**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

 

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**Registrant meets the conditionsset forth in General Instruction H (1)(a) and (b) of Form 10-Qand is therefore filing this Form with the reduced disclosure format.**

 
| **ý** | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d)**  | ** ** |
|------------|------------|-------------------------------------------------------------|------------|
| ** ** | ** ** | **OF**                                                      | ** ** |
| ** ** | ** ** | **THE  SECURITIES EXCHANGE ACT OF 1934**                    | ** ** |
| ** ** | ** ** | ** **                                                  | ** ** |
| ** ** | ** ** | **FOR THE QUARTERLY PERIOD ENDED  MARCH 31, 2005**     | ** ** |
|       |       |                                                        |       |
| ** ** | ** ** | **OR**                                                      | ** ** |
|       |       |                                                        |       |
| **o**      | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d)** | ** ** |
| ** ** | ** ** | **OF**                                                      | ** ** |
| ** ** | ** ** | **THE  SECURITIES EXCHANGE ACT OF 1934**                    | ** ** |

 

**Commissionfile number: 000-31248**

 

**ALLSTATELIFE INSURANCE COMPANY**

(Exactname of registrant as specified in its charter)

 
| **Illinois**                                                              | ** ** | **36-2554642**                       |
|---------------------------------------------------------------------------|------------|--------------------------------------|
| (State of Incorporation)                                                  | ** ** | (I.R.S. Employer Identification No.) |
|                                                                      |       |                                 |
| **3100 Sanders Road  Northbrook, Illinois**                               | ** ** | **60062**                            |
| (Address of principal executive offices)                                  |       | (Zip code)                           |
|                                                                      |       |                                 |
| **Registrant’s  telephone number, including area code:**847/402-5000 |

 

**Indicate by check mark whether theregistrant:  (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days.**

 
| **Yes****ý** | ** ** | **No****o** |
|-------------------|------------|-------------|

 

**Indicate by check mark whether the registrantis an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).**

 
| **Yes****o** | ** ** | **No****ý** |
|--------------|------------|------------------|

 

**As of April 29, 2005, the registrant had23,800 common shares, $227 par value, outstanding, all of which are held byAllstate Insurance Company.**

 

 

----

 

**ALLSTATELIFE INSURANCE COMPANY**

**INDEXTO QUARTERLY REPORT ON FORM 10-Q**

**March 31,2005**

 
| **PART I**  | ** ** | **FINANCIAL INFORMATION**                                                                                                    | ** ** | ** ** |
|------------------|------------|------------------------------------------------------------------------------------------------------------------------------|------------|------------|
|             |       |                                                                                                                         |       |       |
| Item 1.          |       | Financial Statements                                                                                                         |       |       |
|             |       |                                                                                                                         |       |       |
|             |       | Condensed Consolidated Statements of  Operations for the Three-Month Periods Ended March 31, 2005 and 2004  (unaudited) |       | 1          |
|             |       |                                                                                                                         |       |       |
|             |       | Condensed Consolidated Statements of  Financial Position as of March 31, 2005 (unaudited) and December 31,  2004   |       | 2          |
|             |       |                                                                                                                         |       |       |
|             |       | Condensed Consolidated Statements of Cash  Flows for the Three-Month Periods Ended March 31, 2005 and 2004  (unaudited) |       | 3          |
|             |       |                                                                                                                         |       |       |
|             |       | Notes to Condensed Consolidated Financial  Statements (unaudited)                                                            |       | 4          |
|             |       |                                                                                                                         |       |       |
|             |       | Report of Independent Registered Public  Accounting Firm                                                                     |       | 10         |
|             |       |                                                                                                                         |       |       |
| Item 2.          |       | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                                  |       | 11         |
|             |       |                                                                                                                         |       |       |
| Item 4.          |       | Controls and Procedures                                                                                                      |       | 24         |
|             |       |                                                                                                                         |       |       |
| **PART II** | ** ** | **OTHER INFORMATION**                                                                                                        | ** ** | ** ** |
|             |       |                                                                                                                         |       |       |
| Item 1.          |       | Legal Proceedings                                                                                                            |       | 25         |
|             |       |                                                                                                                         |       |       |
| Item 6.          |       | Exhibits                                                                                                                     |       | 25         |

 

----

 

**PART I.FINANCIAL INFORMATION**

**ITEM1. FINANCIAL STATEMENTS**

 

**ALLSTATELIFE INSURANCE COMPANY AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED STATEMENTS OFOPERATIONS**

 
| ** **                                                                                                                | ** ** | **Three Months Ended  March 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                                                                                                         | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                                                                                                | ** ** | **(Unaudited)**                        | ** ** |
| **Revenues**                                                                                                              |       |                                   |       |   |   |
| Premiums  (net of reinsurance ceded of $147 and $140)                                                                     |       | $                                      | 142        |   | $ | 151 |   |
| Contract  charges                                                                                                         |       | 259                                    |       | 234 |   |
| Net  investment income                                                                                                    |       | 888                                    |       | 783 |   |
| Realized  capital gains and losses                                                                                        |       | 1                                      |       | (27 | ) |
|                                                                                                                      |       |                                   |       |   |   |
|                                                                                                                      |       | 1,290                                  |       | 1,141 |   |
|                                                                                                                      |       |                                   |       |   |   |
| **Costs  and expenses**                                                                                                   |       |                                   |       |   |   |
| Contract  benefits                                                                                                        |       | 347                                    |       | 336 |   |
| Interest  credited to contractholder funds                                                                                |       | 576                                    |       | 449 |   |
| Amortization  of deferred policy acquisition costs                                                                        |       | 169                                    |       | 115 |   |
| Operating  costs and expenses                                                                                             |       | 116                                    |       | 102 |   |
|                                                                                                                      |       |                                   |       |   |   |
|                                                                                                                      |       | 1,208                                  |       | 1,002 |   |
|                                                                                                                      |       |                                   |       |   |   |
| Loss on  disposition of operations                                                                                        |       | (5                                     | )          | (3 | ) |
|                                                                                                                      |       |                                   |       |   |   |
| **Income  from operations before income tax expense and cumulative effect of change in  accounting principle, after-tax** |       | 77                                     |       | 136 |   |
|                                                                                                                      |       |                                   |       |   |   |
| Income tax  expense                                                                                                       |       | 9                                      |       | 45 |   |
|                                                                                                                      |       |                                   |       |   |   |
| **Income  before cumulative effect of change in accounting principle, after-tax**                                         |       | 68                                     |       | 91 |   |
|                                                                                                                      |       |                                   |       |   |   |
| Cumulative  effect of change in accounting principle, after-tax                                                           |       | —                                 |       | (175 | ) |
|                                                                                                                      |       |                                   |       |   |   |
| **Net  income (loss)**                                                                                                    |       | $                                      | 68         |   | $ | (84 | ) |

 

See notes to condensedconsolidated financial statements.

 

1

----

 

**ALLSTATELIFE INSURANCE COMPANY AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED STATEMENTS OFFINANCIAL POSITION**

 
| **(in millions, except par value data)**                                                                                        | ** ** | **March 31,  2005** | ** ** | **December 31,  2004** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                      | ** ** | **(Unaudited)**          | ** ** | ** **                  | ** ** |
|                                                                                                                            |       |                     |       |                        |       |
| **Assets**                                                                                                                      |       |                     |       |                        |       |
| Investments                                                                                                                     |       |                     |       |                        |       |
| Fixed income  securities, at fair value (amortized cost $58,263 and $55,964)                                                    |       | $                        | 60,768     |                        | $          | 59,291 |   |
| Mortgage  loans                                                                                                                 |       | 7,538                    |       | 7,318                       |       |
| Equity  securities                                                                                                              |       | 228                      |       | 214                         |       |
| Short-term                                                                                                                      |       | 1,630                    |       | 1,440                       |       |
| Policy loans                                                                                                                    |       | 719                      |       | 722                         |       |
| Other                                                                                                                           |       | 623                      |       | 704                         |       |
|                                                                                                                            |       |                     |       |                        |       |
| Total  investments                                                                                                              |       | 71,506                   |       | 69,689                      |       |
|                                                                                                                            |       |                     |       |                        |       |
| Cash                                                                                                                            |       | 162                      |       | 241                         |       |
| Deferred  policy acquisition costs                                                                                              |       | 3,582                    |       | 3,176                       |       |
| Reinsurance  recoverables, net                                                                                                  |       | 1,586                    |       | 1,507                       |       |
| Accrued  investment income                                                                                                      |       | 641                      |       | 593                         |       |
| Other assets                                                                                                                    |       | 726                      |       | 818                         |       |
| Separate  Accounts                                                                                                              |       | 14,087                   |       | 14,377                      |       |
|                                                                                                                            |       |                     |       |                        |       |
| **Total  assets**                                                                                                               |       | $                        | 92,290     |                        | $          | 90,401 |   |
|                                                                                                                            |       |                     |       |                        |       |
| **Liabilities**                                                                                                                 |       |                     |       |                        |       |
| Contractholder  funds                                                                                                           |       | $                        | 55,666     |                        | $          | 53,939 |   |
| Reserve for  life-contingent contract benefits                                                                                  |       | 11,558                   |       | 11,203                      |       |
| Unearned  premiums                                                                                                              |       | 31                       |       | 31                          |       |
| Payable to  affiliates, net                                                                                                     |       | 90                       |       | 79                          |       |
| Other  liabilities and accrued expenses                                                                                         |       | 4,399                    |       | 3,721                       |       |
| Deferred  income taxes                                                                                                          |       | 358                      |       | 638                         |       |
| Short-term  debt                                                                                                                |       | 75                       |       | —                      |       |
| Long-term  debt                                                                                                                 |       | 98                       |       | 104                         |       |
| Separate  Accounts                                                                                                              |       | 14,087                   |       | 14,377                      |       |
|                                                                                                                            |       |                     |       |                        |       |
| **Total  liabilities**                                                                                                          |       | 86,362                   |       | 84,092                      |       |
|                                                                                                                            |       |                     |       |                        |       |
| **Commitments  and Contingent Liabilities (Note 3)**                                                                            |       |                     |       |                        |       |
|                                                                                                                            |       |                     |       |                        |       |
| **Shareholder’s  Equity**                                                                                                  |       |                     |       |                        |       |
| Redeemable  preferred stock – series A, $100 par value, 1,500,000 shares authorized,  49,230 shares issued and outstanding |       | 5                        |       | 5                           |       |
| Redeemable  preferred stock – series B, $100 par value, 1,500,000 shares authorized, none  issued                          |       | —                   |       | —                      |       |
| Common  stock, $227 par value, 23,800 shares authorized and outstanding                                                         |       | 5                        |       | 5                           |       |
| Additional  capital paid-in                                                                                                     |       | 1,108                    |       | 1,108                       |       |
| Retained  income                                                                                                                |       | 4,188                    |       | 4,178                       |       |
| Accumulated  other comprehensive income:                                                                                        |       |                     |       |                        |       |
| Unrealized  net capital gains and losses                                                                                        |       | 622                      |       | 1,013                       |       |
|                                                                                                                            |       |                     |       |                        |       |
| **Total  accumulated other comprehensive income**                                                                               |       | 622                      |       | 1,013                       |       |
|                                                                                                                            |       |                     |       |                        |       |
| **Total  shareholder’s equity**                                                                                            |       | 5,928                    |       | 6,309                       |       |
|                                                                                                                            |       |                     |       |                        |       |
| **Total  liabilities and shareholder’s equity**                                                                            |       | $                        | 92,290     |                        | $          | 90,401 |   |

See notes to condensedconsolidated financial statements.

 

2

----

 

**ALLSTATELIFE INSURANCE COMPANY AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

 
| ** **                                                                         | ** ** | **Three Months Ended  March 31,** | ** ** |
|------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                                                                  | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                                                         | ** ** | **(Unaudited)**                        | ** ** |
| **Cash  flows from operating activities**                                          |       |                                   |       |   |   |
| Net income  (loss)                                                                 |       | $                                      | 68         |   | $ | (84 | ) |
| Adjustments  to reconcile net income to net cash provided by operating activities: |       |                                   |       |   |   |
| Amortization  and other non-cash items                                             |       | (46                                    | )          | (32 | ) |
| Realized  capital gains and losses                                                 |       | (1                                     | )          | 27 |   |
| Loss on  disposition of operations                                                 |       | 5                                      |       | 3 |   |
| Cumulative  effect of change in accounting principle                               |       | —                                 |       | 175 |   |
| Interest  credited to contractholder funds                                         |       | 576                                    |       | 449 |   |
| Changes in:                                                                        |       |                                   |       |   |   |
| Contract  benefit and other insurance reserves                                     |       | (17                                    | )          | (65 | ) |
| Unearned  premiums                                                                 |       | —                                 |       | — |   |
| Deferred  policy acquisition costs                                                 |       | (26                                    | )          | (52 | ) |
| Reinsurance  recoverables, net                                                     |       | (80                                    | )          | (46 | ) |
| Income taxes  payable                                                              |       | (36                                    | )          | 42 |   |
| Other  operating assets and liabilities                                            |       | (29                                    | )          | (10 | ) |
|                                                                               |       |                                   |       |   |   |
| Net cash  provided by operating activities                                         |       | 414                                    |       | 407 |   |
|                                                                               |       |                                   |       |   |   |
| **Cash  flows from investing activities**                                          |       |                                   |       |   |   |
| Proceeds  from sales                                                               |       |                                   |       |   |   |
| Fixed income  securities                                                           |       | 2,366                                  |       | 1,571 |   |
| Equity  securities                                                                 |       | 16                                     |       | 26 |   |
| Investment  collections                                                            |       |                                   |       |   |   |
| Fixed income  securities                                                           |       | 1,036                                  |       | 946 |   |
| Mortgage  loans                                                                    |       | 153                                    |       | 161 |   |
| Investment  purchases                                                              |       |                                   |       |   |   |
| Fixed income  securities                                                           |       | (5,068                                 | )          | (4,112 | ) |
| Equity  securities                                                                 |       | (32                                    | )          | (89 | ) |
| Mortgage  loans                                                                    |       | (402                                   | )          | (362 | ) |
|                                                                               |       |                                   |       |   |   |
| Change in  short-term investments, net                                             |       | (121                                   | )          | 182 |   |
| Change in  other investments, net                                                  |       | 22                                     |       | (21 | ) |
|                                                                               |       |                                   |       |   |   |
| Net cash  used in investing activities                                             |       | (2,030                                 | )          | (1,698 | ) |
|                                                                               |       |                                   |       |   |   |
| **Cash  flows from financing activities**                                          |       |                                   |       |   |   |
| Change in  short-term debt, net                                                    |       | 75                                     |       | — |   |
| Redemption  of mandatorily redeemable preferred stock                              |       | (6                                     | )          | — |   |
| Contractholder  fund deposits                                                      |       | 3,255                                  |       | 2,743 |   |
| Contractholder  fund withdrawals                                                   |       | (1,787                                 | )          | (1,396 | ) |
| Dividends  paid                                                                    |       | —                                 |       | (25 | ) |
|                                                                               |       |                                   |       |   |   |
| Net cash  provided by financing activities                                         |       | 1,537                                  |       | 1,322 |   |
|                                                                               |       |                                   |       |   |   |
| **Net  (decrease) increase in cash**                                               |       | (79                                    | )          | 31 |   |
| **Cash at  beginning of the period**                                               |       | 241                                    |       | 121 |   |
| ** **                                                                         |       |                                   |       |   |   |   |   |
| **Cash at  end of period**                                                         |       | $                                      | 162        |   | $ | 152 |   |

See notes to condensedconsolidated financial statements.

 

3

----

 

**ALL STATELIFE INSURANCE COMPANY AND SUBSIDIARIESNOTES TO CONDENSEDCONSOLIDATED FINANCIAL STATEMENTS**

**(Unaudited)**

 

**1.****              Basis ofPresentation**

 

The accompanying condensed consolidatedfinancial statements include the accounts of Allstate Life Insurance Company (“ALIC”)and its wholly owned subsidiaries (together with ALIC, the “Company”). ALIC iswholly owned by Allstate Insurance Company (“AIC”), a wholly owned subsidiaryof The Allstate Corporation (the “Corporation”).

 

The condensed consolidated financialstatements and notes as of March 31, 2005 and for the three-month periodsended March 31, 2005 and 2004 are unaudited.  The condensed consolidated financialstatements reflect all adjustments (consisting only of normal recurringaccruals) which are, in the opinion of management, necessary for the fair presentationof the financial position, results of operations and cash flows for the interimperiods.  These condensed consolidatedfinancial statements and notes should be read in conjunction with theconsolidated financial statements and notes thereto included in the Company’sAnnual Report on Form 10-K for the year ended December 31, 2004.  The results of operations for the interimperiods should not be considered indicative of results to be expected for thefull year.

 

To conform to the 2005 presentation, certainamounts in the prior year’s condensed consolidated financial statements andnotes have been reclassified.

 

Equity securities include common stocks,non-redeemable preferred stocks and limited partnership interests.  Common stocks and non-redeemable preferredstocks had a carrying value of $41 million and $42 million, and cost of $34million and $33 million at March 31, 2005 and December 31, 2004,respectively.  Investments in limitedpartnership interests had a carrying value of $187 million and $172 million at March 31,2005 and December 31, 2004, respectively.

 

Non-cash investment exchanges andmodifications, which primarily reflect refinancings of fixed income securities,totaled $5 million and $1 million for the three months ended March 31,2005 and 2004, respectively.

 

**Pending accounting standard**

 

*Financial Accounting Standards Board Staff Position re. Emerging IssuesTask Force Issue 03-1-a, “Implementation Guidance for the Application ofParagraph 16 of EITF Issue No. 03-1, “The Meaning of Other-Than-TemporaryImpairment and Its Application to Certain Investments” (“FSP EITF Issue 03-1-a”).*

 

* *In September 2004,the Financial Accounting Standards Board (“FASB”) issued proposed FSP EITF 03-1-ato address the application of paragraph 16 of Emerging Issues Task Force IssueNo. 03-1, “The Meaning of Other-Than-Temporary Impairment and ItsApplication to Certain Investments”*(“*EITFIssue 03-1”) to debt securities that are impaired because of increases ininterest rates, and/or sector spreads. Thereafter, in connection with its decision to defer the effective dateof paragraphs 10–20 of EITF 03-1 through the issuance of FSP EITF 03-1-1, “EffectiveDate of Paragraphs 10-20 of EITF Issue No. 03-1, The Meaning ofOther-Than-Temporary Impairment and Its Application to Certain Investments” (“FSPEITF Issue 03-1-1”), the FASB requested from its constituents comments on theissues set forth in FSP EITF 03-1-a and the issues that arose during thecomment letter process for FSP EITF 03-1-b, “Effective Date of Paragraph 16 ofEITF Issue No. 03-1, The Meaning of Other-Than-Temporary Impairment andIts Application to Certain Investments”.

 

Due to the uncertainty as tohow the outstanding issues will be resolved, the Company is unable to determinethe impact of adopting paragraphs 10-20 of EITF 03-1 until final implementationguidance is issued.  Adoption ofparagraphs 10-20 of EITF 03-1 may have a material impact on the Company’sCondensed Consolidated Statements of Operations but is not expected to have amaterial impact on the Company’s Condensed Consolidated Statements of FinancialPosition as fluctuations in fair value are already recorded in accumulatedother comprehensive income.

 

4

----

 

**2.****              Related PartyTransactions**

 

**Reinsurance**

 

Inthe first quarter of 2005, the Company received fixed income securities with afair value and amortized cost of $381 million and $358 million, respectively,and $5 million of accrued investment income for the settlement ofa $386 million premium receivable duefrom American Heritage Life Insurance Company (“AHL”), an unconsolidatedaffiliate of the Company.  The receivablerelated to two coinsurance agreements entered into in 2004 whereby the Companyassumed certaininterest-sensitive life and fixed annuity insurance contracts from AHL.  Since the transaction was between affiliatesunder common control, the securities were recorded at amortized cost as of thedate of settlement.  The differencebetween the amortized cost and fair value of the securities was recorded as anon-cash dividend of $23 million ($15 million, after-tax).

 

**Investments**

 

In the first quarter of 2005, the Companypurchased fixed income securities from AIC. The Company paid $655 million in cash for the securities, which includesthe fair value of the securities of $649 million and $6 million for accruedinvestment income.  Since the transactionwas between affiliates under common control, the securities were recorded atthe amortized cost of $623 million as of the date of sale.  The difference between the amortized cost andfair value of the securities was recorded as a dividend of $26 million ($16million, after-tax).

 

**Debt**

 

The Company issued $75 million of short-termdebt to the Corporation with a weighted average interest rate of 2.86% in thefirst quarter of 2005 pursuant to an intercompany loan agreement.

 

**3.****             ****Reinsurance**

 

The effects of reinsurance on premiums andcontract charges are as follows:

 
| ** **                                         | ** ** | **Three months ended  March 31,** | ** ** |
|----------------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                                  | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                         | ** ** | ** **                             | ** ** | ** ** | ** ** |
|                                               |       |                                   |       |   |   |
| **Premiums  and contract charges**                 |       |                                   |       |   |   |
| Direct                                             |       | $                                      | 538        |   | $ | 516 |   |
| Assumed                                            |       |                                   |       |   |   |
| Affiliate                                          |       | 4                                      |       | 5 |   |
| Non-affiliate                                      |       | 6                                      |       | 4 |   |
| Ceded-non-affiliate                                |       | (147                                   | )          | (140 | ) |
|                                               |       |                                   |       |   |   |
| Premiums and  contract charges, net of reinsurance |       | $                                      | 401        |   | $ | 385 |   |

 

5

----

 

The effects ofreinsurance on contract benefits are as follows:

 
| ** **                             | ** ** | **Three months ended  March 31,** | ** ** |
|----------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                      | ** ** | **2005**                               | ** ** | **2004** | ** ** |
|                                   |       |                                   |       |   |   |
| **Contract  benefits**                 |       |                                   |       |   |   |
| Direct                                 |       | $                                      | 487        |   | $ | 415 |   |
| Assumed                                |       |                                   |       |   |   |
| Affiliate                              |       | 3                                      |       | 2 |   |
| Non-affiliate                          |       | 4                                      |       | — |   |
| Ceded                                  |       |                                   |       |   |   |
| Non-affiliate                          |       | (147                                   | )          | (81 | ) |
|                                   |       |                                   |       |   |   |
| Contract  benefits, net of reinsurance |       | $                                      | 347        |   | $ | 336 |   |

 

Effective January 1, 2004, the Companyadopted Statement of Position 03-1, “Accounting and Reporting by InsuranceEnterprises for certain Nontraditional Long Duration Contracts and for SeparateAccounts” and, in connection therewith, recorded a cumulative effect of changein accounting principle due to an increase in benefit reserves of $94 million,after-tax ($145 million, pre-tax).  Theincrease in benefit reserves was comprised of direct, assumed non-affiliate andceded non-affiliate benefit reserves of $155 million, $4 million and $14million, respectively.

 

**4.****             ****Guarantees and Contingent Liabilities**

 

**Guarantees**

 

The Company owns certain fixed income securitiesthat obligate the Company to exchange credit risk or to forfeit principal due,depending on the nature or occurrence of specified credit events for thereferenced entities.  In the event allsuch specified credit events were to occur, the Company’s maximum amount atrisk on these fixed income securities, as measured by their par value was $143million at March 31, 2005.  Theobligations associated with these fixed income securities expire at varioustimes during the next seven years.

 

Lincoln Benefit Life Company (“LBL”), awholly owned subsidiary of ALIC, has issued universal life insurance contractsto third parties who finance the premium payments on the universal lifeinsurance contracts through a commercial paper program.  LBL has issued a repayment guarantee on theoutstanding commercial paper balance that is fully collateralized by the cashsurrender value of the universal life insurance contracts.  At March 31, 2005, the amount due underthe commercial paper program is $301 million and the cash surrender value ofthe policies is $307 million.  Therepayment guarantee expires April 30, 2006.

 

In the normal course of business, the Companyprovides standard indemnifications to counterparties in contracts in connectionwith numerous transactions, including acquisitions and divestitures.  The types of indemnifications typicallyprovided include indemnifications for breaches of representations andwarranties, taxes and certain other liabilities, such as third partylawsuits.  The indemnification clauses areoften standard contractual terms and were entered into in the normal course ofbusiness based on an assessment that the risk of loss would be remote.  The terms of the indemnifications vary induration and nature.  In many cases, themaximum obligation is not explicitly stated and the contingencies triggeringthe obligation to indemnify have not occurred and are not expected tooccur.  Consequently, the maximum amountof the obligation under such indemnifications is not determinable.  Historically, the Company has not made anymaterial payments pursuant to these obligations.

 

The aggregate liability balance related toall guarantees was not material as of March 31, 2005.

 

6

----

 

**Regulation**

 

The Companyis subject to changing social, economic and regulatory conditions.  Recent state and federal regulatoryinitiatives and proceedings have included efforts to impose additionalregulations regarding agent and broker compensation and otherwise expandoverall regulation of insurance products and the insurance industry. Theultimate changes and eventual effects of these initiatives on the Company’sbusiness, if any, are uncertain.

 

**Legal and Regulatory Proceedings andInquiries**

 

**Background**

 

The Companyand certain of its affiliates are named as defendants in a number of lawsuitsand other legal proceedings arising out of various aspects of itsbusiness.  As background to the “Proceedings”sub-section below, please note the following:

 

•                  These mattersraise difficult and complicated factual and legal issues and are subject tomany uncertainties and complexities, including but not limited to, theunderlying facts of each matter, novel legal issues, variations betweenjurisdictions in which matters are being litigated, differences in applicablelaws and judicial interpretations, the length of time before many of thesematters might be resolved by settlement or through litigation and, in somecases, the timing of their resolutions relative to other similar cases broughtagainst other companies, the fact that some of these matters are putative classactions in which a class has not been certified and in which the purportedclass may not be clearly defined, the fact that some of these matters involvemulti-state class actions in which the applicable law(s) for the claims atissue is in dispute and therefore unclear, and the current challenging legalenvironment faced by large corporations and insurance companies.

 

•                  In thesematters, plaintiffs seek a variety of remedies including equitable relief inthe form of injunctive and other remedies and monetary relief in the form ofcontractual and extra-contractual damages. In some cases, the monetary damages sought include punitive damages orare not specified.  Often more specificinformation beyond the type of relief sought is not available becauseplaintiffs have not requested more specific relief in their courtpleadings.  In those cases whereplaintiffs have made a specific demand for monetary damages, they often specifydamages just below a jurisdictional limit regardless of the facts of thecase.  This represents the maximum theycan seek without risking removal from state court to federal court.  In our experience, monetary demands inplaintiffs’ court pleadings bear little relation to the ultimate loss, if any,to the Company.

 

•                  Forthe reasons specified above, it is not possible to make meaningful estimates ofthe amount or range of loss that could result from these matters at thistime.  The Company reviews these matterson an on-going basis and follows the provisions of Statement of FinancialAccounting Standards No. 5, “Accounting for Contingencies” when makingaccrual and disclosure decisions.  Whenassessing reasonably possible and probable outcomes, the Company bases its decisionson its assessment of the ultimate outcome following all appeals.  

 

•                  Inthe opinion of the Company’s management, while some of these matters may bematerial to the Company’s operating results for any particular period if anunfavorable outcome results, none will have a material adverse effect on theconsolidated financial condition of the Company.  

 

**Proceedings**

 

Legal proceedings involvingAllstate agencies and AIC may impact the Company, even when the Company is notdirectly involved, because the Company sells its products through a variety ofdistribution channels including Allstate agencies. Consequently, informationabout the more significant of these proceedings is provided below.

 

AIC isdefending various lawsuits involving worker classification issues. A putativenationwide class action filed by former employee agents includes a workerclassification issue; these agents are challenging certain amendments to theAgents Pension Plan and are seeking to have exclusive agent independent contractorstreated as

 

7

----

 

employees for benefit purposes.  This matter was dismissed with prejudice bythe trial court, was the subject of further proceedings on appeal, and has beenreversed and remanded to the trial court in April 2005.  AIC has been vigorously defending this andvarious other worker classification lawsuits. The outcome of these disputes iscurrently uncertain.

 

AIC is defending certainmatters relating to its agency program reorganization announced in 1999. Thesematters include a lawsuit filed in December 2001 by the U.S. EqualEmployment Opportunity Commission (“EEOC”) alleging retaliation under federalcivil rights laws, a class action filed in August 2001 by former employeeagents alleging retaliation and age discrimination under the Age Discriminationin Employment Act, breach of contract and ERISA violations, and a lawsuit filedin October 2004 by the EEOC alleging age discrimination with respect to apolicy limiting the rehire of agents affected by the agency programreorganization.  AIC is also defendinganother action, in which a class was certified in June 2004, filed byformer employee agents who terminated their employment prior to the agencyprogram reorganization.  These plaintiffshave asserted claims under ERISA, and are seeking benefits provided inconnection with the reorganization.  Inlate March 2004, in the first EEOC lawsuit and class action lawsuit, thetrial court issued a memorandum and order that, among other things, certifiedclasses of agents, including a mandatory class of agents who had signed arelease, for purposes of effecting the court’s declaratory judgment that therelease is voidable at the option of the release signer.  The court also ordered that an agent whovoids the release must return to AIC “any and all benefits received by the[agent] in exchange for signing the release.” The court also “concluded that, on the undisputed facts of record, thereis no basis for claims of age discrimination.” The EEOC and plaintiffs have asked the court to clarify and/orreconsider its memorandum and order.  Thecase otherwise remains pending.  Aputative nationwide class action has also been filed by former employee agentsalleging various violations of ERISA. This matter was dismissed with prejudice by the trial court, was thesubject of further proceedings on appeal, and has been reversed and remanded tothe trial court in April 2005.  Inthese matters, plaintiffs seek compensatory and punitive damages, and equitablerelief.  AIC has been vigorouslydefending these lawsuits and other matters related to its agency programreorganization. In addition, AIC has been defending certain matters relating toits life agency program reorganization announced in 2000. These matters have beenthe subject of an investigation by the EEOC with respect to allegations of agediscrimination and retaliation and conciliation discussions between Allstateand the EEOC.  The outcome of thesedisputes is currently uncertain.

 

The Company is defending anumber of lawsuits brought by plaintiffs challenging trading restrictions theCompany adopted in an effort to limit market-timing activity in its variableannuity sub-accounts.  In one case,plaintiffs’ motion for summary judgment on their breach of contract claims wasgranted and the matter will proceed to trial on damages.  In these various lawsuits, plaintiffs seek avariety of remedies including monetary and equitable relief.  The Company has been vigorously defendingthese matters, but their outcome is currently uncertain.

 

**Other Matters**

 

The Corporation and some of itssubsidiaries, including the Company, have received interrogatories and demandsfor information from regulatory and enforcement authorities relating to variousinsurance products and practices.  Theareas of inquiry include variable annuity market timing, late trading and theissuance of funding agreements backing medium-term notes.  The Corporation and some of its subsidiaries,including the Company, have also received interrogatories and demands forinformation from authorities seeking information relevant to on-goinginvestigations into the possible violation of antitrust or insurance laws byunnamed parties and, in particular, seeking information as to whether anyperson engaged in activities for the purpose of price fixing, marketallocation, or bid rigging.  The Companybelieves that these inquiries are similar to those made to many financialservices companies as part of industry-wide investigations by variousauthorities into the practices, policies and procedures relating to insuranceand financial services products.  TheCorporation and its subsidiaries have responded and will continue to respond tothese inquiries.

 

8

----

 

Various other legal andregulatory actions are currently pending that involve the Company and specificaspects of its conduct of business. Like other members of the insuranceindustry, the Company is the target of a number of class action lawsuits andother types of proceedings, some of which involve claims for substantial orindeterminate amounts.  These actions arebased on a variety of issues and target a range of the Company’s practices. Theoutcome of these disputes is currently unpredictable.  However, at this time, based on their presentstatus, it is the opinion of management that the ultimate liability, if any, inone or more of the actions described in this “Other Matters” subsection inexcess of amounts currently reserved is not expected to have a material effecton the results of operations, liquidity or financial condition of the Company.

 

**5. Other Comprehensive Income**

 

The components of other comprehensive incomeon a pretax and after-tax basis are as follows:

 
| ** **                                                   | ** ** | **Three months ended March 31,** | ** ** |
|--------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                   | ** ** | **2005**                              | ** ** | **2004** | ** ** |
| **(in millions)**                                            | ** ** | **Pretax**                            | ** ** | **Tax** | ** ** | **After-  tax** | ** ** | **Pretax** | ** ** | **Tax** | ** ** | **After-  tax** | ** ** |
| Unrealized holding gains  (losses) arising during the period |       | $                                     | (697       | ) | $ | 244 |   | $ | (453 | ) | $ | 224 |   | $ | (78 | ) | $ | 146 |   |
| Less: reclassification  adjustments                          |       | (95                                   | )          | 33 |   | (62 | ) | (27 | ) | 10 |   | (17 | ) |
| Other comprehensive income  (loss)                           |       | $                                     | (602       | ) | $ | 211 |   | (391 | ) | $ | 251 |   | $ | (88 | ) | 163 |   |
|                                                         |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Net income (loss)                                            |       |                                  |       |   |   | 68 |   |   |   |   |   | (84 | ) |
| Comprehensive income  (loss)                                 |       |                                  |       |   |   | $ | (323 | ) |   |   |   |   | $ | 79 |   |

 

9

----

 

**REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

 

To the Board of Directors and Shareholder of

Allstate Life Insurance Company:

 

We havereviewed the accompanying condensed consolidated statement of financialposition of Allstate Life Insurance Company and subsidiaries (the “Company”, anaffiliate of The Allstate Corporation) as of March 31, 2005, and therelated condensed consolidated statements of operations and cash flows for thethree-month periods ended March 31, 2005 and 2004.  These interim financial statements are theresponsibility of the Company’s management.

 

We conducted our reviews in accordance withstandards of the Public Company Accounting Oversight Board (UnitedStates).  A review of interim financialinformation consists principally of applying analytical procedures and makinginquiries of persons responsible for financial and accounting matters.  It is substantially less in scope than anaudit conducted in accordance with the standards of the Public CompanyAccounting Oversight Board (United States), the objective of which is theexpression of an opinion regarding the financial statements taken as awhole.  Accordingly, we do not expresssuch an opinion.

 

Based on our reviews, we are not aware of anymaterial modifications that should be made to such condensed consolidatedinterim financial statements for them to be in conformity with accountingprinciples generally accepted in the United States of America.

 

We have previously audited, in accordancewith the standards of the Public Company Accounting Oversight Board (UnitedStates), the consolidated statement of financial position of Allstate LifeInsurance Company and subsidiaries as of December 31, 2004, and therelated consolidated statements of operations and comprehensive income,shareholder’s equity, and cash flows for the year then ended, not presentedherein.  In our report dated February 24,2005, which report includes an explanatory paragraph relating to a change inthe Company’s method of accounting for certain nontraditional long-durationcontracts and separate accounts in 2004 and changes in the methods ofaccounting for embedded derivatives in modified coinsurance agreements andvariable interest entities in 2003, we expressed an unqualified opinion onthose consolidated financial statements. In our opinion, the information set forth in the accompanying condensedconsolidated statement of financial position as of December 31, 2004 isfairly stated, in all material respects, in relation to the consolidatedstatement of financial position from which it has been derived.

 

 
| /s/ Deloitte & Touche LLP |   |
|------------------------------------|--------|

 

Chicago, Illinois

May 6, 2005

 

10

----

 

**Item 2.  MANAGEMENT’S DISCUSSIONAND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS FOR THE THREE-MONTH PERIODS ENDED MARCH 31, 2005 AND 2004**

 

**OVERVIEW**

 

The followingdiscussion highlights significant factors influencing the consolidatedfinancial position and results of operations of Allstate Life Insurance Company(referred to in this document as “we”, “our”, “us”, or the “Company”). Itshould be read in conjunction with the condensed consolidated financialstatements and notes thereto found under Part I. Item 1. contained herein,and with the discussion, analysis, consolidated financial statements and notesthereto in Part I. Item 1. and Part II. Item 7. and Item 8. of theAllstate Life Insurance Company Annual Report on Form 10-K for 2004.  We operate as a single segment entity, basedon the manner in which financial information is used internally to evaluateperformance and determine the allocation of resources.

 

**HIGHLIGHTS**

 

•                  Revenues increased 13.1% in the first quarterof 2005 compared to the same period of 2004 due to increases in net investmentincome, higher contract charges and improved realized capital gains and losses.

•                  The annual evaluation of assumptions in ourvaluation models for all investment products resulted in a net reduction toincome before taxes of $16 million in the first quarter of 2005, compared tothe 2004 evaluation, which resulted in a net reduction of income before taxesof $0.5 million.

•                  Income before cumulative effect of change inaccounting principle, after-tax, decreased 25.3% in the first quarter of 2005compared to the same period of 2004 as higher gross margin was more than offsetby increased deferred policy acquisition costs (“DAC”) and deferred salesinducements (“DSI”) amortization related to realized capital gains and lossesand higher operating costs and expenses.

•                  Totalinvestments increased 2.6% to $71.51 billion at March 31, 2005 compared toDecember 31, 2004, due primarily to contractholder deposits.

•                  Contractholderfund deposits totaled $3.25 billion for the first quarter of 2005 compared to$2.74 billion for the first quarter of 2004. The increase of $507 million was primarily attributable to deposits fromfixed annuities.

 

11

----

 

**OPERATIONS**

 

**Premiums** represent revenues generated fromtraditional life, immediate annuities with life contingencies and otherinsurance products that have significant mortality or morbidity risk.

 

**Contract charges** arerevenues generated from interest-sensitive life, variable and fixed annuitiesand other investment products for which deposits are classified ascontractholder funds or separate accounts liabilities.  Contract charges are assessed against thecontractholder account values for maintenance, administration, cost ofinsurance and surrender prior to contractually specified dates.  As a result, changes in contractholder fundsand separate accounts liabilities are considered in the evaluation of growthand as indicators of future levels of revenues.

 

The following table summarizes premiums andcontract charges by product.

 
| ** **                                   | ** ** | **Three Months Ended  March 31,** | ** ** |
|----------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                            | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                   | ** ** | ** **                             | ** ** | ** ** | ** ** |
| **Premiums**                                 |       |                                   |       |   |   |
| Traditional  life                            |       | $                                      | 64         |   | $ | 69 |   |
| Immediate  annuities with life contingencies |       | 73                                     |       | 77 |   |
| Other                                        |       | 5                                      |       | 5 |   |
| **Total  premiums**                          |       | 142                                    |       | 151 |   |
|                                         |       |                                   |       |   |   |
| **Contract  charges**                        |       |                                   |       |   |   |
| Interest-sensitive  life                     |       | 177                                    |       | 160 |   |
| Fixed annuities                              |       | 17                                     |       | 14 |   |
| Variable  annuities                          |       | 65                                     |       | 60 |   |
| **Total  contract charges**                  |       | 259                                    |       | 234 |   |
| **Total  premiums and contract charges**     |       | $                                      | 401        |   | $ | 385 |   |

 

The following table summarizes premiums andcontract charges by distribution channel.

 
| ** **                               | ** ** | **Three Months Ended  March 31,** | ** ** |
|------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                        | ** ** | **2005**                               | ** ** | **2004** | ** ** |
|                                     |       |                                   |       |   |   |
| **Premiums**                             |       |                                   |       |   |   |
| Allstate  agencies                       |       | $                                      | 66         |   | $ | 53 |   |
| Independent  agents                      |       | 21                                     |       | 20 |   |
| Specialized  brokers                     |       | 54                                     |       | 63 |   |
| Other                                    |       | 1                                      |       | 15 |   |
| **Total  premiums**                      |       | 142                                    |       | 151 |   |
| ** **                               |       |                                   |       |   |   |
| **Contract  charges**                    | ** ** | ** **                             | ** ** | ** ** | ** ** |
| Allstate  agencies                       |       | 131                                    |       | 113 |   |
| Independent  agents                      |       | 56                                     |       | 59 |   |
| Broker  dealers                          |       | 52                                     |       | 49 |   |
| Banks                                    |       | 11                                     |       | 5 |   |
| Specialized  brokers                     |       | 8                                      |       | 7 |   |
| Other                                    |       | 1                                      |       | 1 |   |
| **Total  contract charges**              |       | 259                                    |       | 234 |   |
| **Total  premiums and contract charges** |       | $                                      | 401        |   | $ | 385 |   |

 

12

----

 

Total premiums decreased 6.0% to $142 millionin the first quarter of 2005 compared to the same period of 2004 due to lowerpremiums on traditional life and immediate annuities with life contingencies.

Contract charges increased 10.7% to $259million in the first quarter of 2005 compared to the same period of 2004.  The increase was due to higher contractcharges on interest-sensitive life and, to a lesser extent, variable and fixedannuities.  The increase in theinterest-sensitive life contract charges was attributable to in-force businessgrowth resulting from deposits and credited interest more than offsettingsurrenders and benefits.  Higher variableannuity contract charges were the result of increased average account valuesduring the first quarter of 2005 compared to the first quarter of 2004,reflecting positive investment results during 2004 in addition to higher feesfor contract guarantees.  Fixed annuitycontract charges for the first quarter of 2005 reflect higher surrender chargescompared with the first quarter of 2004.

 

*Contractholder funds* representinterest-bearing liabilities arising from the sale of individual andinstitutional products, such as interest-sensitive life, fixed annuities andfunding agreements. The balance of contractholder funds is equal to thecumulative deposits received and interest credited to the contractholder lesscumulative contract maturities, benefits, surrenders, withdrawals and contractcharges for mortality or administrative expenses.

 

The followingtable shows the changes in contractholder funds.

 
| ** **                                                      | ** ** | **Three Months Ended  March 31,** | ** ** |
|-----------------------------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                                               | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                                      | ** ** | ** **                             | ** ** | ** ** | ** ** |
| **Contractholder  funds, beginning balance**                    |       | $                                      | 53,939     |   | $ | 44,914 |   |
|                                                            |       |                                   |       |   |   |
| Impact of  adoption of SOP 03-1(1)                              |       | —                                 |       | 421 |   |
|                                                            |       |                                   |       |   |   |
| **Deposits**                                                    |       |                                   |       |   |   |
| Fixed  annuities (immediate and deferred)                       |       | 1,746                                  |       | 1,216 |   |
| Institutional  products (primarily funding agreements)          |       | 1,098                                  |       | 1,101 |   |
| Interest-sensitive  life                                        |       | 312                                    |       | 306 |   |
| Variable  annuity and life deposits allocated to fixed accounts |       | 94                                     |       | 120 |   |
| Total  deposits                                                 |       | 3,250                                  |       | 2,743 |   |
|                                                            |       |                                   |       |   |   |
| **Interest  credited**                                          |       | 553                                    |       | 444 |   |
|                                                            |       |                                   |       |   |   |
| **Maturities,  benefits, withdrawals and other adjustments**    |       |                                   |       |   |   |
| Maturities  of institutional products                           |       | (704                                   | )          | (511 | ) |
| Benefits                                                        |       | (217                                   | )          | (167 | ) |
| Surrenders  and partial withdrawals                             |       | (787                                   | )          | (588 | ) |
| Contract  charges                                               |       | (159                                   | )          | (142 | ) |
| Net  transfers to separate accounts                             |       | (78                                    | )          | (131 | ) |
| Fair value  hedge adjustments for institutional products        |       | (120                                   | )          | 23 |   |
| Other  adjustments                                              |       | (11                                    | )          | (9 | ) |
| Total  maturities, benefits, withdrawals and other adjustments  |       | (2,076                                 | )          | (1,525 | ) |
|                                                            |       |                                   |       |   |   |
| **Contractholder  funds, ending balance**                       |       | $                                      | 55,666     |   | $ | 46,997 |   |

 

----

(1)          The increase incontractholder funds due to the adoption of SOP 03-1 reflects thereclassification of certain products previously included as a component ofseparate accounts to contractholder funds, the reclassification of deferredsales inducements (“DSI”) from contractholder funds to other assets and theestablishment of reserves for certain liabilities that are primarily related toincome and other guarantees provided under fixed annuity, variable annuity andinterest-sensitive life contracts.

 

Contractholder deposits increased 18.5% inthe first quarter of 2005 compared to the same period of 2004 due primarily togreater deposits of fixed annuities.  Average contractholder funds, excluding theimpact of adopting SOP 03-1, increased 18.7% in the first quarter of 2005compared to the same period of 2004. Fixed

 

13

----

 

annuity deposits increased 43.6% in the first quarter of 2005 comparedto the same period in the prior year due to strong consumer demand, competitivepricing and effective distribution efforts in our bank channel.

 

Benefits, surrenders and partial withdrawalsincreased 33.0% in the first quarter of 2005 compared to the same period of2004 reflecting an annualized withdrawal rate of 9.6% for the first quarter of2005 based on the beginning of period contractholder funds balance excludinginstitutional product reserves.  Thiscompares to an annualized withdrawal rate of 8.9% for the first quarter of2004.  The increase was primarilyattributable to higher surrenders of market value adjusted annuities during the30-45 day window in which there were no surrender charges or market valueadjustments.  Surrenders and withdrawalsmay vary with changes in interest rates and equity market conditions and theaging of our in-force contracts.

 

***Separateaccounts liabilities***represent contractholders’ claims to the related separate accounts assets.  Separate accounts liabilities primarily arisefrom the sale of variable annuity contracts and variable life insurancepolicies.

 

**The following tableshows the changes in separate accounts liabilities.**

 
| ** **                                                      | ** ** | **Three Months Ended  March 31,** | ** ** |
|-----------------------------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                                               | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                                      | ** ** | ** **                             | ** ** | ** ** | ** ** |
| **Separate  accounts liabilities, beginning balance**           |       | $                                      | 14,377     |   | $ | 13,425 |   |
|                                                            |       |                                   |       |   |   |
| Impact of  adoption of SOP 03-1(1)                              |       | —                                 |       | (204 | ) |
|                                                            |       |                                   |       |   |   |
| Variable  annuity and life deposits                             |       | 437                                    |       | 487 |   |
| Variable  annuity and life deposits allocated to fixed accounts |       | (94                                    | )          | (120 | ) |
| Net deposits                                                    |       | 343                                    |       | 367 |   |
| Investment  results                                             |       | (218                                   | )          | 316 |   |
| Contract  charges                                               |       | (67                                    | )          | (62 | ) |
| Net  transfers from fixed accounts                              |       | 78                                     |       | 131 |   |
| Surrenders  and benefits                                        |       | (426                                   | )          | (423 | ) |
|                                                            |       |                                   |       |   |   |
| **Separate  accounts liabilities, ending balance**              |       | $                                      | 14,087     |   | $ | 13,550 |   |

 

----

(1)          The decrease in separateaccounts due to the adoption of SOP 03-1 reflects the reclassification ofcertain products previously included as a component of separate accounts tocontractholder funds.

 

Separate accounts liabilities declined $290 million as of March 31,2005 compared to December 31, 2004. The decrease was primarily attributable to unfavorable investmentresults since December 31, 2004. Net deposits and transfers from fixed accounts were more than offset bycontract charges and surrenders and benefits. Variable annuity contractholders often allocate a significant portion oftheir initial variable annuity contract deposit into a fixed rate investmentoption.  The level of this activity isreflected above in the deposits allocated to fixed accounts, while all othertransfer activity between the fixed and separate accounts investment options isreflected in net transfers from fixed accounts. The liability for the fixed portion of variable annuity contracts isreflected in contractholder funds.

 

**Netinvestment income** increased 13.4% in the first quarterof 2005 compared to the same period of 2004, primarily due to the effect ofhigher portfolio balances, partially offset by lower portfolio yields.  Higher portfolio balances resulted from theinvestment of cash flows from operating and financing activities relatedprimarily to deposits from fixed annuities, institutional funding agreementsand interest-sensitive life policies. Investment balances as of March 31, 2005, increased 2.6% from December 31,2004.  The lower portfolio yields wereprimarily due to purchases, including reinvestments, of fixed income securitieswith yields lower than the current portfolio average.

 

14

----

 

**Net income** analysis is presented in thefollowing table.

 
| ** **                                                                                             | ** ** | **Three Months Ended  March 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                                                                                      | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| Premiums                                                                                               |       | $                                      | 142        |   | $ | 151 |   |
| Contract charges                                                                                       |       | 259                                    |       | 234 |   |
| Net investment income                                                                                  |       | 888                                    |       | 783 |   |
| Periodic settlements and  accruals on non-hedge derivative instruments(1)                              |       | 19                                     |       | 6 |   |
| Contract benefits                                                                                      |       | (347                                   | )          | (336 | ) |
| Interest credited to  contractholder funds(2)                                                          |       | (537                                   | )          | (436 | ) |
| **Gross margin**                                                                                       |       | 424                                    |       | 402 |   |
|                                                                                                   |       |                                   |       |   |   |
| Amortization of DAC and  DSI                                                                           |       | (114                                   | )          | (113 | ) |
| Operating costs and  expenses                                                                          |       | (116                                   | )          | (102 | ) |
| Income tax expense                                                                                     |       | (51                                    | )          | (63 | ) |
| Realized capital gains and  losses, after-tax                                                          |       | 1                                      |       | (17 | ) |
| DAC and DSI amortization  related to realized capital gains and losses, after-tax                      |       | (61                                    | )          | (10 | ) |
| Reclassification of  periodic settlements and accruals on non-hedge derivative instruments,  after-tax |       | (12                                    | )          | (4 | ) |
| Loss on disposition of  operations, after-tax                                                          |       | (3                                     | )          | (2 | ) |
| Cumulative effect of  change in accounting principle, after-tax                                        |       | —                                 |       | (175 | ) |
| **Net  income (loss)**                                                                                 |       | $                                      | 68         |   | $ | (84 | ) |

 

----

(1)          Periodic settlements and accruals on non-hedge derivative instrumentsare reflected as a component of realized capital gains and losses on theCondensed Consolidated Statements of Operations.

(2)          Amortization of DSI is excluded from interest credited tocontractholder funds for purposes of calculating gross margin.  Amortization of DSI totaled $39 million and$13 million in first quarter of 2005 and 2004, respectively.

 

*Grossmargin*, a non-GAAPmeasure, represents premiums and contract charges, net investment income andperiodic settlements and accruals on non-hedge derivative instruments, lesscontract benefits and interest credited to contractholder funds excludingamortization of DSI.  We reclassifyperiodic settlements and accruals on non-hedge derivative instruments intogross margin to report them in a manner consistent with the economically hedgedinvestments, replicated assets or product attributes (e.g. net investmentincome or interest credited to contractholder funds) and by doing so,appropriately reflect trends in product performance.  We use gross margin as a component of ourevaluation of the profitability of our life insurance and financial productportfolio.  Additionally, for many of ourproducts, including fixed annuities, variable life and annuities, andinterest-sensitive life insurance, the amortization of DAC and DSI isdetermined based on actual and expected gross margin.  Gross margin is comprised of three componentsthat are utilized to further analyze the business: investment margin, benefitmargin, and contract charges and fees. We believe gross margin and its components are useful to investorsbecause they allow for the evaluation of income components separately and inthe aggregate when reviewing performance. Gross margin, investment margin and benefit margin should not be consideredas a substitute for net income and do not reflect the overall profitability ofthe business.  Net income is the GAAPmeasure that is most directly comparable to these margins.  Gross margin is reconciled to GAAP net incomein the table above.

 

15

----

 

The components of grossmargin are reconciled to the corresponding financial statement line items inthe following table.

 
| ** **                                                                       | ** ** | **Three Months Ended March 31,** | ** ** |
|----------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                       | ** ** | **Investment   Margin**               | ** ** | **Benefit  Margin** | ** ** | **Contract Charges  and Fees** | ** ** | **Gross  Margin** | ** ** |
| **(in millions)**                                                                | ** ** | **2005**                              | ** ** | **2004 (3)** | ** ** | **2005** | ** ** | **2004 (3)** | ** ** | **2005** | ** ** | **2004 (3)** | ** ** | **2005** | ** ** | **2004** | ** ** |
| Premiums                                                                         |       | $                                     | —     |   | $ | — |   | $ | 142 |   | $ | 151 |   | $ | — |   | $ | — |   | $ | 142 |   | $ | 151 |   |
| Contract  charges                                                                |       | —                                |       | — |   | 150 |   | 129 |   | 109 |   | 105 |   | 259 |   | 234 |   |
| Net investment                                                                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| income                                                                           |       | 888                                   |       | 783 |   | — |   | — |   | — |   | — |   | 888 |   | 783 |   |
| Periodic  settlements and accruals on non-hedge derivative instruments  (1) |       | 19                                    |       | 6 |   | — |   | — |   | — |   | — |   | 19 |   | 6 |   |
| Contract  benefits                                                               |       | (134                                  | )          | (131 | ) | (213 | ) | (205 | ) | — |   | — |   | (347 | ) | (336 | ) |
| Interest  credited to contractholder funds(2)                                    |       | (537                                  | )          | (436 | ) | — |   | — |   | — |   | — |   | (537 | ) | (436 | ) |
|                                                                             |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
|                                                                             |       | $                                     | 236        |   | $ | 222 |   | $ | 79 |   | $ | 75 |   | $ | 109 |   | $ | 105 |   | $ | 424 |   | $ | 402 |   |

 

----

(1) Periodic settlements and accruals onnon-hedge derivative instruments are reflected as a component of realizedcapital gains and losses on the Condensed Consolidated Statements ofOperations.

 

(2) Amortization of DSI isexcluded from interest credited to contractholder funds for purposes ofcalculating gross margin.  Amortizationof DSI totaled $39 million in the first quarter of 2005 and $13 million in thefirst quarter of 2004.

 

(3) The prior period hasbeen restated to conform to the current period presentation.  In connection therewith, contract chargesrelated to guaranteed minimum death, income, accumulation and withdrawalbenefits on variable annuities have been reclassified to benefit margin frommaintenance charges.  Additionally,amounts previously presented as maintenance charges and surrender charges arenow presented in the aggregate as contract charges and fees.  These reclassifications did not result in achange in gross margin.

 

Gross margin increased 5.5% in the first quarter of2005 compared to the same period of 2004 as growth from new business resultedin increased investment margin, benefit margin and contract charges and fees.

 

*Investment margin* is a component of gross margin, both of which are non-GAAPmeasures.  Investment margin representsthe excess of net investment income and periodic settlements and accruals onnon-hedge derivative instruments over interest credited to contractholder fundsexcluding amortization of DSI and the implied interest on life-contingentimmediate annuities included in the reserve for life-contingent contractbenefits.  We use investment margin toevaluate our profitability related to the difference between investment returnson assets supporting certain products and amounts credited to customers (“spread”)during a fiscal period.

 

Investmentmargin by product group is shown in the following table.

 
| ** **               | ** ** | **Three Months Ended  March 31,** | ** ** |
|--------------------------|------------|----------------------------------------|------------|
| **(in  millions)**       | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| Annuities                |       | $                                      | 159        |   | $ | 148 |   |
| Life  insurance          |       | 47                                     |       | 44 |   |
| Institutional  products  |       | 30                                     |       | 30 |   |
| Total  investment margin |       | $                                      | 236        |   | $ | 222 |   |

 

16

----

 

Investment margin increased6.3% in the first quarter of 2005 compared to the same period of 2004 due tohigher average contractholder funds, partially offset by lower portfolio yieldsresulting in lower weighted average investment spreads oninterest-sensitive life and deferred fixed annuity contracts.  Although the weighted average investmentspreads for the first quarter of 2005 are lower than the first quarter of 2004,the spreads on interest-sensitive life and deferred fixed annuity contractshave stabilized and are consistent with the fourth quarter of 2004. As of March 31,2005, 77% of our interest-sensitive life and fixed annuity contracts, excludingmarket value adjusted annuities and equity indexed annuities, have a guaranteedcrediting rate of 3% or higher.  Of thesecontracts, 76% have crediting rates that are at the minimum as of March 31,2005.  For all interest-sensitive lifeand fixed annuity contracts, excluding market value adjusted annuities andequity indexed annuities, the approximate difference between the weightedaverage crediting rate and the average guaranteed crediting rate is 51 basispoints as of March 31, 2005 compared to 52 basis points as of December 31,2004.

 

The following tablesummarizes the annualized weighted average investment yield, interest creditingrates and investment spreads for the three months ended March 31.

 
| ** **                                                                      | ** ** | **Weighted Average  Investment Yield** | ** ** | **Weighted Average  Interest Crediting Rate** | ** ** | **Weighted Average  Investment Spreads** | ** ** |
|---------------------------------------------------------------------------------|------------|----------------------------------------|------------|-----------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                                      | ** ** | **2005**                               | ** ** | **2004**                                      | ** ** | **2005**                                 | ** ** | **2004** | ** ** | **2005** | ** ** | **2004** | ** ** |
| Interest-sensitive  life                                                        |       | 6.3                                    | %          | 6.5                                           | %          | 4.7                                      | %          | 4.6 | % | 1.6 | % | 1.9 | % |
| Fixed  annuities – deferred annuities                                      |       | 5.6                                    |       | 5.9                                           |       | 4.0                                      |       | 4.1 |   | 1.6 |   | 1.8 |   |
| Fixed  annuities – immediate annuities with and without life contingencies |       | 7.4                                    |       | 7.5                                           |       | 6.8                                      |       | 6.9 |   | 0.6 |   | 0.6 |   |
| Institutional                                                                   |       | 4.0                                    |       | 3.0                                           |       | 3.0                                      |       | 2.0 |   | 1.0 |   | 1.0 |   |
| Investments  supporting capital, traditional life and other products            |       | 6.9                                    |       | 7.2                                           |       | N/A                                      |       | N/A |   | N/A |   | N/A |   |

 

The following table summarizes the liabilities forthese contracts and policies.

 
| ** **                                                             | ** ** | **Three Months Ended  March 31,** | ** ** |
|------------------------------------------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                                                      | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| Fixed  annuities – immediate annuities with life contingencies    |       | $                                      | 7,774      |   | $ | 7,496 |   |
| Other life  contingent contracts and other                             |       | 3,784                                  |       | 3,423 |   |
| Reserve for  life-contingent contract benefits                         |       | $                                      | 11,558     |   | $ | 10,919 |   |
|                                                                   |       |                                   |       |   |   |
| Interest-sensitive  life                                               |       | $                                      | 7,691      |   | $ | 6,613 |   |
| Fixed  annuities – deferred annuities                             |       | 32,368                                 |       | 26,566 |   |
| Fixed  annuities – immediate annuities without life contingencies |       | 3,289                                  |       | 2,952 |   |
| Institutional                                                          |       | 11,759                                 |       | 10,215 |   |
| Market value  adjustments related to derivative instruments and other  |       | 559                                    |       | 651 |   |
| Contractholder  funds                                                  |       | $                                      | 55,666     |   | $ | 46,997 |   |

 

*Benefitmargin*is a componentof gross margin, both of which are non-GAAP measures.  Benefit margin represents life andlife-contingent immediate annuity premiums, cost of insurance contract chargesand variable annuity contract charges for contract guarantees less contractbenefits.  Benefit margin excludes theimplied interest on life-contingent immediate annuities, which is included inthe calculation of investment margin.  Weuse the benefit margin to evaluate our underwriting performance, as it reflectsthe profitability of our products with respect to mortality or morbidity riskduring a fiscal period.

 

17

----

 

Benefitmargin by product group is shown in the following table.

 
| ** **            | ** ** | **Three Months Ended  March 31,** | ** ** |
|-----------------------|------------|----------------------------------------|------------|
| **(in millions)**     | ** ** | **2005**                               | ** ** | **2004 (1)** | ** ** |
| Life  insurance       |       | $                                      | 93         |   | $ | 90 |   |
| Annuities             |       | (14                                    | )          | (15 | ) |
| Total  benefit margin |       | $                                      | 79         |   | $ | 75 |   |

 

----

(1)          The prior period has been restated to conform to the current periodpresentation.

 

Benefit margin increased5.3% in the first quarter of 2005 compared to the same period of 2004.  The increase was primarily the result ofgrowth of in force business and improved mortality experience, partially offsetby an increase in the reserve for guarantees related to variable contracts of$9 million.  This increase resulted fromour annual comprehensive evaluation of the assumptions used in our valuationmodels which resulted in a refined measurement of exposure, partially offset bybetter than anticipated equity market performance.  There was no comparable 2004 adjustment toreserves for variable contract guarantees, because the reserves wereestablished in the first quarter of 2004 as part of the cumulative effect ofthe change in accounting for such guarantees.

 

Upon the adoption ofStatement of Position No. 03-1, “Accounting and Reporting by InsuranceEnterprises for Certain Nontraditional Long-Duration Contracts and for SeparateAccounts”, on January 1, 2004, reserves were established for death andincome benefits provided under variable annuities and secondary guarantees oncertain interest-sensitive life contracts and fixed annuities.  In prior periods, death benefits wereexpensed as paid and no expense was recognizable for the other guarantees.  Annuity benefit margin will continue to beadversely impacted by certain closed blocks of life-contingent immediateannuities whose benefit payments are anticipated to extend beyond theiroriginal pricing expectations.  Theannuity benefit margin in future periods will fluctuate based on the timing ofannuitant deaths on these life-contingent immediate annuities and the annual evaluation of assumptions used in ourvaluation models for variable and fixed annuity guarantees.

 

*Amortization of DAC and DSI*, excluding amortization related to realizedcapital gains and losses, for the first quarter of 2005 was consistent with thefirst quarter of 2004.  DAC and DSIamortization related to realized capital gains and losses, after-tax, increased$51 million due to increased realized capital gains primarily related toinvestments supporting market value adjusted annuities.

 

In the first quarter of2005, we performed our annual comprehensive evaluation of the assumptions usedin our valuation models for all investment products, including variable andfixed annuities and interest-sensitive and variable life products, whichresulted in net DAC and DSI amortization acceleration of $7 million (commonlyreferred to as “DAC and DSI unlocking”). The DAC and DSI unlocking includes amortization acceleration on fixedannuities of $62 million and $3 million on interest-sensitive and variable lifeproducts, partially offset by amortization deceleration on variable annuitiesof $58 million.  The amortizationacceleration on fixed annuities was primarily due to higher than expectedlapses on market value adjusted annuities during the window period in whichthere were no surrender charges or market value adjustments and faster thananticipated portfolio yield declines. The amortization deceleration on variable annuities was mostlyattributable to better than anticipated equity market performance andpersistency.

 

In the first quarter of2004, the comparable DAC and DSI unlocking was a net acceleration ofamortization of $0.5 million, which included deceleration of amortizationrelated to interest-sensitive life and acceleration of amortization related tofixed annuities.

 

18

----

 

*Operatingcosts and expenses*increased 13.7% in the first quarter of 2005 compared to the same period of2004.  The following table summarizesoperating costs and expenses.

 
| ** **                          | ** ** | **Three Months Ended  March 31,** | ** ** |
|-------------------------------------|------------|----------------------------------------|------------|
| **(in millions)**                   | ** ** | **2005**                               | ** ** | **2004** | ** ** |
|                                |       |                                   |       |   |   |
| Non-deferrable  acquisition costs   |       | $                                      | 39         |   | $ | 31 |   |
| Other  operating costs and expenses |       | 77                                     |       | 71 |   |
| Total  operating costs and expenses |       | $                                      | 116        |   | $ | 102 |   |

 

The increase in totaloperating costs and expenses in the first quarter of 2005 compared to the sameperiod of 2004 was primarily attributable to administrative expensereimbursements recorded in the first quarter of 2004 related to our directresponse distribution business that was sold in 2004 and higher licensing,distribution and guaranty fund expenses.

 

Net income was favorablyimpacted in the first quarter of 2005 by adjustments for prior years’ taxliabilities totaling $17 million.

 

**INVESTMENTS**

 

An important component ofour financial results is the return on our investment portfolios.  The composition of the investment portfolioat March 31, 2005 is presented in the table below.

 
| ** **                   | ** ** | **Investments** | ** ** | **Percent to  total** | ** ** |
|------------------------------|------------|-----------------|------------|-----------------------|------------|
| **(in millions)**            | ** ** | ** **      | ** ** | ** **            | ** ** |
|                         |       |            |       |                  |       |
| Fixed income securities  (1) |       | $               | 60,768     |                  | 85.0       | % |
| Mortgage  loans              |       | 7,538           |       | 10.5                  |       |
| Equity  securities           |       | 228             |       | 0.3                   |       |
| Short-term                   |       | 1,630           |       | 2.3                   |       |
| Policy loans                 |       | 719             |       | 1.0                   |       |
| Other                        |       | 623             |       | 0.9                   |       |
| Total                        |       | $               | 71,506     |                  | 100.0      | % |

 

----

(1)          Fixed income securities are carried at fair value.  Amortized cost basis for these securities was$58.3 billion.

 

Total investments increasedto $71.51 billion at March 31, 2005 from $69.69 billion at December 31,2004, primarily due to positive cash flows from operating and financingactivities and increased funds associated with securities lending, partiallyoffset by decreased net unrealized gains on fixed income securities.

 

Total investments atamortized cost related to collateral, due to securities lending and othersecurity repurchase and resale transactions, increased to $3.30 billion at March 31,2005, from $2.93 billion at December 31, 2004.

 

At March 31, 2005,93.7% of the fixed income securities portfolio was rated investment grade,which is defined as a security having a rating from the National Association ofInsurance Commissioners (“NAIC”) of 1 or 2; a rating of Aaa, Aa, A or Baa fromMoody’s or a rating of AAA, AA, A or BBB from S&P, Fitch or Dominion; or acomparable internal rating if an externally provided rating is not available.

 

The unrealized net capitalgains on fixed income and equity securities at March 31, 2005 were $2.51billion, a decrease of $824 million or 24.7% since December 31, 2004.  The net unrealized gain for the fixed incomeportfolio totaled $2.51 billion, comprised of $2.89 billion of unrealized gainsand $388 million of unrealized losses at March 31, 2005.  This is compared to a net unrealized gain forthe fixed income portfolio totaling $3.33 billion at December 31, 2004,comprised of $3.49 billion of unrealized gains and $163 million of unrealizedlosses.

 

Of the gross unrealizedlosses in the fixed income portfolio at March 31, 2005, $335 million or86.3% were related to investment grade securities and are believed to beprimarily a result of a rising interest rate environment.  Of the remaining $53 million of losses in thefixed income portfolio, $38 million or 71.7% were in the corporate fixed incomeportfolio, $14 million or 26.4% were in the asset-backed securities portfolio,and

 

19

----

 

$1 million or 1.9% were in the foreign governmentportfolio.  The $38 million of corporatefixed income gross unrealized losses were primarily comprised of securities inthe consumer goods, communications, utilities and transportation sectors.  The gross unrealized losses in these sectorswere primarily company specific and interest rate related.  Approximately $7 million of the total grossunrealized losses in the corporate fixed income portfolio and $11 million ofthe total gross unrealized losses in the asset-backed securities portfolio wereassociated with the airline industry for which values were depressed due tocompany specific issues and economic issues related to fuel costs.  We expect eventual recovery of thesesecurities.  Every security was includedin our portfolio monitoring process.

 

The unrealized gain for thecommon and non-redeemable preferred stock portfolio totaled $7 million at March 31,2005 and was comprised entirely of unrealized gains.  This is compared to an unrealized gain forthe common and non-redeemable preferred stock portfolio totaling $9 million at December 31,2004, which was also comprised entirely of unrealized gains.

 

Our portfolio monitoringprocess identifies and evaluates fixed income and equity securities whosecarrying value may be other than temporarily impaired.  The process includes a quarterly review ofall securities using a screening process to identify those securities whosefair value compared to amortized cost for fixed income securities or cost forequity securities is below established thresholds for certain time periods, orwhich are identified through other monitoring criteria such as ratingsdowngrades or payment defaults.

 

We also monitor the qualityof our fixed income portfolio by categorizing certain investments as “problem”,“restructured” or “potential problem.” Problem fixed income securities are securities in default with respectto principal or interest and/or securities issued by companies that have goneinto bankruptcy subsequent to our acquisition of the security.  Restructured fixed income securities haverates and terms that are not consistent with market rates or terms prevailingat the time of the restructuring. Potential problem fixed income securities are current with respect tocontractual principal and/or interest, but because of other facts andcircumstances, we have concerns regarding the borrower’s ability to pay futureprincipal and interest, which causes us to believe these securities may beclassified as problem or restructured in the future.

 

The following tablesummarizes problem, restructured and potential problem fixed income securities.

 
| ** **                             | ** ** | **March 31, 2005** | ** ** | **December 31, 2004** | ** ** |
|----------------------------------------|------------|-------------------------|------------|----------------------------|------------|
| **(in millions)**                      | ** ** | **Amortized  cost**     | ** ** | **Fair  value**            | ** ** | **Percent of   total Fixed   Income  portfolio** | ** ** | **Amortized   cost** | ** ** | **Fair   value** | ** ** | **Percent of   total Fixed  Income  portfolio** | ** ** |
| Problem                                |       | $                       | 98         |                       | $          | 105 |   | 0.2 | % | $ | 71 |   | $ | 71 |   | 0.1 | % |
| Restructured                           |       | 35                      |       | 32                         |       | 0.1 |   | 43 |   | 46 |   | 0.1 |   |
| Potential  problem                     |       | 156                     |       | 173                        |       | 0.3 |   | 168 |   | 179 |   | 0.3 |   |
| Total net  carrying value              |       | $                       | 289        |                       | $          | 310 |   | 0.6 | % | $ | 282 |   | $ | 296 |   | 0.5 | % |
| Cumulative write-downs  recognized (1) |       | $                       | 229        |                       |       |   |   |   | $ | 231 |   |   |   |   |   |

 

----

(1)          Cumulative write-downs recognized only reflects write-downs related tosecurities within the problem, potential problem and restructured categories.

 

We have experienced anincrease in the amortized cost of fixed income securities categorized asproblem as of March 31, 2005 compared to December 31, 2004.  The increase was primarily related to theaddition of a security to the problem category as a result of company specificliquidity issues as well as an additional investment in a security previouslycategorized as problem.  The decrease inthe amortized cost of fixed income securities categorized as restructured andpotential problem as of March 31, 2005 compared to December 31, 2004was primarily related to a sale in the potential problem category due tospecific developments causing a change in our outlook and intent to hold thesecurity.

 

We also evaluated each ofthese securities through our portfolio monitoring process at March 31,2005 and recorded write-downs when appropriate. We further concluded that any remaining unrealized losses on thesesecurities were temporary in nature. While these balances may increase in the future, particularly ifeconomic conditions are unfavorable, management expects that****the total amount of securities in thesecategories will remain low relative to the total fixed income securitiesportfolio.

 

20

----

 

**Net Realized Capital Gains andLosses**The followingtable presents the components of realized capital gains and losses and therelated tax effect.

 
| ** **                                   | ** ** | **Three Months  Ended****March 31,** | ** ** |
|----------------------------------------------|------------|-------------------------------------------|------------|
| **(in millions)**                            | ** ** | **2005**                                  | ** ** | **2004** | ** ** |
|                                         |       |                                      |       |   |   |
| Write-downs                                  |       | $                                         | (7         | ) | $ | (34 | ) |
| Anticipated disposition write-downs          |       | (30                                       | )          | — |   |
| Dispositions                                 |       | 70                                        |       | 35 |   |
| Valuation of derivative instruments          |       | (58                                       | )          | (20 | ) |
| Settlement of derivative instruments         |       | 26                                        |       | (8 | ) |
| Realized capital gains and losses, pretax    |       | 1                                         |       | (27 | ) |
| Income tax benefit                           |       | —                                    |       | 10 |   |
| Realized capital gains and losses, after-tax |       | $                                         | 1          |   | $ | (17 | ) |

 

Dispositions in the abovetable include sales and other transactions such as calls and prepayments.  We may sell securities during the period inwhich fair value has declined below amortized cost for fixed income securitiesor cost for equity securities.  Incertain situations new factors such as negative developments, subsequent creditdeterioration, relative value opportunities, market liquidity concerns andportfolio reallocations can subsequently change our previous intent to continueholding a security.  

 

A changing interest rateenvironment will also drive changes in our portfolio duration targets at atactical level.  A duration target andrange is established with an economic view of liabilities relative to along-term portfolio view.  Tacticalduration adjustments within management’s approved ranges are accomplishedthrough both cash market transactions and derivative activities that generaterealized capital gains and losses and through new purchases.  As a component of our approach to managingportfolio duration, realized gains and losses on derivative instruments aremost appropriately considered in conjunction with the unrealized gains andlosses on the fixed income portfolio. This approach mitigates the impacts of general interest rate changes tothe overall financial condition of the corporation.

 

Because of rising interestrates, continued asset-liability management strategies and on-goingcomprehensive reviews of our portfolios, changes were made in the first quarterof 2005 to our strategic asset allocations. In addition, we also pursued yield enhancement strategies.  These changes primarily resulted inanticipated disposition write-downs of certain securities with unrealized losspositions due to a change in intent to hold these securities until recovery.

 

21

----

 

**CAPITAL RESOURCES AND LIQUIDITY**

 

**Capital Resources** consist of shareholder’s equity and debt,representing funds deployed or available to be deployed to support businessoperations.  The following tablesummarizes our capital resources.

 
| **(in millions)**                                                          | ** ** | **March 31, 2005** | ** ** | **December 31, 2004** | ** ** |
|----------------------------------------------------------------------------|------------|-------------------------|------------|----------------------------|------------|
| Redeemable  preferred stock                                                |       | $                       | 5          |                       | $          | 5 |   |
| Common  stock, retained earnings and other Shareholder’s equity items |       | 5,301                   |       | 5,291                      |       |
| Accumulated  other comprehensive income                                    |       | 622                     |       | 1,013                      |       |
| Total  shareholder’s equity                                           |       | 5,928                   |       | 6,309                      |       |
| Debt                                                                       |       | 173                     |       | 104                        |       |
| Total  capital resources                                                   |       | $                       | 6,101      |                       | $          | 6,413 |   |

 

*Shareholder’s equity* declined in the first quarter of 2005 whencompared to December 31, 2004, as a result of lower unrealized capitalgains and dividends, partially offset by net income.  The Company accrued a dividend of $25 milliondue to Allstate Insurance Company (“AIC”, the Company’s parent) in the firstquarter of 2005.  In addition, a dividendof $16 million was recorded in connection with the purchase of fixed incomesecurities from AIC and a non-cash dividend of $15 million was recorded as aresult of the settlement of certain reinsurance transactions with anunconsolidated affiliate (see Note 2 to the condensed consolidated financialstatements).

 

*Debt* increased as March 31, 2005 compared toDecember 31, 2004 due to short-term debt of $75 million that was issuedduring the first quarter of 2005 to The Allstate Corporation (the “Corporation”)pursuant to an intercompany loan agreement, partially offset by the redemptionof $6 million of mandatorily redeemable preferred stock.  The proceeds from the issuance of theshort-term debt were used for investment purposes. There were no short-termborrowings as of December 31, 2004.

 

The amount of funds available under the intercompanyloan agreement is at the discretion of the Corporation.  The maximum amount of loans the Corporationwill have outstanding to all its eligible subsidiaries at any given point intime is limited to $1.00 billion.

 

**Financial Ratings and Strength**Our ratings are influenced by many factorsincluding our operating and financial performance, asset quality, liquidity,asset/liability management, overall portfolio mix, financial leverage (i.e.,debt), exposure to risks such as catastrophes and the current level ofoperating leverage.  There have been nochanges to our insurance financial strength ratings since December 31,2004.

 

# **Liquidity Sources and Uses**As reflected in ourCondensed Consolidated Statements of Cash Flows, higher operating cash flows inthe first quarter of 2005 when compared to the first quarter of 2004 primarilyrelate to increased interest received, partially offset by higher policybenefits, acquisition costs and income taxes paid.  Cash flows used in investing activitiesincreased in the first quarter of 2005 due to the investment of higherfinancing and operating cash flows.

 

# **Higher cash flow from financing activities during the firstquarter of 2005 when compared to the first quarter of 2004 reflect higherdeposits on fixed annuities and proceeds from the issuance of short-term debt,partially offset by increased fixed annuity withdrawals and institutionalproduct maturities.  The higher fixedannuity withdrawals included surrenders of market value adjusted annuitiesduring the 30-45 day window in which there were no surrender charges or marketvalue adjustments.  For quantification ofthe changes in contractholder funds, see the Operations section of theMD&A.**

 

We have access to additionalborrowing to support liquidity through the Corporation as follows:

 

•                  A commercial paper program with a borrowinglimit of $1.00 billion to cover short-term cash needs.  As of March 31, 2005, the remainingborrowing capacity was $925 million; however, the outstanding balancefluctuates daily.

 

•                  One primary credit facility and oneadditional credit facility totaling $1.05 billion to cover short-term liquidityrequirements.  The primary facility is a$1 billion five-year revolving line of credit expiring in 2009.  It contains an increase provision that wouldmake up to an additional $500 million available for borrowing

 

22

----

 

provided the increasedportion could be fully syndicated at a later date among existing or newlenders.  The other facility is a $50 millionone-year revolving line of credit renewed in July 2004 for an additionalyear.  Although the right to borrow underthe five-year facility is not subject to a minimum rating requirement, thecosts of maintaining the five-year facility and borrowing under it are based onthe ratings of the Corporation’s senior, unsecured, nonguaranteed long-termdebt.  There were no borrowings undereither of these lines of credit during the first quarter of 2005. The totalamount outstanding at any point in time under the combination of the commercialpaper program and the two credit facilities cannot exceed the amount that canbe borrowed under the credit facilities.

 

•                  The capacity of the Corporation to issue upto an additional $2.15 billion of debt securities, equity securities, warrantsfor debt and equity securities, trust preferred securities, stock purchasecontracts and stock purchase units utilizing the shelf registration statementfiled with the Securities and Exchange Commission (“SEC”) in August 2003.

 

23

----

 

**Item 4. Controls and Procedures**

 

*Evaluation of Disclosure Controls and Procedures. *We maintain disclosure controls and procedures as defined in Rule13a-15(e) under the Securities Exchange Act of 1934.  Under the supervision and with theparticipation of our management, including our principal executive officer andprincipal financial officer, we conducted an evaluation of the effectiveness ofour disclosure controls and procedures as of the end of the period covered bythis report.  Based upon this evaluation,the principal executive officer and the principal financial officer concludedthat our disclosure controls and procedures are effective in providingreasonable assurance that material information required to be disclosed in ourreports filed with or submitted to the Securities and Exchange Commission underthe Securities Exchange Act is made known to management, including theprincipal executive officer and the principal financial officer, as appropriateto allow timely decisions regarding required disclosure.

 

*Changes in Internal Control over Financial Reporting. *During the fiscal quarter ended March 31, 2005, there were nochanges in our internal control over financial reporting that have materiallyaffected, or are reasonably likely to materially affect, our internal controlover financial reporting.

 

24

----

 

**PART II.  OTHER INFORMATION**

 

**Item 1.****          ****Legal Proceedings**

 

Information required forthis Part II, Item 1, is incorporated by reference to the discussion under theheading “Regulation” and under the heading “Legal and Regulatory proceedingsand Inquiries” in Note 4 of the Company’s Condensed Consolidated FinancialStatements in Part I, Item 1 of this Form 10-Q.

 

**Item 6.****          ****Exhibits**

 

(a)                                  Exhibits

 

An Exhibit Index has beenfiled as part of this report on page E-1.

 

25

----

 

**SIGNATURE**

 

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 theundersigned thereunto duly authorized.

 
|        | Allstate Life Insurance Company       |
|-------------|---------------------------------------|
|        | (Registrant)                          |
|        |                                  |
|        |                                  |
| May 6, 2005 | By                                    | /s/ Samuel H. Pilch |   |
|        | Samuel H. Pilch                       |
|        | (chief accounting officer and duly    |
|        | authorized officer of the Registrant) |

 

26

----

 
| **Exhibit No.** | ** ** | **Description**                                                                                                                                                            |
|-----------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|            |       |                                                                                                                                                                       |
| 10.1            |       | Amended and  Restated Service and Expense Agreement between Allstate Insurance Company,  The Allstate Corporation and certain affiliates, effective January 1,  2004. |
|            |       |                                                                                                                                                                       |
| 15              |       | Acknowledgment  of awareness from Deloitte & Touche LLP, dated May 6, 2005, concerning  unaudited interim financial information.                                       |
|            |       |                                                                                                                                                                       |
| 31.1            |       | Rule 13a-14(a) Certification of Principal Executive Officer                                                                                                                |
|            |       |                                                                                                                                                                       |
| 31.2            |       | Rule 13a-14(a) Certification of Principal Financial Officer                                                                                                                |
|            |       |                                                                                                                                                                       |
| 32              |       | Section 1350 Certifications                                                                                                                                           |

 

E-1

----