Our headquarters are located in Cedar Rapids, Iowa, where we own approximately 183,000 square feet of office and building space that is ready to occupy. We are in the process of constructing improvements to our Cedar Rapids facilities. In addition, we own and lease office and building space, including underwriting and claims offices, throughout the U.S. We believe our existing facilities, both owned and leased, are in good condition and suitable for the conduct of our business.
life insurance, which includes deferred and immediate annuities, universal life products and traditional life (primarily single premium whole life) insurance products.
All of our property and casualty insurance subsidiaries are members of an intercompany reinsurance pooling arrangement. The Company's pooling arrangement permits the participating companies to rely on the capacity of the entire pool's capital and surplus, rather than being limited to policy exposures of a size commensurate with each participant’s own surplus level.
multi-year Oasis project to upgrade our technology platform to enhance core underwriting decisions, selection of risks and productivity. The increase in net premiums earned is due to organic growth from a combination of new business and geographical expansion and from rate increases.
The following table shows our premiums written and earned from continuing operations for 2018, 2017 and 2016:
Direct premiums written from continuing operations increased $46.5 million in 2018 as compared to 2017 due to organic growth from a combination of new business and geographical expansion and from rate increases. Written and earned premium growth were within management's expectations of 3 percent to 5 percent growth.
Direct premiums written from continuing operations increased $59.1 million in 2017 as compared to 2016 due to organic growth from a combination of new business and geographical expansion. Written and earned premium growth were within management's expectations of 4 percent to 6 percent growth.
Direct and assumed premiums written are reduced by the ceded premiums that we pay to reinsurers. For 2018, we ceded 9.0 percent more premiums to reinsurers as a result of continued growth in direct premiums written. For 2017, we ceded 5.7 percent more premiums to reinsurers as a result of continued growth in direct premiums written offset by declining ceded reinsurance rates.
We control our direct insurance exposures in regions that are prone to naturally occurring catastrophic events through a combination of geographic diversification, restrictions on the amount and location of new business production in such regions, and reinsurance. We regularly assess our concentration of risk exposures in natural catastrophe exposed areas. We have strategies and underwriting standards to manage these exposures through individual risk selection, subject to regulatory constraints, and through the purchase of catastrophe reinsurance coverage. We use catastrophe modeling and a risk concentration management tool to monitor and control our accumulations of potential losses in natural catastrophe exposed areas of the United States, such as the Gulf and East Coasts, as well as in areas of exposure in other countries where we are exposed to a portion of an insurer's underwriting risk under our assumed reinsurance contracts.
The process of estimating and establishing reserves for losses incurred from catastrophic events is inherently uncertain and the actual ultimate cost of a claim, net of reinsurance recoveries, may vary materially from the estimated amount reserved. Although we reinsure a portion of our exposure, reinsurance may prove to be inadequate if a major catastrophic event exceeds our reinsurance limits or if we experience a number of small catastrophic events that individually fall below our reinsurance retention level.
In 2018, 2017 and 2016, we did not exceed our catastrophe reinsurance retention level of $20.0 million per event.
The Terrorism Risk Insurance Program Reauthorization Act of 2007 was signed into law on December 27, 2007. In January 2015, TRIPRA was signed into law. TRIPRA extends the Terrorism Risk Insurance Program until December 31, 2020; gradually increases the coverage trigger for shared terrorism losses between the federal government and the insurance industry to $200 billion per year (up from $100 billion); and gradually increases the industry-wide retention to $37.5 billion per year (up from $27.5 billion). TRIPRA coverage includes most direct commercial lines of business, including coverage for losses from nuclear, biological and chemical exposures if coverage was afforded by an insurer, with exclusions for commercial automobile insurance, burglary and theft insurance, surety, professional liability insurance and farm owners multiple peril insurance. Under TRIPRA, each insurer has a deductible amount, which is 20.0 percent of the prior year's direct commercial lines earned premiums for the applicable lines of business, and retention of 15.0 percent above the deductible. No insurer that has met its deductible shall be liable for the payment of any portion of that amount that exceeds the annual aggregate loss cap specified in TRIPRA. TRIPRA provides marketplace stability. As a result, coverage for terrorist events in both the insurance and reinsurance markets is often available. The amount of aggregate losses necessary for an act of terrorism to be certified by the U.S. Secretary of Treasury, the Secretary of State and the Attorney General was $100.0 million for 2018 and remains the same for 2019. Our TRIPRA deductible was $136.4 million for 2018 and our TRIPRA deductible is expected to be $137.3 million for 2019. Our catastrophe and non-catastrophe reinsurance programs provide limited coverage for terrorism exposure excluding nuclear, biological and chemical-related claims.
In 2017, our losses and loss settlement expenses were 11.2 percent percent higher than 2016 and our net loss ratio increased 3.1 points due to an increase in catastrophe losses, which accounted for 0.9 percentage points of the increase, and an increase in large losses over $500 thousand in our commercial automobile lines of business in the first three quarters of 2017 and an increase in losses in our personal lines of business, primarily in personal auto and fire and allied lines of business. Catastrophe losses increased to $74.0 million in both our direct business and assumed reinsurance business as compared to $61.2 million in 2016.
The property and casualty insurance business experienced $54.2 million of favorable development in our net reserves for prior accident years for the year ended December 31, 2018. The majority of favorable development came from four lines, workers' compensation with $27.0 million favorable development, reinsurance assumed with $15.6 million favorable development, commercial automobile with $9.5 million favorable development, and fidelity and surety with $2.8 million favorable development. The only individual line with unfavorable development was commercial liability with $3.7 million of unfavorable development. Workers' compensation favorable development was primarily from reserve reductions for both reported claims and loss IBNR which were more than sufficient to offset paid loss with additional favorable development coming from loss adjustment expenses ("LAE") where the LAE IBNR reduction was more than sufficient to offset paid LAE which continues to benefit from additional litigation management efforts when compared to prior years. Reinsurance assumed favorable development is attributable reductions in reserves for both reported claims and loss IBNR as we reviewed our book of business and
The property and casualty insurance business experienced $54.3 million of favorable development in our net reserves for prior accident years for the year ended December 31, 2017. The majority of favorable development came from two lines, commercial liability with $35.1 million favorable development and workers' compensation with $19.2 million favorable development, partially offset by $6.3 million of unfavorable development for assumed reinsurance. All other lines combined $6.3 million favorable development with no single line experiencing more than $3.7 million of development, either favorable or unfavorable. Much of the favorable long-tail liability development continues to come from loss adjustment expense and is attributed to our continued litigation management efforts. There was also a reduction in reserves for incurred but not reported claims because our long tail liability has experienced fewer late reported claims than what was initially anticipated. The favorable workers' compensation development is due to the combination of reductions in reserves for reported claims and reductions in reserves for incurred but not reported claims for both loss and loss adjustment expense.
The property and casualty insurance business experienced $31.2 million of favorable development in our net reserves for prior accident years for the year ended December 31, 2016. The majority of favorable development came from two lines: commercial liability with $25.4 million of favorable development and workers' compensation with $12.2 million of favorable development. The favorable development was offset by unfavorable development from commercial fire & allied lines with $6.4 million of unfavorable development and commercial automobile with $5.5 million of unfavorable development. During the twelve-month period ended December 31, 2016 all other lines combined development was $5.5 million of favorable development. The favorable development for the year ended December 31, 2016, is attributable to reductions in reserves for loss adjustment expense which continues to benefit from successful management of litigation expenses.
this region. For the majority of our residential contractors we limit the size of any tracts the contractor is working on to 25 homes or less and do not include a continuous trigger with our designated work exclusion. In a majority of the policies in our small service, repair and remodel contractors program, we have a favorable new residential construction exclusion. We also apply strict guidelines when additional insured forms are required and changed our underwriting guidelines to limit our exposure to large, multi-party construction defect claims.
The net loss ratio improved 8.1 percentage points in 2018 compared to 2017. The improvement in 2018 is attributable to a decrease in catastrophe losses, a decrease in frequency of claims partially offset by an increase in severity of losses, a decrease in paid losses and a lower increase in reserves for incurred but not reported claims. The net loss ratio in 2017 was comparable to 2016, with a slight improvement 1.3 percentage points.
Our commercial automobile insurance covers physical damage to an insured's vehicle, as well as liabilities to third parties. Automobile physical damage insurance covers loss or damage to vehicles from collision, vandalism, fire, theft, flood or other causes. Automobile liability insurance covers bodily injury, damage to property resulting from automobile accidents caused by the insured, uninsured or underinsured motorists and the legal costs of defending the insured against lawsuits.
Although we have seen steady improvement in the net loss ratio for the last two years in our worker's compensation line of business, competitive market conditions continued in 2018, putting downward pressure on rates. The challenges faced by workers' compensation insurance providers to attain profitability include the regulatory climates in some states that make it difficult to obtain appropriate premium rate increases and inflationary medical costs. Consequently, we have increased the utilization of our loss control unit in the analysis of current risks, with the intention of increasing the quality of our workers' compensation book of business. We are currently using these modeling analytics to assist us in risk selection, and we will continue to evaluate the model results.
estimating the cost to complete the remaining work and to pay the contractor's unpaid bills, offset by contract funds due to the contractor, reinsurance, and the value of any collateral to which we may have access.
Our assumed reinsurance is the business we choose to write by participating in programs insuring insurance companies. The net loss ratio decreased in 2018 compared to 2017 as we remain conservative in our reserving approach, and during the year we reviewed our book of business and released excess reserves. The net loss ratio deteriorated in 2017, as compared to 2016, primarily due to expected claims from three hurricanes (Harvey, Irma, and Maria) as well as expected claims from California wildfires.
In 2018, 2017 and 2016, we renewed our participation in all of our assumed programs.
Our underwriting expense ratio, which is a percentage of other underwriting expenses over net premiums earned, was 33.5 percent, 31.2 percent and 30.6 percent for 2018, 2017, and 2016, respectively. The underwriting expense ratio increased in 2018 primarily due to our continued investment in our multi-year Oasis project to upgrade our technology platform to enhance core underwriting decisions, selection of risks and productivity.
The underwriting expense ratio increased in 2017 primarily due to a deterioration in the profitability of the commercial and personal auto lines of business, which limits the amount of expenses which can be deferred into our deferred acquisition costs, partially offset by a decrease in post-retirement benefit expenses.
The sale of our discontinued operations closed on March 30, 2018, and therefore income was only earned in the first quarter of 2018. For the year ended December 31, 2018, our discontinued operations had a loss before income taxes of $1.3 million, compared to income before income taxes of $10.6 million and $1.2 million for the same period of 2017 and 2016, respectively.
We reported a federal income tax benefit on a consolidated basis of $3.3 million or 13.5 percent of pre-tax income in 2018. In 2017, we reported a federal income tax benefit on a consolidated basis of $24.7 million or 94.1 percent of pre-tax income and federal income tax expense of $8.8 million or 14.9 percent of pre-tax income in 2016. In 2017 our effective tax rate was impacted by the Tax Act, which was enacted on December 22, 2017. The Tax Act significantly revised the U.S. corporate income tax laws including lowering the U.S. federal corporate tax rate from 35% to 21% effective January 1, 2018. Our effective federal tax rate varied from the statutory federal income tax expense rate in each year, due primarily to our portfolio of tax-exempt securities.
Due to our determination that we may not be able to fully realize the benefits of the net operating loss ("NOL") acquired in the purchase of American Indemnity Financial Corporation, which are only available to offset the future taxable income of our property and casualty insurance operations and are further limited as to the amount that can be utilized in any given year, we have recorded a valuation allowance against these NOLs. Based on a yearly review, we determine whether the benefit of the NOLs can be realized, and, if so, the decrease in the valuation allowance is recorded as a reduction to current federal income tax expense. If NOLs expire during the year, the decrease in the valuation allowance is offset with a corresponding decrease to the deferred income tax asset. The valuation allowance was reduced by $0.7 million in 2018 due to the realization of $3.1 million in NOLs. During 2018, the remaining NOL from the purchase of American Indemnity Financial Corporation was fully realized.
Our invested assets from continuing operations at December 31, 2018 totaled $2.1 billion, compared to $1.9 billion at December 31, 2017, an increase of $185.2 million. At December 31, 2018, fixed maturity securities and equity securities comprised 85.0 percent and 12.0 percent of our investment portfolio, respectively. Because the primary purpose of the investment portfolio is to fund future claims payments, we utilize a conservative investment philosophy, investing in a diversified portfolio of high-quality, intermediate-term taxable corporate bonds, taxable U.S. government and government agency bonds and tax-exempt U.S. municipal bonds. Our overall investment strategy is to stay fully invested (i.e., minimize cash balances). If additional cash is needed we have an ability to borrow funds available under our revolving credit facility.
At December 31, 2018, we classified $1.7 billion, or 99.2 percent, of our fixed maturities portfolio as available-for-sale, compared to $1.5 billion, or 98.9 percent, at December 31, 2017. Available-for-sale fixed maturity securities are carried at fair value, with changes in fair value recognized as a component of accumulated other comprehensive income in stockholders' equity. We record fixed maturity trading securities, primarily convertible redeemable preferred debt securities, and equity securities at fair value, with any changes in fair value recognized in earnings.
As of December 31, 2018 and 2017, we did not have direct exposure to investments in subprime mortgages or other credit enhancement vehicles.
The following table shows the composition of fixed maturity securities held in our available-for-sale, held-to-maturity and trading security portfolios by credit rating for both continuing and discontinued operations at December 31, 2018 and 2017. Information contained in the table is generally based upon the issue credit ratings provided by Moody's, unless the rating is unavailable, in which case we obtain it from Standard & Poor's.
The weighted average effective duration of our portfolio of fixed maturity securities was 5.1 years at December 31, 2018 compared to 5.0 years at December 31, 2017.
Changes in unrealized gains and losses on available-for-sale fixed-maturity securities do not affect net income and earnings per share but do impact comprehensive income, stockholders' equity and book value per share. We believe that any unrealized losses on our available-for-sale fixed-maturity securities at December 31, 2018 are temporary based upon our current analysis of the issuers of the securities that we hold and current market conditions. It is
The following table details our annualized yield on average invested assets from continuing operations for 2018, and both continuing and discontinued operations for 2017 and 2016, which is based on our invested assets (including money market accounts) at the beginning and end of the year divided by net investment income:
The increase in net unrealized investment gains in 2017 is primarily the result of a decrease in interest rates, which positively impacted the valuation of our fixed maturity security portfolio during 2017 and an increase in the fair value of our equity security portfolio. Our net unrealized investment gains also increased due to the decrease in the tax rate from the Tax Act enactment.
The following table details the effect on the fair value of our investments in equity securities for a positive and negative 10 percent price change at December 31, 2018:
Credit risk is the willingness and ability of a borrower to repay on time and in full any principal and interest due to the lender. Losses related to credit risk are realized through the income statement and have a direct impact on the earnings of UFG. Given the vast majority of our holdings are fixed income maturity securities, we view credit risk as our primary investment risk. Our internal Investment Department has developed and maintains a rigorous underwriting process to analyze and measure the expected frequency and severity of loss (i.e., credit quality) for government, agency, municipal, structured security, and corporate bond issuers. The objective is to maintain the appropriate balance of risk in our portfolio, consistent with our Investment Policy Statement and conservative investment style, and ensure the portfolio is compensated appropriately for the credit risk it holds. We do have within our municipal bond holdings a small number of securities whose ratings were enhanced by third-party insurance for the payment of principal and interest in the event of an issuer default. Of the insured municipal securities in our investment portfolio, 99.5 percent and 99.1 percent were rated "A" or above, and 94.7 percent and 93.7 percent were rated "AA" or above at December 31, 2018 and 2017, respectively, without the benefit of insurance. Due to the underlying financial strength of the issuers of the securities, we believe that the loss of insurance would not have a material impact on our operations, financial position, or liquidity.
We monitor our capital adequacy to support our business on a regular basis. The future capital requirements of our business will depend on many factors, including our ability to write new business successfully and to establish premium rates and reserves at levels sufficient to cover losses. Our ability to underwrite is largely dependent upon the quality of our claims paying and financial strength ratings as evaluated by independent rating agencies. In
Historically, we have generated substantial cash inflows from operations. It is our policy to invest the cash generated from operations in securities with maturities that, in the aggregate, correlate to the anticipated timing of payments for losses and loss settlement expenses. The majority of our assets are invested in available-for-sale fixed maturity securities.
In the Consolidated Statement of Cash Flows, cash flows from discontinued operations are shown in separate lines in each of the operating, investing and financing sections of the Cash Flow Statement. Our cash flows from continuing operations were sufficient to meet our current liquidity needs for the full-year periods ended December 31, 2018, 2017 and 2016 and we anticipate they will be sufficient to meet our future liquidity needs.
Net cash flows provided by operating activities totaled $110.1 million, $170.1 million and $214.4 million in 2018, 2017 and 2016, respectively. Our cash flows from operations were sufficient to meet our liquidity needs for 2018, 2017 and 2016.
Cash in excess of operating requirements is generally invested in fixed maturity securities and equity securities. Fixed maturity securities provide regular interest payments and allow us to match the duration of our liabilities. Equity securities provide dividend income, potential dividend income growth and potential appreciation. For further discussion of our investments, including our philosophy and portfolio, see the "Investment Portfolio" section contained in this Item.
In addition to investment income, possible sales of investments and proceeds from calls or maturities of fixed maturity securities also can provide liquidity. During the next five years, $0.3 billion, or 15.8 percent of our fixed maturity portfolio will mature.
We invest funds required for short-term cash needs primarily in money market accounts, which are classified as cash equivalents. At December 31, 2018, our cash and cash equivalents included $3.3 million related to these money market accounts, compared to $16.8 million at December 31, 2017.
Dividends paid to shareholders totaled $105.4 million, $27.3 million and $24.6 million in 2018, 2017 and 2016, respectively. The increase in dividends paid to shareholders is primarily due to a special cash dividend of $3.00 per share paid to shareholders on August 20, 2018. Our practice has been to pay quarterly cash dividends, which we have paid every quarter since March 1968.
As a holding company with no independent operations of its own, United Fire Group, Inc. relies on dividends received from its insurance company subsidiaries in order to pay dividends to its common shareholders. Dividends payable by our insurance subsidiaries are governed by the laws in the states in which they are domiciled. In all cases, these state laws permit the payment of dividends only from earned surplus arising from business operations. For example, under Iowa law, the maximum dividend or distribution that may be paid within a 12-month period without prior approval of the Iowa Insurance Commissioner is generally restricted to the greater of 10 percent of statutory surplus as of the preceding December 31, or net income of the preceding calendar year on a statutory basis, not greater than earned statutory surplus. Other states in which our insurance company subsidiaries are domiciled may impose similar restrictions on dividends and distributions. Based on these restrictions, at December 31, 2018, our insurance company subsidiary, United Fire & Casualty, is able to make a minimum of $106.2 million in dividend payments without prior regulatory approval. These restrictions are not expected to have a material impact in meeting our cash obligations. On June 20, 2018, the Company sought approval from the Iowa Insurance Commissioner for a proposed ordinary dividend of $50.7 million and extraordinary dividend of $39.3 million, for a total of $90.0 million. The Company received approval from Iowa Insurance Commissioner on July 9, 2018 and subsequently paid a $3.00 per share special dividend or a total of $75.2 million to shareholders on August 20, 2018.
During 2018, 2017 and 2016, pursuant to authorization by our Board of Directors, we repurchased 120,372, 701,899, and 90,415 shares of our common stock, respectively, which used cash totaling $5.4 million in 2018, $29.8 million in 2017 and $3.7 million in 2016. At December 31, 2018, we were authorized to purchase an additional 2,116,200 shares of our common stock under our share repurchase program, which expires in August 2020.
We offer our agents a profit-sharing plan as an incentive for them to place high-quality property and casualty insurance business with us. Based on business produced by the agencies in 2018, property and casualty agencies will receive profit-sharing payments of $21.4 million in 2019.
Actual future results could differ materially from our assumptions used to calculate the recorded DAC asset. Changes in our assumed loss and loss settlement expense ratios in the future would impact the amount of deferred costs in the period such changes in assumptions are made. The premium deficiency charge calculated for the quarter ended December 31, 2018 was $4.3 million compared to the premium deficiency charge of $6.1 million calculated for the same period of 2017.
Reserves for losses and loss settlement expenses are reported using our best estimate of ultimate liability for claims that occurred prior to the end of any given reporting period, but have not yet been paid. Before credit for reinsurance recoverables, these reserves were $1,312.5 million and $1,224.2 million at December 31, 2018 and 2017, respectively. We purchase reinsurance to mitigate the impact of large losses and catastrophic events. Loss and loss settlement expense reserves ceded to reinsurers were $57.1 million for 2018 and $59.9 million for 2017. Our reserves, before credit for reinsurance recoverables, by line of business as of December 31, 2018, were as follows:
There are three distinct types of reserves ceded to reinsurers: (1) reported claim reserves, (2) loss IBNR, and (3) LAE IBNR. Ceded reserves for reported claims are calculated by subtracting the primary retention from the claim value established by our claim adjuster. Ceded loss IBNR originates solely from our boiler and machinery business which is 100 percent reinsured. For this business ceded loss IBNR is equal to direct loss IBNR. Boiler and machinery business is included in our commercial fire and allied line of business. We will cede some LAE expenses when we cede loss. Our ceded LAE IBNR is estimated based on our ceded unpaid loss reserves and the general relation, by line of business, between LAE and loss. Our primary retention was $2.0 million for 2012 through 2015 and increased to $2.5 million for 2016 through 2018.
As an example, if our loss and loss settlement expense reserves of $1,312.5 million as of December 31, 2018, is 10.0 percent inadequate, we would experience a reduction in future pre-tax earnings of up to $131.2 million. This reduction could be recorded in one year or multiple years, depending on when we identify the deficiency. The deficiency would also affect our financial position in that our equity would be reduced by an amount equivalent to the reduction in net income. Any deficiency that would be recognized in our loss and loss settlement expense reserves usually does not have a material effect on our liquidity because the claims have not been paid. Conversely, if our estimates of ultimate unpaid loss and loss settlement expense reserves prove to be redundant, our future earnings and financial position would be improved. We believe our reserving philosophy, coupled with what we believe to be aggressive and successful claims management and loss settlement practices, has resulted in year-to-year redundancies in reserves. We believe our approach produces recorded reserves that are reasonable as to their relative position within a range of reasonable reserves from year-to-year.
Our reserve for other liability claims at December 31, 2018, was $549.8 million and consisted of 6,542 claims, compared with $497.1 million, consisting of 6,336 claims at December 31, 2017. Of the $549.8 million total reserve for other liability claims, $143.4 million is identified as defense costs and $31.0 million is identified as general overhead required in the settlement of claims.
Included in the other liability line of business are gross reserves for construction defect losses and loss settlement expenses. Construction defect is a liability allegation relating to defective work performed in the construction of structures such as commercial buildings, apartments, condominiums, single family dwellings or other housing, as well as the sale of defective building materials. These claims seek recovery due to damage caused by alleged deficient construction techniques or workmanship. At December 31, 2018, we had $44.5 million in construction defect loss and loss settlement expense reserves, excluding IBNR reserves that are calculated for the overall other liability commercial line, which consisted of 2,706 claims. At December 31, 2017, our reserves, excluding IBNR reserves, totaled $34.4 million, which consisted of 1,857 claims. The reporting of such claims can be delayed, as the statute of limitations can be up to 10 years. Court decisions in recent years have expanded insurers' exposure to construction defect claims. As a result, claims may be reported more than 10 years after a project has been completed, as litigation can proceed for several years before an insurance company is identified as a potential contributor. Claims have also emerged from parties claiming additional insured status on policies issued to other parties, such as contractors seeking coverage from a subcontractor's policy.
Like the other liability line of business, workers' compensation losses and loss settlement expense reserves are based upon variables that create imprecision in estimating the ultimate reserve. Estimates for workers' compensation are particularly sensitive to assumptions about medical cost inflation, which has been steadily increasing over the past few years. Other variables that we consider and that contribute to the uncertainty in establishing reserves for workers' compensation claims include: state legislative and regulatory environments; trends in jury awards; and mortality rates. Because of these variables, the process of reserving for the ultimate loss and loss settlement expense to be incurred requires the use of informed judgment and is inherently uncertain. Consequently, actual loss and loss settlement expense reserves may deviate from our estimates. Such deviations may be significant. Our reserve for workers' compensation claims at December 31, 2018 was $210.7 million and consisted of 4,337 claims, compared with $211.3 million, consisting of 4,844 claims, at December 31, 2017.
In 2018, 2017 and 2016, we recognized a favorable development in our net reserves for prior accident years totaling $54.2 million, $54.3 million and $31.2 million, respectively.
It is management's policy to utilize staff adjusters to develop our estimate of case-basis loss reserves. IBNR and loss settlement expense reserves are established through various formulae that utilize pertinent, recent Company historical data. The calculations are supplemented with knowledge of current trends and events that could result in adjustments to the level of IBNR and loss settlement expense reserves. On a quarterly basis, we compare our estimate of total reserves to the estimates prepared by Regnier by line of business to ensure that our estimates are within the actuary's acceptable range. Regnier performs a review of loss and loss settlement expense reserves at each year end using generally accepted actuarial guidelines to ensure that the recorded reserves appear reasonable. Our net reserves for losses and loss settlement expenses as of December 31, 2018 and 2017 were $1,255.4 million and $1,164.3 million, respectively. In 2018 and 2017, after considering the independent actuary's range of reasonable estimates, management believes that carried reserves were reasonable and therefore did not adjust the recorded amount.
The change in net unrealized appreciation is net of reclassification adjustments and income taxes.
United Fire Group, Inc. ("UFG", "United Fire", the "Registrant", the "Company", "we", "us", or "our") and its consolidated subsidiaries and affiliates are engaged in the business of writing property and casualty insurance through a network of independent agencies. Our insurance company subsidiaries are licensed as a property and casualty insurer in 46 states, plus the District of Columbia.
In 2018, due to the change in accounting principle adopted on January 1, 2018 described in this section under "Recently Issued Accounting Standards," investments in equity securities, which include common and non-redeemable preferred stocks are recorded at fair value with changes in value recorded as a component of income. Prior to 2018, the change in the fair value of equity securities were held as available-for-sale securities and were reported as a component of accumulated other comprehensive income, net of applicable deferred income taxes, in stockholders' equity.
Changes in unrealized appreciation and depreciation, with respect to available-for-sale fixed maturities are reported as a component of accumulated other comprehensive income, net of applicable deferred income taxes, in stockholders' equity. Changes in unrealized appreciation and depreciation, with respect to trading securities, are reported as a component of income.
Other long-term investments consist primarily of our interests in limited liability partnerships that are recorded on the equity method of accounting. Included in investments at December 31, 2018 and 2017, are securities on deposit with, or available to, various regulatory authorities as required by law, with fair values of $20,456 and $1,492,928 respectively.
Our continuing operations property and casualty insurance policy acquisition costs deferred are amortized as premium revenue is recognized. The method followed in computing DAC limits the amount of such deferred costs to their estimated realizable value. This takes into account the premium to be earned, losses and loss settlement expenses expected to be incurred and certain other costs expected to be incurred as the premium is earned. This calculation is performed by line of business in a manner consistent with how the policies are currently being marketed and managed.
In March 2017, the FASB issued guidance on the presentation of net periodic benefit costs of defined benefit retirement benefit plans in the Statements of Income. The new guidance requires the service cost component of net periodic benefit cost of defined benefit plans to be presented in the same line in the Statements of Income as other employee compensation expenses. Also, under the new guidance, the service cost component of the net periodic benefit costs will be the only portion of costs subject to be capitalized in assets. The new guidance is effective for annual periods beginning after December 15, 2017 and interim periods within those years. The Company adopted the new guidance as of January 1, 2018. The adoption of the new guidance resulted in a change in the capitalization of deferred acquisition costs to only include the pension and post retirement service costs in place of the total net periodic benefit costs. The adoption had an immaterial impact on the Company's financial position and results of operations. Additionally, the adoption did not impact the Company's presentation in the Statements of Income as all net periodic benefit costs and employee compensation expenses are included within the same category in the Statements of Income.
In August 2018, the FASB issued guidance to align the requirements for capitalizing implementation costs incurred in a cloud computing hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The guidance requires the Company to determine which implementation costs to capitalize as an asset related to the service contract and which costs to expense. The new guidance is effective for annual and interim periods beginning after December 15, 2019. The Company will adopt the new guidance as of January 1, 2020. Management currently believes that the adoption will not have an impact on the Company's financial position or results of operations.
The Company has an inventory of its operating leases and has calculated the total undiscounted future minimum lease payments, which are disclosed in Note 13 "Lease Commitments" of this report. The Company estimates the present value of future minimum lease payments at December 31, 2018 is $20.1 million, which represents less than 1.0 percent of the Company's total assets at December 31, 2018. The Company will record this amount as a lease liability on their Balance Sheets on January 1, 2019 and an estimated right-of-use asset of $19.7 million. The Company used their incremental borrowing rate of their credit facility described in Note 14 "Credit Facility" of this Form 10-K, as the discount rate for calculating the present value of the future minimum lease payments where appropriate. For leases that existed prior to the date of initial application or have terms which are not similar to the terms of the credit facility, the Company has elected to use the remaining lease term as of the date of initial application to measure its incremental borrowing rate. In this case, the incremental borrowing rate will be based on current industry borrowing rates for similar Companies with similar ratings.
modify existing disclosures, but will not have an impact on the Company's financial position and results of operations.
The following table is a reconciliation of the amortized cost (cost for equity securities) to fair value of investments in held-to-maturity and available-for-sale fixed maturity and equity securities for continuing and discontinued operations by investment type at December 31, 2017.
The amortized cost and fair value of held-to-maturity, available-for-sale and trading fixed maturity securities at December 31, 2018, by contractual maturity, are shown in the following table. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Asset-backed securities, mortgage-backed securities and collateralized mortgage obligations may be subject to prepayment risk and are therefore not categorized by contractual maturity.
The proceeds and gross realized gains (losses) on the sale of available-for-sale fixed maturity securities from continuing operations for 2018, 2017 and 2016, are as follows:
The proceeds and gross realized gains (losses) on the sale of available-for-sale fixed maturity securities from discontinued operations for 2018, 2017 and 2016, are as follows:
Our investment portfolio includes trading securities with embedded derivatives. These securities are primarily convertible securities which are recorded at fair value. Income or loss, including the change in the fair value of these trading securities, is recognized currently in earnings as a component of net realized investment gains and losses. Our portfolio of trading securities had a fair value of $13,240 and $16,842 at December 31, 2018 and 2017, respectively.
At December 31, 2018, pursuant to an agreement with our limited liability partnership investments, we are contractually committed to make capital contributions up to $22,301 upon request of the partnerships through July 31, 2028.
The Company formed a rabbi trust in 2014 to fund obligations under the United Fire & Casualty Company Non-qualified Deferred Compensation Plan and United Fire Group Supplemental Executive Retirement and Deferral Plan (collectively the "Executive Retirement Plans"). Within the rabbi trust, corporate-owned life insurance ("COLI") policies are utilized as an investment vehicle and source of funding for the Company's Executive Retirement Plans. The COLI policies invest in mutual funds, which are priced daily by independent sources. As of December 31, 2018, the cash surrender value of the COLI policies was $4,907, which is equal to the fair value measured using Level 2 inputs, based on the underlying assets of the COLI policies, and is included in other assets in the Consolidated Balance Sheets.
The following tables present the categorization for our financial instruments measured at fair value on a recurring basis. The tables include financial instruments from both continuing and discontinued operations at December 31, 2018 and 2017:
The following tables are a reconciliation for both continuing and discontinued operations of the presentation of the categorization for our financial instruments measured at fair value on a recurring basis at December 31, 2017:
At least annually, we review the methodologies and assumptions used by our valuation service providers and verify that they are reasonable and representative of the fair value of the underlying securities held in the investment portfolio. We validate the prices obtained from independent pricing services and brokers prior to their use for reporting purposes by evaluating their reasonableness on a monthly basis. Our validation process includes a review for unusual fluctuations. Unusual fluctuations outside of our expectations are independently corroborated with additional third-party sources that use similar valuation techniques as discussed above. In addition, we also test the all securities in the portfolio and independently corroborate the valuations obtained from our third-party valuation service providers. We also perform deep dive analysis of the pricing method used by our third-party valuation service provider by selecting a random sample of securities by asset class. In our opinion, the pricing obtained at December 31, 2018 and 2017 was reasonable.
The following tables present the carrying value of our commercial mortgage loans and additional information at December 31, 2018 and 2017:
The commercial mortgage loans originate with an initial loan-to-value ratio to provide sufficient collateral to absorb losses should a loan be required to foreclose. Mortgage loans are evaluated on a quarterly basis for impairment on an individual basis through a monitoring process and review of key credit indicators, such as economic trends, delinquency rates, property valuations, occupancy and rental rates and loan-to-value ratios. A loan is considered impaired when the Company believes it will not collect the contractual principal and interest set forth in the contractual terms of the loan. A valuation allowance is established on each loan recognizing a loss for amounts which we believe will not be collected according to the contractual terms of the respective loan agreement. For the year end December 31, 2018 the Company had a valuation allowance of $46.
In 2018, we renewed our participation in all of our assumed programs. Loss and loss settlement expenses decreased in 2018 compared to 2017 as we remain conservative in our reserving approach, and during the year we reviewed our book of business and released excess reserves. During 2018 for ceded business, ceded loss and loss settlement expenses decreased primarily due to commercial auto, commercial property, and catastrophe losses staying in our retention lowering our ceded recoverable amounts.
In 2017, we renewed our participation in all of our assumed programs. Loss and loss settlement expenses ceded increased in 2017 as compared to 2016, primarily due to an increase in severity of commercial auto losses, assumed reinsurance losses and catastrophe losses.
The significant drivers of the favorable reserve development in 2016 were our commercial liability and workers' compensation lines of business. Much of the favorable commercial liability development came from loss adjustment expense and is attributed to our continued litigation management efforts. Workers' compensation favorable development was due to the combined effects of decreases in claim reserves along with favorable changes affecting loss adjustment expense. Loss adjustment expense, closely tied to loss, generally decreases when loss decreases. Commercial property, commercial automobile and assumed reinsurance lines of business exhibited adverse development which provided a partial offset to the favorable development previously noted. The adverse development for all three lines is due to paid loss which was greater than reductions in reported loss reserves and reserves for claims incurred but not reported. No other single line of business contributed a significant portion of the total development.
Statutory capital and surplus in regards to policyholders at December 31, 2018, 2017 and 2016 and statutory net income (loss) for the years then ended are as follows:
We paid dividends to our common shareholders of $105,408, $27,337 and $24,591 in 2018, 2017 and 2016, respectively. Payments of any future dividends and the amounts of such dividends, however, will depend upon factors such as net income, financial condition, capital requirements, and general business conditions. We will only pay dividends if declared by our Board of Directors, out of funds legally available, and subject to any other restrictions that may be applicable to us.
A reconciliation of income tax expense (benefit) computed at the applicable federal tax rate of 21.0 percent in 2018 and 35.0 percent in 2017 to the amount recorded in the accompanying Consolidated Statements of Income and Comprehensive Income is as follows:
Due to our determination that we may not be able to fully realize the benefits of the net operating losses ("NOLs") acquired in the purchase of American Indemnity Financial Corporation in 1999, which are only available to offset the future taxable income of our property and casualty insurance operations and are further limited as to the amount that can be utilized in any given year, we did not record a valuation allowance against these NOLs at December 31, 2018. At December 31, 2017 we recorded a valuation allowance against these NOLs of $329. Based on a yearly review, we determine whether the benefit of the NOLs can be realized, and, if so, the decrease in the valuation allowance is recorded as a reduction to current federal income tax expense. If NOLs expire during the year, the decrease in the valuation allowance is offset with a corresponding decrease to the deferred income tax asset. The valuation allowance was reduced by $657 during 2018 due to the realization of $3,129 in NOLs. The valuation allowance was reduced by $547 in 2017 due to no realization of NOLs. At December 31, 2018, there are no remaining NOL's. At December 31, 2018, we had no alternative minimum tax credit carryforwards.
A group annuity contract that is administered by United Life, a former subsidiary of United Fire; and
As of December 31, 2018, we had six external investment managers that are allowed to exercise investment discretion, subject to limitations, if any, established by the investment/retirement committee. We utilize multiple investment managers in order to maximize the pension plan's investment return while mitigating risk. None of our investment managers uses leverage in managing the pension plan. Annually, the investment/retirement committee meets with each investment manager to review the investment manager's goals, objectives and the performance of the assets they manage. The decision to establish or terminate a relationship with an investment manager is at the discretion of our investment/retirement committee.
The following tables present the categorization of the pension plan's assets measured at fair value on a recurring basis at December 31, 2018 and 2017:
Our accumulated pension benefit obligation was $183,317 and $184,436 at December 31, 2018 and 2017, respectively.
We have a profit-sharing plan in which employees who meet service requirements are eligible to participate. The amount of our contribution is discretionary and is determined annually, but cannot exceed the amount deductible for federal income tax purposes. Our contribution to the profit-sharing plan for 2018, 2017 and 2016, was $7,607, $4,987 and $2,904, respectively.
The United Fire Group, Inc. 2005 Non-Qualified Non-Employee Director Stock Option and Restricted Stock Plan (the "Director Plan") authorizes the issuance of restricted stock awards and non-qualified stock options to purchase shares of United Fire's common stock to non-employee directors. At December 31, 2018, we had 49,163 authorized shares available for future issuance.
The analysis below details the option award activity for 2018 and the awards outstanding at December 31, 2018, for both of our plans and ad hoc options, which were granted prior to the adoption of the other plans:
Intrinsic value is the difference between our share price on the last day of trading (i.e., December 31, 2018) and the price of the options when granted and represents the value that would have been received by option holders had they exercised their options on that date. These values change based on the fair market value of our shares. The intrinsic value of options exercised totaled $5,850, $3,159 and $4,339 in 2018, 2017 and 2016, respectively.
In 2018, 2017 and 2016 we recognized $3,877, $2,987 and $1,766, respectively, in compensation expense related to the restricted stock and restricted stock unit awards. At December 31, 2018, we had $4,589 in compensation expense that has yet to be recognized through our results of operations related to the restricted stock and restricted stock unit awards. The intrinsic value of the non-vested restricted stock and restricted stock unit awards outstanding totaled $15,746 and $12,206 at December 31, 2018 and 2017, respectively.
The following table summarizes information regarding the stock options outstanding and exercisable at December 31, 2018:
Our property and casualty insurance business experiences some seasonality with regard to premiums written, which are generally highest in January and July and lowest during the fourth quarter. Although we experience some seasonality in our premiums written, premiums are earned ratably over the period of coverage. Losses and loss settlement expenses incurred tend to remain consistent throughout the year, with the exception of catastrophe losses which generally are highest in the second and third quarters. Catastrophes inherently are unpredictable and can occur at any time during the year from man-made or natural disaster events that include, but are not limited to, hail, tornadoes, hurricanes and windstorms.
At December 31, 2018, our future minimum rental payments were as follows:
On February 2, 2016, the Company, as borrower, entered into a Credit Agreement (the "Credit Agreement") by and among the Company, with the lenders from time to time party thereto and KeyBank National Association ("Key Bank"), as administrative agent, swingline lender and letter of credit issuer. The Credit Agreement provides for a $50,000 four-year unsecured revolving credit facility that includes a $20,000 letter of credit subfacility and a swingline subfacility in the amount up to $5,000. The Credit Agreement allows the Company to increase the
aggregate amount of the commitments thereunder by up to $100,000, provided that no event of default has occurred and is continuing and certain other conditions are satisfied.
The unused commitments under the Credit Agreement will be subject to a commitment fee that will be calculated at a per annum rate. The applicable margins for borrowings under the Credit Agreement and the commitment fee thereunder will be determined by reference to a pricing grid based on the Company’s issuer credit rating by A.M. Best Company, Inc.
There was no outstanding balance on the Credit Agreement at December 31, 2018 or 2017. We did not incur any interest expense related to the Credit Agreement in 2018, 2017 or under our prior credit facility in 2016.
The following table shows the changes in the components of our accumulated other comprehensive income (loss), net of tax, for the years ended December 31, 2018, 2017 and 2016:
UFG has agreed to provide services to Kuvare through a transition services agreement ("TSA"). The TSA ensures a seamless transfer of the business between UFG and Kuvare. The TSA includes, among other considerations, accounting management, human resources, legal and information technology services, from the closing date for up to 24 months. Since the close date, the Company has received $414 as part of the TSA agreement.
We have audited the accompanying consolidated balance sheets of United Fire Group, Inc. (the Company) as of December 31, 2018 and 2017, and the related consolidated statements of income, comprehensive income, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2018, and the related notes and financial statement schedules listed in the Index at Item 15(a)(2) (collectively referred to as the “financial statements”). In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company at December 31, 2018 and 2017, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2018, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 28, 2019 expressed an unqualified opinion thereon.
As discussed in Note 1 to the financial statements, the Company changed its method of accounting for the change in the fair value of equity securities in the 2018 financial statements on a prospective basis due to the adoption of ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities.