485BPOS 1 a2183169z485bpos.txt 485BPOS As filed with the Securities and Exchange Commission on April 23, 2008 1933 Act Registration No. 333-141770 1940 Act Registration No. 811-21029 CIK No. 0001164757 -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM N-6 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 Post-Effective Amendment No. 2 and REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 Amendment No. 36 Lincoln Life & Annuity Flexible Premium Variable Life Account Y (Exact Name of Registrant) American Legacy VULcv-IV LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK (Exact Name of Depositor) 100 Madison Street, Suite 1860 Syracuse, NY 13202 (Address of Depositor's Principal Executive Offices) Depositor's Telephone Number, Including Area Code: (315) 428-8400 Robert O. Sheppard, Esquire Lincoln Life & Annuity Company of New York 100 Madison Street, Suite 1860 Syracuse, NY 13202 (Name and Address of Agent for Service) Copy to: Lawrence A. Samplatsky, Esquire The Lincoln National Life Insurance Company 350 Church Street Hartford, CT 06103 Approximate Date of Proposed Public Offering: Continuous Title of Securities being registered: Indefinite Number of Units of Interest in Variable Life Insurance Contracts. An indefinite amount of the securities being offered by the Registration Statement has been registered pursuant to Rule 24f-2 under the Investment Company Act of 1940. The Form 24F-2 for the Registrant for the fiscal year ending December 31, 2007 was filed March 27, 2008. It is proposed that this filing will become effective: / / immediately upon filing pursuant to paragraph (b) /x / on May 1, 2008 pursuant to paragraph (b) / / 60 days after filing pursuant to paragraph (a)(1) / / on __________________ pursuant to paragraph (a)(1) of Rule 485. / / This Post-Effective Amendment designates a new effective date for a previously filed Post-Effective Amendment. Lincoln Life & Annuity Flexible Premium Variable Life Account Y Lincoln Life & Annuity Company of New York Home Office Location: 100 Madison Street Suite 1860 Syracuse, NY 13202 (888) 223-1860 Administrative Office: Customer Service Center One Granite Place Concord, NH 03301 (800) 444-2363 -------------------------------------------------------------------------------- A Flexible Premium Variable Life Insurance Policy -------------------------------------------------------------------------------- This prospectus describes American Legacy VULCV-IV, a flexible premium variable life insurance contract (the "policy"), offered by Lincoln Life & Annuity Company of New York ("Lincoln Life", "the Company", "we", "us", "our"). The policy provides for death benefits and policy values that may vary with the performance of the underlying investment options. Read this prospectus carefully to understand the policy being offered. The policy described in this prospectus is available only in New York. You, as the owner, may allocate net premiums to the variable Sub-Accounts of our Flexible Premium Variable Life Account Y ("Separate Account"), or to the Fixed Account. Comprehensive information on the funds may be found in the funds prospectus which is furnished with this prospectus. Each Sub-Account invests in one of the funds listed below. American Funds Insurance Series Asset Allocation Fund (Class 2) Blue Chip Income and Growth Fund (Class 2) Bond Fund (Class 2) Cash Management Fund (Class 2) Global Bond Fund (Class 2) Global Discovery Fund (Class 2) Global Growth Fund (Class 2) Global Growth and Income Fund (Class 2) Global Small Capitalization Fund (Class 2) Growth Fund (Class 2) Growth-Income Fund (Class 2) High-Income Bond Fund (Class 2) International Fund (Class 2) New World Fund (Class 2) U.S. Government/AAA-Rated Securities Fund (Class 2) Additional information on Lincoln Life, the Separate Account and this policy may be found in the Statement of Additional Information (the "SAI"). See the last page of this prospectus for information on how you may obtain the SAI. To be valid, this prospectus must have the current funds' prospectuses with it. Keep all prospectuses for future reference. The Securities and Exchange Commission has not approved or disapproved these securities or determined this prospectus is accurate or complete. It is a criminal offense to state otherwise. Prospectus Dated: May 1, 2008 Table of Contents
Contents Page ---------------------------------------------------- ----- POLICY SUMMARY ..................................... 3 Benefits of Your Policy ........................ 3 Risks of Your Policy ........................... 3 Charges and Fees ............................... 4 LINCOLN LIFE, THE SEPARATE ACCOUNT AND THE GENERAL ACCOUNT .............................. 7 Fund Participation Agreement ................... 7 Distribution of the Policies and Compensation ................................. 7 Sub-Accounts and Funds ......................... 8 Sub-Account Availability and Substitution of Funds ........................................ 9 Voting Rights .................................. 10 POLICY CHARGES AND FEES ............................ 10 Premium Load; Net Premium Payment .............. 11 Surrender Charges .............................. 11 Partial Surrender Fee .......................... 12 Transfer Fee ................................... 12 Mortality and Expense Risk Charge .............. 12 Cost of Insurance Charge ....................... 13 Administrative Fee ............................. 13 Policy Loan Interest ........................... 13 Rider Charges .................................. 13 Case Exceptions ................................ 13 YOUR INSURANCE POLICY .............................. 14 Application .................................... 14 Owner .......................................... 15 Right-to-Examine Period ........................ 15 Initial Specified Amount ....................... 15 Transfers ...................................... 15 Market Timing .................................. 16 Optional Sub-Account Allocation Programs ....... 18 Riders ......................................... 18
Contents Page ---------------------------------------------------- ----- Continuation of Coverage ....................... 19 Termination of Coverage ........................ 19 State Regulation ............................... 20 PREMIUMS ........................................... 20 Allocation of Net Premium Payments ............. 20 Planned Premiums; Additional Premiums .......... 20 Policy Values .................................. 21 DEATH BENEFITS ..................................... 22 Death Benefit Options .......................... 22 Changes to the Initial Specified Amount and Death Benefit Options ........................ 23 Death Benefit Proceeds ......................... 24 POLICY SURRENDERS .................................. 24 Partial Surrender .............................. 25 POLICY LOANS ....................................... 25 LAPSE AND REINSTATEMENT ............................ 26 No Lapse Provision ............................. 26 Reinstatement of a Lapsed Policy ............... 28 TAX ISSUES ......................................... 29 Taxation of Life Insurance Contracts in General ...................................... 29 Policies That Are MECs ......................... 30 Policies That Are Not MECs ..................... 30 Other Considerations ........................... 31 Fair Value of Your Policy ...................... 32 Tax Status of Lincoln Life ..................... 32 RESTRICTIONS ON FINANCIAL TRANSACTIONS ..................................... 32 LEGAL PROCEEDINGS .................................. 32 FINANCIAL STATEMENTS ............................... 33 CONTENTS OF THE STATEMENT OF ADDITIONAL INFORMATION ........................... 34
2 POLICY SUMMARY Benefits of Your Policy Death Benefit Protection. The policy described in this prospectus is a variable life insurance policy which provides death benefit protection. Variable life insurance is a flexible tool for financial and investment planning for persons needing death benefit protection. You should consider other forms of investments if you do not need death benefit protection, as there are additional costs and expenses in providing the insurance. Benefits of the policy will be impacted by a number of factors discussed in this prospectus, including adverse investment performance and the amount and timing of premium payments. Tax Deferred Accumulation. Variable life insurance has significant tax advantages under current tax law. Policy values accumulate on a tax-deferred basis. A transfer of values from one Sub-Account to another within the policy currently generates no current taxable gain or loss. Any investment income and realized capital gains within a Sub-Account, or interest from the Fixed Account, is automatically reinvested without being taxed to the policy owner. Access to Your Policy Values. Variable life insurance offers access to policy values. You may borrow against your policy or surrender all or a portion of your policy. Your policy can support a variety of personal and business financial planning needs. Flexibility. The policy is a flexible premium variable life insurance policy in which flexible premium payments are permitted. You may select death benefit options, lapse protection coverage, and policy riders. You may increase or decrease the amount of death benefit. You are able to select, monitor, and change investment Sub-Account choices within your policy. With the wide variety of investment Sub-Accounts available, it is possible to fine tune an investment mix to meet changing personal objectives or investment conditions. Premium payments and cash values you choose to allocate to Sub-Accounts are used by us to purchase shares of underlying funds which follow investment objectives similar to the investment objectives of the corresponding Sub-Account. You should refer to this prospectus and the prospectus for each underlying fund for comprehensive information on the Sub-Accounts and the underlying funds. You may also allocate premiums and accumulation values to the Fixed Account. Risks of Your Policy Fluctuating Investment Performance. Sub-Accounts and policy values in the Sub-Accounts are not guaranteed and will increase and decrease in value according to investment performance of the underlying fund. If you put money into the Sub-Accounts, you assume all the investment risk on that money. A comprehensive discussion of each Sub-Account's objective and risk is found in this prospectus. A comprehensive discussion of each underlying fund's objective and risk is found in that fund's prospectus. You should review these prospectuses before making your investment decision. Your choice of Sub-Accounts and the performance of the funds underlying each Sub-Account will impact the policy's accumulation value and will impact how long the policy remains in force, its tax status, and the amount of premium you need to pay to keep the policy in force. Unsuitable for Short-Term Investment. This policy is intended for long-term financial and investment planning for persons needing death benefit protection. It is unsuitable for short-term goals and is not designed to serve as a vehicle for frequent trading. Policy Lapse. Sufficient premiums must be paid to keep a policy in force. There is a risk of lapse if premiums are too low in relation to the insurance amount or if investment results of the Sub-Accounts you have chosen are adverse or are less favorable than anticipated. In addition, outstanding policy loans and partial surrenders will increase the risk of lapse. Decreasing Death Benefit. Outstanding policy loans or any amounts that you have surrendered or withdrawn will reduce your policy's death benefit. Depending upon your choice of death benefit option, adverse performance of the Sub-Accounts you choose may also decrease your policy's death benefit. 3 Consequences of Surrender. There are surrender charges assessed if you surrender your policy within the first 10-15 policy years, and fees assessed for partial surrenders in all policy years. Depending on the amount of premium paid, or any reduction in specified amount, there may be little or no surrender value available. Partial surrenders may reduce the policy value and death benefit, and may increase the risk of lapse. Full or partial surrenders may result in tax consequences. Tax Consequences. You should always consult a tax adviser about the application of federal and state tax rules to your individual situation. The federal income tax treatment of life insurance is complex and current tax treatment of life insurance may change. There are other federal tax consequences such as estate, gift and generation skipping transfer taxes, as well as state and local income, estate and inheritance tax consequences. Charges and Fees This section describes the fees and expenses that you will pay when buying, owning or surrendering your policy. Refer to the "Policy Charges and Fees" section later in this prospectus for more information. Table I describes the fees and expenses that you will pay at the time you purchase your policy, surrender your policy, or transfer accumulation values between Sub-Accounts.
Table I: Transaction Fees When Charge Amount Charge is Deducted Deducted Maximum sales charge When you pay a premium. 5.0% of each premium payment. imposed on premiums (load) Surrender Charge* Upon full surrender of your policy (years 1-15). When you make certain specified amount decreases (years 1-10). Maximum and The surrender charge ranges from a maximum Minimum Charge of $49.40 to a minimum of $0.00 per $1,000 of specified amount. Charge for a For a male, age 45, nonsmoker, in year one, the Representative Insured maximum surrender charge is $34.25 per $1,000 of specified amount. For a female, age 45, nonsmoker, in year one the maximum surrender charge is $29.17 per $1,000 of specified amount. Partial Surrender Fee When you take a partial The lesser of $25 or 2% of the amount surrender of your policy. surrendered. Fund Transfer Fee Applied to any transfer request $ 25 in excess of 24 made during any policy year. Estate Tax Repeal Rider One-time charge at issue (if $250 (optional) elected).
4 Table II describes the fees and expenses that you will pay periodically during the time that you own your policy, not including the fund operating expenses shown in Table III.
Table II: Periodic Charges Other Than Fund Operating Expenses When Charge Amount Charge is Deducted Deducted Cost of Insurance* Monthly Maximum and The monthly cost of insurance rates for standard Minimum Charge issue individuals ranges from a guaranteed maximum of $83.33 per $1,000 per month to a guaranteed minimum of $0.00 per $1,000 per month of net amount at risk. Individuals with a higher mortality risk than standard issue individuals can be charged from 125% to 800% of the standard rate. Charge for a For a male, age 45, nonsmoker, the guaranteed Representative Insured maximum monthly cost of insurance rate is $.38 per $1,000 of net amount at risk. For a female, age 45, nonsmoker, the guaranteed maximum monthly cost of insurance rate is $.30 per $1,000 of net amount at risk. Mortality and Expense Daily (at the end of each Daily charge as a percentage of the value of the Risk Charge ("M&E") valuation day). Separate Account, guaranteed at an effective annual rate of 0.60%.1 Administrative Fee Monthly $15.00 per month.2 Policy Loan Interest Annually 5.0% annually of the amount held in the loan account.3
1 Guaranteed at an effective annual rate of 0.60% in policy years 1-10, and 0.20% in policy years 11 and beyond. 2 $15 per month for the first policy year, and $5 per month afterward, guaranteed not to exceed $10 per month after the first policy year. 3 Annual interest rate of 5% in years 1-10, and 4% in years 11 and later.
Table II: Periodic Charges Other Than Fund Operating Expenses (continued) When Charge Amount Charge is Deducted Deducted Rider Charges Individualized based on optional Rider(s) selected. Waiver of Monthly Monthly Deduction Rider* Maximum and The waiver of monthly deduction rate factor Minimum Charge ranges from a maximum of 12% of all other covered monthly charges to a minimum of 2% of all other covered monthly charges.
5
Table II: Periodic Charges Other Than Fund Operating Expenses (continued) When Charge Amount Charge is Deducted Deducted Charge for a For a male, age 45, nonsmoker, the maximum Representative Insured rate factor is 3.5% of all other covered monthly charges. For a female, age 45, nonsmoker, the maximum rate factor is 5% of all other covered monthly charges. Accounting Value Rider N/A There is no charge for this rider. Change of Insured Rider N/A There is no charge for this rider. Overloan Protection Rider One-time charge when you Maximum charge of 5% of the then current elect to use the benefit accumulation value.
* These charges and costs vary based on individual characteristics. The charges and costs shown in the tables may not be representative of the charges and costs that a particular policy owner will pay. You may obtain more information about the particular charges, cost of insurance, and the cost of certain riders that would apply to you by requesting a personalized policy illustration from your financial adviser. Table III shows the annual fund fees and expenses that are deducted daily from your Sub-Account values, on a pro rata basis. The table shows the minimum and maximum total operating expenses charged by the funds that you may pay during the time you own your policy. More detail concerning each fund's fees and expenses is contained in the prospectus for each fund. These fees and expenses may change at any time.
Table III: Total Annual Fund Operating Expenses (expenses that are deducted from fund assets) Total Annual Operating Expense Maximum Minimum Total management fees, distribution and/or service 1.07% 0.52% (12b-1) fees, and other expenses.
6 LINCOLN LIFE, THE SEPARATE ACCOUNT AND THE GENERAL ACCOUNT Lincoln Life & Annuity Company of New York (Lincoln Life, the Company, we, us, our) (EIN 22-0832760), is a stock life insurance company chartered in New Jersey in 1897 and redomesticated to New York on April 2, 2007. It is engaged primarily in the direct issuance of life insurance contracts and annuities. Lincoln Life is an indirect wholly owned subsidiary of Lincoln National Corporation (LNC), a publicly held insurance and financial services holding company incorporated in Indiana. Lincoln Life is obligated to pay all amounts promised to policy owners under the policies. Death benefit proceeds and rider benefits to the extent those proceeds and benefits exceed the then current accumulation value of your policy are backed by the claims-paying ability of Lincoln Life. Lincoln Financial Group is the marketing name for Lincoln National Corporation (NYSE:LNC) and its affiliates. Lincoln Financial Group sells a wide variety of financial products and solutions through financial advisors: mutual funds, managed accounts, retirement solutions, life insurance, 401(k) and 403(b) plans, savings plans, institutional investments and comprehensive financial planning and advisory services. Lincoln Life & Annuity Flexible Premium Variable Life Account Y (Separate Account) is a separate account of the Company which was established on January 8, 2002. The investment performance of assets in the Separate Account is kept separate from that of the Company's general account. Separate Account assets attributable to the policies are not charged with the general liabilities of the Company. Separate Account income, gains and losses are credited to or charged against the Separate Account without regard to the Company's other income, gains or losses. The Separate Account's values and investment performance are not guaranteed. It is registered with the Securities and Exchange Commission (the "Commission") as a unit investment trust under the Investment Company Act of 1940 ("1940 Act") and meets the definition of "separate account." Any changes in the investment policy of the Separate Account must be approved by the New York State Insurance Department. You may also allocate your premium payments and accumulation values in whole or in part to the Fixed Account. In the Fixed Account, we guarantee a minimum interest rate and assume the risk of investment gain or loss. The general account is secured by Lincoln Life's general assets. Fund Participation Agreement In order to make the funds in which the Sub-Accounts invest available, LFA has entered into an agreement with American Funds Insurance Series. In this agreement, LFA must perform certain administrative services for the fund or its distributor. For these administrative functions, LFA may be compensated by the fund at an annual rate of .25% of the assets attributable to the policies. The compensation comes from 12b-1 fees. Distribution of the Policies and Compensation The policy is distributed by broker-dealer firms through their registered representatives who are appointed as life insurance agents for the Company. One of the broker-dealer firms is Lincoln Financial Advisors Corporation ("LFA"), which is an affiliate of the Company. Broker-dealer firms may receive commission and service fees up to 55% of first year premium, plus up to 5% of all other premiums paid. The amount of compensation may also be affected by choices the policy owner has made, including choices of riders, when the policy was applied for. In lieu of premium-based commission, equivalent amounts may be paid over time, based on accumulation value. Additionally, the broker-dealer may be paid additional compensation on first year premiums and all additional premiums and/or provided reimbursements for portions of policy sales expenses. In some situations, the broker-dealer may elect to share its commission or expense reimbursement allowance with its registered representatives. Registered representatives of broker-dealer firms may also be eligible for cash bonuses and "non cash compensation." The latter, as defined in FINRA Conduct Rule 2820, includes such things as office space, computers, club credit, prizes, awards, and training and education meetings. 7 Broker-dealers or their affiliates may be paid additional amounts for: (1) "preferred product" treatment of the policies in their marketing programs, which may include marketing services and increased access to sales representatives; (2) sales promotions relating to the policies; (3) costs associated with sales conferences and educational seminars for their sales representatives; (4) other sales expenses incurred by them; and (5) inclusion in the financial products the broker-dealer offers. Loans may be provided to broker-dealers or their affiliates to help finance marketing and distribution of the policies, and those loans may be forgiven if aggregate sales goals are met. In addition, staffing or other administrative support and services may be provided to broker-dealers who distribute the policies. These additional types of compensation are not offered to all broker-dealers. The terms of any particular agreement governing compensation may vary among broker-dealers and the amounts may be significant. The prospect of receiving, or the receipt of, additional compensation may provide broker-dealers and/or their registered representatives with an incentive to favor sales of the policies over other variable life insurance policies (or other investments) with respect to which a broker-dealer does not receive additional compensation, or receives lower levels of additional compensation. You may ask your registered representative how he/she will personally be compensated for the transaction. You may wish to take such payments into account when considering and evaluating any recommendation relating to the policies. Depending on the particular selling arrangements, there may be others who are compensated for distribution activities. For example, certain "wholesalers," who control access to certain selling offices, may be compensated for access to those offices or for referrals, and that compensation may be separate from the compensation paid for sales of the policies. One of the wholesalers is Lincoln Financial Distributors, Inc. ("LFD"), a registered broker-dealer, also an affiliate of Lincoln Life. Marketing organizations, associations, brokers or consultants which provide marketing assistance and other services to broker-dealers who distribute the policies, and which may be affiliated with those broker-dealers, may also be compensated. Commissions and other incentives or payments described above are not charged directly to policy owners or the Separate Account. The potential of receiving, or the receipt of, such marketing assistance or other services and the payment to those who control access or for referrals, may provide broker-dealers and/or their registered representatives an incentive to favor sales of the policies over other variable life insurance policies (or other investments) with respect to which a broker-dealer does not receive similar assistance or disadvantage issuers of other variable life insurance policies (or other investments) which do not compensate for access or referrals. All compensation is paid from our resources, which include fees and charges imposed on your policy. We do not anticipate that the surrender charge, together with the portion of the premium load attributable to sales expense, will cover all sales and administrative expenses which we will incur in connection with your policy. Any such shortfall would be available for recovery from the Company's general account, which supports insurance and annuity obligations. Sub-Accounts and Funds The variable investment options in the policy are Sub-Accounts of the Separate Account. All amounts allocated or transferred to a Sub-Account are used to purchase shares of the appropriate fund to which we refer as the underlying fund. You do not invest directly in these funds. The investment performance of each Sub-Account will reflect the investment performance of the underlying fund. We create Sub-Accounts and select the funds the shares of which are purchased by amounts allocated or transferred to the Sub-Accounts based on several factors, including, without limitation, asset class coverage, the strength of the manager's reputation and tenure, brand recognition, performance, and the capability and qualification of each sponsoring investment firm. Another factor we consider during the initial selection process is whether the fund or an affiliate of the fund will compensate us for providing administrative, marketing, and/or support services that would otherwise be provided by the fund, the fund's investment adviser, or its distributor. We review each fund periodically after it is selected. Upon review, we may either close a Sub-Account or restrict allocation of additional purchase payments to a Sub-Account if we determine the fund in which such Sub-Account invests no longer meets one or more of the factors and/or if the Sub-Account has not attracted significant policy 8 owner assets. Alternatively, we may seek to substitute another fund which follows a similar investment objective as the fund in which a Sub-Account invests, subject to receipt of applicable regulatory approvals. Finally, when we develop a variable life insurance product in cooperation with a fund family or distributor (e.g., a "private label" product), we generally will include funds based on recommendations made by the fund family or distributor, whose selection criteria may differ from our selection criteria. A given underlying fund may have an investment objective and principal investment strategy similar to those for another fund managed by the same investment adviser or subadviser. However, because of timing of investments and other variables, there will be no correlation between the two investments. Even though the management strategy and the objectives of the funds are similar, the investment results may vary. Several of the underlying funds may invest in non-investment grade, high-yield, and high-risk debt securities (commonly referred to as "junk bonds"), as detailed in the individual fund prospectus. There is no assurance that the investment objective of any of the underlying funds will be met. You assume all of the investment performance risk for the Sub-Accounts you select. The amount of risk varies significantly among the Sub-Accounts. You should read each underlying fund's prospectus carefully before making investment choices. Additional Sub-Accounts and underlying funds may be made available in our discretion. The right to select among Sub-Accounts will be limited by the terms and conditions imposed by the Company. The underlying funds and their investment adviser and objectives are listed below. Comprehensive information on each fund, its objectives and past performance may be found in each fund prospectus. American Funds Insurance Series, advised by Capital Research and Management Company o Asset Allocation Fund (Class 2): Current income. o Blue Chip Income and Growth Fund (Class 2): Income and growth. o Bond Fund (Class 2): Current income. o Cash Management Fund (Class 2): Preservation of capital. (Referenced as "Money Market Sub-Account") o Global Bond Fund (Class 2): Total return. o Global Discovery Fund (Class 2): Long-term growth. o Global Growth Fund (Class 2): Long-term growth. o Global Growth and Income Fund (Class 2): Growth and income. o Global Small Capitalization Fund (Class 2): Long-term growth. o Growth Fund (Class 2): Long-term growth. o Growth-Income Fund (Class 2): Growth and income. o High-Income Bond Fund (Class 2): High current income. o International Fund (Class 2): Long-term growth. o New World Fund (Class 2): Long-term growth. o U.S. Government/AAA-Rated Securities Fund (Class 2): High current income. Sub-Account Availability and Substitution of Funds Lincoln Life may close Sub-Accounts and may seek to substitute shares of other funds as the fund in which a Sub-Account invests if: 1) the shares of any underlying fund should no longer be available for investment by the Separate Account; or 2) the Sub-Account has not attracted significant policyholder allocations; or 9 3) in our judgment, further investment in such shares ceases to be appropriate in view of the purpose of the Separate Account, legal, regulatory or federal income tax restrictions, or for any other reason. We will obtain any necessary regulatory or other approvals prior to such a change. We will endorse your policy as required to reflect any withdrawal or substitution of underlying funds. Substitute funds may have higher charges than the funds being replaced. Voting Rights The underlying funds do not hold regularly scheduled shareholder meetings. When a fund holds a special meeting for the purpose of approving changes in the ownership or operation of the fund, the Company is entitled to vote the shares held by our Sub-Account in that fund. Under our current interpretation of applicable law, you may instruct us how to vote those shares. We will notify you when your instructions are needed and will provide information from the fund about the matters requiring the special meeting. We will calculate the number of votes for which you may instruct us based on the amount you have allocated to that Sub-Account, and the value of a share of the corresponding fund, as of a date chosen by the fund (record date). If we receive instructions from you, we will follow those instructions in voting the shares attributable to your policy. If we do not receive instructions from you, we will vote the shares attributable to your policy in the same proportion as we vote other shares based on instructions received from other policy owners. Since underlying funds may also offer their shares to entities other than the Company, those other entities also may vote shares of the underlying funds, and those votes may affect the outcome. Each underlying fund is subject to the laws of the state in which it is organized concerning, among other things, the matters which are subject to a shareholder vote, the number of shareholders which must be present in person or by proxy at a meeting of shareholders (a "quorum"), and the percentage of such shareholders present in person or by proxy which must vote in favor of matters presented. Because shares of the underlying fund held in the Separate Account are owned by the Company, and because under the 1940 Act the Company will vote all such shares in the same proportion as the voting instruction which we receive, it is important that each policy owner provide their voting instructions to the Company. Even though policy owners may choose not to provide voting instruction, the shares of a fund to which such policy owners would have been entitled to provide voting instruction will, subject to fair representation requirements, be voted by the Company in the same proportion as the voting instruction which we actually receive. All shares voted by the Company will be counted when the underlying fund determines whether any requirement for a minimum number of shares be present at such a meeting to satisfy a quorum requirement has been met. POLICY CHARGES AND FEES Policy charges and fees compensate us for providing your insurance benefit, administering your policy, assuming risks associated with your policy, and incurring sales related expenses. We may profit from any of these charges, and we may use this profit for any purpose, including covering shortfalls from other charges. In addition to policy charges, the investment adviser for each of the underlying funds deducts a daily charge as a percent of the value in each fund as an asset management charge. The charge reflects asset management fees of the investment adviser. Other expenses (including 12b-1 fees for Class 2 shares and other expenses) are incurred by the funds and deducted from fund assets. Values in the Sub-Accounts are reduced by these charges. Future fund expenses may vary. Detailed information about charges and expenses incurred by each underlying fund is contained in that fund's prospectus. The monthly deductions, including the cost of insurance charges, may be deducted in two ways: 1) Proportionately from the net accumulation value of each Sub-Account and the Fixed Account subject to the charge. 2) From the net accumulation value of specific funds which you have designated. 10 If you have selected designated funds, and in a given month there is not sufficient value in those funds to cover the monthly deduction, we will take the remaining monthly deduction pro rata from the rest of the funds in your policy that have value. If you have not selected designated funds, the monthly deductions will be taken pro rata from all of the funds in your policy that have value. The monthly deductions are made on the "monthly anniversary day," which is the date of issue and the same day of each month thereafter. If the day that would otherwise be a monthly anniversary day is non-existent for that month, or is not a valuation day, then the monthly anniversary day is the next valuation day. You may select or change designated funds at any time prior to a monthly anniversary day by contacting our Administrative Office. If the net accumulation value is insufficient to cover the current monthly deduction, you have a 61-day grace period to make a payment sufficient to cover that deduction. Premium Load; Net Premium Payment We make a deduction from each premium payment. This amount, referred to as "premium load," covers certain policy-related state and federal tax liabilities. It also covers a portion of the sales expenses incurred by the Company. We deduct 5% from each premium payment. The premium payment, after deduction of the premium load, is called the "net premium payment." Surrender Charges A surrender charge may apply if the policy is totally surrendered or has a decrease in the specified amount of death benefit. The surrender charge is in part a deferred sales charge and in part a recovery of certain first year administrative costs. A schedule of surrender charges is included in each policy. The surrender charge varies by age of the insured, the number of years since the date of policy issue or the date of an increase in specified amount, and the specified amount. The surrender charge will never exceed $49.40 per $1,000 of specified amount. A personalized schedule of surrender charges is included in each policy. You may obtain more information about the surrender charges that would apply to your policy by requesting a personalized illustration from your insurance representative. The duration of the surrender charge is 15 years for full surrenders and 10 years for decreases in specified amount. The length of the surrender charge period varies based on the age of the insured on the date of issue or the date of an increase in your specified amount as follows: o Ages 0-50, 15 years o Age 51, 14 years o Age 52, 13 years o Age 53, 12 years o Age 54, 11 years o Ages 55 and above, 10 years Surrender charges are assessed by withdrawing value from the Sub-Accounts and the Fixed Account proportionately. The surrender charge will not exceed the policy value. All surrender charges decline to zero within 15 years following policy issue, or any increase in specified amount. Upon either a full surrender of the policy or a decrease in specified amount, the charge will be subject to the following conditions: A. For decreases in specified amount, excluding full surrender of the policy, no surrender charge will be applied where the decrease: 1) occurs after the tenth policy anniversary following policy issue; or 11 2) is directly caused by a death benefit option change; or 3) is caused by a partial surrender; or 4) when added to the sum of all prior decreases, does not exceed 25% of the initial specified amount. B. For all other decreases, the charge will be calculated as 1) minus 2), then divided by 3) and then multiplied by 4), where: 1) is the amount of this decrease plus any prior decreases; 2) is the greater of an amount equal to 25% of the initial specified amount or the sum of all prior decreases; 3) is the initial specified amount; and 4) is the then applicable surrender charge from the schedule in the policy. We may refuse or limit requests for decreases in specified amount, to the extent there is insufficient value to cover the necessary surrender charges. If you increase the specified amount, a new surrender charge will be applicable to each increase. This charge is in addition to any surrender charge on the existing specified amount. Upon an increase in specified amount, we will send you a letter confirming the change has been made to your policy. Upon full surrender of your policy following a policy decrease, the surrender charge will be calculated as the entire amount shown in the policy specifications, multiplied by one minus the percentage of the initial specified amount for which a surrender charge was previously assessed. The charge assessed upon a full surrender will not exceed the policy's value. If your policy includes the Estate Tax Repeal Rider, and if you satisfy its special conditions, you will have a one-time right to cancel your policy without being subject to surrender charges. This is a limited benefit and is subject to our specific definition of Estate Tax Repeal. Any surrender may have tax implications. Consult your tax or other financial adviser before initiating a surrender. Partial Surrender Fee No surrender charge is imposed on a partial surrender, but an administrative fee of 2% of the amount withdrawn, not to exceed $25, is imposed. This fee is allocated pro rata among the Sub-Accounts and the Fixed Account from which the partial surrender proceeds are taken. Transfer Fee For each transfer request in excess of 24 made during any policy year, we reserve the right to charge you an administrative fee of $25. Mortality and Expense Risk Charge We assess a daily mortality and expense risk charge as a percentage of the value of the Sub-Accounts. The mortality risk assumed is that the insured may live for a shorter period than we originally estimated. The expense risk assumed is that our expenses incurred in issuing and administering the policies will be greater than we originally estimated. The current charge is the guaranteed effective annual rate of 0.60% in policy years 1-10 and 0.20% in policy years 11 and beyond. 12 Cost of Insurance Charge A significant cost of variable life insurance is the "cost of insurance" charge. This charge is the portion of the monthly deduction designed to compensate the Company for the anticipated cost of paying death benefits in excess of the policy value. It is determined based on our expectation of future mortality, investment earnings, persistency and expenses (including taxes). The cost of insurance charge depends on the policy duration, the age, underwriting category and gender of the insured, and the current net amount at risk. The net amount at risk is the death benefit minus the greater of zero or the policy value, and may vary with investment performance, premium payment patterns, and charges. The rate on which the monthly deduction for the cost of insurance is based will generally increase each policy year as the insured ages. Cost of insurance rates are generally lower for healthy individuals. The cost of insurance is determined monthly by dividing the death benefit at the beginning of the policy month by 1 plus .0032737 (the monthly equivalent of an effective annual rate of 4.0%), subtracting the value at the beginning of the policy month, and multiplying the result (the "net amount at risk") by the applicable cost of insurance rate as determined by the Company. The current cost of insurance charge may be less than the guaranteed maximum cost of insurance charge, but it will never exceed the guaranteed maximum cost of insurance charge. A schedule of guaranteed maximum cost of insurance rates is part of your policy. Administrative Fee There is a flat monthly deduction of $15 during the first policy year and, currently, $5 monthly thereafter (guaranteed not to exceed $10 monthly after the first policy year). This fee compensates the Company for administrative expenses associated with policy issue and ongoing policy maintenance including premium billing and collection, policy value calculation, confirmations, periodic reports and other similar matters. Policy Loan Interest If you borrow against your policy, interest will be charged to the loan account value. The annual effective interest rate is 5% in years 1-10, 4% in years 11 and beyond. We will credit 4% interest on the loan account value in all years. Rider Charges Waiver of Monthly Deduction Rider. The monthly charge for this benefit is equal to the sum of all other covered monthly charges for the policy and all riders, multiplied by a rate factor. The rate factor depends on the age, underwriting category and gender of the insured. The maximum rate factor is 12.0%. If you have elected this rider, a table of rate factors appears on the rider pages in your policy. Estate Tax Repeal Rider. There is a $250 one-time charge at issue for this rider. Overloan Protection Rider. There is a one-time charge for this rider if you choose to elect the benefit. This charge will not exceed 5.0% of the accumulation value at the time you elect the benefit. Case Exceptions Charges and fees may be reduced in some circumstances where policies are purchased by corporations and other groups or sponsoring organizations on a multiple-life case basis. 13 YOUR INSURANCE POLICY Your policy is a life insurance contract that provides for a death benefit payable on the death of the insured. The policy and the application constitute the entire contract between you and Lincoln Life. If we obtain appropriate approvals from policy owners and securities regulators, we may: o change the investment objective of the Separate Account; o operate the Separate Account as a management investment company, unit investment trust, or any other form permitted under applicable securities laws; o deregister the Separate Account; or o combine the Separate Account with another separate account. We will notify you of any change that is made. The policy includes policy specifications pages, with supporting schedules. These pages and schedules provide important information about your policy such as: the identity of the insured and owner; date of issue; the initial specified amount; the death benefit option selected; issue age; named beneficiary; initial premium payment; surrender charges; expense charges and fees; No Lapse premium; and guaranteed maximum cost of insurance rates. When your policy is delivered to you, you should review it promptly to confirm that it reflects the information you provided in your application. If not, please notify us immediately. The policy is nonparticipating. This means that no dividends are payable to you. In addition, your policy does not share in the profits or surplus earnings of the Company. Before purchasing the policy to replace, or to be funded with proceeds from an existing life insurance policy or annuity, make sure you understand the potential impact. The insured will need to prove current insurability and there may be a new contestable period for the new policy. The death benefit and policy values may be less for some period of time in the new policy. The date of issue is the date on which we begin life insurance coverage. This is the date from which policy years, policy anniversary and age are determined. Once your policy is in force, the effective date of payments and requests you send us is usually determined by the day and time we receive them. We allow telephone or other electronic transactions when you complete our authorization form and return it to us. Contact our Administrative Office for information on permitted electronic transactions and authorization for electronic transactions. Any telephone or other electronic transmission, whether it is yours, your service provider's, your agent's, or ours, can experience outages or slowdowns for a variety of reasons. Although we have taken precautions to help our systems handle heavy use, we cannot promise complete reliability under all circumstances. If you experience problems, you should send your request in writing to our Administrative Office. Application If you decide to purchase a policy, you must first complete an application. A completed application identifies the proposed insured and provides sufficient information to permit us to begin underwriting risks in the policy. We require a medical history and examination of the proposed insured. Based on our review of medical information about the proposed insured, we may decline to provide insurance, or we may place the proposed insured in a special underwriting category. The monthly cost of insurance charge deducted from the policy value after issue varies depending on the insured's age, underwriting category, and gender, the policy duration, and the current net amount at risk. 14 A policy may only be issued upon receipt of satisfactory evidence of insurability, and generally when the insured is at least age 18 and at most age 85. Age will be determined by the nearest birthday of the insured. To help the government fight the funding of terrorism and money laundering activities, Federal law requires all financial institutions to obtain, verify, and record information that identifies each person who opens an account. When you apply for a policy, we will ask for your name, address, date of birth, and other information that will allow us to identify you. We may also ask to see your driver's license, photo i.d. or other identifying documents. Owner The owner on the date of policy issue is designated in the policy specifications. You, as owner, will make the following choices: 1) initial death benefit amount and death benefit option; 2) optional No Lapse protection and riders; 3) the amount and frequency of premium payments; and 4) the amount of net premium payment to be allocated to the selected Sub-Accounts or the Fixed Account. You are entitled to exercise rights and privileges of your policy as long as the insured is living. These rights generally include the power to select the beneficiary, request policy loans, make partial surrenders, surrender the policy entirely, name a new owner, and assign the policy. You must inform us of any change in writing. We will record change of owner and beneficiary forms to be effective as of the date of the latest signature in good order. Right-to-Examine Period You may return your policy to us for cancellation within 45 days of the date the application is signed or 10 days after you receive the policy (60 days for policies issued in replacement of other insurance). This is called the right-to-examine period. If the policy is returned for cancellation within the right-to-examine period, we will refund to you all premium payments. If a premium payment was made by check, there may be a delay until the check clears. Any net premium payments received by us within ten days of the date the policy was issued will be held in the Money Market Sub-Account. At the end of that period, it will be allocated to the Sub-Accounts or the Fixed Account, if applicable, as you designate. If the policy is returned for cancellation within the right-to-examine period, we will return the full amount of any premium payments made. Initial Specified Amount You will select the initial specified amount of death benefit on the application. This may not be less than $100,000. This amount, in combination with a death benefit option, will determine the initial death benefit. The initial specified amount is shown on the policy specifications page. Transfers You may make transfers among the Sub-Accounts and the Fixed Account, subject to certain provisions. You should carefully consider current market conditions and each fund's objective and investment policy before allocating money to the Sub-Accounts. During the first policy year, transfers from the Fixed Account to the Sub-Accounts may be made only as provided for in the dollar cost averaging program described below. The amount of all transfers from the Fixed Account in any other policy year may not exceed the greater of: 1) 25% of the Fixed Account value as of the immediately preceding policy anniversary, or 15 2) the total dollar amount transferred from the Fixed Account in the immediately preceding policy year. Up to 24 transfer requests (a request may involve more than a single transfer) may be made in any policy year without charge. We may limit transfers from the Fixed Account at any time. Requests for transfers must be made in writing, or electronically, if you have previously authorized telephone or other electronic transfers in writing, subject to our consent. Any transfer among the Sub-Accounts or to the Fixed Account will result in the crediting and cancellation of accumulation units. This will be based on the accumulation unit values determined after our Administrative Office receives a request in writing or adequately authenticated electronic transfer request. Transfer and financial requests received in good order before 4:00 P.M. Eastern time on a business day will normally be effective that day. Market Timing Frequent, large, or short-term transfers among Sub-Accounts and the Fixed Account, such as those associated with "market timing" transactions, can affect the underlying funds and their investment returns. Such transfers may dilute the value of the fund shares, interfere with the efficient management of the fund's portfolio, and increase brokerage and administrative costs of the funds. As an effort to protect our policy owners and the funds from potentially harmful trading activity, we utilize certain market timing policies and procedures (the "Market Timing Procedures"). Our Market Timing Procedures are designed to detect and prevent such transfer activity among the Sub-Accounts and the Fixed Account that may affect other policy owners or fund shareholders. In addition, the underlying funds may have adopted their own policies and procedures with respect to frequent purchases and redemptions of their respective shares. The prospectuses for the funds describe any such policies and procedures, which may be more or less restrictive than the frequent trading policies and procedures of other funds and the Market Timing Procedures we have adopted to discourage frequent transfers among Sub-Accounts. While we reserve the right to enforce these policies and procedures, policy owners and other persons with interests under the policies should be aware that we may not have the contractual obligation or the operational capacity to apply the frequent trading policies and procedures of the funds. However, under the SEC rules, we are required to: (1) enter into written agreement with each underlying fund or its principal underwriter that obligates us to provide to the underlying fund promptly upon request certain information about the trading activity of individual policy owners, and (2) execute instructions from the underlying fund to restrict or prohibit further purchases or transfers by specific policy owners who violate excessive trading policies established by the underlying fund. You should be aware that the purchase and redemption orders received by underlying funds generally are "omnibus" orders from intermediaries such as retirement plans or separate accounts to which premium payments and cash values of variable insurance policies are allocated. The omnibus orders reflect the aggregation and netting of multiple orders from individual retirement plan participants and/or individual owners of variable insurance policies. The omnibus nature of these orders may limit the underlying funds' ability to apply their respective disruptive trading policies and procedures. We cannot guarantee that the underlying funds (and thus our policy owners) will not be harmed by transfer activity relating to the retirement plans and/or other insurance companies that may purchase the underlying funds. In addition, if an underlying fund believes that an omnibus order we submit may reflect one or more transfer requests from policy owners engaged in disruptive trading activity, the underlying fund may reject the entire omnibus order. Our Market Timing Procedures detect potential "market timers" by examining the number of transfers made by policy owners within given periods of time. In addition, managers of the underlying funds might contact us if they believe or suspect that there is market timing. If requested by a fund company, we may vary our Market Timing Procedures from Sub-Accounts to Sub-Accounts to comply with specific fund policies and procedures. We may increase our monitoring of policy owners who we have previously identified as market timers. When applying the parameters used to detect market timers, we will consider multiple contracts owned by the same policy owner if that policy owner has been identified as a market timer. For each policy owner, we will investigate 16 the transfer patterns that meet the parameters being used to detect potential market timers. We will also investigate any patterns of trading behavior identified by the funds that may not have been captured by our Market Timing Procedures. Once a policy owner has been identified as a "market timer" under our Market Timing Procedures, we will notify the policy owner in writing that future transfers (among the Sub-Accounts and/or the Fixed Account) will be temporarily permitted to be made only by original signature sent to us by U.S. mail, standard delivery for the remainder of the policy year. Overnight delivery or electronic instructions (which may include telephone, facsimile, or Internet instructions) submitted during this period will not be accepted. If overnight delivery or electronic instructions are inadvertently accepted from a policy owner that has been identified as a market timer, upon discovery, we will reverse the transaction within 1 to 2 business days of our discovery. We will impose this "original signature" restriction on that policy owner even if we cannot identify, in the particular circumstances, any harmful effect from that policy owner's particular transfers. Policy owners seeking to engage in frequent, large, or short-term transfer activity may deploy a variety of strategies to avoid detection. Our ability to detect such transfer activity may be limited by operational systems and technological limitations. The identification of policy owners determined to be engaged in such transfer activity that may adversely affect other policy owners or fund shareholders involves judgments that are inherently subjective. We cannot guarantee that our Market Timing Procedures will detect every potential market timer. If we are unable to detect market timers, you may experience dilution in the value of your fund shares and increased brokerage and administrative costs in the funds. This may result in lower long-term returns for your investments. Our Market Timing Procedures are applied consistently to all policy owners. An exception for any policy owner will be made only in the event we are required to do so by a court of law. In addition, certain underlying funds available as investment options in your policy may also be available as investment options for owners of other, older life insurance policies issued by us. Some of these older life insurance policies do not provide a contractual basis for us to restrict or refuse transfers which are suspected to be market timing activity. In addition, because other insurance companies and/or retirement plans may invest in the underlying funds, we cannot guarantee that the funds will not suffer harm from frequent, large, or short-term transfer activity among Sub-Accounts and the Fixed Accounts of variable contracts issued by other insurance companies or among investment options available to retirement plan participants. In our sole discretion, we may revise our Market Timing Procedures at any time without prior notice as necessary to better detect and deter frequent, large, or short-term transfer activity to comply with state or federal regulatory requirements, and/or to impose additional or alternate restrictions on market timers (such as dollar or percentage limits on transfers). If we modify our Market Timing Procedures, they will be applied uniformly to all policy holders or as applicable to all policy holders with policy values allocated to Sub-Accounts investing in particular underlying funds. We also reserve the right to implement and administer redemption fees imposed by one or more of the funds in the future. Some of the underlying funds have reserved the right to temporarily or permanently refuse payments or transfer requests from us if, in the judgment of the underlying fund's investment adviser, the underlying fund would be unable to invest effectively in accordance with its investment objective or policies, or would otherwise potentially be adversely affected. To the extent permitted by applicable law, we reserve the right to defer or reject a transfer request at any time that we are unable to purchase or redeem shares of any of the funds in which the Separate Account invests, including any refusal or restriction on purchases or redemptions of the Sub-Account units as a result of the funds' own policies and procedures on market timing activities. If a fund refuses to accept a transfer request we have already processed, we will reverse the transaction within 1-2 business days of the day on which we receive notice of the refusal. We will notify you in writing if we have reversed, restricted or refused any of your transfer requests. Some underlying funds also may impose redemption fees on short-term trading (i.e., redemptions of underlying fund shares within a certain number of business days after purchase). We reserve the right to administer and collect any such redemption fees on behalf of the underlying funds. You should read the prospectuses of the funds for more details on their redemption fees and their ability to refuse or restrict purchases or redemptions of their shares. 17 Optional Sub-Account Allocation Programs You may elect to participate in programs for dollar cost averaging or automatic rebalancing. There is currently no charge for these programs. You may participate in only one program at any time. Dollar Cost Averaging systematically transfers specified dollar amounts from the Money Market Sub-Account or the Fixed Account. Transfer allocations may be made to one or more of the Sub-Accounts (not the Fixed Account) on a monthly or quarterly basis. These transfers do not count against the free transfers available. Transfers from the Fixed Account can only be elected at the time your policy is issued. Transfers from the Money Market Sub-Account may be elected at any time while your policy is in force. By making allocations on a regularly scheduled basis, instead of on a lump sum basis, you may reduce exposure to market volatility. Dollar cost averaging will not assure a profit or protect against a declining market. If the owner elects Dollar Cost Averaging from either the Money Market Sub-Account or the Fixed Account the value in that account must be at least $1,000 initially. The minimum amount that may be allocated is $50 monthly. You may elect dollar cost averaging on your application, or contact our Administrative Office for information. Dollar cost averaging terminates automatically: 1) if the value in the Money Market Sub-Account or the Fixed Account is insufficient to complete the next transfer; 2) seven calendar days after our Administrative Office receives a request for termination in writing or by telephone, with adequate authentication; 3) after 12 or 24 months (as elected on your application); or 4) if your policy is surrendered or otherwise terminates. Automatic Rebalancing periodically restores to a pre-determined level the percentage of policy value allocated to each Sub-Account. The Fixed Account is not subject to rebalancing. The pre-determined level is the allocation initially selected on the application, until changed by the owner. If automatic rebalancing is elected, all net premium payments allocated to the Sub-Accounts will be subject to automatic rebalancing. Transfers among the Sub-Accounts and the Fixed Account as a result of automatic rebalancing do not count against the number of free transfers available. You may select automatic rebalancing on a quarterly, semi-annual or annual basis. Automatic rebalancing may be elected, terminated, or the allocation may be changed at any time, by contacting our Administrative Office. Riders We may offer you riders to your policy from time to time. Riders may alter the benefits or charges in your policy and their election may have tax consequences to you. Also, if you elect a particular rider, it may restrict the terms of your policy, or of other riders in force. Consult your financial and tax advisers before adding riders to, or deleting them from, your policy. Waiver of Monthly Deduction Rider. If desired, you must select this rider when you initially apply for insurance. We will maintain the death benefit by waiving covered monthly deductions during periods of the insured's disability. Charges for this rider, if elected, are part of the monthly deductions. Accounting Value Rider. If desired, you must select this rider when you initially apply for insurance. You must meet the underwriting and minimum premium requirements for this rider. If your policy is fully surrendered in the first four policy years, this rider provides enhanced cash surrender values by using a table of alternate surrender charges. The rider does not provide for enhanced cash surrender value for partial surrenders and loans. There is no charge for this rider. Change of Insured Rider. With this rider, you may name a new insured in place of the current insured. Underwriting and policy value requirements must be met. The benefit expires on the anniversary nearest to the current insured's 65th birthday. There is no separate charge for this rider, however policy charges applicable to the 18 new insured may differ from charges applicable to the current insured. Exercising the Change of Insured Rider is a fully taxable event. Estate Tax Repeal Rider. If desired, you must select this rider when you initially apply for insurance. In the event of federal estate tax repeal as set forth in the Economic Growth and Tax Relief Reconciliation Act of 2001 (H.R. 1836) being extended, this rider allows you to cancel your policy for an amount equal to the surrender value of the policy plus the applicable surrender charge. There is a one-time $250 charge at issue for this rider. For purposes of this rider, estate tax repeal will be deemed to have occurred if federal legislation is enacted into law that extends the estate tax repeal provisions set forth in the Economic Growth and Tax Reconciliation Act of 2001 (H.R. 1836) at least two years beyond January 1, 2011. This new legislation must be in effect on January 1, 2010. The start date for this rider (the date that begins the 12-month "window" for you to exercise the rider) is the later of January 1, 2010, or the date in 2010 upon which legislation is enacted that triggers estate tax repeal, but no later than December 31, 2010. This rider terminates on the earliest of: 1) one year from the start date; 2) December 31, 2010, provided no estate tax repeal, as defined above, has been enacted; 3) the date you request termination of the rider; 4) termination of your policy; or 5) full surrender of your policy prior to the start date. If your policy lapses but is reinstated, the rider will likewise be reinstated, provided such reinstatement occurs before 1), 2), or 3) above. Overloan Protection Rider. If this rider is issued with your policy, you meet the requirements as described in this rider and have elected this benefit, your policy will not lapse solely based on indebtedness exceeding the accumulation value less the surrender charges. It is a limited benefit, in that it does not provide any additional death benefit or any increase in accumulation value. Also, it does not provide any type of market performance guarantee. If your policy is issued on or after May 22, 2006, we will automatically issue this rider with your policy. There is no charge for adding this rider to your policy. However, if you choose to elect the benefit provided by the rider, there is a one-time charge which will not exceed 5% of the then current accumulation value. Once you elect the benefit, certain provisions of your policy will be impacted as described in the rider. Continuation of Coverage If the insured is still living at age 100, and the policy has not been surrendered, the policy will remain in force until policy surrender or death of the insured. However, there are certain changes that will take place: 1) we will no longer accept premium payments; 2) we will make no further deductions; 3) policy values held in the Separate Account will be transferred to the Fixed Account; and 4) we will no longer transfer amounts to the Sub-Accounts. Loan interest will continue to accrue on any outstanding loans. Termination of Coverage All policy coverage terminates on the earliest of: 1) surrender of the policy; 19 2) death of the insured; or 3) failure to pay the necessary amount of premium to keep your policy in force. State Regulation New York regulations will govern whether or not certain features, riders, charges and fees will be allowed in your policy. PREMIUMS You may select and vary the frequency and the amount of premium payments and the allocation of net premium payments. After the initial premium payment is made there is no minimum premium required, except to maintain the No Lapse provision or to keep the policy in force. Premiums may be paid any time before the insured attains age 100. The initial premium must be paid for policy coverage to be effective. This payment must be equal to or exceed the amount necessary to provide for two monthly deductions. Allocation of Net Premium Payments Your net premium payment is the portion of a premium payment remaining, after deduction of the premium load. The net premium payment is available for allocation to the Sub-Accounts or the Fixed Account. You first designate the allocation of net premium payments among the Sub-Accounts and Fixed Account on the application. Subsequent net premium payments will be allocated on the same basis unless we are instructed otherwise, in writing. You may change the allocation of net premium payments among the Sub-Accounts and Fixed Account at any time. The amount of net premium payments allocated to the Sub-Accounts and Fixed Account must be in whole percentages and must total 100%. We credit net premium payments to your policy as of the end of the valuation period in which it is received at our Administrative Office. The end of the valuation period is 4:00 P.M., Eastern Time, unless the New York Stock Exchange closes earlier. The valuation period is the time between valuation days. A valuation day is every day on which the New York Stock Exchange is open and trading is unrestricted. Your policy values are calculated on every valuation day. Planned Premiums; Additional Premiums Planned premiums are the amount of periodic premium (as shown in the policy specifications) you choose to pay the Company on a scheduled basis. This is the amount for which we send a premium reminder notice. Premium payments may be billed annually, semi-annually, or quarterly. You may arrange for monthly pre-authorized automatic premium payments at any time. In addition to any planned premium, you may make additional premium payments. These additional payments must be sent directly to our Administrative Office, and will be credited when received by us. Unless you specifically direct otherwise, any payment received (other than any premium payment necessary to prevent, or cure, policy lapse) will be applied as premium and will not repay any outstanding loans. There is no premium load on any payment which you specifically direct as repayment of an outstanding loan. You may increase planned premiums, or pay additional premiums, subject to the certain limitations. We reserve the right to limit the amount or frequency of additional premium payments. We may require evidence of insurability if any payment of additional premium (including planned premium) would increase the difference between the death benefit and the accumulation value. If we are unwilling to accept the risk, your increase in premium will be refunded without interest. 20 We may decline any additional premium (including planned premium) or a portion of a premium that would cause total premium payments to exceed the limit for life insurance under federal tax laws. Our test for whether or not your policy exceeds the limit is referred to as the guideline premium test. The excess amount of premium will be returned to you. We may accept alternate instructions from you to prevent your policy from becoming a MEC. Refer to the section headed "Tax Issues" for more information. Policy Values Policy value in your variable life insurance policy is also called the accumulation value. The accumulation value equals the sum of the Fixed Account value, the Separate Account value, and the loan account value. At any point in time, the accumulation value reflects: 1) net premium payments made; 2) the amount of any partial surrenders; 3) any increases or decreases as a result of market performance of the Sub-Accounts; 4) interest credited to the Fixed Account or the loan account; and 5) all charges and fees deducted. The Separate Account value, if any, is the portion of the accumulation value attributable to the Separate Account. The value is equal to the sum of the current values of all the Sub-Accounts in which you have invested. This is also referred to as the variable accumulation value. A unit of measure used in the calculation of the value of each Sub-Account is the variable accumulation unit. It may increase or decrease from one valuation period to the next. The variable accumulation unit value for a Sub-Account for a valuation period is determined as follows: 1) the total value of fund shares held in the Sub-Account is calculated by multiplying the number of fund shares owned by the Sub-Account at the beginning of the valuation period by the net asset value per share of the fund at the end of the valuation period, and adding any dividend or other distribution of the fund made during the valuation period; minus 2) the liabilities of the Sub-Account at the end of the valuation period. Such liabilities include daily charges imposed on the Sub-Account, and may include a charge or credit with respect to any taxes paid or reserved for by Lincoln Life that we determine result from the operations of the Separate Account; and 3) the result of (1) minus (2) is divided by the number of variable accumulation units for that Sub-Account outstanding at the beginning of the valuation period. In certain circumstances, and when permitted by law, we may use a different standard industry method for this calculation, called the Net Investment Factor method. We will achieve substantially the same result using either method. The daily charge imposed on a Sub-Account for any valuation period is equal to the daily mortality and expense risk charge multiplied by the number of calendar days in the valuation period. The Fixed Account value, if any, reflects amounts allocated or transferred to the Fixed Account, plus interest credited, and less any deductions or partial surrenders. We guarantee the Fixed Account value. Interest is credited daily on the Fixed Account value at the greater of a rate of 0.010746% (equivalent to a compounded annual rate of 4%) or a higher rate determined by the Company. The loan account value, if any, reflects any outstanding policy loans, including any interest charged on the loans. This amount is held in the Company's general account. We do not guarantee the loan account value. Interest is credited on the loan account at an effective annual rate of 4% in all years. 21 The "net" accumulation value is the accumulation value less the loan account value. It represents the net value of your policy and is the basis for calculating the surrender value. We will tell you at least annually the accumulation value, the number of accumulation units credited to your policy, current accumulation unit values, Sub-Account values, the Fixed Account value and the loan account value. We strongly suggest that you review your statements to determine whether additional premium payments may be necessary to avoid lapse of your policy. DEATH BENEFITS The death benefit proceeds is the amount payable to the beneficiary upon the death of the insured, based upon the death benefit option in effect. Loans, loan interest, partial surrenders, and overdue charges, if any, are deducted from the death benefit proceeds prior to payment. may impact the amount payable as death benefit proceeds in your policy. Refer to the "Riders" section of this prospectus for more information. Death Benefit Options Three different death benefit options are available. Regardless of which death benefit option you choose, the death benefit proceeds payable will be the greater of: 1) the amount determined by the death benefit option in effect on the date of the death of the insured, less any indebtedness; or 2) a percentage of the accumulation value equal to that required by the Internal Revenue Code to maintain the policy as a life insurance policy. A schedule of these percentages is in your policy. The following table provides more information about the death benefit options.
Option Death Benefit Proceeds Equal to the Variability 1 Specified amount (a minimum of $100,000) None; level death benefit 2 Sum of the specified amount plus the net accumulation value as of May increase or decrease over the date of the insured's death. time, depending on the amount of premium paid and the investment performance of the underlying Sub-Accounts or the Fixed Account. 3 Sum of the specified amount plus the accumulated premiums (all Will generally increase, premiums paid minus the cumulative policy factor, if that factor is depending on the amount of elected) up to the limit shown in the policy specifications, as of the premium paid. date of the insured's death. Any premium paid that will cause the death benefit proceeds to exceed this limit will be applied to the policy, but will not increase the death benefit. The cumulative policy factor, normally used in business situations, is calculated as: a) the applicable monthly rate then used by the Internal Revenue Service (IRS); or b) an alternative monthly rate permitted by the IRS; times c) the specified amount divided by 1000.
If for any reason the owner does not elect a particular death benefit option, Option 1 will apply until changed by the owner. 22 Changes to the Initial Specified Amount and Death Benefit Options Within certain limits, you may decrease or, with satisfactory evidence of insurability, increase the specified amount. The minimum specified amount is currently $100,000. The death benefit option may be changed by the owner, subject to our consent, as long as the policy is in force. You must submit all requests for changes among death benefit options and changes in the specified amount in writing to our Administrative Office. The minimum increase in specified amount currently permitted is $1,000. If you request a change, a supplemental application and evidence of insurability must also be submitted to us.
Option change Impact 1 to 2 The specified amount will be reduced by the accumulation value as of the effective date of change. 2 to 1 The specified amount will be increased by the accumulation value as of the effective date of change. 1 to 3 The specified amount will not change. 3 to 1 The specified amount will be increased by accumulated premiums (less the cumulative policy factor if that factor is elected) as of the effective date of change. 2 to 3 The specified amount will be increased by the accumulation value as of the effective date of change. 3 to 2 o If the accumulation value is greater than the accumulated premium (less cumulative policy factor if that factor elected), the specified amount will be reduced by the accumulation value less accumulated premium (plus cumulative policy factor if that factor is elected) as of the effective date of change. o If the accumulation value is less than the accumulated premium (less the cumulative policy factor if elected), the specified amount will be increased by the accumulated premium (less the cumulative policy factor if that factor is elected), less the accumulation value as of the effective date of change.
A surrender charge may apply to a decrease in specified amount. Please refer to the Surrender Charges section of this prospectus for more information on conditions that would cause a surrender charge to be applied. A schedule of surrender charges is included in each policy. Any reductions in specified amount will be made against the initial specified amount and any later increase in the specified amount on a last in, first out basis. Any increase in the specified amount will increase the amount of the surrender charge applicable to your policy. Changes in specified amount do not affect the premium load as a percentage of premium. We may decline any request for change of the death benefit option or reduction of the specified amount if, after the change, the specified amount would be less than the minimum specified amount or would reduce the specified amount below the level required to maintain the policy as life insurance for purposes of federal income tax law according to the guideline premium test. The guideline premium test provides for a maximum amount of premium paid in relation to the death benefit and a minimum amount of death benefit in relation to policy value. As a result, we may increase the policy's death benefit above the specified amount in order to satisfy the guideline premium test. If the increase in the policy's death benefit causes an increase in the net amount at risk, charges for the cost of insurance will increase as well. Any change is effective on the first monthly anniversary day on, or after, the date of approval of the request by Lincoln Life. If the monthly deduction amount would increase as a result of the change, the changes will be effective 23 on the first monthly anniversary day on which the accumulation value is equal to, or greater than, the monthly deduction amount. Death Benefit Proceeds Proof of death should be furnished to us at our Administrative Office as soon as possible after the death of the insured. This notification must include a certified copy of an official death certificate, a certified copy of a decree of a court of competent jurisdiction as to the finding of death, or any other proof satisfactory to us. After receipt at our Administrative Office of proof of death of the insured, the death benefit proceeds will ordinarily be paid within seven days. The proceeds will be paid in a lump sum or in accordance with any settlement option selected by the owner or the beneficiary. Payment of the death benefit proceeds may be delayed if your policy is contested or if Separate Account values cannot be determined. If the recipient of the death benefit proceeds has elected a lump sum settlement and the death benefit proceeds are over $5,000, the proceeds will be placed into an interest-bearing account in the recipient's name. The SecureLine (Reg. TM) account allows the recipient additional time to decide how to manage the proceeds with the balance earning interest from the day the account is opened. The SecureLine (Reg. TM) account is a special service that we offer in which your death benefit or surrender proceeds are placed into an interest-bearing account. Instead of mailing you (or the recipient of the proceeds) a check, we will send a checkbook so that you (or the proceeds recipient) will have access to the account simply by writing a check for all or any part of the proceeds. You (or the recipient of the proceeds) may request that the proceeds be paid in the form of a check rather than receiving the SecureLine (Reg. TM) checkbook. The SecureLine (Reg. TM) account is part of our general account. It is not a bank account, and it is not insured by the FDIC or any other government agency. As part of our general account, it is subject to the claims of our creditors. We receive a benefit from all amounts left in the SecureLine (Reg. TM) account. POLICY SURRENDERS You may surrender your policy at any time by sending us your policy along with a written request for surrender. If you surrender your policy, all policy coverage will automatically terminate and may not be reinstated. Consult your tax adviser to understand tax consequences of any surrender you are considering. The surrender value of your policy is the amount you can receive by surrendering the policy. The surrender value is the net accumulation value less any applicable surrender charge, less any accrued loan interest not yet charged. Any surrender results in a withdrawal of values from the Sub-Accounts and Fixed Account that have values allocated to them. Any surrender from a Sub-Account will result in the cancellation of variable accumulation units. The cancellation of such units will be based on the variable accumulation unit value determined at the close of the valuation period during which the surrender is effective. Surrender proceeds will generally be paid within seven days of our receipt of your request. At any time, you may transfer all of the Separate Account value to the Fixed Account and then surrender the policy for reduced guaranteed nonparticipating paid-up insurance. No monthly administrative fees will apply to such paid-up insurance. The amount of paid-up insurance will be that which the surrender value will purchase as a net single premium at the insured's then attained age, using the guaranteed interest and mortality basis of the original policy. The paid-up insurance will not include any additional benefits provided by rider under the original policy. If you request lump sum surrender and the policy's surrender value is over $5,000, your surrender proceeds will be placed into a SecureLine (Reg. TM) account in your name. Refer to the description of the SecureLine (Reg. TM) account under the section headed "Death Benefit Proceeds" for more information. 24 Partial Surrender You may make a partial surrender, withdrawing a portion of your policy values. You may request a partial surrender in writing or electronically, if previously authorized and we consent. The total of all partial surrenders may not exceed 90% of the surrender value of your policy. We may limit partial surrenders to the extent necessary to meet the federal tax law requirements. Each partial surrender must be at least $500. Partial surrenders are subject to other limitations as described below. Partial surrenders may reduce the accumulation value and the specified amount. The amount of the partial surrender and our administrative fee will be withdrawn from the Sub-Accounts and Fixed Account in proportion to their values. The effect of partial surrenders on the death benefit proceeds depends on the death benefit option in effect at the time of the partial surrender.
Death Benefit Option in Effect Impact of Partial Surrender 1 Will reduce the accumulation value and the specified amount. 2 Will reduce the accumulation value, but not the specified amount. 3 Will reduce the accumulated premiums, and the specified amount to the extent that the amount of the partial surrender exceeds the accumulated premiums.
Partial surrender proceeds will generally be paid within seven days of our receipt of your request. We may at our discretion decline any request for a partial surrender. POLICY LOANS You may borrow against the surrender value of your policy. The loan may be for any amount up to 100% of the current surrender value. However, we reserve the right to limit the amount of your loan so that total policy indebtedness will not exceed 90% of an amount equal to the accumulation value less surrender charge. A loan agreement must be executed and your policy assigned to us free of any other assignments. Outstanding policy loans and accrued interest reduce the policy's death benefit and accumulation value. The amount of your loan will be withdrawn from the Sub-Accounts and Fixed Account in proportion to their values. The loan account is the account in which policy indebtedness (outstanding loans and interest) accrues once it is transferred out of the Sub-Accounts and Fixed Account. Amounts transferred to the loan account do not participate in the performance of the Sub-Accounts or the Fixed Account. Loans, therefore, can affect the policy's death benefit and accumulation value whether or not they are repaid. Interest on policy loans accrues at an effective annual rate of 5% in years 1-10 and 4% thereafter, and is payable once a year in arrears on each policy anniversary, or earlier upon full surrender or other payment of proceeds of your policy. The amount of your loan, plus any accrued but unpaid interest, is added to your outstanding policy loan balance. Unless paid in advance, loan interest due will be transferred proportionately from the Sub-Accounts and Fixed Account. This amount will be treated as an additional policy loan, and added to the loan account value. Lincoln Life credits interest to the loan account value at a rate of 4% in all years, so the net cost of your policy loan is 1% in years 1-10 and 0% thereafter. Your outstanding loan balance may be repaid at any time during the lifetime of the insured. The loan account will be reduced by the amount of any loan repayment. Any repayment, other than loan interest, will be allocated to the Sub-Accounts and Fixed Account in the same proportion in which net premium payments are currently allocated, unless you instruct otherwise. If at any time the total indebtedness against your policy, including interest accrued but not due, equals or exceeds the then current accumulation value less surrender charges, the policy will terminate subject to the conditions in the 25 grace period provision, unless the No Lapse provision is in effect. If your policy lapses while a loan is outstanding, there may be adverse tax consequences. LAPSE AND REINSTATEMENT If at any time the net accumulation value is insufficient to pay the monthly deduction, unless the No Lapse provision is in effect, all policy coverage will terminate. This is referred to as policy lapse. The net accumulation value may be insufficient: 1) because it has been exhausted by earlier deductions; 2) as a result of poor investment performance; 3) due to partial surrenders; 4) due to indebtedness for policy loans; or 5) because of a combination of any of these factors. If we have not received your premium payment (or payment of indebtedness on policy loans) necessary so that the net accumulation value of your policy is sufficient to pay the monthly deduction amount on a monthly anniversary day, we will send a written notice to you, or any assignee of record. The notice will state the amount of the premium payment (or payment of indebtedness on policy loans) that must be paid to avoid termination of your policy. If the amount stated in the notice is not paid to us within the grace period, then the policy will terminate. The grace period is the later of (a) 31 days after the notice was mailed, and (b) 61 days after the monthly anniversary day on which the monthly deduction could not be paid. If the insured dies during the grace period, we will deduct any charges due to us from any death benefit that may be payable under the terms of the policy. No Lapse Provision Your policy includes a No Lapse provision. This means that your policy will not lapse as long as you have paid the required No Lapse premium. The No Lapse premium is the cumulative premium required to maintain the No Lapse provision, preventing your policy from lapse, and is shown in the policy specifications. There is no difference in the calculation of policy values and death benefit between a policy that has the No Lapse provision, and a policy that does not. This is true whether or not the No Lapse provision is active and keeping the policy from lapsing. There is no charge for this feature. It is only available with death benefit options 1 and 2. There are three levels of No Lapse protection: 1) a guarantee until the insured reaches age 100 (must be selected at time of policy application); 2) a guarantee for the first 20 policy years; and 3) a guarantee for the first 10 policy years. 26
Provision will terminate Level Lapse Protection upon the earliest of Age 100 If elected, a payment of the age 100 No 1) the age 100 premium requirement is not Lapse premium is due as of the date of met, issue and each monthly anniversary day to 2) there is a change in the death benefit guarantee the policy will not lapse before option, or the insured reaches age 100. All, or a 3) the insured reaches age 100. portion of, the remaining monthly A period of at least 61 days will be granted premiums can be paid in advance at any for the age 100 No Lapse premium if on any time. monthly anniversary day it is determined As long as the sum of all premium that the age 100 No Lapse premium has not payments (less any indebtedness and been met. At least 31 days before the end of partial surrenders) is at least equal to the that period, we will notify you of the amount sum of the age 100 No Lapse premiums of premium necessary to maintain the age since the date of issue, the policy will not 100 No Lapse provision. lapse until the insured reaches age 100, Once the age 100 No Lapse provision is even if the net accumulation value is terminated, it cannot be reinstated. insufficient to meet the monthly deductions. However, you may still qualify for either the 20 year or 10 year No Lapse provision. First 20 policy During the first 20 years the policy will not 1) a change in the death benefit option, years lapse, even if the net accumulation value is 2) the insured reaches age 100, or insufficient to meet the monthly deductions, 3) the beginning of the 21st policy year. as long as the sum of: Failure to meet the No Lapse premium o all premium payments (less any partial requirement during the first 20 years does surrenders) accumulated at 4% interest not terminate the No Lapse provision. Any premium shortfall can be made up while the o minus any indebtedness policy is in force or during the policy's is at least equal to the sum of the 20 year grace period. No Lapse premiums due since date of issue Continuing to pay the 20 year No Lapse (shown in the policy specifications), premium beyond the termination of the 20 accumulated at 4% interest. year No Lapse provision does not guarantee that the policy will not lapse. Payments must be sufficient to cover your monthly deductions. However, you may still qualify for the 10 year No Lapse provision.
27
Provision will terminate Level Lapse Protection upon the earliest of First 10 policy During the first 10 years the policy will not 1) a change in the death benefit option, years lapse, even if the net accumulation value is 2) the insured reaches age 100, or insufficient to meet the monthly deductions, 3) the beginning of the 11th policy year. as long as the sum of: Failure to meet the No Lapse premium o all premium payments (less any partial requirement during the first 10 years does surrenders) accumulated at 4% interest not terminate the No Lapse provision. Any premium shortfall can be made up while the o minus any indebtedness policy is in force or during the policy's is at least equal to the sum of the 10 year grace period. No Lapse premiums due since date of issue Continuing to pay the 10 year No Lapse (shown in the policy specifications), premium beyond the termination of the 10 accumulated at 4% interest. year No Lapse provision does not guarantee that the policy will not lapse. Payments must be sufficient to cover your monthly deductions.
If you fail to satisfy the requirements for the age 100, 20 year and 10 year No Lapse provisions, and you have paid insufficient premium to cover your monthly deductions, the policy, after notice, and expiration of the policy's grace period, will lapse. Your levels of No Lapse premiums are shown on the policy specifications pages. To determine if you are meeting the cumulative premium payment required to retain the No Lapse protection, review your most recent quarterly statement or contact our Administrative Office. If the No Lapse provision terminates, the premiums you must pay to keep the policy in force may be significantly higher than the No Lapse premium would have been. If you pay only the minimum premium needed to keep the No Lapse provision in force, you may be foregoing the potential for increased accumulation value that higher premium payments could provide. Your policy may also include the Overloan Protection Rider. If this rider is issued with your policy, you meet the requirements as described in this rider and have elected this benefit, your policy will not lapse solely based on indebtedness exceeding the accumulation value less the surrender charges. It is a limited benefit, in that it does not provide any additional death benefit or any increase in accumulation value. Also, it does not provide any type of market performance guarantee. There is no charge for adding this rider to your policy. However, if you choose to elect the benefit provided by the rider, there is a one-time charge which will not exceed 5.0% of the then current accumulation value. Once you elect the benefit, certain provisions of your policy will be impacted as described in the rider. Reinstatement of a Lapsed Policy If the No Lapse provision is not in effect, and your policy has lapsed, you may reinstate your policy within five years of the policy lapse date, provided: 1) it has not been surrendered; 2) there is an application for reinstatement in writing; 3) satisfactory evidence of insurability of the insured is furnished to us and we agree to accept the risk for the insured; 4) we receive a payment sufficient to keep your policy in force for at least two months; and 5) any accrued loan interest is paid and any remaining indebtedness is either paid or reinstated. 28 The reinstated policy will be effective as of the monthly anniversary day after the date on which we approve your application for reinstatement. Surrender charges will be reinstated as of the policy year in which your policy lapsed. Your accumulation value at reinstatement will be the net premium payment then made less all monthly deductions due. TAX ISSUES The federal income tax treatment of your policy is complex and sometimes uncertain. The federal income tax rules may vary with your particular circumstances. This discussion does not include all the federal income tax rules that may affect you and your policy and is not intended as tax advice. This discussion also does not address other federal tax consequences, such as estate, gift and generation skipping transfer taxes, or any state and local income, estate and inheritance tax consequences, associated with the policy. You should always consult a tax adviser about the application of tax rules to your individual situation. Taxation of Life Insurance Contracts in General Tax Status of the Policy. Section 7702 of the Internal Revenue Code ("Code") establishes a statutory definition of life insurance for federal tax purposes. We believe that the policy will meet the statutory definition of life insurance under the guideline premium test, which limits premiums paid depending upon the insured's age, gender, and risk classification, provides for a maximum amount of premium paid in relation to the death benefit and a minimum amount of death benefit in relation to policy value. As a result, the death benefit payable will generally be excludable from the beneficiary's gross income, and interest and other income credited will not be taxable unless certain withdrawals are made (or are deemed to be made) from the policy prior to the death of the insured, as discussed below. This tax treatment will only apply, however, if (1) the investments of the Separate Account are "adequately diversified" in accordance with Treasury Department regulations, and (2) we, rather than you, are considered the owner of the assets of the Separate Account for federal income tax purposes. The Code also recognizes a cash value accumulation test, which does not limit premiums paid, but requires the policy to provide a minimum death benefit in relation to the policy value, depending on the insured's age, gender, and risk classification. We do not apply this test to the policy. Investments in the Separate Account Must be Diversified. For a policy to be treated as a life insurance contract for federal income tax purposes, the investments of the Separate Account must be "adequately diversified." IRS regulations define standards for determining whether the investments of the Separate Account are adequately diversified. If the Separate Account fails to comply with these diversification standards, you could be required to pay tax currently on the excess of the policy value over the policy premium payments. Although we do not control the investments of the Sub-Accounts, we expect that the Sub-Accounts will comply with the IRS regulations so that the Separate Account will be considered "adequately diversified." Restriction on Investment Options. Federal income tax law limits your right to choose particular investments for the policy. Because the IRS has issued little guidance specifying those limits, the limits are uncertain and your right to allocate policy values among the Sub-Accounts may exceed those limits. If so, you would be treated as the owner of the assets of the Separate Account and thus subject to current taxation on the income and gains from those assets. We do not know what limits may be set by the IRS in any guidance that it may issue and whether any such limits will apply to existing policies. We reserve the right to modify the policy without your consent to try to prevent the tax law from considering you as the owner of the assets of the Separate Account. No Guarantees Regarding Tax Treatment. We make no guarantee regarding the tax treatment of any policy or of any transaction involving a policy. However, the remainder of this discussion assumes that your policy will be treated as a life insurance contract for federal income tax purposes and that the tax law will not impose tax on any increase in your policy value until there is a distribution from your policy. Tax Treatment of Life Insurance Death Benefit Proceeds. In general, the amount of the death benefit payable from a policy because of the death of the insured is excludable from gross income. Certain transfers of the policy for 29 valuable consideration, however, may result in a portion of the death benefit being taxable. If the death benefit is not received in a lump sum and is, instead, applied to one of the settlement options, payments generally will be prorated between amounts attributable to the death benefit which will be excludable from the beneficiary's income and amounts attributable to interest (accruing after the insured's death) which will be includible in the beneficiary's income. Tax Deferral During Accumulation Period. Under existing provisions of the Code, except as described below, any increase in your policy value is generally not taxable to you unless amounts are received (or are deemed to be received) from the policy prior to the insured's death. If there is a total withdrawal from the policy, the surrender value will be includible in your income to the extent the amount received exceeds the "investment in the contract." (If there is any debt at the time of a total withdrawal, such debt will be treated as an amount received by the owner.) The "investment in the contract" generally is the aggregate amount of premium payments and other consideration paid for the policy, less the aggregate amount received previously to the extent such amounts received were excludable from gross income. Whether partial withdrawals (or other amounts deemed to be distributed) from the policy constitute income to you depends, in part, upon whether the policy is considered a "modified endowment contract" (a "MEC") for federal income tax purposes. Policies That Are MECs Characterization of a Policy as a MEC. A modified endowment contract (MEC) is a life insurance policy that meets the requirements of Section 7702 and fails the "7-pay test" of 7702A of the Code. A policy will be classified as a MEC if premiums are paid more rapidly than allowed by the "7-pay test", a test that compares actual paid premium in the first seven years against a pre-determined premium amount as defined in 7702A of the Code. A policy may also be classified as a MEC if it is received in exchange for another policy that is a MEC. In addition, even if the policy initially is not a MEC, it may in certain circumstances become a MEC. These circumstances would include a material change of the policy (within the meaning of the tax law), and a withdrawal or reduction in the death benefit during the first seven policy years following the last material change. Tax Treatment of Withdrawals, Loans, Assignments and Pledges under MECs. If the policy is a MEC, withdrawals from your policy will be treated first as withdrawals of income and then as a recovery of premium payments. Thus, withdrawals will be includible in income to the extent the policy value exceeds the investment in the policy. The Code treats any amount received as a loan under a policy, and any assignment or pledge (or agreement to assign or pledge) any portion of your policy value, as a withdrawal of such amount or portion. Your investment in the policy is increased by the amount includible in income with respect to such assignment, pledge, or loan. Penalty Taxes Payable on Withdrawals. A 10% penalty tax may be imposed on any withdrawal (or any deemed distribution) from your MEC which you must include in your gross income. The 10% penalty tax does not apply if one of several exceptions exists. These exceptions include withdrawals or surrenders that: you receive on or after you reach age 59 1/2, you receive because you became disabled (as defined in the tax law), or you receive as a series of substantially equal periodic payments for your life (or life expectancy). None of the penalty tax exceptions apply to a taxpayer who is not an individual. Special Rules if You Own More than One MEC. In certain circumstances, you must combine some or all of the life insurance contracts which are MECs that you own in order to determine the amount of withdrawal (including a deemed withdrawal) that you must include in income. For example, if you purchase two or more MECs from the same life insurance company (or its affiliates) during any calendar year, the Code treats all such policies as one contract. Treating two or more policies as one contract could affect the amount of a withdrawal (or a deemed withdrawal) that you must include in income and the amount that might be subject to the 10% penalty tax described above. Policies That Are Not MECs Tax Treatment of Withdrawals. If the policy is not a MEC, the amount of a withdrawal from the policy will generally be treated first as a non-taxable recovery of premium payments and then as income from the policy. Thus, a 30 withdrawal from a policy that is not a MEC will not be includible in income except to the extent it exceeds the investment in the policy immediately before the withdrawal. Certain Distributions Required by the Tax Law in the First 15 Policy Years. Section 7702 places limitations on the amount of premium payments that may be made and the policy values that can accumulate relative to the death benefit. Where cash distributions are required under Section 7702 in connection with a reduction in benefits during the first 15 years after the policy is issued (or if withdrawals are made in anticipation of a reduction in benefits, within the meaning of the tax law, during this period), some or all of such amounts may be includible in income. A reduction in benefits may occur when the face amount is decreased, withdrawals are made, and in certain other instances. Tax Treatment of Loans. If your policy is not a MEC, a loan you receive under the policy is generally treated as your indebtedness. As a result, no part of any loan under such a policy constitutes income to you so long as the policy remains in force. Nevertheless, in those situations where the interest rate credited to the loan account equals the interest rate charged to you for the loan, it is possible that some or all of the loan proceeds may be includible in your income. If a policy lapses (or if all policy value is withdrawn) when a loan is outstanding, the amount of the loan outstanding will be treated as withdrawal proceeds for purposes of determining whether any amounts are includible in your income. Before purchasing a policy that includes the Overloan Protection Rider, you should note that if you elect to exercise the Overloan Protection Rider at any time during the policy's life, such exercise could be deemed to result in a taxable distribution of the outstanding loan balance. You should consult a tax advisor prior to exercising the Overloan Protection Rider to determine the tax consequences of such exercise. Other Considerations Insured Lives Past Age 100. If the insured survives beyond the end of the mortality table, which is used to measure charges for the policy and which ends at age 100, and death benefit option 1 is in effect, in some circumstances the policy value may equal or exceed the specified amount level death benefit. In such cases, we believe your policy will continue to qualify as life insurance for federal tax purposes. However, there is some uncertainty regarding this treatment, and it is possible that you would be viewed as constructively receiving the cash value in the year the insured attains age 100. Compliance with the Tax Law. We believe that the maximum amount of premium payments we have determined for the policies will comply with the federal tax definition of life insurance. We will monitor the amount of premium payments. Disallowance of Interest Deductions. Interest on policy loan indebtedness is not deductible. If an entity (such as a corporation or a trust, not an individual) purchases a policy or is the beneficiary of a policy issued after June 8, 1997, a portion of the interest on indebtedness unrelated to the policy may not be deductible by the entity. However, this rule does not apply to a policy owned by an entity engaged in a trade or business which covers the life of an individual who is a 20% owner of the entity, or an officer, director, or employee of the trade or business, at the time first covered by the policy. This rule also does not apply to a policy owned by an entity engaged in a trade or business which covers the joint lives of the 20% owner of the entity and the owner's spouse at the time first covered by the policy. In the case of an "employer-owned life insurance contract" as defined in the tax law that is issued (or deemed to be issued) after August 17, 2006, the portion of the benefit excludable from gross income generally will be limited to the premiums paid for the contract. However, this limitation on the death benefit exclusion will not apply if certain notice and consent requirements are satisfied and one of several exceptions is satisfied. These exceptions include circumstances in which the death benefit is payable to certain heirs of the insured to acquire an ownership interest in a business, or where the contract covers the life of a director or an insured who is "highly compensated" within the meaning of the tax law. These rules, including the definition of an employer-owned life insurance contract, are complex, and you should consult with your advisers for guidance as to their application. 31 Federal Income Tax Withholding. We will withhold and remit to the IRS a part of the taxable portion of each distribution made under a policy unless you notify us in writing at or before the time of the distribution that tax is not to be withheld. Regardless of whether you request that no taxes be withheld or whether the Company withholds a sufficient amount of taxes, you will be responsible for the payment of any taxes and early distribution penalties that may be due on the amounts received. You may also be required to pay penalties under the estimated tax rules, if your withholding and estimated tax payments are insufficient to satisfy your total tax liability. Changes in the Policy or Changes in the Law. Changing the owner, exchanging the policy, and other changes under the policy may have tax consequences (in addition to those discussed herein) depending on the circumstances of such change. The above discussion is based on the Code, IRS regulations, and interpretations existing on the date of this prospectus. However, Congress, the IRS, and the courts may modify these authorities, sometimes retroactively. Fair Value of Your Policy It is sometimes necessary for tax and other reasons to determine the "value" of your policy. The value can be measured differently for different purposes. It is not necessarily the same as the accumulation value or the net accumulation value. You, as the owner, should consult with your advisers for guidance as to the appropriate methodology for determining the fair market value of the policy. Tax Status of Lincoln Life Under existing federal income tax laws, the Company does not pay tax on investment income and realized capital gains of the Separate Account. However, the Company does expect, to the extent permitted under Federal tax law, to claim the benefit of the foreign tax credit as the owner of the assets of the Separate Account. Lincoln Life does not expect that it will incur any federal income tax liability on the income and gains earned by the Separate Account. We, therefore, do not impose a charge for federal income taxes. If federal income tax law changes and we must pay tax on some or all of the income and gains earned by the Separate Account, we may impose a charge against the Separate Account to pay the taxes. RESTRICTIONS ON FINANCIAL TRANSACTIONS In accordance with money laundering laws and federal economic sanction policy, the Company may be required in a given instance to reject a premium payment and/or freeze a policy owner's account. This means we could refuse to honor requests for transfers, withdrawals, surrenders, loans, assignments, beneficiary changes or death benefit payments. Once frozen, monies would be moved from the Separate Account to a segregated interest-bearing account maintained for the policy owner, and held in that account until instructions are received from the appropriate regulator. We also may be required to provide additional information about a policy owner's account to government regulators. LEGAL PROCEEDINGS In the ordinary course of its business, the Company is involved in various pending or threatened legal proceedings arising from the conduct of its business. In some instances, the proceedings include claims for unspecified damages and similar types of relief in addition to amounts for alleged contractual liability or requests for equitable relief. After consultation with legal counsel and a review of available facts, it is management's opinion that the proceedings, after consideration of any reserves and rights to indemnification, ultimately will be resolved without materially affecting the financial position of the Company, the Separate Account, or the Principal Underwriter. However, given the large and indeterminate amounts sought in certain of these proceedings and the inherent difficulty in predicting the outcome of such legal proceedings, it is possible that an adverse outcome in certain matters could be material to our operating results for any particular period. 32 FINANCIAL STATEMENTS The financial statements of the Separate Account and the financial statements of the Company are located in the SAI. 33 CONTENTS OF THE STATEMENT OF ADDITIONAL INFORMATION Additional information about Lincoln Life, the Separate Account and your policy may be found in the Statement of Additional Information (SAI). Contents of the SAI GENERAL INFORMATION Lincoln Life Registration Statement Changes of Investment Policy Principal Underwriter Disaster Plan Advertising SERVICES Independent Registered Public Accounting Firm Accounting Services Checkbook Service for Disbursements Administrative Services
POLICY INFORMATION Case Exceptions Assignment Change of Ownership Beneficiary Right to Convert Contract Change of Plan Settlement Options Deferral of Payments Incontestability Misstatement of Age or Gender Suicide ADDITIONAL INFORMATION ABOUT CHARGES Surrender Charges PERFORMANCE DATA FINANCIAL STATEMENTS Separate Account Company
The SAI may be obtained, at no cost to you, by contacting our Administrative Office at the address or telephone number listed on the first page of this prospectus. Your SAI will be sent to you via first class mail within three business days of your request. You may make inquiries about your policy to this same address and telephone number. You may request personalized illustrations of death benefits and policy values from your financial adviser without charge. You may review or copy this prospectus, the SAI, or obtain other information about the Separate Account at the Securities and Exchange Commission's Public Reference Room. You should contact the SEC at (202) 551-8090 to obtain information regarding days and hours the reference room is open. You may also view information at the SEC's Internet site, http://www.sec.gov. Copies of information may be obtained, upon payment of a duplicating fee, by writing the Public Reference Section, Securities and Exchange Commission, 100 F Street, NE, Washington, D.C. 20549-0102. This prospectus, the funds prospectus, and the SAI are also available on our internet site, www.LFG.com Lincoln Life & Annuity Flexible Premium Variable Life Account Y 1933 Act Registration No. 333-141770 1940 Act Registration No. 811-21029 End of Prospectus 34 STATEMENT OF ADDITIONAL INFORMATION (SAI) Dated May 1, 2008 Relating to Prospectus Dated May 1, 2008 for American Legacy VULCV-IV product Lincoln Life & Annuity Flexible Premium Variable Life Account Y, Registrant Lincoln Life & Annuity Company of New York, Depositor The SAI is not a prospectus. The SAI provides you with additional information about Lincoln Life, the Separate Account and your policy. It should be read in conjunction with the product prospectus. A copy of the product prospectus may be obtained without charge by writing to our Administrative Office: Customer Service Center One Granite Place Concord, NH 03301 or by telephoning (800) 444-2363, and requesting a copy of the American Legacy NY VULCV-IV product prospectus. TABLE OF CONTENTS OF THE SAI
Contents Page ------------------------------------------------- ---------- GENERAL INFORMATION ............................. 2 Lincoln Life ................................ 2 Registration Statement ...................... 2 Changes of Investment Policy ................ 2 Principal Underwriter ....................... 2 Disaster Plan ............................... 3 Advertising ................................. 3 SERVICES ........................................ 3 Independent Registered Public Accounting Firm ...................................... 3 Accounting Services ......................... 3 Checkbook Service for Disbursements ......... 3 Administrative Services ..................... 4
Contents Page ------------------------------------------------- ---------- POLICY INFORMATION .............................. 4 Case Exceptions ............................. 4 Assignment .................................. 4 Change of Ownership ......................... 4 Beneficiary ................................. 4 Right to Convert Contract ................... 5 Change of Plan .............................. 5 Settlement Options .......................... 5 Deferment of Payments ....................... 5 Incontestability ............................ 6 Misstatement of Age or Gender ............... 6 Suicide ..................................... 6 ADDITIONAL INFORMATION ABOUT CHARGES ......................................... 6 Surrender Charges ........................... 6 PERFORMANCE DATA ................................ 7 FINANCIAL STATEMENTS ............................ 8 Separate Account ............................ Y-1 Company ..................................... S-1
1 GENERAL INFORMATION Lincoln Life Lincoln Life & Annuity Company of New York (Lincoln Life, the Company, we, us, our) (EIN 22-0832760), is a stock life insurance company chartered in New Jersey in 1897 and redomesticated to New York on April 2, 2007. It is engaged primarily in the direct issuance of life insurance contracts and annuities. Lincoln Life is an indirect wholly owned subsidiary of Lincoln National Corporation (LNC), a publicly held insurance and financial services holding company incorporated in Indiana. Lincoln Life is obligated to pay all amounts promised to policy owners under the policies. Death benefit proceeds and rider benefits to the extent those proceeds and benefits exceed the then current accumulation value of your policy are backed by the claims-paying ability of Lincoln Life. Lincoln Financial Group is the marketing name for Lincoln National Corporation (NYSE:LNC) and its affiliates. Lincoln Financial Group sells a wide variety of financial products and solutions through financial advisors: mutual funds, managed accounts, retirement solutions, life insurance, 401(k) and 403(b) plans, savings plans, institutional investments and comprehensive financial planning and advisory services. Lincoln Life is subject to the laws of New York governing insurance companies and to regulation by the New York State Insurance Department ("Insurance Department"). An annual statement in a prescribed form is filed with the Insurance Department each year covering the operation of the Company for the preceding year along with the Company's financial condition as of the end of that year. Regulation by the Insurance Department includes periodic examination to determine our contract liabilities and reserves. Our books and accounts are subject to review by the Insurance Department at all times and a full examination of our operations is conducted periodically by the Insurance Department. Such regulation does not, however, involve any supervision of management practices or policies, or our investment practices or policies. A blanket bond with a per event limit of $50 million and an annual policy aggregate limit of $100 million covers all of the officers and employees of the Company. Registration Statement A Registration Statement has been filed with the Securities and Exchange Commission under the Securities Act of 1933, as amended, with respect to the policies offered. The Registration Statement, its amendments and exhibits, contain information beyond that found in the prospectus and the SAI. Statements contained in the prospectus and the SAI as to the content of policies and other legal instruments are summaries. Changes of Investment Policy Lincoln Life may materially change the investment policy of the Separate Account. If this decision is made, we must inform the owners and obtain all necessary regulatory approvals. Any change must be submitted to the Insurance Department. The Insurance Department would not approve the change in investment policy if found to be detrimental to the interests of the owners of the policies or the end result would render our operations hazardous to the public. In the event of a material change in the investment strategy of any Sub-Account, you may transfer the amount in that Sub-Account to any other Sub-Account or the Fixed Account, without a transfer charge, even if the 24 free transfers have already been used. You must exercise this option to transfer within 60 days after the effective date of such a change in the investment strategy of the Sub-Account. Principal Underwriter Beginning on May 1, 2007, Lincoln Financial Distributors, Inc. ("LFD"), One Granite Place, Concord, NH 03301, became the principal underwriter for the policies, which are offered continuously. LFD is registered with the 2 Securities and Exchange Commission under the Securities Exchange Act of 1934 as a broker-dealer and is a member of the Financial Industry Regulatory Authority ("FINRA"). The principal underwriter has overall responsibility for establishing a selling plan for the policies. LFD received $15,276 in 2007 for the sale of policies offered through the Separate Account. LFD retains no underwriting commissions from the sale of the policies. Disaster Plan Lincoln's business continuity and disaster recovery strategy employs system and telecommunication accessibility, system back-up and recovery, and employee safety and communication. The plan includes documented and tested procedures that will assist in ensuring the availability of critical resources and in maintaining continuity of operations during an emergency situation. Advertising Lincoln Life is ranked and rated by independent financial rating services, including Moody's, Standard & Poor's, Duff & Phelps and A.M. Best Company. The purpose of these ratings is to reflect the financial strength or claims-paying ability of Lincoln Life. The ratings are not intended to reflect the investment experience or financial strength of the Separate Account. We may advertise these ratings from time to time. In addition, we may include in certain advertisements, endorsements in the form of a list of organizations, individuals or other parties which recommend Lincoln Life or the policies. Furthermore, we may occasionally include in advertisements comparisons of currently taxable and tax deferred investment programs, based on selected tax brackets, or discussions of alternative investment vehicles and general economic conditions. SERVICES Independent Registered Public Accounting Firm The financial statements of the Separate Account and the financial statements of the Company appearing in this SAI and Registration Statement have been audited by Ernst & Young LLP, independent registered public accounting firm, 2300 National City Center, 110 West Berry Street, Fort Wayne, Indiana 46802, as set forth in their reports, also appearing in this SAI and in the Registration Statement. The financial statements audited by Ernst & Young LLP have been included herein in reliance on their reports given on their authority as experts in accounting and auditing. Accounting Services We have entered into an agreement with Mellon Bank, N.A., One Mellon Bank Center, 500 Grant Street, Pittsburgh, Pennsylvania, 15258, to provide accounting services to the Separate Account. Lincoln Life makes no separate charge against the assets of the Separate Account for this service. Checkbook Service for Disbursements We offer a checkbook service in which the death benefit proceeds are transferred into an interest-bearing account, in the beneficiary's name as owner of the account. Your beneficiary has quick access to the proceeds and is the only one authorized to transfer proceeds from the account. This service allows the beneficiary additional time to decide how to manage death benefit proceeds with the balance earning interest from the day the account is opened. We also offer this same checkbook service for surrenders of your policy of $5,000 or more. Once your request is processed, proceeds are placed in an interest-bearing account in your name. You have complete access to your proceeds through check writing privileges. You have the choice of leaving proceeds in this account or you may write checks immediately - even a check for the entire amount. 3 Administrative Services Lincoln Life & Annuity Company of New York is an affiliate of The Lincoln National Life Insurance Company, 1300 South Clinton Street, Fort Wayne, Indiana 46802, which provides administrative services for the policies. The Lincoln National Life Insurance Company receives no compensation from the Separate Account for these services. POLICY INFORMATION Case Exceptions This policy is available for purchase by corporations and other groups or sponsoring organizations on a multiple-life case basis. We reserve the right to reduce premium loads or any other charges on certain cases, where it is expected that the amount or nature of such cases will result in savings of sales, underwriting, administrative or other costs. Eligibility for these reductions and the amount of reductions will be determined by a number of factors, including but not limited to, the number of lives to be insured, the total premiums expected to be paid, total assets under management for the policy owner, the nature of the relationship among the insured individuals, the purpose for which the policies are being purchased, the expected persistency of the individual policies and any other circumstances which we believe to be relevant to the expected reduction of its expenses. Some of these reductions may be guaranteed and others may be subject to withdrawal or modification by us on a uniform case basis. Reductions in these charges will not be unfairly discriminatory against any person, including the affected policy owners invested in the Separate Account. Assignment While the insured is living, you may assign your rights in the policy, including the right to change the beneficiary designation. The assignment must be in writing, signed by you and recorded at our Administrative Office. We will not be responsible for any assignment that is not submitted for recording, nor will we be responsible for the sufficiency or validity of any assignment. Any assignment is subject to any indebtedness owed to Lincoln Life at the time the assignment is recorded and any interest accrued on such indebtedness after we have recorded any assignment. Once recorded, the assignment remains effective until released by the assignee in writing. As long as an effective assignment remains outstanding, the owner will not be permitted to take any action with respect to the policy without the consent of the assignee in writing. Change of Ownership As long as the insured is living, you may name a new owner by recording a change in ownership in writing at our Administrative Office. The change will be effective as of the date of the latest signature in good order. We may require that the policy be submitted to us for endorsement before making a change. Beneficiary The beneficiary is initially designated on the application and is the person who will receive the death benefit proceeds payable. Multiple beneficiaries will be paid in equal shares, unless otherwise specified to the Company. You may change the beneficiary at any time while the insured is living, except when we have recorded an assignment of your policy or an agreement not to change the beneficiary. Any request for a change in the beneficiary must be in writing, signed by you, and recorded at our Administrative Office. If the owner has not reserved the right to change the beneficiary, such a request requires the consent of the beneficiary. The change will be effective as of the date of the latest signature in good order. 4 If any beneficiary dies before the insured, the beneficiary's potential interest shall pass to any surviving beneficiaries, unless otherwise specified to the Company. If no named beneficiary survives the insured, any death benefit proceeds will be paid to you, as the owner, or to your executor, administrator or assignee. Right to Convert Contract You may at any time transfer 100% of the policy's accumulation value to the general account and choose to have all future premium payments allocated to the general account. After you do this, the minimum period the policy will be in force will be fixed and guaranteed. The minimum period will depend on the amount of accumulation value, the specified amount, the sex, attained age and rating class of the insured at the time of transfer. The minimum period will decrease if you choose to surrender the policy or make a withdrawal. The minimum period will increase if you choose to decrease the specified amount, make additional premium payments, or we credit a higher interest rate or charge a lower cost of insurance rate than those guaranteed for the general account. Change of Plan Your policy may be exchanged for another issued by the Company only if the Company consents to the exchange and all requirements for the exchange, as determined by the Company, are met. Your request for exchange must be in writing. Settlement Options You may elect or change a settlement option while the insured is alive. If you have not irrevocably selected a settlement option, the beneficiary may elect to change the settlement option within 90 days after the insured dies. If no settlement option is selected, the death benefit proceeds will be paid in a lump sum. If you assign your policy as collateral security, we will pay any amount due the assignee in one lump sum. We will pay any remaining death benefit proceeds as elected. Your written request to elect, change, or revoke a settlement option must be received in our Administrative Office before payment of the lump sum or any settlement option is initiated. The first payment of the settlement option selected will become payable on the date proceeds are settled. Payments after the first payment will be made on the first day of each month. Once payments have begun, the policy cannot be surrendered and neither the payee nor the settlement option may be changed. You have at least four settlement options: 1) an annuity for the lifetime of the payee; 2) an annuity for the lifetime of the payee, with monthly payments guaranteed for 60, 120, 180, or 240 months; 3) monthly payments for a stated number of years, at least five but no more than thirty; or 4) payment of a maximum of 3% interest annually on the sum left on deposit. We may offer you or your beneficiary additional settlement options in the future. Deferment of Payments Amounts payable as a result of loans, surrenders or partial surrenders will be paid within seven calendar days of our receipt of such a request in a form acceptable to us. In the event of a deferral of a surrender, loan or payment of the death benefit proceeds beyond 10 days from receipt of the request, interest will accrue and be paid as required by law. We may defer payment or transfer from the Fixed Account up to six months at our option. If we exercise our right to defer any payment from the Fixed Account, interest will accrue and be paid (as required by law) from the 5 date you would otherwise have been entitled to receive the payment. We will not defer any payment used to pay premiums on policies with us. Incontestability The Company will not contest your policy or payment of the death benefit proceeds based on the initial specified amount, or an increase in the specified amount requiring evidence of insurability, after your policy or increase has been in force for two years from date of issue or increase. Misstatement of Age or Gender If the age or gender of the insured has been misstated, benefits will be adjusted based on the following values: 1) the net amount at risk at the time of the insured's death; 2) the ratio of the monthly cost of insurance applied in the policy month of death to the monthly cost of insurance that should have been applied at the true age and gender in the policy month of death; and 3) the accumulation value at the time of the insured's death. The amount of death benefit proceeds will be 1. multiplied by 2. and then the result added to 3. Suicide If the insured dies by suicide, while sane or insane, within two years from the date of issue, the Company will pay no more than the sum of the premiums paid, less any indebtedness and the amount of any partial surrenders. If the insured dies by suicide, while sane or insane, within two years from the date an application is accepted for an increase in the specified amount, the Company will pay no more than a refund of the monthly charges for the cost of the increased amount. ADDITIONAL INFORMATION ABOUT CHARGES Surrender Charges The initial maximum surrender charge is calculated as (a) plus (b), with that result not to exceed (c), minus (d), where (a) is 1.25 times the curtate net level premium for the specified amount of insurance, calculated using the 1980 Commissioners Standard Ordinary mortality table and 4% interest; (b) is $10 per $1000 of specified amount; (c) is $50 per $1000 of specified amount; and (d) is $60. Algebraically, this formula is equivalent to Mina+b,c -d. The maximum surrender charge decreases from its initial amount during the first 15 years. In general terms, the initial maximum surrender charge is amortized in proportion to a 15 year life contingent annuity due. In formulas, the maximum surrender charge at a point in time "t" years after issue is (a) times (b), where (a) is the initial maximum surrender charge; and (b) is the ratio of a life contingent annuity due beginning at time t and ending 15 years after issue, divided by a life contingent annuity due beginning at issue and ending 15 years after issue, both calculated using the 1980 Commissioners Standard Ordinary mortality table and 4% interest. 6 The actual surrender charge may be less than the maximum surrender charge, and is included in each policy. No surrender charge is applied in the 16th policy year or beyond. PERFORMANCE DATA Performance data may appear in sales literature or reports to owners or prospective buyers. Past performance cannot guarantee comparable future results. Performance data reflects the time period shown on a rolling monthly basis and is based on Sub-Account level values adjusted for your policy's expenses. Data reflects: o an annual reduction for fund management fees and expenses, and o a policy level mortality and expense charge applied on a daily equivalent basis, but o no deductions for additional policy expenses (i.e., premium loads, administrative fees, and cost of insurance charges), which, if included, would have resulted in lower performance. These charges and deductions can have a significant effect on policy values and benefits. Ask your financial representative for a personalized illustration reflecting these costs. Sub-Account performance figures are historical and include change in share price, reinvestment of dividends and capital gains and are net of the asset management expenses that can be levied against the Sub-Account. The Average Annual Returns in the table below are calculated in two ways, one for Money Market Sub-Account, one for all other Sub-Accounts. Both are according to methods prescribed by the SEC. Money Market Sub-Account: The Average Annual Return is the income generated by an investment in the Money Market Sub-Account over a seven-day period, annualized. The process of annualizing results when the amount of income generated by the investment during that week is assumed to be generated each week over a 52-week period and is shown as a percentage of the investment. The Money Market Sub-Account's return is determined by: a) calculating the change in unit value for the base period (the 7-day period ended December 31, of the previous year); then b) dividing this figure by the account value at the beginning of the period; then c) annualizing this result by the factor of 365/7. Other Sub-Accounts: The Average Annual Return for each period is determined by finding the average annual compounded rate of return over each period that would equate the initial amount invested to the ending redeemable value for that period, according to the following formula: P(1 + T)n = ERV Where: P = a hypothetical initial purchase payment of $1,000 T = average annual total return for the period in question N = number of years ERV = ending redeemable value (as of the end of the period in question) of a hypothetical $1,000 purchase payment made at the beginning of the 1-year, 3-year, 5-year, or 10-year period in question (or fractional period thereof)
The formula assumes that: (1) all recurring fees have been charged to the policy owner's accounts; and 7 (2) there will be a complete redemption upon the anniversary of the 1-year, 3-year, 5-year, or 10-year period in question. In accordance with SEC guidelines, we report Sub-Account performance back to the first date that the fund became available, which could pre-date its inclusion in this product. Where the length of the performance reporting period exceeds the period for which the fund was available, Sub-Account performance will show an "N/A". FINANCIAL STATEMENTS The financial statements of the Separate Account and the financial statements of the Company follow. 8 LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK (Formerly Jefferson-Pilot LifeAmerica Insurance Company) Financial Statements For the Year Ended December 31, 2007, For the Periods from April 3 through December 31, 2006 and January 1 through April 2, 2006, and for the Year Ended December 31, 2005 S-1 LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK BALANCE SHEETS (IN MILLIONS, EXCEPT SHARE DATA)
AS OF DECEMBER 31, ----------------------- 2007 2006 -------- -------- ASSETS Investments: Available-for-sale securities, at fair value: Fixed maturity (amortized cost: 2007 -- $5,767; 2006 -- $3,259) $ 5,759 $ 3,294 Equity (cost: 2007 -- $3; 2006 -- $5) 2 5 Mortgage loans on real estate 260 251 Policy loans 387 184 Other investments 3 3 -------- -------- Total investments 6,411 3,737 Cash and invested cash 129 43 Deferred acquisition costs and value of business acquired 799 366 Accrued investment income 83 49 Reinsurance recoverables 524 119 Goodwill 162 164 Other assets 84 45 Separate account assets 2,284 1,752 -------- -------- Total assets $ 10,476 $ 6,275 ======== ======== LIABILITIES AND STOCKHOLDER'S EQUITY LIABILITIES Future contract benefits $ 1,448 $ 447 Other contract holder funds 4,865 3,113 Other liabilities 222 91 Separate account liabilities 2,284 1,752 -------- -------- Total liabilities 8,819 5,403 -------- -------- CONTINGENCIES AND COMMITMENTS (SEE NOTE 12) STOCKHOLDER'S EQUITY Common stock -- 132,000 shares, authorized, issued and outstanding 940 235 Retained earnings 724 623 Accumulated other comprehensive income (loss) (7) 14 -------- --------- Total stockholder's equity 1,657 872 -------- --------- Total liabilities and stockholder's equity $ 10,476 $ 6,275 ======== ========
See accompanying Notes to Financial Statements S-2 LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK STATEMENTS OF INCOME (IN MILLIONS)
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ------------ ------------ REVENUES Insurance premiums $ 85 $ 27 $ 5 $ 10 Insurance fees 237 89 5 23 Net investment income 362 161 19 78 Realized loss (19) (1) -- (4) ----- ----- ----- ----- Total revenues 665 276 29 107 ----- ----- ----- ----- BENEFITS AND EXPENSES Interest credited 193 95 11 48 Benefits 194 43 7 16 Underwriting, acquisition, insurance and other expenses 124 77 6 22 ----- ----- ----- ----- Total benefits and expenses 511 215 24 86 ----- ----- ----- ----- Income before federal income taxes 154 61 5 21 Federal income taxes 52 19 2 8 ----- ----- ----- ----- Net income $ 102 $ 42 $ 3 $ 13 ===== ===== ===== =====
See accompanying Notes to Financial Statements S-3 LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK STATEMENTS OF STOCKHOLDER'S EQUITY (IN MILLIONS)
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ------------ ------------ ----------- COMMON STOCK Balance at beginning-of-period $ 235 $ 235 $ 181 $ 181 Stock compensation -- -- 1 -- Acquisition by Lincoln National Corporation: Sale of stockholder's equity -- -- (182) -- Lincoln National Corporation purchase price (1) -- 233 -- Merger with Predecessor Lincoln Life & Annuity Company of New York -- -- 2 -- Capital contribution 706 -- -- -- ------- ------- ------- ------- Balance at end-of-period 940 235 235 181 ------- ------- ------- ------- RETAINED EARNINGS Balance at beginning-of-period 623 581 26 18 Acquisition by Lincoln National Corporation: Sale of stockholder's equity -- -- (29) -- Merger with Predecessor Lincoln Life & Annuity Company of New York -- -- 581 -- Cumulative effect of adoption of SOP 05-1 (1) -- -- -- Comprehensive income (loss) 81 53 (7) (4) Less other comprehensive income (loss), net of tax (21) 11 (10) (17) ------- ------- ------- ------- Net income 102 42 3 13 Dividends declared -- -- -- (5) ------- ------- ------- ------- Balance at end-of-period 724 623 581 26 ------- ------- ------- ------- NET UNREALIZED GAIN (LOSS) ON AVAILABLE-FOR-SALE SECURITIES Balance at beginning-of-period 14 3 10 27 Merger with Predecessor Lincoln Life & Annuity Company of New York -- -- 3 -- Change during the period (22) 11 (10) (17) ------- ------- ------- ------- Balance at end-of-period (8) 14 3 10 ------- ------- ------- ------- NET UNREALIZED GAIN ON DERIVATIVE INSTRUMENTS Balance at beginning-of-period -- -- -- -- Change during the period 1 -- -- -- ------- ------- ------- ------- Balance at end-of-period 1 -- -- -- ------- ------- ------- ------- Total stockholder's equity at end-of-period $ 1,657 $ 872 $ 819 $ 217 ======= ======= ======= =======
See accompanying Notes to Financial Statements S-4 LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK STATEMENTS OF CASH FLOWS (IN MILLIONS)
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ------------ ------------ ----------- CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 102 $ 42 $ 3 $ 13 Adjustments to reconcile net income to net cash provided by operating activities: Deferred acquisition costs and value of business acquired deferrals and interest, net of amortization (46) (34) (4) (9) Change in accrued investment income (23) 1 (1) 1 Change in contract accruals 49 46 1 (5) Change in contract holder funds (51) (12) 5 25 Change in amounts recoverable from reinsurers (35) (12) -- 1 Change in federal income tax accruals 59 8 5 3 Stock-based compensation expense -- -- 1 -- Depreciation, amortization and accretion, net 1 (1) 1 3 Realized loss 19 1 -- 4 Other -- (3) (4) 4 ----- ----- ----- ----- Net adjustments (27) (6) 4 27 ----- ----- ----- ----- Net cash provided by operating activities 75 36 7 40 ----- ----- ----- ----- CASH FLOWS FROM INVESTING ACTIVITIES Purchases of available-for-sale securities (734) (349) (8) (205) Sales of available-for-sale securities 143 84 12 135 Maturities of available-for-sale securities 550 212 16 117 Purchases of other investments (82) (11) -- (114) Sales or maturities of other investments 79 13 4 104 Cash acquired from merger -- 12 -- -- Other -- (6) -- (1) ----- ----- ----- ----- Net cash provided by (used in) investing activities (44) (45) 24 36 ----- ----- ----- ----- CASH FLOWS FROM FINANCING ACTIVITIES Universal life and investment contract deposits 541 395 27 124 Universal life and investment contract withdrawals (412) (296) (65) (197) Investment contract transfers (74) (45) -- -- Dividends paid -- -- -- (5) ----- ----- ----- ----- Net cash provided by (used in) financing activities 55 54 (38) (78) ----- ----- ----- ----- Net increase (decrease) in cash and invested cash 86 45 (7) (2) ----- ----- ----- ----- Cash and invested cash at beginning-of-period 43 (2) 5 7 ----- ----- ----- ----- Cash and invested cash at end-of-period $ 129 $ 43 $ (2) $ 5 ===== ===== ===== =====
See accompanying Notes to Financial Statements S-5 LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK NOTES TO FINANCIAL STATEMENTS 1. NATURE OF OPERATIONS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES NATURE OF OPERATIONS Lincoln Life & Annuity Company of New York ("LLANY" or the "Company," which also may be referred to as "we," "our" or "us"), a wholly-owned subsidiary of The Lincoln National Life Insurance Company ("LNL"), a wholly-owned subsidiary of Lincoln National Corporation ("LNC" or the "Ultimate Parent"), and formerly referred to as Jefferson-Pilot LifeAmerica Insurance Company ("JPLA"), is domiciled in the state of New York. LLANY is principally engaged in the sale of individual life insurance products, individual annuity products and worksite and group non-medical products (primarily term life and disability). These products are marketed primarily through personal producing general agents and brokers throughout the U.S. BASIS OF PRESENTATION The accompanying financial statements are prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). On April 3, 2006, LNC completed its merger with Jefferson-Pilot Corporation ("Jefferson-Pilot"). At that time, JPLA, a wholly-owned subsidiary of Jefferson Pilot Financial Insurance Company ("JPFIC"), a wholly-owned subsidiary of Jefferson-Pilot, became a wholly-owned subsidiary of LNC. Associated with the merger between LNC and Jefferson-Pilot, JPLA and the predecessor Lincoln Life & Annuity Company of New York ("predecessor LLANY") were merged into a single entity, effective April 2, 2007, with JPLA being the surviving entity, which was renamed to LLANY. Statement of Financial Accounting Standards ("SFAS") No. 141, "Business Combinations", excludes transfers of net assets or exchanges of shares between entities under common control, and notes that certain provisions under Accounting Principle Board ("APB") Opinion No. 16, "Business Combinations"("APB Opinion No. 16"), provide a source of guidance for such transactions. In accordance with APB Opinion No. 16 the financial statements are presented as if LLANY completed the merger with predecessor LLANY on April 3, 2006 and we have included the results of operations and financial condition of predecessor LLANY in our financial statements beginning on April 3, 2006 and all comparative financial statements are restated and presented as if the entities had been previously combined, in a manner similar to a pooling-of-interests. The financial statements for the period from January 1 through April 2, 2006 and for the year ended December 31, 2005 exclude the results of operations and financial condition of predecessor LLANY. Certain GAAP policies, which significantly affect the determination of financial position, results of operations and cash flows, are summarized below. Certain amounts reported in prior years' financial statements have been reclassified to conform to the presentation adopted in the current year. These reclassifications have no effect on net income or stockholder's equity of the prior years. LLANY also submits financial statements to insurance industry regulatory authorities. Those financial statements are prepared on the basis of statutory accounting practices ("SAP") and are significantly different from financial statements prepared in accordance with GAAP. See Note 17 for additional discussion on SAP. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ACCOUNTING ESTIMATES AND ASSUMPTIONS The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities and the disclosures of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses for the reporting period. Those estimates are inherently subject to change and actual results could differ from those estimates. Included among the material (or potentially material) reported amounts and disclosures that require extensive use of estimates are: fair value of certain invested assets and derivatives, asset valuation allowances, deferred policy acquisition costs ("DAC"), goodwill, value of business acquired ("VOBA"), future contract benefits and other contract holder funds, deferred front-end loads ("DFEL"), pension plans, income taxes and the potential effects of resolving litigated matters. BUSINESS COMBINATIONS For all business combination transactions, not involving entities under common control, initiated after June 30, 2001, the purchase method of accounting has been used, and accordingly, the assets and liabilities of the acquired company have been recorded at their estimated fair values as of the merger date. The fair values are subject to adjustment of the initial allocation for a one-year period as more information relative to the fair values as of the acquisition date becomes available. The financial statements include the results of operations of any acquired company since the acquisition date. AVAILABLE-FOR-SALE SECURITIES Securities classified as available-for-sale consist of fixed maturity and equity securities and are stated at fair value with unrealized gains and losses included as a separate component of accumulated other comprehensive income ("OCI"), net of associated DAC, VOBA, other contract holder funds and deferred income taxes. The fair value of actively traded securities is based on quoted market prices from observable market data or estimates from independent pricing services. In cases where this information is not available, such as for privately placed securities, fair value is estimated using an internal pricing matrix. This matrix relies on management's judgment concerning: 1) the discount rate used in calculating expected future cash flows; 2) credit quality; 3) industry sector performance; and 4) expected maturity. Dividends and interest income, recorded in net investment income, are recognized when earned. Amortization of premiums and accretion of discounts on investments in debt securities are reflected in net investment income over the contractual terms of the investments in a manner that produces a constant effective yield. Realized gains and losses on the sale of investments are determined using the specific identification method. We regularly review available-for-sale securities for impairments in value deemed to be other-than-temporary. The cost basis of S-6 securities that are determined to be other-than-temporarily impaired is written down to current fair value with a corresponding charge to realized loss in net income. A write-down for impairment can be recognized for both credit-related events and for change in fair value due to changes in interest rates. Once a security is written down to fair value through net income, any subsequent recovery in value cannot be recognized in net income until the security is sold. However, in the event that the security is written down due to an interest-rate related impairment, the write-down is accreted through investment income over the life of the security. In evaluating whether a decline in value is other-than-temporary, we consider several factors including, but not limited to: 1) the severity (generally if greater than 20%) and duration (generally if greater than six months) of the decline; 2) our ability and intent to hold the security for a sufficient period of time to allow for a recovery in value; 3) the cause of the decline; and 4) fundamental analysis of the liquidity, business prospects and overall financial condition of the issuer. For asset-backed and mortgage-backed securities, included in the available-for-sale fixed maturity securities portfolios, we recognize income using a constant effective yield based on anticipated prepayments and the estimated economic life of the securities. When actual prepayments differ significantly from originally anticipated prepayments, the effective yield is recalculated prospectively to reflect actual payments to date plus anticipated future payments. Any adjustments resulting from changes in effective yield are reflected in net investment income. MORTGAGE LOANS ON REAL ESTATE Mortgage loans on real estate are carried at unpaid principal balances adjusted for amortization of premiums and accretion of discounts and are net of valuation allowances. Interest income is accrued on the principal balance of the loan based on the loan's contractual interest rate. Premiums and discounts are amortized using the effective yield method over the life of the loan. Interest income and amortization of premiums and discounts are reported in net investment income along with mortgage loan fees, which are recorded as they are incurred. Loans are considered impaired when it is probable that, based upon current information and events, we will be unable to collect all amounts due under the contractual terms of the loan agreement. When we determine that a loan is impaired, a valuation allowance is established for the excess carrying value of the loan over its estimated value. The loan's estimated value is based on: 1) the present value of expected future cash flows discounted at the loan's effective interest rate; 2) the loan's observable market price; or 3) the fair value of the loan's collateral. Valuation allowances are maintained at a level we believe is adequate to absorb estimated probable credit losses. Our periodic evaluation of the adequacy of the allowance for losses is based on our past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay (including the timing of future payments), the estimated value of the underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. We do not accrue interest on impaired loans and loans 90 days past due, and any interest received on these loans is either applied to the principal or recorded in net investment income when received, depending on the assessment of the collectibility of the loan. Mortgage loans deemed to be uncollectible are charged against the allowance for losses and subsequent recoveries, if any, are credited to the allowance for losses. All mortgage loans that are impaired have an established allowance for credit losses. Changes in valuation allowances are reported in realized loss on our Statements of Income. POLICY LOANS Policy loans are carried at unpaid principal balances. REALIZED LOSS Realized loss includes realized gains and losses from the sale of investments and net gains and losses on reinsurance embedded derivatives on Modco reinsurance arrangements. Realized loss is recognized in net income, net of associated amortization of DAC, VOBA, deferred sales inducements ("DSI") and DFEL and changes in other contract holder funds. Realized loss is also net of allocations of investment gains and losses to certain contract holders and certain reinsurance arrangements for which we have a contractual obligation. DERIVATIVE INSTRUMENTS We have certain variable annuity products with guaranteed minimum withdrawal benefits ("GMWB") and guaranteed income benefits ("GIB") features that are embedded derivatives. These derivative instruments are recognized as either assets or liabilities on our Balance Sheets at estimated fair value. See Note 5 for discussion on Derivative Instruments. CASH AND CASH EQUIVALENTS Cash and invested cash are carried at cost and include all highly liquid debt instruments purchased with a maturity of three months or less. DAC, VOBA, DSI AND DFEL Commissions and other costs of acquiring universal life insurance, variable universal life insurance, traditional life insurance, annuities and other investment contracts, which vary with and are primarily related to the production of new business, have been deferred (i.e., DAC) to the extent recoverable. The methodology for determining the amortization of DAC varies by product type based on two different accounting pronouncements: SFAS No. 97, "Accounting and Reporting by Insurance Enterprises for Certain Long-Duration Contracts and for Realized Gains and Losses from the Sale of Investments" ("SFAS 97") and SFAS No. 60, "Accounting and Reporting by Insurance Enterprises" ("SFAS 60"). Under SFAS 97, acquisition costs for universal life and variable universal life insurance and investment-type products, which include fixed and variable deferred annuities, are generally amortized over the lives of the policies in relation to the incidence of estimated gross profits ("EGPs") from surrender charges, investment, mortality net of reinsurance ceded and expense margins and actual realized gain (loss) on investments. Contract lives for universal and variable universal life policies are estimated to be 30 years, based on the expected lives of the contracts. Contract lives for fixed and variable deferred annuities are 14 to 20 years for the traditional, S-7 long surrender charge period products and 8 to 10 years for the more recent short-term or no surrender charge variable products. The front-end load annuity product has an assumed life of 25 years. Longer lives are assigned to those blocks that have demonstrated favorable lapse experience. Under SFAS 60, acquisition costs for traditional life insurance products, which include individual whole life, group business and term life insurance contracts, are amortized over periods of 10 to 30 years on either a straight-line basis or as a level percent of premium of the related policies depending on the block of business. There is currently no DAC balance or related amortization under SFAS 60 for fixed and variable payout annuities. For all SFAS 97 and SFAS 60 contracts, amortization is based on assumptions consistent with those used in the development of the underlying contract form adjusted for emerging experience and expected trends. VOBA is an intangible asset that reflects the estimated fair value of in-force contracts in a life insurance company acquisition and represents the portion of the purchase price that is allocated to the value of the right to receive future cash flows from the business in force at the acquisition date. VOBA is amortized over the expected lives of the block of insurance business in relation to the incidence of estimated profits expected to be generated on universal life, variable universal life and investment-type products, (i.e., variable deferred annuities) and over the premium paying period for insurance products, (i.e., traditional life insurance products). Amortization is based upon assumptions used in pricing the acquisition of the block of business and is adjusted for emerging experience. Accordingly, amortization periods and methods of amortization for VOBA vary depending upon the particular characteristics of the underlying blocks of acquired insurance business. VOBA is amortized in a manner consistent with DAC. Both DAC and VOBA amortization is reported within underwriting, acquisition, insurance and other expenses on our Statements of Income. The carrying amounts of DAC and VOBA are adjusted for the effect of realized gains and losses and the effects of unrealized gains and losses on debt securities classified as available-for-sale. Amortization expense of DAC and VOBA reflects an assumption for an expected level of credit-related investment losses. When actual credit-related investment losses are realized, we recognize a true-up to our DAC and VOBA amortization within realized gains and losses reflecting the incremental impact of actual versus expected credit-related investment losses. These actual to expected amortization adjustments can create volatility period to period in net realized gains and losses. Bonus credits and excess interest for dollar cost averaging contracts are considered DSI, and the unamortized balance is reported in other assets on our Balance Sheets. DSI is amortized over the expected life of the contract as an expense in interest credited on our Statements of Income. Amortization is computed using the same methodology and assumptions used in amortizing DAC. Contract sales charges that are collected in the early years of an insurance contract are deferred (referred to as "DFEL"), and are amortized into income over the life of the contract in a manner consistent with that used for DAC. The deferral and amortization of DFEL is reported within insurance fees on our Statements of Income. See Note 2 for discussion of the adoption and impact of Statement of Position ("SOP") 05-1, "Accounting by Insurance Enterprises for Deferred Acquisition Costs in Connection with Modifications or Exchanges of Insurance Contracts" ("SOP 05-1"). On a quarterly basis, we may record an adjustment to the amounts included on our Balance Sheets for DAC, VOBA, DSI and DFEL with an offsetting benefit or charge to revenues or expenses for the impact of the difference between the estimates of future gross profits used in the prior quarter and the emergence of actual and updated estimates of future gross profits in the current quarter ("retrospective unlocking"). In addition, in the third quarter of each year, we conduct our annual comprehensive review of the assumptions and the projection models used for our estimates of future gross profits underlying the amortization of DAC, VOBA, DSI and DFEL and the calculations of the embedded derivatives and reserves for annuity and life insurance products with certain guarantees. These assumptions include investment margins, mortality, retention and rider utilization. Based on our review, the cumulative balances of DAC, VOBA, DSI and DFEL are adjusted with an offsetting benefit or charge to revenues or amortization expense to reflect such change ("prospective unlocking"). The distinction between these two types of unlocking is that retrospective unlocking is driven by the emerging experience period-over-period, while prospective unlocking is driven by changes in assumptions or projection models related to estimated future gross profits. DAC, VOBA, DSI and DFEL are reviewed periodically to ensure that the unamortized portion does not exceed the expected recoverable amounts. No significant impairments occurred during the three years ended December 31, 2007. REINSURANCE We enter into reinsurance agreements with other companies in the normal course of business. Assets and liabilities and premiums and benefits from certain reinsurance contracts that grant statutory surplus relief to other insurance companies are netted on our Balance Sheets and Statements of Income, respectively, because there is a right of offset. All other reinsurance agreements are reported on a gross basis on our Balance Sheets as an asset for amounts recoverable from reinsurers or as a component of other liabilities for amounts, such as premiums, owed to the reinsurers, with the exception of Modco agreements for which the right of offset also exists. Premiums, benefits and DAC are reported net of insurance ceded. GOODWILL We recognize the excess of the purchase price over the fair value of net assets acquired as goodwill. Goodwill is not amortized, but is reviewed at least annually for indications of value impairment, with consideration given to financial performance and other relevant factors. In addition, certain events, including a significant adverse change in legal factors or the business climate, an adverse action or assessment by a regulator or S-8 unanticipated competition, would cause us to review the carrying amounts of goodwill for impairment. When an impairment occurs, the carrying amounts are written down and a charge is recorded against net income using a combination of fair value and discounted cash flows. No impairments occurred during the three years ended December 31, 2007. SPECIFICALLY IDENTIFIABLE INTANGIBLE ASSETS Specifically identifiable intangible assets, net of accumulated amortization, are reported in other assets. The carrying values of specifically identifiable intangible assets are reviewed periodically for indicators of impairment in value that are other-than-temporary, including unexpected or adverse changes in the following: 1) the economic or competitive environments in which the company operates; 2) profitability analyses; 3) cash flow analyses; and 4) the fair value of the relevant business operation. If there was an indication of impairment, then the cash flow method would be used to measure the impairment, and the carrying value would be adjusted as necessary. PROPERTY AND EQUIPMENT Property and equipment owned for company use is included in other assets on our Balance Sheets and is carried at cost less allowances for depreciation. Provisions for depreciation of property and equipment owned for company use are computed principally on the straight-line method over the estimated useful lives of the assets, which include computer hardware and software and other property and equipment. IMPAIRMENT OF LONG-LIVED ASSETS We periodically review the carrying value of our long-lived assets, including property and equipment, for impairment whenever events or circumstances indicate that the carrying amount of such assets may not be fully recoverable. For long-lived assets to be held and used, impairments are recognized when the carrying amount of a long-lived asset is not recoverable and exceeds its fair value. The carrying amount of a long-lived asset is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. An impairment loss is measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value. Long-lived assets to be disposed of by abandonment or in an exchange for a similar productive long-lived asset are classified as held-for-use until disposed of. Long-lived assets to be sold are classified as held-for-sale and are no longer depreciated. Certain criteria have to be met in order for the long-lived asset to be classified as held-for-sale, including that a sale is probable and expected to occur within one year. Long-lived assets classified as held-for-sale are recorded at the lower of their carrying amount or fair value less cost to sell. SEPARATE ACCOUNT ASSETS AND LIABILITIES Separate account assets and liabilities represent segregated funds administered and invested for the exclusive benefit of pension and variable life and annuity contract holders. Separate account assets are carried at fair value and the related liabilities are measured at an equivalent amount to the separate account assets. Investment risks associated with market value changes are borne by the contract holders, except to the extent of minimum guarantees made by us with respect to certain accounts. See Note 10 for additional information regarding arrangements with contractual guarantees. The revenues earned for administrative and contract holder maintenance services performed for these separate accounts are included in insurance fees on our Statements of Income. FUTURE CONTRACT BENEFITS AND OTHER CONTRACT HOLDER FUNDS The liabilities for future contract benefits and claim reserves for universal and variable universal life insurance policies consist of contract account balances that accrue to the benefit of the contract holders, excluding surrender charges. The liabilities for future insurance contract benefits and claim reserves for traditional life policies are computed using assumptions for investment yields, mortality and withdrawals based principally on generally accepted actuarial methods and assumptions at the time of contract issue. Investment yield assumptions for traditional direct individual life reserves for all contracts range from 2.25% to 7.00% depending on the time of contract issue. The investment yield assumptions for immediate and deferred paid-up annuities range from 1.25% to 10.00%. These investment yield assumptions are intended to represent an estimation of the interest rate experience for the period that these contract benefits are payable. The liabilities for future claim reserves for variable annuity products containing guaranteed minimum death benefit ("GMDB") features are calculated by multiplying the benefit ratio (present value of total expected GMDB payments over the life of the contract divided by the present value of total expected assessments over the life of the contract) by the cumulative assessments recorded from the contract inception through the balance sheet date less the cumulative GMDB payments plus interest. The change in the reserve for a period is the benefit ratio multiplied by the assessments recorded for the period less GMDB claims paid in the period plus interest. If experience or assumption changes result in a new benefit ratio, the reserves are adjusted to reflect the changes in a manner similar to the unlocking of DAC, VOBA, DFEL and DSI. With respect to our future contract benefits and other contract holder funds, we continually review: 1) overall reserve position; 2) reserving techniques; and 3) reinsurance arrangements. As experience develops and new information becomes known, liabilities are adjusted as deemed necessary. The effects of changes in estimates are included in the operating results for the period in which such changes occur. The business written or assumed by us includes participating life insurance contracts, under which the contract holder is entitled to share in the earnings of such contracts via receipt of dividends. The dividend scale for participating policies is reviewed annually and may be adjusted to reflect recent experience and future expectations. As of December 31, 2007 and 2006, participating policies comprised approximately 4% and 1% of the face amount of insurance in force, and dividend expenses were $25 million, $5 million and less than $1 million for the years ended December 31, 2007, 2006 and 2005, respectively. S-9 Universal life and variable universal life products with secondary guarantees represented approximately 15% of permanent life insurance in force as of December 31, 2007 and approximately 85% of sales for these products in 2007. Liabilities for the secondary guarantees on universal life-type products are calculated by multiplying the benefit ratio (present value of total expected secondary guarantee benefits over the life of the contract divided by the present value of total expected assessments over the life of the contract) by the cumulative assessments recorded from contract inception through the balance sheet date less the cumulative secondary guarantee benefit payments plus interest. If experience or assumption changes result in a new benefit ratio, the reserves are adjusted to reflect the changes in a manner similar to the unlocking of DAC, VOBA, DFEL and DSI. The accounting for secondary guarantee benefits impacts, and is impacted by, EGPs used to calculate amortization of DAC, VOBA, DFEL and DSI. COMMITMENTS AND CONTINGENCIES Contingencies arising from environmental remediation costs, regulatory judgments, claims, assessments, guarantees, litigation, recourse reserves, fines, penalties and other sources are recorded when deemed probable and reasonably estimable. PREMIUMS AND FEES ON INVESTMENT PRODUCTS AND UNIVERSAL LIFE INSURANCE PRODUCTS Investment products consist primarily of individual and group variable and fixed deferred annuities. Interest-sensitive life insurance products include universal life insurance, variable universal life insurance and other interest-sensitive life insurance policies. These products include life insurance sold to individuals, corporate-owned life insurance and bank-owned life insurance. Revenues for investment products and universal life insurance products consist of net investment income, asset-based fees, cost of insurance charges, percent of premium charges, contract administration charges and surrender charges that have been assessed and earned against contract account balances and premiums received during the period. The timing of revenue recognition as it relates to fees assessed on investment contracts is determined based on the nature of such fees. Asset-based fees, cost of insurance and contract administration charges are assessed on a daily or monthly basis and recognized as revenue when assessed and earned. Percent of premium charges are assessed at the time of premium payment and recognized as revenue when assessed and earned. Certain amounts assessed that represent compensation for services to be provided in future periods are reported as unearned revenue and recognized in income over the periods benefited. Surrender charges are recognized upon surrender of a contract by the contract holder in accordance with contractual terms. PREMIUMS ON TRADITIONAL LIFE INSURANCE PRODUCTS Traditional life insurance products include those products with fixed and guaranteed premiums and benefits and consist primarily of whole life insurance, limited-payment life insurance, term life insurance and certain annuities with life contingencies. Premiums for traditional life insurance products are recognized as revenue when due from the contract holder. BENEFITS Benefits for universal life and other interest-sensitive life insurance products includes benefit claims incurred during the period in excess of contract account balances. Benefits also includes the change in reserves for life insurance products with secondary guarantee benefits and annuity products with guaranteed benefits, such as GMDB, and the change in fair values of guarantees for annuity products with GMWB and GIB. For traditional life, group health and disability income products, benefits and expenses, other than DAC and VOBA, are recognized when incurred in a manner consistent with the related premium recognition policies. INTEREST CREDITED Interest credited includes interest credited to contract holder account balances. Interest crediting rates associated with funds invested in the general account during 2005 through 2007 ranged from 3.00% to 9.00%. PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS Our employees participate in the pension and postretirement benefit plans which are sponsored by LNC and LNL. Pursuant to the accounting rules for obligations to employees under LNC's various pension and other postretirement benefit plans, LNC is required to make a number of assumptions to estimate related liabilities and expenses. LNC uses assumptions for the weighted-average discount rate and expected return on plan assets to estimate pension expense. The discount rate assumptions are determined using an analysis of current market information and the projected benefit flows associated with these plans. The expected long-term rate of return on plan assets is initially established at the beginning of the plan year based on historical and projected future rates of return and is the average rate of earnings expected on the funds invested or to be invested in the plan. The calculation of LNC's accumulated postretirement benefit obligation also uses an assumption of weighted-average annual rate of increase in the per capita cost of covered benefits, which reflects a health care cost trend rate. See Note 15 for more information on our accounting for employee benefit plans. STOCK-BASED COMPENSATION We are included in LNC's consolidated incentive compensation plans. We expense our portion of the fair value of stock awards included in LNC's incentive compensation plans. As of the date LNC's Board of Directors approves stock awards, the fair value of stock options is determined using a Black-Scholes options valuation methodology. The fair value of other stock awards is based upon the market value of the stock. The fair value of the awards is expensed over the service period, which generally corresponds to the vesting period, and is recognized as an increase to common stock in stockholder's equity. Stock-based compensation expense is reflected in underwriting, acquisition, insurance and other expenses on our Statements of Income. For additional information on stock-based incentive compensation see Note 16. INCOME TAXES We have elected to file consolidated federal and state income tax returns with LNC and its subsidiaries. Pursuant to an S-10 intercompany tax sharing agreement with LNC, we provide for income taxes on a separate return filing basis. The tax sharing agreement also provides that we will receive benefit for net operating losses, capital losses and tax credits which are not usable on a separate return basis to the extent such items may be utilized in the consolidated income tax returns of LNC. Deferred income taxes are recognized, based on enacted rates, when assets and liabilities have different values for financial statement and tax reporting purposes. A valuation allowance is recorded to the extent required to reduce the deferred tax asset to an amount that we expect, more likely than not, will be realized. See Note 6 for additional information. 2. NEW ACCOUNTING STANDARDS ADOPTION OF NEW ACCOUNTING STANDARDS SOP 05-1 -- ACCOUNTING BY INSURANCE ENTERPRISES FOR DEFERRED ACQUISITION COSTS IN CONNECTION WITH MODIFICATIONS OR EXCHANGES OF INSURANCE CONTRACTS In September 2005, the American Institute of Certified Public Accountants issued SOP 05-1, which provides guidance on accounting for DAC on internal replacements of insurance and investment contracts other than those specifically described in SFAS 97. An internal replacement, defined by SOP 05-1, is a modification in product benefits, features, rights or coverages that occurs by the exchange of a contract for a new contract, or by amendment, endorsement or rider to a contract, or by the election of a feature or coverage within a contract. Contract modifications that result in a substantially unchanged contract will be accounted for as a continuation of the replaced contract. Contract modifications that result in a substantially changed contract should be accounted for as an extinguishment of the replaced contract. Unamortized DAC, VOBA, DFEL and DSI from the replaced contract must be written off. SOP 05-1 is effective for internal replacements occurring in fiscal years beginning after December 15, 2006. We adopted SOP 05-1 effective January 1, 2007. The adoption of SOP 05-1 did not have a material impact on our financial condition or results of operations. FINANCIAL ACCOUNTING STANDARDS BOARD ("FASB") INTERPRETATION NO. 48 -- ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES -- AN INTERPRETATION OF FASB STATEMENT NO. 109 In June 2006, the FASB issued FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes -- an interpretation of FASB Statement No. 109" ("FIN 48"). FIN 48 prescribes a comprehensive model for how companies should recognize, measure, present and disclose in their financial statements uncertain tax positions taken or expected to be taken on a tax return. FIN 48 requires companies to determine whether it is "more likely than not" that an individual tax position will be sustained upon examination by the appropriate taxing authority prior to any part of the benefit being recognized in the financial statements. Such tax positions shall initially and subsequently be measured as the largest amount of tax benefit that is greater than fifty percent likely of being realized upon settlement with the tax authority, assuming full knowledge of the position and all relevant facts. In addition, FIN 48 expands disclosure requirements to include additional information related to unrecognized tax benefits, including accrued interest and penalties, and uncertain tax positions where the estimate of the tax benefit may change significantly in the next twelve months. FIN 48 is effective for fiscal years beginning after December 15, 2006. We adopted FIN 48 effective January 1, 2007 by recording an increase in the liability for unrecognized tax benefits of less than $1 million on our Balance Sheets, offset by a reduction to the beginning balance of retained earnings. See Note 6 for more information regarding our adoption of FIN 48. SFAS NO. 155 -- ACCOUNTING FOR CERTAIN HYBRID FINANCIAL INSTRUMENTS -- AN AMENDMENT OF FASB STATEMENTS NO. 133 AND 140 In February 2006, the FASB issued SFAS No. 155, "Accounting for Certain Hybrid Financial Instruments -- an amendment of FASB Statements No. 133 and 140" ("SFAS 155"), which permits fair value remeasurement for a hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation. Under SFAS 155, an entity may make an irrevocable election to measure a hybrid financial instrument at fair value, in its entirety, with changes in fair value recognized in earnings. SFAS 155 also: (a) clarifies which interest-only strips and principal-only strips are not subject to the requirements of SFAS 133; (b) eliminates the interim guidance in SFAS 133 Implementation Issue No. D1, "Application of Statement 133 to Beneficial Interests in Securitized Financial Assets," and establishes a requirement to evaluate beneficial interests in securitized financial assets to identify interests that are either freestanding derivatives or hybrid financial instruments that contain an embedded derivative requiring bifurcation; (c) clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives; and (d) eliminates restrictions on a qualifying special-purpose entity's ability to hold passive derivative financial instruments that pertain to beneficial interests that are or contain a derivative financial instrument. We adopted the provisions SFAS 155 on January 1, 2007. Prior period restatement was not permitted. The adoption of SFAS 155 did not have a material impact on our financial condition or results of operations. STAFF ACCOUNTING BULLETIN NO. 108 -- CONSIDERING THE EFFECTS OF PRIOR YEAR MISSTATEMENTS WHEN QUANTIFYING MISSTATEMENTS IN CURRENT YEAR FINANCIAL STATEMENTS In September 2006, the U.S. Securities and Exchange Commission ("SEC") staff issued Staff Accounting Bulletin ("SAB") No. 108, "Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements" ("SAB 108"). SAB 108 provides guidance for S-11 evaluating the effects of prior year uncorrected errors when quantifying misstatements in the current year financial statements. Under SAB 108, the impact of correcting misstatements occurring in the current period and those that have accumulated over prior periods must both be considered when quantifying the impact of misstatements in current period financial statements. SAB 108 is effective for fiscal years ending after November 15, 2006, and may be adopted by either restating prior financial statements or recording the cumulative effect of initially applying the approach as adjustments to the carrying values of assets and liabilities as of January 1, 2006, with an offsetting adjustment to retained earnings. We adopted the provisions of SAB 108 as of December 31, 2006. The adoption of SAB 108 did not have a material effect on our financial statements. SFAS NO. 123(R) -- SHARE-BASED PAYMENT In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based Payment" ("SFAS 123(R)"), which is a revision of SFAS No. 123, "Accounting for Stock-based Compensation" ("SFAS 123"). SFAS 123(R) requires us to recognize at fair value all costs resulting from share-based payments to employees, except for equity instruments held by employee share ownership plans. Similar to SFAS 123, under SFAS 123(R), the fair value of share-based payments is recognized as a reduction to earnings over the period an employee is required to provide service in exchange for the award. We had previously adopted the retroactive restatement method under SFAS No. 148, "Accounting for Stock-based Compensation -- Transition and Disclosure," and restated all periods presented to reflect stock-based employee compensation cost under the fair value accounting method for all employee awards granted, modified or settled in fiscal years beginning after December 15, 1994. Effective January 1, 2006, we adopted SFAS 123(R), using the modified prospective transition method. Under that transition method, compensation cost recognized in 2006 includes: (a) compensation cost for all share-based payments granted prior to but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123 and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS 123(R). Results from prior periods have not been restated. The adoption of SFAS 123(R) did not have a material effect on our income before federal income taxes or net income. SFAS 123(R) eliminates the alternative under SFAS 123 permitting the recognition of forfeitures as they occur. Expected forfeitures, resulting from the failure to satisfy service or performance conditions, must be estimated at the grant date, thereby recognizing compensation expense only for those awards expected to vest. In accordance with SFAS 123(R), we have included estimated forfeitures in the determination of compensation costs for all share-based payments. Estimates of expected forfeitures must be reevaluated at each balance sheet date, and any change in the estimates will be recognized retrospectively in net income in the period of the revised estimates. Prior to the adoption of SFAS 123(R), we presented all tax benefits of deductions resulting from the exercise of stock options as operating cash flows on our Statements of Cash Flows. SFAS 123(R) requires the cash flows from tax benefits resulting from tax deductions in excess of the compensation costs recognized to be classified as financing cash flows. Our excess tax benefits are classified as financing cash flows, prospectively, on our Statements of Cash Flows for the years ended December 31, 2007 and 2006. Our employees are included in LNC's various incentive plans. LNC issues share-based compensation awards under authorized plans, subject to specific vesting conditions. Generally, compensation expense is recognized ratably over a three-year vesting period, but recognition may be accelerated upon the occurrence of certain events. For awards that specify an employee will vest upon retirement and an employee is eligible to retire before the end of the normal vesting period, we record compensation expense over the period from the grant date to the date of retirement eligibility. As a result of adopting SFAS 123(R), we have revised the prior method of recording unrecognized compensation expense upon retirement and use the non-substantive vesting period approach for all new share-based awards granted after January 1, 2006. Under the non-substantive vesting period approach, we recognize compensation cost immediately for awards granted to retirement-eligible employees, or ratably over a period from the grant date to the date retirement eligibility is achieved. If we would have applied the non-substantive vesting period approach to all share based compensation awards granted prior to January 1, 2006, it would not have a material effect on our results of operations or financial position. See Note 16 for more information regarding our stock-based compensation plans. FASB STAFF POSITION FAS 115-1 AND FAS 124-1 -- THE MEANING OF OTHER-THAN-TEMPORARY IMPAIRMENT AND ITS APPLICATION TO CERTAIN INVESTMENTS In November 2005, the FASB issued FASB Staff Position ("FSP") Nos. SFAS 115-1 and SFAS 124-1, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments" ("FSP 115-1"). The guidance in FSP 115-1 nullifies the accounting and measurement provisions of Emerging Issues Task Force ("EITF") No. 03-1 -- "The Meaning of Other-Than-Temporary Impairments and Its Application to Certain Investments" and supersedes EITF Topic No. D-44 "Recognition of Other-Than-Temporary Impairment upon the Planned Sale of a Security Whose Cost Exceeds Fair Value." FSP 115-1 was effective for reporting periods beginning after December 15, 2005, on a prospective basis. Our existing policy for recognizing other-than-temporary impairments is consistent with the guidance in FSP 115-1, and includes the recognition of other than temporary impairments of securities resulting from credit related issues as well as declines in fair value related to rising interest rates, where we do not have the intent to hold the securities until either maturity or recovery. We adopted FSP 115-1 effective January 1, 2006. The adoption of FSP 115-1 did not have a material effect on our financial condition or results of operations. S-12 FUTURE ADOPTION OF NEW ACCOUNTING STANDARDS SFAS NO. 157 -- FAIR VALUE MEASUREMENTS In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements" ("SFAS 157"), which defines fair value, establishes a framework for measuring fair value under current accounting pronouncements that require or permit fair value measurement and enhances disclosures about fair value instruments. SFAS 157 retains the exchange price notion, but clarifies that exchange price is the price in an orderly transaction between market participants to sell the asset or transfer the liability (exit price) in the principal market, or the most advantageous market in the absence of a principal market, for that asset or liability, as opposed to the price that would be paid to acquire the asset or receive a liability (entry price). Fair value measurement is based on assumptions used by market participants in pricing the asset or liability, which may include inherent risk, restrictions on the sale or use of an asset, or nonperformance risk which would include the reporting entity's own credit risk. SFAS 157 establishes a three-level fair value hierarchy, which prioritizes the inputs to valuation techniques used to measure fair value. The highest priority, Level 1, is given to quoted prices in active markets for identical assets or liabilities. Level 2 inputs are observable inputs, other than quoted prices included in Level 1, for the asset or liability. Level 3 inputs, the lowest priority, include unobservable inputs in situations where there is little or no market activity for the asset or liability and the reporting entity makes estimates and assumptions related to the pricing of the asset or liability, including assumptions regarding risk. We have certain guaranteed benefit features that, prior to January 1, 2008, were recorded using fair value pricing. These benefits will continue to be measured on a fair value basis with the adoption of SFAS 157, utilizing a number for Level 3, with some Level 2 inputs, which are reflective of the hypothetical market participant perspective for fair value measurement. In addition, SFAS 157 expands the disclosure requirements for annual and interim reporting to focus on the inputs used to measure fair value, including those measurements using significant unobservable inputs, and the effects of the measurements on earnings. We adopted SFAS 157 for all of our financial instruments effective January 1, 2008 and expect to record between a $1 million and $8 million increase to net income attributable to changes in the fair value of indexed annuities reported in our Individual Markets --Annuities segment. SFAS NO. 159 -- THE FAIR VALUE OPTION FOR FINANCIAL ASSETS AND FINANCIAL LIABILITIES In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities" ("SFAS 159"), which allows an entity to make an irrevocable election, on specific election dates, to measure eligible items at fair value. The election to measure an item at fair value may be determined on an instrument by instrument basis, with certain exceptions. If the fair value option is elected, unrealized gains and losses will be recognized in earnings at each subsequent reporting date, and any upfront costs and fees related to the item will be recognized in earnings as incurred. In addition, the presentation and disclosure requirements of SFAS 159 are designed to assist in the comparison between entities that select different measurement attributes for similar types of assets and liabilities. SFAS 159 applies to fiscal years beginning after November 15, 2007, with early adoption permitted for an entity that has also elected to apply the provisions of SFAS 157. At the effective date, the fair value option may be elected for eligible items that exist on that date. Effective January 1, 2008, we elected not to adopt the fair value option for any existing financial assets or liabilities that existed as of January 1, 2008. SFAS NO. 141(R) -- BUSINESS COMBINATIONS In December 2007, the FASB issued SFAS No. 141(R) "Business Combinations" ("SFAS 141(R)") -- a revision to the FASB Statement SFAS No. 141 "Business Combinations" ("SFAS 141"), which aims to improve the relevance, representational faithfulness and comparability of the information that a reporting entity provides in its financial reports about a business combination and its effects. SFAS 141(R) retains the fundamental requirements of SFAS 141, broadens its scope by applying the acquisition method to all transactions and other events in which one entity obtains control over one or more other businesses, and requires, among other things, that assets acquired and liabilities assumed be measured at fair value as of the acquisition date, liabilities related to contingent consideration be recognized at the acquisition date and remeasured at fair value in each subsequent reporting period, acquisition-related costs be expensed as incurred and that income be recognized if the fair value of the net assets acquired exceeds the fair value of the consideration transferred. SFAS 141(R) applies to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period on or after December 15, 2008. 3. ACQUISITIONS AND REINSURANCE ASSUMPTION FROM LNL ACQUISITIONS JEFFERSON-PILOT MERGER On April 3, 2006, LNC completed its merger with Jefferson-Pilot by acquiring 100% of the outstanding shares of Jefferson-Pilot in a transaction accounted for under the purchase method of accounting prescribed by SFAS 141. Associated with the merger between LNC and Jefferson-Pilot, LLANY and predecessor were merged into a single entity, effective April 2, 2007, with JPLA being the surviving entity, which was renamed to LLANY. SFAS 141 requires that the total purchase price be allocated to the assets acquired and liabilities assumed based on their fair values at the merger date. The fair value of LLANY's (formerly JPLA) net assets acquired in the merger was $232 million. Goodwill of $52 million resulted from the excess of purchase price over the fair value of net assets acquired. LNC paid a premium over the fair value of net assets for a number of potential strategic and financial S-13 benefits that are expected to be realized as a result of the merger including, but not limited to, the following: - Greater size and scale with improved earnings diversification and strong financial flexibility; - Broader, more balanced product portfolio; - Larger distribution organization; and - Value creation opportunities through expense savings and revenue enhancements across business units. The following table summarizes the fair values of LLANY's (formerly JPLA) net assets acquired (in millions) as of the acquisition date:
FAIR VALUE ---------- Investments $ 1,307 Reinsurance recoverables 10 Value of business acquired 66 Goodwill 52 Other assets 24 Separate account assets 22 Future contract benefits and other contract holder funds (1,221) Income tax liabilities (3) Accounts payable, accruals and other liabilities (3) Separate account liabilities (22) ---------- Total purchase price $ 232 ==========
The following table summarized the sale of LLANY's (formerly JPLA) stockholder's equity (in millions) as of the acquisition date:
CARRYING VALUE ---------- Investments $ 1,306 Reinsurance recoverables 10 Deferred acquisition costs 60 Value of business acquired 11 Goodwill 20 Other assets 18 Separate account assets 22 Future contract benefits and other contract holder funds (1,201) Income tax liabilities (9) Accounts payable, accruals and other liabilities (4) Separate account liabilities (22) ---------- Total sale of stockholder's equity $ 211 ========== Composition of stockholder's equity sold Common stock $ 182 Retained earnings 29 ---------- $ 211 ==========
The goodwill (in millions) resulting from the merger was allocated to the following segments:
FAIR VALUE ---------- Individual Markets: Life Insurance $ 43 Annuities 9 ---------- Total goodwill $ 52 ==========
PREDECESSOR LLANY MERGER The carrying value of predecessor LLANY's net assets that were merged into LLANY (formerly JPLA) was $586 million. The following table summarizes the acquired values of predecessor LLANY's net assets (in millions) as of April 3, 2006:
CARRYING VALUE ---------- Investments $ 2,356 Reinsurance recoverables 98 Value of business acquired 277 Goodwill 110 Other assets 75 Separate account assets 1,348 Future contract benefits and other contract holder funds (2,271) Income tax liabilities (34) Accounts payable, accruals and other liabilities (25) Separate account liabilities (1,348) ---------- Total net assets acquired $ 586 ==========
The goodwill (in millions) that was merged into LLANY was allocated to the following segments:
CARRYING VALUE ---------- Individual Markets: Life Insurance $ 93 Annuities 17 ---------- Total goodwill $ 110 ==========
REINSURANCE ASSUMPTION FROM LNL Effective March 1, 2007, LNL ceded to predecessor LLANY, through an assignment and assumption agreement, certain blocks of individual and group life business. This assumption was a non-cash transaction. The following table summarizes the amounts (in millions) assumed from LNL:
ACQUIRED VALUE ---------- Investments $ 2,510 Policy loans 209 Deferred acquisition costs and value of business acquired 366 Accrued investment income 11 Reinsurance recoverables 370 Other assets 22 Future contract benefits and other contract holder funds (2,701) Other liabilities (83) ---------- Total capital contribution $ 704 ==========
The caption capital contribution, in the accompanying Consolidated Statements of Stockholder's Equity, includes the $704 million presented above as well as a $2 million capital contribution for an unrelated matter. S-14 4. INVESTMENTS AVAILABLE-FOR-SALE SECURITIES The amortized cost, gross unrealized gains and losses and fair value of available-for-sale securities (in millions) were as follows:
AS OF DECEMBER 31, 2007 ----------------------------------------- GROSS UNREALIZED AMORTIZED ----------------- FAIR COST GAINS LOSSES VALUE --------- ------ ------ ------ Corporate bonds $4,481 $ 94 $ 94 $4,481 U.S. Government bonds 31 2 -- 33 Foreign government bonds 46 6 -- 52 Asset and mortgage-backed securities 1,169 15 32 1,152 State and municipal bonds 37 1 -- 38 Redeemable preferred stocks 3 -- -- 3 ------ ------ ------ ------ Total fixed maturity securities 5,767 118 126 5,759 Equity securities 3 -- 1 2 ------ ------ ------ ------ Total available-for-sale securities $5,770 $ 118 $ 127 $5,761 ====== ====== ====== ======
AS OF DECEMBER 31, 2006 ----------------------------------------- GROSS UNREALIZED AMORTIZED ----------------- FAIR COST GAINS LOSSES VALUE --------- ------ ------ ------ Corporate bonds $2,610 $ 48 $ 18 $2,640 U.S. Government bonds 20 -- -- 20 Foreign government bonds 15 3 -- 18 Asset and mortgage-backed securities 578 7 5 580 State and municipal bonds 27 -- -- 27 Redeemable preferred stocks 3 -- -- 3 Affiliate bonds 6 -- -- 6 ------ ------ ------ ------ Total fixed maturity securities 3,259 58 23 3,294 Equity securities 5 -- -- 5 ------ ------ ------ ------ Total available-for-sale securities $3,264 $ 58 $ 23 $3,299 ====== ====== ====== ======
The amortized cost and fair value of available-for-sale fixed maturity securities by contractual maturities (in millions) were as follows:
AS OF DECEMBER 31, 2007 ---------------------------- AMORTIZED COST FAIR VALUE -------------- ---------- Due in one year or less $ 352 $ 353 Due after one year through five years 1,215 1,242 Due after five years through ten years 1,239 1,241 Due after ten years 1,792 1,771 ------ ------ Subtotal 4,598 4,607 Asset and mortgage-backed securities 1,169 1,152 ------ ------ Total available-for-sale fixed maturity securities $5,767 $5,759 ====== ======
S-15 Actual maturities may differ from contractual maturities because issuers may have the right to call or pre-pay obligations. The fair value and gross unrealized losses of available-for-sale securities (in millions), aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows:
AS OF DECEMBER 31, 2007 --------------------------------------------------------------- LESS THAN OR EQUAL GREATER THAN TO TWELVE MONTHS TWELVE MONTHS TOTAL ------------------- ------------------- ------------------- GROSS GROSS GROSS FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED VALUE LOSSES VALUE LOSSES VALUE LOSSES ------ ---------- ------ ---------- ------ ---------- Corporate bonds $1,109 $ 51 $ 698 $ 43 $1,807 $ 94 Foreign government bonds 2 -- -- -- 2 -- Asset and mortgage-backed securities 333 24 178 8 511 32 State and municipal bonds 2 -- 5 -- 7 -- ------ ------ ------ ------ ------ ------ Total fixed maturity securities 1,446 75 881 51 2,327 126 Equity securities 2 1 -- -- 2 1 Total available-for-sale securities $1,448 $ 76 $ 881 $ 51 $2,329 $ 127 ====== ====== ====== ====== ====== ====== Total number of securities in an unrealized loss position 738 ======
AS OF DECEMBER 31, 2006 --------------------------------------------------------------- LESS THAN OR EQUAL GREATER THAN TO TWELVE MONTHS TWELVE MONTHS TOTAL ------------------- ------------------- ------------------- GROSS GROSS GROSS FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED VALUE LOSSES VALUE LOSSES VALUE LOSSES ------ ---------- ------ ---------- ------ ---------- Corporate bonds $ 523 $ 5 $ 438 $ 13 $ 961 $ 18 U.S. Government bonds 9 -- -- -- 9 -- Foreign government bonds 1 -- -- -- 1 -- Asset and mortgage-backed securities 93 -- 171 5 264 5 State and municipal bonds -- -- 8 -- 8 -- Affiliate bonds 6 -- -- -- 6 -- ------ ------ ------ ------ ------ ------ Total fixed maturity securities 632 5 617 18 1,249 23 Equity securities -- -- -- -- -- -- Total available-for-sale securities $ 632 $ 5 $ 617 $ 18 $1,249 $ 23 ====== ====== ====== ====== ====== ====== Total number of securities in an unrealized loss position 581 ======
The fair value, gross unrealized losses (in millions) and number of available-for-sale securities, where the fair value had declined below amortized cost by greater than 20%, were as follows:
AS OF DECEMBER 31, 2007 ---------------------------------- GROSS NUMBER FAIR UNREALIZED OF VALUE LOSSES SECURITIES ----- ---------- ---------- Less than six months $18 $ 6 8 Six months or greater, but less than nine months 11 5 12 Nine months or greater, but less than twelve months 4 2 5 Twelve months or greater 23 11 16 --- --- --- Total available-for-sale securities $56 $24 41 === === ===
AS OF DECEMBER 31, 2006 ---------------------------------- GROSS NUMBER FAIR UNREALIZED OF VALUE LOSSES SECURITIES ----- ---------- ---------- Less than six months $-- $-- 2 Six months or greater, but less than nine months -- -- -- Nine months or greater, but less than twelve months -- -- 1 Twelve months or greater -- -- 1 --- --- -- Total available-for-sale securities $-- $-- 4 === === ===
S-16 As described more fully in Note 1, we regularly review our investment holdings for other-than-temporary impairments. Based upon this review, the cause of the decline being principally attributable to changes in interest rates and credit spreads during the holding period and our current ability and intent to hold securities in an unrealized loss position for a period of timesufficient for recovery, we believe that these securities were not other-than-temporarily impaired as of December 31, 2007 and 2006. MORTGAGE LOANS ON REAL ESTATE Mortgage loans on real estate principally involve commercial real estate. The commercial loans are geographically diversified throughout the United States with the largest concentrations in Illinois, Texas and New York accounting for approximately 28% of mortgage loans as of December 31, 2007. NET INVESTMENT INCOME The major categories of net investment income (in millions) were as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ------------ ----------- ----------- Available-for-sale fixed maturity securities $ 319 $ 140 $ 17 $ 73 Mortgage loans on real estate 16 13 1 4 Policy loans 21 8 1 2 Invested cash 4 2 -- -- Other investments 2 1 -- -- ----- ----- ----- ----- Total investment income 362 164 19 79 Investment expense -- (3) -- (1) ----- ----- ----- ----- Net investment income $ 362 $ 161 $ 19 $ 78 ===== ===== ===== =====
REALIZED LOSS The detail of the realized loss (in millions) was as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- Available-for-sale fixed maturity securities: Gross gains $ 6 $ 2 $ -- $ -- Gross losses (29) (2) -- (4) Gain on other investments -- 1 -- -- Associated amortization of DAC, VOBA, DSI, DFEL and changes in other contract holder funds 4 (2) -- -- ----- ----- --- --- Total realized loss $ (19) $ (1) $ -- $ (4) ===== ===== === ===== Write-downs for other-than-temporary impairments included in realized loss on investments above $ (27) $ (2) $ -- $ -- ===== ===== === ===
INVESTMENT COMMITMENTS As of December 31, 2007, our investment commitments, primarily mortgage loans on real estate, were $12 million. CONCENTRATIONS OF FINANCIAL INSTRUMENTS As of December 31, 2007 and 2006, we did not have a significant concentration of financial instruments in a single investee, industry or geographic region of the United States. ASSETS ON DEPOSIT The Company had investment assets on deposit with regulatory agencies with a fair market value of $13 million and $1 million as of December 31, 2007 and 2006, respectively. 5. DERIVATIVE INSTRUMENTS We have certain variable annuity products with GMWB and GIB features that are embedded derivatives. As of December 31, 2007 and 2006, we have embedded derivative instruments of $12 million and $2 million, respectively. The change in fair value of the embedded derivatives flows through net income as benefits on our Statements of Income. As of December 31, 2007 and 2006, we had approximately $1.1 billion and $737 million, respectively, of separate account values that were attributable to variable S-17 annuities with a GMWB feature. As of December 31, 2007 and 2006, we had approximately $43 million and $20 million, respectively, of separate account values that were attributable to variable annuities with a GIB feature. All of the outstanding contracts with a GIB feature are still in the accumulation phase. 6. FEDERAL INCOME TAXES Federal income tax expense (in millions) was as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ------------ ----------- Current $27 $(8) $-- $ 5 Deferred 25 27 2 3 --- --- --- --- Total federal income tax expense $52 $19 $ 2 $ 8 === === === ===
The effective tax rate on pre-tax income was different than the prevailing corporate federal income tax rate. A reconciliation of this difference (dollars in millions) was as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ------------ ----------- Tax rate of 35% times pre-tax income $54 $21 $ 2 $ 7 Effect of: Tax-preferred investment income (2) (1) -- -- Other items -- (1) -- 1 --- --- --- --- Provision for income taxes $52 $19 $ 2 $ 8 === === === === Effective tax rate 34% 31% 35% 36%
The federal income tax liability (in millions), which is included in other liabilities on our Balance Sheets, was as follows:
AS OF DECEMBER 31, ------------------ 2007 2006 ------ ------ Current $ (32) $ 11 Deferred (141) (62) ------ ------ Total federal income tax liability $ (173) $ (51) ====== ======
Significant components of our deferred tax assets and liabilities (in millions) were as follows:
AS OF DECEMBER 31, ------------------ 2007 2006 ------ ------ DEFERRED TAX ASSETS Future contract benefits and other contract holder funds $ 140 $ 62 Investments 12 1 Capital loss carryforwards -- 1 Compensation and benefit plans 1 1 Ceding commission asset 2 2 Net unrealized loss on available-for-sale securities 1 -- Other 1 2 ------ ------ Total deferred tax assets 157 69 ------ ------ DEFERRED TAX LIABILITIES DAC 104 53 VOBA 176 62 Net unrealized gain on available-for-sale securities -- 12 Other 18 4 ------ ------ Total deferred tax liabilities 298 131 ------ ------ Net deferred tax liability $ 141 $ 62 ====== ======
S-18 As of April 2, 2007, we have elected to file consolidated federal income tax returns with LNC and its subsidiaries. Pursuant to an inter-company tax sharing agreement with LNC, we provide for income taxes on a separate return filing basis. Prior to April 3, 2006, with the exception of predecessor LLANY, we were part of a consolidated Federal income tax filing with Jefferson-Pilot and its subsidiaries. Effective as of the merger date, with the exception of predecessor LLANY, we were part of a consolidated Federal income tax filing with JPFIC until April 2, 2007. Predecessor LLANY filed its tax return as part of a consolidated Federal income tax filing with its common parent, LNC. We are required to establish a valuation allowance for any gross deferred tax assets that are unlikely to reduce taxes payable in future years' tax returns. As of December 31, 2007 and 2006, we concluded that it was more likely than not that all gross deferred tax assets will reduce taxes payable in future years. Accordingly, no valuation allowance was necessary as of December 31, 2007 and 2006. As discussed in Note 2, we adopted FIN 48 on January 1, 2007 and had unrecognized tax benefits of $10 million, of which $3 million, if recognized, would impact our income tax expense and our effective tax rate. We anticipate no change to our unrecognized tax benefits within the next 12 months. A reconciliation of the unrecognized tax benefits (in millions) was as follows:
FOR THE YEAR ENDED DECEMBER 31, 2007 ------------- Balance at beginning-of-year $ 10 Increase for prior year tax positions 1 Increase for current year tax positions 11 ----- Balance at end-of-year $ 22 =====
We recognize interest and penalties accrued, if any, related to unrecognized tax benefits as a component of tax expense. During the year ended December 31, 2007, we recognized interest and penalty expense related to uncertain tax positions of $1 million. We recognized no interest and penalty expense related to uncertain tax positions during the years ended December 31, 2006 and 2005. We had accrued interest and penalty expense related to the unrecognized tax benefits of $2 million and $1 million as of December 31, 2007 and 2006, respectively. The LNC consolidated group is subject to annual tax examinations from the Internal Revenue Service ("IRS"). During the first quarter of 2006, the IRS completed its examination for the tax years 1999 through 2002 with assessments resulting in a payment that was not material to the results of operations. In addition to taxes assessed and interest, the payment included a deposit relating to a portion of the assessment, which LNC continues to challenge. LNC believes this portion of the assessment is inconsistent with existing law, and is protesting it through the established IRS appeals process. We do not anticipate that any adjustments that might result from such audits would be material to our results of operations or financial condition. The LNC consolidated group is currently under audit by the IRS for years 2003 and 2004. The former Jefferson-Pilot and its subsidiaries are currently under examination by the IRS for the years 2004 and 2005. 7. DAC, VOBA AND DSI Changes in DAC (in millions) were as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ------------ ----------- Balance at beginning-of-period $ 197 $ 60 $ 53 $ 37 Cumulative effect of adoption of SOP 05-1 (1) -- -- -- Purchase accounting adjustments -- (60) -- -- Merger acquired value -- 164 -- -- Reinsurance assumption from LNL 14 -- -- -- Deferrals 109 66 6 19 Amortization, net of interest: Unlocking 1 (1) -- (2) Other amortization (35) (22) (2) (6) Adjustment related to realized (gains) losses on available-for-sale securities 3 (2) -- -- Adjustment related to unrealized (gains) losses on available-for-sale securities 18 (8) 3 5 ----- ----- ----- ----- Balance at end-of-period $ 306 $ 197 $ 60 $ 53 ===== ===== ===== =====
S-19 Changes in VOBA (in millions) were as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ------------ ----------- Balance at beginning-of-period $ 169 $ 12 $ 11 $ 12 Purchase accounting adjustments -- 54 -- -- Merger acquired value -- 114 -- Reinsurance assumption from LNL 352 Deferrals 4 5 -- -- Amortization: Unlocking 13 1 -- -- Other amortization (70) (22) -- (2) Accretion of interest 24 7 -- -- Adjustment related to realized gains on available-for-sale securities 1 -- -- -- Adjustment related to unrealized (gains) losses on available-for-sale securities -- (2) 1 1 ----- ----- ----- ----- Balance at end-of-period $ 493 $ 169 $ 12 $ 11 ===== ===== ===== =====
Estimated future amortization of VOBA, net of interest, (in millions) as of December 31, 2007 was as follows: 2008 $48 2009 44 2010 42 2011 34 2012 32 Thereafter 293 ---- Total $493 ====
Changes in DSI (in millions) were as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- Balance at beginning-of-period $ 11 $ 2 $ 2 $ 1 Purchase accounting adjustments -- 6 -- -- Deferrals 4 4 -- 1 Amortization, net of interest (1) (1) -- -- ---- ---- ---- ---- Balance at end-of-period $ 14 $ 11 $ 2 $ 2 ==== ==== ==== ====
8. REINSURANCE Reinsurance transactions included in insurance premiums (in millions), were as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- Reinsurance assumed $ -- $ -- $ -- $ -- Reinsurance ceded (113) (39) (1) (4) ----- ----- ----- ----- Net reinsurance premiums and fees $(113) $ (39) $ (1) $ (4) ===== ===== ===== ===== Reinsurance recoveries netted against benefits $ 162 $ 82 $ 18 $ 64 ===== ===== ===== =====
S-20 We cede the portion of risks exceeding our retention limits to other insurers. We seek reinsurance coverage within the businesses that sell life insurance in order to limit our exposure to mortality losses and enhance our capital management. Under our reinsurance program, we reinsure approximately 50% to 55% of the mortality risk on newly issued non-term life insurance contracts and approximately 45% to 50% of total mortality risk including term insurance contracts. Our policy for this program is to retain no more than $10 million on a single insured life issued on fixed and variable universal life insurance contracts. Additionally, the retention per single insured life for term life insurance and for corporate owned life insurance is $2 million for each type of insurance. Portions of our deferred annuity business have been reinsured on a Modco basis with other companies to limit our exposure to interest rate risks. As of December 31, 2007, the reserves associated with these reinsurance arrangements totaled $12 million. To cover products other than life insurance, we acquire other insurance coverages with retentions and limits. For details on the reinsurance assumption from LNL, which was effective March 1, 2007, See Note 3. Reinsurance contracts do not relieve an insurer from its primary obligation to policyholders. Therefore, the failure of a reinsurer to discharge its reinsurance obligations could result in a loss to us. We regularly evaluate the financial condition of our reinsurers and monitor concentrations of credit risk related to reinsurance activities. 9. GOODWILL AND SPECIFICALLY IDENTIFIABLE INTANGIBLE ASSETS The changes in the carrying amount of goodwill (in millions) by reportable segment were as follows:
FOR THE YEAR ENDED DECEMBER 31, 2007 --------------------------------------- BALANCE AT PURCHASE BEGINNING- ACCOUNTING BALANCE AT OF-YEAR ADJUSTMENTS END-OF-YEAR ---------- ----------- ----------- Individual Markets: Life Insurance $ 137 $ (1) $ 136 Annuities 27 (1) 26 ----- ---- ----- Total goodwill $ 164 $ (2) $ 162 ===== ==== =====
FOR THE YEAR ENDED DECEMBER 31, 2006 ------------------------------------------------------ BALANCE ACQUIRED AT PURCHASE VALUE OF BEGINNING- ACCOUNTING PREDECESSOR BALANCE AT OF-YEAR ADJUSTMENTS LLANY END-OF-YEAR ---------- ----------- ----------- ----------- Individual Markets: Life Insurance $ 19 $ 25 $ 93 $ 137 Annuities -- 10 17 27 ----- ----- ----- ----- Total goodwill $ 19 $ 35 $ 110 $ 164 ===== ===== ===== =====
The gross carrying amount and accumulated amortization (in millions) for the major specifically identifiable intangible asset class by segment was as follows:
AS OF DECEMBER 31, --------------------------------------------------- 2007 2006 ----------------------- ------------------------ GROSS GROSS CARRYING ACCUMULATED CARRYING ACCUMULATED AMOUNT AMORTIZATION AMOUNT AMORTIZATION -------- ------------ -------- ------------ Individual Markets-- Life Insurance: Sales force $7 $-- $7 $--
Future estimated amortization of the specifically identifiable intangible asset was immaterial as of December 31, 2007. S-21 10. SEPARATE ACCOUNTS AND GUARANTEED BENEFIT FEATURES We issue variable contracts through our separate accounts for which investment income and investment gains and losses accrue directly to, and investment risk is borne by, the contract holder (traditional variable annuities). We also issue variable annuity and life contracts through separate accounts that include various types of GMDB, GMWB and GIB features. The GMDB features include those where we contractually guarantee to the contract holder either (a) return of no less than total deposits made to the contract less any partial withdrawals ("return of net deposits"), (b) total deposits made to the contract less any partial withdrawals plus a minimum return ("minimum return"), or (c) the highest contract value on any contract anniversary date through age 80 minus any payments or withdrawals following the contract anniversary ("anniversary contract value"). Information in the event of death on the GMDB features outstanding (dollars in millions) was as follows:
FOR THE YEARS ENDED DECEMBER 31, ---------------------- 2007 2006 -------- -------- RETURN OF NET DEPOSITS Separate account value $1,499 $1,217 Net amount at risk(1) 3 1 Average attained age of contract holders 51 YEARS 49 years MINIMUM RETURN Average attained age of contract holders 76 YEARS 76 years Guaranteed minimum return 5% 5% ANNIVERSARY CONTRACT VALUE Separate account value $1,050 $864 Net amount at risk(1) 11 2 Average attained age of contract holders 64 YEARS 64 years
--------------- (1) Represents the amount of death benefit in excess of the current account balance at the balance sheet date. The determination of GMDB liabilities is based on models that involve a range of scenarios and assumptions, including those regarding expected market rates of return and volatility, contract surrender rates and mortality experience. The following summarizes the balances of and changes in the liabilities for GMDB (in millions) which were recorded in future contract benefits on our Balance Sheets:
FOR THE YEARS ENDED DECEMBER 31, ---------------------- 2007 2006 -------- -------- Balance at beginning-of-year $ 1 $ -- Changes in reserves -- 1 ---- ---- Balance at end-of-year $ 1 $ 1 ==== ====
The changes to the benefit reserves amounts above are reflected in benefits on our Statements of Income. Account balances of variable annuity contracts with guarantees (in millions) were invested in separate account investment options as follows:
AS OF DECEMBER 31, ---------------------- 2007 2006 -------- -------- Asset Type Domestic equity $1,118 $ 839 International equity 232 148 Bonds 253 190 Money market 206 148 ------ ------ Total $1,809 $1,325 ====== ====== Percent of total variable annuity separate account values 85% 81%
11. OTHER CONTRACT HOLDER FUNDS Details of other contract holder funds (in millions) were as follows:
AS OF DECEMBER 31, ---------------------- 2007 2006 -------- -------- Account values and other contract holder funds $4,613 $3,041 Deferred front-end loads 48 32 Contract holder dividends payable 165 32 Premium deposit funds 13 1 Undistributed earnings on participating business 26 7 ------ ------ Total other contract holder funds $4,865 $3,113 ====== ======
S-22 12. CONTINGENCIES AND COMMITMENTS REGULATORY AND LITIGATION MATTERS Federal and state regulators continue to focus on issues relating to fixed and variable insurance products, including, but not limited to, suitability, replacements and sales to seniors. Like others in the industry, we have received inquiries including requests for information regarding sales to seniors from the Financial Industry Regulation Authority. We are in the process of responding to these inquiries. We continue to cooperate fully with such authority. In the ordinary course of business, we are involved in various pending or threatened legal proceedings, arising from the conduct of business. In some instances, these proceedings include claims for unspecified or substantial punitive damages and similar types of relief in addition to amounts for alleged contractual liability or requests for equitable relief. After consultation with legal counsel and a review of available facts, it is management's opinion that these proceedings, after consideration of any reserves and rights to indemnification, ultimately will be resolved without materially affecting our financial position. However, given the large and indeterminate amounts sought in certain of these proceedings and the inherent difficulty in predicting the outcome of such legal proceedings, it is possible that an adverse outcome in certain matters could be material to our operating results for any particular reporting period. OTHER CONTINGENCY MATTERS State guaranty funds assess insurance companies to cover losses to contract holders of insolvent or rehabilitated companies. Mandatory assessments may be partially recovered through a reduction in future premium taxes in some states. We have accrued for expected assessments net of estimated future premium tax deductions. VULNERABILITY FROM CONCENTRATIONS As of December 31, 2007, we did not have a concentration of: 1) business transactions with a particular customer or lender or 2) sources of supply of labor or services used in the business. However, we do have a concentration in market and geographic area in which business is conducted. For the year ended December 31, 2007, approximately 68% of the premiums, on the basis of SAP, were generated in New York and New Jersey. 13. STOCKHOLDER'S EQUITY The following summarizes the components and changes in accumulated OCI (in millions):
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- UNREALIZED GAINS (LOSSES) ON AVAILABLE-FOR-SALE SECURITIES Balance at beginning-of-period $ 14 $ 3 $ 10 $ 27 Other comprehensive income (loss): Unrealized holding gains (losses) arising during the year (67) 33 (16) (37) Change in DAC, VOBA and other contract holder funds 18 (15) 3 7 Income tax (expense) benefit 15 (8) 6 10 Less: Reclassification adjustment for losses included in net income (23) -- -- (4) Associated amortization of DAC, VOBA, DSI, DFEL and changes in other contract holder funds 4 (2) -- -- Income tax benefit 7 1 -- 1 ---- ---- ---- ---- Balance at end-of-period $ (8) $ 14 $ 3 $ 10 ==== ==== ==== ==== UNREALIZED GAINS ON DERIVATIVE INSTRUMENTS Balance at beginning-of-period $-- $-- $-- $-- Other comprehensive income (loss): Unrealized holding gains arising during the year 5 -- -- -- Change in DAC, VOBA and other contract holder funds (3) -- -- -- Income tax expense (1) -- -- -- ---- ---- ---- ---- Balance at end-of-period $ 1 $-- $-- $-- ==== = = =
S-23 14. UNDERWRITING, ACQUISITION, INSURANCE AND OTHER EXPENSES Details underlying underwriting, acquisition, insurance and other expenses (in millions) were as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ------------ ----------- Commissions $ 100 $ 67 $ 4 $ 16 General and administrative expenses 60 38 4 13 DAC and VOBA deferrals and interest, net of amortization (46) (34) (4) (9) Taxes, licenses and fees 10 6 2 2 ----- ----- ----- ----- Total underwriting, acquisition, insurance and other expenses $ 124 $ 77 $ 6 $ 22 ===== ===== ===== =====
15. EMPLOYEE BENEFIT PLANS Our employees are included in LNC's various benefit plans that provide for pension and other post-retirement benefit plans, 401(k) and profit sharing plans and deferred compensation plans. PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS LNC maintains funded defined benefit pension plans for most of its U.S. employees, including LLANY employees. Effective January 1, 2002, the employees' pension plan was converted to a cash balance formula. Eligible employees retiring before 2012 will have their benefits, which were frozen effective December 31, 2007, calculated under both the old final average pay formula and the cash balance formula and will receive the greater of the two calculations. Employees retiring in 2012 or after will receive their frozen benefit under the cash balance formula. Benefits under the cash balance formula will continue to accrue interest credits. Benefits under the final average pay formula are based on total years of service and the highest 60 months of compensation during the last 10 years of employment. Under the cash balance formula, employees have guaranteed account balances that earn annual benefit credits and interest credits each year. Annual benefit credits are based on years of service and base salary plus bonus. The plans are funded by contributions to tax-exempt trusts. LNC's funding policy is consistent with the funding requirements of Federal law and regulations. Contributions were intended to provide not only the benefits attributed to service to date, but also those expected to be earned in the future. Effective January 1, 2005, LNC amended the employees' pension plan to include 100% of eligible bonus amounts as compensation under the cash balance formula only. During 2007 and 2006, LNC sponsored three types of unfunded, nonqualified, defined benefit plans for certain U.S. employees, including LLANY employees: supplemental retirement plans, a salary continuation plan and supplemental executive retirement plans. As a result of LNC's merger with Jefferson-Pilot, LNC also sponsored an unfunded, nonqualified, supplemental retirement plan for certain former employees of Jefferson-Pilot. The supplemental retirement plans provided defined benefit pension benefits in excess of limits imposed by Federal tax law. LNC also sponsors unfunded plans that provide postretirement medical, dental and life insurance benefits to full-time U.S. employees who, depending on the plan, have worked for us for 10 years and attained age 55. Medical and dental benefits are also available to spouses and other dependents of employees. For medical and dental benefits, limited contributions are required from individuals who retired prior to November 1, 1988. Contributions for later retirees, which can be adjusted annually, are based on such items as years of service at retirement and age at retirement. Effective April 1, 2004, the employees' postretirement plan was amended to provide that employees not attaining age 50 by that date will not be eligible to receive life insurance benefits when they retire. Life insurance benefits for retirees are noncontributory for employees that attained the age of 50 by April 1, 2004, and meet the eligibility requirements at the time they retire; however, these participants can elect supplemental contributory life benefits up to age 70. Beginning January 1, 2002, the employees' postretirement plan was amended to require employees not yet age 50 with five years of service by the end of 2001 to pay the full medical and dental premium cost when they retire. Effective January 1, 2008, the postretirement plan providing benefits to former employees of Jefferson-Pilot was amended such that only employees attaining age 55 and having 10 years of service by December 31, 2007 who retire on or after age 60 with 15 years of service will be eligible to receive life insurance benefits when they retire. 401(k) AND PROFIT SHARING PLANS LNC sponsors contributory defined contribution plans for eligible U.S. employees, including employees of LLANY. Our contributions to the employees' 401(k) plan is equal to 50% of each participant's pre-tax contribution, not to exceed 6% of eligible compensation, and is invested as directed by the participant. As of April 3, 2006, our contributions to the employees' 401(k) plan on behalf of the former JPLA employees were the same as the contribution provided to eligible predecessor S-24 LLANY participants. An additional discretionary contribution of up to 100% may be made with respect to a participant's pre-tax contribution (up to 6% of base pay plus cash bonus). The amount of discretionary contribution varies according to whether LNC has met certain performance-based criteria as determined by the Compensation Committee of LNC's Board of Directors. On May 1, 2007, simultaneous with the announcement of the freeze of the primary defined benefit pension plans, LNC announced a number of enhancements to the employees' 401(k) plan effective January 1, 2008. A number of new features will apply: 1) an increase in the basic employer match from $0.50 per each $1.00 that a participant contributes each pay period, up to 6% of eligible compensation, to $1.00 per each $1.00 that a participant contributes each pay period, up to 6% of eligible compensation (the 50% match will become a 100% match); 2) a guaranteed "core" employer contribution of 4% of eligible compensation per pay period which will be made regardless of whether the eligible employee elects to defer salary into the Plan; and 3) certain eligible employees will also qualify for a "transition" employer contribution between 0.2% and 8.0% of eligible compensation per pay. Eligibility to receive the additional transition employer contributions will be based on a combination of age and years of service, with a minimum 10-year service requirement for predecessor LLANY employees and a minimum 5-year service requirement for former JPLA employees. Eligibility for transition employer contributions will be determined based on age and service on December 31, 2007 (i.e., participants will not "grow" into transition credits thereafter). Transition employer contributions will cease on December 31, 2017. The discretionary employer match feature will be eliminated effective January 1, 2008. Our expense for the 401(k) plan was not significant for the years ended December 31, 2007, 2006 and 2005. DEFERRED COMPENSATION PLANS LNC sponsors deferred compensation plans for certain U.S. employees, including employees of LLANY. Plan participants may elect to defer payment of a portion of their compensation, as defined by the plans. Plan participants may select from a menu of "phantom" investment options (identical to those offered under LNC's qualified savings plans) used as investment measures for calculating the investment return notionally credited to their deferrals. Under the terms of these plans, LNC agrees to pay out amounts based upon the aggregate performance of the investment measures selected by the participant. We make matching contributions to these plans based upon amounts placed into the deferred compensation plans by individuals when participants exceed applicable limits of the Internal Revenue Code. The amount of our contribution is calculated in a manner similar to the employer match calculation described in the 401(k) plans section above. Our expense for these plans was not significant for the years ended December 31, 2007, 2006 and 2005. The terms of the deferred compensation plans provide that plan participants who select LNC stock as the measure for their investment return will receive shares of LNC stock in settlement of this portion of their accounts at the time of distribution. In addition, participants are precluded from diversifying any portion of their deferred compensation plan account that has been credited to the stock unit fund. Consequently, changes in value of LNC stock do not affect the expenses associated with this portion of the deferred compensation plans. 16. STOCK-BASED INCENTIVE COMPENSATION PLANS Our employees are included in LNC's various incentive plans that provide for the issuance of stock options, stock incentive awards, stock appreciation rights ("SARs"), restricted stock awards, performance shares (performance-vested shares as opposed to time-vested shares) and deferred stock units -- also referred to as "restricted stock units". LNC has a policy of issuing new shares to satisfy option exercises. Total compensation expense for stock-based awards to our employees was not material for the years ended December 31, 2007, 2006 and 2005. Outstanding options to acquire Jefferson-Pilot common stock that existed immediately prior to the date of the merger remain subject to their original terms and conditions, except that each of these stock options is now or will be exercisable for LNC common stock equal to the number of shares of Jefferson-Pilot common stock originally subject to such option multiplied by 1.0906 (rounded down to the nearest whole share), with the exercise price determined by dividing the exercise price of the Jefferson-Pilot options by 1.0906 (rounded up to the sixth decimal place). All Jefferson-Pilot employee and director stock options outstanding as of December 31, 2005 vested and became exercisable upon the closing of the merger. Grants of Jefferson-Pilot stock options in February 2006 did not vest upon closing and will generally continue to vest in one-third annual increments. S-25 17. STATUTORY INFORMATION AND RESTRICTIONS We prepare financial statements on the basis of SAP prescribed or permitted by the New York Department of Insurance. The New York Department of Insurance recognizes only statutory accounting practices prescribed or permitted by the state of New York for determining and reporting the financial condition and results of operations of an insurance company, for determining its solvency under the New York Insurance Law. The National Association of Insurance Commissioners' ("NAIC") Accounting Practices and Procedures Manual ("NAIC SAP") has been adopted as a component of prescribed or permitted practices by the state of New York. The state has adopted certain prescribed accounting practices that differ from those found in NAIC SAP. SAP differs from GAAP primarily due to charging policy acquisition costs to expense as incurred instead of deferring them to the extent recoverable and amortizing them as described in Note 1 above, establishing future contract benefit liabilities using different actuarial assumptions and valuing investments on a different basis. Our net loss as determined in accordance with SAP was $188 million for the year ended December 31, 2007. Our statutory capital and surplus was $833 million as of December 31, 2007. We utilize New York State's prescribed method for calculating annuity reserves, which caused statutory surplus to be lower than NAIC statutory surplus by $10 million as of December 31, 2007. We also use a practice permitted by the state of New York related to a more conservative valuation interest rate on certain annuities, which decreased statutory surplus by less than $1 million as of December 31, 2007. A new statutory reserving standard Actuarial Guideline VACARVM ("VACARVM") is being developed by the NAIC with an expected effective date of December 31, 2008. This standard could lead to lower risk-based capital ratios. Prior to 2007, JPLA and predecessor LLANY prepared and filed separate statutory basis financial statements with the Insurance Departments of their states of domicile, New Jersey and New York, respectively. JPLA was redomiciled from New Jersey to New York, and predecessor LLANY was merged with and into JPLA in April 2007 and renamed LLANY. Prior to 2007, JPLA prepared financial statements on the basis of SAP prescribed or permitted by the New Jersey Department of Insurance. JPLA's net loss as determined in accordance with SAP was $1 million for the period from January 1 through April 2, 2006, $26 million for the period from April 3, 2006 through December 31, 2006 and $1 million for the year ended December 31, 2005. As of December 31, 2006, JPLA's statutory capital and surplus was $69 million. Prior to 2007, predecessor LLANY prepared financial statements on the basis of SAP prescribed or permitted by the New York Department of Insurance. Predecessor LLANY's net loss as determined in accordance with SAP for the nine months ended December 31, 2006 was $18 million. As of December 31, 2006, predecessor LLANY's statutory capital and surplus was $230 million. Predecessor LLANY utilized New York state's prescribed method for calculating annuity reserves and a permitted valuation interest rate on certain annuities, which caused statutory surplus to be lower than NAIC statutory surplus by $3 million and less than $1 million as of December 31, 2006, respectively. We are subject to certain insurance department regulatory restrictions as to the transfer of funds and payment of dividends to LNL. Dividends cannot be declared by state of New York life insurance companies without 30-day notice to the Superintendent, who may disapprove. Dividends are paid as declared by its Board of Directors. No dividends were declared in 2007 or 2006. 18. FAIR VALUE OF FINANCIAL INSTRUMENTS The following discussion outlines the methodologies and assumptions used to determine the fair value of our financial instruments. Considerable judgment is required to develop these fair values. Accordingly, the estimates shown are not necessarily indicative of the amounts that would be realized in a one-time, current market exchange of all of our financial instruments. FIXED MATURITY AND EQUITY SECURITIES Fair values for fixed maturity securities are based upon quoted market prices, where available. The fair value of private placements are estimated by discounting expected future cash flows using a current market rate applicable to the coupon rate, credit quality and maturity of the investments. For securities that are not actively traded and are not private placements, fair values are estimated using values obtained from independent pricing services. The fair values for equity securities are based on quoted market prices. MORTGAGE LOANS ON REAL ESTATE The fair value of mortgage loans on real estate is established using a discounted cash flow method based on credit rating, maturity and future income. The ratings for mortgages in good standing are based on property type, location, market conditions, occupancy, debt service coverage, loan to value, quality of tenancy, borrower and payment record. Fair values for impaired mortgage loans are based on: 1) the present value of expected future cash flows discounted at the loan's effective interest rate; 2) the loan's market price; or 3) the fair value of the collateral if the loan is collateral dependent. DERIVATIVE INSTRUMENTS We employ several different methods for determining the fair value of our derivative instruments. Fair values for derivative contracts are based on current settlement values. These values are based on: 1) quoted market prices; 2) industry standard models that are commercially available; and 3) broker quotes. These techniques project cash flows of the derivatives using S-26 current and implied future market conditions. We calculate the present value of the cash flows to determine the derivatives' current fair market value. OTHER INVESTMENTS AND CASH AND INVESTED CASH The carrying value of our assets classified as other investments and cash and invested cash on our Balance Sheets approximates their fair value. Other investments include limited partnership and other privately held investments that are accounted for using the equity method of accounting. OTHER CONTRACT HOLDER FUNDS Future contract benefits and other contract holder funds on our Balance Sheets include account values of investment contracts and certain guaranteed interest contracts. The fair values for the investment contracts are based on their approximate surrender values. The fair values for the remaining guaranteed interest and similar contracts are estimated using discounted cash flow calculations. These calculations are based on interest rates currently offered on similar contracts with maturities that are consistent with those remaining for the contracts being valued. The remainder of other contract holder funds that do not fit the definition of "investment type insurance contracts" are considered insurance contracts. Fair value disclosures are not required for these insurance contracts, nor have we determined the fair value of such contracts. SEPARATE ACCOUNTS We report assets held in separate accounts at fair value. The related liabilities are reported at an amount equivalent to the separate account assets. The carrying values and estimated fair values of our financial instruments (in millions) were as follows:
AS OF DECEMBER 31, ------------------------------------------------------------------ 2007 2006 ------------------------------ ------------------------------ CARRYING VALUE FAIR VALUE CARRYING VALUE FAIR VALUE -------------- ---------- -------------- ---------- ASSETS Available-for-sale securities: Fixed maturities $ 5,759 $ 5,759 $ 3,294 $ 3,294 Equity 2 2 5 5 Mortgage loans on real estate 260 266 251 256 Other investments 3 3 3 3 Cash and invested cash 129 129 43 43 LIABILITIES Other contract holder funds: Account value of certain investment contracts (1,240) (1,213) (1,279) (1,249) Remaining guaranteed interest and similar contracts (46) (46) (24) (24) Embedded derivative instruments - living benefits (12) (12) (2) (2)
19. SEGMENT INFORMATION We provide products and services in two operating businesses, Individual Markets and Employer Markets, and report results through four business segments. We also have Other Operations which includes the financial data for operations that are not directly related to the business segments. Our reporting segments reflect the manner by which our chief operating decision makers view and manage the business. The following is a brief description of these segments and Other Operations. INDIVIDUAL MARKETS The Individual Markets business provides its products through two segments: Annuities and Life Insurance. The Annuities segment provides tax-deferred investment growth and lifetime income opportunities for its clients by offering individual fixed annuities, including indexed annuities, and variable annuities. The Life Insurance segment offers wealth protection and transfer opportunities through term insurance, a linked-benefit product (which is a universal life insurance policy linked with riders that provide for long-term care costs) and both single and sur-vivorship versions of universal life and variable universal life. EMPLOYER MARKETS The Employer Markets business provides its products through two segments: Retirement Products and Group Protection. The Retirement Products segment includes two major lines of business: Defined Contribution and Executive Benefits. The Defined Contribution business provides employer-sponsored fixed and variable annuities and mutual fund-based programs in the 401(k), 403(b) and 457 plan marketplaces through a wide range of intermediaries including advisors, consultants, brokers, banks, wirehouses, third-party administrators and individual planners. The Executive Benefits business offers corporate-owned universal and variable universal life insurance and bank-owned universal and variable universal life insurance to small to mid-sized banks and mid to large-sized corporations, mostly through executive benefit brokers. The Group Protection segment offers group term life, disability and dental insurance to employers. S-27 OTHER OPERATIONS Other Operations includes the financial data for operations that are not directly related to the business segments, unallocated corporate items (such as investment income on investments related to the amount of statutory surplus that is not allocated to our business units and other corporate investments). Segment operating revenues and income from operations are internal measures used by our management and Board of Directors to evaluate and assess the results of our segments. Operating revenues are GAAP revenues excluding net realized gains and losses. Income from operations is GAAP net income excluding net realized investment gains and losses and the initial impact of the adoption of changes in accounting principles. Our management believes that operating revenues and income from operations explain the results of our ongoing businesses in a manner that allows for a better understanding of the underlying trends in our current businesses because the excluded items are unpredictable and not necessarily indicative of current operating fundamentals or future performance of the business segments, and in many instances, decisions regarding these items do not necessarily relate to the operations of the individual segments. Operating revenues and income from operations do not replace revenues and net income as the GAAP measures of our results of operations. Segment information (in millions) was as follows:
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- REVENUES Operating revenues: Individual Markets: Annuities $ 100 $ 65 $ 12 $ 53 Life Insurance 476 152 12 48 ----- ----- ----- ----- Total Individual Markets 576 217 24 101 ----- ----- ----- ----- Employer Markets: Retirement Products 58 41 -- -- Group Protection 29 15 4 6 ----- ----- ----- ----- Total Employer Markets 87 56 4 6 ----- ----- ----- ----- Other Operations 21 4 1 4 Realized loss(1) (19) (1) -- (4) ----- ----- ----- ----- Total revenues $ 665 $ 276 $ 29 $ 107 ===== ===== ===== =====
--------------- (1) See Note 4 for the pre-tax detail of the realized loss.
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- NET INCOME Operating income: Individual Markets: Annuities $ 15 $ 14 $ 1 $ 4 Life Insurance 80 21 2 10 ----- ----- ----- ----- Total Individual Markets 95 35 3 14 ----- ----- ----- ----- Employer Markets: Retirement Products 4 2 -- -- Group Protection 2 2 -- -- ----- ----- ----- ----- Total Employer Markets 6 4 -- -- ----- ----- ----- ----- Other Operations 13 4 -- 2 Realized loss(1) (12) (1) -- (3) ----- ----- ----- ----- Net income $ 102 $ 42 $ 3 $ 13 ===== ===== ===== =====
--------------- (1) See Note 4 for the pre-tax detail of the realized loss. S-28
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- NET INVESTMENT INCOME Individual Markets: Annuities $ 58 $ 45 $ 12 $ 52 Life Insurance 230 73 6 22 ---- ---- ---- ---- Total Individual Markets 288 118 18 74 ---- ---- ---- ---- Employer Markets: Retirement Products 52 37 -- -- Group Protection 2 1 -- -- ---- ---- ---- ---- Total Employer Markets 54 38 -- -- ---- ---- ---- ---- Other Operations 20 5 1 4 ---- ---- ---- ---- Total net investment income $362 $161 $ 19 $ 78 ==== ==== ==== ====
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- AMORTIZATION OF DAC AND VOBA, NET OF INTEREST Individual Markets: Annuities $12 $ 8 $ 1 $ 4 Life Insurance 49 25 1 6 --- --- --- --- Total Individual Markets 61 33 2 10 --- --- --- --- Employer Markets: Retirement Products 5 4 -- -- Group Protection 1 -- -- -- --- --- --- --- Total Employer Markets 6 4 -- -- --- --- --- --- Other Operations -- -- -- -- --- --- --- --- Total amortization of DAC and VOBA, net of interest $67 $37 $ 2 $10 === === === ===
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- FEDERAL INCOME TAX EXPENSE Individual Markets: Annuities $ 4 $ 5 $ 1 $ 2 Life Insurance 40 11 1 6 --- --- --- --- Total Individual Markets 44 16 2 8 --- --- --- --- Employer Markets: Retirement Products 1 1 -- -- Group Protection 1 1 -- -- --- --- --- --- Total Employer Markets 2 2 -- -- --- --- --- --- Other Operations 6 1 -- -- --- --- --- --- Total federal income tax expense $52 $19 $ 2 $ 8 === === === ===
S-29
AS OF DECEMBER 31, ---------------------- 2007 2006 ------- ------- ASSETS Individual Markets: Annuities $ 3,059 $ 2,512 Life Insurance 5,478 2,383 ------- ------- Total Individual Markets 8,537 4,895 ------- ------- Employer Markets: Retirement Products 1,350 1,284 Group Protection 5 26 ------- ------- Total Employer Markets 1,355 1,310 ------- ------- Other Operations 584 70 ------- ------- Total assets $10,476 $ 6,275 ======= =======
20. TRANSACTIONS WITH AFFILIATES In accordance with service agreements with LNL and certain of its affiliates for personnel and facilities usage, general management services and investment management services, we receive services from and provide services to affiliated companies and also receive an allocation of corporate overhead from LNC. Expenses are assigned based on specific methodologies for each function providing a service to us. The majority of the expenses are assigned based on the following methodologies: (1) assets by product; (2) assets under management; (3) weighted number of policy applications; (4) weighted policies in force; and (5) sales. This resulted in net payments of $54 million and $20 million for the years ended December 31, 2007 and 2006, respectively, which is reflected in underwriting, acquisition, insurance and other expenses on our Statements of Income. Our related accounts payable to affiliates, which is included in other assets on our Balance Sheets, was $18 million and $4 million as of December 31, 2007 and 2006, respectively. Delaware Management Holdings Inc. ("DMH"), a wholly owned subsidiary of LNC, is responsible for the management of our general account investments. We paid fees of $4 million and $1 million for the years ended December 31, 2007 and 2006, respectively, to DMH for investment management services. These fees are reflected in net investment income on our Statements of Income. As of December 31, 2006, we held an LNC Senior Promissory Note with a carrying amount of $6 million, which matured in 2007 and bore an interest rate of 5.25%. As of December 31, 2007, we held no securities of LNC or its affiliates. Interest income recognized by us relating to this note was not material for the years ended December 31, 2007 and 2006. We cede business to two affiliated companies, LNL and Lincoln National Reinsurance Company (Barbados) Ltd. The caption insurance premiums, in the accompanying Statements of Income, was reduced for premiums paid on these contracts for the year ended December 31, 2007 by $12 million and by $6 million from April 3 through December 31, 2006. Future contract benefits on the accompanying Balance Sheets have been reduced by $43 million and $9 million as of December 31, 2007 and 2006, respectively. S-30 21. SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION The following summarizes our supplemental cash flow data (in millions):
PERIOD FROM PERIOD FROM FOR THE APRIL 3 JANUARY 1 FOR THE YEAR ENDED THROUGH THROUGH YEAR ENDED DECEMBER 31, DECEMBER 31, APRIL 2, DECEMBER 31, 2007 2006 2006 2005 ----------- ----------- ----------- ----------- Income taxes paid (received) $ (7) $ 11 $ (3) $ 5 Significant non-cash investing and financing transactions: Business combinations: Fair value of assets acquired (includes cash and invested cash) $ (1) $ -- $ 1,482 $ -- Fair value of liabilities assumed -- -- (1,249) -- ------- ---- ------- ---- Total purchase price $ (1) $ -- $ 233 $ -- ======= ==== ======= ==== Sale of stockholder's equity Carrying value of assets $ -- $ -- $ 1,447 $ -- Carrying value of liabilities -- -- (1,236) -- ------- ---- ------- ---- Total sale of stockholder's equity $ -- $ -- $ 211 $ -- ======= ==== ======= ==== Reinsurance assumption from LNL: Assets transferred $ 3,488 $ -- $ -- $ -- Liabilities transferred (2,784) -- -- -- ------- ---- ------- ---- Total capital contribution $ 704 $ -- $ -- $ -- ======= ==== ======= ====
S-31 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors and Shareholder of Lincoln Life & Annuity Company of New York We have audited the accompanying balance sheets of Lincoln Life & Annuity Company of New York (the Company) as of December 31, 2007 and 2006, and the related statements of income, stockholder's equity, and cash flows for the year ended December 31, 2007, for the period from April 3 through December 31, 2006, for the period from January 1 through April 2, 2006, and for the year ended December 31, 2005. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company's internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Lincoln Life & Annuity Company of New York at December 31, 2007 and 2006, and the results of its operations and its cash flows for the year ended December 31, 2007, for the period from April 3 through December 31, 2006, for the period from January 1 through April 2, 2006, and for the year ended December 31, 2005, in conformity with U.S. generally accepted accounting principles. /s/ERNST & YOUNG LLP Philadelphia, Pennsylvania March 18, 2008 S-32 LINCOLN LIFE & ANNUITY FLEXIBLE PREMIUM VARIABLE LIFE ACCOUNT Y Y-1 LINCOLN LIFE & ANNUITY FLEXIBLE PREMIUM VARIABLE LIFE ACCOUNT Y STATEMENT OF ASSETS AND LIABILITIES DECEMBER 31, 2007
MORTALITY & EXPENSE CONTRACT GUARANTEE PURCHASES CHARGES DUE FROM PAYABLE TO LINCOLN LIFE & LINCOLN LIFE & ANNUITY ANNUITY COMPANY COMPANY SUBACCOUNT INVESTMENTS OF NEW YORK TOTAL ASSETS OF NEW YORK NET ASSETS ----------------------------------------------------------------------------------------------------------------------------------- American Funds Asset Allocation Class 2 $73,209 $ 2 $73,211 $ 4 $73,207 American Funds Blue Chip Income & Growth Class 2 44,843 1 44,844 2 44,842 American Funds Bond Class 2 13,126 -- 13,126 1 13,125 American Funds Cash Management Class 2 13,641 -- 13,641 1 13,640 American Funds Global Discovery Class 2 390 -- 390 -- 390 American Funds Global Growth Class 2 26,600 1 26,601 1 26,600 American Funds Global Growth and Income Class 2 14,336 1 14,337 1 14,336 American Funds Global Small Capitalization Class 2 13,750 -- 13,750 1 13,749 American Funds Growth Class 2 62,336 1 62,337 3 62,334 American Funds Growth-Income Class 2 97,146 -- 97,146 6 97,140 American Funds High-Income Bond Class 2 26,047 -- 26,047 1 26,046 American Funds International Class 2 55,314 -- 55,314 3 55,311 American Funds New World Class 2 4,211 -- 4,211 -- 4,211 American Funds U.S. Government/AAA-Rated Securities Class 2 443 -- 443 -- 443
See accompanying notes. Y-2 [THIS PAGE INTENTIONALLY LEFT BLANK] STATEMENT OF OPERATIONS YEAR ENDED DECEMBER 31, 2007
DIVIDENDS FROM MORTALITY AND NET INVESTMENT EXPENSE INVESTMENT SUBACCOUNT INCOME GUARANTEE CHARGES INCOME ------------------------------------------------------------------------------------------------ American Funds Asset Allocation Class 2 $1,568 $(475) $1,093 American Funds Blue Chip Income & Growth Class 2 1,085 (252) 833 American Funds Bond Class 2 840 (74) 766 American Funds Cash Management Class 2 1,900 (169) 1,731 American Funds Global Discovery Class 2 3 (1) 2 American Funds Global Growth Class 2 595 (117) 478 American Funds Global Growth and Income Class 2 216 (33) 183 American Funds Global Small Capitalization Class 2 278 (62) 216 American Funds Growth Class 2 457 (344) 113 American Funds Growth-Income Class 2 1,475 (645) 830 American Funds High-Income Bond Class 2 2,431 (127) 2,304 American Funds International Class 2 756 (302) 454 American Funds New World Class 2 97 (18) 79 American Funds U.S. Government/AAA-Rated Securities Class 2 31 (3) 28
See accompanying notes. Y-4
DIVIDENDS NET CHANGE NET INCREASE FROM TOTAL IN UNREALIZED (DECREASE) NET REALIZED NET REALIZED NET REALIZED APPRECIATION OR IN NET ASSETS GAIN (LOSS) GAIN ON GAIN (LOSS) DEPRECIATION RESULTING SUBACCOUNT ON INVESTMENTS INVESTMENTS ON INVESTMENTS ON INVESTMENTS FROM OPERATIONS ----------------------------------------------------------------------------------------------------------------------------------- American Funds Asset Allocation Class 2 $ 96 $2,265 $2,361 $ 84 $3,538 American Funds Blue Chip Income & Growth Class 2 32 1,241 1,273 (1,927) 179 American Funds Bond Class 2 25 -- 25 (553) 238 American Funds Cash Management Class 2 (236) -- (236) (348) 1,147 American Funds Global Discovery Class 2 6 26 32 (2) 32 American Funds Global Growth Class 2 75 751 826 1,077 2,381 American Funds Global Growth and Income Class 2 15 419 434 (83) 534 American Funds Global Small Capitalization Class 2 142 562 704 160 1,080 American Funds Growth Class 2 148 3,507 3,655 1,636 5,404 American Funds Growth-Income Class 2 266 2,968 3,234 (668) 3,396 American Funds High-Income Bond Class 2 7 -- 7 (2,412) (101) American Funds International Class 2 469 2,164 2,633 5,124 8,211 American Funds New World Class 2 84 136 220 407 706 American Funds U.S. Government/AAA-Rated Securities Class 2 -- -- -- (5) 23
Y-5 STATEMENTS OF CHANGES IN NET ASSETS YEARS ENDED DECEMBER 31, 2006 AND 2007
AMERICAN AMERICAN AMERICAN FUNDS ASSET FUNDS BLUE AMERICAN FUNDS CASH ALLOCATION CHIP INCOME & FUNDS BOND MANAGEMENT CLASS 2 GROWTH CLASS 2 CLASS 2 CLASS 2 SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT --------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2006 $ 4,707 $ 842 $ 5,627 $ -- Changes From Operations: - Net investment income (loss) 977 (16) 228 8 - Net realized gain (loss) on investments 116 116 (1) (8) - Net change in unrealized appreciation on investments 1,373 467 209 -- ------- ------- ------- -------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 2,466 567 436 -- Changes From Unit Transactions: - Contract purchases 57,792 37,152 3,095 501 - Contract withdrawals (4,210) (2,627) (1,063) (46) - Contract transfers 27 113 84 (455) ------- ------- ------- -------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 53,609 34,638 2,116 -- ------- ------- ------- -------- TOTAL INCREASE (DECREASE) IN NET ASSETS 56,075 35,205 2,552 -- ------- ------- ------- -------- NET ASSETS AT DECEMBER 31, 2006 60,782 36,047 8,179 -- Changes From Operations: - Net investment income 1,093 833 766 1,731 - Net realized gain (loss) on investments 2,361 1,273 25 (236) - Net change in unrealized appreciation or depreciation on investments 84 (1,927) (553) (348) ------- ------- ------- -------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS 3,538 179 238 1,147 Changes From Unit Transactions: - Contract purchases 11,017 3,399 3,047 62,239 - Contract withdrawals (2,586) (1,431) (1,103) (3,734) - Contract transfers 456 6,648 2,764 (46,012) ------- ------- ------- -------- NET INCREASE IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 8,887 8,616 4,708 12,493 ------- ------- ------- -------- TOTAL INCREASE IN NET ASSETS 12,425 8,795 4,946 13,640 ------- ------- ------- -------- NET ASSETS AT DECEMBER 31, 2007 $73,207 $44,842 $13,125 $ 13,640 ======= ======= ======= ========
See accompanying notes. Y-6
AMERICAN AMERICAN AMERICAN AMERICAN FUNDS GLOBAL FUNDS AMERICAN FUNDS GLOBAL FUNDS GROWTH AND GLOBAL SMALL AMERICAN FUNDS DISCOVERY GLOBAL GROWTH INCOME CAPITALIZATION FUNDS GROWTH GROWTH-INCOME CLASS 2 CLASS 2 CLASS 2 CLASS 2 CLASS 2 CLASS 2 SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ------------------------------------------------------------------------------------------------------------------------------------ NET ASSETS AT JANUARY 1, 2006 $142 $ 3,431 $ -- $ 2,117 $ 7,268 $17,956 Changes From Operations: - Net investment income (loss) -- 14 -- (12) 202 810 - Net realized gain (loss) on investments 8 31 -- 266 188 681 - Net change in unrealized appreciation on investments 10 1,417 -- 393 717 3,260 ---- ------- ------- ------- ------- ------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 18 1,462 -- 647 1,107 4,751 Changes From Unit Transactions: - Contract purchases -- 8,068 -- 2,657 40,364 65,636 - Contract withdrawals (53) (962) -- (727) (3,775) (6,367) - Contract transfers (1) 58 -- (135) 181 107 ---- ------- ------- ------- ------- ------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS (54) 7,164 -- 1,795 36,770 59,376 ---- ------- ------- ------- ------- ------- TOTAL INCREASE (DECREASE) IN NET ASSETS (36) 8,626 -- 2,442 37,877 64,127 ---- ------- ------- ------- ------- ------- NET ASSETS AT DECEMBER 31, 2006 106 12,057 -- 4,559 45,145 82,083 Changes From Operations: - Net investment income 2 478 183 216 113 830 - Net realized gain (loss) on investments 32 826 434 704 3,655 3,234 - Net change in unrealized appreciation or depreciation on investments (2) 1,077 (83) 160 1,636 (668) ---- ------- ------- ------- ------- ------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS 32 2,381 534 1,080 5,404 3,396 Changes From Unit Transactions: - Contract purchases 325 13,288 7,940 4,238 5,887 14,665 - Contract withdrawals (64) (1,536) (988) (1,106) (2,671) (4,432) - Contract transfers (9) 410 6,850 4,978 8,569 1,428 ---- ------- ------- ------- ------- ------- NET INCREASE IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 252 12,162 13,802 8,110 11,785 11,661 ---- ------- ------- ------- ------- ------- TOTAL INCREASE IN NET ASSETS 284 14,543 14,336 9,190 17,189 15,057 ---- ------- ------- ------- ------- ------- NET ASSETS AT DECEMBER 31, 2007 $390 $26,600 $14,336 $13,749 $62,334 $97,140 ==== ======= ======= ======= ======= =======
Y-7
AMERICAN AMERICAN AMERICAN AMERICAN FUNDS FUNDS FUNDS FUNDS U.S. GOVERNMENT/ HIGH-INCOME INTERNATIONAL NEW WORLD AAA-RATED BOND CLASS 2 CLASS 2 CLASS 2 SECURITIES CLASS 2 SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT ---------------------------------------------------------------------------------------------------------- NET ASSETS AT JANUARY 1, 2006 $ 7,027 $ 5,729 $ -- $ 62 Changes From Operations: - Net investment income (loss) 502 484 12 5 - Net realized gain (loss) on investments 2 218 11 -- - Net change in unrealized appreciation on investments 437 1,700 200 3 ------- ------- ------ ---- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 941 2,402 223 8 Changes From Unit Transactions: - Contract purchases 5,472 36,307 1,937 309 - Contract withdrawals (775) (2,848) (465) (66) - Contract transfers 120 (100) -- -- ------- ------- ------ ---- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 4,817 33,359 1,472 243 ------- ------- ------ ---- TOTAL INCREASE (DECREASE) IN NET ASSETS 5,758 35,761 1,695 251 ------- ------- ------ ---- NET ASSETS AT DECEMBER 31, 2006 12,785 41,490 1,695 313 Changes From Operations: - Net investment income 2,304 454 79 28 - Net realized gain (loss) on investments 7 2,633 220 -- - Net change in unrealized appreciation or depreciation on investments (2,412) 5,124 407 (5) ------- ------- ------ ---- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS (101) 8,211 706 23 Changes From Unit Transactions: - Contract purchases 10,361 1,147 800 181 - Contract withdrawals (1,283) (1,576) (647) (74) - Contract transfers 4,284 6,039 1,657 -- ------- ------- ------ ---- NET INCREASE IN NET ASSETS RESULTING FROM UNIT TRANSACTIONS 13,362 5,610 1,810 107 ------- ------- ------ ---- TOTAL INCREASE IN NET ASSETS 13,261 13,821 2,516 130 ------- ------- ------ ---- NET ASSETS AT DECEMBER 31, 2007 $26,046 $55,311 $4,211 $443 ======= ======= ====== ====
Y-8 NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2007 1. ACCOUNTING POLICIES AND VARIABLE ACCOUNT INFORMATION THE VARIABLE ACCOUNT: Lincoln Life & Annuity Flexible Premium Variable Life Account Y (the Variable Account) is a segregated investment account of Lincoln Life & Annuity Company of New York (the Company) and is registered as a unit investment trust with the Securities and Exchange Commission under the Investment Company Act of 1940, as amended. The operations of the Variable Account, which commenced on March 4, 2004, are part of the operations of the Company. The Variable Account consists of six products which are listed below: American Legacy VUL(DB)-II American Legacy VUL(CV)-IV American Legacy VUL(DB)-IV American Legacy SVUL-III American Legacy VUL(CV)-III American Legacy SVUL-IV The assets of the Variable Account are owned by the Company. The portion of the Variable Account's assets supporting the variable life policies may not be used to satisfy liabilities arising from any other business of the Company. During 2007, Lincoln Life & Annuity Company of New York merged into Jefferson Pilot LifeAmerica Insurance Company. Jefferson Pilot LifeAmerica Insurance Company was renamed Lincoln Life & Annuity Company of New York. Pursuant to the merger, the segregated investment account, Lincoln Life & Annuity Flexible Premium Variable Life Account Y, was transferred to Jefferson Pilot LifeAmerica Insurance Company. The transfer did not affect the assets and liabilities of the segregated investment account, Lincoln Life & Annuity Flexible Premium Variable Life Account Y. BASIS OF PRESENTATION: The accompanying financial statements have been prepared in accordance with accounting principles generally accepted in the United States for unit investment trusts. In September 2006, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 157 "Fair Value Measurements" (Statement 157). Statement 157 establishes a framework for measuring fair value in U.S. generally accepted accounting principles, clarifies the definition of fair value within that framework and expands disclosures about the use of fair value measurements. Statement 157 is intended to increase consistency and comparability among fair value estimates used in financial reporting. Statement 157 is effective for fiscal years beginning after November 15, 2007. Management does not expect the adoption of Statement 157 to have a material impact on the amounts reported in the financial statements. INVESTMENTS: The Variable Account invests in the American Funds Insurance Series (American Funds) which consists of the following available mutual funds (Funds): American Funds Asset Allocation (Class 2) American Funds Blue Chip Income & Growth (Class 2) American Funds Bond (Class 2) American Funds Cash Management (Class 2) American Funds Global Bond (Class 2)* American Funds Global Discovery (Class 2) American Funds Global Growth (Class 2) American Funds Global Growth and Income (Class 2) American Funds Global Small Capitalization (Class 2) American Funds Growth (Class 2) American Funds Growth-Income (Class 2) American Funds High-Income Bond (Class 2) American Funds International (Class 2) American Funds New World (Class 2) American Funds U.S. Government/AAA-Rated Securities (Class 2) * Available fund with no money invested at December 31, 2007. Investments in the Funds are stated at the closing net asset value per share on December 31, 2007, which approximates fair value. The difference between cost and fair value is reflected as unrealized appreciation or depreciation of investments. Investment transactions are accounted for on a trade date basis. The cost of investments sold is determined by the average cost method. DIVIDENDS: Dividends paid to the Variable Account are automatically reinvested in shares of the variable subaccounts on the payable date. Dividend income is recorded on the ex-dividend date. FEDERAL INCOME TAXES: Operations of the Variable Account form a part of and are taxed with operations of the Company, which is taxed as a "life insurance company" under the Internal Revenue Code. The Variable Account will not be taxed as a regulated investment company under Subchapter M of the Internal Revenue Code, as amended. Under current federal income tax law, no federal income taxes are payable with respect to the Variable Account's net investment income and the net realized gain on investments. INVESTMENT FUND CHANGES: In 2006, the American Funds Global Growth and Income Class 2 Fund became available as an investment option to Variable Account contract owners. During 2007, the American Funds Global Bond Class 2 Fund became available as an investment option to Variable Account contract owners. Accordingly, the 2007 statement of operations and statements of changes in net assets and total return and investment income ratios in note 3 for this subaccount are for the period from the commencement of operations to December 31, 2007. Y-9 2. MORTALITY AND EXPENSE GUARANTEES AND OTHER TRANSACTIONS WITH AFFILIATES Amounts are paid to the Company for mortality and expense guarantees at a percentage of the current value of the Variable Account each day. The mortality and expense risk charges for each of the variable subaccounts are reported in the statement of operations. The rates are as follows for the six policy types within the Variable Account: - American Legacy VUL(DB)-II - annual rate of .90% for policy years one through nineteen and .20% thereafter. - American Legacy VUL(DB)-IV - annual rate of .90% for policy years one through nineteen and .20% thereafter. - American Legacy VUL(CV)-III - annual rate of .75% for policy years one through ten, .35% for policy years eleven through twenty and .20% thereafter. - American Legacy VUL(CV)-IV - annual rate of .60% for policy years one through ten and .20% thereafter. - American Legacy SVUL-III - annual rate of .80% for policy years one through nineteen and .40% thereafter. - American Legacy SVUL-IV - annual rate of .60% for policy years one through nineteen and .20% thereafter. Prior to the allocation of premiums to the Variable Account, the Company deducts a premium load to cover state taxes and federal income tax liabilities and a portion of the sales expenses incurred by the Company. Refer to the product prospectus for the premium load charge. The premium loads for the years ended December 31, 2007 and 2006 amounted to $6,926 and $12,964, respectively. The Company charges a monthly administrative fee which varies by product, refer to the product prospectus for the administrative fee rate. The administrative fees are for items such as premium billing and collection, policy value calculation, confirmations and periodic reports. Administrative fees for the years ended December 31, 2007 and 2006 amounted to $3,929 and $3,741, respectively. The Company assumes responsibility for providing the insurance benefit included in the policy. On a monthly basis, a cost of insurance charge is deducted proportionately from the value of each variable subaccount and/or fixed account funding option. The fixed account is part of the general account of the Company and is not included in these financial statements. The cost of insurance charge depends on the attained age, risk classification, gender classification (in accordance with state law) and the current net amount at risk. The cost of insurance charges for the years ended December 31, 2007 and 2006 amounted to $12,369 and $7,275, respectively. Under certain circumstances, the Company reserves the right to charge a transfer fee which varies by product, refer to the product prospectus for the transfer fee charge. For the years ended December 31, 2007 and 2006, no transfer fees were deducted from the Variable Accounts. The Company, upon full surrender of a policy, may assess a surrender charge. This charge is in part a deferred sales charge and in part a recovery of certain first year administrative costs. The amount of the surrender charge assessed, if any, will depend on the face amount of the policy and the issue age of the policy. In no event will the surrender charge exceed the maximum allowed by state or federal law. No surrender charge is imposed on a partial surrender, but an administrative fee of $25 (not to exceed 2% of the amount withdrawn) is imposed, allocated pro-rata among the variable subaccounts (and, where applicable, the fixed account) from which the partial surrender proceeds are taken. There were no full surrender charges or partial surrender administrative charges for the years ended December 31, 2007 and 2006. 3. FINANCIAL HIGHLIGHTS A summary of the fee rates, unit values, units outstanding, net assets and total return and investment income ratios for variable life contracts as of and for each year or period in the four years ended December 31, 2007 follows.
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- AMERICAN FUNDS ASSET ALLOCATION CLASS 2 2007 0.60% 0.90% $13.54 $17.11 5,348 $73,207 5.60% 5.91% 2.29% 2006 0.60% 0.90% 12.82 16.19 4,702 60,782 13.62% 13.99% 6.76% 2005 0.60% 0.90% 14.23 14.23 405 4,707 8.32% 8.32% 4.41% 2004 4/23/04 0.75% 0.75% 13.14 13.14 18 237 6.32% 6.32% 3.29% AMERICAN FUNDS BLUE CHIP INCOME & GROWTH CLASS 2 2007 0.60% 0.90% 13.38 13.50 3,323 44,842 1.10% 1.42% 2.64% 2006 0.60% 0.90% 13.23 13.31 2,709 36,047 16.37% 16.67% 0.39% 2005 6/17/05 0.60% 0.90% 11.37 11.41 74 842 3.24% 4.56% 0.00%
Y-10 3. FINANCIAL HIGHLIGHTS (CONTINUED)
MINIMUM MAXIMUM MINIMUM MAXIMUM MINIMUM MAXIMUM INVESTMENT COMMENCEMENT FEE FEE UNIT UNIT UNITS TOTAL TOTAL INCOME SUBACCOUNT YEAR DATE(1) RATE(2) RATE(2) VALUE(3) VALUE(3) OUTSTANDING NET ASSETS RETURN(4) RETURN(4) RATIO(5) ------------------------------------------------------------------------------------------------------------------------------- AMERICAN FUNDS BOND CLASS 2 2007 0.60% 0.90% $11.02 $13.69 1,106 $13,125 2.39% 2.71% 8.51% 2006 0.60% 0.90% 10.76 13.35 675 8,179 6.04% 6.36% 4.04% 2005 0.60% 0.90% 12.57 12.57 479 5,627 0.83% 0.83% 3.12% 2004 4/26/04 0.75% 0.75% 12.47 12.47 229 2,861 4.35% 4.35% 3.52% AMERICAN FUNDS CASH MANAGEMENT CLASS 2 2007 2/20/07 0.60% 0.60% 11.06 11.06 1,234 13,640 3.47% 3.47% 5.83% AMERICAN FUNDS GLOBAL DISCOVERY CLASS 2 2007 0.60% 0.60% 16.12 16.12 24 390 16.51% 16.51% 1.10% 2006 0.60% 0.60% 13.84 13.84 8 106 16.71% 16.71% 0.82% 2005 11/11/05 0.60% 0.60% 11.85 11.85 12 142 5.11% 5.11% 0.69% AMERICAN FUNDS GLOBAL GROWTH CLASS 2 2007 0.60% 0.90% 16.55 23.72 1,589 26,600 13.79% 14.17% 3.13% 2006 0.60% 0.90% 14.54 20.81 821 12,057 19.35% 19.75% 0.80% 2005 0.60% 0.90% 17.41 17.41 279 3,431 13.22% 13.22% 0.00% 2004 11/12/04 0.75% 0.75% 15.38 15.38 1 8 3.57% 3.57% 0.00% AMERICAN FUNDS GLOBAL GROWTH AND INCOME CLASS 2 2007 3/22/07 0.60% 0.60% 12.83 12.83 1,117 14,336 10.52% 10.52% 3.04% AMERICAN FUNDS GLOBAL SMALL CAPITALIZATION CLASS 2 2007 0.60% 0.90% 20.45 20.65 668 13,749 20.34% 20.72% 3.34% 2006 0.60% 0.90% 17.00 17.10 268 4,559 23.02% 23.34% 0.50% 2005 3/28/05 0.60% 0.90% 13.82 13.87 153 2,117 18.15% 20.39% 0.00% AMERICAN FUNDS GROWTH CLASS 2 2007 0.60% 0.90% 15.16 20.90 3,966 62,334 11.33% 11.67% 0.86% 2006 0.60% 0.90% 13.62 18.75 3,191 45,145 9.19% 9.53% 2.19% 2005 0.60% 0.90% 17.15 17.15 484 7,268 15.35% 15.35% 0.82% 2004 3/4/04 0.75% 0.75% 14.86 14.86 206 3,064 5.95% 5.95% 0.26% AMERICAN FUNDS GROWTH-INCOME CLASS 2 2007 0.60% 0.90% 13.31 18.46 7,005 97,140 4.10% 4.41% 1.61% 2006 0.60% 0.90% 12.79 17.71 6,134 82,083 14.16% 14.50% 3.17% 2005 0.60% 0.90% 15.49 15.49 1,359 17,956 5.04% 5.04% 1.77% 2004 3/4/04 0.75% 0.75% 14.74 14.74 488 7,189 5.02% 5.02% 1.18% AMERICAN FUNDS HIGH-INCOME BOND CLASS 2 2007 0.60% 0.90% 11.42 17.30 2,171 26,046 0.41% 0.73% 13.02% 2006 0.60% 0.90% 11.38 17.20 1,028 12,785 9.59% 9.92% 5.89% 2005 0.60% 0.90% 15.67 15.67 586 7,027 1.42% 1.42% 4.02% 2004 3/4/04 0.75% 0.75% 15.45 15.45 149 2,307 7.46% 7.46% 4.95% AMERICAN FUNDS INTERNATIONAL CLASS 2 2007 0.60% 0.90% 18.45 27.71 2,910 55,311 18.95% 19.30% 1.60% 2006 0.60% 0.90% 15.51 23.26 2,599 41,490 17.91% 18.27% 5.17% 2005 0.60% 0.90% 19.70 19.70 377 5,729 20.60% 20.60% 2.08% 2004 3/4/04 0.75% 0.75% 16.33 16.33 95 1,550 13.12% 13.12% 2.22% AMERICAN FUNDS NEW WORLD CLASS 2 2007 0.60% 0.90% 22.67 22.90 184 4,211 31.08% 31.44% 3.77% 2006 4/10/06 0.60% 0.90% 17.29 17.42 98 1,695 12.94% 15.44% 1.48% AMERICAN FUNDS U.S. GOVERNMENT/AAA-RATED SECURITIES CLASS 2 2007 0.60% 0.60% 11.09 11.09 40 443 5.85% 5.85% 7.61% 2006 0.60% 0.60% 10.48 10.48 30 313 3.13% 3.13% 3.34% 2005 11/4/05 0.60% 0.60% 10.16 10.16 6 62 1.62% 1.62% 0.00%
(1) Reflects less than a full year of activity. Funds were first received in this option on the commencement date noted or the option was inactive at the date funds were received. (2) These amounts represent the annualized minimum and maximum contract expenses of the separate account, consisting primarily of mortality and expense charges, for each period indicated. The ratios include only those expenses that result in a direct reduction to unit values. Charges made directly to contract owner accounts through the redemption of units and expenses of the underlying funds have been excluded. Y-11 3. FINANCIAL HIGHLIGHTS (CONTINUED) (3) As the unit value is presented as a range of minimum to maximum values for only those subaccounts which existed for the entire year, some individual contract unit values may not be within the ranges presented as a result of partial year activity. (4) These amounts represent the total return, including changes in value of mutual funds, and reflect deductions for all items included in the fee rate. The total return does not include contract charges deducted directly from policy account values. The total return is not annualized. As the total return is presented as a range of minimum to maximum values, for only those subaccounts which existed for the entire year, some individual contract total returns may not be within the ranges presented as a result of partial year activity. (5) These amounts represent the dividends, excluding distributions of capital gains, received by the subaccount from the underlying mutual fund, net of management fees assessed by the fund manager, divided by the average net assets. These ratios exclude those expenses, such as mortality and expense guarantee charges, that result in direct reductions in the unit values. The recognition of investment income by the subaccount is affected by the timing of the declaration of dividends by the underlying fund in which the subaccounts invest. Investment income ratios are not annualized. Note: Fee rate, unit value and total return minimum and maximum are the same where there is only one active contract level charge for the subaccount. 4. PURCHASES AND SALES OF INVESTMENTS The aggregate cost of investments purchased and the aggregate proceeds from investments sold were as follows for 2007.
AGGREGATE AGGREGATE COST OF PROCEEDS SUBACCOUNT PURCHASES FROM SALES ---------------------------------------------------------------------------------- American Funds Asset Allocation Class 2 $14,261 $ 2,018 American Funds Blue Chip Income & Growth Class 2 11,987 1,249 American Funds Bond Class 2 6,974 1,463 American Funds Cash Management Class 2 56,491 42,266 American Funds Global Discovery Class 2 338 58 American Funds Global Growth Class 2 14,061 647 American Funds Global Growth and Income Class 2 14,835 431 American Funds Global Small Capitalization Class 2 9,978 1,065 American Funds Growth Class 2 17,723 2,281 American Funds Growth-Income Class 2 19,895 4,387 American Funds High-Income Bond Class 2 16,277 611 American Funds International Class 2 11,692 3,462 American Funds New World Class 2 2,607 582 American Funds U.S. Government/AAA-Rated Securities Class 2 196 37
5. INVESTMENTS The following is a summary of investments owned at December 31, 2007.
NET SHARES ASSET FAIR VALUE SUBACCOUNT OWNED VALUE OF SHARES COST OF SHARES ------------------------------------------------------------------------------------------------------- American Funds Asset Allocation Class 2 3,981 $18.39 $73,209 $71,610 American Funds Blue Chip Income & Growth Class 2 3,916 11.45 44,843 46,271 American Funds Bond Class 2 1,190 11.03 13,126 13,498 American Funds Cash Management Class 2 1,202 11.35 13,641 13,989 American Funds Global Discovery Class 2 28 14.02 390 379 American Funds Global Growth Class 2 1,064 25.00 26,600 23,928 American Funds Global Growth and Income Class 2 1,220 11.75 14,336 14,419 American Funds Global Small Capitalization Class 2 510 26.95 13,750 12,923 American Funds Growth Class 2 934 66.72 62,336 58,961 American Funds Growth-Income Class 2 2,299 42.26 97,146 93,587 American Funds High-Income Bond Class 2 2,255 11.55 26,047 27,995 American Funds International Class 2 2,238 24.72 55,314 47,503 American Funds New World Class 2 164 25.70 4,211 3,604 American Funds U.S. Government/AAA-Rated Securities Class 2 38 11.65 443 445
Y-12 6. CHANGES IN UNITS OUTSTANDING The change in units outstanding for the year ended December 31, 2007 is as follows:
UNITS UNITS SUBACCOUNT ISSUED REDEEMED NET INCREASE ------------------------------------------------------------------------------------------- American Funds Asset Allocation Class 2 793 (147) 646 American Funds Blue Chip Income & Growth Class 2 705 (91) 614 American Funds Bond Class 2 566 (135) 431 American Funds Cash Management Class 2 5,502 (4,268) 1,234 American Funds Global Discovery Class 2 20 (4) 16 American Funds Global Growth Class 2 822 (54) 768 American Funds Global Growth and Income Class 2 1,164 (47) 1,117 American Funds Global Small Capitalization Class 2 461 (61) 400 American Funds Growth Class 2 941 (166) 775 American Funds Growth-Income Class 2 1,196 (325) 871 American Funds High-Income Bond Class 2 1,204 (61) 1,143 American Funds International Class 2 505 (194) 311 American Funds New World Class 2 117 (31) 86 American Funds U.S. Government/AAA-Rated Securities Class 2 16 (6) 10
The change in units outstanding for the year ended December 31, 2006 is as follows:
UNITS UNITS NET INCREASE SUBACCOUNT ISSUED REDEEMED (DECREASE) ------------------------------------------------------------------------------------------- American Funds Asset Allocation Class 2 4,402 (105) 4,297 American Funds Blue Chip Income & Growth Class 2 2,696 (61) 2,635 American Funds Bond Class 2 276 (80) 196 American Funds Cash Management Class 2 46 (46) -- American Funds Global Discovery Class 2 -- (4) (4) American Funds Global Growth Class 2 584 (42) 542 American Funds Global Small Capitalization Class 2 164 (49) 115 American Funds Growth Class 2 2,834 (127) 2,707 American Funds Growth-Income Class 2 5,024 (249) 4,775 American Funds High-Income Bond Class 2 485 (43) 442 American Funds International Class 2 2,303 (81) 2,222 American Funds New World Class 2 122 (24) 98 American Funds U.S. Government/AAA-Rated Securities Class 2 29 (5) 24
Y-13 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM Board of Directors of Lincoln Life & Annuity Company of New York and Contract Owners of Lincoln Life & Annuity Flexible Premium Variable Life Account Y We have audited the accompanying statement of assets and liabilities of Lincoln Life & Annuity Flexible Premium Variable Life Account Y ("Variable Account"), comprised of the subaccounts described in Note 1, as of December 31, 2007, the related statement of operations for the year then ended, and the statements of changes in net assets for each of the two years in the period then ended. These financial statements are the responsibility of the Variable Account's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Variable Account's internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Variable Account's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our procedures included confirmation of investments owned as of December 31, 2007, by correspondence with the custodian. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of each of the respective subaccounts constituting Lincoln Life & Annuity Flexible Premium Variable Life Account Y at December 31, 2007, the results of their operations for the year then ended, and changes in their net assets for each of the two years in the period then ended, in conformity with U.S. generally accepted accounting principles. Ernst & Young LLP Fort Wayne, Indiana March 7, 2008 Y-14 PART C - OTHER INFORMATION Item 26. EXHIBITS (1) Resolution of the Board of Directors of Lincoln Life & Annuity Company of New York and related documents authorizing establishment of the Account.(2) (2) Not applicable. (3) (a) Revised and Amended Principal Underwriting Agreement between Lincoln Financial Distributors, Inc. and Lincoln Life & Annuity Company of New York.(13) (b) Selling Group Agreement.(14) (c) Commission Schedule for Variable Life Policies.(12) (4) (a) Form of Policy LN670 NY(6) (b) Riders - Policy Form LR434 NY and LR435 NY(3) (c) Accounting Value Rider - Policy Form LR500 NY(5) (d) Change of Insured Rider - Policy Form LR496 NY(5) (e) Estate Tax Repeal Rider - Policy Form LR511 NY(7) (f) Supplemental Term Insurance Rider - Policy Form LR516 NY(6) (g) Death Benefit Option 3 - Policy Form B10424 NY(5) (5) (a) Application - Policy Form B10399 NY(4) (b) Addendum to Application - Policy Form B15b NY - American Legacy(2) (6) (a) Articles of Incorporation of Lincoln Life & Annuity Company of New York(1) (b) Bylaws of Lincoln Life & Annuity Company of New York(1) (7) Form of Reinsurance Contracts(11) (8) Fund Participation Agreement, and amendments thereto, between Lincoln Life & Annuity Company of New York and American Funds Insurance Series.(8) (9) (a) Accounting and Financial Administration Services Agreement dated October 1, 2007 among Mellon Bank, N.A., The Lincoln National Life Insurance Company and Lincoln Life & Annuity Company of New York.(9) (b) Amended and Restated Service Agreement by and between Lincoln Life & Annuity Company of New York and The Lincoln National Life Insurance Company, effective January 1, 2004.(10) (10) Not applicable. (11) Opinion and Consent of Robert O. Sheppard, Esquire. (12) Not Applicable. (13) Not Applicable. (14) Consent of Independent Registered Public Accounting Firm. (15) Not applicable. (16) Not applicable. (17) Compliance Procedures.(15) ______________________ (1) Incorporated by reference to Post-Effective Amendment No. 17 on Form N-6 to Registration Statement on Form S-6 (File No. 033-77496) filed on April 2, 2007. (2) Incorporated by reference to Pre-Effective Amendment No. 1 on Form S-6 (File No. 333-81886) filed on May 10, 2002. (3) Incorporated by reference to Pre-Effective Amendment No. 1 on Form S-6 (File 333-42507) filed on July 2, 1998. (4) Incorporated by reference to Post-Effective Amendment No. 6 on Form S-6 (File No. 333-42507) filed on July 28, 2000. (5) Incorporated by reference to Post-Effective Amendment No. 7 on Form S-6 (File No. 333-42507) filed on April 20, 2001. (6) Incorporated by reference to Registration Statement on Form S-6 (File No. 333-84684) filed on March 21, 2002. (7) Incorporated by reference to Post-Effective Amendment No. 2 on Form S-6 (File No. 333-52194) filed on November 13, 2001. (8) Incorporated by reference to Post-Effective Amendment No. 2 on Form N-6 (File No. 333-141769) filed on April 2, 2008. (9) Incorporated herein by reference to the Registration Statement on Form N-4 (File No. 333-147673) filed on November 28, 2007. (10) Incorporated by reference to Post-Effective Amendment No. 3 on Form N-6 (File No. 333-84684) filed on April 7, 2004. (11) Incorporated by reference to Registration Statement on Form N-6 (File No. 333-148917) filed on January 29, 2008. (12) Incorporated by reference to Post-Effective Amendment No. 3 on Form N-6 (File No. 333-81884) filed on June 24, 2003. (13) Incorporated by reference to Pre-Effective Amendment No. 1 on Form N-4 (File No. 333-93875) filed on April 27, 2000. (14) Incorporated by reference to Post-Effective Amendment No. 4 on Form N-6 (File No. 333-81884) filed on April 2, 2004. (15) Incorporated by reference to Post-Effective Amendment No. 1 on Form N-6 (File No. 333-139960) filed on April 1, 2008. Item 27. Directors and Officers of the Depositor
Name Positions and Offices with Depositor -------------------------------- ------------------------------------------------------------ J. Patrick Barrett Director 4605 Watergap Manlius, NY 13104 Michael J. Burns**** Senior Vice President Charles C. Cornelio***** Senior Vice President and Director Frederick J. Crawford*** Senior Vice President, Chief Financial Officer and Director Robert W. Dineen Director 2005 Market Street, 34th Floor Philadelphia, PA 19103 Christine S. Frederick**** Second Vice President and Chief Compliance Officer Dennis R. Glass*** President, Chief Executive Officer and Director George W. Henderson, III Director Granville Capital 300 North Greene Street Greensboro, NC 27401 Mark E. Konen***** Senior Vice President and Director M. Leanne Lachman Director 870 United Nations Plaza, #19-E New York, NY 10017 Louis G. Marcoccia Director Senior Vice President Syracuse University Crouse-Hinds Hall, Suite 620 900 South Crouse Avenue Syracuse, NY 13244 Patrick S. Pittard Director 20 Cates Ridge Atlanta, GA 30327 Dennis L. Schoff*** Director Robert O. Sheppard* Second Vice President and General Counsel Michael S. Smith** Assistant Vice President and Director Rise C. M. Taylor** Vice President and Treasurer Westley V. Thompson**** Director C. Suzanne Womack*** Second Vice President and Secretary
* Principal business address is 100 Madison Street, Suite 1860, Syracuse, NY 13202 B-2 ** Principal business address is 1300 South Clinton Street, Fort Wayne, IN 46801 *** Principal business address is 150 Radnor Chester Road, Radnor, PA 19087 **** Principal business address is 350 Church Street, Hartford, CT 06103 ***** Principal business address is 100 North Greene Street, Greensboro, NC 27401 Item 28. Persons Controlled by or Under Common Control with the Depositor or the Registrant Organizational Chart of the Lincoln National Corporation Insurance Company Holding Company System (15) Item 29. Indemnification (a) Brief description of indemnification provisions: In general, Article VII of the By-Laws of Lincoln Life & Annuity Company of New York (Lincoln Life) provides that Lincoln Life will indemnify certain persons against expenses, judgments and certain other specified costs incurred by any such person if he/she is made a party or is threatened to be made a party to a suit or proceeding because he/she was a director, officer, or employee of Lincoln Life, as long as he/she acted in good faith and in a manner he/she reasonably believed to be in the best interests of, or not opposed to the best interests of, Lincoln Life. Certain additional conditions apply to indemnification in criminal proceedings. In particular, separate conditions govern indemnification of directors, officers, and employees of Lincoln Life in connection with suits by, or in the right of, Lincoln Life. Please refer to Article VII of the By-Laws of Lincoln Life (Exhibit No. 6(b) hereto) for the full text of the indemnification provisions. Indemnification is permitted by, and is subject to the requirements of, New York law. (b) Undertaking pursuant to Rule 484 of Regulation C under the Securities Act of 1933: Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the provisions described in Item 28(a) above or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer, or controlling person of the Registrant in the successful defense of any such action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. Item 30. Principal Underwriter (a) Lincoln Financial Distributors, Inc. is the principal underwriter for Lincoln Life & Annuity Variable Annuity Account H; Lincoln Life & Annuity Variable Annuity Account L; Lincoln Life & Annuity Flexible Premium Variable Life Account M; Lincoln New York Account N for Variable Annuities; LLANY Separate Account R for Flexible Premium Variable Life; LLANY Separate Account S for Flexible Premium Variable Life; and Lincoln New York Account T Variable Annuity. (b) Officers and Directors of Lincoln Financial Distributors, Inc.:
Name Positions and Offices with Underwriter ------------------------- ------------------------------------------------ Patrick J. Caulfield*** Vice President and Chief Compliance Officer Frederick J. Crawford* Director Daniel P. Hickey*** Vice President Randall J. Freitag* Vice President and Treasurer Dennis R. Glass* Director David M. Kittredge* Senior Vice President Terrence Mullen* President, Chief Executive Officer and Director Linda Woodward** Secretary Keith J. Ryan** Vice President and Chief Financial Officer
* Principal business address is 150 Radnor Chester Road, Radnor, PA 19087 ** Principal business address is 1300 S. Clinton Street, Ft. Wayne, IN 46802 B-3 *** Principal business address is 350 Church Street, Hartford, CT 06103 (c) N/A Item 31. Location of Accounts and Records Books of Account and corporate records are maintained by Lincoln Life & Annuity Company of New York, 100 Madison Street, Suite 1860, Syracuse, New York 13202. All other accounts, books, and documents, except accounting records, required to be maintained by the 1940 Act and the Rules promulgated thereunder are maintained by The Lincoln National Life Insurance Company, 1300 S. Clinton Street, Fort Wayne, Indiana 46802. The accounting records are maintained by Delaware Management Company, One Commerce Square, 2005 Market Street, Philadelphia, Pennsylvania 19103. Item 32. Management Services Not Applicable. Item 33. Fee Representation Lincoln Life represents that the fees and charges deducted under the policies, in the aggregate, are reasonable in relation to the services rendered, the expenses expected to be incurred, and the risks assumed by Lincoln Life. B-4 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, the Registrant, Lincoln Life & Annuity Flexible Premium Variable Life Account Y, has duly caused this Post-Effective Amendment Number 2 to the Registration Statement (File No.: 333-141770; 811-21029; CIK: 0001164757) on Form N-6 to be signed on its behalf by the undersigned duly authorized, in the City of Hartford and State of Connecticut, on the 23rd day of April, 2008. Registrant certifies that this amendment meets all of the requirements for effectiveness under Rule 485(b) pursuant to the Securities Act of 1933. LINCOLN LIFE & ANNUITY FLEXIBLE PREMIUM VARIABLE LIFE ACCOUNT Y (REGISTRANT) By /s/ Christine S. Frederick ---------------------------- Christine S. Frederick Second Vice President and Chief Compliance Officer Lincoln Life & Annuity Company of New York LINCOLN LIFE & ANNUITY COMPANY OF NEW YORK (DEPOSITOR) By /s/ Christine S. Frederick ---------------------------- Christine S. Frederick Second Vice President and Chief Compliance Officer Pursuant to the requirements of the Securities Act of 1933, as amended, this Post-Effective Amendment Number 2 to the Registration Statement (File No.: 333-141770; 811-21029; CIK: 0001164757) has been signed below on April 23, 2008, by the following persons, as officers and directors of the Depositor, in the capacities indicated:
SIGNATURE TITLE --------- ----- /s/ Dennis R. Glass * ------------------------------ President and Director Dennis R. Glass (Principal Executive Officer) /s/ Frederick J. Crawford * ------------------------------ Senior Vice President, Chief Financial Officer and Director Frederick J. Crawford (Principal Financial Officer) /s/ Michael J. Burns * ------------------------------ Senior Vice President Michael J. Burns /s/ Charles C. Cornelio * ------------------------------ Senior Vice President and Director Charles C. Cornelio /s/ Mark E. Konen * ------------------------------ Senior Vice President and Director Mark E. Konen /s/ Michael S. Smith * ------------------------------ Assistant Vice President and Director Michael S. Smith /s/ J. Patrick Barrett * ------------------------------ Director J. Patrick Barrett /s/ Robert W. Dineen * ------------------------------ Director Robert W. Dineen /s/ George W. Henderson, III * ------------------------------ Director George W. Henderson, III /s/ M. Leanne Lachman * ------------------------------ Director M. Leanne Lachman /s/ Louis G. Marcoccia * ------------------------------ Director Louis G. Marcoccia /s/ Patrick S. Pittard * ------------------------------ Director Patrick S. Pittard /s/ Dennis L. Schoff * ------------------------------ Director Dennis L. Schoff /s/ Westley V. Thompson * ------------------------------ Director Westley V. Thompson
/s/ Christine S. Frederick *By:------------------------------ Christine S. Frederick Attorney-in-Fact, pursuant to a Power- of-Attorney filed with this Registration Statement POWER OF ATTORNEY We, the undersigned directors and/or officers of Lincoln Life & Annuity Company of New York, hereby constitute and appoint Kelly D. Clevenger, Christine S. Frederick, Robert L. Grubka, Brian A. Kroll, Lawrence A. Samplatsky, Rise C. M. Taylor and Frederick C. Tedeschi, individually, our true and lawful attorneys-in-fact, with full power to each of them to sign for us, in our names and in the capacities indicated below, any and all amendments to Registration Statements; including exhibits, or other documents filed on Forms S-6, N-6, N-3, or N-4 or any successors or amendments to these Forms, filed with the Securities and Exchange Commission, under the Securities Act of 1933, on behalf of the Company in its own name or in the name of one of its Separate Accounts, hereby ratifying and confirming our signatures as they may be signed by any of our attorneys-in-fact to any amendment to said Registration Statements as follows: VARIABLE LIFE INSURANCE SEPARATE ACCOUNTS: Lincoln Life & Annuity Flexible Premium Variable Life Account M: 333-141788; 333-141779; 333-141767; 333-141771; 333-141775; 333-141782; 333-141785; 333-141789; 333-141790; 333-148917 LLANY Separate Account R for Flexible Premium Variable Life: 333-141768; 333-141772; 333-141776; 333-141780; 333-141784; 333-141786; 333-149053 LLANY Separate Account S for Flexible Premium Variable Life: 333-141777; 333-141773; 333-141769 Lincoln Life & Annuity Flexible Premium Variable Life Account Y: 333-141770; 333-141774; 333-141778; 333-141783; 333-141781; 333-141787 Lincoln Life & Annuity Flexible Premium Variable Life Account JA-B: 33-77496 VARIABLE ANNUITY SEPARATE ACCOUNTS: Lincoln Life & Annuity Variable Annuity Account H: 333-141756; 333-141758; 333-141761; 333-141754; 333-141763; 333-141766; 333-147675; 333-148207; 333-147710 Lincoln Life & Annuity Variable Annuity Account L: 333-141755 Lincoln New York Account N for Variable Annuities: 333-141752; 333-141757; 333-141759; 333-141760; 333-141765; 333-141762; 333-145531; 333-148208; 333-147673; 333-147711 The execution of this document by the undersigned hereby revokes any and all Powers of Attorney previously executed by said individual for this specific purpose.
SIGNATURE TITLE --------- ----- /s/ Dennis R. Glass ------------------------------ President and Director Dennis R. Glass (Principal Executive Officer) /s/ Frederick J. Crawford ------------------------------ Senior Vice President, Chief Financial Officer and Director Frederick J. Crawford (Principal Financial Officer) /s/ Michael J. Burns ------------------------------ Senior Vice President Michael J. Burns /s/ Charles C. Cornelio ------------------------------ Senior Vice President and Director Charles C. Cornelio /s/ Mark E. Konen ------------------------------ Senior Vice President and Director Mark E. Konen
/s/ Michael S. Smith ------------------------------ Assistant Vice President and Director Michael S. Smith /s/ J. Patrick Barrett ------------------------------ Director J. Patrick Barrett /s/ Robert W. Dineen ------------------------------ Director Robert W. Dineen /s/ George W. Henderson, III ------------------------------ Director George W. Henderson, III /s/ M. Leanne Lachman ------------------------------ Director M. Leanne Lachman /s/ Louis G. Marcoccia ------------------------------ Director Louis G. Marcoccia /s/ Patrick S. Pittard ------------------------------ Director Patrick S. Pittard /s/ Dennis L. Schoff ------------------------------ Director Dennis L. Schoff /s/ Westley V. Thompson ------------------------------ Director Westley V. Thompson
Version: February 11, 2008