STATUTORY ACCOUNTING AND REGULATION

The insurance industry is heavily-regulated. State laws and regulations, as well as national regulatory agency requirements, govern the operations of all insurers such as our insurance affiliates. The various laws and regulations require that insurers maintain minimum amounts of statutory surplus and risk-based capital, they restrict insurers' ability to pay dividends, they specify allowable investment types and investment mixes, and they subject insurers to assessments. At December 31, 2015, and during the twelve months then ended, our insurance affiliates met all regulatory requirements of the states in which they operate, and did not incur any material assessments.

Governmental agencies or certain quasi-governmental entities can levy assessments upon us in the states in which we write policies. See Note 2(j) for a description of how we recover assessments imposed upon us.

The table below summarizes the activity related to assessments levied upon our insurance affiliates:



	2015			2014			2013
Expected recoveries of assessments, January 1	$	—		$	7		$	1,646
Assessments expensed	226			72			31
Assessments recovered	1			(2		)	(1,528		)
Assessments not recoverable	(227		)	(77		)	(142		)
Expected recoveries of assessments, December 31	$	—		$	—		$	7

We expense an assessment when the particular governmental agency or quasi-governmental entity levies it upon us; therefore, expected recoveries in the table above are not assets and we will record the amounts as income when collected from policyholders.

Governmental agencies or certain quasi-governmental entities can also levy assessments upon policyholders, and we collect the amount of the assessments from policyholders as surcharges for the benefit of the assessing agency. We currently collect assessments levied upon policyholders on behalf of Citizens in the amount of 1.0%, and on behalf of FHCF in the amount of 1.3%. We multiply the premium written on each policy, except our flood policies, by these assessment percentages to determine the additional amount that we will collect from the policyholder and remit to the assessing agencies.

Our insurance affiliates, United Property & Casualty Insurance Company (UPC) and Family Security Insurance Company, Inc. (FSIC) are domiciled in Florida and Hawaii, respectively. The laws of the state of Florida require that UPC maintain capital and surplus equal to the greater of 10% of its total liabilities or $5,000,000. The laws of the state of Hawaii require that FSIC maintain capital and surplus of $3,250,000. State law also requires our insurance affiliates to adhere to prescribed premium-to-capital surplus ratios, with which we were in compliance at December 31, 2015. Our reinsurance affiliate is domiciled in the Cayman Islands and is subject to the regulatory authority of the Cayman Island Monetary Authority. The insurance regulations in the Cayman Islands stipulate that our reinsurance affiliate must maintain a minimum capital requirement of $100,000. The table below shows the amount of surplus as regards policyholders for our regulated entities at December 31, 2015 and 2014.



	December 31, 2015		December 31, 2014
UPC	$	135,288	$	126,249
UPC Re	$	728	$	19,048
FSIC	$	15,572	N/A⁽¹⁾

⁽¹⁾There is not a reportable value for FSIC at December 31, 2014 as we did not own the company

until February 2015.

The amount of restricted net assets of UPC, FSIC and UPC Re at December 31, 2015 was $122,627,000, $18,158,000, and $100,000, respectively.

The National Association of Insurance Commissioners published Risk-Based Capital (RBC) guidelines for insurance companies that are designed to assess capital adequacy and to raise the level of protection that statutory surplus provides for policy holders. Most states, including Florida and Hawaii, have enacted statutory requirements adopting the NAIC RBC guidelines, and insurers having less statutory surplus than required will be subject to varying degrees of regulatory action, depending on the level of capital inadequacy. State insurance regulatory authorities could require an insurer to cease operations in the event the insurer fails to maintain the required statutory capital.

The level of required risk-based capital is calculated and reported annually. There are five outcomes to the RBC calculation set forth by the NAIC which are as follows:


1.	No Action Level - If RBC is greater than 200%, no further action is required.


2.	Company Action Level - If RBC is between 150% -200%, the insurer must prepare a report to the regulator outlining a comprehensive financial plan that identifies conditions that contributed to the insurer's financial condition and proposes corrective actions.


3.	Regulatory Action Level - If RBC is between 100% -150%, the state insurance commissioner is required to perform any examinations or analyses to the insurer's business and operations that he or she deems necessary as well as issuing appropriate corrective orders.


4.	Authorized Control Level - If RBC is between 70% - 100%, this is the first point that the regulator may take control of the insurer even if the insurer is still technically solvent and is in addition to all the remedies available at the higher action levels.


5.	Mandatory Control Level - If RBC is less than 70%, the regulator is required to take steps to place the insurer under its control regardless of the level of capital and surplus.

At December 31, 2015, United Property & Casualty Insurance Company's and Family Security Insurance Company, Inc.'s RBC ratios were 419% and 445%, respectively.

Florida law limits an insurer’s investment in equity instruments and also restricts investments in medium to low quality debt instruments. We were in compliance with all investment restrictions at December 31, 2015 and 2014.

The state laws of Florida and Hawaii permit an insurer to pay dividends or make distributions out of that part of statutory surplus derived from net operating profit and net realized capital gains. The state laws further provide calculations to determine the amount of dividends or distributions that can be made without the prior approval of the insurance regulatory authorities and the amount of dividends or distributions that would require prior approval of the insurance regulatory authorities in those states. Statutory risk-based capital requirements may further restrict our insurance affiliates' ability to pay dividends or make distributions if the amount of the intended dividend or distribution would cause statutory surplus to fall below minimum risk-based capital requirements.

The note payable to the SBA is considered a surplus note pursuant to statutory accounting principles. As a result, United Property & Casualty Insurance Company is subject to the authority of the Insurance Commissioner of the State of Florida with regard to its ability to repay principal and interest on the surplus note. Any payment of principal or interest requires permission from the insurance regulatory authority.

We have reported our insurance affiliates' assets, liabilities and results of operations in accordance with GAAP, which varies from statutory accounting principles prescribed or permitted by state laws and regulations, as well as by general industry practices. The following items are principal differences between statutory accounting and GAAP:


•	Statutory accounting requires that we exclude certain assets, called non-admitted assets, from the balance sheet.


•	Statutory accounting requires us to expense policy acquisition costs when incurred, while GAAP allows us to defer to the extent realizable, and amortize policy acquisition costs over the estimated life of the policies.


•	Statutory accounting requires that surplus notes, also known as surplus debentures, be recorded in statutory surplus, while GAAP requires us to record surplus notes as a liability.


•	Statutory accounting allows certain investments to be carried at amortized cost or fair value based on the rating received from the Securities Valuation Office of the National Association of Insurance Commissioners, while they are recorded at fair value for GAAP because the investments are held as available for sale.


•	Statutory accounting allows ceding commission income to be recognized when written if the cost of acquiring and renewing the associated business exceeds the ceding commissions, but under GAAP such income is deferred and recognized over the coverage period.


•	Statutory accounting requires that unearned premiums and loss reserves are presented net of related reinsurance rather than on a gross basis under GAAP.

•

Statutory accounting requires a provision for reinsurance liability be established for reinsurance recoverable on paid losses aged over ninety days and for unsecured amounts recoverable from unauthorized reinsurers. Under GAAP there is no charge for uncollateralized amounts ceded to a company not licensed in the insurance affiliate's domiciliary state and a reserve for uncollectable reinsurance is charged through earnings rather than surplus or equity.


•	Statutory accounting requires an additional admissibility test outlined in Statements on Statutory Accounting Principles, No. 101 and the change in deferred income tax is reported directly in capital and surplus, rather than being reported as a component of income tax expense under GAAP.

Our insurance affiliates must file with the various insurance regulatory authorities an “Annual Statement” which reports, among other items, statutory net income (loss) and surplus as regards policyholders, which is called stockholders' equity under GAAP.

The table below reconciles our consolidated GAAP net income to the statutory net income of our insurance affiliates:



	Year Ended December 31,
	2015			2014			2013
Consolidated GAAP net income	$	27,358		$	41,013		$	20,342
Increase (decrease) due to:
Commissions	339			(12,258		)	2,281
Deferred income taxes	(2,518		)	64			(3,992		)
Deferred policy acquisition costs	(4,962		)	(788		)	(868		)
Allowance for doubtful accounts	97			5			5
Assessments	—			(78		)	(1,567		)
Prepaid expenses	131			(136		)	22
Operations of non-statutory subsidiaries	(10,077		)	(14,915		)	(9,023		)
January net income for Family Security Insurance Company, Inc.	152			—			—
Statutory net income of insurance affiliates	$	10,520		$	12,907		$	7,200

The table below reconciles our consolidated GAAP stockholders’ equity to the surplus as regards policyholders of our insurance affiliates:



	December 31,
	2015			2014
Consolidated GAAP stockholders’ equity	$	239,211		$	203,763
Increase (decrease) due to:
Deferred policy acquisition costs	(9,031		)	(4,069		)
Deferred income taxes	917			(668		)
Investments	185			(596		)
Non-admitted assets	(1,066		)	(274		)
Surplus debentures	12,353			13,529
Provision for reinsurance	(734		)	(566		)
Equity of non-statutory subsidiaries	(96,825		)	(85,250		)
Commissions	876			538
Prepaid expenses	(26		)	(158		)
Paid in surplus	5,000			—
Statutory surplus as regards policyholders of insurance affiliates	$	150,860		$	126,249