Most of our leases in the United States and other countries have lease terms of three to five years, although some leases have terms of up to 11 remaining years. Our aggregate annual rental expense under all leases was $27 million during the year ended December 31, 2010.
Retirement and Protection. We offer and manage a variety of protection, wealth management and retirement income products. Our primary protection products include life and long-term care insurance. Additionally, we offer other Medicare supplement insurance products, as well as care coordination services for our long-term care policyholders. Our wealth management and retirement income products include: a variety of managed account programs and advisor services, financial planning services, fixed and variable deferred and immediate individual annuities and group variable annuities offered through retirement plans. For the year ended December 31, 2010, our Retirement and Protection segment’s net income available to Genworth Financial, Inc.’s common stockholders and net operating income available to Genworth Financial, Inc.’s common stockholders were $403 million and $485 million, respectively.
We also have Corporate and Other activities which include debt financing expenses that are incurred at our holding company level, unallocated corporate income and expenses, eliminations of inter-segment transactions, the results of non-core businesses and non-strategic products that are managed outside of our operating segments. For the year ended December 31, 2010, Corporate and Other activities had a net loss available to Genworth Financial, Inc.’s common stockholders and a net operating loss available to Genworth Financial, Inc.’s common stockholders of $146 million and $213 million, respectively.
net premiums, insurance and investment product fees, income from non-core businesses and non-strategic products and eliminations of inter-segment transactions and
Slow economic growth, coupled with uncertain financial market, government policy, regulatory reform and other market conditions, influenced, and we believe will continue to influence, investment and spending decisions by consumers and businesses as they adjust their consumption, debt, capital and risk profiles in response to these conditions. As a result, our sales, revenues and profitability trends of certain insurance and investment products were adversely impacted during the first half of 2009. Since then, these trends have generally improved as investor confidence in the markets and the outlook for some consumers and businesses strengthened. Other factors such as government spending, monetary policies, regulatory initiatives, the volatility and strength of the capital markets, anticipated tax policy changes and the impact of U.S. healthcare and financial regulation reform will continue to affect economic and business outlooks and consumer behaviors moving forward.
In response to market conditions, we adjusted our investment and asset-liability management strategies to reduce risk during strained economic and financial market conditions. In addition, we refined our product and distribution management strategies to best fit with our strengths, profitability targets and risk tolerance. These and other company actions were made to enhance our competitive position as well as our capital flexibility and liquidity. See “-Trends and conditions affecting our segments” below for a discussion regarding the impacts the financial markets and global economies have on our businesses.
The U.S. government, Federal Reserve and other legislative and regulatory bodies continue to take a variety of other actions to support the capital markets, influence interest rates, stabilize housing markets and provide needed liquidity to promote economic growth. These include various mortgage restructuring programs implemented or under consideration by the GSEs, lenders, servicers and the U.S. government. Outside of the United States, various governments took actions to stimulate economies, stabilize financial systems and improve market liquidity. In general, these actions have positively affected these countries and their markets; however, there can be no assurance as to the future level of impact of any of these actions on the economic and financial markets, including levels of volatility. A delayed economic recovery period or a U.S. or global recessionary or debt crisis setback could materially and adversely affect our business, financial condition and results of operations.
concerns were more focused on particular European borrowers. For securitized products, the market was characterized by shrinking supply and lower issuance across all asset types. Asset valuations in securitized sectors continued to improve given a strong supply and demand imbalance, stable credit performance, and the structural protections embedded in the transactions brought to market.
Certain segments of the marketplace are still experiencing declines in the performance of collateral underlying certain structured securities, but impairments of corporate bonds held in our investment portfolio continued their downward trend and were at moderate levels during the first half of 2010 with a minimal increase in the third and fourth quarters of 2010. We recorded net other-than-temporary impairments of $208 million during the year ended December 31, 2010 which were lower than prior year levels and we expect losses to moderate further. Additionally, during the year ended December 31, 2010, losses related to limited partnerships decreased $147 million as compared to the year ended December 31, 2009 with limited partnership gains since the first quarter of 2010. Although economic conditions may continue to negatively impact certain investment valuations, the underlying collateral associated with securities that have not been impaired continues to perform.
The increase in life insurance sales we experienced during the second half of 2009 continued throughout 2010, in large part the result of strong adoption of our new term universal life insurance product. As anticipated, sales of our traditional term life insurance product have declined given the introduction late in 2009 of our new term universal life insurance product. We believe our term universal life insurance product offers a similar or better value proposition to the consumer as our traditional term life insurance product which we no longer sell, and is competitively priced for the middle and emerging affluent markets. We have experienced strong adoption of the product, with sales of $96 million in 2010. In our universal life insurance products, sales during 2010 were relatively stable given product changes made in 2009. Going forward, the level of new sales will depend on ongoing distributor and consumer adoption and usage, as well as overall market conditions.
In the first half of 2009, termination rates increased on our business resulting in lower benefits and other changes in policy reserves that contributed positively to results of operations. However, during the second half of 2009 and in 2010, termination rates have decreased and returned to levels experienced historically resulting in higher benefits and other changes in policy reserves that contributed to lower results of operations. In recent periods, we have experienced, and may continue to, experience higher claims in older issued policies which negatively impact our results of operations.
In the fourth quarter of 2010, one of our competitors announced its intent to exit the long-term care insurance market effective January 1, 2011. In addition, several competitors have announced their intent to seek rate actions on their individual and certain group long-term care insurance products. These announcements by competitors, coupled with our announcement, in October 2010, that we planned to file for a premium rate increase of 18% on two blocks of older long-term care insurance policies, could disrupt the market and impact our sales going forward.
We continue pursuing multiple initiatives including: new product issuance and service offerings; investing in claims paying capabilities; maintaining tight expense management; actively exploring alternative reinsurance strategies; executing effective investment strategies; and considering other actions to improve business profitability and the performance of the overall block. These efforts include our older blocks of business and the potential for future in-force rate increases, where warranted. In this connection, we began filing for a rate increase of 18% on two blocks of older long-term care insurance policies in November 2010 and the implementation of any rate increase will not begin to take effect until 2011. The state approval process of an in-force rate increase varies, and in certain states can take up to two years to obtain approval. Upon approval, premium increases may only occur on an insured’s policy anniversary date. Therefore, the benefits of any rate increase may not be fully realized until the implementation is complete over the next several years. As of December 31, 2010, these blocks represented approximately $550 million, or 29%, of our total annual long-term care insurance premium in-force.
The decline and volatility in the equity markets that began in 2008 negatively impacted the asset management industry overall, as well as our assets under management, net flows, the performance of certain mutual funds we offer and associated fee income. The recovery of equity and fixed income markets began in the second quarter of 2009 and continued throughout 2009 and 2010.
The market improvement, our introduction of new investment strategies, the expansion of products and services we offer to our advisors and an increase in the number of advisors that do business with us collectively
Retirement income. Results of our retirement income business are affected by investment performance, interest rate levels, slope of the interest rate yield curve, net interest spreads, equity market conditions, mortality, policyholder lapses, new product sales and relative competitiveness of our offerings. Our competitive position within many of our distribution channels and our ability to grow this business depends on many factors, including product offerings and company ratings. Our product offerings include current and minimum crediting rates on our spread-based products and surrender charges. Guaranteed benefit features of our in-force variable annuity products provide guaranteed death or living benefits to the consumer.
Recent product changes and sales of annuity products reflect a more targeted growth strategy in order to achieve appropriate risk adjusted returns. We have scaled back certain product features and targeted certain market segments to reduce risk in our annuity products. In January 2011, we announced we will discontinue sales of our variable deferred and group variable annuities.
In fixed annuities, sales may fluctuate as interest rates change and as we offer these products using a disciplined approach to meet targeted returns. We have introduced new market value adjustment deferred annuity products in the BGA channel and we have re-priced immediate annuities to maintain spreads and targeted returns. In 2009, spreads on fixed annuity products declined in connection with lower short-term rates and from holding higher cash balances to manage through challenging market conditions. During 2010, we reinvested a significant portion of the excess cash and achieved improvements in spread-related income as a result of higher yields. Looking ahead, we will continue to actively evaluate investment strategies in the event that interest rates increase rapidly resulting in liability durations shortening. We have targeted distributors and producers and maintained sales capabilities that align with this more focused strategy. Beginning in the second half of 2009, we expanded our distribution relationships with new financial institutions, independent financial planners and BGAs and we expect to continue to further expand these distribution relationships.
International mortgage insurance. Results of our international mortgage insurance business are affected by changes in regulatory environments, employment levels and other economic and housing market trends, including interest rate trends, home price appreciation, mortgage origination volume, levels of mortgage delinquencies and movements in foreign currency exchange rates.
Canada and Australia comprise approximately 97% of our international mortgage insurance risk in-force with an estimated average effective loan-to-value ratio of 61% as of December 31, 2010. We expect that these established markets will continue to be key drivers of revenues and earnings in our international mortgage insurance business. Our entry and growth in developing international markets will remain selective.
Throughout 2009, we observed increased stability in international housing markets, particularly in Canada and Australia, as improving economic and employment outlooks, lower mortgage rates, improved housing affordability, certain government programs and improved consumer confidence resulted in increased home sales
Since the beginning of 2010, the Bank of Canada increased the overnight rate by 75 basis points to 1.0% and we expect the Bank of Canada to maintain the overnight rate at current levels through the first half of 2011. In Australia, as a sign of the relative health and stability of that economy, the Reserve Bank of Australia increased the cash rate by 175 basis points to 4.75% between September 30, 2009 and December 31, 2010 and we also expect the Reserve Bank of Australia to maintain the cash rate at current levels through the first half of 2011.
In Australia, as a result of low interest rates during most of 2009 and specific government programs, there was an increase in mortgage originations by first-time home buyers and an associated increase in our flow new insurance written. The Australian government extended its enhanced first-time home buyer program benefits through the end of 2009, although at reduced levels, and eliminated these enhanced benefits altogether effective January 1, 2010. Additionally, high loan-to-value mortgage originations, particularly above 90% loan-to-value, declined significantly in 2010 as banks allocated less capital to high loan-to-value lending. As a result of lower levels of government support to first-time home buyers, a decline in high loan-to-value mortgage originations and increased interest rates beginning in the fourth quarter of 2009, there has been a decrease in mortgage originations and an associated decrease in our flow new insurance written during 2010. For 2011, we expect flow new insurance written to remain relatively flat compared to 2010 levels.
Lifestyle protection insurance. Growth and performance of our lifestyle protection insurance business is dependent in part on economic conditions, including consumer lending levels, unemployment trends, client account penetration and mortality and morbidity trends. Additionally, the types and mix of our products will vary based on regulatory and consumer acceptance of our products.
New claim registrations on unemployment-related policies have continued to decline throughout 2010 and are at the lowest levels since the third quarter of 2008. This, combined with stabilizing claim durations, has led to a decrease in our loss ratio. The improvement in our loss ratio has been most notable in the Nordic and Western Europe regions. We expect unemployment rates in Europe to slowly decline over the next several quarters with regional variation. Additionally, we expect slow but positive European gross domestic product growth, which could positively impact consumer lending demand as well as reduce claim pressures through new job creation.
During 2009 and into 2010, significant progress was made in improving profitability through pricing, coverage or distribution contract changes on both new and eligible in-force policies. With most of these contract restructuring projects complete, we are focusing on increasing sales through improved product offerings and expanded distribution channels. We expect these strategies to improve profitability and help to offset the impact of continued high unemployment as well as relatively low levels of consumer lending.
given recently enacted adjustments in FHA policies and pricing along with GSE pricing and housing and financial reform involving the GSEs and government programs, the industry expects to regain market share over time. Specifically, the mortgage insurance industry level of market penetration and eventual market size could continue to be affected by any actions taken by the GSEs, the FHA or the U.S. government impacting housing policy or related reforms. The Housing and Economic Recovery Act of 2008 provided for changes to, among other things, the regulatory authority and oversight of the GSEs and the authority of the FHA including with respect to premium pricing, maximum loan limits and down payment requirements. In addition, Fannie Mae and Freddie Mac remain the largest purchasers and guarantors of mortgage loans in the United States.
We control the quality of new business through prudent underwriting guidelines, which we modify from time to time when circumstances warrant. For example, we announced in early 2010 the expansion of certain underwriting guidelines. We are also seeing the benefit of the previously implemented rate increase of 20% on average for our flow products and a reduction in lender captive cession which equates to an effective pricing improvement of approximately 15%. We also charge additional amounts for certain risk factors and increased the related pricing. In addition, we previously exited certain product lines, such as A minus, Alt-A and 100% loan-to-value products. During 2010, we eliminated our targeted declining market policy, which among other things, prohibits us from providing coverage on loans with 90% loan-to-value and below even in areas of the U.S. housing market where such conditions have begun to stabilize or improve. In early 2010, we reduced the number of markets subject to our declining market policy to allow coverage of loans up to 95% loan-to-value in additional markets given improving housing market conditions in those areas, which may result in increased new business written. In addition, we regularly monitor competitor pricing and underwriting changes and their potential impact.
Overall pressure on the housing market has adversely affected the performance of our portfolio, particularly our 2006, 2007 and first half of 2008 book years that we believe peaked in their delinquency development during the first quarter of 2010. While the impact was concentrated in certain states and product types, during 2009 and through 2010, the impact shifted to more traditional products reflecting elevated unemployment and underemployment levels throughout the country. In mid-2010, we saw an increase in foreclosure starts as well as an increase in our paid claims as these late stage delinquency loans go through foreclosure. We expect this trend to continue in 2011. Voluntary suspended foreclosure actions in response to problems associated with foreclosure process defects could cause claim payments to be deferred to later periods and potentially have an adverse impact on a recovery of the residential mortgage market.
Our loss mitigation activities, including those relating to workouts, loan modifications, pre-sales, rescissions and targeted settlements, net of reinstatements, which occurred during the year ended December 31, 2010, resulted in a reduction of expected losses of $734 million compared to $847 million for loss mitigation activities occurring during the year ended December 31, 2009. Workouts and loan modifications, which related to loans representing 6% of our primary risk in-force as of December 31, 2010, and occurred during the year then ended resulted in a reduction of expected losses of $521 million compared to $217 million for year ended December 31, 2009. Our workout and loan modification programs with various lender and service customers are designed to help borrowers in default regain current repayment status on their mortgage loans, which ultimately allowed
many of these borrowers to remain in their homes. During the year ended December 31, 2010, we executed loan restructurings and modifications with our lender partners that resulted in reduced monthly mortgage loan repayment amounts through reductions of the underlying loans’ interest rates or debt forgiveness by lenders or through a lengthening of the loans’ principal amortization period or through some combination thereof. The loans that are subject to workouts and loan modifications that were completed could be subject to potential re-default by the underlying borrower at some future date. In addition, pre-sales and other non-cure workouts that occurred during the year ended December 31, 2010 resulted in a reduction of expected losses of $55 million compared to $47 million that occurred during the year ended December 31, 2009. As a result of investigation activities on certain insured delinquent loans, we found significant levels of misrepresentation and non-compliance with certain terms and conditions of our underlying master insurance policies, as well as fraud. These findings separately resulted in rescission actions that occurred during the year ended December 31, 2010 which reduced our expected losses at the time of rescission by $158 million compared to $583 million that occurred during the year ended December 31, 2009. During 2010, benefits from loss mitigation activities began shifting from rescissions to loan modifications where we expect a majority of our loss mitigation benefits to be achieved going forward. In addition, during the second half of 2010, we also began to experience an overall decline in loan modification benefits as well as continued aging trends in our delinquency inventory in part because of performance differences among loan servicers. These recent trends resulted in higher levels of paid claims and an increase in reserves of approximately $85 million in the third quarter of 2010 and approximately $350 million in the fourth quarter of 2010. Depending upon the mix of loss mitigation activity, market trends and employment levels in future periods, we could see additional adverse reserve changes.
During 2010, we reached agreements with a servicer and a counterparty that further reduced our risk in-force exposure. Our investigations process and rescission actions, along with expanded loan modification efforts supported by various related lender and government programs, have benefited our results significantly. While loan modification efforts have slowed, resulting benefits are expected to continue albeit at a slower pace. The level of rescission activities has declined and we expect this level to remain stable for the foreseeable future. At the same time, we continue to discuss with lenders any concerns with respect to our rescission practices and risk exposures in books of business. Going forward, however, there is no assurance regarding what specific level of benefits may result from modification, rescission or settlement activity. In addition, there are several programs related to the U.S. housing market being implemented by the U.S. government, GSEs, servicers and various lenders that we expect will mitigate losses on loans we insure. We are actively participating in and supporting these various programs. If these programs are successful, they could limit increases in paid claims. We continue to pursue ways to support mortgage servicers in their efforts to increase the benefits from loss mitigation activities.
The insurance laws of various states, including North Carolina, our domiciliary regulator, require mortgage insurers to maintain a minimum amount of statutory capital relative to risk in-force in order for a mortgage insurer to continue to write new business. As of December 31, 2010, none of our U.S. mortgage insurance
subsidiaries had a risk-to-capital ratio in excess of 25:1. As of January 31, 2011, GEMICO slightly exceeded the 25:1 risk-to-capital requirement. However, GEMICO was granted a revocable two-year risk-to-capital waiver, effective January 31, 2011, by the NCDOI. The waiver, which the NCDOI can modify or terminate at its discretion, gives GEMICO the ability to continue to write new business in North Carolina, during the period covered by the waiver, notwithstanding that GEMICO’s risk-to-capital ratio exceeds 25:1. We are also pursuing a temporary waiver of the risk-to-capital requirement with other state regulators with a risk-to-capital requirement and where the authority to grant a waiver exists. Given that the NCDOI is GEMICO’s domiciliary insurance regulator, the effect of the NCDOI’s waiver similarly extends to the 34 states that do not have their own risk-to-capital requirements, thereby enabling GEMICO to continue to write business in those states so long as it is permitted to do so in North Carolina under the NCDOI’s waiver or because its risk-to-capital ratio decreases below 25:1. Further, so as to be able to write new business out of GEMICO in the remaining states which do have separate minimum risk-to-capital requirements, we are also pursuing similar waivers of the risk-to-capital requirement with other state regulators where the authority to grant a waiver exists. In addition to the NCDOI’s waiver, to date, four states have granted us the authority to continue to write business in their state either by a waiver or an administrative no action letter. Consequently, while we seek additional state waivers, GEMICO remains authorized to write new business in 39 states. In anticipation of the possibility that GEMICO would breach its risk-to-capital requirements and a required waiver might not yet be granted, ultimately approved or maintained in force, we took all requisite steps to enable another of our U.S. mortgage insurance subsidiaries, GRMIC-NC, to write new business in lieu of GEMICO and have begun to do so in any state where GEMICO is restricted due to its breach of its 25:1 risk-to-capital requirements and where no waiver has been granted. We continue to work with relevant state regulators and the GSEs to maintain their related approvals and our ongoing eligibility.
On April 1, 2009, we adopted new accounting guidance related to investments that amended the requirement for management to positively assert the ability and intent to hold a debt security to recovery in determining whether an impairment was other-than-temporary and replaced that provision with the assertion that management does not intend to sell or it is not more likely than not that we will be required to sell a security prior to recovery. Prior to the adoption of the new accounting guidance related to investments, management would only authorize the sale of securities not deemed to be other-than-temporarily impaired in response to unforeseen events. If
evidence of the conditions or events resulting in our change in intent to hold to recovery was insufficient to prove the events could not have been foreseen, the sale of the security would have been prohibited to ensure consistency with management’s previous assertion of having the intent and ability to hold the security to recovery. Subsequent to the adoption of the new accounting guidance related to investments, management may decide to sell certain securities as a part of our normal portfolio management. See note 2 in our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for additional information related to other-than-temporary impairments on available-for-sale securities and accounting changes related to other-than-temporary impairments.
The amortization of DAC for mortgage insurance is based on expected gross margins. Expected gross margins, defined as premiums less losses, are set based on assumptions for future persistency and loss
development of the business. These assumptions are updated for actual experience to date or as our expectations of future experience are revised based on experience studies. Due to the inherent uncertainties in making assumptions about future events, materially different experience from expected results in persistency or loss development could result in a material increase or decrease to DAC amortization for this business. For the years ended December 31, 2010, 2009 and 2008, key assumptions were unlocked in our international and U.S. mortgage insurance businesses to reflect our current expectation of future persistency and loss projections.
As of December 31, 2010, we believe all of our businesses have sufficient future income where the related DAC would be recoverable under adverse variations in morbidity, mortality, claim loss development, withdrawal or lapse rate, maintenance expense or interest rates that could be considered reasonably possible to occur.
We regularly review our assumptions and periodically test PVFP for recoverability in a manner similar to our treatment of DAC. As of December 31, 2010, we believe all of our businesses have sufficient future income where the related PVFP is recoverable based on our best estimates of morbidity, mortality, withdrawal or lapse rate, maintenance expense and interest rates that are expected to occur.
As of December 31, 2010, we believe all of our businesses have sufficient future income where the related PVFP would be recoverable under adverse variations in morbidity, mortality, withdrawal or lapse rate, maintenance expense or interest rates that could be considered reasonably possible to occur. For the years ended December 31, 2010, 2009 and 2008, there were no charges to income as a result of our PVFP recoverability or loss recognition testing.
Continued low interest rates and lower than expected termination rates have impacted the margins on our acquired long-term care insurance business. As of December 31, 2010 and 2009, we had margin of approximately $115 million and $10 million, respectively, on $2,857 million and $2,858 million, respectively, of net U.S. GAAP liability related to our individual and group long-term care insurance products. The risks we face include adverse variations in morbidity, interest rates, lapse and mortality. Adverse variation in one or more of these risks could result in additional amortization of PVFP or the establishment of additional benefit reserves. Any favorable variation would result in additional margin in our PVFP loss recognition analysis and would result in higher earnings recognition over the remaining duration of the in-force block. See notes 2 and 7 in our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for additional information related to PVFP.
While the valuation of our in-force business for long-term care insurance is included in the fair value of the reporting unit, the in-force value does not contribute significant, incremental value to support goodwill based on a hypothetical acquisition under our goodwill impairment assessment.
Management reviews quarterly the loss reserves for adequacy, and if indicated, updates the assumptions used for estimating and calculating such reserves based on actual experience and our historical frequency of
In considering the potential sensitivity of the factors underlying management’s best estimate of our U.S. and international mortgage insurance reserves for losses, it is possible that even a relatively small change in estimated claim rate (“frequency”) or a relatively small percentage change in estimated claim amount (“severity”) could have a significant impact on reserves and, correspondingly, on results of operations. Based on our actual experience during 2010 in our U.S. mortgage insurance business, a reasonably possible quarterly change could be an 8% change in the average frequency reserve factor, which would change the gross reserve amount for such quarter by approximately $390 million for our U.S. mortgage insurance businesses. Based on our actual experience during 2010 in our international mortgage insurance business, a reasonably possible quarterly change could be a $1,000 change in the average severity reserve factor combined with a 1% change in the average frequency reserve factor, which would change the gross reserve amount by approximately $25 million for our international mortgage insurance businesses based on current exchange rates. As these sensitivities are based on our 2010 experience, given the high level of uncertainty in the economic environment, there is a reasonable likelihood that these changes in assumptions could occur in the near term. Adjustments to our reserve estimates are reflected in the consolidated financial statements in the years in which the adjustments are made.
As of December 31, 2010 and 2009, we had $4.5 billion and $4.7 billion, respectively, of unearned premiums, of which $3.1 billion for both years related to our international mortgage insurance business. We recognize international mortgage insurance unearned premiums over a period of up to 25 years, most of which are recognized between three and seven years from issue date. The recognition of earned premiums for our international mortgage insurance business involves significant estimates and assumptions as to future loss development and policy cancellations. These assumptions are based on our historical experience and our expectations of future performance, which are highly dependent on assumptions as to long-term macroeconomic conditions including interest rates, home price appreciation and the rate of unemployment. We regularly review our expected pattern of risk emergence and make adjustments based on actual experience and changes in our expectation of future performance with any adjustments reflected in current period income. For the years ended December 31, 2010, 2009 and 2008, increases to earned premiums in our international mortgage insurance business as a result of adjustments made to our expected pattern of risk emergence and policy cancellation assumptions were $52 million, $49 million and $53 million, respectively.
In our U.S. Mortgage Insurance segment, the majority of our insurance contracts have recurring premiums. We recognize recurring premiums over the terms of the related insurance policy on a pro-rata basis (i.e., monthly). Changes in market conditions could cause a decline in mortgage originations, mortgage insurance penetration rates and our market share, all of which could impact new insurance written. For example, a decline in flow new insurance written of $1.0 billion would result in approximately a $5 million reduction in earned premiums in the first full year. Likewise, if flow persistency declined on our existing insurance in-force by 10%, earned premiums would decline by approximately $50 million during the first full year, potentially offset by lower reserves due to policies no longer being in-force.
As of December 31, 2010, we have a net deferred tax liability of $521 million with a $189 million valuation allowance related to state and foreign gross deferred tax assets. We have a consolidated gross deferred tax asset of $1,803 million related to NOL carryforwards of $5,150 million as of December 31, 2010, which, if not used, will expire beginning in 2022.
Our International segment decreased $135 million as a result of a $202 million decrease in our lifestyle protection insurance business partially offset by a $67 million increase in our international mortgage insurance business. The year ended December 31, 2010 included an increase of $75 million attributable to changes in foreign exchange rates.
The year ended December 31, 2010 included a decrease of $35 million attributable to changes in foreign exchange rates in our International segment.
Net investment gains related to derivatives of $50 million in 2010 were primarily related to $37 million of gains from the change in value of the embedded derivative liabilities associated with our variable annuity products with GMWBs, which included a reduction in the GMWB valuation as a result of changes in the non-performance risk incorporated into the discount rate used to value GMWB embedded derivatives, exceeding the losses from the change in value of derivative instruments used for
mitigating the risk of embedded derivative liabilities. The increase also included $13 million of gains from non-qualifying interest rate swaps, $7 million of gains from the change in value of our credit default swaps due to narrowing credit spreads and $4 million of gains related to a derivative strategy to mitigate the interest rate risk associated with our statutory capital position. These gains were partially offset by $11 million of losses associated with derivatives used to hedge foreign currency risk. Net investment gains of $21 million related to derivatives in 2009. These gains were primarily related to $97 million of gains in embedded derivative liabilities associated with our variable annuity products with GMWBs exceeding the change in value of derivative instruments used for mitigating this risk and $60 million of gains from credit default swaps utilized to improve our diversification and portfolio yield. These gains were partially offset by $98 million of losses related to a derivative strategy to mitigate the interest rate risk associated with our statutory capital position, $24 million of losses due to hedge ineffectiveness, $11 million of losses associated with inflation swaps related to hedges of securities with inflation adjusted yields and $3 million of other losses associated with non-qualifying hedges.
We also recorded $24 million of lower net gains related to available-for-sale securities in 2010 compared to 2009. We recorded $3 million of net losses related to securitization entities primarily associated with derivatives during the year ended December 31, 2010. There was also a net gain of $16 million from the recovery of a counterparty receivable in 2010. We also recorded $40 million of net investment losses related to the sale of limited partnerships in 2009.
Our Retirement and Protection segment increased $195 million mainly driven by an increase of $73 million in our wealth management business, an increase of $62 million in our life insurance business, an increase of $31 million in our long-term care insurance business and an increase of $29 million in our retirement income business.
Our Retirement and Protection segment increased $299 million attributable to an increase of $175 million in our long-term care insurance business, an increase of $107 million in our life insurance business and an increase of $17 million in our retirement income business.
Our International segment decreased $221 million driven by a decrease of $147 million in our lifestyle protection insurance business and a decrease of $74 million in our international mortgage insurance business. The year ended December 31, 2010 included an increase of $34 million attributable to changes in foreign exchange rates.
Our Retirement and Protection segment increased $124 million from an increase of $58 million in our wealth management business, an increase of $49 million in our long-term care insurance business and an increase of $18 million in our life insurance business.
Our International segment decreased $15 million from a decrease of $33 million in our lifestyle protection insurance business that was partially offset by an increase of $18 million in our international mortgage insurance business. The year ended December 31, 2010 included an increase of $5 million attributable to changes in foreign exchange rates.
Net income attributable to noncontrolling interests. Net income attributable to noncontrolling interests represents the portion of equity in a subsidiary attributable to third parties. The increase related to the initial public offering of our Canadian mortgage insurance business in July 2009 which reduced our ownership percentage to 57.5%. The year ended December 31, 2010 included an increase of $13 million attributable to changes in foreign exchange rates.
Net income (loss) available to Genworth Financial, Inc.’s common stockholders. Net income available to Genworth Financial, Inc.’s common stockholders in the current year was primarily related to improved investment performance, partially offset by a higher loss in our U.S. mortgage insurance business. For a discussion of our Retirement and Protection, International and U.S. Mortgage Insurance segments and Corporate and Other activities, see the “-Results of Operations and Selected Financial and Operating Performance Measures by Segment.” Included in net income available to Genworth Financial, Inc.’s common stockholders was an increase of $34 million, net of taxes, attributable to changes in foreign exchange rates.
Weighted-average investment yields decreased to 4.4% for the year ended December 31, 2009 from 5.2% for the year ended December 31, 2008. The decrease in weighted-average investment yields was primarily attributable to lower yields on floating rate investments and reduced yields from holding higher cash and short-term investment balances to cover near term obligations and portfolio repositioning activities. Lower valuation marks on limited partnerships and a decrease in policy loans from a bankruptcy-related lapse in 2009 of a large group corporate-owned life insurance policy also contributed to lower yields.
The year ended December 31, 2009 included a decrease of $38 million attributable to changes in foreign exchange rates in our International segment.
We recorded $1,058 million of net other-than-temporary impairments in 2009 as compared to $2,131 million in 2008. Of total impairments, $515 million and $1,332 million related to residential mortgage-backed and asset-backed securities for the years ended December 31, 2009 and 2008, respectively. Impairments related to corporate fixed maturity securities which were a result of bankruptcies, receivership or concerns about the issuer’s ability to continue to make contractual payments or intent to sell were $90 million in 2009 compared to $620 million in 2008. We also recorded $323 million of impairments related to financial hybrid securities primarily from banks in the United Kingdom, Ireland
and the Netherlands during 2009. Additionally, we had $36 million of impairment related to a retained interest in securitized assets in 2009. Based on revised assumptions regarding cash flows from the assets underlying this securitization transaction, we concluded the value of our retained interest was zero and recognized the full impairment.
Net investment gains of $21 million related to derivatives in 2009. These gains were primarily related to $97 million of gains in embedded derivative liabilities associated with our variable annuity products with GMWBs exceeding the change in value of derivative instruments used for mitigating this risk and $60 million of gains from credit default swaps utilized to improve our diversification and portfolio yield. These gains were partially offset by $98 million of losses related to a derivative strategy to mitigate the interest rate risk associated with our statutory capital position, $24 million of losses due to hedge ineffectiveness, $11 million of losses associated with inflation swaps related to hedges of securities with inflation adjusted yields and $3 million of other losses associated with non-qualifying hedges. Net investment gains related to derivatives of $611 million in 2008 were primarily related to a derivative strategy to mitigate the interest rate risk associated with our statutory capital position that were partially offset by the losses in embedded derivative liabilities associated with our variable annuity products with GMWBs exceeding the change in value of derivative instruments used for mitigating this risk.
Our Retirement and Protection segment decreased $54 million mainly driven by a $51 million decrease in our wealth management business and a decrease of $22 million in our retirement income business, partially offset by a $19 million increase in our life insurance business.
Our Retirement and Protection segment decreased $315 million attributable to a decrease of $406 million in our retirement income business and a decrease of $5 million in our life insurance business, partially offset by an increase of $96 million in our long-term care insurance business.
Our International segment decreased $212 million attributable to a $162 million decrease in our lifestyle protection insurance business and a $50 million decrease in our international mortgage insurance business. The year ended December 31, 2009 included a decrease of $60 million attributable to changes in foreign exchange rates.
Our Retirement and Protection segment increased $31 million primarily due to an increase of $40 million in our long-term care insurance business and an increase of $29 million in our retirement income business, partially offset by a decrease of $39 million in our life insurance business.
Our Retirement and Protection segment decreased $75 million primarily related to our life insurance business.
The following table provides basic and diluted earnings (loss) per common share for the years ended December 31:
(1) Under applicable accounting guidance, companies in a loss position are required to use basic weighted-average common shares outstanding in the calculation of diluted loss per share. Therefore, as a result of our net loss for December 31, 2009 and 2008, the inclusion of 1.9 million and 1.7 million, respectively, of shares for stock options, RSUs and SARs would have been antidilutive to the calculation. If we had not incurred a net loss for 2009 and 2008, dilutive potential common shares would have been 453.0 million and 434.9 million, respectively. The inclusion of these shares would have been antidilutive to the calculation.
Our long-term care insurance business increased $3 million from growth of the in-force block from new sales and in-force rate actions and higher investment income in 2010, partially offset by higher claims from the aging in-force block and lower terminations.
Our wealth management business increased $12 million attributable to higher average assets under management from market growth and positive net flows.
Our retirement income business increased $119 million. Our spread-based products increased $88 million primarily from an increase in net investment spreads. Our fee-based products increased $31 million mainly attributable to market growth.
Our long-term care insurance business increased $61 million mainly attributable to growth of the in-force block from new sales and in-force rate actions. The current year included an unfavorable reinsurance adjustment of $7 million compared to an unfavorable reinsurance adjustment of $16 million in the prior year.
Net investment losses in our long-term care insurance business decreased $255 million primarily from lower losses from sales of investment securities related to portfolio repositioning, lower impairments and higher derivative gains in the current year.
Our life insurance business increased $62 million primarily from growth of our new term universal life insurance product that is designed to replace sales of our traditional term life insurance products. The prior year also included a favorable adjustment related to estimated gross profit assumptions in our universal life insurance products that did not recur.
Our retirement income business increased $29 million mainly due to higher average account values of our fee-based products from market growth.
Our long-term care insurance business increased $175 million primarily as a result of the aging and growth of our long-term care insurance in-force block and lower terminations in 2010. Additionally, in the fourth quarter of 2010, we recorded $19 million of an increase in claim reserves associated with an annual review of claims duration. The prior year included a favorable reinsurance adjustment of $15 million that did not recur.
Our retirement income business increased $17 million primarily attributable to our spread-based products related to higher amortization of sales inducements as a result of lower net investment losses in 2010 and higher lapses, partially offset by lower life-contingent sales in 2010. Our fee-based products increased related to our guaranteed minimum benefit liabilities driven by less favorable market performance in 2010 compared to the prior year, partially offset by a decrease in GMDB claims.
Our life insurance business increased $18 million primarily from growth of our term universal life insurance products.
Our long-term care insurance business increased $49 million largely driven by our equity access business as a result of increases in broker commissions on loans and from growth of our long-term care insurance in-force block.
Our life insurance business increased $81 million primarily attributable to a prior year favorable adjustment to estimated gross profits of $44 million and lower amortization of $5 million from a favorable unlocking related to estimated gross profit assumptions in our universal life insurance products that did not recur in 2010. Also contributing to the increase was higher amortization from growth of our universal and term universal life insurance products and higher lapses on our term life insurance policies as they go through their post level rate period.
Provision (benefit) for income taxes. The effective tax rate decreased to 31.6% for the year ended December 31, 2010 from 52.4% for the year ended December 31, 2009. The decrease in the effective tax rate was primarily attributable to the proportion of tax favored investment benefits to pre-tax results in the current year compared to the prior year and a change in uncertain tax positions in 2009.
Our wealth management business decreased $15 million from lower average assets under management from unfavorable market impacts in the second half of 2008 and the first quarter of 2009.
In late 2009, we introduced a new term universal life insurance product that is designed to replace new sales of our existing term life insurance products. The increase is related to the continued growth of our in-force block.
Annualized first-year deposits decreased as we maintained our focus on smaller face amounts. The in-force block was relatively flat as the growth in universal life insurance was offset by the continued runoff of our closed block of whole life insurance.
The following table sets forth selected financial and operating performance measures regarding our long-term care insurance business, which includes individual and group long-term care insurance, Medicare supplement insurance, linked-benefits products, as well as several runoff blocks of accident and health insurance for the periods indicated:
Net earned premiums increased mainly attributable to growth of our in-force block from new sales and in-force rate actions. The increase in annualized first-year premiums and deposits was primarily attributable to growth of our individual and group long-term care insurance and linked-benefits products.
The results of our wealth management business represent Genworth Financial Wealth Management, Inc., Genworth Financial Investment Services, Inc., Genworth Financial Trust Company, Centurion Financial Advisers, Inc. and Quantuvis Consulting, Inc.
The increase in assets under management was primarily due to favorable equity market performance and positive net flows. Redemptions decreased from improved business performance and market conditions.
In our traditional variable annuities, the increase in account value from the prior year was principally the result of improved equity market performance, partially offset by surrenders outpacing sales.
We no longer market this product; however, we continue to service our existing block of business.
We no longer solicit sales of this product; however, we continue to service our existing block of business.
Excluding the impact of foreign exchange and the timing of the initial public offering of our Canadian mortgage insurance business in 2009 which resulted in lower net operating income of $82 million in the current year, net operating income for our international mortgage insurance business increased from lower losses, partially offset by lower premiums. There was also a benefit from newly enacted Australian tax legislation in 2010.
Net operating income for our lifestyle protection insurance business increased primarily due to the benefit from price and distribution contract changes coupled with stabilization of economic conditions. This was partially offset by lower sales from reduced levels of consumer lending.
Our international mortgage insurance business increased $67 million and our lifestyle protection insurance business decreased $202 million.
Excluding the effects of foreign exchange, the decrease in our international mortgage insurance business was largely related to lower premiums in Australia as seasoning of our in-force block of business was more than offset by increased ceded reinsurance premiums and lower new business volumes in 2010. In addition, premiums decreased from lower cancellations in both Australia and Canada. Rescissions and other terminations related to loss mitigation activities in Europe, particularly in Spain, also contributed to the decrease in premiums.
Our international mortgage insurance business increased $42 million and our lifestyle protection insurance business decreased $3 million.
The year ended December 31, 2010 included an increase of $37 million and a decrease of $2 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The decrease in our international mortgage insurance business was primarily related to Canada as losses declined driven by lower average reserve per delinquency from an improving economy, as well as loss mitigation activities. In Australia, losses decreased as a result of lower reserves per delinquency. Losses in Europe also declined primarily related to ongoing loss mitigation activities.
The year ended December 31, 2010 included an increase of $13 million and a decrease of $13 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The increase in our international mortgage insurance business was primarily related to higher public company expenses in Canada and an increase in non-deferrable expenses in Australia.
The year ended December 31, 2010 included an increase of $9 million and a decrease of $4 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The decrease in our lifestyle protection insurance business was attributable to a decrease from our runoff business and a decrease in the United Kingdom from lower single premium sales related to new business regulations.
The year ended December 31, 2010 included an increase of $1 million attributable to changes in foreign exchange rates for our lifestyle protection insurance business.
Our international mortgage insurance business decreased $53 million and our lifestyle protection insurance business decreased $26 million.
Our international mortgage insurance business increased $84 million and our lifestyle protection insurance business increased $77 million.
The increase in our international mortgage insurance business was primarily driven by higher losses in Canada and Australia as their large in-force books of business have seasoned in periods of higher unemployment giving rise to increased levels of losses. Losses in Europe declined primarily related to ongoing loss mitigation activities. This decrease was partially offset by increased losses, particularly in Spain and Italy, from higher delinquencies and seasoning of the books of business.
Our international mortgage insurance business decreased $50 million and our lifestyle protection insurance business decreased $162 million.
The increase in our international mortgage insurance business was as a result of an increase in amortization of DAC from the seasoning of our insurance in-force.
The decrease in our lifestyle protection insurance business was largely attributable to a decrease in the United Kingdom from lower single premium sales related to new business regulations and a decrease from our runoff block of business.
Interest expense. The increase was primarily related to our lifestyle protection insurance business as a result of our reinsurance arrangements accounted for under the deposit method as these arrangements were in a loss position in 2009. The year ended December 31, 2009 included a decrease of $6 million attributable to changes in foreign exchange rates for our lifestyle protection insurance business.
Provision for income taxes. The effective tax rate remained relatively flat at 26.6% for the year ended December 31, 2009 compared to 26.8% for the year ended December 31, 2008. The year ended December 31, 2009 also included a decrease of $14 million and an increase of $1 million attributable to changes in foreign exchange rates for our international mortgage and lifestyle protection insurance businesses, respectively.
The following table sets forth selected operating performance measures regarding our international mortgage insurance business as of or for the dates indicated:
In Canada, flow new insurance written increased primarily driven by growth of the mortgage origination market. Also contributing to the increase was growth in bulk new insurance written in Australia, Canada and Mexico. New bulk transactions in Australia resulted from some liquidity returning to the securitization market; while in Canada, new bulk transactions were driven by select lenders seeking capital relief as well as credit enhancement for government securitization programs. Partially offsetting these increases was a decrease in flow new insurance written in Australia reflecting higher interest rates and lower mortgage originations primarily driven by a reduction in first-time homebuyer benefits and in Europe where we have taken actions to selectively reduce new business including exiting selected distribution relationships. The year ended December 31, 2010 included an increase of $6.2 billion attributable to changes in foreign exchange rates.
Net premiums written increased primarily driven by an increase in new insurance written in Canada and higher rescissions and other terminations related to loss mitigation activities in Europe during 2009. This increase was partially offset by a decrease in new insurance written in Australia as well as a decrease in average price driven by a decline in new business volume with loan-to-value ratios of more than 90% and higher ceded reinsurance premiums. The year ended December 31, 2010 included an increase of $79 million attributable to changes in foreign exchange rates.
Excluding the effects of foreign exchange, net earned premiums increased primarily related to seasoning of our in-force blocks of business in Canada and Australia and higher net premiums written in Australia. These increases were partially offset by rescissions and other terminations related to loss mitigation activities in Europe, particularly in Spain. Premiums also included $32 million related to a release of unearned premiums as a result of a quarterly actuarial update to the Canadian, Australian and European premium recognition factors in 2009 as compared to $53 million in 2008. The year ended December 31, 2009 included a decrease of $72 million attributable to changes in foreign exchange rates.
The following table sets forth the loss and expense ratios for our international mortgage insurance business for the dates indicated:
The decrease in the loss ratio was primarily attributable to lower losses in Canada driven by lower average reserve per delinquency from an improving economy, as well as loss mitigation activities. In Australia, losses decreased as a result of lower average reserve per delinquency. There were also decreased losses in Europe related to ongoing loss mitigation activities.
Gross written premiums, premium equivalents and deposits, gross of ceded reinsurance and cancellations, decreased mainly attributable to a decline in the United Kingdom, Spain and Ireland as a result of slowing economic conditions and new regulations in the United Kingdom resulting in lower single premium sales. The year ended December 31, 2009 included a decrease of $173 million attributable to changes in foreign exchange rates.
Premiums decreased primarily driven by lower new insurance written as a result of a smaller mortgage insurance market, partially offset by lower premium refunds related to rescission activity. Our flow persistency was 85% for the year ended December 31, 2010 compared to 84% in the prior year.
Benefit for income taxes. The effective tax rate decreased to 37.0% for the year ended December 31, 2010 from 40.7% for the year ended December 31, 2009. This decrease in the effective tax rate was primarily attributable to tax favored investments.
Benefit for income taxes. The effective tax rate increased to 40.7% for the year ended December 31, 2009 from 39.7% for the year ended December 31, 2008. This increase in the effective tax rate was primarily attributable to the impairment of non-deductible goodwill in 2008.
Net premiums written decreased principally from lower new insurance written during 2009 as a result of the economic recession.
The increase in the loss ratio was primarily attributable to an increase in net paid claims, partially offset by a decrease in change in reserves and a decline in net earned premiums. The increase in paid claims was principally attributable to higher claim counts within the 2006, 2007 and 2008 book years, partially offset by lower average claim payments reflecting lower loan balances. The overall decrease in the change in loss reserves in the current year was driven by lower new delinquencies throughout 2010 and an overall decrease in expected claims since the fourth quarter of 2009 related to our loss mitigation efforts.
In the third quarter of 2009, we reached a $95 million settlement with a lender regarding certain bulk transactions. Excluding the effect of this settlement, the loss ratio for the year ended December 31, 2009 would have been 204%.
The increase in the loss ratio was primarily attributable to a $95 million settlement in 2009 with a lender regarding certain bulk transactions, as well as an increase in the number of delinquencies, including the aging of those delinquencies as they progress through a slowing foreclosure process and an increase in paid claims. This was a result of further weakening in home prices combined with an increase in unemployment. These increases were offset in part by loss mitigation efforts and policy coverage rescissions in 2009. Excluding the effect of the settlement, the loss ratio for the year ended December 31, 2009 would have been 204%.
The decrease in the expense ratio was primarily related to a decrease in amortization of DAC and intangibles as a result of a write-down and acceleration of DAC and an impairment charge related to goodwill in 2008 that did not recur, partially offset by a decrease in net premiums written. Excluding the effects of the write-down of DAC, goodwill impairment and the restructuring charge in 2008, the expense ratio would have been 22%.
(1) Included loans where we were in a secondary loss position for which no reserve was established due to an existing deductible. Excluding these loans, bulk delinquent loans were 1,713, 11,319 and 4,450 as of December 31, 2010, 2009 and 2008, respectively.
(1) Total reserves were $2,282 million as of December 31, 2010.
The frequency of delinquencies may not correlate directly with the number of claims received because the rate at which delinquencies are cured is influenced by borrowers’ financial resources and circumstances and regional economic differences. Whether an uncured delinquency leads to a claim principally depends upon the borrower’s equity at the time of delinquency and the borrower’s or the insured’s ability to sell the home for an
amount sufficient to satisfy all amounts due under the mortgage loan. When we receive notice of a delinquency, we use a proprietary model to determine whether a delinquent loan is a candidate for workout. When the model identifies such a candidate, our loan workout specialists prioritize cases for loss mitigation based upon the likelihood that the loan will result in a claim. Loss mitigation actions include loan modification, extension of credit to bring a loan current, foreclosure forbearance, pre-foreclosure sale and deed-in-lieu. These loss mitigation efforts often are an effective way to reduce our claim exposure and ultimate payouts.
Primary mortgage insurance claims paid, including loss adjustment expenses, for the year ended December 31, 2010 were $1,173 million, compared to $981 million and $481 million for the years ended December 31, 2009 and 2008, respectively. Pool insurance claims paid were $2 million or less for the years ended December 31, 2010, 2009 and 2008.
The increase in the net operating loss available to Genworth Financial, Inc.’s common stockholders in the current year was primarily attributable to income from the early retirement of institutional contracts at a discount to contract values in the prior year that did not recur.
The decrease in interest credited was mainly attributable to lower interest rates on interest paid on our floating rate policyholder liabilities and a decrease in average outstanding liabilities. There was also a decrease as a result of a bankruptcy-related lapse in 2009 of a large group corporate-owned life insurance policy.
Operating expenses decreased as a result of higher allocated expenses in the current year.
Acquisition and operating expenses decreased primarily from $7 million of non-operating expenses recorded in the fourth quarter of 2008 related to the plan for workforce reduction and other restructuring actions that did not recur and higher allocated expenses in 2009.
The decrease in the goodwill impairment charge of $12 million related to our institutional products from an impairment charge recorded in the third quarter of 2008.
The effective tax rate remained relatively flat at 35.5% for the year ended December 31, 2009 as compared to 35.4% for the year ended December 31, 2008.
The following table sets forth information about our investment income, excluding net investment gains (losses), for each component of our investment portfolio for the periods indicated:
(1) See note 18 to our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for additional information related to consolidated securitization entities.
The increase in overall weighted-average investment yields in 2010 was primarily attributable to the reinvestment of the high cash balances we were holding during 2009 and lower losses on limited partnerships. Net investment income for the year ended December 31, 2010 included $147 million of lower losses related to limited partnerships accounted for under the equity method as compared to the year ended December 31, 2009. Additionally, there was an increase in net investment income related to the consolidation of certain securitization entities as of January 1, 2010. These increases were partially offset by a decrease in investment income related to policy loans from a bankruptcy-related lapse in 2009. The decrease in overall investment yield in 2009 was primarily attributable to lower yields on floating rate investments and reduced yields from holding higher cash and short-term investment balances to cover near term obligations and portfolio repositioning activities. Lower valuation marks on limited partnerships and a decrease in policy loans from a bankruptcy-related lapse in 2009 of a large group corporate-owned life insurance policy also contributed to lower yields. Net investment income for years ended December 31, 2009 and 2008 included $160 million and $70 million, respectively, of losses related to limited partnerships accounted for under the equity method. Bond calls and commercial mortgage loan prepayments were $27 million and $33 million for the years ended December 31, 2009 and 2008, respectively.
We recorded $1,058 million of net other-than-temporary impairments in 2009 as compared to $2,131 million in 2008. Of total impairments, $515 million and $1,332 million related to residential mortgage-backed and asset-backed securities for the years ended December 31, 2009 and 2008, respectively. Impairments related to corporate fixed maturity securities which were a result of bankruptcies, receivership or concerns about the issuer’s ability to continue to make contractual payments or intent to sell were $90 million in 2009 compared to $620 million in 2008. We also recorded $323 million of impairments related to financial hybrid securities primarily from banks in the United Kingdom, Ireland and the Netherlands during 2009. Additionally, we had $36 million of impairment related to a retained interest in securitized assets in 2009. Based on revised assumptions regarding cash flows from the assets underlying this securitization transaction, we concluded the value of our retained interest was zero and recognized the full impairment.
The aggregate fair value of securities sold at a loss during the years ended December 31, 2009 and 2008 was $1,513 million from the sale of 328 securities and $2,285 million from the sale of 592 securities, respectively, which was approximately 88% and 93%, respectively, of book value. The loss on sales of securities in the year ended December 31, 2009 was primarily driven by widening credit spreads. Generally, securities that are sold at a loss represent either small dollar amounts or percentage losses upon disposition. However, in certain circumstances, events may occur during the period that changed our intent to hold specific securities and thus result in our disposition of the security at a loss. Examples of these events include unforeseen issuer-specific events or conditions and shifts in risk or uncertainty of certain securities. Of the securities that were sold at a loss during the year ended December 31, 2009, the average period of time those securities had been continuously in an unrealized position was approximately 11 months. The securities sold at a loss in 2009 included one in the financial services sector that was sold for a total loss of $49 million due to portfolio repositioning. Of the securities that were sold at a loss during 2008, the average period of time those securities had been continuously in an unrealized loss position was approximately seven months. The securities sold at a loss in 2008 included four in the financial services sector totaling $78 million. Given the significant unanticipated turmoil experienced in the financial services sector in the third quarter of 2008 and the U.S. government’s response, our strategy for these securities changed. All holdings in issuers of these securities that could not be sold in the third quarter of 2008 were written down as other-than-temporarily impaired in the third quarter of 2008 due to decline, and concerns about further declines, in value.
For a discussion of the change in cash, cash equivalents and invested assets, see the comparison for this line item under “-Consolidated Balance Sheets.” See note 4 to our consolidated financial statements under “Item 8 - Financial Statements and Supplementary Data” for additional information related to our investment portfolio.
(1) Fair value included $457 million collateralized by sub-prime residential mortgage loans and $376 million collateralized by Alt-A residential mortgage loans.
Fixed maturity securities increased $5.4 billion primarily attributable to improved market performance as our fixed maturity securities were in a net unrealized gain position as of December 31, 2010 as compared to a net unrealized loss position as of December 31, 2009. The increase is also attributable to purchases of fixed maturity securities during 2010 as we continued to reinvest the high cash balances we were holding during 2009.
The majority of our gross unrealized losses related to securities held within our Retirement and Protection segment. Our U.S. Mortgage Insurance segment had gross unrealized losses of $128 million and $134 million as of December 31, 2010 and 2009, respectively.
Our sub-prime securities were principally backed by first lien mortgages. We did not have any exposure to interest margin deals, highly leveraged transactions or collateralized debt obligation-squared investments. The fair value of our mortgage-backed and asset-backed securities collateralized by sub-prime residential mortgage loans by rating and vintage was as follows as of December 31, 2010:
The fair value of our mortgage-backed and asset-backed securities collateralized by sub-prime residential mortgage loans by rating and vintage was as follows as of December 31, 2009:
The fair value of our commercial mortgage-backed securities by rating and vintage was as follows as of December 31, 2010:
(1) Included $13 million related to held-for-sale commercial mortgage loans that were sold in the third quarter of 2010.
products with GMWBs. These decreases were partially offset by a $3.2 billion notional increase in non-qualifying interest rate swaps and qualifying cash flow hedges related to our interest rate hedging strategy associated with our long-term care insurance products and a $0.5 billion notional increase in credit default swaps and interest rate swaps related to securitization entities.
Cash, cash equivalents and invested assets increased $3.1 billion primarily from an increase of $5.4 billion in our fixed maturity securities portfolio resulting primarily from improved market performance and an increase in purchases of fixed maturity securities. Also contributing to the increase was an increase of $0.9 billion in restricted commercial mortgage loans and restricted other invested assets from the consolidation of certain securitization entities as of January 1, 2010. Partially offsetting these increases was a decrease of $1.9 billion in cash and cash equivalents as the net proceeds from senior note issuances in both the United States and Canada during 2010 were more than offset by purchases of fixed maturity securities.
The deferred tax asset increased $1.0 billion primarily related to net operating losses principally associated with our U.S. mortgage insurance business.
Separate account assets increased $0.7 billion primarily as a result of favorable market performance of the underlying securities.
Other liabilities decreased $0.2 billion primarily as a result of a decrease in our repurchase program, partially offset by an increase in derivatives counterparty collateral driven by an increase in asset positions from the long-term interest rate environment.
Borrowings related to securitization entities increased $0.5 billion from the consolidation of certain securitization entities as of January 1, 2010.
Deferred tax liability increased $1.3 billion due to an increase in unrealized investment gains in 2010.
We reported net income available to Genworth Financial, Inc.’s common stockholders of $0.1 billion for the year ended December 31, 2010.
preferred stockholders and other capital transactions. Net cash outflows from financing activities decreased during the year ended December 31, 2010 compared to the year ended December 31, 2009 related to lower redemptions of our investment contracts primarily from scheduled maturities and the early retirement of institutional contracts in 2009. These decreases also related to net proceeds received from the issuance of senior notes in the United States and Canada during 2010. Additionally, during the year ended December 31, 2010, Genworth Canada repurchased common shares resulting in a net cash outflow of $131 million and paid dividends to noncontrolling interests of $43 million. During 2010, we repaid all borrowings outstanding under our credit facilities.
Insurance laws and regulations regulate the payment of dividends and other distributions to us by our insurance subsidiaries. In general, dividends in excess of prescribed limits are deemed “extraordinary” and require insurance regulatory approval. Based on estimated statutory results as of December 31, 2010, in accordance with applicable dividend restrictions, our subsidiaries could pay dividends of approximately $1.1 billion to us in 2011 without obtaining regulatory approval. However, we do not expect our insurance subsidiaries to pay dividends to us in 2011 at this level as they retain capital for growth and to meet capital requirements.
During the years ended December 31, 2010, 2009 and 2008, we received cash dividends from our subsidiaries of $342 million, $904 million and $405 million, respectively. The majority of dividends were received from our international subsidiaries. Our domestic insurance subsidiaries paid dividends of $47 million ($20 million of which were deemed “extraordinary”), $50 million ($24 million of which were deemed “extraordinary”) and $300 million (none of which were deemed “extraordinary”), respectively, during the years ended December 31, 2010, 2009 and 2008.
In addition to capital support, we also provided guarantees to third parties for the performance of certain obligations of our subsidiaries. We estimate that our potential obligations under such guarantees were $69 million as of December 31, 2010. We also provide an unlimited guarantee to policyholders for the solvency of our mortgage insurance subsidiary located in the United Kingdom. However, based on risk in-force as of December 31, 2010, we believe our mortgage insurance subsidiary located in the United Kingdom has sufficient reserves and capital to cover its policyholder obligations.
On November 30, 2007, our Board of Directors approved a stock repurchase program, authorizing the repurchase of up to $1.0 billion of our common stock through the end of 2010. During the first quarter of 2008, we repurchased 3.3 million shares at a weighted-average price of $22.95. There were no repurchases during the remainder of 2008 or in 2009 and 2010. In November 2008, our Board of Directors decided to suspend repurchases of our common stock under our stock repurchase program indefinitely. The resumption of our stock repurchase program will be at the discretion of our Board of Directors.
Cash flows from operating activities are primarily affected by the dividends from our subsidiaries and the timing of investment income and expenses paid. The decrease in cash from operating activities was primarily attributable to lower dividends received from our subsidiaries and a decrease related to derivative activities in 2010.
Cash flows from financing activities are affected by payments and proceeds from our borrowings. During 2010, we repaid all outstanding borrowings under our credit facilities. In the fourth quarter of 2010, we issued senior notes that mature in February 2021 for net proceeds of $396 million. In the second quarter of 2010, we issued senior notes that mature in June 2020 for net proceeds of $397 million.
During 2005, certain of our domestic life insurance subsidiaries transferred primarily foreign-issued investment securities to an affiliated special-purpose entity (“SPE”) that was consolidated in our financial statements and whose sole purpose was to securitize these investment securities and issue secured notes to various affiliated insurance companies. The securitized investments were owned in their entirety by the SPE and were not available to satisfy the claims of our creditors. These securitized investments provided collateral to the notes issued by the SPE to the insurance companies. In July 2010, the affiliated SPE redeemed the structured notes that were held by our domestic life insurance subsidiaries with investment securities. There was no gain or loss recorded on the transaction. The affiliated SPE was dissolved in the fourth quarter of 2010.
We have two five-year revolving credit facilities that mature in May 2012 and August 2012. These facilities bear variable interest rates based on a one-month London Interbank Offered Rate (“LIBOR”) plus a margin. Each of these facilities originally had $1.0 billion available for borrowings. Lehman Commercial Paper Inc. (“LCP”) had committed $70 million under the August 2012 credit facility and Lehman Brothers Bank, FSB (“Lehman
We repaid all outstanding borrowings under our credit facilities during 2010; however, we utilized $56 million under these facilities primarily for the issuance of a letter of credit for the benefit of our lifestyle protection insurance subsidiaries as of December 31, 2010. In June 2010, we repaid $100 million of outstanding borrowings under each of our five-year revolving credit facilities using the net proceeds from our senior notes offering that was completed in June 2010. In November 2010, we repaid $125 million of outstanding borrowings under each of our five-year revolving credit facilities with cash on hand. The remaining outstanding borrowings of $240 million under each of our five-year revolving credit facilities was repaid with net proceeds from our senior notes offering that was completed in November 2010, together with cash on hand.
In December 2010, our majority-owned subsidiary, Genworth Canada, issued CAD$150 million of 4.59% senior notes due 2015. The net proceeds of the offering will be used to fund transactions among Genworth Canada and its wholly-owned Canadian subsidiaries. Genworth Canada is expected to use any proceeds it received from such transactions for general corporate and investment purposes, and/or to fund a distribution to, or a repurchase of common shares from, Genworth Canada’s shareholders.
In November 2010, we issued senior notes having an aggregate principal amount of $400 million, with an interest rate equal to 7.200% per year payable semi-annually, and maturing in February 2021 (“2021 Notes”). The 2021 Notes are our direct, unsecured obligations and will rank equally with all of our existing and future unsecured and unsubordinated obligations. We have the option to redeem all or a portion of the 2021 Notes at any time with proper notice to the note holders at a price equal to the greater of 100% of principal or the sum of the present value of the remaining scheduled payments of principal and interest discounted at the then-current treasury rate plus an applicable spread. The net proceeds of $396 million from the issuance of the 2021 Notes, together with cash on hand, were used to repay in full the outstanding borrowings under our two five-year revolving credit facilities.
In June 2010, we issued senior notes having an aggregate principal amount of $400 million, with an interest rate equal to 7.700% per year payable semi-annually, and maturing in June 2020 (“2020 Notes”). The 2020 Notes are our direct, unsecured obligations and will rank equally with all of our existing and future unsecured and unsubordinated obligations. We have the option to redeem all or a portion of the 2020 Notes at any time with proper notice to the note holders at a price equal to the greater of 100% of principal or the sum of the present value of the remaining scheduled payments of principal and interest discounted at the then-current treasury rate plus an applicable spread. The net proceeds of $397 million from the issuance of the 2020 Notes were used to repay $100 million of outstanding borrowings under each of our five-year revolving credit facilities and the remainder of the proceeds were used for general corporate purposes.
We believe our revolving credit facilities and anticipated cash flows from operations will provide us with sufficient capital flexibility and liquidity to meet our future operating requirements, as well as optimize our capital structure. In addition, we actively monitor our liquidity position, liquidity generation options and the credit markets given changing market conditions. However, we cannot predict with any certainty the impact to us from any further disruptions in the credit markets or further downgrades by one or more of the rating agencies of the financial strength ratings of our insurance company subsidiaries and/or the credit ratings of our holding company. The availability of additional funding will depend on a variety of factors such as market conditions, regulatory considerations, the general availability of credit, the overall availability of credit to the financial services industry, the level of activity and availability of reinsurers, our credit ratings and credit capacity and the performance of and outlook for our business.
We have obligations to third parties that we entered into in the ordinary course of our operations. These obligations, as of December 31, 2010, are set forth in the table below. However, we do not believe that our cash flow requirements can be assessed based upon this analysis of these obligations as the funding of these future cash obligations will be from future cash flows from premiums, deposits, fees and investment income that are not reflected herein. Future cash outflows, whether they are contractual obligations or not, also will vary based upon our future needs. Although some outflows are fixed, others depend on future events. Examples of fixed obligations include our obligations to pay principal and interest on fixed-rate borrowings. Examples of obligations that will vary include obligations to pay interest on variable-rate borrowings and insurance liabilities that depend on future interest rates and market performance. Many of our obligations are linked to cash-generating contracts. These obligations include payments to contractholders that assume those contractholders will continue to make deposits in accordance with the terms of their contracts. In addition, our operations involve significant expenditures that are not based upon “commitments.”
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Genworth Financial, Inc.’s internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated February 25, 2011, expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Genworth Financial, Inc. (“Genworth”) was incorporated in Delaware on October 23, 2003 as an indirect subsidiary of General Electric Company (“GE”) in preparation for the initial public offering (“IPO”) of Genworth’s common stock, which was completed on May 28, 2004. In connection with our IPO, Genworth acquired substantially all of the assets and liabilities of GE Financial Assurance Holdings, Inc. (“GEFAHI”). The transaction was accounted for at book value as a transfer between entities under common control and is referred to as our corporate formation.
International. We offer mortgage and lifestyle protection insurance products and related services in multiple markets. We are a leading provider of mortgage insurance products in Canada, Australia, Mexico and multiple European countries. Our products predominantly insure prime-based, individually underwritten residential mortgage loans, also known as flow mortgage insurance. On a limited basis, we also provide mortgage insurance on a structured, or bulk, basis that aids in the sale of mortgages to the capital markets and helps lenders manage capital and risk. Additionally, we offer services, analytical tools and technology that enable lenders to operate efficiently and manage risk. We are a leading provider of payment protection coverages (referred to as lifestyle protection) in multiple European countries. Our lifestyle protection insurance products primarily help consumers meet specified payment obligations should they become unable to pay due to accident, illness, involuntary unemployment, disability or death.
We also have Corporate and Other activities which include debt financing expenses that are incurred at our holding company level, unallocated corporate income and expenses, eliminations of inter-segment transactions and the results of non-core businesses and non-strategic products that are managed outside of our operating segments. Our non-strategic products include our institutional and corporate-owned life insurance products. Institutional products consist of: funding agreements, funding agreements backing notes (“FABNs”) and guaranteed investment contracts (“GICs”).
Insurance and investment product fees and other consist primarily of insurance charges assessed on universal life insurance contracts, fees assessed against customer account values and commission income. For universal life insurance contracts, charges to policyholder accounts for cost of insurance are recognized as revenue when due. Variable product fees are charged to variable annuity contractholders and variable life insurance policyholders based upon the daily net assets of the contractholder’s and policyholder’s account values and are recognized as revenue when charged. Policy surrender fees are recognized as income when the policy is surrendered.
it is more likely than not that we will be required to sell a security prior to recovery.
Total other-than-temporary impairments are calculated as the difference between the amortized cost and fair value that emerged in the current period. For other-than-temporarily impaired securities where we do not intend to sell the security and it is not more likely than not that we will be required to sell the security prior to recovery,
total other-than-temporary impairments are adjusted by the portion of other-than-temporary impairments recognized in OCI (“non-credit”). Net other-than-temporary impairments recorded in net income (loss) represent the credit loss on the other-than-temporarily impaired securities with the offset recognized as an adjustment to the amortized cost to determine the new amortized cost basis of the securities.
For loans that are not individually impaired where we evaluate the loans collectively, the allowance for loan losses is maintained at a level that we determine is adequate to absorb estimated probable incurred losses in the loan portfolio. Our process to determine the adequacy of the allowance utilizes an analytical model based on historical loss experience adjusted for current events, trends and economic conditions that would result in a loss in the loan portfolio over the next twelve months. Key inputs into our evaluation include debt service coverage ratios, loan-to-value, property-type, occupancy levels, geographic region, and probability weighting of the scenarios generated by the model. The actual amounts realized could differ in the near term from the amounts assumed in arriving at the allowance for loan losses reported in the consolidated financial statements. Additions and reductions to the allowance through periodic provisions or benefits are recorded in net investment gains (losses).
In the United States and Canada, we engage in certain securities lending transactions for the purpose of enhancing the yield on our investment securities portfolio, which require the borrower to provide collateral, consisting of cash and government securities, on a daily basis in amounts equal to or exceeding 102% in the United States and 105% in Canada of the fair value of the applicable securities loaned. We maintain effective control over all loaned securities and, therefore, continue to report such securities as fixed maturity securities on the consolidated balance sheets. Cash and non-cash collateral, such as a security, received by us on securities lending transactions is reflected in other invested assets with an offsetting liability recognized in other liabilities for the obligation to return the collateral. Any cash collateral received is reinvested by our custodian based upon the investment guidelines provided within our agreement. In the United States, the reinvested cash collateral is primarily invested in a money market fund approved by the National Association of Insurance Commissioners (“NAIC”), U.S. and foreign government securities, U.S. government agency securities, asset-backed securities and corporate debt securities. In Canada, the lending institution must be included on the approved Securities Lending Borrowers List with the Canadian regulator and the intermediary must be rated at least “AA-” by Standard & Poor’s Financial Services LLC. We are currently fully indemnified against counterparty credit risk by the intermediary. As of December 31, 2010 and 2009, the fair value of securities loaned under the securities
Acquisition costs include costs that vary with and are primarily related to the acquisition of insurance and investment contracts. Such costs are deferred and amortized as follows:
We regularly review all of these assumptions and periodically test DAC for recoverability. For deposit products, if the current present value of estimated future gross profits is less than the unamortized DAC for a line of business, a charge to income is recorded for additional DAC amortization, and for certain products, an increase in benefit reserves may be required. For other products, if the benefit reserve plus anticipated future
premiums and interest income for a line of business are less than the current estimate of future benefits and expenses (including any unamortized DAC), a charge to income is recorded for additional DAC amortization or for increased benefit reserves. See note 6 for additional information related to DAC including loss recognition and recoverability.
We regularly review all of these assumptions and periodically test PVFP for recoverability. For deposit products, if the current present value of estimated future gross profits is less than the unamortized PVFP for a line of business, a charge to income is recorded for additional PVFP amortization. For other products, if the benefit reserve plus anticipated future premiums and interest income for a line of business are less than the current estimate of future benefits and expenses (including any unamortized PVFP), a charge to income is recorded for additional PVFP amortization or for increased benefit reserves. For the years ended December 31, 2010, 2009 and 2008, no charges to income were recorded as a result of our PVFP recoverability or loss recognition testing.
On the date we enter into a derivative contract, management designates the derivative as a hedge of the identified exposure (fair value, cash flow or foreign currency). If a derivative does not qualify for hedge accounting, the changes in its fair value and all scheduled periodic settlement receipts and payments are reported in income.
We formally document all relationships between hedging instruments and hedged items, as well as our risk management objective and strategy for undertaking various hedge transactions. In this documentation, we specifically identify the asset, liability or forecasted transaction that has been designated as a hedged item, state how the hedging instrument is expected to hedge the risks related to the hedged item, and set forth the method that will be used to retrospectively and prospectively assess the hedging instrument’s effectiveness and the method that will be used to measure hedge ineffectiveness. We generally determine hedge effectiveness based on total changes in fair value of the hedged item attributable to the hedged risk and the total changes in fair value of the derivative instrument.
Changes in the fair value of non-qualifying derivatives, including embedded derivatives, changes in fair value of certain derivatives and related hedged items in fair value hedge relationships and hedge ineffectiveness on cash flow hedges are reported in net investment gains (losses).
We include insurance-type contracts, such as traditional life insurance, in the liability for future policy benefits. Insurance-type contracts are broadly defined to include contracts with significant mortality and/or morbidity risk. The liability for future benefits of insurance contracts is the present value of such benefits less the present value of future net premiums based on mortality, morbidity and other assumptions, which are appropriate at the time the policies are issued or acquired. These assumptions are periodically evaluated for potential reserve deficiencies. Reserves for cancelable accident and health insurance are based upon unearned premiums, claims incurred but not reported and claims in the process of settlement. This estimate is based on our historical experience and that of the insurance industry, adjusted for current trends. Any changes in the estimated liability are reflected in income as the estimates are revised.
For our mortgage insurance policies, reserves for losses and loss adjustment expenses are based on notices of mortgage loan defaults and estimates of defaults that have been incurred but have not been reported by loan servicers, using assumptions of claim rates for loans in default and the average amount paid for loans that result in a claim. As is common accounting practice in the mortgage insurance industry and in accordance with U.S. GAAP, we begin to provide for the ultimate claim payment relating to a potential claim on a defaulted loan when the status of that loan first goes delinquent. Over time, as the status of the underlying delinquent loans move toward foreclosure and the likelihood of the associated claim loss increases, the amount of the loss reserves associated with the potential claims may also increase. The loss reserve factor assumptions related to our U.S. mortgage insurance business are reviewed quarterly. The loss reserve factors are adjusted when required to reflect changes in current and projected market and economic conditions that affect the underlying loss reserve factor assumptions.
For periods prior to our corporate reorganization in 2004, our non-life insurance entities were included in the consolidated federal income tax return of GE and subject to a tax sharing arrangement that allocates tax on a separate company basis, but provides benefit for current utilization of losses and credits. For periods prior to 2004, our U.S. life insurance entities filed a consolidated life insurance federal income tax return separate from GE and are subject to a separate tax sharing agreement, as approved by state insurance regulators, which also allocates taxes on a separate company basis but provides benefit for current utilization of losses and credits. For 2004, through the date of our corporate reorganization, our U.S. life insurance entities were included in the consolidated federal income tax return of GE, and subject to separate company principles similar to those applicable to our non-life insurance entities. Effective with our corporate reorganization, our U.S. non-life insurance entities are included in the consolidated federal income tax return of Genworth and subject to a tax sharing arrangement that allocates tax on a separate company basis, but provides benefit for current utilization of losses and credits. Also effective with our corporate reorganization, our U.S. life insurance entities file a consolidated life insurance federal income tax return, and are subject to a separate tax sharing agreement, as approved by state insurance regulators, which allocates taxes on a separate company basis but provides benefit for current utilization of losses and credits. Intercompany balances under all agreements are settled at least annually.
We have retained interests in VIEs where we are the servicer and transferor of certain assets that were sold to a newly created VIE. Additionally, for certain securitization transactions, we were the transferor of certain assets that were sold to a newly created VIE but did not retain any beneficial interest in the VIE other than acting as the servicer of the underlying assets.
On December 31, 2010, we adopted new accounting guidance related to additional disclosures about the credit quality of loans, lease receivables and other long-term receivables and the related allowance for credit losses. Certain other additional disclosures will be effective for us on March 31, 2011. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
For certain securities where the embedded credit derivative would require bifurcation, we elected the fair value option to carry the entire instrument at fair value to reduce the cost of calculating and recording the fair value of the embedded derivative feature separate from the debt security. Additionally, we elected the fair value option for a portion of other asset-backed securities for operational ease and to record and present the securities at fair value in future periods. Upon electing fair value option on July 1, 2010, these securities were reclassified into the trading category included in other invested assets and had a fair value of $407 million. Prior to electing fair value option, these securities were classified as available-for-sale fixed maturity securities.
On October 1, 2009, we adopted new accounting guidance related to measuring liabilities at fair value. This accounting guidance clarified techniques for measuring the fair value of liabilities when quoted market prices for the identical liability are not available. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
On July 1, 2009, we adopted new accounting guidance related to the codification of accounting standards and the hierarchy of U.S. GAAP established by the Financial Accounting Standards Board (the “FASB”). This
accounting guidance established two levels of U.S. GAAP, authoritative and nonauthoritative. The FASB Accounting Standards Codification (the “Codification”) is the source of authoritative, nongovernmental U.S. GAAP, except for rules and interpretive releases of the United States Securities and Exchange Commission (“SEC”), which are also sources of authoritative U.S. GAAP for SEC registrants. All other accounting literature is nonauthoritative. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
On April 1, 2009, we adopted new accounting guidance related to the recognition and presentation of other-than-temporary impairments. This accounting guidance amended the other-than-temporary impairment guidance for debt securities and modified the presentation and disclosure requirements for other-than-temporary impairment disclosures for debt and equity securities. This accounting guidance also amended the requirement for management to positively assert the ability and intent to hold a debt security to recovery to determine whether an other-than-temporary impairment exists and replaced this provision with the assertion that we do not intend to sell or it is not more likely than not that we will be required to sell a security prior to recovery. Additionally, this accounting guidance modified the presentation of other-than-temporary impairments for certain debt securities to only present the impairment loss in net income (loss) that represents the credit loss associated with the other-than-temporary impairment with the remaining impairment loss being presented in OCI. The following summarizes the components for the cumulative effect adjustment recorded on April 1, 2009 related to the adoption of this new accounting guidance:
On December 31, 2008, we adopted new accounting guidance related to disclosures about credit derivatives and certain guarantees. This accounting guidance requires certain disclosures by sellers of credit derivatives and requires additional disclosure about the current status of the payment/performance risk of guarantees. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
On October 14, 2008, the Office of the Chief Accountant at the SEC, issued a letter to the FASB that stated, given the debt characteristics of hybrid securities, they would not object to the application of a debt impairment model to hybrid investments provided there has been no evidence of deterioration in credit of the issuer. A debt impairment model could be used for filings subsequent to October 14, 2008, until the FASB further addresses the appropriate impairment model. As a result, management began using and will continue to use the debt impairment model as long as there has been no evidence of deterioration in credit of the issuer as of the balance sheet date.
On October 1, 2008, we adopted new accounting guidance related to impairment guidance. This accounting guidance amends the impairment guidance to require all available information be used to produce our best estimate of cash flows rather than relying exclusively upon what a market participant would use to determine the current fair value. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
On September 30, 2008, we adopted new accounting guidance related to determining the fair value of a financial asset when the market for that asset is not active. The accounting guidance provides guidance and clarification on how management’s internal assumptions, observable market information and market quotes are considered in inactive markets. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
In April 2010, the FASB issued new accounting guidance on how investments held through separate accounts affect an insurer’s consolidation analysis of those investments. This new accounting guidance will be effective for us on January 1, 2011. The adoption of this new accounting guidance did not have a material impact on our consolidated financial statements.
(2) Under applicable accounting guidance, companies in a loss position are required to use basic weighted-average common shares outstanding in the calculation of diluted loss per share. Therefore, as a result of our net loss for the years ended December 31, 2009 and 2008, we were required to use basic weighted-average common shares outstanding in the calculation of the 2009 and 2008 diluted loss per share, as the inclusion of shares for stock options, restricted stock units (“RSUs”) and stock appreciation rights (“SARs”) of 1.9 million and 1.7 million, respectively, would have been antidilutive to the calculation. If we had not incurred a net loss in 2009 and 2008, dilutive potential common shares would have been 453.0 million and 434.9 million, respectively.
(2) Included in other invested assets was $14 million, $7 million and $13 million of net investment income related to trading securities in 2010, 2009 and 2008, respectively.
(1) Amounts included $213 million of unrealized losses on other-than-temporarily impaired securities.
While certain securities included in the preceding tables were considered other-than-temporarily impaired, we expect to recover the new amortized cost based on our estimate of cash flows to be collected. We do not intend to sell and it is not more likely than not that we will be required to sell these securities prior to recovering our amortized cost.
The following table presents the concentration of gross unrealized losses related to structured securities as of December 31, 2010:
Most of the structured securities have been in an unrealized loss position for 12 months or more. Given ongoing concern about the housing market and unemployment, the fair value of these securities has declined due to credit spreads that have widened since acquisition. We examined the performance of the underlying collateral and developed our estimate of cash flows expected to be collected. In doing so, we identified certain securities where the non-credit portion of other-than-temporary impairments was recorded in OCI. Based on this evaluation, we determined that the unrealized losses on our mortgage-backed and asset-backed securities represented temporary impairments as of December 31, 2010.
The following table presents the gross unrealized losses and fair values of our investment securities, aggregated by investment type and length of time that individual investment securities have been in a continuous unrealized loss position, as of December 31, 2009:
As of December 31, 2010, securities issued by finance and insurance, utilities and energy, and consumer-non-cyclical industry groups represented approximately 23%, 22% and 11% of our domestic and foreign corporate fixed maturity securities portfolio, respectively. No other industry group comprised more than 10% of our investment portfolio. This portfolio is widely diversified among various geographic regions in the United States and internationally, and is not dependent on the economic stability of one particular region.
As of December 31, 2010, we did not hold any fixed maturity securities in any single issuer, other than securities issued or guaranteed by the U.S. government, which exceeded 10% of stockholders’ equity.
The following table sets forth the commercial mortgage loans on nonaccrual status by property type as of December 31:
The following table sets forth the allowance for credit losses and recorded investment in commercial mortgage loans for the year ended December 31:
The following table sets forth the average loan-to-value of commercial mortgage loans by property type as of December 31, 2010:
(1) Average loan-to-value is based on our most recent estimate of the fair value for the underlying property as of the date indicated above. Values are evaluated at least annually and updated more frequently if necessary to better indicate risk associated with the loan.
(2) Average loan-to-value is based on our most recent estimate of the fair value for the underlying property as of the date indicated above. Values are evaluated at least annually and updated more frequently if necessary to better indicate risk associated with the loan.
The following tables set forth additional information regarding our restricted commercial mortgage loans related to securitization entities as of December 31:
As of December 31, 2010, all restricted commercial mortgage loans were current and there were no restricted commercial mortgage loans on nonaccrual status.
Of the total carrying value of restricted commercial mortgage loans as of December 31, 2010, $507 million related to loans not individually impaired that were evaluated collectively for impairment. A provision for credit losses of $2 million was recorded during the year related to these loans, which reflected our ending allowance for credit losses balance and was required upon consolidation of securitization entities as of January 1, 2010.
There were no floating rate restricted commercial mortgage loans as of December 31, 2010.
(3) Represents embedded derivatives associated with the reinsured portion of our guaranteed minimum withdrawal benefits (“GMWB”) liabilities.
(1) Amounts included $2 million of gains reclassified into net income (loss) for cash flow hedges that were terminated or de-designated where the effective portion is reclassified into net income (loss) when the underlying hedge item affects net income (loss).
The following table provides information about the pre-tax income (loss) effects of fair value hedges and related hedged items for the year ended December 31, 2009:
We also have derivatives related to securitization entities where we were required to consolidate the related securitization entity as a result of our involvement in the structure. The counterparties for these derivatives only have recourse to the securitization entity. The interest rate swaps used for these entities are typically used to effectively convert the interest payments on the assets of the securitization entity to the same basis as the interest rate on the borrowings issued by the securitization entity. Credit default swaps are utilized in certain securitization entities to enhance the yield payable on the borrowings issued by the securitization entity and also include a settlement feature that allows the securitization entity to provide the par value of assets in the securitization entity for the amount of any losses incurred under the credit default swap. See note 18 for additional information related to consolidated securitization entities.
Except for derivatives related to securitization entities, all of our master swap agreements contain credit downgrade provisions that allow either party to assign or terminate derivative transactions if the other party’s long-term unsecured debt rating or financial strength rating is below the limit defined in the applicable agreement. If the downgrade provisions had been triggered as of December 31, 2010 and 2009, we could have been allowed to claim up to $123 million and $102 million, respectively, from counterparties and required to disburse up to $5 million and $1 million, respectively. This represented the net fair value of gains and losses by counterparty, less available collateral held, and did not include any fair value gains or losses for derivatives related to securitization entities.
We sell protection under single name credit default swaps and credit default swap index tranches in combination with purchasing securities to replicate characteristics of similar investments based on the credit quality and term of the credit default swap. Credit default triggers for both indexed reference entities and single name reference entities follow the Credit Derivatives Physical Settlement Matrix published by the International Swaps and Derivatives Association. Under these terms, credit default triggers are defined as bankruptcy, failure to pay or restructuring, if applicable. Our maximum exposure to credit loss equals the notional value for credit default swaps and the par value of debt instruments with embedded credit derivatives. In the event of default for credit default swaps, we are typically required to pay the protection holder the full notional value less a recovery rate determined at auction. For debt instruments with embedded credit derivatives, the security’s principal is typically reduced by the net amount of default for any referenced entity defaults.
(1) The current attachment/detachment as of December 31, 2010 and 2009 was 9% - 12%.
(3) The current attachment/detachment as of December 31, 2010 was 10% - 15%.
(4) The current attachment/detachment as of December 31, 2009 was 10% - 15%.
(5) The current attachment/detachment as of December 31, 2010 and 2009 was 12% - 22%.
(6) The current attachment/detachment as of December 31, 2010 and 2009 was 14.8% - 30.3%.
(1) The amounts in 2009 related to securities that were reclassified to the trading category on July 1, 2010 as a result of adopting new accounting guidance related to embedded credit derivatives.
In 2009 and 2008, loss recognition testing of our fee-based products in our retirement income business resulted in an increase in amortization of DAC of $54 million and $55 million, respectively, reflecting unfavorable equity market performance. In addition, based on management’s assessment of the claim loss development in the existing 2006 and 2007 books of business which may cause deterioration of expected future gross margins for these book years, we determined that unamortized DAC related to our U.S. mortgage insurance business was not recoverable and consequently recorded a charge of $30 million to DAC during 2008.
Amortization expense related to PVFP, capitalized software and other intangible assets for the years ended December 31, 2010, 2009 and 2008 was $116 million, $87 million and $102 million, respectively. Amortization expense related to deferred sales inducements of $18 million and $9 million, respectively, for the years ended December 31, 2010 and 2009 was included in benefits and other changes in policy reserves. There was no amortization expense related to deferred sales inducements in 2008.
The percentage of the December 31, 2010 PVFP balance net of interest accretion, before the effect of unrealized investment gains or losses, estimated to be amortized over each of the next five years is as follows:
There were no goodwill impairment charges recorded in 2010 and 2009. However, continued deteriorating or adverse market conditions for certain businesses may have a significant impact on the fair value of our reporting units and could result in future impairments of goodwill.
Institutional reporting unit (included in our Corporate and Other activities). As a result of credit market conditions in 2008, increases in our credit spreads and our inability to issue new business in the current market environment, the fair value determined using a discounted cash flow model decreased and resulted in an impairment of the entire goodwill balance of $12 million; and
On December 31, 2010, we acquired the operating assets of Altegris Capital, LLC (“Altegris”) as part of our wealth management business in our Retirement and Protection segment. Altegris, based in La Jolla, California, provides a platform of alternative investments, including hedge funds and managed futures products. Under the terms of the agreement, we paid approximately $40 million at closing and may pay additional performance-based payments of up to $88 million during the five-year period following closing. We recorded consideration of $65 million consisting of the closing cash payment, estimated working capital adjustment and level 3 fair value of $21 million for contingent consideration, determined using an income approach. As part of the business combination, we recognized goodwill of $8 million and level 3 fair values of acquired identifiable intangible assets of $52 million. Such estimated values may change as additional information is obtained and the valuation is finalized.
On October 20, 2006, we acquired AssetMark Investment Services, Inc. of Pleasant Hill, California, for approximately $230 million. The acquisition is part of our wealth management business in our Retirement and Protection segment. Under terms of the agreement, we may pay additional performance-based payments of up to $100 million over five years.
On September 30, 2009, we closed a transaction for the sale of one of our Mexican subsidiaries, Genworth Seguros Mexico, S.A. de C.V. (“Seguros”), to HDI-Gerling International Holding AG. The sale included the
As of December 31, 2010, the maximum amount of individual ordinary life insurance normally retained by us on any one individual life policy was $5 million.
Prior to our IPO, we entered into several significant reinsurance transactions (“Reinsurance Transactions”) with UFLIC. In these transactions, we ceded to UFLIC in-force blocks of structured settlements, substantially all of our in-force blocks of variable annuities and a block of long-term care insurance policies that we reinsured in 2000 from MetLife Insurance Company of Connecticut. Although we remain directly liable under these contracts and policies as the ceding insurer, the Reinsurance Transactions have the effect of transferring the financial results of the reinsured blocks to UFLIC. As of December 31, 2010 and 2009, we had a reinsurance recoverable of $14,866 million and $14,827 million, respectively, associated with those Reinsurance Transactions.
To secure the payment of its obligations to us under the reinsurance agreements governing the Reinsurance Transactions, UFLIC has established trust accounts to maintain an aggregate amount of assets with a statutory book value at least equal to the statutory general account reserves attributable to the reinsured business less an amount required to be held in certain claims paying accounts. A trustee administers the trust accounts and we are permitted to withdraw from the trust accounts amounts due to us pursuant to the terms of the reinsurance agreements that are not otherwise paid by UFLIC. In addition, pursuant to a Capital Maintenance Agreement, General Electric Capital Corporation (“GE Capital”), an indirect subsidiary of GE, agreed to maintain sufficient capital in UFLIC to maintain UFLIC’s risk-based capital at not less than 150% of its company action level, as defined from time to time by the NAIC.
Reinsurance recoveries recognized as a reduction of benefits and other changes in policy reserves amounted to $2,527 million, $2,485 million and $2,724 million during 2010, 2009 and 2008, respectively.
(b) Assumptions for limited-payment contracts come from either the U.S. Population Table, 1983 Group Annuitant Mortality Table, 1983 Individual Annuitant Mortality Table or a-2000 Mortality Table.
We are a member of the Federal Home Loan Bank (the “FHLB”) program and held $71 million and $52 million of common stock, respectively, related to our membership for the years ended December 31, 2010 and
Our variable annuity contracts provide a basic guaranteed minimum death benefit (“GMDB”) which provides a minimum account value to be paid upon the annuitant’s death. Some variable annuity contracts may permit contractholders to have the option to purchase through riders, at an additional charge, enhanced death benefits. Our separate account guarantees are primarily death benefits; we also have some GMWBs and guaranteed annuitization benefits.
As of December 31, 2010 and 2009, our liability associated with certain nontraditional long-duration contracts was approximately $8,675 million and $7,962 million, respectively.
The GMDB liability for our variable annuity contracts with death benefits, net of reinsurance, was $13 million and $12 million as of December 31, 2010 and 2009, respectively.
The contracts underlying the GMWB and guaranteed annuitization benefits are considered “in the money” if the contractholder’s benefit base, defined as the greater of the contract value or the protected value, is greater than the account value. As of December 31, 2010 and 2009, our exposure related to GMWB and guaranteed annuitization benefit contracts that were considered “in the money” was $692 million and $771 million, respectively. For GMWBs and guaranteed annuitization benefits, the only way the contractholder can monetize the excess of the benefit base over the account value of the contract is upon annuitization and the amount to be paid by us will either be in the form of a lump sum, or over the annuity period for certain GMWBs and guaranteed annuitization benefits.
Account balances of variable annuity contracts with living benefit guarantees were invested in separate account investment options as follows as of December 31:
While the liability for policy and contract claims represents our current best estimates, there may be additional adjustments to these amounts based on information and trends not presently known. Such adjustments, reflecting any variety of new and adverse or favorable trends, could possibly be significant, exceeding the currently recorded reserves by an amount that could be material to our results of operations, financial condition and liquidity.
In 2010, we increased claim reserves related to our long-term care insurance business by $272 million from $3,188 million as of December 31, 2009. In the current stressed economic environment, we have experienced an increase in severity and duration of claims associated with observed loss development along with refinements to our estimated claim reserves all of which contributed to the reserve increase.
from policy inception. This provision is reclassified to claim reserves upon commencement of actual claim activity. Additionally, the strengthening includes refinements to our estimated claims reserves for timing, amount and duration of claims associated with observed loss development.
We also strengthened reserves related to our international mortgage insurance business in 2009 by $125 million from $366 million as of December 31, 2008. This strengthening was primarily related to an increase in delinquencies, particularly in Canada and Europe, as a result of slowing economies, rising unemployment, falling real estate values and reduced consumer spending in those countries that were experienced at the end of 2008. The impact of these market and economic events could not have been predicted at the time these reserves were established.
In 2009, we increased prior year reserves in our U.S. Mortgage Insurance segment by $515 million from $1,711 million as of December 31, 2008. The strengthening of reserves related to the aging of the underlying delinquent loans. With the decline in home values and tightening credit liquidity in 2009, the ability to cure a delinquent loan has become increasingly difficult to achieve and caused an increase in the aging of delinquent loans. These aged delinquent loans also had a higher estimated claim rate as compared to the prior year as a result of deteriorating loss development trends and the adverse market and economic conditions. The rapid increase in unemployment levels and home price depreciation as well as the severe deterioration of the overall economic environment in early 2009 could not have been predicted at the time these reserves were established. The increase in reserves was partially offset by our loss mitigation activities which reduced our prior year reserves by $465 million.
For our other businesses, the remaining unfavorable prior year development in 2009 related to refinements to our estimates as part of our reserving process on both reported and unreported insured events occurring in the prior year that were not significant.
As of December 31, 2009, our policy and contract claims liability related to our U.S. Mortgage Insurance segment also included a settlement of arbitration proceedings with a lender regarding certain bulk transactions in the third quarter of 2009 of $95 million, consisting of net paid claims of $203 million and a decrease in reserves of $108 million which were included in the current year incurred and paid claims in the chart above.
For 2008, the unfavorable development of $514 million was primarily attributable to our U.S. mortgage insurance business as a result of the worsening U.S. economy and housing markets causing us to strengthen reserves related to this business by $266 million from $467 million as of December 31, 2007. This strengthening was attributable to an increase in the level of expected claim frequencies from the aging of our delinquency population. As a result, we expected a significantly higher rate of our delinquencies to become claims. These trends could not have been predicted before the market and economic events that occurred during 2008, which caused the adverse cure rate and delinquency development trends. Additionally, the reinsurance recoverable associated with captive reinsurance also substantially increased during 2008. We applied these higher frequency level expectations to delinquencies during 2008 to determine our liability for policy and contract claims as of December 31, 2008. For our other businesses, the remaining unfavorable prior year development in 2008 related to refinements on both reported and unreported insured events occurring in the prior year as part of our reserving process.
Our domestic employees participate in qualified and non-qualified defined contribution savings plans that allow employees to contribute a portion of their pay to the plan on a pre-tax basis. We match these contributions, which vest immediately, up to 4% of the employee’s pay. In December 2010, we announced employees hired on or after January 1, 2011 will not vest immediately in Genworth matching contributions but will fully vest after two complete years of service. In addition, starting January 1, 2011, we will match contributions up to 6% of the employee’s pay. One option available to employees in the defined contribution savings plan is the ClearCourse® variable annuity option offered by our Retirement and Protection segment. The amount of deposits recorded by our Retirement and Protection segment for 2010 and 2009 in relation to this plan option was $1 million for each year. Employees also have the option of purchasing Genworth stock as part of the defined contribution plan. Our cost associated with these plans was $13 million, $12 million and $17 million for the years ended December 31, 2010, 2009 and 2008, respectively.
We have a $1.0 billion commercial paper program whereby notes are offered pursuant to an exemption from registration under the Securities Act of 1933 and may have a maturity of up to 364 days from the date of issue. As of December 31, 2010, we have no commercial paper outstanding.
We have two five-year revolving credit facilities that mature in May 2012 and August 2012. These facilities bear variable interest rates based on one-month London Interbank Offered Rate (“LIBOR”) plus a margin. Each of these facilities originally had $1.0 billion available for borrowings. Lehman Commercial Paper Inc. (“LCP”) had committed $70 million under the August 2012 credit facility and Lehman Brothers Bank, FSB (“Lehman FSB”) had committed $70 million under the May 2012 credit facility. On October 5, 2008, LCP filed for protection under Chapter 11 of the Federal Bankruptcy Code in the U.S. Bankruptcy Court for the Southern District of New York. LCP was unable to fulfill its commitments under the August 2012 credit facility and Lehman FSB declined to fulfill its commitment under the May 2012 credit facility. On April 1, 2010, a consent and waiver agreement was entered into which releases the Lehman Brothers-related entities from their commitments under the facilities and reduces the remaining commitments by those respective amounts. Therefore, as of December 31, 2010, we had access to $1.9 billion under these facilities.
On February 14, 2011, we issued a $100 million letter of credit under our credit facilities for the benefit of one of our life insurance companies. This letter of credit replaces a letter of credit for the same amount which matured in February 2011 and was provided by a third-party bank. After issuance of this letter of credit, the total letter of credit utilization under our credit facilities was $156 million and unused credit capacity was $1.7 billion.
In November 2006, we issued fixed-to-floating rate junior notes having an aggregate principal amount of $600 million, with an annual interest rate equal to 6.15% payable semi-annually, until November 15, 2016, at which point the annual interest rate will be equal to the three-month LIBOR plus 2.0025% payable quarterly,
until the notes mature in November 2066 (“2066 Notes”). Subject to certain conditions, we have the right, on one or more occasions, to defer the payment of interest on the 2066 Notes during any period of up to ten years without giving rise to an event of default and without permitting acceleration under the terms of the 2066 Notes. We will not be required to settle deferred interest payments until we have deferred interest for five years or made a payment of current interest. In the event of our bankruptcy, holders will have a limited claim for deferred interest.
We may redeem the 2066 Notes on November 15, 2036, the “scheduled redemption date,” but only to the extent that we have received net proceeds from the sale of certain qualifying capital securities. We may redeem the 2066 Notes (i) in whole or in part, at any time on or after November 15, 2016 at their principal amount plus accrued and unpaid interest to the date of redemption or (ii) in whole or in part, prior to November 15, 2016 at their principal amount plus accrued and unpaid interest to the date of redemption or, if greater, a make-whole price.
As part of our corporate formation, we issued $100 million of 5.25% Series A Preferred Stock (“Series A Preferred Stock”) to GEFAHI. GEFAHI sold all of our Series A Preferred Stock in a public offering concurrent with our IPO. Two million shares of our authorized preferred stock have been designated 5.25% Cumulative Series A Preferred Stock. As of December 31, 2009, approximately 1.3 million shares of our Series A Preferred Stock were outstanding. During August 2010, we repurchased 120,000 shares of our Series A Preferred Stock for $6 million. As of December 31, 2010, approximately 1.2 million shares of our Series A Preferred Stock were outstanding.
Dividends on the Series A Preferred Stock are fixed at an annual rate equal to 5.25% of the sum of (1) the stated liquidation value of $50 per share plus (2) accumulated and unpaid dividends. Dividends are payable quarterly in arrears on March 1, June 1, September 1 and December 1 of each year. For the years ended December 31, 2010, 2009 and 2008, we paid dividends of $3 million, $5 million and $5 million, respectively, which has been recorded as interest expense in the consolidated statements of income.
We are required to redeem the remaining outstanding shares of the Series A Preferred Stock on June 1, 2011 in whole at a price of $50 per share, plus unpaid dividends accrued to the date of redemption. There are no provisions for early redemption. Except under certain conditions or otherwise required by applicable law, the holders of the Series A Preferred Stock have no voting rights.
Any payment of principal, including by redemption, or interest on the notes may only be made with the prior approval of the Director of Insurance of the State of South Carolina in accordance with the terms of its licensing orders and in accordance with applicable law, except for non-recourse funding obligations issued by River Lake Insurance Company IV Limited (“River Lake IV”), a Bermuda domiciled insurance company. River Lake IV may repay principal up to 15% of its capital without prior approval. The holders of the notes have no rights to accelerate payment of principal of the notes under any circumstances, including without limitation, for nonpayment or breach of any covenant. Each issuer reserves the right to repay the notes that it has issued at any time, subject to prior regulatory approval. On March 25, 2010, River Lake IV repaid $6 million of its total outstanding $28 million Class B Floating Rate Subordinated Notes due May 25, 2028 following an early redemption event, in accordance with the priority of payments. On March 25, 2009, River Lake IV repaid $12 million of its total outstanding $40 million Class B Floating Rate Subordinated Notes due May 25, 2028 following an early redemption event, in accordance with the priority of payments.
The weighted-average interest rate on the non-recourse funding obligations as of December 31, 2010 and 2009 was 1.44% and 1.49%, respectively.
Our liquidity requirements are principally met through our revolving credit facilities and cash flows from operations. As of December 31, 2010, we had an unused credit capacity within our revolving credit facilities of $1.8 billion.
The total benefit for income taxes was as follows for the years ended December 31:
Our current income tax receivable was $58 million as of December 31, 2010 and our current income tax payable was $76 million as of December 31, 2009.
The reconciliation of the federal statutory tax rate to the effective income tax rate was as follows for the years ended December 31:
As a consequence of our separation from GE, and our joint election with GE to treat that separation as an asset sale under Section 338 of the Internal Revenue Code, we became entitled to additional tax deductions in post-IPO periods. As of December 31, 2010 and 2009, we have recorded in our consolidated balance sheets our estimates of the remaining deferred tax benefits associated with these deductions of $599 million and $527 million, respectively. We are obligated, pursuant to our Tax Matters Agreement with GE, to make fixed payments to GE, over the next 13 years, on an after-tax basis and subject to a cumulative maximum of $640 million, which is 80% of the projected tax savings associated with the Section 338 deductions. We recorded net interest expense of $17 million, $21 million and $19 million for the years ended December 31, 2010, 2009 and 2008, respectively, reflecting accretion of our liability at the Tax Matters Agreement rate of 5.72%. As of December 31, 2010 and 2009, we have recorded the estimated present value of our remaining obligation to GE of $339 million and $351 million, respectively, as a liability in our consolidated balance sheets. Both our IPO-related deferred tax assets and our obligation to GE are estimates that are subject to change.
The total amount of unrecognized tax benefits was $193 million as of December 31, 2010, of which $19 million, if recognized, would affect the effective rate on continuing operations. These unrecognized tax benefits included the impact of foreign currency translation from our international operations.
We recognize accrued interest and penalties related to unrecognized tax benefits as components of income tax expense. We recorded $9 million, $6 million and $22 million for benefits related to interest and penalties during 2010, 2009 and 2008, respectively. We had approximately $9 million and $11 million, respectively, of interest and penalties accrued as of December 31, 2010 and 2009.
We file U.S. federal income tax returns and various state and local and foreign income tax returns. With few exceptions, we are no longer subject to U.S. federal or foreign income tax examinations for years prior to 2000 and 2005 through 2006. Potential state and local examinations for those years are generally restricted to results that are based on closed U.S. federal examinations. The IRS is currently reviewing our U.S. income tax returns for the 2007 and 2008 tax years. Certain issues from 2005 and 2006 have been timely protested and will be subject to review by the IRS appeals division. For those companies that filed consolidated returns with our former parent, GE, in 2003 and 2004 before our IPO (which included the pre-IPO related transactions), the IRS has completed its examination of these GE consolidated returns and the appropriate adjustments under the Tax Matters Agreement and other tax sharing arrangements with GE are still in process. Certain issues from the 2000 through 2004 audit cycle are agreed upon and are in the process of being finalized with the IRS appeals division. HM Revenue and Customs is currently reviewing our U.K. income tax returns for 2003 and later years.
We believe it is reasonably possible that in 2011 as a result of our open audits and appeals, up to approximately $71 million of unrecognized tax benefits will be recognized. These tax benefits are related to certain life insurance deductions in the United States and lifestyle protection insurance benefits in the United Kingdom.
Net cash paid for taxes was $253 million, $200 million and $198 million and cash paid for interest was $378 million, $327 million and $406 million for the years ended December 31, 2010, 2009 and 2008, respectively.
The following table contains the stock option weighted-average grant-date fair value information and related valuation assumptions, excluding exchanged grants and performance-accelerated options and SARs described further below, for the years ended December 31:
The following table summarizes information about stock options outstanding as of December 31, 2010:
Short-term borrowings. Based on carrying value which approximates fair value since the borrowings are based on variable interest rates that are reset monthly.
For private fixed maturity securities, we utilize an internal model to determine fair value and utilize public bond spreads by sector, rating and maturity to develop the market rate that would be utilized for a similar public bond. We then add an additional premium to the public bond spread to adjust for the liquidity and other features of our private placements. We utilize the estimated market yield to discount the expected cash flows of the security to determine fair value. We assign each security an internal rating to determine the appropriate public bond spread that should be utilized in the valuation. While we generally consider the public bond spreads by sector and maturity to be observable inputs, we evaluate the similarities of our private placement with the public bonds to determine whether the spreads utilized would be considered observable inputs for the private placement being valued. To determine the significance of unobservable inputs, we calculate the impact on the valuation from the unobservable input and will classify a security as Level 3 when the impact on the valuation exceeds 10%.
The following table summarizes the primary sources considered when determining fair value of equity securities as of December 31, 2010:
In determining the fair value of derivatives, we consider the counterparty collateral arrangements and rights of set-off when determining whether any incremental adjustment should be made for both the counterparty’s and our non-performance risk. As a result of these counterparty arrangements, we determined no adjustment for our non-performance risk was required to our derivative liabilities.
Interest rate swaps. The valuation of interest rate swaps is determined using an income approach. The primary input into the valuation represents the forward interest rate swap curve, which is generally considered an observable input, and results in the derivative being classified as Level 2. For certain interest rate swaps, the inputs into the valuation also include the total returns of certain bonds that would primarily be considered an observable input and result in the derivative being classified as Level 2. For certain other swaps, there are features that provide an option to the counterparty to terminate the swap at specified dates and would be considered a significant unobservable input and results in the fair value measurement of the derivative being classified as Level 3.
Interest rate swaptions. The valuation of interest rate swaptions is determined using an income approach. The primary inputs into the valuation represent the forward interest rate swap curve, which is generally considered an observable input, forward interest rate volatility and time value component associated with the optionality in the derivative. As a result of the significant unobservable inputs associated with the forward interest rate volatility input, the derivative is classified as Level 3.
Equity index options. We have equity index options associated with various equity indices. The valuation of equity index options is determined using an income approach. The primary inputs into the valuation represent forward interest rate volatility and time value component associated with the optionality in the derivative, which are considered significant unobservable inputs in most instances. The equity index volatility surface is determined based on market information that is not readily observable and is developed based upon inputs received from several third-party sources. Accordingly, these options are classified as Level 3.
Equity return swaps. The valuation of equity return swaps is determined using an income approach. The primary inputs into the valuation represent the forward interest rate swap curve and underlying equity index values, which are generally considered observable inputs, and results in the derivative being classified as Level 2.
Other foreign currency contracts. We have certain foreign currency options classified as other foreign currency contracts. The valuation of foreign currency options is determined using an income approach. The primary inputs into the valuation represent the forward interest rate swap curve, foreign currency exchange rates, forward interest rate and foreign currency exchange rate volatility and time value component associated with the optionality in the derivative. As a result of the significant unobservable inputs associated with the forward interest rate and foreign currency exchange rate volatility input, the derivative is classified as Level 3.
We are required to bifurcate an embedded derivative for certain features associated with annuity products and related reinsurance agreements where we provide a GMWB to the policyholder and are required to record the GMWB embedded derivative at fair value. The valuation of our GMWB embedded derivative is based on an income approach that incorporates inputs such as forward interest rates, equity index volatility, equity index and fund correlation, and policyholder assumptions such as utilization, lapse and mortality. In addition to these inputs, we also consider risk and expense margins when determining the projected cash flows that would be determined by another market participant. While the risk and expense margins are considered in determining fair value, these inputs do not have a significant impact on the valuation.
For GMWB liabilities, non-performance risk is integrated into the discount rate. Prior to the third quarter of 2010, the discount rate was based on the swap curve, which incorporated the non-performance risk of our GMWB liabilities. Beginning in 2009, the swap curve dropped below the U.S. Treasury curve at certain points on
the longer end of the curve, and in 2010, the points below the U.S. Treasury curve expanded to several points beyond 10 years. For these points on the curve, we utilized the U.S. Treasury curve as our discount rate through the second quarter of 2010. Beginning in the third quarter of 2010, we revised our discount rate to reflect market credit spreads that represent an adjustment for the non-performance risk of the GMWB liabilities. The credit spreads included in our discount rate range from 60 to 80 basis points over the most relevant points on the U.S. Treasury curve. As of December 31, 2010, the impact of non-performance risk resulted in a lower fair value of our GMWB liabilities of $44 million. As of December 31, 2009, the impact of non-performance risk on our GMWB valuation was not material.
For equity index volatility, we determine the projected equity market volatility using both historical volatility and projected near-term equity market volatility with more significance being placed on projected and recent historical data.
We review the fair value hierarchy classifications each reporting period. Changes in the observability of the valuation attributes may result in a reclassification of certain financial assets or liabilities. Such reclassifications are reported as transfers in and out of Level 3, or between other levels, at the beginning fair value for the reporting period in which the changes occur.
(2) The transfer out of Level 3 was primarily related to residential and commercial mortgage-backed and other asset-backed securities and resulted from a change in the observability of inputs used to determine fair value.
While we observed some increased trading activity for certain mortgage-backed and asset-backed securities during 2009, primarily as a result of government programs, we did not observe a broad-based improvement in market conditions to result in the classification of several mortgage-backed and asset-backed securities as Level 2. During the year ended December 31, 2010, primary market issuance and secondary market activity for commercial and non-agency residential mortgage-backed and other asset-backed securities increased the market observable inputs used to establish fair values for similar securities. These factors, along with more consistent pricing from third-party sources, resulted in our conclusion that there is sufficient trading activity in similar instruments to support classifying certain mortgage-backed and asset-backed securities as Level 2 as of December 31, 2010. Accordingly, our assessment resulted in a transfer out of Level 3 of $1,511 million, $3,469 million and $1,264 million, respectively, during the year ended December 31, 2010 related to residential mortgage-backed, commercial mortgage-backed and other asset-backed securities.
Purchases, sales, issuances and settlements, net, presented for policyholder account balances represents the issuances and settlements of embedded derivatives associated with our GMWB liabilities where issuances are characterized as the change in fair value associated with the product fees recognized that are attributed to the embedded derivative to equal the expected future benefit costs upon issuance and settlements are characterized as the change in fair value upon exercising the embedded derivative instrument, effectively representing a settlement of the embedded derivative instrument. We have shown these changes in fair value separately based on the classification of this activity as effectively issuing and settling the embedded derivative instrument with all remaining changes in the fair value of these embedded derivative instruments being shown separately in the category labeled “included in net (income) loss” in the tables presented above.
The amount presented for unrealized gains (losses) for assets and liabilities still held as of the reporting date primarily represents impairments for available-for-sale securities, changes in fair value of trading securities and certain derivatives and changes in fair value of embedded derivatives associated with our GMWB liabilities that existed as of the reporting date, which were recorded in net investment gains (losses) and accretion on certain fixed maturity securities which was recorded in net investment income.
Financial support for certain securitization entities was provided under credit support agreements that remain in place throughout the life of the related entities. As of December 31, 2009, we provided limited recourse for a maximum of $117 million of credit losses. Assets with credit support were funded by demand notes that were further enhanced with support provided by a third party. During the fourth quarter of 2010, one of the securitization entities that was covered under a credit support agreement was terminated upon final payments made by the structure. Therefore, as of December 31, 2010, we provided limited recourse for a maximum of $40 million of credit losses related to one of our commercial mortgage loan entities that was required to be consolidated with total assets of $115 million as of December 31, 2010. There were no amounts recorded for these limited recourse liabilities as of December 31, 2010 and 2009. In 2010, no amounts were paid associated with these arrangements. In 2009, we paid $1 million associated with these arrangements.
We are involved in certain securitization and VIEs where we are not required to consolidate the securitization entity.
In certain instances, we determined we were the party with power but did not have a variable interest in the entity. Our interest in the entities included servicer fees and excess interest, where our benefit from our excess interest holding is subordinated to third-party holdings. Based on the composition of the assets in the securitization entity, there were no reasonable scenarios that would result in our interest receiving any significant benefit from the entity. As a result, our interest would not be considered a variable interest in the entity as a result of meeting certain requirements in the accounting guidance.
Amounts recognized in our consolidated financial statements related to our involvement with entities used to facilitate asset securitization transactions where the securitization entity was not required to be consolidated as of December 31:
The decrease in the amounts presented above were primarily a result of having to consolidate certain securitization entities as discussed above and the termination in the fourth quarter of 2010 of a securitization entity not required to be consolidated.
In certain securitization transactions, we retained an interest in transferred assets. Those interests take various forms and may be subject to credit, prepayment and interest rate risks. When we securitized receivables, we determined the fair value based on discounted cash flow models that incorporate, among other things, assumptions including credit losses, prepayment speeds and discount rates. These assumptions were based on our experience, market trends and anticipated performance related to the particular assets securitized. Our retained interests are reflected as fixed maturity securities available-for-sale.
Following a securitization transaction, we retained the responsibility for servicing the receivables, and as such, were entitled to receive an ongoing fee based on the outstanding principal balances of the receivables. There were no servicing assets nor liabilities recorded as the benefits of servicing the assets were adequate to compensate an independent servicer for its servicing responsibilities.
asset securitization transactions and certain investments, both of which are described in more detail below. Prior to being required to consolidate these entities, our interest in these entities was recorded in our consolidated financial statements as available-for-sale fixed maturity securities.
For one of our commercial mortgage loan securitization entities with total assets of $115 million as of December 31, 2010, our economic interest represents the excess interest received on the loans compared to the interest paid on the entity’s obligation. Additionally, we provide limited recourse for a maximum of $40 million credit losses. We also act as the servicer for the underlying mortgage loans and have the ability to direct certain activities in accordance with the agreements related to the securitization entity.
For the other commercial mortgage loan securitization entity with total assets of $397 million as of December 31, 2010, our economic interest represents the excess interest of the commercial mortgage loans and the subordinated notes of the securitization entity. The commercial mortgage loans are serviced by a third-party servicer and special servicer. However, we have the right to replace the special servicer without cause at any time. This right is recognized under accounting guidance as resulting in our effective control of the activities directed by the special servicer.
The following table shows the activity presented in our consolidated statement of income related to the consolidated securitization entities for the year ended December 31:
Borrowings related to securitization entities were as follows as of December 31, 2010:
Our insurance company subsidiaries are restricted by state and foreign laws and regulations as to the amount of dividends they may pay to their parent without regulatory approval in any year, the purpose of which is to protect affected insurance policyholders, depositors or investors. Any dividends in excess of limits are deemed “extraordinary” and require approval. Based on estimated statutory results as of December 31, 2010, in accordance with applicable dividend restrictions, our subsidiaries could pay dividends of approximately $1.1 billion to us in 2011 without obtaining regulatory approval. However, we do not expect our insurance subsidiaries to pay dividends to us in 2011 at this level as they retain capital for growth and to meet capital requirements.
Our domestic insurance subsidiaries paid dividends of $47 million ($20 million of which were deemed “extraordinary”), $50 million ($24 million of which were deemed “extraordinary”) and $300 million (none of which were deemed “extraordinary”) during 2010, 2009 and 2008, respectively.
the fair value of this derivative was $23 million and $30 million, respectively, and was recorded in other liabilities. We also provide an unlimited guarantee to policyholders for the solvency of our mortgage insurance subsidiary located in the United Kingdom. However, based on risk in-force as of December 31, 2010, we believe our mortgage insurance subsidiary has sufficient reserves and capital to cover its policyholder obligations.
During December 2010, we completed an intercompany, non-cash preferred securities exchange transaction that resulted in an increase to statutory capital of approximately $218 million in our U.S. mortgage insurance companies. This transaction was contingent upon receiving appropriate regulatory approval, which was granted in January 2011; this transaction was effective for reported 2010 year end statutory financial statements.
In January 2011, our primary U.S. mortgage insurance company, Genworth Mortgage Insurance Corporation (“GEMICO”), was granted a two-year risk-to-capital waiver by the North Carolina Department of Insurance (“NCDOI”), subject to specified conditions including the NCDOI’s authority to modify or terminate the waiver at its discretion. The waiver gives GEMICO the ability to continue to write new business in the event that its risk-to-capital ratio exceeds 25:1 for a two-year period ending January 31, 2013 and is applicable in 34 states that do not have their own risk-to-capital requirements. We are also pursuing a temporary waiver of the risk-to-capital requirement with other state regulators where the authority to grant a waiver exists.
We conduct our operations in three operating business segments: (1) Retirement and Protection, which includes our life insurance, long-term care insurance, wealth management products and services and retirement income products; (2) International, which includes international mortgage and lifestyle protection insurance; and (3) U.S. Mortgage Insurance, which includes mortgage-related products and services.
Our unaudited quarterly results of operations for the year ended December 31, 2010 are summarized in the table below.
(1) Included in the three months ended December 31, 2010 were increased losses in our U.S. mortgage insurance business.
(2) As a result of our net loss for the three months ended December 31, 2010, we were required under applicable accounting guidance, to use basic weighted-average common shares outstanding in the calculation of the diluted loss per share, as the inclusion of shares for stock options, RSUs and SARs of 4.4 million, would have been antidilutive to the calculation. If we had not incurred a net loss, dilutive potential common shares would have been 494.0 million for the three months ended December 31, 2010.
(1) As a result of our net loss for the three months ended March 31 and June 30, 2009, we were required under applicable accounting guidance, to use basic weighted-average common shares outstanding in the calculation of the diluted loss per share, as the inclusion of shares for stock options, RSUs and SARs of 53,858 and 1.2 million, respectively, would have been antidilutive to the calculation. If we had not incurred a net loss, dilutive potential common shares would have been 433.2 million and 434.4 million for the three months ended March 31 and June 30, 2009, respectively.
The U.K. antitrust authorities conducted a review of the payment protection insurance sector and in January 2009, the antitrust authorities issued their final report that included the remedies to address the antitrust issues identified in their findings. The remedies included prohibitions on the sale of single premium payment protection insurance products, or the sale of payment protection products within seven days of the sale of the underlying credit product unless the consumer contacts the distributor after 24 hours of sale of the credit product, as well as additional informational remedies. Though it was previously anticipated that the remedies would be implemented during 2010, a successful appeal brought against key elements of the findings by a large U.K. retail bank delayed implementation of the full remedies package. Following publication of the antitrust authorities’ response to the appeal, it appears that the remedies package will now be implemented during the second half of 2011 and early 2012.
On July 30, 2010, we received a subpoena from the office of the New York Attorney General, relating to an industry-wide investigation of the use of retained asset accounts as a settlement option for life insurance death benefit payments. When a retained asset account is established for a beneficiary, our insurance company subsidiary retains the death benefit proceeds in its general account and pays interest on those proceeds. Beneficiaries can withdraw all of the funds or a portion of the funds held in the account at any time. In addition to the subpoena, we have been contacted by state insurance regulators regarding retained asset accounts. We have responded to the New York Attorney General subpoena and state insurance regulator information requests, and will cooperate with respect to any follow-up requests or inquiries.
private mortgage insurance premiums were in violation of RESPA, the Truth in Lending Act and other violations for which plaintiffs seek declaratory and injunctive relief and unspecified monetary damages. We intend to vigorously defend this action.
In December 2008, we announced actions being taken to advance our strategic goals in response to the current economic downturn. These actions included the elimination of approximately 1,000 jobs globally. We recorded a pre-tax charge of approximately $38 million in the fourth quarter of 2008 for severance, outplacement and other costs associated with the plan for workforce reduction and other restructuring actions. These charges were included in acquisition and operating expenses, net of deferrals, in the consolidated statement of income. As of December 31, 2008, we recorded an accrual for $38 million which was included in other liabilities in the consolidated balance sheet. The actions announced in December 2008 were primarily completed in the first quarter of 2009. During 2009, we made $33 million of cash severance payments and lowered the original accrual by $5 million related to changes in severance charge estimates. However, several other actions were taken during 2009 that resulted in an additional $5 million severance accrual that was included in other liabilities in the consolidated balance sheet. In 2010, we made $3 million of cash severance payments and lowered the original accrual by $1 million related to changes in severance charge estimates. However, several other actions were taken during 2010 that resulted in an additional $1 million restructuring charge. As of December 31, 2010, severance accrual was $3 million and was included in other liabilities in the consolidated balance sheet.
On July 7, 2009, Genworth Canada, our indirect subsidiary, completed the initial public offering (the “Offering”) of its common shares. Of the 44.7 million common shares of Genworth Canada that were sold in the Offering, 5.1 million common shares were sold by Genworth Canada and 39.6 million common shares were sold by Brookfield Life Assurance Company Limited (the “Selling Shareholder”), our indirect wholly-owned subsidiary. Following completion of the Offering, we beneficially owned 61.8% of the common shares of Genworth Canada. In addition, the Selling Shareholder granted to the underwriters of the Offering an option (the “Over-Allotment Option”), that was exercisable for a period of 30 days after the closing of the Offering, to purchase up to an additional 6.7 million common shares from the Selling Shareholder. On July 30, 2009, 5.0 million common shares were sold by the Selling Shareholder pursuant to the Over-Allotment Option. Following the exercise and closing of the Over-Allotment Option, we beneficially own 57.5% of the common shares of Genworth Canada. The Offering and the Over-Allotment Option generated gross proceeds of approximately $820 million. We paid $50 million of expenses directly related to the transaction, including underwriting commissions and other items. The gross proceeds included $22 million of cash remaining in Genworth Canada.
In December 2010 and 2009, dividends of $43 million and $10 million, respectively, were paid to the noncontrolling interests.
In December 2010, our majority-owned subsidiary, Genworth MI Canada Inc. (“Genworth Canada”), issued CAD$150 million of 4.59% senior notes due 2015. The net proceeds of the offering were used to fund transactions among Genworth Canada and its Canadian wholly-owned subsidiaries. Genworth Canada is expected to use any proceeds it received from such transactions for general corporate and investment purposes, and/or to fund a distribution to, or a repurchase of common shares from, Genworth Canada’s shareholders.
On March 25, 2010, River Lake Insurance Company IV Limited (“River Lake IV”) repaid $6 million of its total outstanding $28 million Class B Floating Rate Subordinated Notes due May 25, 2028 following an early redemption event, in accordance with the priority of payments. On March 25, 2009, River Lake IV, our wholly-owned subsidiary, repaid $12 million of its total outstanding $40 million Class B Floating Rate Subordinated Notes due May 25, 2028 following an early redemption event, in accordance with the priority of payments.
In addition to the guarantees discussed in notes 18, 19 and 22 to our consolidated financial statements, we provided capital support to some of our insurance subsidiaries in the form of guarantees of certain (primarily insurance) obligations, in some cases subject to annual scheduled adjustments, totaling up to $818 million and $800 million as of December 31, 2010 and 2009, respectively. We believe our insurance subsidiaries have adequate reserves to cover the underlying obligations.
We provide a limited guarantee to Rivermont Insurance Company I (“Rivermont I”), an indirect subsidiary, which is accounted for as a derivative and is carried at fair value. This derivative did not qualify for hedge accounting, and therefore, changes in fair value were reported in net investment gains (losses) in the income statement. As of December 31, 2010 and 2009, the fair value of this derivative was $23 million and $30 million, respectively, and was recorded in other liabilities. For the years ended December 31, 2010, 2009 and 2008, the effect on pre-tax income (loss) was $(4) million, $(7) million and $19 million, respectively.
In connection with the issuance of non-recourse funding obligations by Rivermont I, Genworth entered into a liquidity commitment agreement with the third-party trusts in which the floating rate notes have been deposited. The liquidity agreement may require that Genworth issue to the trusts either a loan or a letter of credit (“LOC”), at maturity of the notes (2050), in the amount equal to the then market value of the assets supporting the notes held in the trust. Any loan or LOC issued is an obligation of the trust and accrues interest at London Interbank Offered Rate (“LIBOR”) plus a margin. In consideration for entering into this agreement, Genworth received, from Rivermont I, a one-time commitment fee of approximately $2 million. The maximum potential amount of future obligation under this agreement is approximately $95 million.
Net cash received for taxes was $71 million, $13 million and $15 million for the years ended December 31, 2010, 2009 and 2008, respectively. Cash paid for interest was $276 million, $255 million and $243 million for the years ended December 31, 2010, 2009 and 2008, respectively.
We are obligated, pursuant to our Tax Matters Agreement with GE, to make fixed payments to GE, over the next 13 years, on an after-tax basis and subject to a cumulative maximum of $640 million, which is 80% of the projected tax savings associated with the Section 338 deductions. As of December 31, 2010 and 2009, we recorded on our Genworth consolidated balance sheets our estimate of the deferred tax benefits associated with these deductions of $599 million and $527 million, respectively.
In connection with our 2004 separation from our former parent, GE, we made certain joint tax elections and realized certain tax benefits. During 2010, the Internal Revenue Service (“IRS”) completed an examination of