We lease office space in Nashville, Tennessee for our corporate offices, claims, customer service and data center (approximately 81,000 square feet). We also lease office space for our regional claims office in Tampa, Florida and for our regional claims office and customer service center in Chicago, Illinois. Our retail locations are all leased and typically are located in storefronts in retail shopping centers, and each location typically contains approximately 1,300 square feet of space. See Note 8 to our consolidated financial statements for further information about our leases.
The actual results for the year ended December 31, 2015 reflect only the results of the Titan Agencies’ operations since the date of acquisition (July 1, 2015). The unaudited pro forma results for the years ended December 31, 2015 and 2014 give effect to the Titan acquisition and related transactions as if they had been consummated on January 1, 2014.
Our insurance operations generate revenue from selling non-standard personal automobile insurance products and related products in 16 states. In December 2016, we closed all of our retail locations and ceased writing new business in the state of Missouri. We conduct our servicing and underwriting operations in 14 states and are licensed as an insurer in 12 additional states. After obtaining a license in California, we began selling our non-standard personal automobile insurance product there in late June 2016 on a limited basis.
At December 31, 2016, 273 of our 355 stores primarily sell non-standard personal automobile insurance products underwritten by us.
Since August 2016, we have taken the following actions to reduce premiums written and increase statutory capital and surplus with the goal of returning our ratio of net premiums written to statutory capital and surplus to within regulatory guidelines and improving profitability:
We reduced premium writings, through the closing 53 poorly performing stores, by temporarily suspending or eliminating new business in selected areas of our business, and tightening our underwriting standards;
We have taken aggressive action in our claims-handling operations where we have hired a new Senior Vice-President, restructured management and improved processes;
In 2016, our insurance operations generated revenues from selling non-standard personal automobile insurance products and related products in 17 states. We conducted our servicing and underwriting operations in 14 states through three insurance company subsidiaries: First Acceptance Insurance Company, Inc., First Acceptance Insurance Company of Georgia, Inc. and First Acceptance Insurance Company of Tennessee, Inc. Our insurance revenues were primarily generated from:
We use the services of an independent investment manager to manage our investment portfolio. The investment manager conducts, in accordance with our investment policy, all of the investment purchases and sales for our insurance company subsidiaries. Our investment policy has been established by the Investment Committee of our Board of Directors and specifically addresses overall investment goals and objectives, authorized investments, prohibited securities, restrictions on sales by the investment manager and guidelines as to asset allocation, duration and credit quality. Management and the Investment Committee meet quarterly with our investment manager to review the performance of the portfolio and compliance with our investment guidelines.
The invested assets of the insurance company subsidiaries consist substantially of marketable, investment grade debt securities, and include U.S. government securities, municipal bonds, corporate bonds, mutual funds, and collateralized mortgage obligations (“CMOs”), in addition to other alternative investments made into limited partnership interests and a real estate investment trust. Investment income is comprised primarily of interest earned on these securities, net of related investment expenses. Although investments are generally purchased with the intention to hold them until maturity, realized gains and losses could occur from time to time as changes are made to our holdings based upon changes in interest rates or the credit quality of specific securities, or as we did in the recent year, to increase the statutory capital and surplus of the insurance company subsidiaries who carry fixed maturity securities at amortized cost.
The value of our consolidated available-for-sale investment portfolio was $117.2 million at December 31, 2016 and consisted of fixed maturity securities, preferred stock and investments in mutual funds, all carried at fair value with unrealized gains and losses reported as a separate component of stockholders’ equity. At December 31, 2016, we had gross unrealized gains of $2.4 million and gross unrealized losses of $3.1 million in our consolidated investments available-for-sale portfolio.
In September 2016, in order to increase the statutory capital and surplus of our insurance company subsidiaries by realizing gains on fixed maturities carried at amortized cost for statutory purposes, we sold $66.9 million of available-for-sale securities yielding 3.6% and reinvested the proceeds at 2.2%. As a result, our investment income in future periods will decline from the reduced yield in our fixed maturities portfolio.
The loss ratio was 101.9% for the year ended December 31, 2016, compared with 82.0% for the year ended December 31, 2015. We experienced unfavorable development related to prior fiscal years of $30.6 million for the year ended December 31, 2016, compared with unfavorable development of $0.8 million for the year ended December 31, 2015. The unfavorable loss development for the year ended December 31, 2016 was the result of increased losses primarily from the 2015 accident year across all major coverages. The most significant causes of the development were a greater than usual emergence of reported claims and higher bodily injury severity. The unfavorable loss development for the year ending December 31, 2015 was largely the result of an increase in bodily injury loss adjustment expenses (primarily outside legal costs) driven by the overall increase in claim frequency.
We incurred $4.3 million of interest expense during the year ended December 31, 2016, compared with interest expense of $3.0 during the year ended December 31, 2015. Interest expense related to the financing of the July 1, 2015 Titan acquisition account for $2.4 million and $1.2 million of the expense during 2016 and 2015, respectively. The remaining interest expense was related to the debentures issued in June 2007. For additional information, see “Liquidity and Capital Resources” in Item 7 of this report.
Revenues from insurance operations were $331.8 million for the year ended December 31, 2015, compared with $263.1 million for the year ended December 31, 2014. Income before income taxes from insurance operations for the year ended December 31, 2015 was $0.3 million, compared with income before income taxes from insurance operations of $12.5 million for the year ended December 31, 2014.
Insurance operating expenses increased 20.6% to $105.3 million for the year ended December 31, 2015 from $87.3 million for the year ended December 31, 2014. Operating expenses and acquisition and integration expenses from the former Titan retail locations acquired on July 1, 2015 accounted for $12.0 million of the increase. There was also an increase in variable cost associated with higher PIF, primarily commissions for the sales organization.
The expense ratio was 17.8% for the year ended December 31, 2015, compared with 22.7% for the year ended December 31, 2014. The year-over-year decrease in the expense ratio was primarily due to the increase in premiums earned which resulted in a lower percentage of fixed expenses in our retail operations (such as rent and base salary) and the Company’s efforts on cost containment.
The benefit for income taxes was $0.6 million for the year ended December 31, 2015, compared with $18.3 million at the year ended December 31, 2014. The benefit for income taxes for the year ended December 31, 2014 included a decrease in the valuation allowance for the deferred tax asset of $22.4 million resulting from a change in management’s judgment regarding the realizability of the deferred tax asset. A valuation allowance is established to reduce the deferred tax asset to the amount that is more likely than not to be realized. In assessing our ability to support the realizability of our deferred tax asset, we considered both positive and negative evidence and we placed greater weight on historical results rather than on our outlook for future profitability. In recent years, the Company incurred losses resulting in a source of negative evidence. With the conclusion of 2014, the Company’s historical results reflected a twelve-quarter cumulative taxable income which management considered to be a trend of positive evidence in accessing the realizability of its deferred tax asset. Based on this fact and our outlook for future profitability, the deferred tax asset valuation allowance was adjusted during that period and resulted in the aforementioned income tax benefit. A valuation allowance of $1.7 million remained at December 31, 2015 for certain amounts that are not more likely than not expected to be realized.
Management is currently operating under a business plan to reduce premium writings and increase statutory capital and surplus to address the net premiums written to statutory capital and surplus guidelines. We believe that existing cash and investment balances, when combined with anticipated cash flows as noted above, will be adequate to meet our expected liquidity needs, for both the holding company and our insurance company subsidiaries, in both the short-term and the foreseeable future.
The following table summarizes our contractual obligations by period at December 31, 2016 (in thousands).
On June 29, 2015, to finance the Titan acquisition, the Company borrowed the full amount under a $30 million Loan Agreement (the “Loan Agreement”) with Diamond Family Investments, LP, an affiliate of Gerald J. Ford, the Company’s controlling stockholder. The Loan Agreement provided a $30 million interest-only senior term loan facility, maturing in full on June 29, 2025. Commencing June 29, 2016, the Company has the right to prepay the loan in whole or in part, in cash, without premium or penalty, upon written notice to the lender. Amounts prepaid under the Loan Agreement may not be reborrowed. The term loan outstanding under the Loan Agreement bears interest at a rate of 8% per annum. The Loan Agreement contains certain representations, warranties and covenants. The Loan Agreement also contains customary events of default, including but not limited to: nonpayment; material inaccuracy of representations and warranties; violations of covenants; cross-default to material indebtedness; certain material judgments; certain bankruptcies and liquidations; invalidity of the loan documents and related events; and a change of control (as defined in the Loan Agreement).
The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect amounts reported in the consolidated financial statements. As more information becomes known, these estimates and assumptions could change, thus having an impact on the amounts reported in the future. The following are considered to be our critical accounting estimates.
In establishing a valuation allowance at December 31, 2016, both positive and negative evidence were used to evaluate the allowance and the greatest weight was placed on our outlook for future taxable income and the allowable time period for realization of the DTA. We estimated our future taxable income from our 2017 budget and the long-term forecasts we use to manage our business and concluded that it is more likely than not that the remaining DTA will be realized. A key consideration in our current analysis was the fact that no deferred tax assets have had expiration dates that we believed would be a factor in the timing of their ultimate realization. Regarding the length of time available to realize the DTA, at December 31, 2016, $24.2 million of the DTA related to net operating loss carryforwards that do not expire until 2031 through 2036 and $2.0 million in AMT (“Alternative Minimum Tax”) carryforwards that have no expiration date.
The resultant valuation allowance at December 31, 2016 was specifically related to capital losses that are deductible only to the extent of capital gains (which we do not currently anticipate) and state income taxes for specific entities in certain jurisdictions where we do not forecast future taxable income.
Goodwill and identifiable intangible assets are attributable to our insurance operations and were initially recorded at their estimated fair values at their dates of acquisition. Some have an indefinite useful life and are not amortized for financial statement purposes while those with a definite life are amortized. Effective October 1, 2015, we made a voluntary accounting change and now perform our required annual impairment test as of each October 1st instead of the previous date of June 30th. We consider the July 1, 2015 acquisition of the Titan Agencies to be a separate reporting unit for goodwill impairment analysis purposes.
We are directly liable for loss and loss adjustment expenses under the terms of the insurance policies underwritten by our insurance company subsidiaries. Each of our insurance company subsidiaries establishes a reserve for all of its unpaid losses, including case reserves and IBNR reserves, and estimates for the cost to settle the claims. We estimate our IBNR reserves by estimating our ultimate liability for loss and loss adjustment expense reserves first, and then reducing that amount by the amount of cumulative paid claims and by the amount of our case reserves. We rely primarily on historical loss experience in determining reserve levels, on the assumption that historical loss experience provides a good indication of future loss experience. We also consider various other factors, such as inflation, claims settlement patterns, legislative activity and litigation trends. Our actuarial staff continually monitors these estimates on a state and coverage level. We utilize our actuarial staff to determine appropriate reserve levels. As experience develops or new information becomes known, we increase or decrease the level of our reserves in the period in which changes to the estimates are determined. These estimates involve a high level of subjectivity and judgement, and accordingly, the actual losses and loss adjustment expenses may differ materially from the estimates we have recorded.
We believe that our estimate regarding changes in loss severity is the most significant factor that can potentially impact our IBNR reserve estimate. We believe that there is a reasonable possibility of increases or decreases in our estimated claim severities, with the largest potential changes occurring in the most recent accident years. Dependent upon the accident year, an increase in loss severity of unpaid losses, ranging from 0.5% to 3.0% would result in adverse development of net loss and loss adjustment expense reserve levels at December 31, 2016 and a decrease in income before income taxes of approximately $14.1 million. Conversely, a comparable decrease in loss severity would result in favorable development of net loss and loss adjustment expense reserve levels at December 31, 2016 and an increase in income before income taxes of approximately $14.1 million.
We have audited the accompanying consolidated balance sheets of First Acceptance Corporation and subsidiaries (the “Company”) as of December 31, 2016 and 2015, and the related consolidated statements of operations and comprehensive income (loss), stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2016. Our audits also included the financial statement schedule listed in the index at Item 15(a)(2). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and schedule based on our audits.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), First Acceptance Corporation and subsidiaries’ internal control over financial reporting as of December 31, 2016, 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 March 14, 2017 expressed an unqualified opinion thereon.
In our opinion, First Acceptance Corporation and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of First Acceptance Corporation and subsidiaries as of December 31, 2016 and 2015, and the related consolidated statements of operations and comprehensive income (loss), stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2016, and our report dated March 14, 2017, expressed an unqualified opinion thereon.
Investments, available-for-sale at fair value, include bonds with fixed principal payment schedules and mortgage-backed securities which are amortized using the retrospective method. These securities and investments in mutual funds are carried at fair value with the corresponding unrealized appreciation or depreciation, net of deferred income taxes, reported in other comprehensive (loss) income.
Premiums and discounts on collateralized mortgage obligations (“CMOs”) are amortized over a period based on estimated future principal payments, including prepayments. Prepayment assumptions are reviewed periodically and adjusted to reflect actual prepayments and changes in expectations. The most significant determinants of prepayments are the difference between interest rates on the underlying mortgages and the current mortgage loan rates and the structure of the security. Other factors affecting prepayments include the size, type, and age of underlying mortgages, the geographic location of the mortgaged properties, and the credit worthiness of the borrowers. Variations from anticipated prepayments will affect the life and yield of these securities.
Cash, cash equivalents, and restricted cash consist of bank demand deposits and other highly-liquid investments. All investments with maturities of three months or less at the date of purchase are considered cash equivalents. At December 31, 2016 and December 31, 2015 the Company had restricted cash equivalents of $18.6 million and $9.4 million, respectively.
Other investments consist of limited partnership interests and an investment in the common stock of a real estate investment trust (“REIT”). Limited partnership interests are recorded at net asset value which approximates fair value. Valuations are based upon the GAAP financial statements of the partnerships which are required to be audited annually. The common stock of the REIT is recorded at a fair value with the corresponding unrealized appreciation or depreciation, net of deferred income taxes, reported in other comprehensive (loss) income.
Income taxes are accounted for under the liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
The Company accounts for income tax uncertainties under the provisions of FASB ASC 740, Income Taxes. The Company has recognized no additional liability or reduction in deferred tax assets for unrecognized tax benefits at December 31, 2016 and 2015. Any interest and penalties incurred in connection with income taxes are recorded as a component of the provision for income taxes. The Company is generally not subject to U.S. federal, state or local income tax examinations by tax authorities for taxable years prior to 2012.
Property and equipment are initially recorded at cost. Depreciation is provided over the estimated useful lives of the assets (generally ranging from three to five years) using the straight-line method. Leasehold improvements are amortized over the shorter of the lives of the respective leases or the service lives of the improvements. Repairs and maintenance are charged to expense as incurred. Equipment under capitalized lease obligations is stated at the present value of the minimum lease payments at the beginning of the lease term.
Deferred acquisition costs include premium taxes and other variable underwriting and direct sales costs incurred in connection with writing successful new and renewal business. These costs are deferred and amortized over the policy period in which the related premiums are earned, to the extent that such costs are deemed recoverable from future unearned premiums and anticipated investment income. Advertising costs are expensed when incurred and are not a part of deferred acquisition costs. Amortization expense for the years ended December 31, 2016, 2015 and 2014 was $18.9 million, $16.3 million and $11.4 million, respectively, and is included within insurance operating expenses in the accompanying consolidated statements of operations and comprehensive (loss) income.
Goodwill and identifiable intangible assets are attributable to the Company’s insurance operations and were initially recorded at their estimated fair values at their dates of acquisition. Identifiable intangible assets with an indefinite life, (trade name and state insurance licenses) are not amortized for financial statement purposes while those with a definite life (policy renewal rights, customer relationships, and software licenses) are amortized in proportion to projected policy expirations or life of the asset. At December 31, 2016 and 2015, identifiable intangible assets were $7.6 million and $8.5 million, respectively, stated net of accumulated amortization expense of $1.5 million and $0.5 million, respectively. The estimated amortization expense for the five succeeding fiscal years is $0.8 million, $0.6 million, $0.5 million, $0.4 million, and $0.3 million.
Effective with an accounting change made during the quarter ended December 31, 2015, the Company performs required annual impairment tests of its goodwill and identifiable intangible assets as of October 1st of each year. In the event that facts and circumstances indicate that goodwill or identifiable intangible assets may be impaired, an interim impairment test would be required. For goodwill impairment analysis purposes, the Company considers the Titan Agencies to be a separate reporting unit (see note 18).
The Company follows the accounting guidelines, which allows companies to waive comparing the fair value of goodwill and intangible assets to their carrying amounts in assessing the recoverability of these assets if, based on qualitative factors, it is more likely than not that the fair value of the goodwill and intangible assets is greater than their carrying amounts. Based on recent entity-specific events, the Company elected to prepare a quantitative analysis for its annual impairment testing as of October 1, 2016. This review did not indicate any impairment.
In May 2015, the FASB issued ASU No. 2015-09, “Financial Services-Insurance (Topic 944): Disclosures about Short-Duration Contracts” which requires insurance companies to make additional disclosures about short-term duration contracts. This guidance has an effective date for public companies for annual reporting periods beginning after December 15, 2015 and interim reporting periods beginning after December 15, 2016, with early adoption permitted. The Company adopted this requirement effective December 31, 2016, and these disclosures are included in note 9.
In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842)” which requires lessees to record most leases on their balance sheets as lease liabilities with corresponding right-of-use assets, but recognize expense in a manner similar to the current accounting treatment. The guidance also eliminates the current real estate-specific provisions and changes the guidance on sale-leaseback transactions, initial direct costs and lease executory costs for all entities. The guidance could have broad implications for an entity’s finances and operations and will require additional disclosures. The guidance is effective for public business entities for annual periods beginning after December 15, 2018, and interim periods within those years. Early adoption is permitted. Entities are required to use a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in their financial statements. The Company’s lease arrangements fall under this guidance and will be required to be shown on its consolidated balance sheet. The Company is currently evaluating controls and processes to ensure this guidance is reflected properly on future consolidated financial statements.
In January 2017, the FASB issued ASU No. 2017-04, “Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment” which eliminates the requirement to calculate the implied fair value of goodwill to measure an impairment charge. Instead, entities will record an impairment charge based on the excess of a reporting unit’s carrying amount over its fair value. The standard will be applied prospectively. The guidance is effective for annual and interim impairment tests performed by public business entities for periods beginning after December 15, 2019. Early adoption is permitted for impairment testing dates after January 1, 2017. The Company believes that it will be reasonably able to comply with these requirements.
During the years ended December 31, 2016, 2015 and 2014, the Company paid $0.2 million, $0.7 million and $0.7 million, respectively, in income taxes and $4.2 million, $1.7 million and $1.7 million, respectively, in interest.
The fair values as presented represent the Company’s best estimates and may not be substantiated by comparisons to independent markets. The fair value of the debentures payable and the term loan from principal stockholder are categorized as Level 3, since they were based on current market rates offered for debt with similar risks and maturities, an unobservable input categorized as Level 3. Carrying values of certain financial instruments, such as cash and cash equivalents and premiums and fees receivable, approximate fair value due to the short-term nature of the instruments and are not required to be disclosed. Therefore, the aggregate of the fair values presented in the preceding table do not purport to represent the Company’s underlying value.
The following tables present the fair-value measurements for each major category of assets that are measured on a recurring basis (in thousands). Certain other investments are carried at net asset value which approximates fair value.
The fair values of the Company’s investments are determined by management after taking into consideration available sources of data. All of the portfolio valuations classified as Level 1 or Level 2 in the above tables are priced exclusively by utilizing the services of independent pricing sources using observable market data. The Level 2 classified security valuations are obtained from a single independent pricing service. The Level 3 classified security in the table above consists of an investment in the common stock of a REIT for which fair value has been determined using a model driven valuation that does not have observable market data. There were no transfers between Level 1 and Level 2 for years ended December 31, 2016 and 2015. The Company’s policy is to recognize transfers between levels at the end of the reporting period based on specific identification. The Company has not made any adjustments to the prices obtained from the independent pricing source.
The following tables set forth the amount of gross unrealized losses by current severity (as compared to amortized cost) and length of time that individual securities have been in a continuous unrealized loss position (in thousands).
Other investments consist of the common stock of a REIT and limited partnership interests in two funds that invest in (i) commercial real estate and secured commercial real estate loans acquired from financial intuitions and (ii) undervalued international publicly-traded equities. These investments have redemption and transfer restrictions. The Company recently withdrew from one limited partnership investment and received the final withdrawal installment in July 2016. The Company does not intend to sell the remaining investments, and it is more likely than not that the Company will not be required to sell them before the expiration of such restrictions. At December 31, 2016, the Company had unfunded commitments of $0.2 million with two of these investments.
At December 31, 2016, fixed maturities and cash equivalents with a fair value and amortized cost of $6.4 million were on deposit with various insurance departments as a requirement of doing business in those states. Cash equivalents with a fair value and amortized cost of $17.0 million were on deposit with another insurance company as collateral for an assumed reinsurance contract.
Realized gains and losses on sales and redemptions are computed based on specific identification. The non-credit related portion of OTTI is included in other comprehensive (loss) income. The amounts of non-credit OTTI for securities still owned was $1.0 million and $1.2 million at December 31, 2016 and 2015, respectively.
The Company separates OTTI into the following two components: (i) the amount related to credit losses, which is recognized in the consolidated statement of operations and comprehensive (loss) income and (ii) the amount related to all other factors, which is recorded in other comprehensive (loss) income. The credit-related portion of an OTTI is measured by comparing a security’s amortized cost to the present value of its current expected cash flows discounted at its effective yield prior to the impairment charge.
The Company recognized an OTTI charge for one mutual fund resulting in a loss of $147 thousand for the year ending December 31, 2016. The Company did not recognize any OTTI charges in net (loss) income for the years ended December 31, 2015 and 2014.
The following is a progression of the credit-related portion of OTTI on investments owned at December 31, 2016, 2015, and 2014 (in thousands).
The Company has issued stock options (“Stock Option Awards”) and restricted stock units (“Restricted Stock Units”) to employees and directors under its Amended and Restated First Acceptance Corporation 2002 Long Term Incentive Plan (the “Plan”) and accounts for such issuances in accordance with FASB ASC 718, Compensation - Stock Compensation. At December 31, 2016, there were 7,332,533 shares remaining available for issuance under the Plan.
Depreciation expense related to property and equipment was $2.5 million, $1.8 million and $1.8 million for the years ended December 31, 2016, 2015 and 2014, respectively.
The Company is committed under various operating lease agreements for office space. Certain lease agreements contain renewal options and rent escalation clauses. Rental expense for the years ended December 31, 2016, 2015 and 2014 was $11.3 million, $11.2 million and $8.9 million, respectively, and is included within insurance operating expenses in the accompanying consolidated statements of operations and comprehensive (loss) income. Future minimum lease payments under these agreements follow (in thousands).
Incurred losses and loss adjustment expenses, net of reinsurance, by accident year are as follows (in thousands).
As of December 31, 2016, frequency of claims by accident based on number of claimants is as follows.
The average historical annual percentage payout of incurred losses by age, net of reinsurance is as follows. The amounts reflected below represent the average length of time between the occurrence of a loss and its payment. These percentages are averages of the years present and therefore may not equal 100%.
In June 2007, First Acceptance Statutory Trust I (“FAST I”), a wholly-owned unconsolidated subsidiary trust of the Company, issued 40,000 shares of preferred securities at $1,000 per share to outside investors and 1,240 shares of common securities to the Company, also at $1,000 per share. FAST I used the proceeds from the sale of the preferred securities to purchase $41.2 million of junior subordinated debentures from the Company. The sole assets of FAST I are $41.2 million of junior subordinated debentures issued by the Company. The debentures will mature on July 30, 2037 and are currently redeemable by the Company in whole or in part and the preferred securities are callable. The debentures paid a fixed rate of 9.277% until July 30, 2012, after which the rate became variable (Three-Month LIBOR plus 375 basis points, resetting quarterly). The interest rate related to the debentures ranged from 4.366% to 4.637% during 2016. In January 2017, the interest rate reset to 4.789% through April 2017.
The debentures are classified as debentures payable in the Company’s consolidated balance sheets and the interest paid on these debentures is classified as interest expense in the consolidated statements of operations and comprehensive (loss) income. At December 31, 2016, the unamortized debt discount and issuance costs of $0.9 million are being amortized to interest expense over the term of the debentures.
On June 29, 2015, to finance the acquisition of the Titan Agencies, the Company borrowed the full amount under a $30 million Loan Agreement (the “Loan Agreement”) with Diamond Family Investments, LP, an affiliate of Gerald J. Ford, the Company’s controlling stockholder. The Loan Agreement provided a $30 million interest-only senior term loan facility, maturing in full on June 29, 2025. Commencing June 29, 2016, the Company has the right to prepay the loan in whole or in part, in cash, without premium or penalty, upon written notice to the lender. Amounts prepaid under the Loan Agreement may not be reborrowed. The term loan outstanding under the Loan Agreement bears interest at a rate of 8% per annum. The Loan Agreement contains certain representations, warranties and covenants. The Loan Agreement also contains customary events of default, including but not limited to: nonpayment; material inaccuracy of representations and warranties; violations of covenants; cross-default to material indebtedness; certain material judgments; certain bankruptcies and liquidations; invalidity of the loan documents and related events; and a change of control (as defined in the Loan Agreement). At December 31, 2016 the unamortized loan issuance costs of $0.2 million are being amortized to interest expense over the term of the loan.
The benefit for income taxes consisted of the following (in thousands).
The benefit for income taxes differs from the amounts computed by applying the statutory federal corporate tax rate of 35% to (loss) income before income taxes as a result of the following (in thousands).
For the year ended December 31, 2014, the computation of diluted net income per share included exercisable options to purchase approximately 0.8 million shares that had a dilutive effect of 298 thousand shares. Options to purchase 295 thousand shares for the year ended December 31, 2014 were not included in the computation of diluted net income per share as their exercise prices were in excess of the average stock prices for the year.
The Company primarily transacts business either directly with its policyholders or through independently-owned insurance agencies who write non-standard personal automobile insurance policies on behalf of the Company. Direct policyholders make payments directly to the Company. Balances due from policyholders are generally secured by the related unearned premium. The Company requires a down payment at the time the policy is originated and subsequent scheduled payments are monitored in order to prevent the Company from providing coverage beyond the date for which payment has been received. If subsequent payments are not made timely, the policy is generally canceled at no loss to the Company. Policyholders whose premiums are written through the independent agencies make their payments to these agencies that in turn remit these payments to the Company. Balances due to the Company resulting from premium payments made to these agencies are unsecured.
In 2015, in order to avoid lengthy and costly litigation, the Company and the plaintiffs involved entered into a stipulation of settlement providing for the release and dismissal of all asserted claims related to two cases involving alleged violations of the Fair Labor Standards Act in exchange for an aggregate payment $3.2 million. The total financial impact of this litigation on the Company, including the aggregate settlement payment, related payroll taxes and the Company’s legal costs in connection with the defense of the litigation, has been presented separately in the consolidated statements of operations and comprehensive (loss) income under the litigation settlement expense line item for all periods presented.
The statutory-basis financial statements of the Insurance Companies are prepared in accordance with accounting practices prescribed or permitted by the Department of Insurance in each respective state of domicile. Each state of domicile requires that insurance companies domiciled in the state prepare their statutory-basis financial statements in accordance with the National Association of Insurance Commissioners Accounting Practices and Procedures Manual subject to any deviations prescribed or permitted by the insurance commissioner in each state of domicile. The Insurance Companies are required to report their risk-based capital (“RBC”) each December 31. Failure to maintain an adequate RBC could subject the Insurance Companies to regulatory action and could restrict the payment of dividends. At December 31, 2016, the RBC levels of the Insurance Companies did not subject them to regulatory action other than monthly financial reporting to the Texas Department of Insurance.
At December 31, 2016 and 2015, on a consolidated statutory basis, the capital and surplus of the Insurance Companies was $58.9 million and $98.8 million, respectively. For the years ended December 31, 2016, 2015 and 2014, consolidated statutory net (loss) income of the Insurance Companies was ($52.0) million, ($7.3) million and $1.0 million, respectively.
In April 2016, the Company entered into standard agreements for Treasury and Custodial Services with a bank indirectly owned 15% by our principal stockholder. The fees under these agreements for the year ended December 31, 2016 were $112 thousand.
As further detailed in note 10, in June 2015, the Company borrowed $30 million from Diamond Family Investments, LP, an affiliate of Gerald J. Ford, the Company’s controlling stockholder, to finance the acquisition described in note 18.