On August 20, 2018, a special dividend of $3.00 per share was paid to shareholders.
Originally founded in 1946 as United Fire & Casualty Company, United Fire Group, Inc. and its consolidated insurance company subsidiaries provide insurance protection for individuals and businesses through several regional companies. Our property and casualty insurance company subsidiaries are licensed in 46 states plus the District of Columbia and are represented by approximately 1,000 independent agencies.
On September 18, 2017, the Company signed a definitive agreement to sell its subsidiary, United Life, to Kuvare and on March 30, 2018, the sale closed. As a result, our life insurance business, previously a separate segment, was considered held for sale and reported as discontinued operations in the Consolidated Financial Statements. All periods presented have been revised to show results from continuing and discontinued operations, unless otherwise noted. For more information, refer to Part II, Item 8, Note 17 "Discontinued Operations."
For 2019, approximately 49.0 percent of our property and casualty statutory direct premiums written were written in Texas, California, Iowa, Missouri and Colorado.
Our life insurance subsidiary marketed its products primarily in the Midwest, East Coast and West. In 2019, 2018 and 2017 the direct statutory premiums written by our life insurance operations were distributed as follows:
We evaluate profit or loss based upon operating and investment results. Profit or loss described in the following sections of this Management's Discussion and Analysis is reported on a pre-tax basis. Our primary sources of revenue are premiums and investment income. Major categories of expenses include losses and loss settlement expenses, underwriting and other operating expenses.
(2) The expense ratio is calculated by dividing non-deferred underwriting expenses and amortization of deferred policy acquisition costs by net premiums earned. The expense ratio measures a company's operational efficiency in producing, underwriting and administering its insurance business.
in severity of commercial auto and auto liability losses, reserve strengthening in our Gulf Coast Region and an increase in catastrophe losses.
The following table shows our premiums written and earned from continuing operations for 2019, 2018 and 2017:
Net premiums written comprise direct and assumed premiums written, less ceded premiums written. Direct premiums written are the total policy premiums, net of cancellations, associated with policies issued and underwritten by our property and casualty insurance business. Assumed premiums written are the total premiums associated with the insurance risk transferred to us by other insurance and reinsurance companies pursuant to reinsurance contracts. Ceded premiums written is the portion of direct premiums written that we cede to our reinsurers under our reinsurance contracts. Net premiums earned are recognized ratably over the life of a policy and differ from net premiums written, which are recognized on the effective date of the policy.
Direct premiums written from continuing operations increased $31.7 million in 2019 as compared to 2018 primarily due to rate increases, premium audits and endorsements. Direct premiums written from continuing operations increased $46.5 million in 2018 as compared to 2017 due to organic growth from a combination of new business and geographical expansion.
Assumed premiums written increased $11.1 million in 2019 as compared to 2018 due to an increase in cedant premium growth and additional program placements.
Direct and assumed premiums written are reduced by the ceded premiums that we pay to reinsurers. For 2019, we ceded 11.5 percent more premiums to reinsurers as a result of continued growth in direct premiums written, facultative reinsurance and addition of new managing general agency contracts. For 2018, we ceded 9.0 percent more premiums to reinsurers as a result of continued growth in direct premiums written.
In 2018, catastrophe losses included 46 catastrophes with our largest pre-tax catastrophe losses coming from the California wildfires, which totaled $9.2 million. Catastrophe losses in 2018 added 4.5 percentage points to the combined ratio, which is below our historical 10-year average of 6.4 percentage points. In 2017, catastrophe losses were primarily due to hurricanes (Harvey, Irma, Maria) in the third quarter and destructive California wildfires in the second half of the year. In 2017, catastrophe losses included 50 catastrophes and our largest single pre-tax catastrophe loss totaled $9.0 million. Catastrophe losses in 2017 added 7.4 percentage points to the combined ratio.
In 2019, 2018 and 2017, we did not exceed our catastrophe reinsurance retention level of $20.0 million per event.
We use many reinsurers, both domestic and foreign, which helps us to avoid concentrations of credit risk associated with our reinsurance. All reinsurers we do business with must meet the following minimum criteria: capital and surplus of at least $300.0 million and an A.M. Best rating or an S&P rating of at least "A-." If a reinsurer is rated by both rating agencies, then both ratings must be at least an "A-."
The following table represents the primary reinsurers we utilize and their financial strength ratings as of December 31, 2019:
In 2019, our losses and loss settlement expenses were 13.5 percent higher than 2018 and our net loss ratio increased 5.9 points. The increase is primarily driven by an increase in the severity of losses in commercial auto line of business, an increase in catastrophe losses and prior year reserve strengthening in our Gulf Coast region. With the escalation of commercial auto losses industry wide we plan to reduce the size of our commercial auto book in 2020. By reducing commercial auto unit counts in poor-performing segments and writing new classes of business that are not auto heavy, we intend to achieve a better balance across all lines of business in our portfolio. Catastrophe losses increased to $64.4 million in both our direct business and assumed reinsurance business as compared to $46.7 million in 2018.
deterioration in our core loss ratio. Catastrophe losses decreased to $46.7 million in both our direct business and
assumed reinsurance business as compared to $74.0 million in 2017. The deterioration in our core loss ratio was 0.6
The property and casualty insurance business experienced $5.3 million of favorable development in our net reserves for prior accident years for the year ended December 31, 2019. Four lines contributed favorable development with the largest contribution coming from workers' compensation, which had $37.3 million favorable development. The three other lines that experienced favorable development were fidelity and surety with $3.1 million favorable development, commercial fire and allied lines with $2.3 million favorable development, and personal automobile with $1.2 million favorable development. The favorable development for workers' compensation was primarily from reductions in reserves for reported claims which were more than sufficient to offset paid loss; loss adjustment expense ("LAE") also contributed favorable development with reductions in reserves more than sufficient to offset payments. Fidelity and surety loss developed favorably because reductions in claim reserves and salvage recoveries were more than sufficient to offset loss payments. Commercial fire and allied lines developed favorably due to paid LAE where reductions in reserves for unpaid LAE were more than sufficient to offset payments. Personal automobile developed favorably primarily due to paid LAE where reductions in reserves for unpaid LAE were more than sufficient to offset payments. Much of the favorable development was offset by unfavorable development from two lines with the largest contribution coming from commercial liability which experienced $35.0 million unfavorable development. The other line which experienced unfavorable development was commercial automobile with $3.4 million unfavorable development. Commercial liability experienced unfavorable development primarily due to paid loss which was greater than reductions in reserves for unpaid loss. Paid LAE also contributed to the unfavorable result in commercial liability. Commercial automobile experienced unfavorable development because paid loss was greater than reductions in reserves for unpaid loss, but a portion of the unfavorable loss development was offset by favorable development from LAE. On an all lines combined basis, favorable development is attributable to LAE which continues to benefit from additional litigation management efforts. The lines of business
not mentioned individually above, contributed an additional total of $0.2 million of unfavorable development in the aggregate.
The net loss ratio in our commercial lines of business, excluding assumed reinsurance, was 75.6 percent in 2019 compared to 71.4 percent in 2018 and 69.9 percent in 2017. The net loss ratio in 2019 increased compared to 2018 with a deterioration in commercial auto and other liability lines of business from an increase in severity of commercial auto losses and auto related bodily injury claims. Also contributing to the deterioration in 2019 compared to 2018, was an increase in commercial fire and allied lines of business due to an increase in catastrophe losses. The net loss ratio in 2018 increased slightly compared to 2017 with deterioration in other liability line of business from an increase in auto related bodily injury claims due to an adverse litigious environment.
The net loss ratio deteriorated 5.4 percentage points in 2019 compared to 2018. The deterioration is attributable to an increase in catastrophe losses.
The net loss ratio deteriorated 10.3 percentage points in 2019 compared to 2018. The deterioration is attributable to an increase in severity of commercial auto losses.
The net loss ratio improved 6.8 percentage points in 2019 compared to 2018. This improvement is attributable to the combination of fewer large claims and a decrease in LAE in 2019 vs. 2018.
In December 2017, the SEC staff issued Staff Accounting Bulletin No. 118, which addresses how a company recognizes provisional amounts when a company does not have the necessary information available, prepared or analyzed in reasonable detail to complete its accounting for the effect of the changes in the Tax Act. The measurement period ends when a company has obtained, prepared and analyzed the information necessary to finalize its accounting, but cannot extend beyond one year. As of December 31, 2018 we had completed accounting for the tax effects of enactment of the Tax Act, and no adjustment was made during the measurement period.
As of December 31, 2019, we had no alternative minimum tax credit carryforwards.
The investment landscape was plagued by headwinds and uncertainty throughout all of 2019 both domestic and abroad. Risks included trading negotiations between U.S. and China, the exit of United Kingdom from the European Union, known as "Brexit", negative yielding foreign sovereign debt, an inverted yield curve, manufacturing woes, and more. Despite these risks, the U.S. economy remained strong, aided by three Federal Reserve rate cuts, to expand for the 11th straight year. Final economic numbers for 2019 showed an unemployment rate of 3.5 percent, a fifty-year low, strong consumer confidence, and slow but steady growth. All major asset classes managed strong annual returns. U.S. investment grade bonds finished up 8.7 percent due to the aforementioned uncertainty and rate cuts. This resulted in lowered yields and tighter spreads as compared to the beginning of the year, making an already difficult fixed income environment even more challenging. The S&P 500 returned 28.8 percent, its highest return since 2013, as investors sought returns and companies participated in share-repurchase programs.
The Company's assets are invested to preserve capital and maximize after-tax returns while maintaining an appropriate balance of risk. The return on our portfolio is an important component of overall financial results, but quality and safety of principal is the highest priority of our investment program. Our general investment philosophy is to purchase financial instruments with the expectation that we will hold them to their maturity. However, active management of our portfolio is considered necessary to appropriately manage risk, achieve portfolio objectives and maximize investment income as market conditions change.
As of December 31, 2019 and 2018, we did not have direct exposure to investments in subprime mortgages or other credit enhancement vehicles.
The following table shows the composition of fixed maturity securities held in our available-for-sale and trading security portfolios by credit rating for both continuing and discontinued operations at December 31, 2019 and 2018. Information contained in the table is generally based upon the issue credit ratings provided by Moody's, unless the rating is unavailable, in which case we obtain it from Standard & Poor's.
The amortized cost and fair value of available-for-sale and trading fixed maturity securities at December 31, 2019, by contractual maturity, are shown in the following table. Actual maturities may differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Asset-backed securities, mortgage-backed securities and collateralized mortgage obligations may be subject to prepayment risk and are therefore not categorized by contractual maturity.
We regularly monitor the difference between our cost basis and the estimated fair value of our investments. Our accounting policy for impairment recognition requires other-than-temporary impairment charges to be recorded when we determine that it is more likely than not that we will be unable to collect all amounts due according to the contractual terms of the fixed maturity security or that the anticipated recovery in fair value of the equity security will not occur in a reasonable amount of time. Impairment charges on investments are recorded based on the fair value of the investments at the measurement date or based on the value calculated using a discounted cash flow model. Factors considered in evaluating whether a decline in value is other-than-temporary include: the length of time and the extent to which fair value has been less than cost; the financial condition and near-term prospects of the issuer; our intention to hold the investment; and the likelihood that we will be required to sell the investment.
Changes in unrealized gains and losses on available-for-sale fixed-maturity securities do not affect net income and earnings per share but do impact comprehensive income, stockholders' equity and book value per share. We believe that any unrealized losses on our available-for-sale fixed-maturity securities at December 31, 2019 are temporary based upon our current analysis of the issuers of the securities that we hold and current market conditions. It is possible that we could recognize impairment charges in future periods on securities that we own at December 31, 2019 if future events and information cause us to determine that a decline in value is other-than-temporary. However, we endeavor to invest in high quality assets to provide protection from future credit quality issues and corresponding other-than-temporary impairment write-downs.
partnerships resulting from the increase in the equity markets and an increase in invested assets in 2019 compared to 2018.
The following table details the effect on the fair value of our investments in equity securities for a positive and negative 10 percent price change at December 31, 2019:
Credit risk is the willingness and ability of a borrower to repay on time and in full any principal and interest due to the lender. Losses related to credit risk are realized through the income statement and have a direct impact on the earnings of UFG. Given the vast majority of our holdings are fixed income maturity securities, we view credit risk as our primary investment risk. Our internal Investment Department has developed and maintains a rigorous underwriting process to analyze and measure the expected frequency and severity of loss (i.e., credit quality) for government, agency, municipal, structured security, and corporate bond issuers. The objective is to maintain the appropriate balance of risk in our portfolio, consistent with our Investment Policy Statement and conservative investment style, and ensure the portfolio is compensated appropriately for the credit risk it holds. We do have within our municipal bond holdings a small number of securities whose ratings were enhanced by third-party insurance for the payment of principal and interest in the event of an issuer default. Of the insured municipal securities in our investment portfolio, 99.6 percent and 99.5 percent were rated "A" or above, and 95.6 percent and 94.7 percent were rated "AA" or above at December 31, 2019 and 2018, respectively, without the benefit of insurance. Due to the underlying financial strength of the issuers of the securities, we believe that the loss of insurance would not have a material impact on our operations, financial position, or liquidity.
agencies, at a level considered necessary by management to enable our insurance company subsidiaries to compete and (2) sufficient capital to enable our insurance company subsidiaries to meet the capital adequacy tests performed by regulatory agencies in the United States.
In addition to investment income, possible sales of investments and proceeds from calls or maturities of fixed maturity securities also can provide liquidity. During the next five years, $0.3 billion, or 19.4 percent of our fixed maturity portfolio will mature.
operations, that totaled $311.7 million compared to $263.8 million and $205.1 million for the same period in 2018 and 2017, respectively. Our cash inflows from scheduled and unscheduled investment maturities, redemptions, prepayments, and sales of investments, from discontinued operations totaled $29.7 million and $148.6 million in 2018 and 2017, respectively.
Net cash flows used in financing activities totaled $42.0 million, $115.2 million and $107.5 million in 2019, 2018 and 2017, respectively. Net cash flows used in financing activities from continuing operations totaled $42.0 million, $103.6 million and $52.3 million in 2019, 2018 and 2017, respectively. The higher net cash flows used in financing activities in 2018 as compared to 2019 and 2017 is primarily due to the special cash dividend of $3.00 per share paid on August 20, 2018. Net cash flows used in financing activities from discontinued operations totaled $11.5 million and $55.3 million in 2018 and 2017, respectively, primarily due to net annuity withdrawals.
Dividends paid to shareholders totaled $32.7 million, $105.4 million and $27.3 million in 2019, 2018 and 2017, respectively. The increase in dividends paid to shareholders in 2018 is primarily due to a special cash dividend of $3.00 per share paid to shareholders on August 20, 2018. Our practice has been to pay quarterly cash dividends, which we have paid every quarter since March 1968.
As a holding company with no independent operations of its own, United Fire Group, Inc. relies on dividends received from its insurance company subsidiaries in order to pay dividends to its common shareholders. Dividends payable by our insurance subsidiaries are governed by the laws in the states in which they are domiciled. In all cases, these state laws permit the payment of dividends only from earned surplus arising from business operations. For example, under Iowa law, the maximum dividend or distribution that may be paid within a 12-month period without prior approval of the Iowa Insurance Commissioner is generally restricted to the greater of 10 percent of statutory surplus as of the preceding December 31, or net income of the preceding calendar year on a statutory basis, not greater than earned statutory surplus. Other states in which our insurance company subsidiaries are domiciled may impose similar restrictions on dividends and distributions. Based on these restrictions, at December 31, 2019, our insurance company subsidiary, United Fire & Casualty, is able to make a minimum of $154.2 million in dividend payments without prior regulatory approval. These restrictions are not expected to have a material impact in meeting our cash obligations.
The following table shows our contractual obligations and commitments, including our estimated payments due by period at December 31, 2019:
We offer our agents a profit-sharing plan as an incentive for them to place high-quality property and casualty insurance business with us. Based on business produced by the agencies in 2019, property and casualty agencies will receive profit-sharing payments of $19.6 million in 2020.
Information specific to the fair value measurement of our financial instruments and disclosures is incorporated by reference from Note 3 "Fair Value of Financial Instruments" contained in Part II, Item 8, "Financial Statements and Supplementary Data."
We record an asset for certain costs of underwriting new business, primarily commissions, premium taxes and variable underwriting and policy issue expenses that have been deferred. The amount of underwriting compensation expense eligible for deferral is based on time studies and a ratio of success in policy placement. At December 31, 2019 and 2018, our DAC asset was $94.3 million and $92.8 million, respectively.
other underwriting expenses. The following table illustrates the impact of potential changes in the expected loss and loss settlement expense ratios for all lines of business on the premium deficiency charge. The base amount indicated below is the actual premium deficiency charge recorded as an offset against the DAC asset established as of the quarter ended December 31, 2019:
Actual future results could differ materially from our assumptions used to calculate the recorded DAC asset. Changes in our assumed loss and loss settlement expense ratios in the future would impact the amount of deferred costs in the period such changes in assumptions are made. The premium deficiency charge calculated for the quarter ended December 31, 2019 was $4.6 million compared to the premium deficiency charge of $4.3 million calculated for the same period of 2018.
Establishing the case reserve for an individual claim is subjective and complex, requiring us to estimate future payments and values that will be sufficient to settle an individual claim. Setting a reserve for an individual claim is
an inherently uncertain process. When we establish and adjust individual claim reserves, we do so based on our knowledge of the circumstances and facts of the claim. Upon notice of a claim, we establish a preliminary (average claim cost) reserve based on the limited claim information initially reported. Subsequently, we conduct an investigation of each reported claim, which allows us to more fully understand the factors contributing to the loss and our potential exposure. This investigation may extend over a long period of time. As our claim investigation progresses, and as our claims personnel identify trends in claims activity, we may refine and adjust our estimates of case reserves. To evaluate and refine our overall reserving process, we track and monitor all claims until they are settled and paid in full, with all salvage and subrogation claims being resolved.
We are unable to reasonably quantify the impact of changes in our key assumptions utilized to establish individual case-basis reserves on our total reported reserves because the impact of these changes would be unique to each specific case-basis reserve established. However, based on historical experience, we believe that aggregate case-basis reserve volatility levels of 5.0 percent and 10.0 percent can be attributed to the ultimate development of our net case-basis reserves. The impact to pre-tax earnings would be a decrease if the reserves were to be adjusted upwards and an increase if the reserves were to be adjusted downwards. The table below details the impact of this development volatility on our reported net case-basis reserves at December 31, 2019:
Factors that can cause reserve uncertainty in estimating reserves in this line include: reporting time lags; the number of parties involved in the underlying tort action; whether the "event" triggering coverage is confined to only one time period or is spread over multiple time periods; the potential dollars involved in the individual claim actions; whether such claims were reasonably foreseeable and intended to be covered at the time the contracts were written (i.e., coverage disputes); and the potential for mass claim actions.
The following reserve development section should be read in conjunction with the "Results of Operations for the Years Ended December 31, 2019, 2018 and 2017" section of this Item 7.
A 100 basis point decrease in our estimated long-term rate of return on pension plan assets would increase the benefit expense for the year ended December 31, 2019, by $2.0 million, while a 100 basis point increase in the rate would decrease benefit expense by $2.0 million, for the same period.
Information specific to accounting standards that we adopted in 2019 or pending accounting standards that we expect to adopt in the future is incorporated by reference from Note 1 "Summary of Significant Accounting Policies" contained in Part II, Item 8, "Financial Statements and Supplementary Data."
On September 18, 2017, the Company signed a definitive agreement to sell its subsidiary, United Life Insurance Company ("United Life"), to Kuvare US Holdings, Inc. ("Kuvare") and on March 30, 2018, the sale closed. As a result, our life insurance business, previously a separate segment, has been reported as discontinued operations in the Consolidated Statements of Income and Comprehensive Income and Consolidated Statements of Cash Flows for the twelve months periods ended 2018 and 2017 in this Form 10-K. Subsequent to the announcement of this sale, our continuing operations were reported as one business segment. All current and prior periods reflected in this Form 10-K have been presented as continuing and discontinued operations, unless otherwise noted. For more information, refer to Note 17 "Discontinued Operations."
United Real Estate Holdings, LLC, formed in 2013, is a wholly owned subsidiary of United Fire & Casualty Company and is organized as an Iowa limited liability corporation, an unincorporated association formed for the purpose of holding United Fire & Casualty Company's ownership in commercial real estate.
Investments in fixed maturities include bonds and redeemable preferred stocks. Our investments in available-for-sale fixed maturities and trading securities are recorded at fair value.
Other long-term investments consist primarily of our interests in limited liability partnerships that are recorded on the equity method of accounting. Included in investments at December 31, 2019 and 2018, are securities on deposit with, or available to, various regulatory authorities as required by law, with fair values of $20,816 and $20,456 respectively.
The effect on DAC that results from the assumed realization of unrealized gains (losses) on investments allocated to non-traditional life insurance business is recognized with an offset to net unrealized investment appreciation as of the balance sheet date. The impact of unrealized gains (losses) on available-for-sale securities decreased the DAC asset by $6,294 at December 31, 2017. There was no impact of unrealized gains and losses on available-for-sale securities on the DAC asset at December 31, 2018 or December 31, 2019, respectively, because the non-traditional life insurance business is part of discontinued operations, which was sold on March 30, 2018.
Goodwill and other intangible assets arise as a result of business combinations and consist of the excess of the fair value of consideration paid over the tangible assets acquired and liabilities assumed. All of our goodwill and the majority of our intangible assets relate to the acquisition of Mercer Insurance Group, Inc. on March 28, 2011. We evaluate goodwill and other intangible assets for impairment at least on an annual basis or whenever events or changes in circumstances indicate that it is more likely than not that the carrying amount of goodwill and other intangible assets may exceed its implied fair value. Goodwill is evaluated at the reporting unit level. Any impairment is charged to operations in the period that the impairment is identified. In 2019, 2018 and 2017, we performed a qualitative impairment assessment of our goodwill. As a result of these assessments, we did not recognize an impairment charge on our goodwill in 2019, 2018 or 2017.
The Tax Cuts and Jobs Act of 2017 (the "Tax Act") was enacted on December 22, 2017. The Tax Act significantly revised the U.S. corporate income tax laws including lowering the U.S. federal corporate tax rate from 35 percent to 21 percent, effective January 1, 2018.
In December 2017, the SEC staff issued Staff Accounting Bulletin No. 118, which addresses how a company recognizes provisional amounts when a company does not have the necessary information available, prepared or analyzed in reasonable detail to complete its accounting for the effect of the changes in the Tax Act. The measurement period ends when a company has obtained, prepared and analyzed the information necessary to finalize its accounting, but cannot extend beyond one year. As of December 31, 2018 we had completed accounting for the tax effects of enactment of the Tax Act and no adjustments were made during the measurement period.
The Company performs a quarterly review of its tax positions and makes a determination whether it is more likely than not that the tax position will be sustained upon examination. If, based on this review, it appears not more likely than not that the position will be sustained, the Company will calculate any unrecognized tax benefits and calculate any interest and penalties. At December 31, 2019, 2018, and 2017 the Company did not recognize any liability for unrecognized tax benefits. In addition, we have not accrued for interest and penalties related to unrecognized tax benefits. However, if interest and penalties would need to be accrued related to unrecognized tax benefits, such amounts would be recognized as a component of federal income tax expense.
We file a consolidated federal income tax return. We also file income tax returns in various state jurisdictions. We are no longer subject to federal or state income tax examination for years before 2015.
Income. The Company has agreements with lease and non-lease components, which the Company accounts for separately and continues to follow the guidance and its existing policy for minimum rental payments under Accounting Standard Codification ("ASC") Topic 840 for leases that commenced prior to the effective date. Modified or new leases subsequent to the effective date will follow ASC Topic 842. For more information on leases refer to Note 13 "Leases".
Adoption of the new guidance resulted in the recording a lease right-of-use assets and lease obligations of $19.8 million and $20.3 million, respectively, as of January 1, 2019. The lease amounts recognized were measured based on the present value of discounted future lease payments, net of reversal of prepaid rent and deferred rent balances that existed prior to January 1, 2019. The Company had no adjustments upon adoption related to unrecorded but expected lease abandonments at December 31, 2018. The difference between the additional lease assets and lease liabilities, net of the deferred tax impact, was recorded as a cumulative change in accounting principles adjustment to retained earnings of $388. The adoption did not have a significant impact on the Company's financial position or results of operations and had no impact on cash flows. See Note 13 "Lease Commitments" for more details.
In March 2016, the FASB issued an update to amend the amortization period for certain purchased callable debt securities held at a premium. The update requires the premium to be amortized to the earliest call date. The update doesn’t change the accounting for securities held at a discount, which will continue to be amortized to maturity. The new guidance was effective for annual periods beginning after December 15, 2018 and interim periods beginning after December 15, 2018. The Company adopted the new guidance as of January 1, 2019. The adoption of the new guidance resulted in cumulative change in accounting principles adjustment to retained earnings, net of the deferred tax, of $126 on January 1, 2019 and did not have a material impact on net income between the comparable periods.
In June 2016, the FASB issued new guidance on the measurement of credit losses for most financial instruments. The new guidance replaces the current incurred loss model for recognizing credit losses with an expected loss model for instruments measured at amortized cost and requires allowances to be recorded for available-for-sale debt securities rather than reduce the carrying amount. These allowances will be remeasured each reporting period. The new guidance is effective for annual periods beginning after December 15, 2019 and interim periods within those years. The new guidance will impact the Company's impairment model related to our available-for-sale fixed-maturity portfolio, reinsurance receivables and mortgage loans. The Company has identified five filters and performed a run of the credit loss model over available-for-sale fixed maturity securities as of December 31, 2019, which determines the expected loss estimate. This model run resulted in an immaterial expected credit loss at December 31, 2019. The Company has a highly rated portfolio of available-for-sale fixed maturity securities which are in a net unrealized gain position as of December 31, 2019.
Prior to the adoption of the new guidance, the Company utilized an aging method to estimate credit losses on premiums receivable. This aging method is permitted under the new guidance. In addition, prior to the adoption of the new guidance, the Company had a mortgage loan allowance already established and adoption of the new guidance will not materially impact this valuation allowance. The Company will adopt the new guidance prospectively as of January 1, 2020 with an immaterial estimated cumulative effect adjustment to opening retained earnings. This cumulative effect adjustment is an allowance related to the Company's reinsurance receivables. The adoption of the new guidance will not have a material impact on the Company's financial position and results of operations.
In August 2018, the FASB issued new guidance which modifies the disclosure requirements on fair value measurements of financial instruments. The new guidance removes the requirement for disclosing the amount and reason for transfers between Level 1 and Level 2 investment securities and the valuation processes for Level 3 fair value measurements. The guidance also requires additional disclosures on the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The new guidance is effective for annual and interim periods beginning after December 15, 2019. The Company adopted the new guidance as of January 1, 2020. The adoption will modify existing fair value disclosures, but will not have an impact on the Company's financial position and results of operations.
In December 2019, the FASB issued new guidance which simplifies the accounting for income taxes by removing certain exceptions to income tax accounting. The amendments also improve consistent application of and simplify GAAP for other areas of income tax accounting. The new guidance clarifies and amends existing guidance, including removing certain requirements that an entity evaluate when a step-up in the tax basis of goodwill should be considered part of the business combination in which the book goodwill was originally recognized, when it should be considered a separate transaction and requiring an entity to reflect the effect of an enacted change in tax laws or rates in the annual effective tax rate computation in the interim period that includes the enactment date. The
The table that follows is a reconciliation of the amortized cost (cost for equity securities) to fair value of investments in available-for-sale fixed maturity securities, presented on a consolidated basis, including both continuing and discontinued operations as of December 31, 2019 and 2018.
The proceeds and gross realized gains (losses) on the sale of available-for-sale fixed maturity securities from continuing operations for 2019, 2018 and 2017, are as follows:
Our investment portfolio includes trading securities with embedded derivatives. These securities are primarily convertible securities which are recorded at fair value. Income or loss, including the change in the fair value of these trading securities, is recognized currently in earnings as a component of net realized investment gains and losses. Our portfolio of trading securities had a fair value of $15,256 and $13,240 at December 31, 2019 and 2018, respectively.
A summary of changes in net unrealized investment appreciation for 2019, 2018 and 2017, is as follows for continuing operations and discontinued operations:
We continually monitor the difference between our cost basis and the estimated fair value of our investments. Our accounting policy for impairment recognition requires other-than-temporary impairment ("OTTI") charges to be recorded when we determine that it is more likely than not that we will be unable to collect all amounts due according to the contractual terms of the fixed maturity security. Impairment charges on investments are recorded
A summary of the carrying value and estimated fair value of our financial instruments from at December 31, 2019 and 2018 is as follows:
At least annually, we review the methodologies and assumptions used by our valuation service providers and verify that they are reasonable and representative of the fair value of the underlying securities held in the investment portfolio. We validate the prices obtained from independent pricing services and brokers prior to their use for reporting purposes. In addition, we also test all securities in the portfolio and independently corroborate the valuations obtained from our third-party valuation service providers with additional pricing sources. We also perform deep dive analysis of the pricing method used by our third-party valuation service provider by selecting a random sample of securities by asset class. In our opinion, the pricing obtained at December 31, 2019 and 2018 was reasonable.
The following table provides a summary of the changes in fair value of our Level 3 securities for 2019:
The following tables present the carrying value of our commercial mortgage loans and additional information at December 31, 2019 and 2018:
Reinsurance is a contract by which one insurer, called the reinsurer, agrees to cover, under certain defined circumstances, a portion of the losses incurred by a primary insurer if a claim is made under a policy issued by the primary insurer. Our property and casualty insurance companies follow the industry practice of reinsuring a portion of their exposure by ceding to reinsurers a portion of the premium received and a portion of the risk under the policies written. We purchase reinsurance to reduce the net liability on individual risks to predetermined limits and to protect us against catastrophic losses, such as a hurricane or tornado. We do not engage in any reinsurance transactions classified as finite risk reinsurance.
We account for premiums, written and earned, and losses incurred net of reinsurance ceded. The ceding of insurance does not legally discharge us from primary liability under our policies, and we must pay the loss if the reinsurer fails to meet its obligation. We periodically monitor the financial condition of our reinsurers to confirm that they are financially stable. We believe that all of our reinsurers are in an acceptable financial condition and there were no reinsurance balances at December 31, 2019 for which collection is at risk that would result in a material impact on our Consolidated Financial Statements. The amount of reinsurance recoverable on paid losses totaled $3,833 and $3,779 at December 31, 2019 and 2018, respectively.
In 2017, we renewed our participation in all of our assumed programs.
Premiums and losses and loss settlement expenses related to our ceded business are as follows:
On a quarterly basis, United Fire's internal actuary performs a detailed actuarial review of IBNR reserves. This review includes a comparison of results from the most recent analysis of reserves completed by both our internal and external actuaries. Senior management meets with our internal actuary to review, on a regular and quarterly basis, the adequacy of carried reserves based on results from this actuarial analysis. There are two fundamental types or sources of IBNR reserves. We record IBNR reserves for "normal" types of claims and also specific IBNR reserves related to unique circumstances or events. A major hurricane is an example of an event that might necessitate establishing specific IBNR reserves because an analysis of existing historical data would not provide an appropriate estimate.
There are a multitude of factors that can impact loss reserve development. Those factors include, but are not limited to: historical data, the potential impact of various loss reserve development factors and trends including historical loss experience, legislative enactments, judicial decisions, legal developments in imposition of damages, experience with alternative dispute resolution, results of our medical bill review process, the potential impact of salvage and subrogation and changes and trends in general economic conditions, including the effects of inflation. All of these factors influence our estimates of required reserves and for long tail lines these factors can change over the course of the settlement of the claim. However, there is no precise method for evaluating the specific dollar impact of any individual factor on the development of reserves.
The significant drivers of the favorable reserve development in 2018 were our workers' compensation, reinsurance assumed, commercial automobile and fidelity and surety. During 2018 the only individual line with unfavorable development was commercial liability. Workers' compensation favorable development was primarily from reserve reductions for both reported claims and loss IBNR which were more than sufficient to offset paid loss with additional favorable development coming from LAE where the LAE IBNR reduction was more than sufficient to offset paid LAE which continues to benefit from additional litigation management efforts when compared to prior years. Reinsurance assumed favorable development is attributable reductions in reserves for both reported claims and loss IBNR as we reviewed our book of business and released excess reserves during 2018. Commercial automobile favorable development was driven by LAE where LAE IBNR reductions were more than sufficient to offset paid LAE. Fidelity and surety favorable development is attributable reductions in reserves for both reported claims and loss IBNR which were more than sufficient to offset paid loss. Commercial liability adverse development is attributable to reserve strengthening for both reported claims and loss IBNR primarily in response to an increase in umbrella auto related claims while LAE developed favorably with reductions of LAE IBNR more than sufficient to offset paid LAE.
Statutory capital and surplus in regards to policyholders at December 31, 2019, 2018 and 2017 and statutory net income (loss) for the years then ended are as follows:
We paid dividends to our common shareholders of $32,662, $105,408 and $27,337 in 2019, 2018 and 2017, respectively. Payments of any future dividends and the amounts of such dividends, however, will depend upon factors such as net income, financial condition, capital requirements, and general business conditions. We will only pay dividends if declared by our Board of Directors, out of funds legally available, and subject to any other restrictions that may be applicable to us.
In 2019, 2018 and 2017, United Fire & Casualty Company received dividends from its wholly owned subsidiaries of $6,300, $8,500 and $13,300, respectively. In 2019, 2018 and 2017, United Fire & Casualty Company paid dividends to United Fire Group, Inc. totaling $57,000, $105,000 and $40,000, respectively. These intercompany dividend payments are eliminated for reporting in our Consolidated Financial Statements.
In December 2017, the SEC staff issued Staff Accounting Bulletin No. 118, which addresses how a company recognizes provisional amounts when a company does not have the necessary information available, prepared or analyzed in reasonable detail to complete its accounting for the effect of the changes in the Tax Act. The measurement period ends when a company has obtained, prepared and analyzed the information necessary to finalize its accounting, but cannot extend beyond one year. As of December 31, 2018 we have completed accounting for the tax effects of enactment of the Tax Act and no adjustments were made during the measurement period.
We offer a noncontributory defined benefit pension plan in which all of our employees are eligible to participate after they have completed one year of service, attained 21 years of age and have met the hourly service requirements. Retirement benefits under our pension plan are based on the number of years of service and level of compensation. Our policy to fund the pension plan on a current basis to not less than the minimum amounts required by the Employee Retirement Income Security Act of 1974, as amended, and the Internal Revenue Code of 1986, as amended, is to assure that plan assets will be adequate to provide retirement benefits. We estimate that we will contribute approximately $10,000 to the pension plan in 2020.
lower cost supplemental plan if they are 65 or older and 100 percent of the premium if less than 65; and removed spousal coverage after the death of the participant. The financial impact of the changes were reflected in accumulated other comprehensive income at December 31, 2016. Effective January 1, 2019, there was a plan amendment, which requires spouses to pay 100 percent of the medical, dental & vision premiums and the subsidy for the post-65 retirees is based off the lowest cost Medicare Supplement Plan (Plan 1). The financial impact of the changes were reflected in accumulated other comprehensive income at December 31, 2019.
We consider historical experience for comparable investments and the target allocations we have established for the various asset categories of the pension plan to determine the expected long-term rate of return, which is an assumption as to the average rate of earnings expected on the pension plan funds invested, or to be invested, by the pension plan, to provide for the settlement of benefits included in the projected pension benefit obligation. Investment securities, in general, are exposed to various risks, such as fluctuating interest rates, credit standing of
the issuer of the security and overall market volatility. Annually, we perform an analysis of expected long-term rates of return based on the composition and allocation of our pension plan assets and recent economic conditions.
information reported in the custodial statements received from Plan’s investment managers, which is derived from
recent trading activity of the underlying security in the financial markets. These securities represent various taxable bonds held by the pension plan. These securities categorized as Level 2 are valued in the same manner as described in Part II, Item 8, Note 3 "Fair Value of Financial Instruments" and have the same controls in place.
Our accumulated pension benefit obligation was $226,196 and $183,317 at December 31, 2019 and 2018, respectively.
We have a profit-sharing plan in which employees who meet service requirements are eligible to participate. The amount of our contribution is discretionary and is determined annually, but cannot exceed the amount deductible for federal income tax purposes. Our contribution to the profit-sharing plan for 2019, 2018 and 2017, was $4,096, $7,607, and $4,987, respectively.
The United Fire Group, Inc. 2005 Non-Qualified Non-Employee Director Stock Option and Restricted Stock Plan (the "Director Plan") authorizes the issuance of restricted stock awards and non-qualified stock options to purchase shares of United Fire's common stock to non-employee directors. At December 31, 2019, we had 34,863 authorized shares available for future issuance.
As of December 31, 2019, we had $5,008 in stock-based compensation expense that has yet to be recognized through our results of operations. We expect this compensation to be recognized in subsequent years according to the following table, except with respect to awards that are accelerated by the Board of Directors, in which case we will recognize any remaining compensation expense in the period in which the awards are accelerated.
exercised and assumed common shares repurchased represents the number of dilutive common shares, which we add to the denominator of the earnings per share calculation.
Lease terms and options vary in the Company's operating leases dependent upon the underlying leased asset. We exclude options to extend or terminate a lease from our recognition as part of our right-of-use assets and lease liabilities until those options are known and/or executed, as we typically do not exercise options to purchase the underlying leased asset. As of December 31, 2019, we have leases with remaining terms of 1 year to 6 years, some
On February 2, 2016, the Company, as borrower, entered into a Credit Agreement (the "Credit Agreement") by and among the Company, with the lenders from time to time party thereto and KeyBank National Association ("Key Bank"), as administrative agent, swingline lender and letter of credit issuer. The Credit Agreement provides for a $50,000 four-year unsecured revolving credit facility that includes a $20,000 letter of credit subfacility and a
swingline subfacility in the amount up to $5,000. The Credit Agreement allows the Company to increase the aggregate amount of the commitments thereunder by up to $100,000, provided that no event of default has occurred and is continuing and certain other conditions are satisfied.
The Credit Agreement is available for the Company's general corporate purposes, including liquidity, acquisitions and working capital. All unpaid principal and accrued interest under the Credit Agreement is due and payable in full at maturity on February 2, 2020. Based on the type of loan, advances under the Credit Agreement would bear interest on either the London interbank offered rate ("LIBOR") or a base rate plus, in each case, a calculated margin amount.
The Credit Agreement contains customary representations, conditions to borrowing, covenants and events of default, including certain covenants that limit or restrict, subject to certain exceptions, the ability of the Company and its subsidiaries to sell or transfer assets, enter into a merger or consolidate with another company, create liens, impose restrictions on subsidiary dividends, enter into sale-leaseback transactions, make investments or acquisitions, enter into certain reinsurance agreements, pay dividends during any period of default, enter into transactions with affiliates, change the nature of its business, or incur indebtedness. The Credit Agreement also includes financial covenants that require the Company to (i) maintain a minimum consolidated net worth, (ii) maintain a minimum consolidated statutory surplus and (iii) not exceed a 0.35 to 1.0 debt to total capitalization ratio. As of December 31, 2019 we were in compliance with all covenants of the Credit Agreement.
The carrying value of our goodwill was $15,091 at both December 31, 2019 and 2018, respectively. The goodwill is fully allocated to our property and casualty insurance business.
The following table shows the changes in the components of our accumulated other comprehensive income (loss), net of tax, for the years ended December 31, 2019, 2018 and 2017:
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the account or disclosure to which it relates.
At December 31, 2019, the Company’s reserves for losses and loss settlement expenses was $1.4 billion, of which $230.9 million related to Incurred But Not Reported (IBNR) reserves. As described in Note 5 to the consolidated financial statements, liabilities for losses and loss settlement expenses reflect management's best estimates at a given point in time of what is expected to be paid for claims that have been reported and those that have been incurred but not reported, based on known facts, circumstances, and historical trends. There is significant uncertainty and subjectivity inherent in determining management’s best estimates of the ultimate cost of losses, which is used to determine IBNR reserves.