UNITED
        STATES SECURITIES AND EXCHANGE COMMISSION
 Washington,
        D.C. 20549
  **Form
        10-Q**
  **QUARTERLY
        REPORT PURSUANT TO SECTION 13 OR 15(d)**
 **OF
        THE SECURITIES EXCHANGE ACT OF 1934**
  **For
        the Quarterly Period Ended March 31, 2007**
  **Commission
        File Number 0-4690**
  **Financial
        Industries Corporation**
 (Exact
        name of registrant as specified in its charter)
  **TEXAS**
              **74-2126975**State
                  of Incorporation
              (I.R.S.
                  Employer Identification number)
 
 **6500
        River Place Boulevard, Building I, Austin, Texas 78730**
 (Address
        including Zip Code of Principal Executive Offices)
  **(512)
        404-5000**
 (Registrant's
        Telephone Number)
  Securities
        Registered pursuant to Section 12(b) of the Act: None
  Securities
        Registered pursuant to Section 12(g) of the Act:
  Common
        Stock, $.20 par value
 (Title
        of
        Class)
  Indicate
        by check mark whether the Registrant (1) has filed all reports required to
        be
        filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
        the
        preceding 12 months (or for such shorter period that the Registrant was required
        to file such reports), and (2) has been subject to such filing requirements
        for
        the past 90 days. YES  ̈ NO x
 
 Indicate
        by check mark whether the Registrant is a large accelerated filer, an
        accelerated filer, or a non-accelerated filer. See definition of “accelerated
        filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
        one):
 Large
                  accelerated filer ̈
              Accelerated
                  filerx
              Non-accelerated
                  filer ̈
 
 Indicate
        by check mark whether the Registrant is a shell company (as defined in Rule
        12b-2 of the Act).
 YES  ̈ NO x
  The
        number of shares outstanding of Registrant's common stock on May 31, 2007
        was
        10,210,385.
  
 
  **Forward-Looking
        Statements**
  Except
        for historical factual information set forth in this Form 10-Q of Financial
        Industries Corporation (the “Company” or “FIC”), the statements, analyses, and
        other information contained in this report relating to trends in our operations
        and financial results, the markets for our products, future results, the
        future
        development of our business, and the contingencies and uncertainties to which
        we
        may be subject, as well as other statements including words such as
“anticipate,” “believe,” “plan,” “budget,” “could,” “designed,” “estimate,”
“expect,” “intend,” “forecast,” “predict,” “project,” “may,” “might,” “should”
and other similar expressions constitute forward-looking statements under
        the
        Private Securities Litigation Reform Act of 1995. Such statements are made
        based
        upon management’s current expectations and beliefs concerning financial results
        and economic conditions and are subject to known and unknown risks,
        uncertainties and other factors contemplated by the forward-looking statements.
        These factors include, among other things: (1) general economic conditions
        and
        other factors, including prevailing interest rate levels and stock market
        performance, which may affect the ability of FIC to sell its products, the
        market value of FIC’s investments and the lapse rate and profitability of
        policies; (2) FIC’s ability to achieve anticipated levels of operational
        efficiencies and cost-saving initiatives; (3) customer response to new products,
        distribution channels and marketing initiatives; (4) mortality, morbidity
        and
        other factors that may affect the profitability of FIC’s insurance products; (5)
        FIC’s ability to develop and maintain effective risk management policies and
        procedures and to maintain adequate reserves for future policy benefits and
        claims; (6) changes in the federal income tax laws and regulations that may
        affect the relative tax advantages of some of FIC’s products; (7) increasing
        competition in the sale of insurance products; (8) the effect of regulation
        and
        regulatory changes or actions, including those relating to regulation of
        insurance products and insurance companies; (9) ratings assigned to FIC’s
        insurance subsidiaries by independent rating organizations such as A.M. Best
        Company, which FIC believes are particularly important to the sale of
        accumulation-type products; (10) the performance of our investment
        portfolios; (11) the effect of changes in standards of accounting; (12) the
        effects and results of litigation; (13) business risks and factors described
        elsewhere in this report, including, but not limited to, Item 2-Management’s
        Discussion and Analysis of Financial Condition and Results of Operations
        and
        Item 3-Quantitative and Qualitative Disclosures about Market Risk in Part
        1, and
        Item 1-Legal Proceedings in Part 2, and (14) other factors discussed in the
        Company’s other filings with the SEC, which are available free of charge on the
        SEC’s website at www.sec.gov. You should read carefully the above factors and
        all of the other information contained in this report. Should one or more
        of
        these risks or uncertainties materialize, or should underlying assumptions
        prove
        incorrect, actual results may vary materially from those indicated. All
        subsequent written and oral forward-looking statements attributable to the
        Company or to persons acting on our behalf are expressly qualified in their
        entirety by reference to these risks and uncertainties. There can be no
        assurance that other factors not currently anticipated by management will
        not
        also materially and adversely affect our results of operations. Each
        forward-looking statement speaks only as of the date of the particular statement
        and the Company undertakes no obligation to update or revise any forward-looking
        statement, except as required by federal securities laws.
  
  **FINANCIAL
        INDUSTRIES CORPORATION AND
        SUBSIDIARIES**
 
 **INDEX**
 
 Page
                  No.**Part
                  I - Financial Information**Item
                  1. Financial Statements (Unaudited)Condensed
                  Consolidated Balance Sheets March 31, 2007 and
                  December 31, 2006
              4Condensed
                  Consolidated Statements of Operations For the three
                  months ended March 31, 2007 and March 31, 2006
              6Condensed
                  Consolidated Statements of Cash Flows For the three
                  months ended March 31, 2007 and March 31, 2006
              8Notes
                  to Condensed Consolidated Financial
                  Statements
              10Item
                  2. Management’s Discussion and Analysis of Financial
                  Condition and Results of Operations
              18Item
                  3. Quantitative and Qualitative Disclosures About Market
                  Risk
              24Item
                  4. Controls and Procedures
              25**Part
                  II - Other Information**Item
                  1. Legal Proceedings
              26Item
                  1A. Risk Factors
              28Item
                  2. Unregistered Sales of Equity Securities and Use of
                  Proceeds
              28Item
                  3. Defaults Upon Senior Securities
              28Item
                  4. Submission of Matters to a Vote of Security
                  Holders
              28Item
                  5. Other Information
              28Item
                  6. Exhibits
              28Signatures
              29
  ***Index***
  **FINANCIALINDUSTRIES
        CORPORATION AND
        SUBSIDIARIES**
 **CONDENSED
        CONSOLIDATED BALANCE SHEETS**
 (In
        thousands) (Unaudited)
 
 March
                  31,
              
              December
                  31,2007
              
              2006
                  (1)ASSETSInvestments:Fixed
                  maturity securities available for sale, at fair value (amortized
                  cost of
                  $523,950 and $536,618 at March 31, 2007 and December 31, 2006,
                  respectively)
              
              $
              510,879
              
              $
              520,957Equity
                  securities, at fair value (cost of $7,503 and $6,534 at March 31,
                  2007 and
                  December 31, 2006, respectively)
              
              
              9,785
              
              
              9,805Policy
                  loans
              
              
              29,780
              
              
              30,189Short-term
                  investments
              
              
              -
              
              
              7,473Total
                  investments
              
              
              550,444
              
              
              568,424Cash
                  and cash equivalents
              
              
              59,968
              
              
              55,603Deferred
                  policy acquisition costs
              
              
              14,303
              
              
              14,429Present
                  value of future profits of acquired business
              
              
              7,409
              
              
              7,749Agency
                  advances and other receivables, net of allowances for doubtful
                  accounts of
                  $210 and $173 as of March 31, 2007 and December 31, 2006,
                  respectively
              
              
              4,140
              
              
              929Reinsurance
                  receivables
              
              
              28,589
              
              
              29,061Accrued
                  investment income
              
              
              5,951
              
              
              6,772Due
                  premiums
              
              
              283
              
              
              237Property
                  and equipment, net
              
              
              435
              
              
              550Deferred
                  federal income taxes
              
              
              2,296
              
              
              1,891Other
                  assets
              
              
              2,143
              
              
              1,679Separate
                  account assets
              
              
              351,139
              
              
              350,987Total
                  assets
              
              $
              1,027,100
              
              $
              1,038,311
 
 (1)
        Derived from audited consolidated financial statements.
  The
        accompanying notes are an integral part of these condensed consolidated
        financial statements.
  4
 ***Index***
  **FINANCIAL
        INDUSTRIES CORPORATION AND
        SUBSIDIARIES**
 **CONDENSED
        CONSOLIDATED BALANCE SHEETS, Continued**
 (In
        thousands) (Unaudited)
 
 March
                  31,
              
              December
                  31,2007
              
              2006
                  (1)LIABILITIES
                  AND SHAREHOLDERS’ EQUITYLiabilities:Policy
                  liabilities and contractholder deposit funds:Contractholder
                  deposit funds
              
              $
              446,517
              
              $
              453,671Future
                  policy benefits
              
              
              116,224
              
              
              117,097Other
                  policy claims and benefits payable
              
              
              8,334
              
              
              6,907Notes
                  payable
              
              
              15,000
              
              
              15,000Other
                  liabilities
              
              
              29,169
              
              
              33,968Separate
                  account liabilities
              
              
              351,139
              
              
              350,987Total
                  liabilities
              
              
              966,383
              
              
              977,630Commitments
                  and contingencies (Note 8)Shareholders’
                  equity:Common
                  stock, $.20 par value; 25,000 shares authorized in 2007 and 2006;12,533
                  shares issued in 2007 and 2006; 10,210 shares outstandingin
                  2007 and 2006
              
              
              2,507
              
              
              2,507Additional
                  paid-in capital
              
              
              70,141
              
              
              70,046Accumulated
                  other comprehensive loss
              
              
              (9,001
              )
              
              (9,586
              )Retained
                  earnings
              
              
              17,059
              
              
              17,703Common
                  treasury stock, at cost, 2,323 shares in 2007 and 2006
              
              
              (19,989
              )
              
              (19,989
              )Total
                  shareholders’ equity
              
              
              60,717
              
              
              60,681Total
                    liabilities and shareholders’ equity
              
              $
              1,027,100
              
              $
              1,038,311
 (1)
        Derived from audited consolidated financial statements.
 
 The
        accompanying notes are an integral part of these condensed consolidated
        financial statements.
  5
 ***Index***
  **FINANCIAL
        INDUSTRIES CORPORATION AND
        SUBSIDIARIES**
 **CONDENSED
        CONSOLIDATED STATEMENTS OF OPERATIONS**
 (In
        thousands except per share data) (Unaudited)
 
 Three
                  Months Ended March 31,2007
              
              2006Revenues:Premiums,
                  net
              
              $
              2,136
              
              $
              907Earned
                  insurance charges
              
              
              7,699
              
              
              8,023Net
                  investment income
              
              
              8,484
              
              
              7,284Net
                  realized investment (losses) gains
              
              
              (12
              )
              
              516Other
              
              
              2,315
              
              
              657Total
                  revenues
              
              
              20,622
              
              
              17,387Benefits
                  and expenses:Policyholder
                  benefits and expenses
              
              
              8,307
              
              
              8,180Interest
                  expense on contractholders deposit funds
              
              
              4,371
              
              
              4,573Amortization
                  of deferred policy acquisition costs
              
              
              469
              
              
              195Amortization
                  of present value of future profits of acquired business
              
              
              279
              
              
              285Operating
                  expenses
              
              
              6,189
              
              
              5,227Interest
                  expense
              
              
              361
              
              
              329Total
                  benefits and expenses
              
              
              19,976
              
              
              18,789Income
                  (loss) from continuing operations before federal income taxes
              
              
              646
              
              
              (1,402
              )Federal
                  income tax expense (benefit)
              
              
              104
              
              
              (185
              )Income
                  (loss) from continuing operations
              
              
              542
              
              
              (1,217
              )Loss
                  from discontinued operations, net of taxes
              
              
              -
              
              
              (569
              )Net
                  income (loss)
              
              $
              542
              
              $
              (1,786
              )
 
 The
        accompanying notes are an integral part of these condensed consolidated
        financial statements.
  6
 ***Index***
  **FINANCIAL
        INDUSTRIES CORPORATION AND
        SUBSIDIARIES**
 **CONDENSED
        CONSOLIDATED STATEMENTS OF OPERATIONS, Continued**
 (In
        thousands except per share data) (Unaudited)
 
 Three
                  Months Ended March 31,2007
              
              2006Net
                  Income (Loss) Per Share:Basic:Weighted
                  average common shares outstanding
              
              
              10,210
              
              
              9,849Basic
                  earnings per share:Income
                  (loss) from continuing operations
              
              $
              0.05
              
              $
              (0.12
              )Discontinued
                  operations
              
              
              -
              
              
              (0.06
              )Net
                  income (loss) per share
              
              $
              0.05
              
              $
              (0.18
              )Diluted:Weighted
                  average common shares and common stock equivalents
              
              
              10,309
              
              
              9,849Diluted
                  earnings per share:Income
                  (loss) from continuing operations
              
              $
              0.05
              
              $
              (0.12
              )Discontinued
                  operations
              
              
              -
              
              
              (0.06
              )Net
                  income (loss) per share
              
              $
              0.05
              
              $
              (0.18
              )
  The
        accompanying notes are an integral part of these condensed consolidated
        financial statements.
  7
 ***Index***
  **FINANCIAL
        INDUSTRIES CORPORATION AND SUBSIDIARIES**
 **CONDENSED
        CONSOLIDATED STATEMENTS OF CASH FLOWS**
 (In
        thousands) (Unaudited)
 
 Three
                  Months Ended March 31,2007
              
              2006**Continuing
                  Operations:**CASH
                  FLOWS FROM OPERATING ACTIVITIES:Net
                  income (loss)
              
              $
              542
              
              $
              (1,786
              )Adjustments
                  to reconcile net income (loss) to net cash provided by (used in)
                  operating
                  activities:Loss
                  from discontinued operations
              
              
              -
              
              
              569Amortization
                  of deferred policy acquisition costs
              
              
              469
              
              
              195Amortization
                  of present value of future profits of acquired business
              
              
              279
              
              
              285Net
                  realized (gains) losses on investments
              
              
              12
              
              
              (516
              )Depreciation
              
              
              108
              
              
              124(Increase)
                  decrease in accrued investment income
              
              
              821
              
              
              (74
              )(Increase)
                  decrease in agency advances and other receivables
              
              
              (2,739
              )
              
              645(Increase)
                  decrease in due premiums
              
              
              (46
              )
              
              30Increase
                  in deferred policy acquisition costs
              
              
              (1,060
              )
              
              (189
              )Increase
                  in other assets
              
              
              (464
              )
              
              (212
              )Increase
                  in policy liabilities and accruals
              
              
              1,119
              
              
              84Increase
                  (decrease) in other liabilities
              
              
              (4,799
              )
              
              14,629Increase
                  in deferred federal income taxes
              
              
              (685
              )
              
              (464
              )Other,
                  net
              
              
              (1,740
              )
              
              1,792Net
                  cash provided by (used in) operating activities
              
              
              (8,183
              )
              
              15,112CASH
                  FLOWS FROM INVESTING ACTIVITIES:Fixed
                  maturities purchased
              
              
              (29,013
              )
              
              (51,953
              )Proceeds
                  from sales and maturities of fixed maturities
              
              
              41,402
              
              
              9,241Proceeds
                  froms sales of invested real estate
              
              
              -
              
              
              646Net
                  decrease in short-term investments
              
              
              7,473
              
              
              1,204Net
                  decrease in policy loans
              
              
              409
              
              
              632Purchase
                  of property and equipment
              
              
              (5
              )
              
              (7
              )Net
                  cash provided by (used in) investing activities
              
              
              20,266
              
              
              (40,237
              )(continued)
 
 The
        accompanying notes are an integral part of these condensed consolidated
        financial statements.
  8
 ***Index***
  **FINANCIAL
        INDUSTRIES CORPORATION AND SUBSIDIARIES**
 **CONDENSED
        CONSOLIDATED STATEMENTS OF CASH FLOWS,**  **Continued**
 (In
        thousands) (Unaudited)
 
 Three
                  Months Ended March 31,2007
              
              2006CASH
                  FLOWS FROM FINANCING ACTIVITIES:Contractholder
                  fund deposits
              
              $
              5,987
              
              $
              7,363Contractholder
                  fund withdrawals
              
              
              (13,705
              )
              
              (16,485
              )Net
                  cash used in financing activities
              
              
              (7,718
              )
              
              (9,122
              )Net
                  increase (decrease) in cash
              
              
              4,365
              
              
              (34,247
              )Cash
                  and cash equivalents, beginning of year
              
              
              55,603
              
              
              36,906Cash
                  and cash equivalents, end of period
              
              $
              59,968
              
              $
              2,659**Discontinued
                  Operations:**Net
                  cash used in operating activities of discontinued
                  operations
              
              $
              -
              
              $
              (11,092
              )Net
                  cash used in investing activities of discontinued
                  operations
              
              
              -
              
              
              (6,999
              )Net
                  cash used in financing activities of discontinued
                  operations
              
              
              -
              
              
              (321
              )Decrease
                  in cash and cash equivalents
              
              
              -
              
              
              (18,412
              )Cash
                  and cash equivalents at beginning of year
              
              
              -
              
              
              26,675Cash
                  and cash equivalents at end of period
              
              $
              -
              
              $
              8,263**Supplemental
                  Cash Flow Disclosures:**Income
                  taxes refunded
              
              $
              -
              
              $
              1,227Interest
                  paid
              
              $
              363
              
              $
              330
 
 The
        accompanying notes are an integral part of these condensed consolidated
        financial statements.
  9
 ***Index***
 **FINANCIAL
          INDUSTRIES CORPORATION AND
          SUBSIDIARIES**
 **NOTES
          TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)**
 
 **1.**
                **Basis
                    of Presentation and
                    Consolidation**
 
 The
          financial statements included herein have been presented to conform to
          the
          requirements of Form 10-Q.
 
 The
          accompanying unaudited condensed consolidated financial statements reflect
          all
          adjustments (including normal recurring adjustments) necessary to present
          fairly
          the consolidated financial position of the Company at March 31, 2007, its
          consolidated results of operations for the three months ended March 31,
          2007 and
          2006, and its consolidated cash flows for the three months ended March
          31, 2007
          and 2006 in conformity with accounting principles generally accepted in
          the
          United States of America (“GAAP”). Interim results are not necessarily
          indicative of full year performance. The December 31, 2006 condensed
          consolidated balance sheet data was derived from the audited consolidated
          financial statements included in the Company’s 2006 Annual Report on Form 10-K
          filed with the SEC (“2006 Annual Report”) which includes all disclosures
          required by GAAP. Therefore, these unaudited condensed consolidated financial
          statements should be read in conjunction with the consolidated financial
          statements of the Company included in the 2006 Annual Report.
 
 The
          condensed consolidated financial statements include the accounts of Financial
          Industries Corporation (“FIC”) and its wholly owned subsidiaries. Intercompany
          items and transactions have been eliminated.
 
 Adoption
          of New Accounting Pronouncements
 
 *Income
          Taxes*
 
 Effective
          January 1, 2007, the Company adopted Financial Accounting Standards Board
          (“FASB”) Interpretation No. 48, “Accounting for Uncertainty in Income Taxes − an
          Interpretation of FASB Statement No. 109” ("FIN 48"), which clarifies the
          accounting for uncertainty in tax positions. FIN 48 specifies how tax benefits
          for uncertain tax positions are to be recognized, measured and derecognized
          in
          financial statements; requires certain disclosures of uncertain tax matters;
          specifies how reserves for uncertain tax positions should be classified
          on the
          balance sheets; and provides transition and interim period guidance, among
          other
          provisions. FIN 48 requires companies to determine whether it is “more likely
          than not” that a tax position will be sustained upon examination by the
          appropriate taxing authorities before any part of the benefit can be recorded
          in
          the financial statements. As a result of the implementation of FIN 48,
          the
          Company recognized a $1,441,000 increase in the liability for unrecognized
          tax
          benefits and a $255,000 increase in deferred tax assets resulting in a
          $1,186,0000 reduction to the January 1, 2007 balance of retained earnings.
          The
          Company also reclassified, at adoption, $3,522,000 of current tax liabilities
          (previously recorded as a reduction to current tax receivables) and $503,000
          of
          deferred tax liabilities to the liability for unrecognized tax benefits
          included
          within other liabilities.
 
 *Insurance
          Contracts*
 
 Effective
          January 1, 2007, the Company adopted Statement of Position 05-1,
“Accounting by Insurance Enterprises for Deferred Acquisition Costs in
          Connection with Modifications or Exchanges of Insurance Contracts” (“SOP 05-1”).
          SOP 05-1 provides guidance on accounting by insurance enterprises for DAC
          on
          internal replacements of insurance and investment contracts other than
          those
          specifically described in 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.” SOP 05-1 defines an internal replacement
          as 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. It is effective for internal replacements occurring
          in fiscal
          years beginning after December 15, 2006. The adoption of SOP 05-1 did not
          have a
          material impact on the Company’s condensed consolidated financial
          statements.
 
 *Servicing
          of Financial Assets*
 
 Effective
          January 1, 2007, the Company adopted Statement of Financial Accounting
          Standards
          (“SFAS”) No. 156, “Accounting for Servicing of Financial Assets - an amendment
          of FASB Statement No. 140” (“SFAS 156”). Among other requirements, SFAS 156
          requires an entity to recognize a servicing asset or servicing liability
          each
          time it undertakes an obligation to service a financial asset by entering
          into a
          servicing contract in certain situations. The adoption of SFAS 156 did
          not have
          a material impact on the Company’s condensed consolidated financial
          statements.
  10
 ***Index***
  Future
          Adoption of New Accounting Pronouncements
 
 In
          September, 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS
          157”). SFAS 157 establishes a common definition for fair value, establishes
          a
          framework for measuring fair value, and expands disclosures about fair
          value
          measurements. SFAS 157 will be applied prospectively and is effective for
          fiscal
          years beginning after November 15, 2007, and interim periods within those
          fiscal
          years. SFAS 157 is not expected to have a material impact on the Company’s
          condensed consolidated financial statements.
 
 In
          February, 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
          Financial Assets and Financial Liabilities” (“SFAS 159”). SFAS 159 permits all
          entities the option to measure most financial instruments and certain other
          items at fair value at specified election dates and to report related unrealized
          gains and losses in earnings. The fair value option will generally be applied
          on
          an instrument-by-instrument basis and is generally an irrevocable election.
          SFAS
          159 is effective for fiscal years beginning after November 15, 2007. The
          Company
          is evaluating which eligible financial instruments, if any, it will elect
          to
          account for at fair value under SFAS 159 and the related impact on the
          Company’s
          condensed consolidated financial statements.
 
 **2.**
                **Accumulated
                    Other Comprehensive Income (Loss) and Comprehensive Income
                    (Loss)**
 
 The
          following is a reconciliation of accumulated other comprehensive income
          (loss)
          from December 31, 2006, to March 31, 2007:
  Net
                    Unrealized Appreciation (Depreciation) of Equity
                    Securities
                
                Net
                    Unrealized Gain (Loss) on Fixed Maturities Available for
                    Sale
                
                Minimum
                    Pension Liability
                
                Total
                    Accumulated Other Comprehensive Income (Loss)(In
                    thousands)Balance
                    at December 31, 2006
                
                $
                2,159
                
                $
                (7,676
                )
                $
                (4,069
                )
                $
                (9,586
                )Current
                    Period Change
                
                
                (653
                )
                
                1,196
                
                
                42
                
                
                585Balance
                    at March 31, 2007
                
                $
                1,506
                
                $
                (6,480
                )
                $
                (4,027
                )
                $
                (9,001
                )
 
 The
          comprehensive income (loss) for the three months ended March 31, 2007 and
          2006
          is summarized as follows:
 
 Three
                    Months Ended March 31,2007
                
                2006(In
                    thousands)Net
                    income (loss)
                
                $
                542
                
                $
                (1,786
                )Other
                    comprehensive income (loss), net of tax:Unrealized
                    gains on securities:Unrealized
                    holdings gains ( losses) arising during the period
                
                
                555
                
                
                (6,211
                )Reclassification
                    adjustments for losses included in net income
                
                
                (12
                )
                
                -Change
                    in pension liability
                
                
                42
                
                
                -Total
                    other comprehensive income (loss)
                
                
                585
                
                
                (6,211
                )Comprehensive
                    income (loss)
                
                $
                1,127
                
                $
                (7,997
                )
  **3.**
                **Discontinued
                    Operations - Sale of Family Life Insurance
                    Company**
 
 On
          December 29, 2006, Financial Industries Corporation completed the sale
          of its
          wholly owned subsidiary, Family Life Insurance Company, to The Manhattan
          Life
          Insurance Company for $28.0 million in cash. In accordance with SFAS 144,
          the
          condensed consolidated financial statements reflect the operating results
          of
          Family Life Insurance Company as discontinued operations, adjusted for
          certain
          activities as described below.
  11
 ***Index***
  Prior
          to
          the sale, the Company transitioned the sales force of Family Life to a
          new
          division of Investors Life, FIC’s remaining insurance subsidiary. Although
          Investors Life is now selling similar products as those that were sold
          by Family
          Life, there are notable differences. The insurance is written on Investors
          Life
          policy forms and leads are no longer obtained from lending institutions.
          Leads
          are now purchased through other sources and the focus is on a different
          market
          demographic than the previous Family Life target market. The new division
          also
          now sells final expense insurance products, which was not a market focus
          for
          Family Life. Additionally, as a condition of the sales agreement, the new
          division of Investors Life is prohibited from selling products to existing
          policyholders and related customers of Family Life for five years.
 
 In
          connection with the sale of Family Life, Investors Life entered into a
          coinsurance agreement with Family Life pursuant to which Investors Life
          will
          cede to Family Life (a wholly-owned subsidiary of Manhattan Life) 35% of
          the
          face amount of mortgage protection term policies written by the Family
          Sales
          Division during the five-year period beginning April 1, 2007 and ending
          March
          31, 2012. Such business will be administered by Investors Life, and Investors
          Life will receive allowances for its expenses on the portion of the business
          that is ceded. Accordingly, the Company accrued a deferred revenue liability
          of
          $1.4 million in conjunction with recording the sale of Family Life, equal
          to the
          estimated net present value of future business expected to be ceded to
          Manhattan
          Life. Costs associated with the Family Life agents while affiliated with
          Family
          Life, much of which were capitalized and amortized as deferred policy
          acquisition costs, are included in discontinued operations.
 
 Prior
          to
          the sale, Investors Life assumed certain universal life insurance and annuity
          contracts written by Family Life under reinsurance treaties between the
          companies. Effective September 30, 2006, Family Life and Investors Life
          executed
          recapture agreements related to these reinsurance treaties effectively
          terminating these treaties and removing Investors Life from any liability
          for
          life insurance and annuity contracts written by Family Life. Accordingly,
          all
          revenues and costs associated with these universal life insurance and annuity
          contracts are included in discontinued operations.
 
 Also,
          prior to the closing of the sale, the Family Life Pension Plan, along with
          its
          assets and liabilities, was transferred from Family Life to its upstream
          parent
          company and all current and future obligations of the Family Life Pension
          Plan
          remain the responsibility of the Company. Accordingly, the Family Life
          Pension
          Plan liabilities and costs were not included in discontinued
          operations.
 
 Family
          Life owned 648,640 shares of FIC common stock prior to the sale. Such shares
          were reflected as common treasury stock in the Company’s consolidated financial
          statements. Immediately preceding and as a condition of the sale of Family
          Life,
          324,320 of these shares were acquired by the Company and the remaining
          324,320
          shares remained with Family Life at the time of the sale. Accordingly,
          the
          shares that remained with Family Life are now reflected as outstanding
          common
          stock shares as of December 31, 2006, and have been reflected as a sale
          of
          treasury stock in the accompanying condensed consolidated financial
          statements.
 
 Family
          Life shared certain operating costs, including personnel, premises, equipment
          and software, and other office and administrative expenses with FIC and
          its
          other subsidiaries through various sharing agreements. These agreements
          with
          Family Life were terminated upon its sale and Family Life did not retain
          any
          employees, equipment, software or liability for leases. Accordingly, the
          discontinued operations of Family Life were adjusted to eliminate the estimated
          continuing expenses associated with these shared operating costs.
 
 In
          conjunction with the sale, Family Life also entered into an administrative
          services agreement with the Company for a three month period following
          the sale.
          Pursuant to the agreement, the Company provided administrative services
          for
          Family Life through March 31, 2007, at which time Manhattan Life assumed
          all
          responsibilities for administering the Family Life business. The Company
          earned
          fees totaling $807,000 in the first quarter of 2007 for services performed
          for
          Family Life in accordance with the agreement.
  12
 ***Index***
  **4.**
                **Earnings
                    Per Share**
 
 The
          following table reflects the calculation of basic and diluted earnings
          (loss)
          per share:
 
 Three
                    Months Ended March 31,2007
                
                2006(In
                    thousands except per share data)Numerator:Income
                    (loss) from continuing operations
                
                $
                542
                
                $
                (1,217
                )Denominator:Weighted
                    average common shares outstanding:Basic
                
                
                10,210
                
                
                9,849Common
                    stock options
                
                
                99
                
                
                -Repurchase
                    of treasury stock
                
                
                -
                
                
                -Diluted
                
                
                10,309
                
                
                9,849Per
                    share:Basic
                
                $
                0.05
                
                $
                (0.12
                )Diluted
                
                $
                0.05
                
                $
                (0.12
                )
 
 **5.**
                **Retirement
                    Plans**
 
 A.
          Family
          Life
 
 Family
          Life has a non-contributory defined benefit pension plan (“Family Life Pension
          Plan”), which covers employees who have completed one year or more of service.
          Under the Family Life Pension Plan, benefits are payable upon retirement
          based
          on earnings and years of credited service.
 
 a.
                The
                    Normal Retirement Date for all employees is the first day of
                    the month
                    coinciding with or next following the later of attainment of
                    age 65 or the
                    fifth anniversary of employment.
 
 b.
                The
                    Normal Retirement Benefit is the actuarial equivalent of a life
                    annuity,
                    payable monthly, with the first payment commencing on the Normal
                    Retirement Date. The life annuity is equal to the sum of (1)
                    plus
                    (2):
 
 (1)
                Annual
                    Past Service Benefit: 1.17% of the first $10,000 of Average Final
                    Earnings
                    plus 1 1/2% of the excess of Average Final Earnings over $10,000,
                    all
                    multiplied by the participant’s Credited Past Service. For these purposes,
                    “credited past service” is service prior to April 1, 1967, with respect to
                    employees who were plan participants on December 31,
                    1975.
 
 (2)
                Annual
                    Future Service Benefit: 1.5578% of the first $10,000 of Average
                    Final
                    Earnings plus 2% of the excess of Average Final Earnings over
                    $10,000, all
                    multiplied by the participant’s Credited Future
                    Service.
 
 c.
                Effective
                    April 1, 1997, the Family Life Pension Plan was amended to provide
                    that
                    the accrual rate for future service is 1.57% of Final Average
                    Earnings
                    multiplied by Credited Service after March 31, 1997, less 0.65%
                    of Final
                    Average Earnings up to Covered Compensation. With respect to
                    service prior
                    to April 1, 1997, the accrual rate described in paragraph (b),
                    above, is
                    applicable, with Average Final Earnings taking into account a
                    participant’s earnings subsequent to April 1,
                    1997.
 
 d.
                Effective
                    March 31, 2004, all employees covered under the plan were terminated.
                    No
                    new or rehired employees are permitted to enter or re-enter the
                    plan.
                    Thus, the plan is frozen.
 
 Average
          Final Earnings are the highest average Considered Earnings during any five
          consecutive years while an active participant. Total Credited Past Service
          plus
          Credited Future Service is limited to 30 years.
  13
 ***Index***
  The
          pension costs for the Family Life Pension Plan include the following components
          at March 31, 2007 and 2006:
 
 Three
                    Months Ended March 31,2007
                
                2006(In
                    thousands)Service
                    cost for benefits earned during the year
                
                $
                -
                
                $
                -Interest
                    cost on projected benefit obligation
                
                
                101
                
                
                110Expected
                    return on plan assets
                
                
                (100
                )
                
                (102
                )Amortization
                    of unrecognized prior service cost
                
                
                -
                
                
                -Amortization
                    of unrecognized losses
                
                
                18
                
                
                23Recognition
                    of net loss due to settlement
                
                
                -
                
                
                -Net
                    periodic benefit cost
                
                $
                19
                
                $
                31
  B.
          ILCO
 
 ILCO
          maintains a retirement plan (“ILCO Pension Plan”) covering substantially all
          employees of the Company and its subsidiaries. The ILCO Pension Plan is
          a
          non-contributory, defined benefit pension plan, which covers each eligible
          employee who has attained 21 years of age and has completed one year or
          more of
          service. Each participating subsidiary company contributes an amount necessary
          (as actuarially determined) to fund the benefits provided for its participating
          employees.
 
 The
          ILCO
          Pension Plan’s basic retirement income benefit at normal retirement age is 1.57%
          of the participant’s average annual earnings less 0.65% of the participant’s
          final average earnings up to covered compensation multiplied by the number
          of
          his/her years of credited service. For participants who previously participated
          in the ILCO Pension Plan maintained by ILCO for the benefit of former employees
          of the IIP Division of CIGNA Corporation (the IIP Plan), the benefit formula
          described above applies to service subsequent to May 31, 1996. With respect
          to
          service prior to that date, the benefit formula provided by the IIP Plan
          is
          applicable, with certain exceptions applicable to former IIP employees
          who are
          classified as highly compensated employees.
 
 Former
          eligible IIP employees commenced participation automatically. The ILCO
          Pension
          Plan also provides for early retirement, postponed retirement, and disability
          benefits to eligible employees. Participant benefits become fully vested
          upon
          completion of five years of service, as defined, or attainment of normal
          retirement age, if earlier.
 
 A
          curtailment occurred on December 31, 2004 when the plan was amended to
          freeze
          accrued benefits for all participants except for Rule of 68 Non-Highly
          Compensated Employees (“NHCEs”). A subsequent curtailment occurred on December
          31, 2005 when the decision was made to amend the plan to freeze accrued
          benefits
          for Rule of 68 NHCEs effective March 31, 2006. All plan participants accrued
          benefits are now frozen.
 
 The
          pension costs for the ILCO Pension Plan include the following components
          at
          March 31, 2007 and 2006:
 
 Three
                    Months Ended March 31,2007
                
                2006(In
                    thousands)Service
                    cost for benefits earned during the year
                
                $
                -
                
                $
                4Interest
                    cost on projected benefit obligation
                
                
                275
                
                
                262Expected
                    return on plan assets
                
                
                (375
                )
                
                (350
                )Amortization
                    of unrecognized prior service cost
                
                
                -
                
                
                -Amortization
                    of unrecognized losses
                
                
                25
                
                
                46Recognition
                    of net loss due to settlement
                
                
                -
                
                
                -Net
                    periodic benefit cost
                
                $
                (75
                )
                $
                (38
                )
  14
 ***Index***
  **6.**
                **Stock
                    Options**
 
 FIC
          entered into a stock option agreement on February 1, 2007 with it’s chief
          executive officer, William Prouty, pursuant to which Mr. Prouty was issued
          an
          option to purchase 150,000 shares of the common stock of FIC at a price
          of $7.45
          per share. Fifty percent (50%) of the option vested on February 1, 2007,
          and the
          remaining fifty percent (50%) will vest on June 21, 2007 (see Note 9 “Related
          Party Transactions”). The option expires on June 21, 2009. The Company
          recognized compensation expense of $95,000, and a related tax benefit of
          $0, in
          the quarter ended March 31, 2007 related to the 50% vested portion of the
          option.
 
 The
          fair
          value of the option award was estimated on the date of grant using a
          Black-Scholes option pricing model. Significant assumptions used in the
          calculation of fair value are as follows:
 
 Options
                    granted
                
                
                150,000Stock
                    price on date of grant
                
                $
                7.45Exercise
                    price
                
                $
                7.45Expected
                    life, in years
                
                
                2.387Estimated
                    annualized volatility
                
                
                18.4
                %Dividend
                    yield
                
                
                0.0
                %Risk-free
                    interest rate
                
                
                4.9
                %
 The
          expected term is derived using a simplified method calculation as defined
          in SEC
          Staff Accounting Bulletin Topic 14.D.2, for “plain vanilla” options as that term
          is further defined in the bulletin, and represents the period of time that
          the
          options are expected to be outstanding. Volatility is a measure of the
          amount by
          which a financial variable, such as share price, has fluctuated or is expected
          to fluctuate during a period. The calculated volatility was derived from
          the
          option pricing model utilizing FIC historical share price data. The dividend
          yield is assumed to be zero, since FIC has not paid dividends since 2003,
          and
          management does not anticipate the payment of such dividends in the near
          future.
 
 **7.**
                **Separate
                    Accounts**
 
 The
          Company’s insurance subsidiary, Investors Life Insurance Company of North
          America (“Investors Life”) had $351.1 million of separate account assets as of
          March 31, 2007 (not including the value of the Company’s own investment in one
          of the accounts), as compared to $351.0 million at the end of 2006. These
          assets
          include (a) two variable annuity separate accounts that permit contractholders
          to allocate their contract values among a selection of third-party mutual
          funds
          and (b) assets held in custodian accounts in connection with investment
          annuity
          contracts. The investment annuity business is reinsured with Symetra Life
          Insurance Company (formerly Safeco Life Insurance Company), a third-party
          reinsurer, on a 90%/10% coinsurance basis, with Investors Life retaining
          10% of
          such business. Since the reinsurance treaty is on a coinsurance basis,
          Investors
          Life is contingently liable to the policyholders in the event that the
          reinsurer
          is unable to fulfill its obligations under the treaty. Investors Life is
          not
          marketing new separate account annuity contracts.
 
 Effective
          June 1, 2006, Investors Life recaptured the previously reinsured investment
          annuity business with Symetra Life resulting in the retention of 100% of
          this
          business. The Company expects the recapture of this previously reinsured
          business to increase revenues in 2007 and future years. However, as this
          is a
          closed block of business, the revenues are expected to decrease as the
          policies
          in force decline.
 
 **8.**
                **Commitments
                    and Contingencies**
 
 T.
          David Porter v. Financial Industries Corporation
 
 On
          May
          31, 2006, T. David Porter, an FIC shareholder, filed a civil suit in Travis
          County, Texas District Court (the “Court”), against the Company, seeking to
          compel the Company to hold an annual meeting of shareholders. FIC has been
          unable to solicit proxies for an annual meeting because it has not been
          able to
          comply with Rule 14a-3 of the Securities Exchange Act of 1934, which requires
          that the Company provide an annual report containing current financial
          statements to shareholders in connection with an annual meeting.
 
 Mr.
          Porter sued under Article 2.24(B) of the Texas Business Corporation Act,
          which
          provides that if an annual meeting of shareholders is not held within any
          13-month period and a written consent of shareholders has not been executed
          instead of a meeting, any court of competent jurisdiction in the county
          in which
          the principal office of the corporation is located may, on the application
          of
          any shareholder, summarily order a meeting to be held. On August 7, 2006,
          the
          Company entered into an Agreed Order On Plaintiff’s Motion to Compel Annual
          Shareholders Meeting and agreed among other things to hold an annual
          shareholders meeting for the election of directors on December 6, 2006.
          The
          Company made arrangements for, and was prepared to hold, an annual meeting
          of
          shareholders on December 6, 2006, as required by the Agreed Order, but
          the
          Company was unable to hold the meeting on the appointed date because no
          quorum
          was present.
  15
 ***Index***
  On
          December 12, 2006, FIC filed a Motion for Summary Judgment seeking dismissal
          of
          Porter’s suit on the grounds that the Agreed Order did not dispense with the
          requirement of a quorum; the lack of a quorum was a direct and foreseeable
          result of Mr. Porter’s insistence on a one-sided solicitation and election; FIC
          had complied with its obligations under the Agreed Order and Mr. Porter
          has
          obtained all relief sought by his petition. FIC’s Motion for Summary Judgment
          remains pending and has not been heard.
 
 Prior
          to
          a hearing on FIC’s Motion for Summary Judgment, Mr. Porter applied for a
          temporary restraining order and temporary injunction requiring the Company
          to
          convene one or more additional meetings of shareholders, contending that
          in the
          absence of a quorum on December 6, Texas law and the Company’s bylaws entitled a
          majority of the shareholders in attendance to choose a date to which the
          meeting
          would be adjourned. The District Court held a hearing on Porter’s application,
          and on December 22, 2006 entered an order requiring among other things
          that FIC
          hold an annual shareholders meeting for the election of directors on January
          16,
          2007, but stating that if a quorum was not present on that date, FIC would
          not
          be required to hold an annual meeting of shareholders at any time before
          July
          17, 2007. The Company made arrangements for, and was prepared to hold,
          an annual
          meeting of shareholders on January 16, 2007, as required by the Court’s order,
          but the Company was again unable to hold the meeting on the appointed date
          because no quorum was present. No further action has been taken by Mr.
          Porter,
          whose suit remains pending.
 
 Litigation
          with Equita Financial and Insurance Services of Texas, Inc. and M&W
          Insurance Services, Inc.
 
 On
          June
          2, 2005, Equita and M&W Insurance Services, Inc. (“M&W”) filed a civil
          suit in Travis County, Texas District Court against the Company. The suit
          alleges that, in entering into certain agreements with the plaintiffs,
          the
          Company made certain misrepresentations and omissions as to its business
          and
          financial condition. The agreements referenced in the suit consist of (a)
          an
          option agreement entered into in June 2003 between Equita and the Company,
          granting Equita the right to purchase shares of FIC’s common stock at $16.42 per
          share, if certain sales goals were achieved under an exclusive marketing
          agreement between Equita and a subsidiary of the Company (the “Option
          Agreement”), (b) a stock purchase agreement entered into in June 2003 between
          M&W and the Roy F. and Joann Cole Mitte Foundation, pertaining to the
          purchase of 204,918 shares of FIC’s common stock (the Stock Purchase
          Agreement”), and (c) a registration rights agreement entered into in June 2003
          among the plaintiffs and the Company, whereby the Company agreed to file
          and
          maintain a shelf registration statement with respect to the shares of FIC’s
          common stock purchased by M&W from the Mitte Foundation or which may be
          acquired in the future by Equita under the option agreement (the “Registration
          Rights Agreement,” and, collectively, the “Agreements”).
 
 The
          suit
          alleges that the Company breached the provisions of the Option Agreement
          by
          refusing to indemnify the plaintiffs for losses relating to the alleged
          breach
          of certain representations and warranties included in the Option Agreement.
          The
          plaintiffs also allege that the Company required M&W to purchase 204,918
          shares of FIC common stock from the Mitte Foundation as a condition of
          Equita’s
          obtaining, in June 2003, an exclusive marketing agreement with a subsidiary
          of
          the Company pertaining to the distribution of insurance products in the
“senior
          market” (the “Marketing Agreement”), and that such requirement was motivated by
          the desire of the Company’s management to obtain certain proxy rights obtained
          under a settlement agreement with the Mitte Foundation and the Mitte family.
          The
          plaintiffs further allege that the Company breached the provisions of the
          Registration Rights Agreement by failing to file a shelf registration with
          the
          SEC with respect to the shares of FIC’s common stock purchased by M&W from
          the Mitte Foundation and the shares which may be acquired in the future
          by
          Equita under the provisions of the Option Agreement. The plaintiffs seek
          rescission of the Agreements; damages in an amount equal to the $3 million
          that
          M&W paid to acquire FIC shares from the Mitte Foundation, together with
          interest and attorney’s fees and unspecified expenses; and an unspecified amount
          of exemplary damages.
 
 Late
          in
          2005, the Company’s two life insurance subsidiaries, Investors Life and Family
          Life, intervened in the lawsuit to assert claims that Equita had breached
          its
          obligations under the Marketing Agreement with respect to the distribution
          of
          insurance products, thereby causing damages to the life insurance subsidiaries.
          Equita moved to dismiss the intervention, but at a hearing on December
          20, 2005,
          the court denied Equita’s motion. As a result, Investors Life and Family Life
          will be permitted to assert their claims against Equita in this
          lawsuit.
 
 Deposition
          discovery with respect to both the case filed by Equita and M&W, and the
          claims in intervention asserted by Family Life and Investors Life, began
          in
          October of 2006.
  16
 ***Index***
  In
          response to a motion for partial summary judgment, the Company has stipulated
          to
          certain elements of some of the causes of action asserted by Equita and
          M&W,
          including that certain representations and warranties made in the Option
          Agreement were partially incorrect, and that FIC was unable to comply with
          certain of its obligations under the Option Agreement. FIC did not stipulate,
          and continues to dispute, other elements of certain of the causes of action
          asserted by Equita and M&W, and disputes other causes of action in their
          entirety.
 
 On
          or
          about May 8, 2007, Equita and M&W amended their petition, removing their
          claims under the Texas Securities Act and common-law fraud. FIC intends
          to
          vigorously oppose the lawsuit and any effort by Equita and M&W to recover
          damages from FIC, and the life insurance subsidiary intends to vigorously
          prosecute its claims in intervention against Equita.
  The
          Manhattan Life Insurance Company and Family Life Insurance Company v. Family
          Life Corporation, Investors Life Insurance Company of North America and
          FIC
          Insurance Services, L.P.
  On
          April
          17, 2007, Manhattan Life and Family Life, filed a civil suit in the
          215 th Judicial
          District Court, Harris County, Texas, against Family Life Corporation,
          Investors
          Life and FIC Insurance Services, L.P. (“FICIS”), each a subsidiary of the
          Company. The suit alleges that: a) Family Life Corporation breached the
          Stock
          Purchase Agreement with Manhattan Life by competing with Family Life and
          accepting insurance “directly or indirectly” from active accounts of Family
          Life; b) FICIS breached the Administrative Services Agreement with Family
          Life
          by willfully communicating with or willfully assisting with the communication
          by
          its affiliates with policyholders in a manner intended to solicit Family
          Life
          accounts on behalf of Investors Life; c) FICIS breached fiduciary duties
          owed to
          Family Life in the administration and management of the accounts of the
          policy
          holders of Family Life by assisting in the conversion of Family Life policies
          to
          the policies of Investors Life, and by their actions, Investors Life and
          Family
          Life Corporation aided and abetted such breach of fiduciary duty; and,
          d) Family
          Life Corporation, Investors Life and FICIS have tortiously interfered with
          existing contracts of Family Life with its policyholders, including the
          Stock
          Purchase Agreement and the Administrative Services Agreement. The Company
          intends to vigorously defend the suit, and has filed an answer denying
          the
          plaintiffs’ claims. In addition, FICIS has filed, and intends to vigorously
          prosecute,  a
          counterclaim for amounts due and owing by Family Life for services performed
          pursuant to the Administrative Services Agreement. See Note 3 regarding
          the sale
          of Family Life Insurance Company.
 
 Management
          Conclusion on Legal Proceedings
 
 In
          the
          opinion of the Company’s management, it is not currently possible to estimate
          the impact, if any, that the ultimate resolution of the foregoing legal
          proceedings will have on the Company’s results of operations, financial position
          or cash flows. Accordingly, no accrual for possible losses has been recorded
          in
          the accompanying condensed consolidated financial statements for such legal
          proceedings.
 
 Other
          Litigation
 
 FIC
          and
          its insurance subsidiary are regularly involved in litigation, both as
          a
          defendant and as a plaintiff. The litigation naming the insurance subsidiaries
          as defendant ordinarily involves our activities as a provider of insurance
          products. Management does not believe that any of this other litigation,
          either
          individually or in the aggregate, will have a material adverse effect on
          the
          Company’s results of operations, financial position, or cash flows.
 
 **9.**
                **Related
                    Party Transactions**
 
 FIC
          entered into an Engagement Letter (the "Engagement Letter"), dated February
          1,
          2007, between FIC and DLB Capital Fund FNIN, LLC ("DLB"), pursuant to which
          FIC
          agreed to pay DLB $439,996 for management consulting services over the
          term of
          the Engagement Letter, which shall terminate on January 31, 2008, unless
          terminated earlier in accordance with the Engagement Letter. DLB is a Wilton,
          Connecticut based private equity firm focusing primarily on the financial
          services sector. The group was formed to specialize in management buyouts,
          corporate divestitures, leveraged buyouts, re-capitalizations and public
          to
          private transactions. William Prouty is a principal and founding member
          of DLB
          and shall continue his interest in DLB while serving as the Chief Executive
          Officer of FIC.
  17
 ***Index***
 
 **ITEM
          2. MANAGEMENT'SDISCUSSION AND ANALYSIS OF FINANCIAL
          CONDITION AND RESULTS OF OPERATIONS**
 
 The
          following discussion addresses the financial condition of Financial Industries
          Corporation (“FIC”) as of March 31, 2007, compared with December 31, 2006, and
          its results of operations for the three months ended March 31, 2007, compared
          with the same period last year. This discussion should be read in conjunction
          with Management’s Discussion and Analysis included in FIC’s Form 10-K for the
          year ended December 31, 2006, to which the reader is directed for additional
          information.
 
 **Results
          of Operations - Three Months Ended March 31, 2007 and 2006**
 
 For
          the
          three-month period ended March 31, 2007, FIC’s net income was $542,000 (basic
          and diluted income of $.05 per common share) compared to a net loss of
          $1,786,000 (basic and diluted loss of $0.18 per common share) for the comparable
          2006 period. However, in analyzing the Company’s results of operations, a
          separation of results between continuing and discontinued operations provides
          a
          more meaningful view. As previously described in Note 3 in the accompanying
          condensed consolidated financial statements, the Company sold Family Life
          on
          December 29, 2006, resulting in a loss from discontinued operations. Included
          in
          the net loss for the first quarter of 2006 is a loss from discontinued
          operations, net of taxes, of $569,000. Income from continuing operations
          totaled
          $542,000 for the three months ended March 31, 2007, while loss from continuing
          operations totaled $1,217,000 for the comparable 2006 period.
 
 The
          following sections of this Item 2 reflect Family Life as discontinued operations
          pursuant to SFAS 144 as previously described. Accordingly, unless otherwise
          noted, amounts and analysis in this Item 2 reflect the continuing operations
          of
          FIC and its subsidiaries, exclusive of Family Life. References to income
          and
          loss from operations are identified as continuing operations or discontinued
          operations, while references to net income or net loss reflect the consolidated
          net results of both continuing and discontinued operations.
 
 In
          2007,
          FIC’s net gain was affected by the following significant items as compared
          to
          2006 amounts:
 
 ·
                Increase
                    in premiums earned of $1.2 million due primarily to increases
                    in sales of
                    final expense whole life insurance and mortgage protection term
                    insurance
                    products.
  ·
                Increase
                    in net investment income of $1.2 million primarily due to dividend
                    income
                    received on investments in equity
                    securities.
 
 ·
                Increase
                    in other revenues of $1.7 million due to additional fees earned
                    on
                    separate accounts and fees earned for services performed under
                    an
                    administrative services agreement with Family
                    Life.
 
 ·
                Increase
                    in operating expenses of $1.0 million primarily due to higher
                    audit,
                    actuarial, accounting and other consulting, and legal
                    fees.
 
 The
          above
          described items need to be taken into consideration in drawing comparisons
          between the operating results for the three months ended March 31, 2007
          and
          2006.
 
 *Revenues*
 
 Premium
          revenues reported for traditional life insurance products are recognized
          when
          due. Premium revenues for the first three months of 2007, net of reinsurance
          ceded, were $2.1 million, as compared to $0.9 million in the first three
          months
          of 2006. This source of revenues is related to the traditional life insurance
          book of business of FIC’s insurance subsidiary for both first year and renewal
          premiums. The increase in premiums is primarily due to increases in sales
          of
          final expense whole life insurance and mortgage protection term insurance
          products, along with decreases in reinsurance premium expenses.
 
 In
          accordance with GAAP, deposits received in connection with annuity contracts
          and
          premiums received for universal life (“UL”) insurance policies are reflected in
          the condensed consolidated financial statements as increases in liabilities
          for
          contractholder deposit funds and not as revenues. Earned insurance charges
          assessed against these deposits are reported as revenue. For the three
          months
          ended March 31, 2007 and 2006, annuity deposits and UL premiums totaled
          $6.0
          million and $7.4 million, respectively.
 
 The
          decline in UL premiums and annuity deposits reflects the net run-off of
          business
          from the Company’s existing book of business, and declining sales of new UL
          policies. Although the Company is focusing on reversing these trends on
          an
          overall basis, management has de-emphasized the sale of annuity and UL
          products
          since 2004 due primarily to the interest-rate environment and certain design
          features of FIC’s current annuity products. Most of the Company’s marketing
          efforts are now focused on the sale of traditional life insurance products,
          such
          as mortgage protection term insurance and final expense whole life insurance.
          Liabilities for contractholder funds have declined from $475.7 million
          at March
          31, 2006 to $446.5 million at March 31, 2007.
  18
 ***Index***
  Earned
          insurance charges totaled $7.7 million for the first three months of 2007,
          compared to $8.0 million for the same period of 2006. These revenues primarily
          consist of UL cost of insurance charges, but also include policy surrender
          charges, and policy administration charges. The decrease in earned insurance
          charges from 2006 to 2007 is primarily due to reduced UL cost of insurance
          charges resulting from the net run-off of business.
 
 Net
          investment income for the first three months of 2007 was $8.5 million as
          compared to $7.3 million for the same period of 2006. The higher net investment
          income in 2007 versus 2006 was primarily attributable to an increase in
          dividend
          income earned on the Company’s investments in equity securities totaling
          $749,000. Dividend income earned on the equity securities totaled $970,000
          for
          the first three months of 2007 as compared to $221,000 for the comparable
          2006
          period. The remaining increase in net investment income is primarily due
          to
          improved investment yields.
 
 Net
          realized investment losses were $12,000 in the first three months of 2007,
          as
          compared to $516,000 of realized gains in the first three months of 2006.
          The
          realized losses for 2007 were from the sale of a fixed maturity security.
          The
          realized gains for 2006 were from the sale of the Company’s remaining real
          estate properties classified as held for sale.
 
 Other
          revenues totaled $2.3 million and $0.7 million for the three months ended
          March
          31, 2007 and 2006, respectively. The significant increase in other revenues
          in
          2007 is partially due to fees earned related to the Company’s separate accounts.
          As previously described in Note 7 of the accompanying condensed consolidated
          financial statements, effective June 1, 2006, Investors Life recaptured
          the
          previously reinsured investment annuity business with Symetra Life resulting
          in
          the retention of 100% of this business. The recapture of this previously
          reinsured separate accounts business increased other revenues in 2007 by
          approximately $500,000 as compared with the corresponding period of
          2006.
 
 Other
          revenues also increased in 2007 due to fees earned for services performed
          under
          an administrative services agreement with Family Life. As previously described
          in Note 3 of the accompanying condensed consolidated financial statements, Family
          Life entered into an administrative services agreement with the Company
          for a
          three month period following the sale of Family Life. Pursuant to the agreement,
          the Company provided administrative services for Family Life through March
          31,
          2007, at which time Manhattan Life assumed all responsibilities for
          administering the Family Life business. The Company earned fees totaling
          $807,000 in the first quarter of 2007 for services performed for Family
          Life in
          accordance with the agreement.
 
 *Benefits
          and Expenses*
 
 Policyholder
          benefits and expenses, which consist primarily of death benefit claims,
          were
          $8.3 million in the first three months of 2007, as compared to $8.2 million
          in
          the first three months of 2006. While the increase in traditional premium
          revenues for 2007 also increased the corresponding traditional policy reserve
          expenses, this was substantially offset by lower death claims in 2007 versus
          2006.
 
 Interest
          expense on contractholder deposit funds represents interest paid or credited
          to
          contractholders on cash values accumulated in their universal life insurance
          and
          annuity accounts.  Interest
          expense totaled $4.4 million in the first three months of 2007, as compared
          to
          $4.6 million in the same period of the year 2006. As discussed previously,
          the
          decline in UL premiums and annuity deposits reflects the net run-off of
          business
          from the Company’s existing book of business, and consequently the decrease in
          interest expense in 2007 is primarily attributable to this overall reduction
          in
          the level of contractholder deposit funds.
 
 The
          level
          of market interest rates can effect the interest spread which is the difference
          in the Company’s investment portfolio rate and the interest rates credited on
          policyholder contracts for universal life insurance and annuities. The
          Company
          responded to lower market rates in 2004 and 2005 by lowering many of the
          credited rates on its policies in these periods. However, universal life
          insurance and annuity policies have contractual minimum guaranteed rates
          and
          credited rates cannot be lower than such minimums. Because many of the
          Company’s
          policies have minimum guaranteed rates of 4.0%, the market interest rate
          environment in prior periods put pressure on the Company’s interest spread.
          Market rate increases subsequent to 2005 have improved the Company’s interest
          spread.
  19
 ***Index***
  Amortization
          of deferred policy acquisition costs (DAC) for the first three months of
          2007
          was $469,000, as compared to $195,000 for the same period in 2006. These
          expenses represent the amortization of the costs of producing new business,
          which consists primarily of agents’ commissions and certain policy issuance and
          underwriting costs. For traditional life insurance business, DAC is amortized
          over the estimated premium-paying period of the policies in proportion
          to annual
          premium revenue. For interest sensitive products, these costs are amortized
          in
          relation to the estimated annual gross profits of the policies. The level
          of
          policy lapses and surrenders can also have a significant impact on the
          amount of
          amortization in any reporting period. The increase in amortization in 2007
          from
          the comparable 2006 period is primarily due to the
          increased sales of traditional business by Investors Life since the third
          quarter of 2006 and the amortization relating to the DAC capitalized on
          these
          sales.
 
 Present
          value of future profits of acquired business (PVFP) is amortized in a similar
          manner as DAC, as previously described, for acquired traditional and interest
          sensitive business. Amortization of PVFP totaled $279,000 and $285,000
          for the
          three months ended March 31, 2007 and 2006, respectively. The amortization
          is
          consistent with the run-off of the acquired blocks of business.
 
 Operating
          expenses for the first three months of 2007 were $6.2 million, as compared
          to
          $5.2 million in the first three months of 2006. The Company has implemented
          many
          cost reduction measures in 2004 and 2005, as well as 2006, and this continues
          to
          be a critical focus for the Company. However, audit, actuarial, accounting
          and
          other consulting and legal expenses continue to represent a significant
          component of operating expenses as the Company completes its delinquent
          SEC
          filings with the filing of this Form 10-Q. These fees totaled $2.5 million
          and
          $1.8 million for the three months ended March 31, 2007 and 2006, respectively.
          With the filing of this Form 10-Q, the Company is now current with its
          SEC
          filing requirements. Accordingly, the Company expects significant reductions
          going forward in its audit, actuarial, accounting and consulting
          expenses.
 
 Interest
          expense was $361,000 and $329,000 for the three months ended March 31,
          2007 and
          2006, respectively. The interest expense relates to debt service on $15
          million
          aggregate principal amount of floating rate Senior Notes due 2033 (the
“Senior
          Notes”). The Senior Notes bear interest quarterly at the three-month LIBOR rate
          plus 4.2%. The higher interest expense in 2007 is a direct result of the
          increase in the LIBOR rate. Interest expense for the three months ended
          March
          31, 2007 and 2006 reflects an average annual interest rate of approximately
          9.6%
          and 8.8%, respectively.
 
 *Taxes*
 
 The
          provision for federal income taxes of $104,000 on income from continuing
          operations reflects an effective tax rate of 16.1% for the three months
          ended
          March 31, 2007. The benefit for federal income taxes of $185,000 on loss
          from
          continuing operations reflects an effective tax benefit rate of 13.2% for
          the
          three months ended March 31, 2006. The primary reason for the deviation
          from the
          expected statutory tax rate of 34% for the Company is due to changes in
          the
          valuation allowance for deferred tax assets generated by its non-life insurance
          entities. Deferred income tax assets are subject to ongoing evaluation
          of
          whether such assets will be realized. Realization of deferred tax assets
          is
          dependent upon the Company's generation of sufficient taxable income in
          the
          future to recover tax benefits that cannot be recovered from taxes paid
          in prior
          periods. If future taxable income is not expected, the Company establishes
          a
          valuation allowance, when based on the weight of the available evidence,
          it is
          more likely than not that some portion of the deferred tax assets will
          not be
          realized. The Company’s deferred tax assets are primarily comprised of net
          operating losses of FIC and its non-life insurance subsidiaries.
 
 **Liquidity
          and Capital Resources**
 
 Liquidity
          describes the ability of a company to generate sufficient cash flows to
          meet the
          cash requirements of business operations. FIC is an insurance holding company
          whose principal assets consist of its insurance subsidiary, Investors Life
          Insurance Company of North America (“Investors Life”). As a holding company,
          FIC’s ability to pay interest and principal on its debt, pay its expenses,
          and
          pay dividends on its common stock depend substantially upon its receipt
          of
          dividends or other cash flow from Investors Life.
 
 Liquidity
          management is designed to ensure that adequate funds are available to meet
          all
          current and future financial obligations. The Company meets its liquidity
          requirements primarily by funding cash used in operations with cash flows
          provided by investing activities. Proper liquidity management is crucial
          to
          preserve stable, reliable, and cost-effective sources of cash to meet the
          future
          benefit payments under our various insurance and deposit contracts, pay
          operating expenses (including interest and income taxes), and maintain
          reserve
          requirements. In this process, we focus on our assets and liabilities,
          and the
          impact of changes in both short-term and long-term interest rates, market
          liquidity and other factors. We believe we have the ability to generate
          adequate
          cash flows to fund obligations as they come due.
  20
 ***Index***
  As
          of
          March 31, 2006, Investors Life held $15.4 million of notes receivable from
          FIC
          that represented the remaining indebtedness related to the Family Life
          acquisition. Although this intercompany indebtedness was eliminated on
          FIC’s
          consolidated balance sheets, it created a debt service requirement at the
          holding company level. These notes were paid off by FIC on December 29,
          2006
          using proceeds from the sale of Family Life.
 
 At
          the
          holding company level, FIC’s principal current ongoing liquidity demands relate
          to debt service on $15 million of senior notes that it issued in May 2003.
          These
          notes require quarterly interest payments at a variable interest rate of
          the
          three-month LIBOR rate plus 4.2% (which yielded an average rate of approximately
          9.6% for the first quarter of 2007). The principal amount of the notes
          must be
          repaid in a single payment in 2033.
  In
          addition to debt service, the holding company must pay its expenses in
          connection with Board of Directors fees, insurance costs, corporate overhead,
          certain audit and accounting fees, and legal and consulting expenses as
          incurred. The holding company has not paid any dividends to its shareholders
          since 2003, and management does not anticipate the payment of such dividends
          in
          the near future.
 
 The
          ability of Investors Life to pay dividends to FIC and meet these holding-company
          liquidity demands is subject to restrictions set forth in the insurance
          laws and
          regulations of Texas, its domiciliary state. Texas limits how and when
          Investors
          Life can pay such dividends by (a) including the “greater of” standard for
          payment of dividends to shareholders and (b) requiring that prior
          notification of a proposed dividend be given to the Texas Department of
          Insurance. Under the “greater of” standard, an insurer may pay a dividend in an
          amount equal to the greater of: (i) 10% of the policyholder surplus or
          (ii) the
          insurer’s statutory net gain from operations for the previous year.
  In
          June
          2004, FIC, with the approval of the Texas Department of Insurance, created
          FIC
          Insurance Services, L.P., a service company subsidiary, and transferred
          to it
          many of the administrative functions of the insurance companies. The new
          service
          company charges Investors Life a monthly service fee that is calculated
          using a
          formula based on policies under management, new policies issued, managed
          assets,
          and other factors. Profits earned by the service company are paid as dividends
          to the holding company, providing an additional source of liquidity at
          the
          holding company level. Profits earned by the service company are expected
          to
          decrease in 2007, as fees will decline due to the sale of Family Life on
          December 29, 2006. This agreement with the service company was terminated
          by
          Family Life upon the sale of Family Life to The Manhattan Life Insurance
          Company.
 
 Liquidity
          considerations at Investors Life are different in nature than for the holding
          company. Sources of cash for Investors Life consist of premium payments
          and
          deposits from policyholders and annuity holders, charges on policies and
          contracts, investment income, and proceeds from the sale of investment
          assets.
          These funds are applied primarily to provide for the payment of claims
          under
          insurance and annuity policies, payment of policy withdrawals, surrenders
          and
          loans, operating expenses, taxes, investments in portfolio securities,
          and
          shareholder dividends.
 
 A
          primary
          liquidity consideration with respect to life insurance and annuity products
          is
          the risk of early policyholder and contractholder withdrawal. Deposit fund
          liabilities for universal life and annuity products as of March 31, 2007
          were
          $446.5 million, compared to $453.7 million at December 31, 2006. Individual
          life
          insurance policies are less susceptible to withdrawal than are annuity
          contracts
          because life insurance policyholders may incur surrender charges and undergo
          a
          new underwriting process in order to obtain a new insurance policy. At
          March 31,
          2007, the bulk of the liabilities for contractholder deposit funds on FIC’s
          condensed consolidated balance sheet, $311.9 million, represented insurance
          products, as compared to $134.6 million of annuity product
          liabilities.
 
 Since
          Investors Life holds a portfolio of highly liquid publicly traded debt
          securities, raising cash through asset sales is available should other
          sources
          of liquidity fail to provide cash as needed. In this regard, however, Investors
          Life must be concerned about such sales at inopportune times, when adverse
          movements in interest rates may have depressed the market price of securities
          so
          that sales would result in the realization of significant losses. To guard
          against such an outcome, FIC’s management monitors benefits paid and surrenders
          of insurance products to provide projections of future cash requirements.
          Also
          as part of this monitoring process, FIC performs cash flow testing of assets
          and
          liabilities at each year-end to evaluate the match between the planned
          maturities of the insurance company assets and the likely liquidity needs
          of the
          companies over time. Such cash-flow testing, prescribed by insurance laws
          and
          regulations, models the likely performance of assets and liabilities over
          time,
          using a wide variety of future interest rate scenarios.
 
 There
          can
          be no assurance that future experience regarding benefits and surrenders
          will be
          similar to the historic experience on which such cash-flow testing is based,
          since withdrawal and surrender levels are influenced by such factors as
          the
          interest-rate environment and general economic conditions as well as the
          claims-paying and financial strength ratings of Investors Life.
  21
 ***Index***
  Cash
          and
          cash equivalents at March 31, 2007 were approximately $60.0 million compared
          to
          $55.6 million at December 31, 2006. The $4.4 million increase in cash and
          cash
          equivalents at March 31, 2007 from December 31, 2006 was due primarily
          to cash
          flows from investing activities.
 
 Net
          cash
          used in operating activities was $8.2 million for the three month period
          ended
          March 31, 2007, compared to $15.1 million provided by operating activities
          for
          the same period of 2006. The predominant changes in net cash used in operating
          activities between 2007 and 2006 are due to payments
          of $15.2 million in the first quarter of 2007 for amounts due for unsettled
          transactions for purchased securities and decreases in other liabilities.
 
 Net
          cash
          provided by investing activities was $20.3 million for the three month
          period
          ended March 31, 2007, compared to net cash used in investing activities
          totaling
          $40.2 million for the same period of 2006. The
          significant increase in cash provided by investing activities was due primarily
          to higher levels of sales and maturities of fixed maturity securities in
          2007
          totaling $41.4 million versus $9.2 million for the comparable 2006 period.
          Additionally, purchases of fixed maturity securities totaled $29.0 million
          in
          2007 compared to $52.0 million in 2006.
 
 Net
          cash
          used in financing activities was $7.7 million in the first three months
          of 2007,
          compared to $9.1 million in the first three months of 2006. The components
          of
          the Company’s financing activities are contractholder fund deposits and
          withdrawals for annuity and universal life insurance policies. For the
          three
          months ended March 31, 2007 and 2006, contractholder fund withdrawals exceeded
          deposits resulting
          in the net cash used in financing activities. While contractholder fund
          deposits
          totaled $6.0 million, contractholder fund withdrawals were $13.7 million
          in the
          first quarter of 2007. The
          reduced net withdrawals in 2007 compared to 2006 is due to a decline in
          deposits
          in 2007 from 2006 of $1.4 million, more than offset by a decrease in withdrawals
          of $2.8 million for the same period, due to a decrease in
          surrenders.
 
 In
          light
          of the information and considerations outlined above, management believes
          at
          this time that the liquidity of FIC and its subsidiaries is sufficient
          to meet
          the needs of its business, including its debt service requirements.
 
 **Financial
          Condition**
 
 During
          the three months ended March 31, 2007, the equity of the shareholders of
          the
          Company (that is, the excess of the Company’s assets over its liabilities)
          increased by $36,000. Changes resulting in the increase to shareholders’ equity
          are detailed as follow:
 
 ·
                Net
                    income for the quarter of $542,000.
 
 ·
                Reduction
                    to beginning retained earnings of $1,186,000 for the implementation
                    of FIN
                    48 related to income taxes as described in Note 1 to the accompanying
                    condensed consolidated financial
                    statements.
 
 ·
                Increase
                    of $95,000 in additional paid-in capital related to the issuance
                    of stock
                    options during the first quarter as described in Note 6 to the
                    accompanying condensed consolidated financial
                    statements.
 
 ·
                Changes
                    in accumulated other comprehensive income for items as detailed
                    below:
 
 o
                Decrease
                    in net unrealized losses on fixed maturities available for sale
                    of
                    $1,196,000.
 
 o
                Decrease
                    in appreciation of investments in equity securities of
                    $653,000.
 
 o
                Decrease
                    in pension liability of $42,000.
 
 *Assets*
 
 The
          Company’s life insurance subsidiaries have investment management agreements with
          Conning Asset Management (“Conning”). Under these agreements, Conning manages
          the investment security portfolios of the Company’s life insurance subsidiaries
          in accordance with investment policies set by the Company’s Board of Directors.
          The investment policies comply with legal requirements of state insurance
          laws
          and regulations that are applicable to the Company’s insurance company
          subsidiaries. They also emphasize sensitivity to the way that FIC’s liabilities
          are likely to change over time and with changes in general interest rate
          levels.
          In practical terms, this means that the Company focuses almost all of its
          investment in investment-grade securities, keeping the schedule of anticipated
          asset maturities in line with its projected cash needs. It also means that
          the
          Company attempts to keep the duration of its investment assets (a measure
          of the
          sensitivity of their value to changes in interest rates) in line with the
          duration of the Company’s liabilities.
  22
 ***Index***
  Over
          the
          past several years, the Company has decreased its investment in mortgage-backed
          securities (including asset-backed securities) significantly. This trend
          continued into 2006 and 2007. Expressed as a percentage of its total investment
          in fixed maturities, these ratios were 22.0% and 22.2% at December 31,
          2006 and
          March 31, 2007 respectively. Such securities are sensitive to changes in
          prevailing interest rates, since interest rate levels affect the rate at
          which
          the underlying mortgage obligations are repaid. FIC’s insurance subsidiaries
          have reduced the risk of prepayment associated with mortgage-backed securities
          by investing in planned amortization class (“PAC”), target amortization class
          (“TAC”) instruments and scheduled bonds. These investments are designed to
          amortize in a predictable manner by shifting the risk of prepayment of
          the
          underlying collateral to other investors in other tranches (“support classes”)
          of the CMO.
 
 During
          the first quarter of 2007, net unrealized losses on fixed maturities available
          for sale decreased $1.2 million. The decrease in unrealized losses was
          primarily
          related to decreases in market interest rates. The Company’s general investment
          philosophy is to hold fixed maturities for long-term investment. Accordingly,
          the Company has the ability and intent to hold securities to maturity or
          until
          they recover in value. The Company does not currently anticipate the need
          to
          sell securities in unrealized loss positions for liquidity
          purposes.
 
 FIC’s
          equity securities consist primarily of its investment in the investment
          funds
          underlying the separate accounts business of Investors Life Insurance Company
          of
          North America (“Investors Life”). As of March 31, 2007, the market value of
          FIC’s equity securities was $9,785,000, compared to $9,805,000 at December
          31,
          2006. The Company also received dividend income totaling $970,000 in the
          first
          quarter of 2007 related to these equity securities.
  Agency
          advances and other receivables were $4.1 million and $929,000 at March
          31, 2007
          and December 31, 2006, respectively. The increase was primarily related
          to the
          implementation of FIN 48 as described in Note 1 to the accompanying condensed
          consolidated financial statements. Liabilities for unrecognized tax benefits,
          previously recorded as a reduction to current tax receivables, were reclassified
          and reported as other liabilities at March 31, 2007 in accordance with
          the new
          reporting requirements of FIN 48.
 
 Investors
          Life had $351.1 million of separate account assets as of March 31, 2007
          (not
          including the value of the Company’s own investment in one of the accounts), as
          compared to $351.0 million at the end of 2006. These assets include (a)
          two
          variable annuity separate accounts that permit contractholders to allocate
          their
          contract values among a selection of third-party mutual funds and (b) assets
          held in custodian accounts in connection with investment annuity contracts.
          The
          investment annuity business is reinsured with Symetra Life Insurance Company
          (formerly Safeco Life Insurance Company), a third-party reinsurer, on a
          90%/10%
          coinsurance basis, with Investors Life retaining 10% of such business.
          Since the
          reinsurance treaty is on a coinsurance basis, Investors Life is contingently
          liable to the policyholders in the event that the reinsurer is unable to
          fulfill
          its obligations under the treaty. Investors Life is not marketing new separate
          account annuity contracts.
 
 Effective
          June 1, 2006, Investors Life recaptured the previously reinsured investment
          annuity business with Symetra Life resulting in the retention of 100% of
          this
          business. The Company expects the recapture of this previously reinsured
          business to increase revenues in 2006 and future years. However, as this
          is a
          closed block of business, the revenues are expected to decrease as the
          policies
          in force decline.
 
 *Liabilities*
 
 The
          Company’s insurance-related liabilities (future policy benefits and
          contractholder deposit funds) were $562.7 million at March 31, 2007, compared
          to
          $570.8 million at December 31, 2006. The decrease in these insurance-related
          liabilities reflects the business run-off as previously described.
 
 Other
          liabilities, which totaled $29.2 million at March 31, 2007, compared to
          $34.0
          million at December 31, 2006, consist primarily of accrued expenses,
          policyholder suspense liabilities, pension plan liabilities, amounts due
          on
          unsettled security transactions, and amounts held as agent or trustee.
          The
          decrease in other liabilities is partially due to amounts due for unsettled
          transactions for purchased securities which totaled $5.0 million at March
          31,
          2007, compared to a balance of $15.2 million at December 31, 2006. This
          decrease
          from unsettled transactions was partially offset by the reporting of a
          liability
          for unrecognized tax benefits totaling $5.5 million resulting from the
          implementation of FIN 48 as disclosed in Note 1 to the accompanying condensed
          consolidated financial statements.
  23
 ***Index***
  *Capital
          Adequacy*
 
 Financial
          intermediaries such as FIC depend on their equity capital to absorb short-term
          fluctuations in asset and liability values in their financial structures.
          They
          also count on equity capital to support the growth of the business. One
          measure
          of the strength of a financial holding company such as FIC is the simple
          ratio
          of its shareholders’ equity to its total assets. For FIC this ratio was 5.9% at
          March 31, 2007, compared to 5.8% at December 31, 2006. The inclusion of
          separate
          account assets (which are not relevant for this purpose) reduced the ratio
          of
          shareholders’ equity to total assets by 3.1% and 3.0% at March 31, 2007 and
          December 31, 2006, respectively. Management believes that its current equity
          capital is sufficient to meet the Company’s current liabilities and to fund
          growth at currently planned levels.
 
 Insurance
          companies are subject to regulation under state law. Among other requirements,
          these state laws and regulations impose capital adequacy requirements on
          insurance companies. Using a calculation that takes into account the quality,
          liquidity, maturities, and amounts of its assets and liabilities, each
          insurance
          company is required to calculate its “risk-based capital” (or “RBC”). Total
          adjusted capital must exceed 200% of the authorized control level RBC to
          avoid
          supervisory activity by the insurance regulators. As of December 31, 2006,
          the
          total adjusted capital of Investors Life was approximately 584% of its
          authorized control level risk-based capital.
 
 State
          regulators also use NAIC IRIS ratios to monitor capital adequacy requirements.
          The NAIC ratios cover 12 categories of financial data with defined “usual”
ranges for each such category. The ratios are intended to provide insurance
          regulators with “early warnings” as to when a company might warrant special
          attention. An insurance company may fall outside of the usual range for
          one or
          more ratios, and such variances may result from specific transactions that
          are,
          by themselves, immaterial or eliminated at the consolidation level. In
          certain
          states, insurers with more than three IRIS ratios outside of the NAIC usual
          ranges may be subject to increased regulatory oversight. For 2006 Investors
          Life
          had four ratios which were outside the usual ranges, which were primarily
          related to investment income and changes in premium, product mix, and reserving.
          The ratios were outside the usual ranges primarily due to a recapture of
          ceded
          reinsurance by Family Life from Investors Life during 2006. This recapture
          occurred prior to the sale of Family Life. For statutory accounting purposes,
          the recapture affected premium income and change in policy reserves which
          caused
          ratios to fall outside the usual ranges. Excluding the effects of the
          reinsurance recapture, Investors Life would have had only one ratio outside
          the
          usual ranges, which related to investment income.
 
 **ITEM
          3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
          RISK**
 
 *General*
 
 FIC’s
          principal assets are financial instruments, which are subject to market
          risks.
          Market risk is the risk of loss arising from adverse changes in market
          rates,
          principally interest yields on fixed rate investments. For a discussion
          of the
          Company’s investment portfolio and the management of that portfolio to reflect
          the nature of the underlying insurance obligations of the Company’s insurance
          subsidiaries, please refer to the information set forth in “Management’s
          Discussion and Analysis of Financial Condition and Results of
          Operations.”
 
 The
          following is a discussion of the Company’s primary market-risk-sensitive
          instruments. It should be noted that this discussion has been developed
          using
          estimates and assumptions. Actual results may differ materially from those
          described below. Further, the following discussion does not take into account
          actions that could be taken by management in response to the assumed changes
          in
          market rates. In addition, the discussion does not take into account other
          types
          of risks that may be involved in the business operations of the Company,
          such as
          the reinsurance recoveries on reinsurance treaties with third party insurers.
 
 The
          primary market risk to the Company’s investment portfolio is interest rate risk.
          The Company does not use derivative financial instruments.
 
 *Interest-Rate
          Risk*
 
 The
          Company manages the interest-rate risk inherent in its fixed maturity assets
          relative to the interest-rate risk inherent in its liabilities. Generally,
          we
          manage interest-rate risk based on the application of a commonly used model.
          The
          model projects the impact of interest rate changes on a range of factors,
          including duration and potential prepayment. For example, assuming an immediate
          increase of 100 basis points in interest rates, the net hypothetical loss
          in
          fair market value related to the financial instruments included in the
          Company’s
          condensed consolidated balance sheets is estimated to be $27.6 million
          at March
          31, 2007 and $26.1 million at December 31, 2006. For purposes of the foregoing
          estimate, fixed maturity securities available for sale and short-term
          investments were taken into account. The fair value of such assets was
          $510.9
          million at March 31, 2007 and $521.0 million at December 31,
          2006.
  24
 ***Index***
  The
          fixed
          income investments of the Company include certain mortgage-backed securities
          (excluding asset backed securities). The market value of such securities
          was
          $105.3 million at March 31, 2007 and $106.3 million at December 31, 2006.
          Assuming an immediate increase of 100 basis points in interest rates, the
          net
          hypothetical loss in the fair value related to such mortgage-backed securities
          is estimated to be $8.8 million at March 31, 2007 and $8.6 million at December
          31, 2006.
 
 Separate
          account assets have not been included, since gains and losses on those
          assets
          generally accrue to the policyholders.
 
 The
          Company generally does not use derivative financial instruments to manage
          its
          exposure to fluctuations in interest rates.
 
 **ITEM
          4. CONTROLS AND PROCEDURES**
 
 The
          Company's disclosure controls and procedures, as defined in Rule 13a-15(e)
          or
          15d-15(e) of the Exchange Act, are designed to ensure that information
          required
          to be disclosed in its reports filed with the SEC is recorded, processed,
          summarized and reported within the time periods specified in the Commission's
          rules and forms, and that such information is accumulated and communicated
          to
          its management, including its Chief Executive Officer and Chief Financial
          Officer, as appropriate, to allow for timely discussions regarding required
          disclosure. In designing and evaluating the disclosure controls and procedures,
          management recognizes that any controls and procedures, no matter how well
          designed and operated, can provide only reasonable assurance of achieving
          the
          desired control objectives and are subject to certain limitations, including
          the
          exercise of judgment by individuals, the inability to identify unlikely
          future
          events, and the inability to eliminate misconduct completely. As a result,
          there
          can be no assurance that the Company's disclosure controls and procedures
          will
          prevent all errors or fraud or ensure that all material information will
          be made
          known to management in a timely fashion.
 
 Management
          has completed an evaluation of the effectiveness of the design and operation
          of
          the Company's disclosure controls and procedures pursuant to Rule 13a-15
          under
          the Securities Exchange Act of 1934, as amended. This evaluation has allowed
          management to make conclusions, as set forth below, regarding the state
          of the
          Company's disclosure controls and procedures as of March 31,
          2007.  Based on its evaluation and the identification of material
          weakness in internal control over financial reporting described below,
          and
          because of an inability to file the Quarterly Report on Form 10-Q within
          the
          statutory time period, FIC's Chief Executive Officer and Chief Financial
          Officer
          have concluded that, as of March 31, 2007, FIC's disclosure controls and
          procedures were ineffective.
 
 Management
          had assessed our internal control over financial reporting as of December
          31,
          2006, the end of our most recent fiscal year. Management based its assessment
          on
          criteria established in Internal Control--Integrated Framework issued by
          the
          Committee of Sponsoring Organizations of the Treadway Commission. As disclosed
          in the Company's Annual Report on Form 10-K for the fiscal year ended December
          31, 2006, in performing its assessment of internal control over financial
          reporting, management determined that material weaknesses existed in the
          Company's internal controls relating to the following areas: control
          environment, control monitoring, financial close and reporting, reinsurance,
          policy holder benefits and accounts payable and expenditures.
 
 Although
          there were no significant internal control changes implemented during the
          first
          quarter of 2007, FIC has implemented an Internal Controls Remediation Plan
          which
          is designed to resolve all previously identified material weaknesses by
          the end
          of the 2007 fiscal year. A component of the Company’s plan was to resolve a
          material weakness involving the accuracy of supplemental contract payments
          by
          the end of the 2 nd quarter
          of 2007. The Company has changed the expected resolution date of this item
          to
          July 31, 2007. At this time, the Company does not anticipate any further
          changes
          to previously published resolution dates related to internal control
          deficiencies.  In the remaining three quarters of 2007, FIC expects to
          report on the implementation of new internal controls that will resolve
          each of
          the material weaknesses and thus minimize the risks that could impact the
          accuracy and reliability of FIC’s financial reporting.
  25
 ***Index***
  **PART
          II. OTHER INFORMATION**
 
 **ITEM
          1. LEGAL PROCEEDINGS**
 
 The
          Company and its subsidiaries are defendants in certain legal actions related
          to
          the normal business operations of the Company. Management believes that
          the
          resolution of such legal actions will not have a material impact on the
          condensed consolidated financial statements.
 
 T.
          David Porter v. Financial Industries Corporation
 
 On
          May
          31, 2006, T. David Porter, an FIC shareholder, filed a civil suit in Travis
          County, Texas District Court (the “Court”), against the Company, seeking to
          compel the Company to hold an annual meeting of shareholders. FIC has been
          unable to solicit proxies for an annual meeting because it has not been
          able to
          comply with Rule 14a-3 of the Securities Exchange Act of 1934, which requires
          that the Company provide an annual report containing current financial
          statements to shareholders in connection with an annual meeting.
 
 Mr.
          Porter sued under Article 2.24(B) of the Texas Business Corporation Act,
          which
          provides that if an annual meeting of shareholders is not held within any
          13-month period and a written consent of shareholders has not been executed
          instead of a meeting, any court of competent jurisdiction in the county
          in which
          the principal office of the corporation is located may, on the application
          of
          any shareholder, summarily order a meeting to be held. On August 7, 2006,
          the
          Company entered into an Agreed Order On Plaintiff’s Motion to Compel Annual
          Shareholders Meeting and agreed among other things to hold an annual
          shareholders meeting for the election of directors on December 6, 2006.
          The
          Company made arrangements for, and was prepared to hold, an annual meeting
          of
          shareholders on December 6, 2006, as required by the Agreed Order, but
          the
          Company was unable to hold the meeting on the appointed date because no
          quorum
          was present.
 
 On
          December 12, 2006, FIC filed a Motion for Summary Judgment seeking dismissal
          of
          Porter’s suit on the grounds that the Agreed Order did not dispense with the
          requirement of a quorum; the lack of a quorum was a direct and foreseeable
          result of Mr. Porter’s insistence on a one-sided solicitation and election; FIC
          had complied with its obligations under the Agreed Order and Mr. Porter
          has
          obtained all relief sought by his petition. FIC’s Motion for Summary Judgment
          remains pending and has not been heard.
 
 Prior
          to
          a hearing on FIC’s Motion for Summary Judgment, Mr. Porter applied for a
          temporary restraining order and temporary injunction requiring the Company
          to
          convene one or more additional meetings of shareholders, contending that
          in the
          absence of a quorum on December 6, Texas law and the Company’s bylaws entitled a
          majority of the shareholders in attendance to choose a date to which the
          meeting
          would be adjourned. The District Court held a hearing on Porter’s application,
          and on December 22, 2006 entered an order requiring among other things
          that FIC
          hold an annual shareholders meeting for the election of directors on January
          16,
          2007, but stating that if a quorum was not present on that date, FIC would
          not
          be required to hold an annual meeting of shareholders at any time before
          July
          17, 2007. The Company made arrangements for, and was prepared to hold,
          an annual
          meeting of shareholders on January 16, 2007, as required by the Court’s order,
          but the Company was again unable to hold the meeting on the appointed date
          because no quorum was present. No further action has been taken by Mr.
          Porter,
          whose suit remains pending.
 
 Litigation
          with Equita Financial and Insurance Services of Texas, Inc. and M&W
          Insurance Services, Inc.
 
 On
          June
          2, 2005, Equita and M&W Insurance Services, Inc. (“M&W”) filed a civil
          suit in Travis County, Texas District Court against the Company. The suit
          alleges that, in entering into certain agreements with the plaintiffs,
          the
          Company made certain misrepresentations and omissions as to its business
          and
          financial condition. The agreements referenced in the suit consist of (a)
          an
          option agreement entered into in June 2003 between Equita and the Company,
          granting Equita the right to purchase shares of FIC’s common stock at $16.42 per
          share, if certain sales goals were achieved under an exclusive marketing
          agreement between Equita and a subsidiary of the Company (the “Option
          Agreement”), (b) a stock purchase agreement entered into in June 2003 between
          M&W and the Roy F. and Joann Cole Mitte Foundation, pertaining to the
          purchase of 204,918 shares of FIC’s common stock (the Stock Purchase
          Agreement”), and (c) a registration rights agreement entered into in June 2003
          among the plaintiffs and the Company, whereby the Company agreed to file
          and
          maintain a shelf registration statement with respect to the shares of FIC’s
          common stock purchased by M&W from the Mitte Foundation or which may be
          acquired in the future by Equita under the option agreement (the “Registration
          Rights Agreement,” and, collectively, the “Agreements”).
 
 The
          suit
          alleges that the Company breached the provisions of the Option Agreement
          by
          refusing to indemnify the plaintiffs for losses relating to the alleged
          breach
          of certain representations and warranties included in the Option Agreement.
          The
          plaintiffs also allege that the Company required M&W to purchase 204,918
          shares of FIC common stock from the Mitte Foundation as a condition of
          Equita’s
          obtaining, in June 2003, an exclusive marketing agreement with a subsidiary
          of
          the Company pertaining to the distribution of insurance products in the
“senior
          market” (the “Marketing Agreement”), and that such requirement was motivated by
          the desire of the Company’s management to obtain certain proxy rights obtained
          under a settlement agreement with the Mitte Foundation and the Mitte family.
          The
          plaintiffs further allege that the Company breached the provisions of the
          Registration Rights Agreement by failing to file a shelf registration with
          the
          SEC with respect to the shares of FIC’s common stock purchased by M&W from
          the Mitte Foundation and the shares which may be acquired in the future
          by
          Equita under the provisions of the Option Agreement. The plaintiffs seek
          rescission of the Agreements; damages in an amount equal to the $3 million
          that
          M&W paid to acquire FIC shares from the Mitte Foundation, together with
          interest and attorney’s fees and unspecified expenses; and an unspecified amount
          of exemplary damages.
  26
 ***Index***
  Late
          in
          2005, the Company’s two life insurance subsidiaries, Investors Life and Family
          Life, intervened in the lawsuit to assert claims that Equita had breached
          its
          obligations under the Marketing Agreement with respect to the distribution
          of
          insurance products, thereby causing damages to the life insurance subsidiaries.
          Equita moved to dismiss the intervention, but at a hearing on December
          20, 2005,
          the court denied Equita’s motion. As a result, Investors Life and Family Life
          will be permitted to assert their claims against Equita in this
          lawsuit.
 
 Deposition
          discovery with respect to both the case filed by Equita and M&W, and the
          claims in intervention asserted by Family Life and Investors Life, began
          in
          October of 2006.
 
 In
          response to a motion for partial summary judgment, the Company has stipulated
          to
          certain elements of some of the causes of action asserted by Equita and
          M&W,
          including that certain representations and warranties made in the Option
          Agreement were partially incorrect, and that FIC was unable to comply with
          certain of its obligations under the Option Agreement. FIC did not stipulate,
          and continues to dispute, other elements of certain of the causes of action
          asserted by Equita and M&W, and disputes other causes of action in their
          entirety.
 
 On
          or
          about May 8, 2007, Equita and M&W amended their petition, removing their
          claims under the Texas Securities Act and common-law fraud. FIC intends
          to
          vigorously oppose the lawsuit and any effort by Equita and M&W to recover
          damages from FIC, and the life insurance subsidiary intends to vigorously
          prosecute its claims in intervention against Equita.
  The
          Manhattan Life Insurance Company and Family Life Insurance Company v. Family
          Life Corporation, Investors Life Insurance Company of North America and
          FIC
          Insurance Services, L.P.
  On
          April
          17, 2007, Manhattan Life and Family Life, filed a civil suit in the
          215 th Judicial
          District Court, Harris County, Texas, against Family Life Corporation,
          Investors
          Life and FIC Insurance Services, L.P. (“FICIS”), each a subsidiary of the
          Company. The suit alleges that: a) Family Life Corporation breached the
          Stock
          Purchase Agreement with Manhattan Life by competing with Family Life and
          accepting insurance “directly or indirectly” from active accounts of Family
          Life; b) FICIS breached the Administrative Services Agreement with Family
          Life
          by willfully communicating with or willfully assisting with the communication
          by
          its affiliates with policyholders in a manner intended to solicit Family
          Life
          accounts on behalf of Investors Life; c) FICIS breached fiduciary duties
          owed to
          Family Life in the administration and management of the accounts of the
          policy
          holders of Family Life by assisting in the conversion of Family Life policies
          to
          the policies of Investors Life, and by their actions, Investors Life and
          Family
          Life Corporation aided and abetted such breach of fiduciary duty; and,
          d) Family
          Life Corporation, Investors Life and FICIS have tortiously interfered with
          existing contracts of Family Life with its policyholders, including the
          Stock
          Purchase Agreement and the Administrative Services Agreement. The Company
          intends to vigorously defend the suit, and has filed an answer denying
          the
          plaintiffs’ claims. In addition, FICIS has filed, and intends to vigorously
          prosecute, a counterclaim for amounts due and owing by Family Life for
          services
          performed pursuant to the Administrative Services Agreement.
 
 Management
          Conclusion on Legal Proceedings
 
 In
          the
          opinion of the Company’s management, it is not currently possible to estimate
          the impact, if any, that the ultimate resolution of the foregoing legal
          proceedings will have on the Company’s results of operations, financial position
          or cash flows. Accordingly, no accrual for possible losses has been recorded
          in
          the accompanying condensed consolidated financial statements for such legal
          proceedings.
 
 Other
          Litigation
 
 FIC
          and
          its insurance subsidiaries are regularly involved in litigation, both as
          a
          defendant and as a plaintiff. The litigation naming the insurance subsidiaries
          as defendant ordinarily involves our activities as a provider of insurance
          products. Management does not believe that any of this other litigation,
          either
          individually or in the aggregate, will have a material adverse effect on
          the
          Company’s results of operations, financial position, or cash
          flows.
  27
 ***Index***
  **ITEM
          1A. RISK FACTORS**
 
 As
          of
          March 31, 2007, there have been no material changes to risk factors as
          previously disclosed in the Company’s 2006 Form 10-K.
 
 
 **ITEM
          2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS**
 
 None
 
 
 **ITEM
          3. DEFAULTS UPON SENIOR SECURITIES**
 
 None
 
 
 **ITEM
          4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**
 
 There
          were no matters submitted to a vote of security holders during the first
          quarter
          of 2007.
 
 
 **ITEM
          5. OTHER INFORMATION**
 
 None
 
 
 **ITEM
          6. EXHIBITS**
 
 (a)
                Exhibits
 
 31.1
                Certification
                    of Chief Executive Officer of FIC pursuant to Section 302 of
                    the
                    Sarbanes-Oxley Act of 2002
 31.2
                Certification
                    of Chief Financial Officer of FIC pursuant to Section 302 of
                    the
                    Sarbanes-Oxley Act of 2002
 32.1
                Certification
                    of Chief Executive Officer of FIC pursuant to 18 U.S.C. Section
                    1350
 32.2
                Certification
                    of Chief Financial Officer of FIC pursuant to 18 U.S.C. Section
                    1350
  28
 ***Index***
  **Signatures**
  Pursuant
          to the requirements of the Securities Exchange Act of 1934, the registrant
          has
          duly caused this report to be signed on its behalf by the undersigned,
          thereunto
          duly authorized.
 
 
 FINANCIAL
                    INDUSTRIES CORPORATION(Registrant)Date:
                    July 2, 2007
                By:
                /s/
                    William B. ProutyWilliam
                    B. ProutyChief
                    Executive OfficerDate:
                    July 2, 2007
                By:
                /s/
                    Vincent L. KaschVincent
                    L. KaschChief
                    Financial Officer(Principal
                    Accounting and Financial Officer)
   29