An additional source of income to the Company is investment revenue. The Company invests those funds deposited by policy- holders of universal life and annuity products in debt and equity securities in order to earn interest and dividend income, a portion of which is credited back to the policyholders. Interest rates and maturities of the Company's investment portfolio play a part in determining the interest rates credited to policyholders.
New business written was 124, 189 and 330 million dollars in face value for 1995, 1994 and 1993, respectively. New business written declined again in 1995, as it did in 1994, as the Company continued its efforts to license new products and develop marketing distribution channels. Delays in obtaining admission of new products into various states has cost the Company anticipated sales as well as agency forces over the past two years. Yet, by year end 1995, some key marketing strategies were accomplished which have already begun to show a positive impact on 1996 production figures. One such marketing strategy included the hiring of a new marketing director. The new director, a seasoned insurance executive, brings to the Company a product expertise and market expansion knowledge that will enable the Company to accomplish its long term goals. Another key development was the creation of a lead generation program designed to provide new business leads in order to increase production.
Increased investment in debt securities coupled with reduced expenses for student loan processing accounted for the 9% increase in investment income for the year 1995. The Company's investment in student loans is declining each year in response to increased costs designated by the government. This trend is expected to continue and show significant change in 1996.
Reinsurance premiums ceded for 1995 and 1994 were $2,112,884 and $2,508,749, respectively. Policy benefits were reduced due to reinsurance $405,345 and $679,622 for 1995 and 1994 respectively. Reinsurance commissions amounted to $397,253 for 1995 and $445,309 for 1994. In addition, under the terms of the Company's treaty with Mega Life (formerly United Group Insurance Company) expenses of $911,452 were transferred to the reinsurer for 1995 and $1,163,842 for 1994. The Company has also amortized the remaining $200,000 of deferred gain, under the aforementioned treaty, against deferred acquisition costs for 1995 (see Note 7).
Income, before income taxes, in 1995 was $1,274,903 compared to $1,543,979 in 1994 and $705,652 in 1993. The 1995 income declined 17% from prior year as a result of reduced premium income and level amortization expenses. 1993 income suffered from higher death benefit expenses than the following two years.
Effective January 1, 1994, the Company adopted Statement of Financial Accounting Standards No. 115 ("SFAS 115"), "Accounting for Certain Investments in Debt and Equity Securities." SFAS 115 required that investments in all debt securities and those equity securities with readily determinable market values be classified into one of three categories: held-to-maturity, trading or available-for-sale. Classification of investments is based upon management's current intent. Debt securities which management has a positive intent and ability to hold until maturity are classified as securities held-to-maturity and are carried at amortized cost. Unrealized holding gains and losses on securities held-to-maturity, are not reflected in the financial statements. Debt and equity securities that are purchased for short-term resale are classified as trading securities. Trading securities are carried at market value, with unrealized holding gains and losses included in earnings. All other debt and equity securities not included in the
Student loans are a service the Company makes available to the public as well as an investment. While the Company anticipates the seasonal demand for student loan funds and the subsequent sale of such loans to the Student Loan Marketing Association (SLMA), there are times when additional funds are required to meet demand for student loans until such time as the sale thereof to SLMA can be completed. In 1995 the Company renewed its $15,000,000 line of credit with SLMA in order to meet these seasonal borrowing requirements. The Company made several draws against this line of credit throughout the seasonal period. The Company anticipates continued borrowings to be made through this line of credit with SLMA to the extent that student loan borrowings are required for 1996. SLMA offers a more competitive rate of interest on such borrowings than the Company has been able to obtain through banks.
The following table displays pertinent information regarding the short-term borrowings of the Company as they relate to these credit lines:
The Company recently executed a lease with a new tenant for the remaining 1200 square foot of rentable space on the first floor of the office building. The contract includes the build-out of the space to serve as office space. The Company has agreed to cover expenditures of the build-out and the lessee has agreed to rent the space for a five year period. The build-out is estimated to have a cost of $16,000. The Company, at this time, has no other material commitments for capital expenditures through the balance of this year.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Southern Security Life Insurance Company as of December 31, 1995 and 1994, and the results of its operations and its cash flows for each of the years in the three year period ended December 31, 1995, in conformity with generally accepted accounting principles. Also in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
(1) Nature of Business and Summary of Significant Accounting Policies ------------------------------------------------------ (a) Nature of Business --------------- The primary business purpose of Southern Security Life Insurance Company (the "Company") is the issuance of long duration universal life insurance contracts. Prior to 1986, the Company's business included traditional whole life and annuity contracts. The majority of the Company's business is conducted in the states of Florida (50%), Georgia (15%) and Texas (11%). None of the remaining eight states in which the Company is licensed to conduct business account for over 10% of the Company's total business.
Legal/Regulatory Risk is the risk that changes in the legal or regulatory environment in which an insurer operates will create additional expenses not anticipated by the insurer in pricing its products. That is, regulatory initiatives designed to reduce insurer profits, new legal theories or insurance company insolvencies through guaranty fund assessments may create costs for the insurer beyond those recorded in the consolidated financial statements. The Company seeks to mitigate this risk through geographic marketing of their insurance products.
(b) Basis of Financial Statements ----------------------- The financial statements have been prepared on the basis of generally accepted accounting principles ("GAAP"), which vary from reporting practices prescribed or permitted by regulatory authorities.
(d) Investments --------- Effective January 1, 1994, the Company adopted Statement of Financial Accounting Standards No. 115 ("SFAS 115"), "Accounting for Certain Investments in Debt and Equity Securities." SFAS 115 requires that investments in all debt securities and those equity securities with readily determinable market values be classified into one of three categories: held-to-maturity, trading or available-for-sale. Classification of investments is based upon management's current intent. Debt securities which management has a positive intent and ability to hold until maturity are classified as securities held-to-maturity and are carried at amortized cost. Unrealized holding gains and losses on securities held-to-maturity are not reflected in the financial statements. Debt and equity securities that are purchased for short-term resale are classified as trading securities. Trading securities are carried at fair value, with unrealized holding gains and losses included in earnings. All other debt and equity securities not included in the above two categories are classified a securities available-for-sale. Securities available-for-sale are carried at fair value, with unrealized holding gains and losses reported as a separate component of stockholders' equity, net of tax and a valuation allowance against deferred acquisition costs. At December 31, 1995 and 1994, the Company did not have any investments categorized as trading securities. Adoption of this statement had no effect on the income of the Company.
Interest on fixed maturities and short-term investments is credited to income as it accrues on the principal amounts outstanding adjusted for amortization of premiums and discounts computed by the scientific method, which approximates the effective yield method. Realized gains and losses on disposition of investments are included in net income. The cost of investment sold is determined on the specific identification method. Dividends are recorded as income on the ex-dividend dates.
Policy loans and student loans are carried at the unpaid principal balance, less any amounts deemed to be uncollectible. The Company's policy is that policy loans are made for amounts in excess of the cash surrender value of the related policy. Accordingly, policy loans are fully collateralized by the related liability for future policy benefits for traditional insurance policies and by the policyholders' account balance for interest sensitive policies.
(e) Cash and Cash Equivalents ---------------------- For purposes of the statements of cash flows, the Company considers all highly liquid debt instruments purchased with an original maturity of one month or less to be cash equivalents.
(f) Deferred Policy Acquisition Costs --------------------------- The costs of acquiring new business, net of the effects of reinsurance, principally commissions and those home office expenses that tend to vary with and are primarily related to the production of new business, have been deferred. Deferred policy acquisition costs applicable to non-universal life policies are being amortized over the premium-paying period of the related policies in a manner that will charge each year's operations in direct proportion to the estimated receipt of premium revenue over the life of the policies. Premium revenue estimates are made using the same interest, mortality and withdrawal assumptions as are used for computing liabilities for future policy benefits. Acquisition costs relating to universal life policies are being amortized at a constant rate based on the present value of the estimated gross profit amounts expected to be realized over the life of the policies. Beginning January 1, 1994, deferred policy acquisition costs are adjusted to reflect the impact of unrealized gains and losses on fixed maturity securities available for sale.
(h) Future Policy Benefits ------------------ The liability for future policy benefits has been provided on a net level premium based upon estimated investment yields, withdrawals, mortality and other assumptions that were appropriate at the time the policies were issued. Such estimates are based upon industry data and the Company's past experience as adjusted to provide for possible adverse deviation from the estimates.
(i) Recognition of Premium Revenue and Related Costs ----------------------------------------- Premiums are recognized as revenue as follows:
(b) The liability for future policy benefits and expenses is based on conservative estimates of expected mortality, morbidity, interest, withdrawals, and future maintenance and settlement expenses, rather than on statutory rates for mortality and interest.
(e) Deferred income taxes, if applicable, are recognized for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases.
(h) Expenses attributable to the public offering of the common shares have been reclassified from retained earnings to capital in excess of par.
(i) Realized gains or losses on the sale or maturity of investments are included in the statement of income and not recorded net of taxes and amounts transferred to the interest maintenance reserve as required by statutory accounting practices.
(k) Reinsurance assets and liabilities are reported on a gross basis rather than shown on a net basis as permitted by statutory accounting practices.
Under applicable laws and regulations, the Company is required to maintain minimum surplus as to policyholders, determined in accordance with regulatory accounting practices, in the aggregate amount of approximately $1,800,000.
The Risk-Based Capital ("RBC") for Life and/or Health Insurers Model Act (the "Model Act") was adopted by the National Association of Insurance Commissioners (NAIC) in 1992. The main purpose of the Model Act is to provide a tool for insurance regulators to evaluate the capital of insurers. Based on calculations using the appropriate NAIC formula, the Company exceeded the RBC requirements at December 31, 1995.
The amortized cost and estimated fair values of investments in debt securities are as follows:
Certain of the fixed maturity securities classified as available for sale and held to maturity were called during the year ended December 31, 1995 resulting in the following realized gains and losses:
(d) Investments on Deposit ------------------- In order to comply with statutory regulations, investments were on deposit with the Insurance Departments of certain states as follows:
1995 1994 ---- ---- Land $ 982,027 982,027 Building and improvements 2,152,203 2,049,150 Furniture and equipment 1,013,268 1,025,436 ------- ------- 4,147,498 4,056,613 Less accumulated depreciation 1,270,317 1,232,443 ------- ------- $ 2,877,181 2,824,170 ======= =======
Depreciation expense for the years ended December 31, 1995, 1994 and 1993 totaled $150,213, $148,355 and $163,400, respectively.
Mortality and withdrawal assumptions are based upon the Company's experience and actuarial judgment with an allowance for possible unfavorable deviations from the expected experience.
(7) Reinsurance ---------- The Company routinely cedes and, to a limited extent, assumes reinsurance to limit its exposure to loss on any single insured. Ceded insurance is treated as a risk and liability of the assuming companies. As of December 31, 1995, ordinary insurance coverage in excess of $75,000 is reinsured; however, for some policies previously issued, the first $30,000, $40,000 or $50,000 was retained and the excess ceded. The retention limit for some substandard risks is less than $75,000. Reinsured risks would give rise to liability to the Company only in the event that the reinsuring company might be unable to meet its obligations under the reinsurance agreement in force, as the Company remains primarily liable for such obligations. Under these contracts, the Company has ceded premium of $525,662, $585,957 and $510,469 included in reinsurance ceded, and received recoveries of $204,171, $514,868 and $405,293 included in annuity, death and other benefits for the years ended December 31, 1995, 1994 and 1993, respectively.
On December 31, 1992, the Company entered into a reinsurance agreement ceding an 18% share of all universal life policies in force at December 31, 1992 as a measure to manage the future needs of the Company. The reinsurance agreement is a co-insurance treaty entitling the assuming company to 18% of all future premiums, while making the ceding company responsible for 18% of all future claims and policyholder loans relating to the ceded policies. In addition, the Company receives certain commission and expense reimbursements. Assets with a market value approximating the balance of policyholders' account balances less policy loans, on a statutory basis, ceded to the reinsurer are held in trust for benefit of the Company. The market value of those assets was $6,702,079 at December 31, 1995.
As of December 31, 1992, the Company ceded premiums of $5,240,058, equal to the 18% of net statutory reserves ceded on the effective date of the contract. In return, the Company received a commission and expense allowance of $2,497,370. The economic gain on the reinsurance transaction amounted to approximately $1,600,000, however, management deferred approximately $1,000,000 of the gain against deferred acquisition costs as a provision for the recoverability of such costs. Based upon management's and actuarial evaluation of such costs, approximately $200,000, $500,000 and $300,000 of the amount deferred was amortized against deferred acquisition costs during 1995, 1994 and 1993, respectively.
For the years ended December 31, 1995 and 1994, the Company ceded premiums of $675,770 and $758,956, included in reinsurance ceded, and received recoveries of $459,090 and $386,509, included in annuity, death and other benefits, respectively. The funds held in reinsurance treaties with reinsurer of $977,416 and $700,701 represent the 18% share of policy loans ceded to the reinsurer at December 31, 1995 and 1994, respectively.
(10) Income Taxes ----------- As discussed in note 1(j), the Company adopted Statement 109 in 1992 and has applied the provisions of Statement 109 retroactively to January 1, 1991.
Income tax expense for the years ended December 31, 1995, 1994 and 1993 differs from "expected" tax (computed by applying the U.S. federal income tax rate of 35% in 1995 and 1994 and 34% in 1993 to pretax income) as a result of the following:
At December 31, 1995, the balance of the Policyholders' Surplus account aggregated approximately $236,000. The Company has not recorded deferred income taxes totaling approximately $80,000 relating to this amount as it has no plan to distribute the amounts in Policyholders' Surplus in the foreseeable future.
The Tax Reform Act of 1986 enacted a new separate parallel tax system referred to as the Alternative Minimum Tax (AMT) system. AMT is based on a flat rate applied to a broader tax base. It is calculated separately from the regular Federal income tax and the higher of the two taxes is paid. The excess of the AMT over regular tax is a tax credit, which can be carried forward indefinitely to reduce regular tax liabilities of future years. In 1995, 1994 and 1993, AMT exceeded regular tax by $62,600, $14,000 and $49,000, respectively. At December 31, 1995, the AMT tax credit available to reduce future regular tax totaled $333,600.
The tax effect of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 1995 and 1994 are presented below:
(11) Related Party Transactions --------------------- The Company's general agent, Insuradyne Corporation, is a wholly-owned subsidiary of Consolidare Enterprise, Inc., which owns approximately fifty-nine percent (59%) of the Company's outstanding stock. The balances due (to) from affiliated insurance agency reflected in the accompanying balance sheets principally represent unearned commission advances paid to Insuradyne. The Company incurred commission expense to Insuradyne aggregating $422,121, $582,059 and $910,936, in 1995, 1994 and 1993, respectively. These amounts are included as components of acquisition costs deferred and related amortization. Insuradyne incurred insurance-related expenses aggregating $35,271, $192,332 and $230,478 in 1995, 1994 and 1993, respectively.
(12) Agents' Incentive Stock Bonus Plan ----------------------------- The Company had an incentive bonus plan for agents that was adopted in 1983 and effective through December 31, 1990. Bonuses granted under the plan were vesting over a five year period commencing on the fifth anniversary date of the award. Once vested, the agent had the option to receive the bonus in cash or shares of common stock. The number of shares of common stock was determined on the date of the award as the number of whole shares equal to the award based on the applicable stock price on that date.
Investment securities available-for-sale and held-to-maturity: Fair value for fixed maturity and equity securities is based on quoted market prices at the reporting date for those or similar investments.
(14) Legal Proceedings --------------- Lawsuits against the Company have arisen in the normal course of the Company's business. However, contingent liabilities arising from litigation and other matters are not considered material in relation to the financial position of the Company.
(a)Amounts for reinsurance ceded included in the December 31, 1991 balances have not been reclassified out of future policy benefits and policyholders' account balance at December 31, 1993 to reflect the adoption of SFAS No. 113.