value of any individual securities. The Company considers numerous factors in evaluating each security, including the length of time and the extent to which the fair value has been less than cost, the financial condition and short term prospects of the issuer and the intent and ability of the Company to retain the investment for a period of time sufficient to allow for any anticipated recovery in fair value. If the Company determines that the decline in fair value below cost is other-than-temporary, the cost basis of the investment is written down to fair value as a new cost basis and the amount of the write down is accounted for as a realized loss. Bonds are carried at amortized cost. Premiums and discounts on bonds are amortized or accreted to investment income using the interest method over the contractual lives of the bonds taking into consideration call provisions, or in the case of mortgage and asset backed bonds, over the estimated life of the bond based upon anticipated prepayments at the date of purchase. Prepayment assumptions for mortgage-backed and structured securities are obtained from independent financial services and are applied monthly. Significant changes in prepayment assumptions are accounted for using the retrospective adjustment method, based upon prepayment assumptions obtained from external pricing services, which are consistent with the current interest rate and economic environment. An internal matrix is used to value non-public issues. Redeemable preferred stocks, which have characteristics of debt securities and are rated as high quality or better, are reported at cost or amortized cost. All other redeemable preferred stocks are reported at the lower of cost, amortized cost or fair value. Securities, whose proceeds are accorded some degree of equity treatment by one or more of the nationally recognized statistical rating organizations and/or which are recognized as regulatory capital by the issuers' primary regulatory authority, are considered hybrid securities or capital securities. Effective December 2006, these securities are reported as preferred stock and are reported at amortized cost if rated by the NAIC as high quality or better. All other hybrid securities are reported at the lower of cost, amortized cost or fair value. Non-redeemable preferred stocks are reported at fair value or lower of cost of fair value as determined by the SVO and the related net unrealized capital gains or losses are reported in unassigned surplus along with any adjustment for federal income taxes. The Company does not customarily invest in real estate. However, in conjunction with SRLHA's purchase of VFL in 2004, the Company purchased a building and the adjacent property, for $14,920. The building and property were sold in April 2006 resulting in a realized gain of $3,053. Depreciation expense charged to operations in 2006, 2005 and 2004 was $93, $363 and $259, respectively. Contract loans are reported at unpaid principal balances. 10 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Cash includes cash on deposit and cash equivalents, which are short-term highly liquid investments with original maturities of three months or less and are principally stated at amortized cost. Short-term investments include investments with remaining maturities of one year or less at the time of acquisition and are principally stated at amortized cost. Separate Account Business - The Company maintains deferred variable annuities and variable universal life contracts. The separate account assets are reported at fair value. The assets and liabilities for these products are almost entirely in the separate accounts of the Company, which are legally segregated and recorded in the accompanying statutory-basis statements of admitted assets, liabilities, capital and surplus as assets and liabilities of the separate accounts. Absent any contract provision wherein the Company guarantees either a minimum return or account value upon death or annuitization, the net investment experience of the separate account is credited directly to the contract holder and can be positive or negative. Mortality, policy administration and surrender charges to all separate accounts are included in revenue in the statutory-basis statements of operations. Policy claims and benefits include amounts determined for reported claims and estimates of incurred but not reported claims developed on the basis of past experience. Those estimates are subject to the effects of trends in claim severity and frequency. Although considerable variability is inherent in such estimates, management believes that the reserves for unpaid claims are adequate. The estimates are continually reviewed and adjusted as necessary as experience develops or new information becomes known; such adjustments are included in current operations. Certain prior-year amounts in the accompanying financial statements and footnotes have been reclassified to conform with the current year presentation. 3. FAIR VALUE OF FINANCIAL INSTRUMENTS The fair value of a financial instrument is the amount at which the instrument could be exchanged in a current transaction between willing parties. The fair values of investments in bonds and preferred stocks, presented in Note 5, are based on quoted market prices, where available. For bonds and preferred stocks not actively traded, fair values are estimated using values obtained from independent pricing services, or in the case of private placements, are estimated by discounting the expected future cash flows using current market rates applicable to the coupon rate, credit, and maturity of the investments. For common stock that are not actively traded, estimated fair values are based on values of issues of comparable yield and quality. All other financial instruments are carried at amounts which approximate fair value, except insurance contracts, which are exempt from fair value disclosure requirements. 11 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 4. MERGERS, ACQUISITIONS AND REINSURANCE ASSUMED TRANSACTIONS On December 28, 2006, Southwestern Life was merged with and into the Company. The transaction was accounted for as a statutory merger. All Southwestern Life shares of capital stock were cancelled and cease to exist. No consideration of any kind was given to shareholders of Southwestern Life. Pre-merger, separate company revenue and net income for the period ended December 28, 2006 were $184,184 and $15,360, respectively for Southwestern Life, and $420,797 and $145,712, respectively for the Company. On September 30, 2006, Sage Life was merged with and into the Company. The transaction was accounted for as a statutory merger. All Sage Life shares of capital stock were cancelled and ceased to exist. No consideration of any kind was given to shareholders of Sage Life. Pre-merger, separate company revenue and net income for the period ended September 30, 2006 were $(9,967) and $7,725, respectively for Sage Life, and $318,655 and $66,350, respectively for the Company. 12 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 5. INVESTED ASSETS The following tables present the book/adjusted carrying values, gross unrealized gains and losses and estimated fair values of investments in bonds and preferred stocks at December 31, 2006 and 2005:
BOOK/ GROSS GROSS ADJUSTED UNREALIZED UNREALIZED FAIR CARRYING VALUE GAINS LOSSES VALUE -------------- ---------------------- ---------- DECEMBER 31 , 2006 U.S. Government obligations $ 870,562 $ 24,300 $ 9,399 $ 885,463 Political subdivisions of states, territories, possessions 5,000 - 208 4,792 All other Governments 28,536 1,631 221 29,946 States, territories, and possessions 8,350 1,486 - 9,836 Special revenue and assessment 18,759 1,796 9 20,546 Public utilities 145,159 3,983 2,801 146,341 Industrial and miscellaneous 1,329,358 54,532 16,907 1,366,983 Credit tenant loans 32,704 1,569 - 34,273 Mortgage asset-backed securities 976,947 10,824 17,109 970,662 ---------- -------- ------- ---------- TOTAL BONDS $3,415,375 $100,121 $46,654 $3,468,842 ========== ======== ======= ========== PREFERRED STOCKS - UNAFFILIATED $ 106,352 $ 8,345 $ 511 $ 114,186 ========== ======== ======= ========== DECEMBER 31 , 2005 (RESTATED) U.S. Government obligations $ 649,581 $ 46,483 $ 3,746 $ 692,318 Political subdivisions of states, territories, possessions 5,000 - 61 4,939 All other Governments 99,272 7,108 226 106,154 States, territories, and possessions 11,848 1,760 - 13,608 Special revenue and assessment 19,013 2,405 16 21,402 Public utilities 184,593 8,325 1,091 191,827 Industrial and miscellaneous 1,979,780 107,387 19,459 2,067,708 Credit tenant loans 24,205 355 - 24,560 Mortgage asset-backed securities 923,332 13,384 15,278 921,438 ---------- -------- ------- ---------- TOTAL BONDS $3,896,624 $187,207 $39,877 $4,043,954 ========== ======== ======= ========== PREFERRED STOCKS - UNAFFILIATED $ 9,908 $ 3,023 $ - $ 12,931 ========== ======== ======= ==========
13 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The following table presents gross unrealized losses and fair values, aggregated by investment category and length of time, for securities with unrealized losses, at December 31, 2006 and 2005.
LESS THAN TWELVE MONTHS TWELVE MONTHS OR MORE TOTAL ----------------------- --------------------- -------------------- GROSS GROSS GROSS FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED VALUE LOSSES VALUE LOSSES VALUE LOSSES ----------------------- --------------------- -------------------- DECEMBER 31, 2006 U.S. Government obligations $ 397,841 $ 4,939 $116,143 $ 4,459 $ 513,984 $ 9,398 Political subdivisions of states, territories, possessions - - 4,792 208 4,792 208 All other Governments 8,393 86 4,836 135 13,229 221 Special revenue and assessment - - 844 9 844 9 Public utilities 29,817 1,011 29,095 1,790 58,912 2,801 Industrial and miscellaneous 222,100 4,091 354,542 12,817 576,642 16,908 Mortgage and asset-backed securities 255,505 2,725 334,181 14,384 589,686 17,109 -------------------- ------------------ -------------------- Total bonds $ 913,656 $12,852 $844,433 $33,802 $1,758,089 $46,654 ==================== ================== ==================== PREFERRED STOCKS - UNAFFILIATED $ 29,337 $ 457 $ 6,651 $ 54 $ 35,988 $ 511 ==================== ================== ==================== DECEMBER 2005 (RESTATED) U.S. Government obligations $ 138,539 $ 3,144 $ 10,270 $ 602 $ 148,809 $ 3,746 Political subdivisions of states, territories, possessions 4,939 61 - - 4,939 61 All other Governments 21,071 225 - - 21,071 225 Special revenue and assessment 848 16 - - 848 16 Public utilities 45,496 884 7,327 208 52,823 1,092 Industrial and miscellaneous 519,195 14,648 83,226 4,811 602,421 19,459 Credit tenant loans - - - - - - Mortgage and asset-backed securities 449,859 11,397 83,855 3,881 533,714 15,278 -------------------- ------------------ -------------------- Total bonds $1,179,947 $30,375 $184,678 $ 9,502 $1,364,625 $39,877 ==================== ================== ====================
At December 31, 2006, the Company held one hundred and ninety seven fixed maturity securities with gross unrealized losses of $33,802 that had been in an unrealized loss position for 12 months or more. Based on an evaluation by the Company (refer to Note 2 for a description of factors considered), such securities were not considered to be other-than-temporarily impaired. At December 31, 2006, the contractual maturities of investments in bonds are as follows:
BOOK/ADJUSTED CARRYING VALUE FAIR VALUE -------------- ----------- Due in one year or less $ 25,011 $ 25,085 Due after one year through five years 334,639 342,882 Due after five years through ten years 398,124 399,264 Due after ten years 1,680,654 1,730,949 Mortgage and asset-backed securities 976,947 970,662 ---------- ---------- Total $3,415,375 $3,468,842 ---------- ----------
Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 14 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Major sources and related amounts of net investment income are as follows:
2006 2005 2004 (RESTATED) (RESTATED) -------- ---------- ---------- Bonds $212,305 $240,920 $220,462 Preferred stocks 8,131 935 1,091 Mortgage loans 109 93 164 Contract loans 13,488 13,283 14,208 Cash and short-term investments 6,896 2,560 2,084 Other invested assets 1,380 2,043 21,788 -------- -------- -------- GROSS INVESTMENT INCOME 242,309 259,834 259,797 Less: Investment expenses 6,308 9,040 6,710 -------- -------- -------- NET INVESTMENT INCOME $236,001 $250,794 $253,087 ======== ======== ========
Realized capital gains and losses and proceeds from sales of investments in bonds, excluding calls and maturities and before transfer of certain net gains to the IMR, consist of the following:
2006 2005 2004 (RESTATED) (RESTATED) ---------- ---------- ---------- Realized gains $ 21,650 $ 49,468 $ 24,524 Realized losses (15,932) (7,800) (7,897) ---------- -------- -------- NET REALIZED GAINS FROM SALES OF BONDS $ 5,718 $ 41,668 $ 16,627 ========== ======== ======== PROCEEDS FROM SALES OF BONDS $1,182,839 $847,480 $800,846 ========== ======== ========
Realized capital losses include $2,582, $1,400 and $734 in write downs for securities that experienced an other-than-temporary decline in value in 2006, 2005 and 2004, respectively. The Company is a participant in the Swiss Re Money Market Fund ("SRMMF") governed by an agreement among affiliates whereby participants pool funds and invest primarily in liquid short-term investments. Each participant owns shares in the fund that are carried at a net asset value of $1 per share. Swiss Re Asset Management (Americas) Inc. ("SRAM"), an affiliated entity, is the investment manager of the account and provides related accounting services. At December 31, 2006 and 2005, the Company had $284,794 and $35,862, respectively, invested in SRMMF. At December 31, 2006 and 2005, cash and securities with carrying values of approximately $91,808 and $7,114, respectively were on deposit with regulatory authorities to meet statutory requirements. 15 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 6. LIFE PREMIUMS AND ANNUITY CONSIDERATIONS DUE AND UNCOLLECTED The following table reflects due and uncollected life insurance premiums and annuity considerations as of December 31, 2006:
NET OF GROSS LOADING -------- -------- Ordinary life (renewal business) $(40,351) $(37,146) Ordinary life (new business) 4 2 Group life (renewal business) (16,393) (16,393) -------- -------- TOTAL $(56,740) $(53,537) ======== ========
7. AGGREGATE RESERVES FOR LIFE AND ACCIDENT AND HEALTH CONTRACTS Reserves for life policies are generally computed on the net level premium method, Commissioners' Reserve Valuation Method ("CRVM"), while reserves for accident and health contracts are generally computed on the two-year preliminary term method. The reserves are based on statutory mortality, morbidity and interest assumptions without consideration of withdrawals, except for individual Long Term Care, which beginning with 1998 issues do anticipate lapse and withdrawal activity. Accident and health reserves are generally calculated at an interest rate of 4.5% using the 1985 National Nursing Home Survey. Life policy reserves are principally determined by using the 1941, 1958 and 1980 Commissioners' Standard Ordinary Mortality ("CSO") tables with valuation interest rates ranging from 2.5% to 6.0%. Reserves for individual and group annuity contracts are based principally on 1971 and 1983 Individual and Group Annuity Mortality tables with assumed interest rates ranging from 2.5% to 13.25%. Policy reserves for deferred annuity contracts are calculated using the Commissioners' Annuity Reserve Valuation Method ("CARVM") with interest rates ranging from 3.5% to 10.0%. Tabular interest, tabular less actual reserves released and tabular cost have been determined by formula. The tabular interest on funds not involving life contingencies has been calculated as the product of the valuation rate of interest times the average daily outstanding deposit fund liability. The Company waives deduction of deferred fractional premiums upon deaths of insureds and returns any portion of the final premium beyond the date of death. A reserve is held where a surrender value is promised in excess of the legally computed reserves, if any. Extra premiums are charged for policies covering substandard lives. Mean reserves for substandard policies with flat extra charges are determined by computing the regular mean reserve and adding one-half (1/2) of the extra premium charge for the year. Mean reserves for table related substandard policies are based on appropriate multiples of standard rates of mortality. At December 31, 2006 the Company had $9,486,388 of insurance inforce for which the maximum gross premiums are less than the net premiums, according to the standard of valuation set by the Department. Premium deficiency reserves, for the above insurance totaled $52,467 at December 31, 2006. The Company does not utilize anticipated investment income as a factor in the premium deficiency calculation. 16 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The following table reflects withdrawal characteristics of annuity reserves and deposit fund liabilities at December 31, 2006:
AMOUNT % OF TOTAL -------- ---------- Subject to discretionary withdrawal - with adjustment: $51,147 6.7% - at book value less surrender charge of 5% or more 5,652 0.8% - at fair value 276,682 36.5% -------- ----- SUBTOTAL 333,481 44.0% -------- ----- Subject to discretionary withdrawal - without adjustment: - at book value (minimal or no charge or adjustment) 338,787 44.6% Not subject to discretionary withdrawal 86,781 11.4% -------- ----- TOTAL (GROSS) 759,049 100.0% -------- ----- Reinsurance ceded 187,157 -------- NET ANNUITY RESERVES AND DEPOSIT FUND LIABILITIES $571,892 ========
8. FEDERAL INCOME TAXES The components of the net deferred tax asset ("DTA") at December 31, 2006 and 2005 are as follows:
DECEMBER 31, --------------------- 2006 2005 (RESTATED) --------- ---------- Total gross DTAs $ 241,759 $ 238,173 Total deferred tax liabilities ("DTL") (16,792) (4,643) --------- --------- Net DTA 224,967 233,530 Non-admitted DTA (198,754) (205,924) --------- --------- Net admitted DTA $ 26,213 $ 27,606 ========= ========= (Decrease) in nonadmitted DTA $ (7,170) =========
At December 31, 2005, the Company had a balance of $1,188 in the policyholder surplus account ("PSA") for which a deferred tax liability has not been recorded. The American Jobs Creation Act of 2004 suspended taxation of distributions from the PSA for taxable years 2005 and 2006. Current federal income taxes incurred consists of the following major components:
YEAR ENDED DECEMBER 31, ---------------------------------- 2006 2005 2004 (RESTATED) (RESTATED) ------- ---------- ---------- Current year expense $52,949 $ 19,098 $389,969 Prior year return to provision adjustment 8,308 (40,112) 281 ------- -------- -------- Federal income taxes expense (benefit) $61,257 $(21,014) $390,250 ======= ======== ========
17 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The components of DTAs and DTLs and changes therein are as follows:
DECEMBER 31, ----------------------------------- 2006 2005 CHANGE (RESTATED) --------- ---------- --------- DTAs resulting from book/tax differences in: --------------------------------------------- Invested assets $ 22,474 $ 34,772 $ (12,298) Deferred acquisition costs 125,613 130,300 (4,687) Aggregate reserves and contract liabilities 81,113 52,875 28,238 Operating loss carryforward 1,734 5,004 (3,270) Net capital loss carryforward 5,079 372 4,707 Other 5,746 14,850 (9,104) --------- --------- --------- Total DTAs 241,759 238,173 3,586 --------- --------- --------- DTA non-admitted (198,754) (205,924) 7,170 --------- --------- --------- DTA admitted 43,005 32,249 10,756 --------- --------- --------- DTLs resulting from book/tax differences in: --------------------------------------------- Premiums deferred and uncollected (16,792) (3,806) (12,986) Other - (837) 837 --------- --------- --------- Total DTLs (16,792) (4,643) (12,149) --------- --------- --------- Net admitted DTA $ 26,213 $ 27,606 $ (1,393) ========= ========= =========
The change in net deferred income tax consists of the following:
DECEMBER 31, ----------------------------------- 2006 2005 CHANGE (RESTATED) -------- ---------- --------- Total DTAs $241,759 $238,173 $ 3,586 Total DTLs (16,792) (4,643) (12,149) -------- -------- -------- Net DTA $224,967 $233,530 (8,563) ======== ======== Tax effect of unrealized gains (losses) 223 -------- Change in net deferred income tax $ (8,340) ========
18 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Total statutory income taxes differ from the amount that would be obtained by applying the statutory federal income tax rate of 35% to net gain from operations and realized capital gains/(losses). Among the more significant book to tax adjustments in 2006 are the following:
EFFECTIVE AMOUNT TAX EFFECT AT 35% TAX RATE --------- ----------------- --------- Net gain from operations $221,161 $77,406 Realized capital gains 5,376 1,882 -------- ------- 226,537 79,288 35.0% Capitalized ceding commissions (11,134) (3,897) -1.8% IMR amortization (9,963) (3,487) -1.5% Changes in surplus (190) (66) 0.0% Prior period adjustments (6,391) (2,237) -1.0% Other (11) (4) 0.0% -------- ------- ---- $198,848 $69,597 30.7% ======== ======= ==== Federal income tax expense $61,257 27.0% Change in net deferred income taxes 8,339 3.7% ------- ---- Total statutory income taxes $69,596 30.7% ======= ====
At December 31, 2006, the Company had an operating loss carryforward of $4,953 that expires in 2018 through 2020. The Company has a capital loss carryforward of $14,511 that expires in years 2007 and 2011. The amount of federal income taxes incurred and available for recoupment in the event of future tax losses is: 2006 $ 52,949 2005 $ 22,010 2004 $ 21,314
The Company is included in a consolidated life insurance company federal income tax return filed by its Parent. Companies included in the consolidated return are as follows: o Swiss Re Life & Health America Inc. o Reassure America Life Insurance Company o Sage Life Assurance of America, Inc. (for the period from January 21, 2006 to the date of its merger into the Company on September 30, 2006) o Southwestern Life Insurance Company (for the period beginning April 1, 2004 to the date of its merger into the Company on December 28, 2006) o Valley Forge Life Insurance Company o Aldgate Reinsurance Company Limited o Atlantic International Reinsurance Company Ltd (from the date of its contribution to SRLHA on December 22, 2005) The method of allocation among the companies is subject to a written agreement approved by the Board of Directors. Allocation is based upon separate return calculations with credit for net losses when utilizable on a separate company basis or in consolidation. 19 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Intercompany balances are settled annually. At December 31, 2006 and 2005, the Company had a payable to its parent under the agreement of $60,406 and $19,098, respectively. 9. CAPITAL AND SURPLUS Life and health insurance companies are subject to certain risk-based capital ("RBC") requirements as specified by the NAIC. Under these requirements, the amount of capital and surplus maintained by a life and health insurance company is to be determined based on the various risk factors related to it. At December 31, 2006 the Company exceeded the minimum RBC requirements. Under Indiana insurance regulations, the Company is limited in the amount of dividends it may pay its shareholders. The maximum dividend is limited to the greater of the prior year's net income or 10% of the prior year's earned surplus. Extraordinary dividends above the general statutory limitations may be paid with the prior approval of the Department. In 2006 and 2005, after receiving approval from the Department, the Company paid cash dividends to its Parent of $220,000 and $335,000, respectively, of which $72,017 and $165,009, respectively, represented a return of capital. In 2006 and 2005, SWL paid cash dividends to its then Parent SRLHA of $27,300 and $28,100 respectively. For the years ended December 31, 2006, 2005 and 2004, respectively, the Company capitalized ceding commissions (net of taxes) of $0, $0 and $222,690 and amortized $11,135, $9,468 and $19,352, respectively, as commissions and expense allowances on reinsurance ceded in its Summary of Operations. The reported unassigned funds (surplus) is represented or reduced by each of the following items:
DECEMBER 31, ------------------------- 2006 2005 (RESTATED) ---------- ---------- Unrealized (losses) and gains, net of tax $ 1,811 $ 104 Non-admitted asset values (201,861) (208,842) Asset valuation reserves (16,371) (19,633) Unauthorized reinsurance (22) (11,368)
10. REINSURANCE In the normal course of business, the Company cedes to reinsurers risk that exceeds retention limits. Contracts for insurance ceded do not relieve the Company of its obligations to policyholders. The Company has not entered into any new reinsurance agreements in 2006 and 2005. Effective April 30, 2004, the Company entered into a funds withheld reinsurance agreement to cede certain life insurance contracts to its ultimate parent, SRZ. As a result of the agreement, the Company ceded approximately $929,100 in reserves and established a funds withheld liability. This resulted in an after tax gain of $211,900 which is deferred and is being amortized over approximately 20 years. 20 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Effective December 31, 2004, a reinsurance agreement with SRLHA for certain life insurance contracts was recaptured for administrative ease. Concurrently, the Company entered into a funds withheld reinsurance agreement to cede the recaptured business to ErzBB. In accordance with the terms of the agreement, the Company transferred to ErzBB approximately $111,500 of reserves and established a funds withheld liability. The Company's policy generally is to require collateral from those reinsurers not authorized to conduct reinsurance business in Indiana in an amount at least equal to the statutory reserves reinsured. Collateral held, in the form of letters of credit, trust agreements, funds deposited, other and miscellaneous credit balances, was $1,737,213 and $1,592,989 at December 31, 2006 and 2005, respectively. 21 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The Company retrocedes a substantial portion of assumed risks to SRZ, ErzBB, and SRLHA, each affiliated companies. Reinsurance ceded to affiliated and non-affiliated companies (reduced) increased amounts reported in the accompanying financial statements at December 31, 2006, 2005 and 2004, and for the years then ended, as follows:
DECEMBER 31, 2006 BALANCE SHEET AFFILIATED NON-AFFILIATED TOTAL --------------------------------------------------------- ------------ -------------- ------------ Premiums due and uncollected and experience rated refunds $ (60,297) $ (55,223) $ (115,520) Aggregate reserves and contract claims liabilities (1,158,625) (1,946,555) (3,105,180) Funds held under reinsurance treaties (818,362) - (818,362) Other amounts due from reinsurers 37,362 36,902 74,264 INCOME STATEMENT --------------------------------------------------------- ----------- ----------- ----------- Premiums and annuity considerations (228,477) (321,775) (550,252) Commissions and expense allowances on reinsurance ceded 10,770 73,954 84,724 Policy benefits and increase in reserves (18,727) (26,420) (45,147) Interest on funds withheld for reinsurers 58,543 - 58,543 DECEMBER 31, 2005 (RESTATED) BALANCE SHEET AFFILIATED NON-AFFILIATED TOTAL --------------------------------------------------------- ------------ -------------- ------------ Premiums due and uncollected and experience rated refunds $ (30,475) $ ( 79,273) $ (109,748) Aggregate reserves and contract claims liabilities (1,673,901) (1,485,282) (3,159,183) Funds held under reinsurance treaties (841,508) - (841,508) Other amounts due from reinsurers 14,287 42,659 56,946 INCOME STATEMENT --------------------------------------------------------- ----------- ----------- ----------- Premiums and annuity considerations (244,282) (337,337) (581,619) Commissions and expense allowances on reinsurance ceded 1,927 75,338 77,265 Policy benefits and increase in reserves (295,732) (665,448) (961,180) Interest on funds withheld for reinsurers 40,995 - 40,995 DECEMBER 31, 2004 (RESTATED) BALANCE SHEET AFFILIATED NON-AFFILIATED TOTAL --------------------------------------------------------- ------------ -------------- ------------ Premiums due and uncollected and experience rated refunds $ - $ (85,996) $ (85,996) Aggregate reserves and contract claims liabilities (1,062,752) (1,128,137) (2,190,889) Funds held under reinsurance treaties (708,567) - (708,567) Other amounts due from reinsurers 70 (1,166) (1,096) INCOME STATEMENT --------------------------------------------------------- ----------- ----------- ----------- Premiums and annuity considerations (229,405) (346,439) (575,844) Commissions and expense allowances on reinsurance ceded 23,699 214,300 237,999 Policy benefits and increase in reserves (1,117,537) 1,442,904 325,367 Interest on funds withheld for reinsurers 19,206 - 19,206
11. RELATED PARTY TRANSACTIONS See Note 10 for disclosures regarding the Company's reinsurance activity with affiliates. The Company had net amounts due to (from) affiliates of $6,130 and $(2,807) at December 31, 2006 and 2005, respectively. Settlements take place quarterly. SRAM, an affiliated entity, provides the Company with investment management and investment accounting services. SRAM manages the Company's portfolio of investments on behalf of and within the parameters established by the Company. The Company pays SRAM a fee for services based upon the fair value of the securities in the Company's portfolio. Fees are payable quarterly in advance and amounted to $4,901 in 2006, $3,285 in 2005 and $3,737 in 2004. 22 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Effective May 1, 2006, the Company became a party to a Securities Lending agreement with SRAM. Pursuant to this agreement, SRAM performs certain securities lending services for the Company for a fee. No fees were incurred for the year ended December 31, 2006. Effective October 1, 2006, the Company entered into an agreement with the Parent under which the Parent provides certain general management services to the Company. The Company reimburses the Parent for the cost of salaries and related benefits incurred by the Parent on behalf of the Company. During 2006, the Company incurred related costs of $4,455. Costs are settled quarterly. Prior to its acquisition by SRLHA, under a pooling agreement, the Company ceded 100% of its net business before pooling to CAC and in turn received 10% of the pooled underwriting results of CAC and the Company. CAC retained 90% of the pooled results. Effective January 1, 2004, the pooling agreement was commuted, with each company recapturing the business formerly ceded to the pool. As a result of the commutation, total assets and total liabilities each increased by approximately $1,715,000 during 2004. In conjunction with the commutation, the Company recorded a capital contribution of $311,800 from its former parent, CAC, to account for the deferred taxes associated with the transfer of the assets and liabilities during 2004. As a result, the commutation had no net impact on surplus. The Company (as successor by merger to Sage Life) and SLD are parties to an expense reimbursement agreement dated May 14, 2003. The expense reimbursement agreement provides that the Company shall reimburse SLD for any and all expenses it incurs in connection with acting as underwriter for the Company's variable annuity and variable life insurance products, as required under federal securities law. In 2006, the Company reimbursed SLD $136 under the expense reimbursement agreement. 12. COMMITMENTS AND CONTINGENCIES From time to time, legal actions against the Company have arisen in the ordinary course of its business. In the judgment of management, resolution of contingent liabilities and other matters would not have a material effect on the Company's capital and surplus. 13. BENEFIT PLANS DEFINED BENEFIT PLAN In 1978, SWL established a Post-Retirement Death Benefit Plan for certain key officers of SWL. This plan was closed to new additions in 1987. The Company (as successor by merger to SWL) is the owner and beneficiary of all policies. As of December 31, 2006 and 2005, the cash value of these policies was $1,539 and $1,504, respectively, and was recorded in other admitted assets. The Company (as successor by merger to SWL) has a deferred compensation plan for agents whereby agents can defer commissions and certain other payments. At December 31, 2006 and 2005, the liability for this plan was $910 and $126, respectively, and was recorded in other liabilities. 23 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Retirement and Profit Sharing Plan Prior to its acquisition, SWL had no direct employees but was party to a management and services agreement with Southwestern Financial Services Corporation ("SFSC"), an affiliated entity. Eligible employees of SFSC could elect to participate in Southwestern Life Holdings Inc.'s defined contribution 401(k) retirement plan ("SWL Holdings Plan"). Employees were eligible to participate in the plan after six months of employment in which they were credited with at least 500 hours of service. Participants could contribute from 1% to 15% of pre-tax compensation and/or from 1% to 10% of after tax compensation. Each pay period, SWL matched 50% of participants' pre-tax contributions up to 6% of the participants' compensation. If approved by the board of directors, SWL could make a discretionary profit sharing contribution annually on behalf of employees eligible to participate in the plan based on their compensation for the prior plan year. Employee contributions were fully vested at all times. The employer matching contributions made for employees who participated in the SWL Holdings Plan prior to January 1, 1998 vested at the rate of 50% per calendar year of service. The employer matching contributions made for all other participants and the employer discretionary contribution vested at the rate of 20% per year of service. All participants were fully vested at death, disability or attainment of age 65. The assets of each account were invested at the direction of the participant. Eleven funds with various investment objectives were available to the participants. Distributions were normally made in a lump sum. Participants of the SWL Holdings Plan prior to January 1, 1998 could elect to receive an annuity in various forms of payment. In connection with its acquisition, all employees of SFSC were terminated by August 31, 2001. The SWL Holdings Plan is an inactive plan and the Company (as successor by merger to SWL) has no financial obligation. SWL continues to administer the SWL Holding Plan. The Company did not incur any expenses related to this plan in the years ended December 31, 2006, 2005 and 2004, respectively. Postretirement Plan Employees of SFSC were eligible for postretirement life insurance and medical coverage on themselves and their covered dependents if they retired at age 55 or later with 10 years or more of service. Employees and agents of SWL who retired before January 1, 1988, their dependents and surviving spouses also have these benefits. Retirees over age 65 may elect either a Medicare exclusion plan requiring premium payments or reduce coverage under a Medicare carve-out plan with lower premiums. The expected cost of providing these benefits is accrued prior to an employee's retirement. Effective October 1, 2000, SWL closed new enrollment under the plan and the plan is only open to employees who were eligible as of October 1, 2000. The Company (as successor by merger to SWL) continues to administer the post-retirement plan. The post-retirement benefit liability was calculated assuming a discount rate of 5.75% and an annual trend rate in health care inflation of 9.0% pre-65 and 11.0% post-65 in 2007 grading down to 5.5% to the year 2013. 24 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The components of the accumulated post-retirement benefit obligation for active not eligible employees, current retirees and fully eligible or vested employees as of December 31, 2006 and 2005 allocated to the Company (as successor by merger to SWL) were as follows:
2006 2005 ------- ------- Accumulated benefit obligation $10,400 $11,721 Less plan assets at fair value - - ------- ------- Accumulated benefit obligation in excess of plan assets 10,400 11,721 Unrecognized net loss (5,582) (7,364) Unrecognized prior service cost 576 629 Fourth quarter contributions (363) (359) ------- ------- Post retirement benefit liability included in other liabilities $ 5,031 $ 4,627 ======= =======
In determining its expense for post-retirement benefits for the year ended December 31, 2006, the Company (as successor by merger to SWL) has assumed a discount rate of 5.5%, average salary growth of 0.0% and medical expenses of 10.0% grading down to 5.5% to the year 2014. The effect of a 1% increase in the medical expense trend would be $680 on the Company's year end expected benefit obligation and would not be material for the year ended December 31, 2006. DEFINED CONTRIBUTION PLAN The Swiss Re Group U.S. Employees' Savings Plan (the "Savings Plan") is a defined contribution plan in which eligible employees may elect to participate. The Savings Plan provides for contributions by employees and matching contributions by SRLHA, subject to certain limitations. Expenses incurred in connection with the Savings Plan are allocated to the Company by the Parent in accordance with the intercompany cost sharing agreement. The Company established a 401K Plan in 2004. The plan was a defined contribution plan in which eligible employees of the Company could participate. The plan provided for contribution by employees in matching contributions by the Company, subject to certain limitations. Matching contributions of $1,280 and $400 were made in 2005 and 2004, respectively. There were no matching contributions in 2006 as there are no longer any employees of the Company. 14. PARTICIPATING POLICIES As of December 31, 2006 and 2005, the Company's participating policies represented less than 1% of total in force. Dividends are accounted for on the policy anniversary. A liability is established for dividends anticipated to be paid in the subsequent calendar year. The Company did not allocate any additional income to participating policyholders during these years. 25 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 15. SEPARATE ACCOUNTS The assets of separate accounts containing variable annuities and variable universal life insurance are carried at fair value and consist primarily of mutual funds held by the Company for the benefit of contract holders. The reserves for these products consist of the fund value less a Commissioners' Annuity Reserve Valuation Method ("CARVM") (for variable annuities) or Commissioners' Reserve Valuation Method ("CRVM") (for variable life) allowance. Deposits received from, and benefits paid to, separate account contract holders are recorded as an increase in, or a direct charge to, policy reserves. Investment income and realized and unrealized capital gains and losses related to the assets which support the variable life and annuity contracts are not reflected in the Company's statutory-basis statements of operations. The assets of separate accounts containing market value adjusted annuities are carried at fair value. Investment income, including realized and unrealized capital gains and losses, related to the assets which support the market value adjusted annuities accrues to the Company. Investment income is recorded by the Company and reflected in the accompanying statutory-basis statements of operations in "Net transfer to (from) Separate Accounts". Liabilities for such contracts are valued using market interest rates. Asset-backed securities are stated at either amortized cost or the lower of amortized cost or fair value, and the securities are revalued with new prepayment assumptions using the retrospective or prospective adjustment methodologies based on the types of asset-backed securities. Fixed rate securities are revalued using the retrospective method and variable rate securities are revalued using the prospective method. 26 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The following tables set forth Separate Accounts Reserves by asset valuation basis and Separate Accounts Reserves by withdrawal characteristics as of December 31, 2006 and 2005.
NONINDEXED NONINDEXED NONGUARANTEED DECEMBER 31, 2006 GUARANTEE GUARANTEE SEPARATE 4% ACCOUNTS TOTAL ----------------------------------------------------------- PREMIUMS, DEPOSITS AND OTHER CONSIDERATIONS: $ 5 $ - $ 25 $ 30 =========================================================== RESERVES BY VALUATION BASIS: Fair value $15,673 $36,759 $281,546 $333,978 Amortized cost 3,462 5,304 - 8,766 ----------------------------------------------------------- Total reserves $19,135 $42,063 $281,546 $342,744 =========================================================== RESERVES BY WITHDRAWAL CHARACTERISTIC: Subject to discretionary withdrawal With market value adjustment $19,135 $36,409 $ - $ 55,544 At market value - 5,430 281,546 286,976 ----------------------------------------------------------- Subtotal 19,135 41,839 281,546 342,520 ----------------------------------------------------------- Not subject to discretionary withdrawal - 224 - 224 ----------------------------------------------------------- Total deposit fund liabilites $19,135 $42,063 $281,546 $342,744 =========================================================== NONINDEXED NONINDEXED NONGUARANTEED DECEMBER 31, 2005 (RESTATED) GUARANTEE GUARANTEE SEPARATE 4% ACCOUNTS TOTAL ----------------------------------------------------------- PREMIUMS, DEPOSITS AND OTHER CONSIDERATIONS: $ 4 $ - $ (4,385) $ (4,381) =========================================================== RESERVES BY VALUATION BASIS: Fair value $ 5,408 $48,621 $372,330 $426,359 Amortized cost 5,733 5,294 - 11,027 ----------------------------------------------------------- Total reserves $11,141 $53,915 $372,330 $437,386 =========================================================== RESERVES BY WITHDRAWAL CHARACTERISTIC: Subject to discretionary withdrawal With market value adjustment $ 5,733 $53,915 $ - $ 59,648 At market value 5,385 - 372,330 377,715 Not subject to discretionary withdrawal 23 - - $ 23 ------------------------------------------------------------- Total deposit fund liabilities $11,141 $53,915 $372,330 $437,386 =============================================================
27 VALLEY FORGE LIFE INSURANCE COMPANY Notes to Financial Statements (Statutory-Basis) December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The following table reconciles net transfers (from) to Separate Accounts:
DECEMBER 31, ----------------------------------------- 2006 2005 2004 (RESTATED) (RESTATED) ---------- ---------- ---------- Transfers as reported in the Statements of Operations of the Separate Accounts Annual Statement: Transfers to separate accounts $ 3,528 $ 4,543 $ 6,613 Transfers from separate accounts (136,609) (141,425) (104,787) ---------- ---------- ---------- Net transfers to separate accounts $(133,081) $(136,882) $ (98,174) Reconciling adjustments: Reinsurance to Phoenix 114,385 116,842 $ 74,531 Mortality and expense risk factor adjustments - - 102 ---------- ---------- ---------- Transfers as reported in the Statements of Operations $ (18,696) $ (20,040) $ (23,541) ========== ========== ==========
Variable Life and Annuity Transaction - Effective July 1, 2002 the Company entered into modified coinsurance and coinsurance agreements to cede its variable life and annuity net liabilities (primarily separate account policy reserves) to an insurance subsidiary of The Phoenix Companies, Inc. This resulted in an after tax gain of $20,150, which was deferred and amortized over the expected life of the policies. In 2005, it was fully amortized and the amount recognized in income was $5,757 in 2005 and $8,900 in 2004. 16. SUBSEQUENT EVENTS On May 17, 2007, after receiving approval from the Department, the Company paid a cash dividend to its Parent, of $290,000. 28 VALLEY FORGE LIFE INSURANCE COMPANY Supplemental Schedule of Selected Statutory Basis Financial Data December 31, 2006 (in thousands) -------------------------------------------------------------------------------- INVESTMENT INCOME EARNED Government bonds $ 52,778 Other bonds (unaffiliated) 159,527 Preferred stocks (unaffiliated) 8,131 Mortgage loans 109 Real estate 384 Contract loans 13,488 Cash and short-term investments 6,896 Other invested assets 812 Aggregate write-ins for investment income 184 ---------- GROSS INVESTMENT INCOME $ 242,309 ========== BONDS AND SHORT-TERM INVESTMENTS BY MATURITY AND CLASS Bonds and short-term investments by maturity (amortized cost): Due within one year or less $ 422,459 Over one year through five years 557,315 Over five years through ten years 823,579 Over ten years through twenty years 1,066,478 Over twenty years 853,074 ---------- TOTAL BY MATURITY $3,722,905 ========== BONDS AND SHORT-TERM INVESTMENTS BY CLASS (AMORTIZED COST) Class 1 $3,128,403 Class 2 524,682 Class 3 34,582 Class 4 34,095 Class 5 698 Class 6 445 ---------- TOTAL BY CLASS $3,722,905 ==========
29 VALLEY FORGE LIFE INSURANCE COMPANY Supplemental Schedule of Selected Statutory Basis Financial Data December 31, 2006 (in thousands) -------------------------------------------------------------------------------- LIFE INSURANCE IN FORCE Ordinary $272,579,774 Group life 690,371 AMOUNT OF ACCIDENTAL DEATH INSURANCE IN FORCE UNDER ORDINARY POLICIES Ordinary $ 3,946,356 Group life - LIFE INSURANCE POLICIES WITH DISABILITY PROVISIONS IN FORCE Ordinary $ 8,594,201 Group life 31,033 SUPPLEMENTAL CONTRACTS IN FORCE Ordinary - not involving life contingencies - income payable $ 1,352 Ordinary - not involving life contingencies - amount on deposit 83,461 Group - not involving life contingencies - income payable 268 Ordinary - involving life contingencies - income payable 4,642 Group - involving life contingencies - income payable - Group - involving life contingencies - amount on deposit - ANNUITIES (ORDINARY) Immediate - amount of income payable $ 2,411 Deferred - fully paid account balance 207,751 Deferred - not fully paid account balance - Group - Amount of income payable 2,325 Group - fully paid account balance 166,373 Group - not fully paid account balance - ACCIDENT AND HEALTH INSURANCE - PREMIUMS IN FORCE Ordinary $ 4,746 Group - DEPOSIT FUNDS AND DIVIDEND ACCUMULATIONS Deposit funds - account balance 33,795 Dividend accumulations - account balance $ 14,260
30 VALLEY FORGE LIFE INSURANCE COMPANY Supplemental Schedule of Investment Risks Interrogatories December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 1. The Company's total admitted assets (excluding separate account assets) as reported in the Statements of Admitted Assets, Liabilities and Surplus was $4,106,104 at December 31, 2006. 2. The 10 largest exposures to a single issuer/borrower/investment, by investment category, excluding: (i) U.S. government, U.S. government agency securities and those U.S. Government money market funds listed in the Appendix to the SVO Purposes and Procedures Manual as exempt, (ii) property occupied by the Company, and (iii) policy loans at December 31, 2006 are as follows:
% OF TOTAL INVESTMENT CATEGORY AMOUNT ADMITTED ASSETS -------- --------------- JP Morgan Chase & Company $37,944 0.9% Morgan Stanley Dean Witter 31,836 0.8% Four Time Square 25,124 0.6% Sonic Capital LLC 24,999 0.6% Bank of America 24,262 0.6% Countrywide Alternative 22,511 0.5% UBS AG 21,979 0.5% Conoco Philips 21,490 0.5% Wachovia Corporation 20,517 0.5% Merrill Lynch & Company 20,449 0.5%
3. The amounts and percentages of the Company's total admitted assets held in bonds and preferred stocks by NAIC rating is as follows:
BONDS PREFERRED STOCK ------------------------------------- -------------------------------- NAIC-1 $3,128,403 76.2% P/RP-1 33,037 0.8% NAIC-2 524,682 12.8% P/RP-2 73,314 1.8% NAIC-3 34,582 0.8% P/RP-3 - 0.0% NAIC-4 34,095 0.8% P/RP-4 - 0.0% NAIC-5 698 0.0% P/RP-5 - 0.0% NAIC-6 445 0.0% P/RP-6 - 0.0%
4. Assets held in foreign investments are greater than 2.5% of the Company's total admitted assets. Total admitted assets held in foreign investments were $324,523; there were no foreign-currency-denominated investments or insurance liabilities. 5. The aggregate foreign investment exposure categorized by the country's NAIC sovereign rating is as follows:
% OF TOTAL ADMITTED AMOUNT ASSETS -------- ------------------- Countries rated NAIC-1 $274,490 6.7% Countries rated NAIC-2 29,176 0.7% Countries rated NAIC-3 or below 20,857 0.5% -------- --- $324,523 7.9% ======== ===
31 VALLEY FORGE LIFE INSURANCE COMPANY Supplemental Schedule of Investment Risks Interrogatories December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 6. The two largest foreign investment exposures to a single country, categorized by the country's NAIC sovereign rating was as follows:
AMOUNT PERCENTAGE -------- ---------- COUNTRIES RATED NAIC 1 Israel $80,164 2.0% United Kingdom 79,942 1.9% COUNTRIES RATED NAIC-2 Mexico 20,761 0.5% South Africa 4,348 0.1% COUNTRIES RATED NAIC-3 OR BELOW Supra National 10,467 0.3% Panama 10,390 0.3%
7. The Company has no unhedged foreign currency investments. 8. The 10 largest non-sovereign foreign issues by NAIC rating are as follows:
PERCENTAGE OF TOTAL ADMITTED INVESTMENT CATEGORY AMOUNT ASSETS ---------------------------------------------------- -------------- Aid-Israel $75,366 1.8% HBOS Plc 10,943 0.3% Household Finance Corporation 10,831 0.3% Carnival Corporation 10,390 0.3% Wolseley Capital Inc. 10,000 0.2% Bertlsmann US Finance Inc. 10,000 0.2% Nakilat Inc. 10,000 0.2% United Overseas Bank 9,998 0.2% Nationwide Building Society 9,962 0.2% BSKYB Finance UK Ltd. 9,844 0.2%
9. Assets held in Canadian investments are less than 2.5% of the Company's total admitted assets. 10. Assets held in investments with contractual sales restrictions are less than 2.5% of the Company's total admitted assets. 11. Assets held in equity interest are less than 2.5% of the Company's total admitted assets. 12. Assets held in non-affiliated, privately placed equities are less than 2.5% of the Company's total admitted assets. 13. Assets held in general partnership interests are less than 2.5% of the Company's total admitted assets. 32 VALLEY FORGE LIFE INSURANCE COMPANY Supplemental Schedule of Investment Risks Interrogatories December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 14. Mortgage loans reported in Schedule B are less than 2.5% of the Company's total admitted assets. 15. Assets held in real estate are less than 2.5% of the Company's total admitted assets. 16. The amounts and percentages of the Company's total admitted assets do not include the investment types listed below because the Company did not own any of these investments at December 31, 2006. Securities Lending Repurchase agreements Reverse repurchase agreements Dollar repurchase agreements Dollar reverse repurchase agreements 17. The Company has no warrants. 18. The Company has no potential exposure for collars, swaps and forwards. 19. The Company has no potential exposure for futures contracts. 33 VALLEY FORGE LIFE INSURANCE COMPANY Summary Investment Schedule December 31, 2006 (in thousands) --------------------------------------------------------------------------------
ADMITTED ASSETS AS REPORTED GROSS INVESTMENT HOLDINGS IN THE ANNUAL STATEMENT --------------------------- --------------------------- AMOUNT % AMOUNT % ----------- --------- -------------- --------- BONDS U.S. treasury securities $ 85,076 2.117 $ 85,076 2.117 U.S. government agency and corporate obligations (excluding mortgage-backed securities) Issued by U.S. government agencies 16,023 0.399 16,023 0.399 Issued by U.S. government sponsored agencies 710,119 17.666 710,119 17.666 Foreign government (including Canada, excluding mortgage-backed securities) 116,912 2.909 116,912 2.909 Securities issued by states, territories and possessions and political subdivisions in the U.S.: State, territory and possession general obligations - 0.000 - 0.000 Political subdivisions of states, territories and possessions general obligations 5,000 0.124 5,000 0.124 Revenue and assessment obligations 12,013 0.299 12,013 0.299 Industrial development and similar obligations - 0.000 - 0.000 Mortgage-backed securities (includes residential and commercial MBS): Pass-through securities: Guaranteed by GNMA 24,128 0.600 24,128 0.600 Issued by FNMA and FHLMC 81,333 2.023 81,333 2.023 All other - 0.000 - 0.000 CMOs and REMICs Issued by GNMA, FNMA and FHLMC 514,664 12.804 514,664 12.804 All other privately issued 77,294 1.923 77,294 1.923 OTHER DEBT AND OTHER FIXED INCOME SECURITIES (excluding short term): 1,454,317 36.180 1,454,317 36.180 Unaffiliated domestic securities (includes credit tenant loans rated by the SVO) Unaffiliated foreign securities 318,494 7.923 318,494 7.923 EQUITY INTEREST Preferred stock Unaffiliated 106,351 2.646 106,351 2.646 Publicly traded equity securities Unaffiliated 12 0.000 12 0.000 OTHER EQUITY SECURITIES Affiliated 43 0.001 43 0.001 MORTGAGE LOANS Single family residential - 0.000 - 0.000 Commericial loans 1,561 0.039 1,561 0.039 REAL ESTATE INVESTMENTS Property held for sale - 0.000 - 0.000 CONTRACT LOANS 201,420 5.010 201,420 5.010 RECEIVABLE FOR SECURITIES 1,320 0.033 1,320 0.033 CASH AND SHORT-TERM INVESTMENTS 273,722 6.810 273,722 6.810 OTHER INVESTED ASSETS 19,843 0.494 19,843 0.494 -------------------------------------------------------- TOTAL INVESTED ASSETS $4,019,645 100.000 $4,019,645 100.000 ========================================================
34 VALLEY FORGE LIFE INSURANCE COMPANY Note to Supplemental Schedules of Selected Statutory-Basis Financial Data December 31, 2006 (in thousands) -------------------------------------------------------------------------------- NOTE - BASIS OF PRESENTATION The accompanying schedules present selected statutory-basis financial data as of December 31, 2006 and for the year then ended for purposes of complying with paragraph 9 of the Annual Audited Financial Reports in the General section of the National Association of Insurance Commissioners' Annual Statement Instructions and agrees to or is included in the amounts reported in the Company's 2006 Statutory Annual Statement as filed with the Indiana Department of Insurance. 35 REASSURE AMERICA LIFE INSURANCE COMPANY (A WHOLLY-OWNED SUBSIDIARY OF SWISS RE LIFE & HEALTH AMERICA INC.) STATUTORY-BASIS FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 REASSURE AMERICA LIFE INSURANCE COMPANY Index -------------------------------------------------------------------------------- Report of Independent Auditors 1 Statutory-Basis Financial Statements and Notes 3 Supplemental Schedule of Selected Statutory-Basis Financial Data 25 Supplemental Schedule of Investment Risks Interrogatories 27 Summary Investment Schedule 31 Note to Supplemental Schedules of Selected Statutory-Basis Financial Data 32
REASSURE AMERICA LIFE INSURANCE COMPANY Report of Independent Auditors -------------------------------------------------------------------------------- REPORT OF INDEPENDENT AUDITORS To the Board of Directors and Shareholder of Reassure America Life Insurance Company: We have audited the accompanying statutory-basis balance sheets of Reassure America Life Insurance Company (the "Company") as of December 31, 2006 and 2005, and the related statutory statements of operations and changes in capital and surplus, and cash flows for each of the three years then ended. 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 audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. As described in Note 1 to the financial statements, the Company prepared these financial statements using accounting practices prescribed or permitted by the Illinois Department of Financial and Professional Regulation, which practices differ from accounting principles generally accepted in the United States of America. The effects on the financial statements of the variances between the statutory basis of accounting and accounting principles generally accepted in the United States of America, although not reasonably determinable, are presumed to be material. In our opinion, because of the effects of the matter discussed in the preceding paragraph, the financial statements referred to above do not present fairly, in conformity with accounting principles generally accepted in the United States of America, the financial position of the Company as of December 31, 2006 and 2005, or the results of its operations or its cash flows for each of the three years then ended. In our opinion, the financial statements referred to above present fairly, in all material respects, the admitted assets, liabilities and surplus of the Company as of December 31, 2006 and 2005, and the results of its operations and its cash flows for each of the three years then ended, on the basis of accounting described in Note 1. 1 REASSURE AMERICA LIFE INSURANCE COMPANY Report of Independent Auditors -------------------------------------------------------------------------------- REPORT OF INDEPENDENT AUDITORS (CONTINUED) Our audit was conducted for the purpose of forming an opinion on the basic statutory-basis financial statements taken as a whole. The accompanying Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule of the Company as of December 31, 2006 and for the year then ended are presented for purposes of additional analysis and are not a required part of the basic statutory-basis financial statements. The effects on the Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule of the variances between the statutory basis of accounting and accounting principles generally accepted in the United States of America, although not reasonably determinable, are presumed to be material. As a consequence, the Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule do not present fairly, in conformity with accounting principles generally accepted in the United States of America, such information of the Company as of December 31, 2006 and for the year then ended. The Supplemental Schedule of Selected Statutory-Basis Financial Data, Supplemental Schedule of Investment Risks Interrogatories and Summary Investment Schedule have been subjected to the auditing procedures applied in the audit of the basic statutory basis financial statements and, in our opinion, are fairly stated in all material respects in relation to the basic statutory basis financial statements taken as a whole. April 26, 2007, except for the subsequent events discussed in Note 16, as to which the date is September 27, 2007 2 REASSURE AMERICA LIFE INSURANCE COMPANY Balance Sheets (Statutory-Basis) --------------------------------------------------------------------------------
DECEMBER 31, ---------------------------------- 2006 2005 ----------- ------------- (IN THOUSANDS, EXCEPT SHARE DATA) ADMITTED ASSETS Bonds $ 6,479,213 $ 7,447,917 Preferred stocks 66,559 7,598 Mortgage loans 197,591 274,367 Real estate 332 838 Cash (including short-term investments of $638,614 and $170,081, respectively) 713,549 154,865 Contract loans 3,599,642 3,388,281 Other invested assets 5,095 11,314 ----------- ----------- CASH AND INVESTED ASSETS 11,061,981 11,285,180 Accrued investment income 245,573 251,887 Premiums due and uncollected 10,281 4,983 Amounts due from reinsurers 87,405 66,339 Net deferred federal income tax asset 28,980 28,956 Other admitted assets 6,302 2,000 ----------- ----------- TOTAL ADMITTED ASSETS $11,440,522 $11,639,345 =========== =========== LIABILITIES Aggregate reserves for life, accident and health and annuity contracts $ 2,750,687 $ 2,834,919 Funds held under reinsurance treaties with affiliates 7,763,375 7,651,168 Liability for deposit-type contracts 146,318 176,958 Policy claims and benefits on life and accident and health contracts 35,499 38,680 Other contract liabilities 134,228 69,572 Interest maintenance reserve 35,637 47,393 Federal income taxes payable - 30,983 Commissions and expense allowances on reinsurance assumed 20,439 8,145 Accounts payable and accrued expenses 41,186 38,747 Payable to affiliates 20,630 8,258 Borrowed funds 75,789 75,659 Asset valuation reserve 44,779 46,069 Other liabilities 33,722 51,268 ----------- ----------- TOTAL LIABILITIES 11,102,289 11,077,819 ----------- ----------- CAPITAL AND SURPLUS Common stock - par value $3 per share: authorized 2,000,000 shares; issued and outstanding, 833,334 shares 2,500 2,500 Gross paid-in and contributed capital 236,701 531,701 Special surplus 798,819 826,102 Deficit (699,787) (798,777) ----------- ----------- TOTAL CAPITAL AND SURPLUS 338,233 561,526 ----------- ----------- TOTAL LIABILITIES, CAPITAL AND SURPLUS $11,440,522 $11,639,345 =========== ===========
The accompanying notes are an integral component of the financial statements 3 REASSURE AMERICA LIFE INSURANCE COMPANY Statements of Operations and Changes in Capital and Surplus (Statutory-Basis) --------------------------------------------------------------------------------
YEARS ENDED DECEMBER 31, ----------------------------------------------- 2006 2005 2004 ---------- -------------- ---------- (IN THOUSANDS) REVENUES Premiums and annuity considerations $ 210,204 $ (925,655) $ (124,746) Net investment income 800,116 806,151 768,183 Amortization of interest maintenance reserve 8,025 6,782 8,492 Commissions and expense allowances on reinsurance ceded 95,551 138,947 150,480 Reserve adjustments on modified coinsurance, net 293,800 266,899 326,192 Other revenues 21,076 21,439 20,859 ---------- ----------- ---------- TOTAL REVENUES 1,428,772 314,563 1,149,460 ---------- ----------- ---------- BENEFITS AND EXPENSES Policy claims and benefits 607,096 521,423 765,691 Decrease in aggregate reserves for life and accident and health (84,232) (1,148,479) (520,805) contracts Commissions and expense allowances 58,002 94,731 91,182 General insurance expenses and taxes, licenses and fees 111,811 114,189 116,495 Interest on funds held for reinsurers 603,976 624,605 495,320 Other expenses 26,000 11,753 - ---------- ----------- ---------- TOTAL BENEFITS AND EXPENSES 1,322,653 218,222 947,883 ---------- ----------- ---------- Gain from operations before dividends to policyholders, federal income taxes, and net realized capital gains (losses) 106,119 96,341 201,577 Dividends to policyholders 8,189 4,993 8,383 Federal income tax (benefit) expense on operations (7,649) 31,933 46,815 ---------- ----------- ---------- GAIN FROM OPERATIONS BEFORE NET REALIZED CAPITAL GAINS (LOSSES) 105,579 59,415 146,379 Net realized capital gains, less federal income tax expense of $91, $2,951 and $0, respectively, and excluding net gains (losses) of $(3,730), $20,349 and $6,763, respectively, transferred to the interest maintenance reserve (15,544) 171 8,436 ---------- ----------- ---------- NET INCOME 90,035 59,586 154,815 OTHER CHANGES IN CAPITAL AND SURPLUS Change in net unrealized capital gains (losses) 3,743 (1,138) (120) Change in net deferred income tax (10,571) (59,329) (44,764) Change in non-admitted assets 16,684 51,250 61,290 Change in liability for reinsurance in unauthorized companies - 6 3 Change in asset valuation reserve 1,289 (686) (11,862) Change in capitalized ceding commissions (27,283) 152,587 56,074 Cumulative effect of changes in accounting principles (2,190) - - Dividend to parent (295,000) (220,000) - Capital contributed - - 4,701 ---------- ----------- ---------- NET INCOME AND OTHER CHANGES IN CAPITAL AND SURPLUS (223,293) (17,724) 220,137 Capital and surplus, beginning of year 561,526 579,250 359,113 ---------- ----------- ---------- CAPITAL AND SURPLUS, END OF YEAR $ 338,233 $ 561,526 $ 579,250 ========== =========== ==========
The accompanying notes are an integral component of the financial statements 4 REASSURE AMERICA LIFE INSURANCE COMPANY Statements of Cash Flows (Statutory-Basis) --------------------------------------------------------------------------------
YEARS ENDED DECEMBER 31, ----------------------------------------------- 2006 2005 2004 ---------- -------------- ---------- (IN THOUSANDS) CASH FROM OPERATIONS Premiums collected, net of reinsurance $ 205,599 $ 605,815 $ 554,098 Net investment income 783,949 791,675 760,760 Modified coinsurance agreements 293,800 266,899 326,192 Commissions and other expenses paid (693,692) (543,095) (425,494) Benefits and loss related payments (595,991) (509,730) (856,572) Dividends paid to policyholders (8,111) (9,717) (6,647) Federal income taxes paid (31,736) (59,183) (55,361) Miscellaneous sources 132,792 9,788 5,557 ---------- ---------- ---------- NET CASH PROVIDED BY OPERATIONS 86,610 552,452 302,533 ---------- ---------- ---------- CASH FROM INVESTING ACTIVITIES Proceeds from investments sold, matured or repaid Bonds 2,062,486 1,993,106 1,308,568 Stocks 14,249 7,409 1,510 Mortgage loans 80,051 58,298 56,826 Real estate 1,038 1,159 1,481 Other invested assets (187) (101) 377 ---------- ---------- ---------- Total investment proceeds 2,157,637 2,059,871 1,368,762 ---------- ---------- ---------- Cost of investments acquired Bonds 1,153,272 2,242,360 1,366,966 Stocks 7,551 224 250 Real estate - 644 685 Miscellaneous applications - 956 2,477 ---------- ---------- ---------- Total cost of investments acquired 1,160,823 2,244,184 1,370,378 Net increase in contract loans 211,434 143,891 181,954 ---------- ---------- ---------- NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 785,380 (328,204) (183,570) ---------- ---------- ---------- CASH FROM FINANCING AND MISCELLANEOUS ACTIVITIES Amounts repaid under reverse repurchase agreements 130 (14,503) (212,013) Deposits on deposit-type contract funds (30,639) 8,852 6,137 Statutory merger transaction - - 5,740 Dividend to parent (295,000) (220,000) - Other, net 12,203 (36,567) (964) ---------- ---------- ---------- NET CASH USED IN FINANCING AND MISCELLANEOUS ACTIVITIES (313,306) (262,218) (201,100) ---------- ---------- ---------- NET INCREASE (DECREASE) IN CASH AND SHORT-TERM INVESTMENTS 558,684 (37,970) (82,137) Cash and short-term investments Beginning of year 154,865 192,835 274,972 ---------- ---------- ---------- END OF YEAR $ 713,549 $ 154,865 $ 192,835 ========== ========== ==========
The accompanying notes are an integral component of the financial statements 5 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 1. BASIS OF PRESENTATION AND NATURE OF BUSINESS ORGANIZATION Reassure America Life Insurance Company (the "Company"), an Illinois-domiciled insurance company, is a wholly-owned subsidiary of Swiss Re Life & Health America Inc. (the "Parent" or "SRLHA"), which in turn is, a wholly-owned indirect subsidiary of Swiss Reinsurance Company of Zurich, Switzerland ("SRZ"). The Company has a wholly-owned insurance subsidiary, Aldgate Reinsurance Company Limited ("Aldgate"), a long-term insurance company domiciled in Bermuda. Aldgate was formed on November 5, 2004. On December 29, 2004, the Company made a capital contribution of $250 in exchange for all the issued and outstanding capital stock of Aldgate. On December 31, 2004, Mission Life Corporation ("MLC"), an affiliated company, transferred to the Company all of its interests in Mission Life Insurance Company of America ("Mission"). The Company did not issue any stock and no consideration was given to MLC. Upon the transfer, Mission was merged with and into the Company. The transaction was accounted for as a statutory merger. BUSINESS The Company's primary business activity is Administrative Reinsurance ("Admin ReSM"), which involves the acquisition of blocks of life insurance, including corporate owned life insurance, disability income and/or annuity contracts in force. The Company has obtained its Admin ReSM business through purchases of life insurance companies and also through indemnity coinsurance or assumption reinsurance agreements with ceding insurers. The Company typically assumes responsibility for policy administration for business obtained through these transactions, which it outsources to third party administrators. The Company is licensed in the District of Columbia, Puerto Rico and all states, except New York. BASIS OF PRESENTATION The accompanying financial statements of the Company have been prepared in accordance with accounting practices prescribed or permitted by the Illinois Department of Financial and Professional Regulation (the "Department"). Pursuant to Illinois Insurance Law, the Department recognizes as "prescribed" practices the codified statements of statutory accounting principles ("SSAP") incorporated into the National Association of Insurance Commissioners' ("NAIC") Accounting Practices and Procedures Manual. "Permitted" statutory accounting practices encompass all accounting practices that are not prescribed; such practices may differ from state to state, may differ from company to company within a state, and may change in the future. ESTIMATES, RISK AND UNCERTAINTIES The preparation of financial statements requires the use of estimates and assumptions developed by management. Any adjustments to reported bases of assets or liabilities resulting from changes in estimates are recognized in the period the estimates are revised. 6 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Mortality experience is a significant factor in the determination of the results of operations. This factor is generally predictable over time but is subject to fluctuations from year to year. A significant fluctuation from year to year could adversely affect the Company's results of operations. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Statutory accounting practices followed by the Company differ from accounting principles generally accepted in the United States of America ("GAAP"). The more significant variances from GAAP are as follows: Investments: The reported values of bonds and stocks are determined in accordance with methods prescribed by the NAIC. Bonds are stated principally at amortized cost using the interest method. Preferred stocks are reported at cost or amortized cost. Non-affiliated common stocks are reported at fair value as determined by the Securities Valuation Office ("SVO") of the NAIC. Investments in common stocks of affiliates are reported under the equity method. Changes between cost and admitted invested asset amounts, net of tax, are credited or charged directly to unassigned surplus as unrealized gains or losses. For GAAP, the Company's fixed maturity investments are classified as either available-for-sale or trading. All the fixed maturity investments are reported at fair value. The changes in fair value for investments classified as available-for-sale are reported, net of tax, as a separate component of other comprehensive income and changes in investments classified as trading are reported as a separate component of net income. Mortgage loans on real estate are stated at their aggregate unpaid principal balance, less allowance for impairment. Valuation allowances, if necessary, are established for mortgage loans based on the difference between the unpaid loan balance and the estimated fair value of the underlying real estate when such loans are determined to be in default as to scheduled payments. All-risk or multi-peril insurance coverage containing a mortgage loss payable clause in favor of the Company is required on all properties covered by mortgage loans for no less than the value of the mortgage loan. Under GAAP, valuation allowances would be established when the Company determines it is probable that it will be unable to collect all amounts due (both principal and interest) according to the contractual terms of the loan agreement. For statutory reporting, an asset valuation reserve ("AVR"), which represents a provision for fluctuations in the value of invested assets as determined by NAIC prescribed formula, is reported as a liability. Changes in the liability are credited or charged directly to unassigned surplus. An AVR is not recognized for GAAP. Under a formula prescribed by the NAIC, the Company defers, in an interest maintenance reserve ("IMR"), the portion of realized capital gains and losses, net of taxes, attributable to changes in the general level of interest rates, and amortizes these deferred amounts over the remaining period to maturity of the securities sold, using the NAIC Grouped Method. Realized capital gains and losses, net of taxes and transfers to the IMR, are reported, as a separate component of income. For GAAP, realized capital gains and losses are included in income as a component of revenue when the related securities are sold or called. Under both statutory accounting and GAAP, when a decline in fair value is determined to be other than temporary, realized losses are recorded in the statement of operations. 7 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Policy Acquisition Costs: For statutory accounting, costs of acquiring and renewing business are expensed when incurred. Under GAAP, acquisition costs related to traditional life insurance and certain long-duration accident and health insurance, to the extent recoverable from future policy-related revenues, are deferred and amortized over the premium-paying period of the related policies using assumptions consistent with those used in computing policy benefit reserves. For annuity and universal life insurance, to the extent recoverable from future gross profits, deferred policy acquisition costs are amortized generally in proportion to the present value of expected gross profits from investment income, mortality and expense margins. Non-admitted Assets: Certain assets, designated as "non-admitted", are excluded from the balance sheet and charged directly to unassigned surplus. These assets are principally deferred federal income tax assets and agents' debit balances. Such amounts are included in total assets under GAAP to the extent realizable. Aggregate Reserves for Life and Accident and Health Contracts: The aggregate reserves for life and accident and health insurance contracts are based on statutorily prescribed mortality, morbidity and interest assumptions, rather than on the mortality, morbidity, interest and withdrawal assumptions anticipated by the Company when the policies were issued, as would be required under GAAP. Under statutory accounting, additional reserves are established when the results of cash flow testing under various interest rate scenarios indicate the need for such reserves, or the net premiums exceed the gross premiums on any insurance in force. Universal Life and Annuities: Revenues from universal life insurance and annuity contracts consist of premiums. Benefits consist of mortality, surrenders and changes in the policy reserves. For GAAP, premiums in excess of policy fees and charges are not recorded as revenues but are credited to a fund balance liability. Benefits consist of interest credited to the fund balance and mortality in excess of the fund balance. Modified Coinsurance: Reserves assumed under modified coinsurance agreements are not reflected in the accompanying balance sheets as they, and the related assets, are retained by ceding companies. For GAAP, the Company records separate payables and receivables for assumed modified coinsurance contracts. Reinsurance Assumed: For statutory accounting, the assets transferred relating to the reinsurance of inforce blocks of business are recorded as a component of premiums and annuity considerations in the statement of operations with a corresponding increase in the aggregate reserves for life and accident and health contracts. Under GAAP, the related asset and liability transfers are recorded in the balance sheet only. Reinsurance Ceded: For statutory accounting, a liability is provided for unsecured reinsurance ceded to unauthorized companies and changes to the liability are credited or charged directly to unassigned surplus. Under GAAP, an allowance for amounts deemed uncollectible would be established with a charge to earnings. Under statutory accounting, any increase in surplus, net of federal income taxes, resulting from the reinsurance of life and accident and health inforce business is deferred and credited directly to unassigned surplus and recognized in commissions and expense allowances on reinsurance ceded as earnings emerge from the underlying business. Under GAAP, gains 8 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- from the reinsurance of inforce blocks of business are deferred and amortized into income over the settlement period of the liabilities assumed. Certain policy-related assets and liabilities are reported net of reinsurance ceded. Such netting is not permitted under GAAP unless a legal right of offset exists. Federal Income Taxes: Deferred federal income taxes are provided to reflect the net tax effects of temporary differences between the carrying amounts of statutory-basis assets and liabilities and the amounts used for federal income tax purposes. The change in net deferred taxes is charged or credited to unassigned surplus. Deferred tax assets in excess of certain defined limitations are excluded from the balance sheet and charged to surplus as a non-admitted asset. Under GAAP, deferred federal income taxes reflect the net tax effect of temporary differences between the carrying amounts of GAAP basis assets and liabilities and the amounts used for federal income tax purposes. The change in net deferred taxes, excluding the amount related to other comprehensive income, is a component of net income. A valuation allowance is established for deferred tax assets not expected to be realized. Other significant accounting policies include the following: Life premiums and annuity considerations are recognized as revenue when due. On Universal Life-type insurance policies and annuities with life contingencies, premiums and considerations are recognized when collected. Health premiums are earned ratably over the terms of the related insurance and reinsurance contracts or policies. Deposits on deposit-type contracts are recorded directly as liabilities when received. Realized gains and losses from sales of investments are determined using the specific identification basis. The Company performs a periodic review of its investment portfolio to determine if there has been an other-than-temporary decline in the fair value of any individual securities. The Company considers numerous factors in evaluating each security, including the length of time and the extent to which the fair value has been less than cost, the financial condition and short term prospects of the issuer and the intent and ability of the Company to retain the investment for a period of time sufficient to allow for any anticipated recovery in fair value. If the Company determines that the decline in fair value below cost is other-than-temporary, the cost basis of the investment is written down to fair value as a new cost basis and the amount of the write down is accounted for as a realized loss. Bonds are principally carried at amortized cost. Premiums and discounts on bonds are amortized or accreted to investment income using the interest method over the contractual lives of the bonds taking into consideration call provisions, or in the case of mortgage and asset backed bonds, over the estimated life of the bond based upon anticipated prepayments at the date of purchase. Prepayment assumptions for mortgage-backed and structured securities are obtained from independent financial services and are applied monthly. Significant changes in prepayment assumptions are accounted for using the retrospective adjustment method, based upon prepayment assumptions obtained from external pricing services, which are consistent with the current interest rate and economic environment. An internal matrix is used to value non-public issues. 9 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Redeemable preferred stocks which have characteristics of debt securities and are rated as high quality or better are reported at cost or amortized cost. All other redeemable preferred stocks are reported at the lower of cost, amortized cost or fair value. Securities, whose proceeds are accorded some degree of equity treatment by one or more of the nationally recognized statistical rating organizations and/or which are recognized as regulatory capital by the issuers' primary regulatory authority, are considered hybrid securities or capital securities. Effective December 2006, these securities are reported as preferred stock and are reported at amortized cost if rated by the NAIC as high quality or better. All other hybrid securities are reported at the lower of cost, amortized cost or fair value. Non-redeemable preferred stocks are reported at fair value or lower of cost or fair value, as determined by the SVO, and the related net unrealized capital gains or losses are reported in unassigned surplus along with any adjustment for federal income taxes. The decline in fair value of mortgage loans determined to be other-than-temporary is accounted for as a realized loss. Income on impaired loans is accrued unless the impaired loan has been written down, in which case the income is no longer accrued. Also, when applicable, the income is non-admitted in accordance with SSAP No. 37. Cash received for interest on impaired loans is recorded as interest income. Real estate, including investment real estate and properties acquired in satisfaction of debt, is carried at the lower of depreciated cost or fair value less encumbrances. Contract loans are reported at unpaid principal balances. Cash includes cash on deposit and cash equivalents, which are short-term highly liquid investments with original maturities of three months or less and are principally stated at amortized cost. Short-term investments include investments with remaining maturities of one year or less, at the time of acquisition and are principally stated at amortized cost. At December 31, 2005 and 2004, the Company had capitalized $2,308 of internally developed non-operating systems software. Non-operating systems software is amortized using the straight-line method over the lesser of its useful life or five years. The net book value of such software was $230 and $692 at December 31, 2005 and 2004, respectively, and under statutory accounting principles, is considered a non-admitted asset. Depreciation and amortization expense charged to operations in 2005 and 2004 was $39 and $461, respectively. Policy claims and benefits include amounts determined on individual case and bulk reported bases for reported claims and estimates of incurred but not reported claims developed on the basis of past experience. Those estimates are subject to the effects of trends in claim severity and frequency. Although considerable variability is inherent in such estimates, management believes that the reserves for unpaid claims are adequate. The estimates are continually reviewed and adjusted as necessary as experience develops or new information becomes known; such adjustments are included in current operations. 10 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Effective January 1, 2006, the Company adopted SSAP No. 93, "Accounting for Low Income Housing Tax Credit Property Investments". Under SSAP No. 93, LIHTC property investments are carried at amortized cost. Prior to adoption of SSAP No. 93, the Company carried LIHTC property investments based on the equity method. As a result of the adoption of SSAP No. 93, the Company reported a change in accounting principle as an adjustment that decreased unassigned funds (surplus) by $2,190. Certain prior-year amounts in the accompanying financial statements and footnotes have been reclassified to conform with the current year presentation. 3. FAIR VALUE OF FINANCIAL INSTRUMENTS The fair value of a financial instrument is the amount at which the instrument could be exchanged in a current transaction between willing parties. The fair values of investments in bonds and stocks, presented in Note 5, are based on quoted market prices, where available. For bonds and preferred stocks not actively traded, fair values are estimated using values obtained from independent pricing services, or in the case of private placements, are estimated by discounting the expected future cash flows using current market rates applicable to the coupon rate, credit, and maturity of the investments. For common stocks that are not actively traded, estimated fair values are based on values of issues of comparable yield and quality. All other financial instruments are carried at amounts which approximate fair value, except insurance contracts, which are exempt from fair value disclosure requirements. 4. MERGERS, ACQUISITIONS AND REINSURANCE ASSUMED TRANSACTIONS There were no material reinsurance assumed transactions during 2006. Effective January 1, 2005, the Company completed a coinsurance agreement with a third party whereby the Company reinsured 40% of a block of ordinary life and annuity insurance business. Prior to 2005, the Company had assumed 60% of this business. Under the terms of the coinsurance agreement, the Company assumed approximately $404,000 of assets and liabilities. On December 31, 2004, Mission was merged with and into the Company. The transaction was accounted for as a statutory merger. The Company did not issue any stock and no consideration was given to MLC. As of December 31, 2004, prior to the merger, the selected statutory financial information of Mission was as follows:
DECEMBER 31, 2004 ------------ Assets $ 8,178 ======= Liabilities 3,477 Capital and surplus 4,701 ------- Total liabilities, capital and surplus 8,178 ======= Revenues 1,174 Expenses (1,060) ------- Net income $ 114 =======
11 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 5. INVESTED ASSETS The following tables present the book/adjusted carrying value, gross unrealized gains and losses, and estimated fair values of investments in bonds and preferred stocks at December 31, 2006 and 2005:
GROSS GROSS BOOK/ADJUSTED UNREALIZED UNREALIZED FAIR CARRYING VALUE GAINS LOSSES VALUE -------------- ---------- ---------- ---------- DECEMBER 31, 2006 U.S. Government obligations $ 992,598 $ 26,294 $11,641 $1,007,251 All other Governments 27,090 2,112 118 29,084 States, territories, and possessions 31,826 915 75 32,666 Political subdivisions of states, territories, possessions 10,298 356 208 10,446 Special revenue and assessment 44,607 3,007 102 47,512 Public utilities 316,798 14,546 4,229 327,115 Industrial and miscellaneous 2,985,717 125,365 37,443 3,074,026 Mortgage and asset-backed securities 1,947,333 17,469 32,565 1,932,237 Credit tenant loans 122,946 10,288 260 134,613 ---------- -------- ------- ---------- TOTAL BONDS $6,479,213 $200,352 $86,641 $6,594,950 ========== ======== ======= ========== PREFERRED STOCKS UNAFFILIATED $ 66,559 $ 1,751 $ 378 $ 67,932 ========== ======== ======= ========== DECEMBER 31, 2005 U.S. Government obligations $1,361,114 $ 50,518 $15,624 $1,396,008 All other Governments 44,420 2,843 136 47,127 States, territories, and possessions 33,832 1,379 103 35,108 Political subdivisions of states, territories, possessions 11,277 510 61 11,726 Special revenue and assessment 52,829 4,439 10 57,258 Public utilities 395,377 23,962 2,218 417,121 Industrial and miscellaneous 4,035,241 209,173 33,448 4,210,966 Mortgage and asset-backed securities 1,377,651 8,134 26,536 1,359,249 Credit tenant loans 136,176 11,178 1,068 146,286 ---------- -------- ------- ---------- TOTAL BONDS $7,447,917 $312,136 $79,204 $7,680,849 ========== ======== ======= ========== PREFERRED STOCKS UNAFFILIATED $ 7,598 $ - $ 1,107 $ 6,491 ========== ======== ======= ==========
12 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The following tables present gross unrealized losses and fair values, aggregated by investment category and length of time, for securities with unrealized losses, at December 31, 2006 and 2005, respectively.
LESS THAN TWELVE MONTHS TWELVE MONTHS OR MORE TOTAL ------------------------- ------------------------- ------------------------- GROSS GROSS GROSS FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED VALUE LOSSES VALUE LOSSES VALUE LOSSES ------------------------- ------------------------- ------------------------- DECEMBER 31, 2006 U.S. Government obligations $ 213,750 $ 3,977 $ 321,492 $ 7,664 $ 535,242 $11,641 All other Governments 4,871 118 - - 4,871 118 States, territories, and possessions 5,894 75 - - 5,894 75 Political subdivisions of states, territories, possessions - - 4,792 208 4,792 208 Special revenue and assessment 6,908 92 796 10 7,704 102 Public utilities 58,974 1,391 52,095 2,837 111,069 4,228 Industrial and miscellaneous 536,615 12,136 687,476 25,308 1,224,091 37,444 Mortgage and asset-backed securities 391,851 4,713 859,471 27,853 1,251,322 32,566 Credit tenant loans 4,256 45 9,164 215 13,420 260 ------------------------ ------------------------ ------------------------ TOTAL BONDS $1,223,119 $22,547 $1,935,286 $64,095 $3,158,405 $86,642 ======================== ======================== ======================== PREFERRED STOCKS UNAFFILIATED $ 22,544 $ 378 $ - $ - $ 22,544 $ 378 ======================== ======================== ======================== DECEMBER 31, 2005 U.S. Government obligations $ 665,172 $12,470 $ 77,045 $ 3,153 $ 742,217 $15,624 All other Governments 17,219 136 - - 17,219 136 States, territories, and possessions 2,000 70 965 33 2,965 103 Political subdivisions of states, territories, possessions 4,939 61 - - 4,939 61 Special revenue and assessment 807 10 - - 807 10 Public utilities 78,015 1,819 11,001 399 89,016 2,218 Industrial and miscellaneous 1,213,569 27,182 213,769 6,266 1,427,338 33,448 Mortgage and asset-backed securities 821,086 18,985 172,083 7,551 993,169 26,536 Credit tenant loans 16,312 1,017 1,539 51 17,851 1,068 ------------------------ ------------------------ ------------------------ TOTAL BONDS $2,819,119 $61,750 $ 476,402 $17,453 $3,295,521 $79,204 ======================== ======================== ======================== PREFERRED STOCKS UNAFFILIATED $ 2,318 $ 1,107 $ - $ - $ 2,318 $ 1,107 ======================== ======================== ========================
13 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- At December 31, 2006, the Company held four hundred and seventy six fixed maturity securities with gross unrealized losses of $64,095 that had been in an unrealized loss position for 12 months or more. Based on an evaluation by the Company (refer to Note 2 for a description of factors considered), such securities were not considered to be other-than-temporarily impaired. At December 31, 2006, the contractual maturities of investments in bonds are as follows:
BOOK/ADJUSTED FAIR CARRYING VALUE VALUE -------------- ---------- Due in one year or less $ 256,757 $ 256,511 Due after one year through five years 779,083 800,053 Due after five years through ten years 1,175,788 1,187,924 Due after ten years 2,320,253 2,418,225 Mortgage and asset-backed securities 1,947,332 1,932,237 ---------- ---------- TOTAL $6,479,213 $6,594,950 ========== ==========
Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Major sources and related amounts of net investment income are as follows:
2006 2005 2004 -------- -------- -------- Bonds $412,257 $445,017 $429,569 Preferred stocks 5,422 1,048 1,688 Mortgage loans 23,466 26,540 27,822 Contract loans 354,790 337,277 314,403 Cash and short-term investments 18,176 5,910 2,911 Other invested assets 172 5,194 7,135 -------- -------- -------- GROSS INVESTMENT INCOME 814,283 820,986 783,528 Investment expenses 14,167 14,835 15,345 -------- -------- -------- NET INVESTMENT INCOME $800,116 $806,151 $768,183 ======== ======== ========
Realized capital gains and losses and proceeds from sales of investments in bonds, excluding calls and maturities and before transfer of certain net gains to the IMR, consist of the following:
2006 2005 2004 ---------- ---------- -------- Realized gains $ 26,626 $ 39,641 $ 11,269 Realized losses (36,490) (10,427) (1,604) ---------- ---------- -------- NET REALIZED (LOSSES) GAINS FROM SALES OF BONDS $ (9,864) $ 29,214 $ 9,665 ========== ========== ======== PROCEEDS FROM SALES OF BONDS $1,425,821 $1,271,113 $352,610 ========== ========== ========
Realized capital losses included $13,141, $8,697 and $1,588 in write downs of securities that experienced an other-than-temporary decline in value in 2006, 2005 and 2004, respectively. Cash and securities with carrying value of approximately $73,923 and $81,789, respectively were deposited by the Company under requirements of regulatory authorities as of December 31, 2006 and 2005. 14 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The Company engages in transactions in which U.S. Treasury securities are loaned to selected broker/dealers. Collateral, equal to 102% of the fair value of securities lent plus accrued interest, is received in the form of cash or marketable securities issued by the U.S. Government or its agencies. The Company monitors the fair value of securities loaned and the collateral received on a daily basis, with additional collateral obtained as necessary. The Company is subject to the risk of loss to the extent that the loaned securities are not returned and the value of the collateral is less than the market value of the securities loaned. Management believes the probability of such an event is unlikely. The Company is a participant in the Swiss Re Money Market Fund ("SRMMF"), governed by an agreement among affiliates, whereby participants pool funds and invest primarily in highly liquid short-term investments. Each participant owns shares in the fund that are carried at a net asset value of $1 per share. Swiss Re Asset Management (Americas), Inc. ("SRAM"), an affiliated entity, is the investment manager of the account and provides related accounting services. At December 31, 2006 and 2005, the Company had $191,038 and $70,027, respectively, invested in the SRMMF. All-risk or multi-peril insurance coverage containing a mortgage loss payable clause in favor of the Company is required on all properties covered by mortgage loans for no less than the full insurance value. The maximum percentage of any one loan to the value of security at the time of the loans, exclusive of insured or guaranteed mortgages, was 75%. Loan balances at December 31, 2006 and 2005 was as follows:
2006 2005 -------- -------- Non-impaired loans $197,399 $272,398 Impaired loans, net of allowance 192 1,969 -------- -------- Total $197,591 $274,367 ======== ======== Average investment in impaired loans $ 1,081 $ 2,783 ======== ========
As of December 31, 2006, there were no loans with interest more than 180 days past due or with interest reductions. The Company had no taxes, assessments or amounts advanced and not included in the mortgage loan total. Activity in the allowance reserves for the years ended December 31, 2006 and 2005 was as follows:
2006 2005 ------- ------ Beginning balance, January 1 $ 1,347 $ 838 Writedowns for other-than-temporary impairments 2,800 1,327 Recoveries paid in full (4,140) (818) ------- ------ Ending balance, December 31 $ 7 $1,347 ======= ======
15 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 6. BORROWED FUNDS The Company utilizes reverse repurchase ("reverse repo") agreements as part of an overall income enhancement program. When market conditions permit, the Company borrows funds in the reverse repo market and invests the proceeds in short-term securities at a slightly higher yield. At December 31, 2006, the Company had $75,789 of reverse repo outstanding including interest of $114. The reverse repo matured in January 2007 and were at an average rate of 5.10%. At December 31, 2006, the securities underlying the reverse repo agreements were primarily comprised of U.S. Government agency mortgage-backed securities and United States Treasury Securities, whose maturity dates and interest rates ranged from 2012 to 2036 and 0.0% to 8.0%, (the securities with 0.0% interest rate consist of U.S. Treasury Principal Strips with an effective yield of 4.76%). At December 31, 2006 the book value and fair value of these securities were $73,721 and $75,050, respectively. 7. LIFE PREMIUMS AND ANNUITY CONSIDERATIONS DUE AND UNCOLLECTED The following table reflects due and uncollected life insurance premiums and annuity considerations at December 31, 2006:
GROSS NET OF LOADING ------- -------------- Ordinary life (new business) $ 337 $ 334 Ordinary life (renewal business) 31,605 27,286 Group life 325 325 ------- ------- Total $32,267 $27,945 ======= =======
8. AGGREGATE RESERVES FOR LIFE AND ACCIDENT AND HEALTH CONTRACTS Reserves for life policies are generally computed on the net level premium method, Commissioners' Reserve Valuation Method, while reserves for accident and health contracts are generally computed on the two-year preliminary term method. The reserves are based on statutory mortality, morbidity and interest assumptions without consideration of withdrawals, except for annuities, which do anticipate lapse and withdrawal activity. Accident and health reserves are generally calculated at interest rates ranging from 2.5% to 6.0% using the 1964 Commissioners' Disability Table and 1985 Commissioners' Individual Disability Table A. Life policy reserves are principally determined by using the 1941, 1958 and 1980 Commissioners' Standard Ordinary Mortality tables with valuation interest rates ranging from 2.25% to 7.0%. Reserves for individual and group annuity contracts are based principally on 1971 and 1983 Individual and Group Annuity Mortality tables with assumed interest rates ranging from 3.0% to 11.5%. Policy reserves for deferred annuity contracts are calculated using the Commissioners' Annuity Reserve Valuation Method with interest rates ranging from 2.5% to 10.0%. Tabular interest, tabular less actual reserves released and tabular cost have been determined by formula. The tabular interest on funds not involving life contingencies has been calculated as the product of the valuation rate of interest times the average daily outstanding deposit fund liability. Reserves for all other annuity and supplementary contracts are calculated using various mortality tables and interest rates ranging from 3.0% to 13.25%. 16 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The Company waives deduction of deferred fractional premiums upon deaths of insured and returns any portion of the final premium beyond the date of death. A reserve is held where a surrender value is promised in excess of the legally computed reserves, if any. Extra premiums are charged for policies covering substandard lives. Reserves for substandard policies with flat extra charges are determined by computing the regular mean reserve and adding one-half (1/2) of the extra premium charge for the year. Mean reserves for table related substandard policies are based on appropriate multiples of standard rates of mortality. At December 31, 2006, the Company had $3,818,655 of insurance inforce, for which the maximum gross premiums were less than the net premiums, according to the standard of valuation set by the Department. Premium deficiency reserves for the above insurance totaled $32,749. The Company does not utilize anticipated investment income as a factor in the premium deficiency calculation. The following table reflects withdrawal characteristics of annuity reserves and deposit fund liabilities at December 31, 2006:
AMOUNT % OF TOTAL ---------- ---------- Subject to discretionary withdrawal - with adjustment: - at book value less surrender charge of 5% or more $ 76,693 6.5% - at fair value 22,625 1.9% ---------- ----- SUBTOTAL 99,318 8.4% Subject to discretionary withdrawal - without adjustment: - at book value (minimal or no charge or adjustment) 926,049 78.8% Not subject to discretionary withdrawal 149,864 12.8% ---------- ----- TOTAL (GROSS) 1,175,231 100.0% Reinsurance ceded 471,499 ---------- NET ANNUITY RESERVES AND DEPOSIT FUND LIABILITIES $ 703,732 ==========
9. FEDERAL INCOME TAXES The components of the net deferred tax asset ("DTA") are as follows:
DECEMBER 31, ------------------------ 2006 2005 --------- --------- Total gross DTAs $ 186,928 $ 205,939 Total deferred tax liabilities ("DTL") (26,203) (32,833) --------- --------- Net DTA 160,725 173,106 Non-admitted DTA (131,745) (144,150) --------- --------- Net admitted DTA $ 28,980 $ 28,956 ========= ========= Decrease in non-admitted DTA $ (12,405) $ (54,085) ========= ========= There are no unrecognized DTLs.
Current income tax incurred consists of the following components
YEAR ENDED DECEMBER 31, --------------------------------- 2006 2005 2004 ------- ------- ------- Current year (benefit)/expense $ (983) $36,006 $55,233 Prior year return to provision adjustment (6,574) (1,122) (8,418) ------- ------- ------- Federal income taxes incurred $(7,557) $34,884 $46,815 ======= ======= =======
17 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The components of DTAs and DTLs and changes therein are as follows:
DECEMBER 31, -------------------------------------- 2006 2005 CHANGE --------- --------- -------- DTAs resulting from book/tax differences in: Invested assets $ 1,846 $ 4,025 $ (2,179) Deferred acquisition costs 121,669 138,662 (16,993) Aggregate reserves and contract liabilities 44,042 47,121 (3,079) Net capital loss carryforward 4,231 - 4,231 Other 15,140 16,131 (991) --------- --------- -------- Total DTA 186,928 205,939 (19,011) DTA non-admitted (131,745) (144,150) 12,405 --------- --------- -------- DTA admitted 55,183 61,789 (6,606) --------- --------- -------- DTLs resulting from book/tax differences in: Premiums deferred and uncollected (1,216) (1,310) 94 Deferred gain (24,586) (29,748) 5,162 Other (401) (1,775) 1,374 --------- --------- -------- Total DTLs (26,203) (32,833) 6,630 --------- --------- -------- Net admitted DTA $ 28,980 $ 28,956 $ 24 ========= ========= ========
The change in net deferred income taxes is comprised of the following:
DECEMBER 31, ------------------------ 2006 2005 CHANGE --------- --------- --------- Total DTAs $ 186,928 $ 205,939 $ (19,011) Total DTLs (26,203) (32,833) 6,630 --------- --------- --------- Net DTA $ 160,725 $ 173,106 (12,381) ========= ========= Tax effect of unrealized gains/(losses) 1,810 --------- Change in net deferred income tax (charge)/benefit $ (10,571) =========
Total statutory income taxes differ from the amount that would be obtained by applying the statutory federal income tax rate of 35% to net gain (loss) from operations and capital gains (losses). Among the more significant book to tax adjustment in 2006 are the following:
TAX EFFECT EFFECTIVE AMOUNT AT 35% TAX RATE -------- ---------- --------- Net gain from operations $ 97,929 $34,275 Realized capital losses/gains (19,182) (6,714) -------- ------- 78,747 27,561 35.0% Capitalized ceding commissions (27,284) (9,549) -12.1% IMR Amortization (8,025) (2,809) -3.6% General business tax credits (11,074) (3,876) -4.9% Purchase price adjustments (4,847) (1,697) -2.2% Changes in surplus 3,952 1,383 1.7% Prior period adjustments (21,195) (7,418) -9.4% Other (1,659) (580) -0.7% -------- ------- ----- Total $ 8,615 $ 3,015 3.8% ======== ======= ===== Federal income tax benefit $(7,557) -9.6% Change in net deferred income taxes 10,571 13.4% ------- ----- Total statutory income taxes $ 3,014 3.8% ======= =====
18 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The amount of federal income taxes incurred and available for recoupment in the event of future net losses is: 2006 $ - 2005 $36,774 2004 $59,134
The Company is included in a consolidated life insurance company federal income tax return filed by its Parent, Swiss Re Life & Health America Inc. ("SRLHA" or the "Parent"). Companies included in the consolidated return are as follows: o Swiss Re Life & Health America Inc. o Reassure America Life Insurance Company o Sage Life Assurance of America, Inc. (for the period from January 21, 2006 through the date of its merger into Valley Forge Life Insurance Company on September 30, 2006) o Southwestern Life Insurance Company (through the date of its merger into Valley Forge Life Insurance Company on December 28, 2006) o Valley Forge Life Insurance Company o Aldgate Reinsurance Company Limited o Atlantic International Reinsurance Company Ltd (from the date of its contribution to SRLHA on December 22, 2005) The method of allocation among the companies is subject to a written agreement approved by the Board of Directors. Allocation is based upon separate return calculations with credit for net losses utilizable on a separate company basis or in consolidation. Intercompany balances are settled annually. At December 31, 2006 and 2005, the Company had a (receivable) payable to its Parent under the agreement of $(4,417) and $30,994, respectively. 10. CAPITAL AND SURPLUS Life and health insurance companies are subject to certain risk-based capital ("RBC") requirements as specified by the NAIC. Under these requirements, the amount of capital and surplus maintained by a life and health insurance company is to be determined based on the various risk factors related to it. At December 31, 2006, the Company exceeds the minimum RBC requirements. Under Illinois insurance regulations, the Company is limited in the amount of dividends it may pay its shareholders. The maximum dividend generally permitted is the greater of the prior year's statutory-basis net income or ten percent of the prior year's statutory-basis capital and surplus. Extraordinary dividends above these general statutory limitations may be paid with the prior approval of the Department. Due to the Company's deficit in unassigned surplus as of December 31, 2006, the Company may not pay any dividends without prior approval from the Department. On May 8, 2006, the Company received approval to pay a dividend in the amount of $295,000, which was paid on May 22, 2006. The dividend was reported as a paid-in surplus adjustment. In May, 2005, after receiving approval from the Department, the Company paid a cash dividend to its Parent of $220,000. The dividend was recorded as a paid-in surplus adjustment. 19 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- For the years ended December 31, 2006, 2005 and 2004, the Company capitalized ceding commissions (net of taxes) of $0, $209,500 and $90,286, respectively, and amortized $27,284, $56,913 and $34,212, respectively, as commissions and expense allowances on reinsurance ceded in its Summary of Operations. The reported deficit at December 31, 2006 includes the following items: Unrealized gains $ (1,549) Non-admitted asset values $(146,081) Asset valuation reserve $ (44,779) Reinsurance in unauthorized companies $ -
11. REINSURANCE In the normal course of business, the Company cedes to reinsurers risk that exceeds retention limits. Contracts for insurance ceded do not relieve the Company of its obligations to policyholders. The Company has not entered into any new reinsurance agreements in 2006, 2005 and 2004. Effective January 1, 2005, the Company completed a coinsurance agreement with a third party whereby the Company reinsured 40% of a block of ordinary life and annuity insurance business. Prior to 2005, the Company had assumed 60% of this business. Under the terms of this agreement, the Company assumed approximately $404,000 of assets and liabilities and paid an initial ceding commission of $25,500. On December 23, 2004, the Company received approval from the Department to cede 90% of certain life insurance contracts to Aldgate, under a funds withheld reinsurance agreement with an effective date of October 1, 2004. On January 20, 2005, the Company ceded to Aldgate approximately $1,467,000 of reserves and recorded a funds withheld liability for the same amount, while receiving an initial ceding allowance of $209,500. Effective April 1, 2004, the Company entered into a funds withheld reinsurance agreement with SRZ, an affiliate, to cede certain life insurance contracts. In accordance with the terms of the agreement, the Company established an initial funds withheld liability of $950,700. The Company recorded an after-tax gain on reinsurance ceded of $90,300 which was deferred in surplus and is being amortized over the expected life of the business. Effective October 1, 2004, the Company recaptured from SRZ certain life insurance contracts previously ceded. In accordance with the terms of the agreement, the Company reduced its funds withheld liability by $449,000. The Company's policy generally is to require collateral from those reinsurers not authorized to conduct reinsurance business in Illinois in an amount at least equal to the statutory reserves reinsured. Collateral held, in the form of letters of credit, funds deposited and miscellaneous credit balances, was $8,136,191 and $7,712,107 at December 31, 2006 and 2005, respectively. The Company retrocedes a substantial portion of assumed risks to European Reinsurance Company of Zurich ("ERZ"), SRZ, SRLHA and Aldgate, each affiliated companies. 20 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- Reinsurance ceded to affiliated and non-affiliated companies (reduced) increased amounts reported in the accompanying financial statements at December 31, 2006, 2005 and 2004, and for the years then ended, as follows:
DECEMBER 31, 2006 BALANCE SHEET AFFILIATED NON-AFFILIATED TOTAL -------------------------------------------------------------- ----------- -------------- ----------- Premiums due and uncollected and experience rated refunds $ (78,286) $ (13,527) $ (91,813) Aggregate reserves and contract claims liabilities (8,979,180) (582,906) (9,562,086) Funds held under reinsurance treaties (7,763,375) - (7,763,375) Other amounts due from reinsurers 42,740 19,607 62,347 INCOME STATEMENT -------------------------------------------------------------- ----------- ----------- ----------- Premiums and annuity considerations (536,511) (73,393) (609,904) Commissions and expense allowances on reinsurance ceded 75,772 19,779 95,551 Policy benefits and increase in reserves (1,074,787) (142,989) (1,217,776) Interest on funds withheld for reinsurers 603,976 - 603,976 DECEMBER 31, 2005 BALANCE SHEET AFFILIATED NON-AFFILIATED TOTAL -------------------------------------------------------------- ----------- -------------- ----------- Premiums due and uncollected and experience rated refunds $ (87,990) $ (18,262) $ (106,252) Aggregate reserves and contract claims liabilities (8,719,554) (575,861) (9,295,415) Funds held under reinsurance treaties (7,651,168) - (7,651,168) Other amounts due from reinsurers 39,820 25,792 65,612 INCOME STATEMENT -------------------------------------------------------------- ----------- ----------- ----------- Premiums and annuity considerations (2,121,514) (83,662) (2,205,176) Commissions and expense allowances on reinsurance ceded 96,036 42,911 138,947 Policy benefits and increase in reserves (2,501,516) (108,823) (2,610,339) Interest on funds withheld for reinsurers 624,605 - 624,605 DECEMBER 31, 2004 BALANCE SHEET AFFILIATED NON-AFFILIATED TOTAL -------------------------------------------------------------- ----------- -------------- ----------- Premiums due and uncollected and experience rated refunds $ (24,636) $ (20,019) $ (44,655) Aggregate reserves and contract claims liabilities (6,211,299) (1,614,908) (7,826,207) Funds held under reinsurance treaties (6,207,650) - (6,207,650) Other amounts due from reinsurers 45,934 25,615 71,549 INCOME STATEMENT -------------------------------------------------------------- ----------- ----------- ----------- Premiums and annuity considerations (988,863) (91,412) (1,080,275) Commissions and expense allowances on reinsurance ceded 97,960 52,520 150,480 Policy benefits and increase in reserves (1,249,290) (114,104) (1,363,394) Interest on funds withheld for reinsurers 495,320 - 495,320
12. RELATED PARTY TRANSACTIONS See Note 11 for disclosures regarding the Company's reinsurance activities with affiliates. The Company had net amounts due to affiliates of $20,630 and $8,258 at December 31, 2006 and 2005, respectively. Settlements take place quarterly. SRAM provides the Company with investment management and investment accounting services. SRAM manages the Company's portfolio of investments on behalf of, at the direction of, and within the parameters established by the Company. The Company pays SRAM a fee for services based upon the fair value of the securities in the Company's portfolio. Fees are payable quarterly in advance and amounted to $8,080, $10,918 and $10,846 in 2006, 2005 and 2004, respectively. 21 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- The Parent provides certain general management services to the Company. The Company reimburses the Parent for the cost of salaries and related benefits incurred by the Parent on behalf of the Company. The Company incurred related costs in the amount of $36,137, $21,863 and $23,563 in 2006, 2005 and 2004, respectively. Costs are settled quarterly. 13. COMMITMENTS AND CONTINGENCIES From time to time, legal actions against the Company have arisen in the ordinary course of its business. In the judgment of management, resolution of contingent liabilities and other matters would not have a material effect on the Company's capital and surplus. At December 31, 2006 and 2005, the Company had a lease liability accrual, net of amortization, of $14,824 and $17,681, respectively. In 2006, 2005 and 2004, the Company amortized $2,857, $3,588, and $5,078, respectively. The Company has leases for office space that expire at various time through December 31, 2013. Total rent expense, net of subleases and before amortization of the lease liability accrual, was $4,687, $4,227 and $4,867 for 2006, 2005 and 2004, respectively. The future minimum rental payments, net of sublease commitments, for these leases through the end of the lease terms are as follows: 2007 $ 3,619 2008 3,881 2009 2,369 2010 2,517 2011 2,671 2012 and beyond 5,268 ------- TOTAL MINIMUM PAYMENTS $20,325 =======
Effective December 1, 2003, the Company entered into an administrative- service agreement with a vendor to provide policyholder administration services for a significant portion of the Company's business. Subject to certain termination provisions, the agreement is for a ten-year period. 14. BENEFIT PLANS EMPLOYEE RETIREMENT PLAN The Company participates in the Swiss Re Group U.S. Employees' Pension Plan, a qualified, noncontributory defined benefit pension plan sponsored by Swiss Re America Holding Company ("SRAH"). The plan covers substantially all of the SRAH, SRLHA employees. The Company has no legal obligation for benefits under this plan. SRAH allocates amounts to the Company based on salary ratios as compared to all companies participating in the plan. Expenses recognized by the Company were $1,640, $1,010 and $1,257 in 2006, 2005 and 2004, respectively. The Pension Plan was closed to employees hired on or after July 1, 2005. The vesting provision was also changed from five years to three years of service. 22 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- POST-RETIREMENT BENEFIT PLAN The Company provides certain post-retirement benefits to retired employees through a plan sponsored by SRAH. The Company has no legal obligation for benefits under this plan. Substantially all employees may become eligible for these benefits after meeting age and service requirements. Life insurance benefits are based on percentages of final salary and gradually reduce after retirement, with both maximum dollar and minimum percentage limits. The contribution to this plan will be capped in the year 2010 for participants that were not at least age fifty-five with at least ten years of service, or whose age and years of service did not add up to at least seventy-five years by December 31, 2005. In 2006, 2005 and 2004, the Company recognized post-retirement benefit expenses of $128, $332 and $250, respectively. DEFINED CONTRIBUTION PLAN The Swiss Re Group U.S. Employees' Savings Plan (the "Savings Plan") is a defined contribution plan in which eligible employees of the Company and certain affiliates may elect to participate. The Savings Plan provides for contributions by employees and matching contributions by the Parent, subject to certain limitations. Expenses incurred in connection with the Savings Plan are allocated to the Company by the Parent in accordance with the intercompany cost sharing agreement. 15. PARTICIPATING POLICIES As of December 31, 2006, the Company had approximately 1% of participating policies in force. Dividends are accounted for on the policy anniversary. A liability is established for dividends anticipated to be paid in the subsequent calendar year. As of December 31, 2006, 2005 and 2004, respectively, the Company incurred $8,189, $4,993 and $8,383 in dividend expense. The Company did not allocate any additional income to participating policyholders during these years. 16. SUBSEQUENT EVENTS On May 23, 2007, after receiving approval from the Department, the Company paid a cash dividend to its Parent, of $109,000. On May 8, 2007, the Company and Conseco Insurance Group ("Conseco") announced the signing of agreements under which the Company will reinsure, on a coinsurance basis, certain inforce equity-indexed annuity and fixed annuity policies. Under the agreements, Conseco will transfer to the Company approximately $3,000,000 of statutory policy liabilities and other reserves, as well as the assets backing the policies. The Company will pay a ceding commission of approximately $76,500 and also assume administration of the policies. The transaction, which is subject to regulatory approval in several states, has an effective date of January 1, 2007 and is expected to close prior to year end 2007. In June 2007, the Company became aware that a policyholder under certain business ceded to the Company, may surrender certain of its policies for which there are approximately $1,000,000 in policy loans outstanding in the aggregate. In September 2007, the Company received confirmation of the policyholder's intent to surrender such policies during the fourth quarter of 2007. The surrender of these policies is not expected to have a material impact on the Company's statement of operations as the contracts are fully retroceded. 23 REASSURE AMERICA LIFE INSURANCE COMPANY Notes to Statutory-Basis Financial Statements December 31, 2006 (in thousands) -------------------------------------------------------------------------------- On or about September 10, 2007, the Company and certain of its affiliates reached an agreement with RSA Financial Services, Inc. (the "indemnitor") and certain of its current and former affiliates to terminate the Indemnitor's indemnification obligations under a Stock Purchase Agreement dated as of March 3, 1999 (the "SPA") in respect of the Class Action, as defined below. Pursuant to the SPA, the Indemnitor agreed to indemnify the Company for, among other matters, any exposures in excess of $1,300 arising from a Class Action Complaint filed on April 8, 1997 with the Circuit Court of Cook County, Illinois (the "Class Action"). While the Company has reserved for the Class Action it cannot determine the outcome of the above noted matter and it is reasonably possible that any settlement may ultimately exceed the Company's accrual by $15,000 to $30,000. 24 REASSURE AMERICA LIFE INSURANCE COMPANY Supplemental Schedule of Selected Statutory-Basis Financial Data December 31, 2006 (in thousands) --------------------------------------------------------------------------------
INVESTMENT INCOME EARNED Government bonds $ 73,375 Other bonds (unaffiliated) 338,883 Preferred stocks (unaffiliated) 5,422 Common stocks (unaffiliated) - Real estate 97 Mortgage loans 23,466 Contract loans 354,790 Cash and short-term investments 18,177 Derivative instruments - Other invested assets (680) Aggregate write-ins for investment income 753 ---------- GROSS INVESTMENT INCOME $ 814,283 ========== MORTGAGE LOANS - BOOK VALUE Resident mortgages (book value, in good standing) $ - Commercial mortgages (book value, in good standing) 197,591 Commercial and residential mortgages (book value, with interest over 90 days) - ---------- TOTAL MORTGAGE LOANS $ 197,591 ========== Bonds and stock of parents, subsidiaries and affiliates - book value Preferred stocks - Bonds - BONDS AND SHORT-TERM INVESTMENTS BY MATURITY AND CLASS Bonds and short-term investments by maturity (amortized cost): Due within one year or less $1,205,642 Over one year through five years 1,552,602 Over five years through ten years 1,871,696 Over ten years through twenty years 1,306,802 Over twenty years 1,233,513 ---------- TOTAL BY MATURITY $7,170,255 ========== BONDS AND SHORT-TERM INVESTMENTS BY CLASS (AMORTIZED COST) Class 1 $5,843,261 Class 2 1,107,288 Class 3 96,949 Class 4 95,548 Class 5 24,007 Class 6 3,202 ---------- TOTAL BY CLASS $7,170,255 ==========
25 REASSURE AMERICA LIFE INSURANCE COMPANY Supplemental Schedule of Selected Statutory-Basis Financial Data December 31, 2006 (in thousands) --------------------------------------------------------------------------------
LIFE INSURANCE IN FORCE Ordinary $15,591,171 Group life 218,978 AMOUNT OF ACCIDENTAL DEATH INSURANCE IN FORCE UNDER ORDINARY POLICIES 2,269,859 LIFE INSURANCE POLICIES WITH DISABILITY PROVISIONS IN FORCE Ordinary 7,237,128 Group life 92,796 SUPPLEMENTAL CONTRACTS IN FORCE Ordinary - not involving life contingencies - income payable $ 3,539 Ordinary - not involving life contingencies - amount on deposit 11,529 Group - not involving life contingencies - income payable - Ordinary - involving life contingencies - income payable 3,423 Ordinary - involving life contingencies - amount on deposit 17,226 Group - involving life contingencies - income payable 726 Group - involving life contingencies - amount on deposit 3,478 ANNUITIES (ORDINARY) Immediate - amount of income payable $ 9,724 Deferred - fully paid account balance 487,921 Deferred - not fully paid account balance 374,369 Group - Amount of income payable 1,113 Group - fully paid account balance 3,266 Group - not fully paid account balance 5,050 ACCIDENT AND HEALTH INSURANCE - PREMIUMS IN FORCE Ordinary $ 1,062,235 Group 4 DEPOSIT FUNDS AND DIVIDEND ACCUMULATIONS Deposit funds - account balance $ 15,466 Dividend accumulations - account balance 31,951
26 REASSURE AMERICA LIFE INSURANCE COMPANY Supplemental Schedule of Investment Risks Interrogatories December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 1. The Company's total admitted assets as reported in the Statements of Admitted Assets, Liabilities and Surplus was $11,440,522 at December 31, 2006. 2. The 10 largest exposures to a single issuer/borrower/investment, by investment category, excluding: (i) U.S. government, U.S. government agency securities and those U.S. Government money market funds listed in the Appendix to the SVO Purposes and Procedures Manual as exempt, (ii) property occupied by the Company, and (iii) policy loans at December 31, 2006 are as follows:
PERCENTAGE OF TOTAL INVESTMENT CATEGORY AMOUNT ADMITTED ASSETS --------------------------------------------------------------------------- JP Morgan Chase & Company 101,658 0.9% Morgan Stanley Capital 47,596 0.4% Bank of America 45,185 0.4% General Electric Capital 44,505 0.4% Bear Stearns Mortgage 39,870 0.3% Countrywide 39,233 0.3% Wachovia Corporation 37,211 0.3% Conoco Philips 37,167 0.3% Household Finance Corp. 35,610 0.3% Citigroup Inc. 32,628 0.3%
3. The amounts and percentages of the Company's total admitted assets held in bonds and preferred stocks by NAIC rating is as follows:
BONDS PREFERRED STOCK -------------------------------------------- ------------------------------------------ NAIC-1 $5,843,261 51.1% P/RP-1 $21,539 0.2% NAIC-2 1,107,288 9.7% P/RP-2 37,390 0.3% NAIC-3 96,949 0.8% P/RP-3 - 0.0% NAIC-4 95,548 0.8% P/RP-4 - 0.0% NAIC-5 24,007 0.2% P/RP-5 7,630 0.1% NAIC-6 3,202 0.0% P/RP-6 - 0.0%
4. Assets held in foreign investments are greater than 2.5% of the Company's total admitted assets. 5. The aggregate foreign investment exposure categorized by the country's NAIC sovereign rating is as follows:
PERCENTAGE OF TOTAL AMOUNT ADMITTED ASSETS -------- ------------------- Countries rated NAIC-1 $407,553 3.6% Countries rated NAIC-2 75,097 0.7% Countries rated NAIC-3 or below 16,932 0.1% -------- ------------------- $499,582 4.4% ======== ===================
27 REASSURE AMERICA LIFE INSURANCE COMPANY Supplemental Schedule of Investment Risks Interrogatories December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 6. The two largest foreign investment exposures to a single country, categorized by the country's NAIC sovereign rating is as follows:
PERCENTAGE OF TOTAL ADMITTED AMOUNT ASSETS -------- -------------- COUNTRIES RATED NAIC 1 United Kingdom 115,218 1.0% Australia 59,932 0.5% COUNTRIES RATED NAIC -2 Aruba 33,569 0.3% Mexico 26,711 0.2% COUNTRIES RATED NAIC-3 OR BELOW Panama 11,891 0.1% IMF 5,042 0.0%
7.-9. The Company has no unhedged foreign currency exposure. 10. The 10 largest non-sovereign foreign issues by NAIC rating:
PERCENTAGE OF TOTAL ADMITTED INVESTMENT CATEGORY AMOUNT ASSETS -------------------------------------------------------------------------------- Arkle Mater Issue $30,000 0.3% Royal Bank of Scotland Group 22,064 0.2% HBOS plc 15,982 0.1% Hutchinson Whampoa Financial 15,231 0.1% Transurban Group 15,000 0.1% Sandvik AB 15,000 0.1% Deutsche Telekom INT 14,145 0.1% Vodafone Group 13,493 0.1% Nordbanken 12,819 0.1% Development Bank of Singapore 11,939 0.1%
11. Assets held in Canadian investments are less than 2.5% of the Company's total admitted assets. 12. Assets held in investments with contractual sales restrictions are less than 2.5% of the Company's total admitted assets. 13. Assets held in equity interests are less than 2.5% of the Company's total admitted assets. 14. Assets held in non-affiliated, privately placed equities are less than 2.5% of the Company's total admitted assets. 15. Assets held in general partnership interests are less than 2.5% of the Company's total admitted assets. 28 REASSURE AMERICA LIFE INSURANCE COMPANY Supplemental Schedule of Investment Risks Interrogatories December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 16. Mortgage loans reported in Schedule B are greater than 2.5% of the Company's total admitted assets. The aggregate mortgage interest represents the combined value of all mortgages secured by the same property or same group of properties. The 10 largest aggregate mortgage interests are the following:
PERCENTAGE OF TOTAL ADMITTED TYPE AMOUNT ASSETS -------------- -------- -------------- 1 Commercial $ 6,699 0.1% 2 Commercial 6,271 0.1% 3 Commercial 5,488 0.0% 4 Commercial 5,212 0.0% 5 Commercial 4,970 0.0% 6 Commercial 4,573 0.0% 7 Commercial 4,528 0.0% 8 Commercial 4,281 0.0% 9 Commercial 3,358 0.0% 10 Commercial 3,280 0.0%
17. The aggregated mortgage loans having the following loan-to-value ratios as determined from the most current appraisal as follows:
PERCENTAGE OF PERCENTAGE OF PERCENTAGE OF TOTAL ADMITTED TOTAL ADMITTED TOTAL ADMITTED LOAN TO VALUE RESIDENTIAL ASSETS COMMERCIAL ASSETS AGRICULTURAL ASSETS ------------- ------------------------------ ---------------------------- ------------------------------- 1 Above 95% $ - 0.0% $ - 0.0% $ - 0.0% 2 91% to 95% - 0.0% 1,917 0.0% - 0.0% 3 81% to 90% - 0.0% - 0.0% - 0.0% 4 71% to 80% - 0.0% - 0.0% - 0.0% 5 Below 70% - 0.0% 195,673 1.7% - 0.0%
PERCENTAGE OF TOTAL ADMITTED AMOUNT ASSETS ----------------------- 6 Construction loans - - 7 Mortage loans over 90 days past due - - 8 Mortgage loans in the process of foreclosure - - 9 Mortgage loans foreclosed - - 10 Restructured mortgage loans - -
29 REASSURE AMERICA LIFE INSURANCE COMPANY Supplemental Schedule of Investment Risks Interrogatories December 31, 2006 (in thousands) -------------------------------------------------------------------------------- 18. Assets held in real estate are less than 2.5% of the Company's total admitted assets. 19. The amounts and percentages of the Company's total admitted assets subject to the following types of agreements are as follows:
PERCENTAGE OF TOTAL ADMITTED 1ST QUARTER 2ND QUARTER 3RD QUARTER AMOUNT ASSETS AMOUNT AMOUNT AMOUNT ------- ------------- ----------- ----------- ----------- Securities lending Repurchase agreements Reverse repurchase agreements $75,675 0.7% $82,133 $73,026 $91,430 Dollar repurchase agreements Dollar reverse repurchase agreements
20. The Company has no warrants. 21. The Company has no potential exposure for collars, swaps or forwards. 22. The Company has no potential exposure for futures contracts. 30 REASSURE AMERICA LIFE INSURANCE COMPANY Summary Investment Schedule December 31, 2006 (in thousands) --------------------------------------------------------------------------------
ADMITTED ASSETS AS REPORTED GROSS INVESTMENT HOLDINGS IN THE ANNUAL STATEMENT ------------------------- --------------------------- AMOUNT % AMOUNT % ------------ --------- -------------- --------- BONDS U.S. treasury securities $ 256,722 2.32% $ 256,722 2.32% U.S. government agency and corporate obligations (excluding mortgage-backed securities) Issued by U.S. government agencies 785 0.01% 785 0.01% Issued by U.S. government sponsored agencies 729,829 6.60% 729,829 6.60% Foreign government (including Canada, excluding mortgage -backed securities) 68,283 0.62% 68,283 0.62% Securities issued by states, territories and possessions and political subdivisions in the U.S.: State, territory and possession general obligations - - - - Political subdivisions of states, territories and possessions general obligations 10,298 0.09% 10,298 0.09% Revenue and assessment obligations 40,638 0.37% 40,638 0.37% Mortgage-backed securities (includes residential and commercial MBS): Pass-through securities: Guaranteed by GNMA 118,919 1.07% 118,919 1.07% Issued by FNMA and FHLMC 229,490 2.08% 229,490 2.08% All other CMOs and REMICs Issued by GNMA, FNMA and FHLMC 897,416 8.11% 897,416 8.11% All other privately issued 213,046 1.93% 213,046 1.93% OTHER DEBT AND OTHER FIXED INCOME SECURITIES (excluding short term): Unaffiliated domestic securities (includes credit tenant loans rated by the SVO) 3,396,568 30.70% 3,396,568 30.70% Unaffiliated foreign securities 517,220 4.68% 517,220 4.68% EQUITY INTEREST Preferred stock Unaffiliated 66,559 0.60% 66,559 0.60% OTHER EQUITY SECURITIES Affiliated MORTGAGE LOANS Single family residential Commericial loans 197,591 1.79% 197,591 1.79% REAL ESTATE INVESTMENTS Property held for sale 332 0.00% 332 0.00% CONTRACT LOANS 3,599,642 32.54% 3,599,642 32.54% RECEIVABLE FOR SECURITIES 181 0.00% 181 0.00% CASH AND SHORT-TERM INVESTMENTS 713,549 6.45% 713,549 6.45% OTHER INVESTED ASSETS 4,913 0.04% 4,913 0.04% ----------- ------- ----------- ------ TOTAL INVESTED ASSETS $11,061,981 100.00% $11,061,981 100.00% =========== ======= =========== ======
31 REASSURE AMERICA LIFE INSURANCE COMPANY Note to Supplemental Schedules of Selected Statutory-Basis Financial Data December 31, 2006 (in thousands) -------------------------------------------------------------------------------- NOTE - BASIS OF PRESENTATION The accompanying schedules present selected statutory-basis financial data as of December 31, 2006 and for the year then ended for purposes of complying with paragraph 9 of the Annual Audited Financial Reports in the General section of the National Association of Insurance Commissioners' Annual Statement Instructions and agrees to or is included in the amounts reported in the Company's 2006 Statutory Annual Statement as filed with the Illinois Department of Financial and Professional Regulation. 32 UNAUDITED PROFORMA STATEMENT OF NET ADMITTED ASSETS, LIABILITIES ---------------------------------------------------------------- AND SURPLUS - STATUTORY BASIS AS OF DECEMBER 31, 2006 -----------------------------------------------------
--------------------------------------------------------------- MERGER/OTHER VALLEY FORGE REASSURE ADJUSTMENTS COMBINED --------------------------------------------------------------- ADMITTED ASSETS Bonds 3,415,374,739 6,479,213,417 9,894,588,156 Other Invested Assets 604,270,454 4,582,767,961 (399,000,000) 4,788,038,415 Notes 3 & 4 --------------------------------------------------------------- TOTAL INVESTED ASSETS 4,019,645,193 11,061,981,378 (399,000,000) 14,682,626,571 --------------------------------------------------------------- Other Assets 86,458,762 378,540,801 464,999,563 Separate Accounts Assets 358,190,082 - 358,190,082 --------------------------------------------------------------- TOTAL ASSETS 4,464,294,037 11,440,522,179 (399,000,000) 15,505,816,216 =============================================================== LIABILITIES Life and Health Reserves 2,389,523,742 2,750,686,739 5,140,210,481 Deposit Type Contracts 131,805,517 146,318,150 278,123,667 Other Policy and Contract Liabilities 58,174,584 35,498,726 93,673,310 --------------------------------------------------------------- TOTAL POLICY AND CONTRACT LIABILITIES 2,579,503,843 2,932,503,615 - 5,512,007,458 --------------------------------------------------------------- Funds Held Under Reinsurance Treaties 818,361,501 7,763,374,533 8,581,736,034 Other Liabilities 247,036,018 406,410,779 653,446,797 Separate Accounts Liabilities 358,190,082 - 358,190,082 --------------------------------------------------------------- TOTAL LIABILITIES 4,003,091,444 11,102,288,927 - 15,105,380,371 =============================================================== CAPITAL AND SURPLUS Common Stock 2,500,000 2,500,000 (2,500,000) 2,500,000 Note 2 Paid-in Surplus 303,640,726 236,700,919 (225,501,685) 314,839,960 Notes 2, 3 & 4 Unassigned Surplus 155,061,867 99,032,333 (170,998,315) 83,095,885 Note 3 --------------------------------------------------------------- TOTAL CAPITAL AND SURPLUS 461,202,593 338,233,252 (399,000,000) 400,435,845 =============================================================== TOTAL 4,464,294,037 11,440,522,179 (399,000,000) 15,505,816,216 ===============================================================
MERGER TRANSACTION ------------------ NOTE 1 - Valley Forge Life Insurance Company ("VFL") is an Indiana domiciled stock life insurance company which is qualified to write life, annuity, and accident and health business in the District of Columbia and all states, except New York. Reassure America Life Insurance Company ("Reassure") is an Illinois domiciled stock life insurance company which is qualified to write life, annuity and accident and health business in the District of Columbia and all states, except New York. VFL and Reassure, are wholly-owned subsidiaries of Swiss Re Life & Health America Inc. ('SRLHA'), a U.S. life and health reinsurance company domiciled in the State of Connecticut. VFL and Reassure are indirect, wholly-owned subsidiaries of Swiss Reinsurance Company ("Swiss Re"), which is headquartered in Zurich, Switzerland. The merger of Reassure and VFL is part of Swiss Re's ongoing effort to consolidate entities to gain administrative efficiencies. Under the merger transaction, Reassure will merge into VFL, with VFL as the surviving legal entity. Immediately following the merger, VFL will change its name to Reassure America Life Insurance Company. The proposed effective date of the merger is September 30, 2007. The merger will be accounted as a Statutory merger under the Statement of Statutory Accounting Principles (SSAP) No. 68 - Business Combinations and Goodwill. All Reassure shares of capital stock will be cancelled and ceased to exist. No consideration of any kind will be given to shareholders of Reassure. MERGER ADJUSTMENT ----------------- NOTE 2 - Post-merger, Reassure's Common Stock of $2.5 million will be applied to Paid in Surplus as per SSAP 68. SUBSEQUENT EVENT ---------------- NOTE 3 - On May 7, 2007, the Indiana Department of Insurance granted approval to Valley Forge to pay an extraordinary dividend of $290 million to its parent, Swiss Re Life & Health America Inc. ('SRLHA'). The amount was paid out of Cash & Short-term Investments on May 21, 2007. The dividend is being applied as follows: $171.0 million of the dividend is applied against Unassigned surplus and $119.0 million is applied against Paid in Surplus. NOTE 4 - On May 16, 2007, the Illinois Department of Financial and Professional Regulation Division granted approval to Reassure to pay an extraordinary dividend of $109 million to its parent, SRLHA. The dividend was paid out of Cash & Short-term Investments on May 23, 2007. The dividend is applied to Paid in Surplus. UNAUDITED PROFORMA INCOME STATEMENT - STATUTORY BASIS ----------------------------------------------------- FOR THE YEAR ENDED DECEMBER 31, 2006 ------------------------------------
--------------------------------------------------------------- MERGER/OTHER VALLEY FORGE REASSURE ADJUSTMENTS COMBINED --------------------------------------------------------------- INCOME Premiums and Annuity Considerations 284,761,598 210,203,858 494,965,456 Commissions and Expense Allowances 84,723,866 95,550,791 (362,948) 179,911,709 Note 2 Net Investment Income 245,963,878 808,141,404 1,054,105,282 Other Income (10,468,006) 314,454,521 303,986,515 - --------------------------------------------------------------- TOTAL INCOME 604,981,336 1,428,350,574 (362,948) 2,032,968,962 =============================================================== BENEFITS AND OTHER DEDUCTIONS Death Benefits 222,242,310 224,608,639 446,850,949 Surrender Benefits 144,010,208 249,084,029 393,094,237 Increase in Reserves (111,468,027) (84,231,811) (195,699,838) Commissions 14,070,783 58,001,777 (362,948) 71,709,612 Note 2 General Insurance Expenses 36,331,401 108,191,868 144,523,269 Taxes, Licenses, and Fees 10,326,991 3,619,326 13,946,317 Net Transfers to Separate Accounts (18,696,014) - (18,696,014) Interest on Funds Withheld 58,543,272 603,976,437 662,519,709 Other Benefits and Deductions 28,458,821 167,171,011 195,629,832 --------------------------------------------------------------- TOTAL BENEFITS AND DEDUCTIONS 383,819,745 1,330,421,276 (362,948) 1,713,878,073 =============================================================== NET INCOME BEFORE TAXES 221,161,591 97,929,298 - 319,090,889 =============================================================== Income-tax 61,444,598 (7,648,516) 53,796,082 Realized gains / (losses) 1,354,880 (15,543,573) (14,188,693) --------------------------------------------------------------- NET INCOME 161,071,873 90,034,241 - 251,106,114 ===============================================================
MERGER TRANSACTION ------------------ NOTE 1 - Valley Forge Life Insurance Company ("VFL") is an Indiana domiciled stock life insurance company which is qualified to write life, annuity, and accident and health business in the District of Columbia and all states, except New York. Reassure America Life Insurance Company ("Reassure") is an Illinois domiciled stock life insurance company which is qualified to write life, annuity and accident and health business in the District of Columbia and all states, except New York. VFL and Reassure, are wholly-owned subsidiaries of Swiss Re Life & Health America Inc. ('SRLHA'), a U.S. life and health reinsurance company domiciled in the State of Connecticut. VFL and Reassure are indirect, wholly-owned subsidiaries of Swiss Reinsurance Company ("Swiss Re"), which is headquartered in Zurich, Switzerland. The merger of Reassure and VFL is part of Swiss Re's ongoing effort to consolidate entities to gain administrative efficiencies. Under the merger transaction, Reassure will merge into VFL, with VFL as the surviving legal entity. Immediately following the merger, VFL will change its name to Reassure America Life Insurance Company. The proposed effective date of the merger is September 30, 2007. The merger will be accounted as a Statutory merger under the Statement of Statutory Accounting Principles (SSAP) No. 68 - Business Combinations and Goodwill. All Reassure shares of capital stock will be cancelled and ceased to exist. No consideration of any kind will be given to shareholders of Reassure. MERGER ADJUSTMENT ----------------- NOTE 2 - The adjustments to commissions relates to business ceded by Valley Forge to Reassure. Premiums and benefits for this business offset between Valley Forge and Reassure within individual lines. This arrangement will terminate post-merger by operation of law.