The table below provides selected financial data and other operating information as of and for the five fiscal years ended December 31, 2009. We derived the selected financial data presented below for the five fiscal years ended December 31, 2009 from our audited financial statements. We have prepared the following data, other than statutory data, in conformity with generally accepted accounting principles. You should read this selected financial data together with our consolidated financial statements and the notes to those consolidated financial statements as well as the discussion under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations."
The following discussion and analysis presents a review of the Company as of December 31, 2009 and its results of operations for the fiscal years ended December 31, 2009, 2008 and 2007.
•Membership in our network-based Plans increased 18% year-over-year, including 35% growth in our HMO expansion markets in Oklahoma, Wisconsin and Dallas, TX. This offset a 5% decline in PFFS membership due to lapsation.
•Net retained Part D membership increased 125,000 from December 31, 2008.
•Recorded realized losses of $25.0 million, which included a charge of $17.4 million for the other-than-temporary impairment of investment securities, compared to realized losses of $59.7 million, including $59.8 million of OTTI recorded in 2008.
•Closed the transaction to reinsure substantially all of our in force life insurance and annuity business under a 100% coinsurance treaty with two insurance company subsidiaries of Goldman Sachs Group, Inc. (NYSE:GS). Recorded loss on transaction and related activities of $4.8 million, after-tax, or $0.06 per share.
•Repurchased 6.7 million of our shares at a cost of $60.9 million in 2009, in connection with our share repurchase plan.
PerscribaRxSM prescription drug plans in all 34 regions designated by CMS in which we bid and one or both of our plans bid under the benchmark in 27 of the 34 regions. For the 2010 Plan year, one or both of our plans bid under the benchmark in 30 of the 34 regions, and were auto-assigned 148,604 additional dual-eligible members.
On April 24, 2009 we completed the closing of the previously announced Life Insurance and Annuity Reinsurance transaction with the Commonwealth Annuity and Life Insurance Company, known as Commonwealth, and the First Allmerica Financial Life Insurance Company, Goldman Sachs Group, Inc. subsidiaries (NYSE:GS). Under this transaction, we reinsured substantially all of our in force life insurance and annuity business under a 100% coinsurance treaty. We transferred approximately $454 million of cash, net of the ceding commission of $77 million, and $22 million of policy loans, related to the reinsured policies, to the reinsurer. We had approximately $74 million of deferred acquisition costs and present value of future profits as of the effective date of the transaction that were reduced to zero as a result of the recovery of such costs through the initial ceding commission. On a GAAP basis, the transaction resulted in a loss and other related costs of approximately $7.6 million, including approximately $2.8 million related to the transition of the administration of the business to the reinsurer.
(1)We evaluate the results of operations of our segments based on income before realized gains and losses and income taxes. We believe that realized gains and losses are not indicative of overall operating trends. This differs from generally accepted accounting principles, which reflects the effect of realized gains and losses in the determination of net income. The schedule above reconciles our segment income to net income in accordance with generally accepted accounting principles.
Net income for the year ended December 31, 2009 was $140.3 million, or $1.73 per diluted share, compared to net income of $95.1 million, or $1.08 per diluted share for the year ended December 31, 2008. The net income for the year ended December 31, 2009 includes realized investment losses, net of taxes, of $16.2 million, or $0.20 per diluted share, relating primarily to the recognition of other-than-temporary impairments on investments. Net income for the year ended December 31, 2008 includes realized investment losses, net of taxes, of $38.8 million, or $0.44 per diluted share, also related primarily to the recognition of other-than-temporary impairments on investments. For the year ended December 31, 2009, our effective tax rate was 34.7%, compared with 37.2% for the same period of 2008. The decline in the effective rate for the year ended December 31, 2009 is due to the recording of $5.5 million of non-recurring tax benefits during the third quarter of 2009. This benefit resulted from the settlement of the Internal Revenue Service examination of 2005 primarily related to the treatment of a controlled foreign corporation sold in 2006. Absent this non-recurring benefit, the effective rate would have been 37.2% for the year ended December 31, 2009.
Our Senior Managed Care-Medicare Advantage segment generated income before taxes of $134.8 million for the year ended December 31, 2009, an increase of $40.2 million compared to the year ended December 31, 2008. These results reflect $21.1 million of favorable CMS reconciliations and reserve development in 2009 as compared to $42.1 million in 2008. The increase in earnings was driven by higher medical operating income generated by higher premium, an improvement in the medical benefit ratio of 80 basis points and higher net investment income, partially offset by the $3.5 million restructuring costs incurred during the second quarter and continued investment in the development of provider networks for our expansion PPO markets. The improvement in the medical benefit ratio is
due primarily to higher premium per member related to changes in members' risk scoring process in 2009 and the $18.9 million in false claims submitted by fictitious providers, in our PFFS business during the fourth quarter of 2008.
Our Traditional Insurance segment income before taxes decreased by $9.3 million compared to 2007, due to $3.9 million impairment of goodwill and lower earnings on specialty health and life insurance and annuity businesses, partially offset by increased earnings on Medicare supplement business. The declines were primarily due to lower investment income. The overall loss ratio for the segment was 76.8% for 2008, compared with 75.3% for 2007. Individual loss ratios for 2008 were 75.2% for Medicare supplement, compared with 73.4% for 2007, due to higher skilled nursing facility claims and aging of the business; 91.7% for specialty health, compared with 90.1% for last year and 65.8% for life and annuity, compared with 67.1% for 2007.
Benefits, Claims and Expenses. Medical expenses increased by $155.4 million compared to the year ended December 31, 2008, consistent with the higher level of earned premium. The Medicare Advantage medical benefit ratio decreased to 82.4% for the year ended December 31, 2009 from 83.2% for the same period in 2008, primarily as a result of the items discussed above. In the second quarter of 2009 we recorded a $3.5 million restructuring charge related to the in-sourcing of billing and enrollment for our health plan business. Commissions and general expenses increased by $22.6 million compared to the year ended December 31, 2008 primarily as the result of an increase in expenses to support the continued investment in the development of provider networks for our expansion PPO markets. However, the ratio of commissions and general expenses to premiums decreased to 13.1% for the year ended December 31, 2009 from 13.3% in 2008 primarily due to increased efficiencies.
Reported results for our Medicare Part D business are subject to seasonality during a given calendar year. This is due to the uneven nature of the standard benefit design under Medicare Part D. Consequently, this business generally incurs higher claims experience in the first two quarters of the year while beneficiaries are in the deductible and initial coverage phases of the benefit design. As the beneficiary reaches the coverage gap and catastrophic phases of the benefit design, the Plan experiences lower claims liability which is generally in the last two quarters of the year, resulting in a pattern of increasing reported net income attributable to the Part D business.
Membership. At December 31, 2009, total membership for Medicare Part D, based on enrollment information provided by CMS, was approximately 1,697,000 members, an increase of 125,000 members, or 8.0% compared to net retained membership of 1,572,000 members at December 31, 2008. Net retained membership at December 31, 2008 excludes members that were reinsured to CVS/Caremark. The increase in membership was principally attributable to growth from open enrollment and dual eligible members automatically assigned to our Plans in 2009.
Other Part D income-PDMS for the year ended December 31, 2009, decreased by $72.5 million versus the comparable period in 2008, as a result of the termination of our strategic alliance with CVS/Caremark. Net investment and other income decreased by $17.9 million principally as a result of a decrease in revenue earned by MemberHealth for third party services performed in 2008 that were discontinued in 2009.
Revenues. Net premiums increased by $1,223.3 million, or 211%, compared to the prior year period. This growth resulted primarily from the inclusion of a full year of business for MemberHealth which generated $1,542.8 million of net premiums for the year ended December 31, 2008 compared to $398.2 million in the three months after acquisition in 2007. The MemberHealth premium for the year ended December 31, 2008 reflects $39.2 million of amortization of the below market contract liability recorded in connection with the MemberHealth acquisition. The change in the government risk corridor adjustment increased revenue by an additional $122.8 million compared to the year ended December 31, 2007. The government risk corridor adjustment from MemberHealth for the year ended December 31, 2008 was an increase in revenues of $13.3 million, which was an increase of $93.4 million over the prior year as we acquired MemberHealth on September 21, 2007. The government risk corridor adjustment from our Prescription PathwaySM business decreased revenue $1.4 million for the year ended December 31, 2008 compared to a decrease of $33.4 million for the same period in 2007. Net premiums for 2008 also reflect retroactive adjustments which reduced total revenue by approximately $4.6 million. These adjustments were comprised of $0.8 million related to risk adjustment revenue for our 2007 membership and $3.8 million related to the final CMS PDE reconciliation for the 2007 Plan year.
Benefits, Claims and Expenses. Policyholder benefits incurred declined by $51.9 million, or 17.2%, compared to the year ended December 31, 2008. This decline was due to the reinsurance transaction with Commonwealth, which resulted in a decrease in net life and annuity benefits retained of $21.4 million, and a net reduction in senior market product benefits of $30.7 million. The reduction in senior market benefits is mainly a result of a decline in the business in-force. Individual loss ratios for the twelve months ended December 31, 2009 were 72.8% for senior market, compared with 75.2% for the same period last year, and 100.5% for specialty health, compared with 91.7% for the same period last year. The increase in the Specialty loss ratio was primarily caused by an increase in frequency of long term care claims. The change in deferred acquisition cost decreased $6.5 million, or 45.4%. This was primarily caused by the elimination of the deferred acquisition costs and the related amortization on the life and annuity business reinsured to Commonwealth.
The following table details the components of commission and general expenses, net of allowances:
The lower level of commissions is associated with the continued aging of our in force renewal premium and less new business production, which has higher commission rates. Other operating costs were $4.4 million lower for 2008 compared to 2007 as a result of lower acquisition expenses due to less new business production and lower fixed costs. Reinsurance allowances received from reinsurers decreased $8.2 million for 2008 from 2007, primarily due to the non-renewal of the State of Connecticut agreement with PharmaCare Re on July 1, 2008 as well as a reduction in new business ceded and the effects of normal lower commission allowances on our aging base of ceded renewal business.
In 2007 and 2008, we performed administrative functions for the affiliated Part D line that the affiliated entities perform directly in 2009. In 2007, we performed administrative functions for the affiliated PFFS business that the affiliated entities performed directly in 2008 and 2009. We eliminated these fees, together with affiliated revenue, in consolidation.
Segment income before taxes for our Senior Administrative Services segment declined by $13.5 million, or 62%, to $8.5 million for the year ended December 31, 2009, as compared to 2008. This decrease is primarily the result of a reduction in service fee revenues, net of a corresponding decrease in general expenses.
Revenue declined by $22.1 million, or 21%, during the year ended December 31, 2008, compared to 2007. Affiliated service fee revenue decreased by $18.9 million primarily as a result of the loss of fee income associated with the administration of our PFFS business that our affiliated entities performed directly in 2008 and a decline in Medicare supplement revenues on a smaller book of business partially offset by an increase in Part D revenues on a growing block of business. Unaffiliated service fee revenue decreased by $3.1 million, due primarily to a decrease in services performed for unaffiliated Part D and long term care business. General expenses for the segment decreased by $19.9 million, or 24%, primarily due to the decline of the affiliated PFFS business.
Other parent company expenses, net of revenues, increased $26.3 million. In the second quarter of 2009, primarily in relation to a management decision to close or restructure under-performing field offices in connection with a company-wise cost reduction effort, we recorded a $6.3 million charge to earnings. An additional $7.3 million charge to earnings was recorded in the fourth quarter of 2009 as additional under-performing field offices were closed. The remaining variance was primarily due to the release in the first quarter of 2008 of a 2007 bonus accrual that was $5.6 million in excess of the final amounts approved by the compensation committee and paid in 2008, compared with a $0.5 million release for similar reasons in the first quarter of 2009 as well as increased staffing and outside service costs. In addition, net investment income decreased $2.7 million as a result of lower invested assets at a lower rate.
(1)These obligations include contractual interest and the table reflects scheduled maturities for contractual obligations existing as of December 31, 2009.
obligations. On our consolidated balance sheet in Part II, Item 8 of this annual report on Form 10-K, we report our policy related liabilities gross of amounts recoverable from reinsurers, which are reflected as assets. We are obligated to pay claims in the event that a reinsurer fails to meet its obligations under the reinsurance agreements. However, as of December 31, 2009, all of our primary reinsurers were rated "A -" (Excellent) or better by A.M. Best. We do not know of any instances where any of our reinsurers have been unable to pay any policy claims on reinsured business. Therefore, we have presented our obligations in the table above net of amounts recoverable from reinsurers. Our obligations for policy related liabilities before amounts recovered from reinsurers amount to $1.7 billion.
•surplus note payments and dividends from and capital contributions to our insurance subsidiaries and HMO affiliates;
•debt principal and interest payments and access to $150 million under the revolving portion of our Credit Facility.
Capital contributions to and dividends from for our HMO affiliates are made through our managed care holding company, Heritage Health Systems, Inc., known as HHSI. HHSI made capital contributions totaling $9.7 million to its HMO subsidiaries for the year ended December 31, 2009. HHSI made capital contributions totaling $1.6 million during the year ended December 31, 2008. No dividends were declared nor paid to HHSI from its subsidiaries during 2008 and 2009.
In November 2009, the 2007 Credit Facility was amended (the "November 2009 Amendment") which provided us with the ability to make an additional $75 million of restricted payments in exchange for prepayments of Term Loan principal and increases in borrowing spreads and fees (see Note 14 - Loan Payable). As of December 31, 2009, $313.8 million was outstanding under the term loan agreement and the weighted average interest rate on the term loan portion of the credit facility was 1.28%. $250 million of this $313.8 million term loan outstanding has been swapped from a LIBOR-based floating rate to an average fixed rate of 4.14% (see Note 16 Derivative Instruments-Cash Flow Hedges and the ensuing paragraph), resulting in a total blended interest rate of 4.34% on the $313.8 million as of December 31, 2009. We pay a commitment fee on the unutilized revolving loan facility at an annualized rate of 25 basis points. We had not drawn on the revolving loan facility as of the date of this report. We made regularly scheduled principal payments totaling $3.1 million and repayments of $3.8 million, as a result of the November 2009 Amendment, and interest payments totaling $7.2 million during the year ended December 31, 2009.
We invest primarily in fixed maturity securities of the U.S. Government and its agencies, mortgage backed securities and in corporate fixed maturity securities with investment grade ratings of BBB - or higher by S&P or Baa3 or higher by Moody's Investor Service. As of December 31, 2009, approximately 99% of our fixed maturity investments had investment grade ratings from S&P or Moody's.
We have recently adopted a more conservative approach to our investment portfolio, which focuses more on capital preservation than on generation of investment yield. As a result, as of December 31, 2009, approximately 47% of our portfolio is in cash equivalents, largely in government money market funds, and, in the aggregate, approximately 82% of our portfolio is securities backed by the US government or its agencies.
The net yields on our cash and invested assets decreased to 2.9% for the year ended December 31, 2009, from 4.8% for the year ended December 31, 2008.
We calculate and maintain reserves for the estimated future payment of claims to our policyholders using actuarial assumptions that are consistent with actuarial assumptions we use in the pricing of our products. For our accident and health insurance business, we establish an active life reserve for expected future policy benefits, plus a liability for due and unpaid claims and incurred but not reported claims, known as IBNR. Benefit expenses are recognized in the period in which services are provided or claims are incurred and include an estimate of the cost of services and IBNR claims. Our net income depends upon the extent to which our actual claims experience is consistent with the assumptions we used in setting our reserves and pricing our policies. If our assumptions with respect to
The amount of reserves for life insurance products we currently retain amounted to $4.3 million as of December 31, 2009.
Depending on the period for which we are estimating incurred claims, we apply a different method in determining our estimate. For periods prior to the most recent three months, the key assumption we use in estimating our IBNR is that the completion factor pattern, adjusted for known changes in claim inventory levels and claim payment processes, remains consistent over a specified rolling period. This period, ranging from 3 to 12 months, is dependent on the type of business with respect to which we are estimating reserves or liabilities. Completion factors result from the calculation of the percentage of claims incurred during a given period that have historically been adjudicated as of the reporting period. For the most recent three months, we estimate the incurred claims primarily from a trend analysis based upon per member per month, known as PMPM, claims trends developed from our historical experience in the preceding months, adjusted for known changes in estimates of recent hospital and drug utilization data, provider contracting changes, changes in benefit levels, product mix, and seasonality.
The following table presents the components of the change in our policy and contract claims-health liabilities for the years ended December 31, 2009 and 2008:
The medical cost amount, noted as "prior year development" in the table above, represents unfavorable or (favorable) adjustments as a result of prior year claim estimates being settled for amounts that are different than originally anticipated. This prior year development occurs due to differences between the actual medical utilization and other components of medical cost trends, and actual claim processing and payment patterns compared to the assumptions for claims trend and completion factors used to estimate our claim liabilities.
We must estimate and make assumptions regarding the useful life we assign to our amortizing intangible assets. Set forth below are our annual amortization policies for each of the main categories of amortizing intangible assets:
In accordance with ASC 350, Intangibles and Other, we periodically review amortizing intangible assets whenever adverse events or changes in circumstances indicate the carrying value of the asset may not be recoverable. In assessing recoverability, we must make assumptions regarding estimated future cash flows and other factors to determine if an impairment loss may exist, and, if so, estimate fair value. If these estimates or their related assumptions change in the future, we may be required to record impairment losses for these assets. There were no impairment losses relating to our amortizing intangible assets during 2009.
ASC 350, Goodwill and Other Intangible Assets, requires that goodwill balances be reviewed for impairment at the reporting unit level at least annually or more frequently if events occur or circumstances change that would indicate that a triggering event, as defined in ASC 350, has occurred. A reporting unit is defined as an operating segment or one level below an operating segment. Our reporting units are equivalent to our operating segments. We had goodwill allocated to the following reporting units as follows (in thousands):
Our annual goodwill impairment test follows a two step process as defined in ASC 350. In the first step, the fair value of a reporting unit is compared to its carrying value. If the carrying value of a reporting unit exceeds its fair value, the second step of the impairment test is performed for purposes of measuring the impairment. In the second step, the fair value of the reporting unit is allocated to all of the assets and liabilities of the reporting unit to determine an implied goodwill value. This allocation is similar to a purchase price allocation performed in purchase accounting. If the carrying amount of the reporting unit goodwill exceeds the implied goodwill value, an impairment loss shall be recognized in an amount equal to that excess.
Our strategy, long-range business plan, and annual planning process are used to support our valuation of our reporting units. Our valuations are based primarily on an analysis of discounted cash flows for each reporting unit. Outcomes from the discounted cash flow analysis are compared to other market approach valuation methodologies for reasonableness. Key assumptions, including changes in membership, premium yields, medical cost trends and selected government contract extensions, are consistent with those utilized in our long-range business plan and annual planning process. Other assumptions include levels of economic capital, future business growth, earnings projections and the weighted average cost of capital used for purposes of discounting. We use a range of discount rates that correspond to a market-based weighted-average cost of capital. Decreases in business growth, decreases in earnings projections, increases in the weighted average cost of capital and increases in the amount of required capital for a reporting unit will all cause the reporting unit's fair value to decrease. If these assumptions differ from actual, the estimates underlying our goodwill impairment tests could be adversely affected. These assumptions can be impacted by general factors, including: the U.S healthcare economy, health care reform and federal monetary policy.
There has been significant discussion recently about health care reforms at both state and national levels, due to the size of and national interest in the health economy. Examples of health care reform proposals include policy changes that would change the dynamics of the health care industry, including
The fair value for our Traditional reporting unit was below its carrying value, however, we had reduced the goodwill for that segment to zero at December 31, 2008 as a result of our 2008 annual test of recoverability. During our 2008 test, we concluded that the decline in value of the traditional reporting unit was due to decreasing sales outlooks and the lapsation of our Medicare supplement policies. We performed a "Step 2" analysis of our Traditional reporting unit to determine the amount of impairment. The allocation of our estimated fair value of our Traditional reporting unit to its respective assets and liabilities as of October 1, 2008 indicated an implied level of goodwill of $0. Therefore, at December 31, 2008, we recorded an impairment charge of $3.9 million to eliminate the goodwill for our Traditional reporting unit.
The following table presents the fair value of fixed maturity and equity securities that are carried at fair value by ASC 820 hierarchy levels, as of December 31, 2009 (in thousands):
The following table presents the fair value of the asset sectors within the ASC 820 Level 3 securities as of December 31, 2009 (in thousands):
Mortgage and asset-backed securities represents private-placement collateralized debt obligations that are thinly traded and priced using an internal model or by independent brokers.
Our accounting policy requires that we assess a decline in the value of a security below its cost or amortized cost basis to determine if the decline is other-than-temporary. During 2009, ASC 320-65-1 modified the criteria for recognition of other-than-temporary impairment (OTTI) of a debt security and we have adopted this new criterion into our accounting policy for investments.
Each quarter, during this analysis, we assert our intent and ability to retain until recovery those securities we judge to be temporarily impaired. Once identified, we restrict trading on these securities unless approved by members of the Investment Committee. The Investment Committee will only authorize the sale of these securities based on criteria that relate to events that could not have been foreseen. The principal criteria are the deterioration in the issuer's creditworthiness, a change in regulatory requirements or a major business combination or major disposition.
We hold securities with exposure to subprime residential mortgages. Subprime mortgage lending is the origination of residential mortgage loans to customers with weak credit profiles. The slowing U.S. housing market, greater use of mortgage products with low introductory interest rates, generally referred to as "teaser rates," and relaxed underwriting standards for some originators of subprime loans have led to higher delinquency and loss rates. These factors combined with heightened capital constraints on financial institutions have caused a significant reduction in market liquidity and repricing of risk, which has led to a decrease in the market valuation of these securities sector wide.
Part D-Under Part D, prescription drug benefits may be provided by private Plans to individuals eligible for benefits under Part A and/or enrolled in Part B. These benefits are provided on both a stand-alone basis and also in connection with certain of our HMO, PPO and PFFS plans.
We analyze the membership for our Medicare HMO, PPO, PFFS and stand-alone Part D Plans in our administrative system and reconcile to the enrollment provided by CMS. There are timing differences between the addition of a member to our administrative system and the approval, or accretion, of the member by CMS. Additionally, the monthly payments from CMS include adjustments to reflect changes in membership as a result of retroactive terminations, additions or other changes. Current period membership, net premium, CMS subsidies and claims expense are adjusted to reflect retroactive changes in membership.
CMS uses risk-adjusted rates per member to determine the monthly payments to Medicare Plans. CMS has implemented a risk adjustment model which apportions premiums paid to all health Plans according to health diagnoses. The risk adjustment model uses health status indicators, or risk scores, to improve the accuracy of payment. The CMS risk adjustment model pays more for members with increasing health severity. Under this risk adjustment methodology, diagnosis data from inpatient and ambulatory treatment settings are used by CMS to calculate the risk adjusted premium payment to Medicare Plans. The monthly risk-adjusted premium per member is determined by CMS based on normalized risk scores of each member from the prior year. Annually, CMS provides the updated risk scores to the Plans and revises premium rates prospectively, beginning with the July remittance for current Plan year members. CMS will also calculate the retroactive adjustments to premium related to the revised risk scores for the current year for current Plan year members and for the prior year for prior Plan year members.
CMS Premium-We receive a monthly premium from CMS based on the Plan year bid we submitted to CMS. The monthly payment is a risk-adjusted amount per member and is based upon the member's health status, as determined by CMS. The CMS premium is recognized over the contract period and reported as premium revenue.
determined by the Social Security Administration. Low-income premium is recognized over the contract period and reported as premium revenue.
For the members of our HMO and PPO Plans with Part D benefits, CMS reimburses Plans for 80% of the drug costs after a member reaches his or her out of pocket catastrophic threshold through a catastrophic reinsurance subsidy. Catastrophic reinsurance subsidies are paid by CMS prospectively as a fixed amount per member per month, and are determined based upon the Plan year bid we submitted to CMS. After the close of the annual Plan year, CMS reconciles actual experience compared to catastrophic reinsurance subsidies paid to the Plan and any differences are settled between CMS and the Plan. The catastrophic reinsurance subsidy is accounted for as deposit accounting.
Adjustment Provisions." We do not have access to diagnosis data with respect to our stand-alone PDP members and therefore, we cannot anticipate changes in our members' risk scores. Changes in CMS premiums related to risk-score adjustments for our stand alone PDP membership are recognized when the amounts become determinable and collectability is reasonably assured, which occurs when we are notified by CMS of such adjustments. Although such adjustments have not been considered to be material in the past, future adjustments could be material.
We use the liability method to account for deferred income taxes. Under the liability method, we recognize deferred tax assets and liabilities for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. We measure deferred tax assets and liabilities using enacted tax rates that we expect to apply to taxable income in the years in which we expect to recover or settle those temporary differences. We recognize in income the effect on deferred tax assets and liabilities of a change in tax rates in the period that reflects the enactment date of a change in tax rates.
We establish valuation allowances based upon an analysis of projected taxable income and its ability to implement prudent and feasible tax planning strategies. We carried valuation allowances on deferred tax assets of $5.8 million at December 31, 2009 and $4.4 million at December 31, 2008, primarily related to the tax benefits associated with a New York state net operating loss carryforward. At December 31, 2009, the Company recorded a deferred tax asset at an amount that was more likely than not to be realized under ASC 740. During 2005, the Company incurred creditable foreign taxes related to dividends from PennCorp Life Canada, its defined previously Canadian subsidiary, generating a foreign tax credit carryforward, for which a deferred tax asset of approximately $0.8 million was established. A valuation allowance for the entire amount was established because the Company lacked sufficient foreign source income to realize the benefit for the foreign tax credit. As foreign source income was generated in 2006, the valuation allowance related to the foreign tax credit carryforward was released. An additional $4.6 million foreign tax credit related to Penn Corp Life was identified during the IRS examination of 2006.
The Company adopted provisions of ASC 740-10-25 related to the recognition, measurement, presentation and disclosure of uncertain tax positions on January 1, 2007. The Company has no material uncertain tax positions and no cumulative adjustment was required or recorded as a result of the adoption of ASC 740-10-25. The Company recognizes accrued interest and penalties related to uncertain tax positions in income tax expense when incurred. No material interest and penalties related to uncertain tax positions were accrued at December 31, 2009.