Management’s Discussion and Analysis of Financial Condition and Results of Operations for the three years ended December 31, 2013 is intended to provide in narrative form the perspective of the management of Kansas City Life Insurance Company (the Company) on its financial condition, results of operations, liquidity, and certain other factors that may affect its future results. This discussion should be read in conjunction with the consolidated financial statements and accompanying notes included in this document.
Kansas City Life markets individual insurance products, including traditional, interest sensitive, and variable products through a nationwide sales force of independent general agents, agents, and third-party marketing arrangements. Kansas City Life also markets group insurance products, which include life, dental, vision, and disability products through its sales force of independent general agents, agents, group brokers, and third-party marketing arrangements. Kansas City Life operates in 48 states and the District of Columbia.
Strong sales competition, highly competitive products, and an ever-changing economic environment present significant challenges to the Company from a new sales perspective. The Company’s primary emphasis is on expanding sales of individual life insurance products. The Company’s continued focus is on delivering competitive products for a reasonable cost, prompt customer service, excellent financial strength, and effective sales and marketing support to the field force.
In April 2013, the Company acquired a block of variable universal life insurance policies and variable annuity contracts from American Family Life Insurance Company. The transfer was comprised of a 100% modified coinsurance transaction for the separate account business and a 100% coinsurance transaction for the corresponding fixed account business. Included in the transaction are ongoing servicing arrangements for this business. During 2013, this transaction contributed contract charges of $13.0 million, policyholder benefits and interest credited to policyholder account balances of $3.1 million, and amortization of deferred acquisition costs of $3.6 million.
This report reviews the Company’s financial condition and results of operations, and historical information is presented and discussed. Where appropriate, factors that may affect future financial performance are also identified and discussed. Certain statements made in this report include “forward-looking statements” that fall within the meaning of the Private Securities Litigation
Reform Act of 1995. Forward-looking statements include any statement that may predict, forecast, indicate or imply future results, performance, or achievements rather than historical facts and may contain words like “believe,” “expect,” “estimate,” “project,” “forecast,” “anticipate,” “plan,” “will,” “shall,” and other words, phrases, or expressions with similar meaning.
Increasing competition in the recruiting of new general agents and agents;
The Company has a policy and process in place to identify securities that could potentially have an impairment that is other-than-temporary. All securities are reviewed to determine whether impairments exist and whether other-than-temporary impairments should be recorded. The Company considers relevant facts and circumstances in evaluating whether the impairment of a security is other-than-temporary. There are a number of significant risks and uncertainties inherent in the process of monitoring impairments, determining if an impairment is other-than-temporary, and determining the portion of an other-than-temporary impairment that is due to credit. Please refer to Note 1 for information concerning these factors and a description of these risks and uncertainties.
The evaluation of loan-backed and similar asset-backed securities, particularly including residential mortgage-backed securities (MBS), with significant indications of potential other-than-temporary impairment requires considerable use of estimates and
Mortgage loans are stated at cost, net of an allowance for potential future losses. The allowance is maintained at a level believed by management to be adequate to absorb estimated credit losses. Management's periodic evaluation and assessment of the adequacy of the reserve is based on known and inherent risks in the portfolio, historical and industry data, current economic conditions, and other relevant factors. The Company assesses the amount it maintains in the mortgage loan allowance through an assessment of what the Company believes are relevant factors at both the macro-environmental level and specific loan basis, which are detailed in Note 6. Generally, the Company establishes the allowance for potential future losses using a collective impairment methodology at an overall portfolio level that relies on monitoring certain metrics such as debt service coverage and loan-to-value, as well as other qualitative factors. If the Company determines through its evaluation that a loan has an elevated specific risk profile or it does not expect to collect all contractual cash flows, it then individually assesses the loan's risk profile and may assign an additional specific allowance value.
Deferred acquisition costs (DAC), principally agent commissions and other selling, selection and issue costs, which are related directly to the successful acquisition of new or renewal insurance contracts, are capitalized as incurred. These costs for life insurance products are generally deferred and amortized over the premium paying period. Policy acquisition costs that relate to interest sensitive and variable insurance products are deferred and amortized in relation to the estimated gross profits to be realized over the lives of the contracts.
Historically, when a new block of business was acquired or when an insurance company was purchased, a portion of the purchase price was allocated to a separately identifiable intangible asset, called value of business acquired (VOBA). VOBA is established as the actuarially determined present value of future gross profits of the business acquired and is amortized with interest in proportion to future premium revenues or the expected future profits, depending on the type of business acquired.
The following table illustrates the estimated sensitivity on a pre-tax basis to DAC on interest sensitive products that could occur in a twelve-month period for an unlocking adjustment due to potential changes in significant assumptions. Changes in assumptions of the same magnitude in the opposite direction would have an impact of a similar magnitude but opposite direction of the examples provided. Information included in the table is intended to illustrate potential sensitivity of future expected gross profits or amortization trends.
A 2.5% increase in expected mortality experience for all future years would result in a reduction in DAC and an increase in current period amortization expense of $2.5 million.
A 10 basis point reduction in future interest rate spreads would result in a reduction in VOBA and an increase in current period amortization expense of $0.6 million.
A 10% increase in future maintenance expenses would result in a reduction in VOBA and an increase in current period amortization expense of $0.3 million.
The Company establishes liabilities for amounts payable under insurance policies, including traditional life insurance, immediate annuities with life contingencies, supplementary contracts with life contingencies, and accident and health insurance. These liabilities originate from new premiums, as well as conversions from other products, and are generally payable over an extended period of time.
Policyholder account balances include universal life insurance, fixed deferred annuity contracts, variable universal life, variable annuities, and investment-type contracts. Liabilities for these policyholder account balances are included without reduction for potential surrender charges and deferred front-end contract charges. These liabilities originate from new deposits and conversions from other products. The account balances for these types of contracts are equal to cumulative deposits, less contract charges and withdrawals, plus interest credited. Front-end contract charges are deferred and amortized over the term of the policies. Policyholder benefits incurred in excess of related policyholder account balances are charged to policyholder benefits expense. Interest on policyholder account balances is credited as earned.
On an ongoing basis, the Company performs testing and analysis on its blocks of business to ensure the assumptions made remain viable. The Company also periodically performs sensitivity testing on these blocks of business to ensure it maintains the capacity to meet an increase in demand in policyholder benefits, namely increased surrenders, policy loans, or other policyholder elective withdrawals, especially when financial markets become volatile.
The following table presents year-over-year variances in results for the two years ended December 31, 2013 and 2012.
Net income decreased $10.3 million in 2013 compared to 2012. The largest factor in this decrease was a $14.6 million reduction in net realized investment gains. Also contributing to the decline in net income was a $6.4 million decrease in net investment income and a $9.2 million increase in amortization of deferred acquisition costs. Partially offsetting these items was a $13.6 million increase in contract charges and a $2.7 million reduction in interest credited to policyholder account balances. In addition, a $50.4 million increase in net premiums was offset by a $51.8 million increase in policyholder account balances, primarily related to the conversion of fixed deferred annuity products. Additional information on these items is presented below.
The following table presents gross premiums on new and renewal business, less reinsurance ceded, as included in insurance revenues, for the three years ended December 31. New premiums are also detailed by product.
Consolidated total premiums increased $8.4 million or 5% in 2012 compared to 2011, as total new premiums increased $5.2 million and total renewal premiums increased $3.2 million or 2%. The largest contributor to the increase in new premiums was a $5.6 million or 82% increase in new immediate annuity premiums. Immediate annuity receipts can have sizeable fluctuations, as receipts from policyholders largely result from one-time premiums rather than recurring premiums and the conversions from fixed deferred annuities are based upon the individual needs and decisions of contract owners. The increase in immediate annuity receipts was partially offset by a $1.3 million or 10% decrease in new group accident and health premiums. This reflected a $2.2 million decline in the short-term disability line. This change was partially offset by a $0.5 million increase in new dental premiums. The increase in renewal premiums reflected a $2.2 million or 2% increase in individual life insurance premiums, largely from the
Old American segment. In addition, group accident and health renewal premiums increased $1.8 million or 5%. This increase was largely from the short-term disability line.
The decrease in 2012 was largely due to a $5.3 million decline in new fixed deferred annuity deposits. This was partially offset by a $1.7 million increase in new variable annuity deposits and a $1.2 million increase in new universal life deposits.
Insurance revenues consist of premiums, net of reinsurance, and contract charges. Insurance revenues are affected by the level of new sales, the type of products sold, the persistency of policies, general economic conditions, and competitive forces.
Total contract charges charges increased $13.6 million or 14% in 2013, following a $1.2 million or 1% decline in 2012, relative to the same periods one year earlier. The increase in 2013 largely resulted from the American Family reinsurance transaction, which contributed $13.0 million to contract charges. Excluding this transaction, total contract charges on all blocks of business increased $0.6 million or 1% in 2013. Reserves loads on the Company's open blocks of business increased $1.2 million or 9%. Partially offsetting these, cost of insurance charges decreased $0.8 million or 1%, due to the runoff of closed blocks. The decline in 2012 was due to several factors, including a decrease in cost of insurance charges from the runoff of closed blocks; a decrease
in expense loads that resulted from increased sales of products with lower expense loads in 2012 relative to the prior year; and a decline in surrender charges from lower surrenders on universal life products. Partially offsetting these, the amortization of deferred revenue increased due to improved reinsurance modeling capabilities resulting from a system upgrade during 2011.
Included in total contract charges are groups of policies and companies that the Company considers to be closed blocks. Total contract charges on these closed blocks equaled 41% of total consolidated contract charges during 2013, compared to 35% in 2012. This increase can be attributed to the reinsurance transaction, which is considered a closed block. Excluding this transaction, total contract charges on closed blocks equaled 30% of total consolidated contract charges during 2013. The decline in 2013 reflects the runoff of the business. Total contract charges on open blocks of business increased 3% in 2013 compared to 2012.
Fixed maturity securities provided a majority of the Company’s investment income during 2013. Approximately 75% of the Company's investments were in fixed maturity securities at both December 31, 2013 and December 31, 2012. Gross investment income from these investments declined $10.1 million or 8% compared to 2012, reflecting a decline in yields earned.
Investment income from commercial mortgage loans increased $2.4 million or 6% in 2013. This increase was largely the result of higher mortgage loan portfolio balances and an increase in yields earned in 2013 compared to 2012.
The Company recorded net realized investment gains of $3.9 million in 2013, $18.4 million in 2012, and $3.1 million in 2011. During 2013, investment losses of $1.1 million were due to write-downs of investment securities that were considered other-than-temporarily impaired. In addition, the Company recorded losses of $0.1 million on both mortgage loans and real estate investments. Offsetting these losses, the Company recorded a $5.2 million net gain from investment securities. Investment securities called and other includes, but is not limited to, principal pay downs and sinking funds.
During 2012, investment losses of $1.7 million were due to write-downs of investment securities that were considered other-than-temporarily impaired. In addition, the Company recorded impairment losses of $0.8 million on the Company's real estate investments. Offsetting these losses were $2.7 million in gains resulting from sales of investment securities, $3.8 million in gains from securities called and other, and $18.9 million in gains from sales of real estate.
Policyholder benefits increased $51.8 million or 32% in 2013 compared to 2012. This increase resulted from a $35.3 million increase in reserves, a $12.5 million or 13% increase in death benefits, net of reinsurance, and a $4.3 million or 7% increase in other benefits, net of reinsurance. Several factors contributed to the change in reserves. The largest factor was $42.4 million in new immediate annuity premiums resulting from conversions of fixed deferred annuities. Conversions increased in 2013, reflecting an increase in eligible deferred annuities and changes in marketing and policyholder communications. Policyholder reserves for immediate annuity premiums are established on an approximately equal and offsetting basis, and an increase in premiums results in an increase to reserves on a comparative basis. Also, the Company refined its reserve calculation estimate for new traditional life insurance issues in 2013 related to adjustments used for modal premiums. The refinements allow for more precise calculations of the reserve liability and resulted in a decrease to the reserve liability of $4.0 million. The refinements resulted in a corresponding increase to the amortization of DAC, which largely offset the impact to net income. In addition, the change in the fair value of the GMWB rider resulted in a $2.7 million decrease in benefit and contract reserves. Also, the recapture of a block of previously reinsured policies in the second quarter of 2012 increased benefit and contract reserves, with no corresponding increase in 2013. The increase in other benefits was primarily due to higher supplementary contract and immediate annuity payments and increased dental benefits.
The Company has a GMWB rider for variable annuity contracts that is considered to be a financial derivative and, as such, is accounted for at fair value. The Company determines the fair value of the GMWB rider using a risk-neutral valuation method. The value of the riders will fluctuate depending on market conditions. At December 31, 2013, the fair value of the liability decreased $3.6 million compared to the fair value at December 31, 2012. This fluctuation can be primarily attributed to favorable returns in the capital markets and increases in risk-free swap rates. At December 31, 2012, the fair value of the liability decreased $0.9 million compared to the fair value at December 31, 2011. This fluctuation can be attributed to favorable capital market returns, a decline in market volatility, and increased interest rates, partially offset by declines in issuer discount spreads.
The amortization of DAC increased $9.2 million or 33% in 2013, following a $5.9 million or 17% decrease in 2012. The increase in 2013 was due, in part, to the reinsurance transaction on variable products. This transaction added $3.6 million to amortization in 2013. Excluding this transaction, the amortization of deferred acquisition costs increased $5.6 million or 20% in 2013 compared with the prior year. This increase reflected modal refinements, as described above, totaling $3.6 million. These refinements reduced the DAC asset and increased DAC amortization. However, this change in reserve method had an immaterial impact to the net income. Also contributing to the increase was an unlocking adjustment that increased DAC amortization $0.2 million in 2013, compared to an unlocking adjustment that decreased DAC amortization $1.3 million in 2012.
The Company reinsures certain risks with unaffiliated insurance companies under traditional indemnity reinsurance arrangements. These arrangements include yearly renewable term agreements and coinsurance agreements. The Company enters into these agreements to assist in diversifying risks and to limit the maximum loss from risks on certain policies. The ceded reinsurance agreements do not relieve the Company of its obligations to its policyholders. As such, the Company monitors the ongoing ability of the reinsurers to perform under the terms of the reinsurance agreements.
Operating expenses consist of incurred commission expense from the sale of insurance products, net of the deferral of certain commissions and certain expenses directly associated with the attainment of new business, expenses from the Company’s operations, the amortization of VOBA, and other expenses. In total, operating expenses increased $0.5 million or less than 1% in 2013 and $4.0 million or 4% in 2012, compared to the same periods one year earlier. The increase in 2013 was primarily due to higher employee salaries and employee benefit costs, consulting fees, and fees related to the servicing arrangement on the block of policies acquired from American Family. Partially offsetting these were decreases in depreciation expense, legal fees, and amortization of VOBA, as discussed below. The increase in 2012 reflected increased salaries and employee benefit costs, legal fees, and depreciation expense. These were partially offset by a decline in the amount charged to allowance for doubtful accounts on agent receivables.
The amortization of VOBA will generally decline over time, as policies run off. In addition, VOBA is evaluated on an ongoing basis for unlocking adjustments. If necessary, adjustments are made to the current period VOBA amortization. The amortization of VOBA decreased $1.7 million or 24% in 2013 compared to 2012, primarily the result of unlocking adjustments in both 2013 and 2012. Unlocking increased DAC amortization $0.9 million in 2013. This compares to an unlocking adjustment that increased DAC amortization $2.4 million in 2012. In addition, the Company had refinements in methodology in 2013 that increased VOBA amortization $0.3 million.
The Company recorded income tax of $14.9 million or 33% of income before tax in 2013, compared to income tax expense of $19.6 million or 33% income before tax in 2012 and $13.6 million or 34% of income before tax in 2011. The decrease in tax expense in 2013 versus 2012 was primarily due to lower income before tax. Favorable changes in low income housing tax credit investments decreased the effective rate in 2013, but this was offset by the impact of higher nondeductible expenses. The increase in tax expense in 2012 versus 2011 was primarily due to higher income before taxes. The decrease in effective tax rate in 2012 was primarily attributable to favorable changes in low income housing tax credit investments.
The Company establishes contingent tax assets or liabilities, when appropriate, to provide for potential challenges by taxing jurisdictions. The Company did not have any change in the tax contingency in 2013 or 2012.
The net income for this segment in in 2013 was $25.3 million, compared to $36.9 million in 2012 and $25.6 million in 2011. The largest factor in the decline was $15.5 million of lower net realized investment gains in 2013. Other factors contributing to the decline were lower net investment income, along with increases in operating expenses and amortization of deferred acquisition costs. Partially offsetting these changes was a decrease in interest credited to policyholder account balances. In addition, a $43.5 million increase in net premiums was largely offset by a $49.5 million increase in policyholder account balances, primarily related to the conversion of fixed deferred annuity products. Additional information on these items is presented below.
The Individual Insurance segment is central to the Company’s overall performance and produced 58% of consolidated insurance revenues for the year ended December 31, 2013, compared to 49% for the years ended December 31, 2012 and 2011. In addition, this segment also provided 86% of consolidated net income for the year ended December 31, 2013; 93% for the year ended December 31, 2012; and, 98% for the year ended December 31, 2011.
The following table provides detail by new and renewal deposits for the three years ended December 31. New deposits are also detailed by product.
Total new deposits declined $2.9 million or 3% in 2013, compared to a $2.6 million or 3% decline in 2012. The decline in 2013 resulted from a $10.7 million decrease in new fixed annuity deposits. Partially offsetting this, new universal life deposits increased $5.2 million, new variable universal life deposits increased $0.9 million, and new variable annuity deposits increased $1.8 million. The decline in 2012 was due to a decrease in new fixed deferred annuities. Partially offsetting this decline were increases in new universal life and variable annuity deposits.
Total renewal deposits increased $14.6 million or 10% in 2013, following a $3.6 million or 2% decline in 2012. The reinsurance transaction on variable products increased renewal deposits $20.0 million in 2013. Excluding this transaction, renewal deposits decreased $5.4 million or 4%. This reflected a $2.6 million decline in fixed annuity renewal deposits, a $1.3 million decrease in variable annuity renewal deposits, a $0.9 million decrease in universal life renewal deposits, and a $0.6 million decline in variable
Contract charges increased $13.6 million or 14% in 2013, versus a $1.2 million or 1% decline in 2012, compared to the same periods one year earlier. The increase in 2013 was largely due to the reinsurance transaction on variable products. This transaction contributed $13.0 million to contract charges. Excluding this transaction, contract charges increased $0.6 million or 1%, as a $1.3 million increase in reserve loads was partially offset by a $0.8 million decrease in cost of insurance charges. The decline in 2012 was due to several factors. First, cost of insurance charges decreased, largely due to the runoff of closed blocks. Second, a decrease in expense loads resulted from increased sale of products with lower expense loads in 2012 than the prior year. Third, surrender charges declined reflecting lower surrenders on universal life products. Finally, the amortization of deferred revenue increased due to a system upgrade during 2011 that led to enhanced reinsurance modeling capabilities.
The Company unlocked assumptions impacting the deferred revenue liability in both 2013 and 2012 due to changes in the interest and mortality margins. This unlocking resulted in a decrease to the deferred revenue liability and an increase to contract charges of $1.1 million and $1.8 million in 2013 and 2012, respectively.
The largest factor in the 2012 policyholder benefits results was an increase in benefit and contract reserves. This increase was the result of several factors, including: higher immediate annuity premiums; the recapture of a block of policies in the second quarter of 2012; impacts resulting from changes and refinements that the Company made to its reserving systems in 2011; and, the change in the value of the GMWB rider liability. Partially offsetting these changes were decreases in death benefits, net of reinsurance; supplementary contract payments; and, policy dividends and coupons.
The primary factor in the decrease in DAC amortization in 2012 versus 2011 was the unlocking that occurred in 2011. As identified in the 2011 Form 10-K, this segment had an unlocking that included both an upgrade and refinements in the processing system, primarily related to reinsurance. In addition, increases in account values decreased the amortization of DAC for certain products. Partially offsetting these was the impact of an unlocking that occurred during 2012.
Operating expenses increased $0.6 million or 1% in 2013 and $7.0 million or 11% in 2012. The increase in 2013 was primarily due to higher employee salaries and employee benefit costs, consulting fees, and fees related to the servicing arrangement on the block of policies acquired from American Family. Partially offsetting these were decreases in depreciation expense, legal fees, and amortization of VOBA, as discussed below. The 2012 results reflected increased salaries and employee benefit costs, legal fees, depreciation expense, and amortization of VOBA. These were partially offset by a decline in the amount charged to allowance for doubtful accounts for agent receivables.
The amortization of VOBA decreased $1.7 million or 25% in 2013 compared to a $1.5 million or 28% increase in 2012. The 2013 decline was primarily the result of unlocking adjustments in both 2013 and 2012. Unlocking increased VOBA amortization $0.9 million in 2013, compared to an unlocking adjustment that increased VOBA amortization of $2.4 million in 2012. In addition, the Company had refinements in methodology in 2013 that increased VOBA amortization $0.3 million. The increase in VOBA amortization in 2012 was also largely due to unlocking. Unlocking increased VOBA amortization $2.4 million in 2012, compared to an increase of $0.9 million in 2011.
The following table presents gross premiums by new and renewal business, less reinsurance ceded, as included in insurance revenues, for the three years ended December 31. New premiums are also detailed by product.
New group premiums increased $3.4 million or 24% in 2013 compared with the prior year. The increase in 2013 reflected a $3.8 million or 83% increase in dental premiums, a $0.5 million or 20% increase in group life sales, and a $0.3 million or 19% increase in long-term disability premiums. These sales were partially offset by a $1.1 million or 21% decrease in short-term disability sales. New dental premiums continue to benefit from expanded marketing and improved pricing of the dental product during 2013. New group premiums decreased $0.8 million or 5% in 2012 compared with 2011. This was primarily due to a $1.8 million or 21% decrease in new group disability premiums. Partially offsetting this decline were increases of $0.5 million or 26% in new group life premiums and a $0.5 million or 13% increase in new group dental premiums.
Renewal premiums increased $1.0 million or 2% in 2013 compared with 2012. Renewal premium increases in 2013 were $0.6 million or 8% in group life and $0.7 million or 5% in the disability lines. These were partially offset by a $0.3 million or 2% decrease in the dental line. Renewal premiums can be impacted by the Company’s reassessment of the profitability of specific individual group performance and are also impacted by competition from other insurers. In 2012, renewal premiums increased $1.6 million or 3% compared with 2011, reflecting an increase in disability renewal premiums of $3.8 million or 34%. Partially offsetting this was a $1.8 million decrease in dental renewal premiums.
This segment uses reinsurance in several of its product lines to help mitigate risk and to allow for a higher level of volume of sales and profitability. The disability products offered by this segment have significant reinsurance, while the segment does not reinsure its dental products. Reinsurance ceded premiums were $13.4 million in 2013, an increase of $0.2 million or 1% compared with 2012. Reinsurance ceded premiums in 2012 totaled $13.2 million, an increase of $1.7 million or 14% compared with 2011. The increase in 2012 largely reflected reinsurance growth in the segment's group life and disability products.
This segment identifies and tracks a policyholder benefit ratio, which is derived by dividing policyholder benefits, net of reinsurance, by total revenues. This ratio allows for a measure of the comparability of product and marketing changes over time. The overall
Net investment income decreased $0.3 million or 2% in 2013 and decreased $0.2 million or 1% in 2012 compared with the results from the same periods one year earlier. While average invested assets increased in both years, the overall portfolio yields declined, reflecting the rates available in the fixed income market place. In addition, Old American had a net realized investment gain of $0.3 million in 2013, compared to a net realized investment loss of $0.6 million in 2012. The increase in 2013 was largely from the call of certain investments.
The Company identifies the policyholder benefit ratio to measure comparability of improvement in revenue results to changes in contract benefits. This ratio is derived by dividing policyholder benefits, net of reinsurance, by total revenues excluding realized investment gains and losses and has remained relatively consistent over the years ended December 31, 2013, 2012, and 2011.
The amortization of DAC increased $3.5 million or 26% in 2013 compared with the prior year. However, the change in reserve methodology, as described above, accounted for $2.6 million of the increase in 2013. The amortization of DAC increased $1.0 million or 8% in 2012 and $0.3 million or 2% in 2011. The increase in 2012 was primarily the result of a refinement in assumptions that occurred in the previous year that decreased the amortization in 2011.
Stockholder dividends of $1.08 per share (2012 - $1.35; 2011 - $1.08)
Cost of 64,792 shares acquired (2012 - 107,511 shares; 2011 - 158,694 shares)
Kansas City Life Insurance Company is a Missouri domiciled stock life insurance company which, with its subsidiaries, is licensed to sell insurance products in 49 states and the District of Columbia. The Company offers a diversified portfolio of individual insurance, annuity, and group products through three life insurance companies. The consolidated entity (the Company) primarily consists of three life insurance companies. Kansas City Life Insurance Company (Kansas City Life) is the parent company. Sunset Life Insurance Company of America (Sunset Life) and Old American Insurance Company (Old American) are wholly-owned subsidiaries.
In April 2013, the Company acquired a closed block of variable universal life insurance policies and variable annuity contracts from American Family Life Insurance Company (American Family). Under the reinsurance agreement, the Company assumed 100% of the separate account liabilities on a modified coinsurance basis and 100% of the general account liabilities on a coinsurance basis. The transaction also involves ongoing servicing arrangements with American Family during the period that such policies and contracts are transitioned to administration by the Company. This block is included as a component of the Individual Insurance segment.
The purchase price of the transaction was $34.3 million and added $58.5 million in assets on the acquisition date, including deferred acquisition costs of $49.2 million and $9.3 million of policy loans and related accrued interest. The deferred acquisition costs will amortize with the expected future gross profits of the block of business. Liabilities included in the purchase totaled $24.2 million.
The modified coinsurance portion of the transaction represented approximately $291.6 million in separate account fund balances. The Company receives fees based upon both specific transactions and the fund value of the block of policies, as provided under modified coinsurance transactions. Also, as required under modified coinsurance transaction accounting, the separate account fund balances were not recorded as separate accounts on the Company's financial statements. Rather, they are required to be included in American Family's separate account balances. The coinsurance portion of the transaction represented approximately $23.6 million in fund value and $0.6 million in future policy benefits at acquisition. The Company recorded these fixed fund accounts as a separate block under its general accounts, and the Company also receives certain ongoing fees associated with specific transactions. This reinsurance transaction did not have a significant effect on the Company's results of operations or financial condition.
Investment income on residential mortgage-backed securities is initially based upon yield, cash flow, and prepayment assumptions at the date of purchase. Subsequent revisions in those assumptions are recorded using the retrospective method, except for adjustable rate residential mortgage-backed securities where the prospective method is used. Under the retrospective method, the amortized cost of the security is adjusted to the amount that would have existed had the revised assumptions been in place at the time of purchase. Under the prospective method, future cash flows are estimated and interest income is recognized going forward using the new effective yield to maturity. The adjustments to amortized cost under both methods are recorded as a charge or credit to net investment income. These results are based upon validations and comparisons to similar securities provided by third parties, such as rating agencies.
Mortgage loans are stated at the outstanding principal amount, adjusted for amortization of premium and accrual of discount, less an allowance for potential future losses. A loan is considered impaired if it is probable that all contractual amounts due will not be collected. The allowance for potential future losses on mortgage loans is maintained at a level believed by management to be adequate to absorb potential future credit losses. Management’s periodic evaluation and assessment of the adequacy of the allowance is based on known and inherent risks in the portfolio, historical and industry data, current economic conditions and other relevant factors, along with specific risks related to specific loans. Loans in foreclosure, loans considered to be impaired, and loans past due 90 days or more are placed on a non-accrual status.
Policy loans are carried at the outstanding principal amount. Short-term investments are stated at cost, adjusted for amortization of premium and accrual of discount.
In 2013, the Company refined its reserve calculation estimate for new traditional life insurance issues related to adjustments used for modal premiums. The refinements allow for more precise calculations of the reserve liability and resulted in a decrease to the reserve liability of $4.0 million. The refinements also resulted in a corresponding increase to the amortization of DAC, which largely offset the impact to net income.
DAC, principally agent commissions and other selling, selection, and issue costs, which are related directly to the successful acquisition of new or renewal insurance contracts, are capitalized as incurred. At least annually, the Company reviews its DAC capitalization policy and the specific items which are capitalized with existing guidance. See Note 3 for discussion of the implementation of new accounting guidance adopted during 2012 related to the costs capitalized. These deferred costs for life insurance products are generally deferred and amortized over the premium paying period. Assumptions related to DAC on traditional life insurance products are typically determined at inception and remain unchanged with any future premium deficiency recorded first as a reduction of DAC.
Policy acquisition costs that relate to interest sensitive and variable insurance products are deferred and amortized in relation to the estimated gross profits to be realized over the lives of the contracts. Estimated gross profits for interest sensitive and variable insurance products are projected using assumptions as to net interest income, net realized investment gains and losses, fees, surrender charges, expenses, and mortality gains and losses, net of reinsurance. At the issuance of policies, projections of estimated gross profits are made. These projections are then replaced by actual gross profits over the lives of the policies. In addition to other factors, emerging experience may lead to a revised outlook for the remaining estimated gross profits. Accordingly, DAC may be recalculated (unlocked) using these new assumptions and any resulting adjustment is included in income in the period such an unlocking is deemed appropriate. In addition, the reinsurance assumption transaction with American Family increased deferred acquisition costs $49.2 million in 2013.
Prior to the adoption of ASC No. 805, Business Combinations, a portion of the purchase price was allocated to a separately identifiable intangible asset, VOBA, when a new block of business was acquired or when an insurance company was purchased. The concept of VOBA is no longer applied to business combinations. Rather, under current guidance for Business Combinations, all amounts are reported at fair value at acquisition. VOBA is established as the actuarially determined present value of future gross profits of the business acquired and is amortized with interest in proportion to future premium revenues or the expected future profits, depending on the type of business acquired. VOBA is reported as a component of other assets with related amortization included in operating expenses. Amortization of VOBA occurs with interest over the anticipated lives of the underlying business to which it relates, initially 15 to 30 years. The assumptions regarding future experience on interest sensitive business can affect the carrying value of VOBA, similar to DAC. These assumptions include interest spreads, mortality, expense margins, and policy and premium persistency experience.
The Company may consider refinements in estimates due to improved capabilities resulting from administrative or actuarial system enhancements. The Company considers such enhancements to determine whether and to what extent they are associated with prior periods or simply improvements in the projection of future expected gross profits due to improved functionality. To the extent they represent such improvements, these items are applied to DAC, VOBA, and DRL in a manner similar to unlocking adjustments.
The Company has a GMWB rider for variable annuity contracts that is considered to be a financial derivative and, as such, is accounted for at fair value. The Company determines the fair value of the GMWB rider using a risk-neutral valuation method. The value of the riders will fluctuate depending on market conditions, but is principally impacted by stock market volatility and interest rates. The change in value can have a material impact on earnings.
All other new accounting standards and updates of existing standards issued through the date of this filing were considered by management and did not relate to accounting policies and procedures pertinent to the Company at this time or were not expected to have a material impact to the consolidated financial statements.
During 2012, the Company completed a change in accounting estimate related to a long-lived asset. This asset concluded its initial depreciation schedule in the third quarter of 2012. The Company reassessed this asset and its ongoing use of it and determined that it has a useful life greater than estimated at the time of initial implementation. The Company has the ability and the intent to hold and use this asset over the reassessed useful life. The Company also established an updated residual value, consistent with longer use of the asset. The Company recalculated the depreciation that would have been recognized to date using the reevaluated useful life and residual value, resulting in additional depreciation of $3.7 million being recorded as an operating expense in the third quarter of 2012. The Company evaluated the impact of the change in future depreciation and determined that this change in accounting estimate will not materially impact future comparisons.
The following table provides amortized cost and fair value of securities by asset class at December 31, 2012.
There are a number of significant risks and uncertainties inherent in the process of monitoring impairments, determining if an impairment is other-than-temporary, and determining the portion of an other-than-temporary impairment that is due to credit. These risks and uncertainties include but are not limited to:
income (loss) because of intent to sell the security before recovery of
Reductions for increases in cash flows expected to be collected that are
Investments in mortgage loans totaled $629.3 million at December 31, 2013, compared to $674.0 million at December 31, 2012. The Company's mortgage loans are mostly secured by commercial real estate and are stated at the outstanding principal balance, adjusted for amortization of premium and accrual of discount, less an allowance for potential future losses. This allowance is maintained at a level believed by management to be adequate to absorb estimated credit losses and was $3.3 million at both December 31, 2013 and December 31, 2012. Management's periodic evaluation and assessment of the adequacy of the allowance is based on known and inherent risks in the portfolio, historical experience, industry data, current economic conditions, and other relevant factors. Please see Note 6 - Financing Receivables for additional information. One mortgage loan has been foreclosed upon and transferred to real estate investments during the past two years. It resulted in the recognition of an impairment loss of $0.2 million in 2012, as the fair value was less than the carrying value. Also, there were five delinquent mortgage loans at December 31, 2013 (three at December 31, 2012). Payment was subsequently received on three of these loans in January 2014 to bring these loans current. Two loans were in the process of foreclosure at December 31, 2013, with no loss anticipated. The Company does not hold mortgage loans to any single borrower that exceed 5% of stockholders' equity.
In addition to the subject collateral underlying the mortgage, the Company typically requires some amount of recourse from borrowers as another potential source of repayment. The recourse requirement is determined as part of the underwriting requirements of each loan. The Company added 46 new loans to the portfolio during 2013 and 100% of these loans had some amount of recourse requirement. No new loans were purchased from institutional lenders during 2013. The average loan-to-value ratio for the overall portfolio was 50% at December 31, 2013, up from 47% at December 31, 2012. These ratios are based upon the current balance of loans relative to the appraisal of value at the time the loan was originated or acquired. The average loan balance was $1.6 million at both December 31, 2013 and December 31, 2012. The Company has certain mortgage loans that have an unamortized premium, totaling $2.7 million as of December 31, 2013, compared to $3.6 million at December 31, 2012.
The table below identifies the commercial mortgage portfolio by current loan balance as a percentage of value at the time of origination at December 31.
pacific region that may occur to have a material adverse effect on its business, financial position, results of operations, or cash flows. However, the Company cannot provide assurance that such risks could not have such material adverse effects.
The Company may refinance commercial mortgage loans prior to contractual maturity as a means of originating new loans that meet the Company's underwriting and pricing parameters. The Company refinanced loans with outstanding balances of $10.6 million and $31.6 million during the years ended December 31, 2013 and December 31, 2012, respectively.
In the normal course of business, the Company commits to fund commercial mortgage loans generally up to 120 days in advance. These commitments typically have fixed expiration dates. A small percentage of commitments expire due to the borrower's failure to deliver the requirements of the commitment by the expiration date. In these cases, the Company retains the commitment fee. For additional information, please see Note 21 - Commitments.
Short-term financial assets include cash and other short-term investments. Cash is categorized as Level 1. Other short-term assets are invested in institutional money market funds. These assets are categorized as Level 2, as the valuation is based upon the net asset value (NAV) of the fund. There are no restrictions on withdrawal of these funds.
The separate account assets and liabilities, which are equal, are recorded at fair value based upon NAV of the underlying investment holdings as provided by the issuer. This is the value at which a policyholder could transact with the issuer on the date. Separate accounts are categorized as Level 2.
The fair values of investment-type insurance contracts included with policyholder account balances for fixed deferred annuities are estimated to be their cash surrender values as there is not a required maturity date. The fair values of supplementary contracts without life contingencies are estimated to be the present value of payments at a market yield. The fair values of deposits with no stated maturity are estimated to be the amount payable on demand at the measurement date. These liabilities are categorized as Level 3.
The Company offers a GMWB rider that can be added to new or existing variable annuity contracts. The rider provides an enhanced withdrawal benefit that guarantees a stream of income payments to an owner or annuitant, regardless of the contract account value. Fair value for GMWB rider contracts is a Level 3 valuation, as it is based on models which utilize significant unobservable inputs. These models require actuarial and financial market assumptions, which reflect the assumptions market participants would use in pricing the contract, including adjustments for volatility, risk, and issuer non-performance.
The determination of the fair value of the Company's fixed maturity and equity securities is the responsibility of the Company's investment accounting group, which reports to the Principal Accounting Officer. This group manages and creates the policies and processes used to determine the fair value for these assets. This group employs third-party pricing services and obtains selected support from the Company's portfolio managers in order to achieve results for this multi-tiered process. All prices are reviewed by the investment accounting group. The financial reporting group, the Principal Accounting Officer, and the Chief Financial Officer also review the fair value methodologies and the fair values that are obtained each quarter. The results of these reviews are made known to the Company's Disclosure Committee and to the Company's Audit Committee. In addition, any significant policy or process changes made during the quarter are also discussed with the Company's Audit Committee.
Each quarter, the Company evaluates the prices received from third-party security pricing services and independent brokers to ensure that the prices represent a reasonable estimate of the fair value within the macro-economic environment, sector factors, and overall pricing trends and expectations. The Company corroborates and validates the primary pricing sources through a variety of procedures that include but are not limited to comparison to additional third-party pricing services or brokers, where possible; a review of third-party pricing service methodologies; back testing; in-depth specific analytics on randomly selected issues; and comparison of prices to actual trades for specific securities where observable data exists. In addition, the Company analyzes the primary third-party pricing service's methodologies and related inputs and also evaluates the various types of securities in its investment portfolio to determine an appropriate fair value hierarchy. Finally, the Company also performs additional evaluations when individual prices fall outside tolerance levels when comparing prices received from third-party pricing services.
a third-party-developed index that is consistent with the attributes of the product and provides for an approximate match of the volatility measure with the expected life of the underlying contracts. The fair value methodologies and the fair values are reviewed by the Senior Vice President and Actuary, the Principal Accounting Officer, and the Chief Financial Officer. The results of these reviews are made known to the Company's Disclosure Committee and to the Company's Audit Committee. In addition, any significant policy or process changes made are also discussed with the Company's Audit Committee.
The changes in Level 3 assets and liabilities measured at fair value on a recurring basis for the years ended December 31 are summarized below:
The following table presents the valuation method for material financial instruments included in Level 3, as well as the unobservable inputs used in the valuation of those financial instruments at December 31, 2013.
The Company estimates that the impact of unobservable inputs is as follows: a 10% increase in the mortality assumption would reduce the liability less than $0.1 million; a 10% decrease in the lapse assumption would increase the liability less than $0.1 million; a 10% increase in the benefit utilization would increase the liability $0.5 million; and a 10 basis point increase in the credit spreads used for non-performance would decrease the liability $0.2 million.
The table below is a summary of fair value estimates at December 31 for financial instruments. The Company has not included assets and liabilities that are not financial instruments in this disclosure. The total of the fair value calculations presented below may not be indicative of the value that can be obtained.
The Company has agent receivables which are classified as financing receivables and which are reduced by an allowance for doubtful accounts. These trade receivables from agents are long-term in nature and are specifically assessed as to the collectibility of each receivable. The Company's gross agent receivables totaled $3.9 million at December 31, 2013 with an allowance for doubtful accounts totaling $2.2 million. Gross agent receivables totaled $4.0 million with an allowance for doubtful accounts of $2.3 million at December 31, 2012. The Company had no material troubled debt that was restructured or modified during any of the periods presented. The Company has two types of agent receivables including:
Agent specific loans. At both December 31, 2013 and December 31, 2012, these loans totaled $1.1 million, with an allowance for doubtful accounts of $0.3 million.
Various agent commission advances and other commission receivables. Gross agent receivables in this category totaled $2.8 million, with an allowance for doubtful accounts of $1.9 million at December 31, 2013. Gross agent receivables totaled $2.9 million and the allowance for doubtful accounts was $2.0 million at December 31, 2012.
The Company considers its mortgage loan portfolio to be long-term financing receivables. Mortgage loans are stated at cost, adjusted for amortization of premium and accrual of discount, less of an allowance for potential future losses. Mortgage loan interest income is recognized on an accrual basis with any premium or discount amortized over the life of the loan. Prepayment and late fees are recorded on the date of collection. Loans in foreclosure, loans considered impaired, or loans past due 90 or more are placed on a non-accrual status.
Generally, the Company considers its mortgage loans to be a portfolio segment. The Company considers its primary class to be property type. The Company primarily uses loan-to-value as its credit risk quality indicator but also monitors additional secondary risk factors, such as geographic distribution both on a regional and specific state basis. The mortgage loan portfolio segment is presented by property type in a table in Note 4 - Investments, as are geographic distributions by both region and state. These measures are also supplemented with various other analytics to provide additional information concerning potential impairment of mortgage loans and management's assessment of financing receivables.
The allowance for potential future losses is monitored and evaluated at multiple levels with a process that includes, but is not limited to, the factors presented below. Generally, the Company establishes the allowance for potential future losses using the collectively evaluated impairment methodology at an overall portfolio level and then specifically identifies an allowance for potential future losses on loans that contain elevated risk profiles. If the Company determines through its evaluation that a loan has an elevated specific risk profile, it then individually assesses the loan’s risk profile and assigns a specific allowance value based on many factors, including those identified below.
Other factors that the Company may perceive as important or critical given its portfolio; and
As part of the Company’s process of monitoring impairments on loans, there are a number of significant risks and uncertainties inherent in this process. These risks include, but are not limited to:
Over the past two years, the Company has had three mortgage loan defaults. One loan was foreclosed in the first quarter of 2012. This foreclosure resulted in an impairment loss of $0.2 million. The other two loan defaults are currently in the process of foreclosure. The Company had no troubled loans that were restructured or modified in 2013 or 2012.
At December 31, 2013 and 2012, the Company had unfunded commitments of $0.2 million and $1.3 million, respectively. In 2013, there were no mortgage loan commitments outstanding to the real estate joint venture VIEs, while commitments totaled $0.3 million in 2012. Unfunded equity commitments for the development of properties owned were $0.2 million and $1.0 million in 2013 and 2012, respectively. The loan commitments are included in Note 21 to the Consolidated Financial Statements. The Company also has contingent commitments to fund additional equity contributions for operating support to certain real estate joint venture VIEs, which could result in additional exposure to loss. However, the Company is not able to quantify the amount of these contingent commitments.
During 2012, the Company completed a change in accounting estimate related to a long-lived asset. This asset concluded its initial depreciation schedule in the third quarter of 2012. The Company reassessed this asset and its ongoing use and determined that it has a useful life greater than estimated at the time of its initial implementation. The Company also established an updated residual value, consistent with a longer use of the asset. Please see Note 3 - Change in Accounting Principle and Change in Accounting Estimate for additional information. Depreciation expense totaled $1.6 million in 2013 (2012 - $5.1 million; 2011 - $1.5 million).
In April 2013, the Company acquired a closed block of variable universal life insurance policies and variable annuity contracts from American Family as discussed in the Reinsurance Transaction section of Note 1. The Company assumed 100% of the separate account liabilities on a modified coinsurance basis and 100% of the general account liabilities on a coinsurance basis. The modified coinsurance portion of the transaction represented approximately $291.6 million in separate account fund balances. The Company receives fees based upon both specific transactions and the fund value of the block of policies, as provided under modified coinsurance transactions. Also, as required under modified coinsurance transaction accounting, the separate account fund balances were not recorded as separate accounts on the Company's financial statements. The coinsurance portion of the transaction represented approximately $23.6 million in fund value and $0.6 million in future policy benefits at acquisition. The fund value and future policy benefits approximated $26.0 million and $0.8 million at December 31, 2013, respectively. The Company recorded these fixed funds accounts as a separate block under its general accounts.
The Company has a guaranteed minimum withdrawal benefit (GMWB) rider that can be added to new or existing variable annuity contracts. The rider provides an enhanced withdrawal benefit that guarantees a stream of income payments to an owner or annuitant, regardless of the contract account value. The value of variable annuity separate accounts with the GMWB rider was $123.9 million at December 31, 2013 (2012 - $102.5 million), and the guarantee liability was $(4.7) million at December 31, 2013 (2012 - $(1.1) million). The value of the GMWB rider is recorded at fair value. The change in this value is included in policyholder benefits in the Consolidated Statements of Comprehensive Income. The value of variable annuity separate accounts with the GMWB rider is recorded in separate account liabilities, and the value of the rider is included in other policyholder funds in the Consolidated Balance Sheets.
The total separate account assets were $393.4 million at December 31, 2013 (2012 - $340.1 million). Variable universal life and variable annuity assets comprised 29% and 71% of this amount, respectively, in both 2013 and 2012.
At December 31, 2013, separate account balances for variable annuity contracts were $279.6 million. The total reserve held for variable annuity GMDB was less than $0.1 million (December 31, 2012 - $0.1 million). Additional information related to the GMDB and related separate account balances and net amount at risk (the amount by which the GMDB exceeds the account balance) as of December 31, 2013 and 2012 is provided below:
Tax positions are evaluated at the reporting date to determine whether an unrecognized tax benefit should be recorded. The Company did not have any unrecognized tax benefits at December 31, 2013, 2012, or 2011.
The Company's policy is to recognize interest and penalties accrued related to unrecognized tax benefits in income tax expense (benefit). The Company recognized $0.1 million of tax penalty and interest expense in 2013. The Company did not recognize any expense (benefit) related to interest and penalties during 2012 or 2011. The Company did not have any accrued interest and penalties at December 31, 2013 or December 31, 2012.
The Kansas City Life Cash Balance Pension Plan (the Plan) was amended effective December 31, 2010 to provide that participants’ accrued benefits will be frozen, and that no further benefits or accruals will be earned after December 31, 2010. Although participants will no longer accrue additional benefits under the Plan at December 31, 2010, participants will continue to earn years of service for vesting purposes under the Plan with respect to their benefits accrued through December 31, 2010. In addition, the cash balance account will continue to earn annual interest. Plan benefits are based on a cash balance account consisting of credits to the account based upon an employee’s years of service, compensation and interest credits on account balances calculated using the greater of the average 30-year Treasury bond rate for November of each year or 5.5%. The benefits expected to be paid in each year from 2014 through 2018 are $11.4 million, $10.3 million, $9.3 million, $9.3 million, and $10.0 million, respectively. The aggregate benefits expected to be paid in the five years from 2019 through 2023 are $48.9 million. The expected benefits to be paid are based on the same assumptions used to measure the Company’s benefit obligation at December 31, 2013 and are the actuarial present value of the vested benefits to which the employee is currently entitled but based upon the expected date of separation or retirement. The 2014 contribution for the plan has not been determined.
Certain of the Company's pension plan assets consist of investments in pooled separate accounts offered by the Plan. Net asset value (NAV) of the separate accounts is calculated in a manner consistent with GAAP for investment companies and is determinative of their fair value. Several of the separate accounts invest in publicly quoted mutual funds or actively managed stocks. The fair value of the underlying mutual funds or stock is used to determine the NAV of the separate account, which is not publicly quoted. Some of the separate accounts also invest in fixed income securities. The fair value of the underlying securities is based on quoted prices of similar assets and used to determine the NAV of the separate account. Sale of plan assets may be at values less than NAV.
Certain redemption restrictions may apply to specific stock and bond funds, including written notices prior to the withdrawal of funds and a potential redemption fee on certain withdrawals.
Plan fiduciaries set investment policies and strategies and oversee its investment allocation, which includes selecting investment managers, commissioning periodic asset-liability studies, and setting long-term strategic targets. Long-term strategic investment objectives include preserving the funded status of the plan and balancing risk and return. Target allocation ranges are guidelines, not limitations, and occasionally plan fiduciaries will approve allocations above or below a target range. The Plan does not expect to return any plan assets to the Company during 2014.
The current assumption for the expected long-term rate of return on plan assets is 7.7%. This assumption is determined by analyzing: 1) historical average returns achieved by asset allocation and active management; 2) historical data on the volatility of returns; 3) current yields available in the marketplace; 4) actual returns on plan assets; and 5) current and anticipated future allocation among asset classes. The asset classes used for this analysis are domestic and international equities, investment grade corporate bonds, alternative assets, and cash. The overall rate is derived as a weighted average of the estimated long-term returns on the asset classes represented in the investment portfolio of the plan.
The assumed discount rates used to determine the benefit obligation for pension benefits and postretirement benefits are 4.42% and 4.88%, respectively. The discount rates were determined by reference to the Citigroup Pension Liability Yield Curve on December 31, 2013. Specifically, the spot rate curve represents the rates on zero coupon securities of the quality and type included in the pension index at various maturities. By discounting benefit cash flows at these rates, a notional amount equal to the fair value of a cash flow defeasing portfolio of bonds was determined. The discount rate for benefits was calculated as a single rate giving the same discounted value as the notional amount.
The postretirement life insurance plan is non-contributory with level annual payments over the participants' expected service periods. The plan covers only those employees with at least one year of service at December 31, 1997. The benefits in this plan are frozen, using the employees' years of service and compensation at December 31, 1997.
Non-contributory defined contribution retirement plans for eligible general agents and sales agents provide supplemental payments based upon earned agency first year individual life and annuity commissions. Contributions to these plans in 2013 were $0.1 million (2012 - $0.1 million; 2011 - $0.1 million). Non-contributory deferred compensation plans for eligible agents based upon earned first year commissions are also offered. Contributions to these plans in 2013 were $0.3 million (2012 - $0.5 million; 2011 - $0.5 million).
that arise during the period, but are not recognized as components of net periodic benefit cost, are recognized within other comprehensive income (loss), net of taxes.
Included in the Company's Other Benefits is a medical insurance plan for retired agents. During the second quarter of 2013, the Company notified the participants that this benefit was being terminated effective December 31, 2013. This benefit termination required a re-valuation of the plan, which was performed effective June 10, 2013 and resulted in a plan curtailment. The curtailment resulted in the immediate recognition of reduced operating expenses of $0.1 million and a reduced liability of $4.4 million.
of the three-year interval. Dividends are accrued and paid at the end of each three-year interval to the extent that they exceed negative stock price appreciation. Plan payments are contingent on the continued employment of the participant unless termination is due to a qualifying event such as death, disability, or retirement. In addition, all payments are lump sum with no deferrals allowed. The Company does not make payments in shares, warrants, or options.
The following table provides information about the outstanding three-year intervals at December 31, 2013.
The plan made a payment of $2.4 million during 2013 for the three-year interval ended December 31, 2012. No payments were made during 2012 or 2011 for the three-year intervals ended December 31, 2011 and 2010, respectively. The cost of compensation charged as an operating expense during 2013 was $3.5 million, net of tax. The cost of compensation charged as an operating expense during 2012 and 2011 were $2.2 million and $0.3 million, net of tax, respectively.
Old American has a coinsurance agreement that reinsures certain whole life policies issued by Old American prior to December 1, 1986. These policies had a face value of $26.3 million at December 31, 2013 (2012 - $29.6 million). The reserve for future policy benefits ceded under this agreement at December 31, 2013 was $15.1 million (2012 - $16.7 million).
Sunset Life entered into a yearly renewable term reinsurance agreement January 1, 2002, whereby it ceded 80% of its retained mortality risk on traditional and universal life policies. In June 2012, Sunset Life recaptured approximately 9% of the outstanding
Reinsurance recoverables were $191.1 million at year-end 2013, consisting of reserves ceded of $178.7 million and claims ceded of $12.4 million. Reinsurance recoverables were $190.6 million at year end 2012, consisting of reserves ceded of $177.1 million and claims ceded of $13.5 million.
The Company monitors several factors that it considers relevant to satisfy itself as to the ongoing ability of a reinsurer to meet the obligations of the reinsurance agreements. These factors include the credit rating of the reinsurer, significant changes or events of the reinsurer, and any other factors that the Company believes relevant. If the Company believes that any reinsurer would not be able to satisfy its obligations with the Company, a separate contingency reserve may be established. At year-end 2013 and 2012, no reinsurer met these conditions. In addition, the Company will review the credit rating and financial statements of a reinsurer before entering into any new agreements.
The Company acquired a block of variable universal life insurance policies and variable annuity contracts from American Family in 2013. The transfer was comprised of a 100% modified coinsurance transaction on the separate account business and a 100% coinsurance transaction for the corresponding fixed account business. Included in the transaction are ongoing servicing arrangements for this business. At December 31, 2013, the block consisted of $319.0 million of separate account balances, which are included in the financial statements of American Family. At December 31, 2013, the block consisted of $0.8 million of future policy benefits and $26.0 million in fixed fund balances that are included in policyholder account balances in the Company’s consolidated balance sheets.
The table below provides information about comprehensive income (loss) for the years ended December 31.
(Increases) decreases net realized investment gains (losses) on the Consolidated Statements of Comprehensive Income.
(Increases) decreases income tax expense on the Consolidated Statements of Comprehensive Income.
Separate investment portfolios are maintained for each of the three life insurance companies. However, investment assets and income are allocated to the Group Insurance segment based upon its cash flows and future policy benefit liabilities. Most home office functions are fully integrated for all segments in order to maximize economies of scale. Therefore, operating expenses are allocated to the segments based upon internal cost studies, which are consistent with industry cost methodologies.
The unaudited quarterly results of operations for the years ended December 31, 2013 and 2012 are summarized in the table below.
The table below provides Kansas City Life’s net gain from operations, net income, and capital and surplus (stockholders' equity) on the statutory basis used to report to regulatory authorities for the years ended December 31.
The Company is required to deposit a defined amount of assets with state regulatory authorities. Such assets had a statutory carrying value of $12.5 million at December 31, 2013 (2012 - $12.7 million; 2011 - $12.9 million).
In the normal course of business, the Company has open purchase and sale commitments. At December 31, 2013, the Company had purchase commitments to fund mortgage loans of $2.5 million.
Subsequent to December 31, 2013 the Company entered into commitments to fund additional mortgage loans of $6.8 million and to sell real estate for $0.9 million.
While the Company makes every effort to appropriately accrue liability for litigation and other legal proceedings, the outcome of such matters (including any amount of settlement, judgment or fine) is inherently difficult to predict. This difficulty arises from the need to gather all relevant facts (which may or may not be available) and to apply those facts to complex legal principles. Based on currently available information, the Company does not believe that any litigation, proceeding or other matter to which it is a party or otherwise involved will have a material adverse effect on its financial position, the results of its operations, or its cash flows. However, an adverse development or an increase in associated legal fees could be material in a particular period depending, in part, on the Company's operating results in that period.
On January 27, 2014, the Kansas City Life Board of Directors declared a quarterly dividend of $0.27 per share, paid on February 12, 2014 to stockholders of record on February 6, 2014.
Treasury stock, at cost (2013 - 7,527,841 shares; 2012 - 7,463,823 shares)
Elimination entries to remove intercompany transactions for life and accident and health insurance that the Company purchases for its employees and agents were as follows: insurance revenues from the Group Insurance segment and operating expenses from the Individual Insurance segment to arrive at Consolidated Statements of Comprehensive Income.
For additional information see Note 15 - Reinsurance in the Notes to Consolidated Financial Statements.
We have audited the accompanying consolidated balance sheets of Kansas City Life Insurance Company and subsidiaries (the Company) as of December 31, 2013 and 2012, and the related consolidated statements of comprehensive income, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2013. In connection with our audits of the consolidated financial statements, we also have audited financial statement schedules I to V. We also have audited the Company’s internal control over financial reporting as of December 31, 2013, based on criteria established in Internal Control - Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these consolidated financial statements and financial statement schedules, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Assessment of Internal Control Over Financial Reporting. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedules and an opinion on the Company’s internal control over financial reporting based on our audits.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Kansas City Life Insurance Company and subsidiaries as of December 31, 2013 and 2012, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2013, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein. Also in our opinion, Kansas City Life Insurance Company and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2013, based on criteria established in Internal Control - Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission.