We occupy office space in New York and North Carolina that is owned by TIAA. Expenses associated with these facilities are allocated to us based on a service agreement with TIAA.
The following discussion highlights significant factors influencing the financial position and results of operations of TIAA-CREF Life Insurance Company (referred to in this document as “we,” “our,” “us,” “Registrant,” or the “Company”). It should be read in conjunction with the audited statutory-basis financial statements and related notes included in Part II, Item 8 of this report and Risk Factors included in Part I, Item 1A of this report.
Forward-looking statements include statements about management’s expectations, beliefs, intentions or strategies for the future, include the assumptions underlying these forward-looking statements, and are based on the current expectations, estimates and projections made by management. Forward-looking statements include any statement that may predict, forecast, indicate or imply future results, performance or achievements instead of historical facts and may contain words like “believe,” “expect,” “estimate,” “project,” “budget,” “forecast,” “anticipate,” “plan,” “will,” “shall,” “may,” and other words, phrases or expressions with similar meaning. While management believes the assumptions underlying any of its forward-looking statements to be reasonable, such information may be subject to risks and uncertainties which may be difficult to predict or may be beyond management’s control, and we cannot give assurance that such statements will prove to be correct. Refer to “Risk Factors” included in Part I, Item 1A of this report for more information about the risks that could affect our future results. A copy of this report and our registration statement, including exhibits, is available on the internet site of the SEC at http://www.sec.gov.
Given these risks and uncertainties, you should not place undue reliance on management’s forward-looking statements as a prediction of actual results. Additionally, management’s forward-looking statements represent management’s views only as of the date of this report, and management does not undertake any obligation to update, publicly or otherwise, any forward-looking statement, whether as a result of new information, changed assumptions, future events or otherwise.
We are a stock life insurance company that commenced operations as a legal reserve life insurance company under the laws of the State of New York on December 18, 1996, under our former name, TIAA Life Insurance Company. We changed our name to TIAA-CREF Life Insurance Company on May 1, 1998. We are a wholly-owned subsidiary of TIAA. We are subject to regulation by the State of New York Superintendent of Insurance as well as by the insurance regulatory authorities of all the states and certain other jurisdictions. We are licensed to issue life insurance and annuity products in all 50 states and the District of Columbia.
Our primary products are individual annuities, life insurance and funding agreements. The individual annuities and life insurance products are marketed directly to individuals while the funding agreements are issued directly to states. Our individual products are available to the general public; however, we market primarily to the individuals who own retirement annuities or insurance policies issued by our parent, TIAA. TIAA provides retirement annuities and insurance coverage to more than 3.4 million individuals primarily at 15,400 educational, research and cultural institutions, as well as other nonprofit organizations and certain governmental entities across the United States.
While we continued to avoid significant losses associated within our investment portfolio related directly to the sub-prime mortgage loan market, the resulting contraction of corporate credit in many fixed income markets produced certain valuation impairments in our investment portfolios. We recognized a number of these impairments as realized losses because we deemed those valuation impairments to be other than temporary. The credit market has been affected by the re-pricing of financial risk within the context of individual security valuations. This re-pricing of risk has been a sharp contrast to the historically low levels of credit spreads that preceded the current environment which began to occur during the latter part of 2007. With the market requiring higher yields related to corporate credit, the valuations of existing investments declined in response to market conditions and yielded the recognition of realized impairment losses of $64.2 million during 2008 of which $25.7 million was recognized during the fourth quarter of 2008.
The deteriorating conditions in the financial and credit markets during 2008 had a direct impact on a number of holdings in our investment portfolio. The market deterioration has continued subsequent to December 31, 2008. On-going review of our investment portfolio (through February 28, 2009) has indicated approximately $5.1 million of additional other-than-temporary impairments on two additional holdings. The impairment screening process is an ongoing process, and will continue to be monitored.
In a challenging period for the financial services industry, premiums for 2008 of $169.3 million were below premiums of $171.0 million for 2007, representing a decline of $1.7 million, or 1.0%. Policy and contract benefits also declined in 2008 to $155.9 million from $227.9 million in 2007, representing a decrease of $72.0 million. A key driver for both of these declines was a reduced number of customer-requested, IRC Section 1035 internal tax-free exchanges (“internal tax-free exchanges”). An internal tax-free exchange is when one annuity contract is surrendered to open another annuity contract within the same insurance company or affiliate. The reduction in internal tax-free exchanges was primarily attributable to more competitive interest rates compared to other market returns for 2008 compared to 2007. The more competitive interest rates resulted in a more competitive portfolio rate for one of our variable annuity products with fixed account options. With a more competitive portfolio rate, the incentive to move accumulations from this product to another variable annuity without fixed account options was no longer as advantageous resulting in the decline of internal tax-free exchanges. The impact of the reduced internal tax-free exchanges was thus twofold; a decline in surrenders on the variable annuity product with fixed account options and a decline in premiums from internal tax-free exchanges for our variable annuity products without fixed account options.
During 2008, we began marketing two new deferred annuities. In March 2008, we began offering a deferred annuity product with various investment choices, including TIAA-CREF Life Funds and other non-proprietary funds from other investment management companies. This deferred annuity product allows individual investors to accumulate funds on a tax-deferred basis for retirement or other long-term investment purposes, and to receive future payments based on the amount accumulated as lifetime income or through other payment options. In September 2008, we began marketing an annuity product that guarantees principal and a stated interest rate if not withdrawn before the maturity date. We expect that these two deferred annuity products will complement each other to meet contract owners’ risk profiles and to provide contract owners with a variety of variable annuity investment subaccount options and fixed term deposits. Additionally, we will continue marketing a single premium immediate annuity.
Life insurance premiums declined $1.5 million to $27.2 million in 2008 from $28.7 million in 2007. This decrease was primarily due to a $3.4 million decline in our term life insurance premiums partially offset by a $2.2 million increase in our variable universal life premiums.
Funding Agreements. Our Funding Agreements segment focuses primarily on providing non-participating flexible premium funding agreements issued from our general account to support education-related investment and/or savings programs sponsored by various states. Several states sponsor a 529 college savings plan (named after Section 529 of the IRC), and each plan is a tax-advantaged investment and savings program designed to encourage account owners to save for the future higher education expenses of a designated beneficiary. Some states offer a guaranteed option to those investing in the state’s college savings plan. We provide funding agreements to certain states to support their guaranteed option, which guarantees a return of account owners’ principal, with interest. We can also make available a funding agreement to any state that provides a state scholarship program for those seeking higher education. We currently have seven outstanding funding agreements with state-sponsored 529 college savings plans, and existing accumulations remain in the funding agreements previously issued to three other states. We have one funding agreement with a state associated with their state scholarship program.
We operate in a mature, highly competitive industry and that could limit our ability to gain or maintain our competitive position in the industry, which could negatively affect our future profitability.
Future changes in laws and regulation, including the tax treatment of the products we sell, may adversely affect our business.
A downgrade in our ratings from the nationally recognized rating agencies could materially and adversely affect many aspects of our business.
Our operating results may be negatively affected in the future if actual experience differs from the assumptions and estimates that management used in underwriting and distributing our products.
Equity market volatility and downturns in the equity markets could negatively impact our business.
Financial service companies are frequently the targets of litigation, including class action litigation, which could result in substantial judgments. Although we are not currently involved in any significant litigation, there can be no assurance that material litigation will not arise in the future.
We are exposed to unanticipated risks, such as natural disasters, pandemics and malicious or terrorist acts, which could adversely affect our operations.
Our accounting policies require management to make interpretative and valuation judgments and to make estimates based on assumptions that affect the amounts of assets, liabilities, revenues and expenses reported in our statutory-basis financial statements. Because the use of assumptions and estimates inherently entails uncertainty, the effects of
Our statutory-basis financial statements have been prepared on the basis of statutory accounting principles (“SAP”) prescribed or permitted by the New York State Insurance Department (the “Department”), a comprehensive basis of accounting that differs from accounting principles generally accepted in the United States (“GAAP”). The Department requires insurance companies domiciled in the State of New York to prepare their statutory-basis financial statements in accordance with the National Association of Insurance Commissioners (“NAIC”) Accounting Practices and Procedures Manual (“NAIC SAP”), subject to any deviation prescribed or permitted by the Department (“New York SAP”).
The Financial Accounting Standards Board (“FASB”) requires that financial statements that are intended to be in conformity with GAAP follow all applicable authoritative accounting pronouncements. As a result, we cannot refer to financial statements prepared in accordance with NAIC SAP as having been prepared in accordance with GAAP. The effects of the differences between GAAP and NAIC SAP, while not determined, would be presumed to have a material effect on our statutory-basis financial statements, and the primary differences are summarized in the Notes to our “Statutory-Basis Financial Statements,” included herein.
Because our invested assets comprise such a large percentage of our total assets and because the performance of our investment portfolio has such a dramatic effect on our overall performance, the accounting policies which guide the valuation of our investments represent some of our most critical accounting policies. Because we prepare statutory-basis financial statements, we follow the investment valuation requirements promulgated by the NAIC, but the application of statutory accounting principles still requires management to make interpretive and valuation judgments.
Our bond portfolio consists primarily of high quality publicly-traded corporate debt securities and government securities. We invest a significant portion of our portfolio in high quality, publicly-traded bonds in order to maintain and manage liquidity and to reduce the risk of credit default in the portfolio. We do, however, also make investments in private placement bonds to increase portfolio diversification and to obtain higher yields than can be earned by investing in comparable quality, publicly-traded securities. To control risk when utilizing privately-placed securities, we rely upon broader access to management information, stronger (negotiated) protective covenants, call protection features and a higher level of collateralization than can customarily be achieved in the public market.
(a) The extent to which and the length of time that the fair value has been below our amortized cost basis.
A realized loss is recorded when an impairment is considered to be other than temporary. An other-than-temporary impairment of an investment is considered to have occurred if an event or change in circumstance indicates that the carrying value of the asset may not be recoverable or the receipt of contractual payments of principal and interest may not occur when scheduled. When a mortgage loan impairment is considered to be temporary, a valuation reserve is established for the excess of the carrying value of the mortgage over its estimated fair value. Changes in valuation reserves for mortgages are included in net unrealized capital gains/losses on investments. When an other-than-temporary impairment has been determined to have occurred, the investment is written down to fair value and the realized loss is recorded. We do not change the revised cost basis for subsequent recoveries in value. Once an impairment write-down has been recorded, we will continue to review the impaired investment for appropriate valuation on an ongoing basis.
Policy and Contract Reserves. Policy and contract reserves are determined in accordance with standard valuation methods approved by the Department and are computed in accordance with standard actuarial formulae. The reserves established utilize assumptions for interest (at rates ranging from 4.00% to 6.75% and averaging approximately 4.53%), mortality and other risks insured. Such reserves are designed to be sufficient for all contractual benefits guaranteed under policy and contract provisions. These reserves reflect both management’s assumptions, which must be in line with the Department’s requirements, and the activity that has occurred in relation to our policies and contracts in-force (e.g., new issues, lapses, surrenders, etc.). The period-to-period changes in these reserves directly increase or decrease our results of operations.
Reserves for deposit-type funds, which do not contain any life contingencies, are equal to the sum of the deposits received and the interest credited to the benefit of contract holders, less withdrawals that represent a return to the contract holder. These reserves do not entail the exercise of management’s judgment, and, other than the interest expensed when credited to these contracts, the changes in these reserves do not affect our results of operations.
Reinsurance. We use reinsurance to manage risk by ceding (i.e., transferring) some of our life insurance reserve liabilities to other insurance and reinsurance companies. Even when we enter into a reinsurance contract with another insurance or reinsurance company, we will retain liability with respect to ceded insurance should the reinsurer fail to meet its obligations. As a result, we evaluate the financial stability of an insurance or reinsurance company before we enter into a reinsurance contract, which is often long-term in nature. Once we have concluded that the reinsurance contract meets the reinsurance criteria under SAP, which involves some management judgment in relation to the NAIC’s requirements, we reduce our policy and contract reserves by the portion ceded under the reinsurance contract. Our maximum retention is $2.5 million for one insured life and $2.5 million for two insured lives for contracts issued prior to June 27, 2006, and $5.0 million for one insured life and $9.0 million for two insured lives for contracts issued on or after June 27, 2006. Our maximum retention is less for certain issue ages and underwriting classifications.
Total Premiums and Other Considerations. Total premiums and other considerations totaled $169.3 million for 2008 compared to $171.0 million for 2007, a decrease of $1.7 million, or 1.0 %.
On a year-over-year basis, individual annuity premiums and other considerations were relatively flat, experiencing a slight decline of $0.2 million, or 0.1%, in 2008. Although the year-over-year decline was small, the product mix experienced significant offsetting increases and decreases. The $0.2 million net decrease was primarily attributable to a $25.3 million net decline in our variable annuity products without fixed account options, resulting from a decrease in internal tax-free exchanges. The decrease in premiums for these variable annuity products was mostly offset by a net increase of $25.1 million in our variable annuity products with fixed account options, including $10.9 million of new premium volume from the annuity product launched in August 2008.
Net Investment Income. Net investment income includes gross earnings on investments, investment expenses and amortization of capital gains and losses from the interest maintenance reserve. Net investment income totaled $123.1 million for 2008 compared to $128.5 million for 2007, a decrease of $5.4 million, or 4.2%. This decrease in investment income primarily resulted from a decline in the average invested asset balances and overall decline in interest rates during 2008 as compared to 2007, partially offset by an increase of $1.5 million in amortization of net capital gains from the interest maintenance reserve.
Policy and Contract Benefits. Policy and contract benefits totaled $156.0 million for 2008 compared to $227.9 million for 2007, a decrease of $71.9 million, or 31.5%. This decrease was primarily attributable to a $79.9 million decline in surrenders on our individual annuity products in part driven by a reduction in internal tax-free exchanges, partially offset by a $7.9 million increase in benefit payments.
The increase in benefit payments of $7.9 million was primarily due to increases in term life, fixed universal life and annuity benefit payments.
Change in Policy and Contract Reserve. Policy and contract reserves increased $36.7 million during 2008, compared to a decrease of $121.1 million during 2007, which resulted in a year-over-year increase of $157.8 million. This increase was primarily attributable to an increase in reserves on one of our variable annuity products with fixed account options, compared to a release of reserves during 2007. This change was due to the decline in surrender activity for this variable annuity product, which is discussed in “Policy and Contract Benefits” above.
Net Transfers to Separate Accounts. Net transfers to the separate accounts of $20.9 million for 2008 compared to $97.5 million for the same prior year period, resulted in a decrease of $76.6 million. The year-over-year decline was the result of discretionary contract-holder activity and reflected the volatility and continued negative returns of the equity markets during 2008.
Policy and Contract Benefits. Policyholders’ benefits and payments, which include income benefit payments, annuity and surrender benefits, interest and death payments, totaled $227.9 million for 2007 compared to $391.4 million for 2006, resulting in a decrease of $163.5 million, or 41.8%. This change was due primarily to a decrease of $154.3 million in surrenders from one of our fixed annuity products. As interest rates stabilized, the portfolio rate on our fixed account product became more competitive, and, as a result, customer outflows decreased when compared to the prior year. Approximately $20.1 million of the surrender activity was also reflected in individual annuity premiums as internal tax-free exchanges among our individual annuity products.
Change in Policy and Contract Reserves. The decrease in policy and contract reserves of $121.1 million in 2007, compared to the decrease of $276.4 million in 2006, varied by $155.3 million, primarily due to much lower surrender activity on one of our fixed annuity products. Surrender activity decreased from $363.7 million in 2006 to $211.4 million in 2007.
Net Realized Capital Losses. In 2007, net realized capital losses (after the transfer of $3.4 million of interest-related capital losses to the IMR), increased by $7.5 million, to $8.3 million from $0.8 million in 2006, primarily due to an increase in other-than-temporary impairment losses associated with our bond and mortgage loan portfolios.
Total Admitted Assets. Total admitted assets of $2,917.6 million as of December 31, 2008, decreased $197.8 million, or 6.3%, from $3,115.4 million as of December 31, 2007. This decrease was primarily due to a $181.9 million decline in separate account assets and a $15.9 million decrease in general account assets. The $181.9 million decline in the separate account assets during 2008 was primarily driven by depreciation in the underlying investments due to negative equity market performance partially offset by discretionary contract-holder deposits in excess of withdrawals and by seed money contributed for the new annuity product.
Bonds. As of December 31, 2008, bonds totaled $2,130.8 million compared to $2,164.6 million as of December 31, 2007, a decrease of $33.8 million, or 1.6%. Bonds represented 90.2% of our invested asset portfolio, excluding investment income due and accrued, at December 31, 2008. The portfolio consisted of publicly traded bonds of $1,726.2 million and privately placed bonds of $404.6 million as of December 31, 2008. During 2008, write-downs on bonds resulting from impairments that are considered to be other-than-temporary were $48.5 million.
The following table sets forth our bond portfolio by industry (in millions, except percentages):
Separate Account Assets. Total separate account assets of $513.6 million as of December 31, 2008, compared to $695.5 million as of December 31, 2007, resulted in a decrease of $181.9 million, or 26.2%. Contributing to the decrease was the depreciation of the underlying investment accounts, driven by negative returns in the equity markets during 2008 of $217.5 million and fees paid of $3.6 million. These decreases were partially offset by $20.7 million of net discretionary new premiums exceeding withdrawals and net contribution of seed money of $18.8 million.
Asset Valuation Reserve (“AVR”). The AVR of $0.9 million as of December 31, 2008, compared to $10.3 million as of December 31, 2007, decreased $9.4 million. This decrease was primarily driven by the increase in realized losses resulting from impairments.
Interest Maintenance Reserve (“IMR”). The IMR of $2.2 million as of December 31, 2008, increased approximately $1.0 million from December 31, 2007, primarily due to the amortization of net realized interest-related losses previously transferred to IMR.
Separate Account Liabilities. These liabilities totaling $493.4 million as of December 31, 2008, compared to $694.1 million as of December 31, 2007, decreased $200.7 million, or 28.9%, due to customer transfers and depreciation of the underlying investment accounts.
Other Liabilities. Other liabilities consist mainly of inter-company payables, which changed primarily due to increased payments made to TIAA for expenses allocated to us.
Capital and Surplus. Capital and surplus totaled $280.3 million as of December 31, 2008, compared to $332.1 million as of December 31, 2007. The $51.8 million decrease in capital and surplus was primarily due to our net loss of $61.5 million during 2008 partially offset by the decline in AVR of $9.4 million.
We also maintain a $100.0 million unsecured 364-day revolving line of credit arrangement with TIAA. As of December 31, 2008, $30.0 million of this facility was maintained on a committed basis for which we paid a commitment fee of 3.0 basis points on the unused committed amount. During 2008, we made 17 draw downs under this line of credit arrangement, which totaled approximately $41.0 million, of which no amount was outstanding at December 31, 2008. We have no material off-balance sheet arrangements for financing or other purposes.
The following table presents our total adjusted capital, which, as defined by the NAIC, includes the AVR, by period (in millions).
Total net cash flow provided by operations includes premiums and investment income received less benefit payments, expenses and net transfers to (from) separate accounts. Cash flow from operations is affected by the level of premiums from the sale of our individual annuity and life insurance products, investment income received, expenses paid and customer decisions to move funds into or out of separate accounts. As an insurance entity, the positive cash flows generated from premiums received and net investment income earned are often offset by benefits and surrenders paid and customers’ net transfers to separate accounts.
The net cash provided by operations was $96.9 million for 2008 compared to net cash used by operations of $26.2 million for 2007. The $123.1 million increase in net cash provided by operations was primarily due to decreases in surrenders on individual annuity contracts and decreases in net transfers to separate accounts, partially offset by a decrease in net investment income. The decrease in cash flow used in operating activities in 2007, from $173.5 million in 2006 to $26.2 million in 2007, was primarily due to decreases in the payment of policy and contract benefits and of operating expenses, partially offset by an increase in net transfers to separate accounts.
The $115.8 million decline in net cash used in financing and other between 2008 and 2007 was primarily due to a $118.5 million decrease in net withdrawal activity on deposit-type contracts partially offset by an increase of $2.7 million in other cash applied. Total net cash flow used in financing and other activities was $117.1 million in 2007, primarily comprised of $104.5 million of net outflows on deposit-type contracts. In 2006, total cash flow used in financing and other activities was $36.7 million, comprised of $70.0 million of net outflows on deposit-type contracts, offset by a $33.3 million change in other cash provided.
Increased levels of inflation tend to increase the need for life insurance. Many policyholders who once had adequate insurance coverage may increase their life insurance coverage to provide the same relative financial benefit and protection. Higher interest rates can also result in higher sales of our individual fixed annuities.
Inflation could also increase the costs that we might incur in the future to operate our business. Should inflation increase our future operating costs, we would attempt to adjust the crediting rates that we provide on the individual fixed annuity, life insurance (to the extent applicable), and funding agreement contracts that we issue in order to maintain our margins.
In our opinion, the financial statements referred to above present fairly, in all material respects, the admitted assets, liabilities and capital and surplus of the Company as of December 31, 2008 and 2007, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2008, on the basis of accounting described in Note 2.
As discussed in Note 2 to the financial statements, on January 1, 2008, the Company adopted Statement of Statutory Accounting Principles No. 98, Treatment of Cash Flows When Quantifying Changes in Valuation and Impairments, an Amendment of SSAP No. 43 - Loan-backed and Structured Securities.
TIAA-CREF Life Insurance Company commenced operations as a legal reserve life insurance company under the insurance laws of the State of New York on December 18, 1996, under its former name, TIAA Life Insurance Company and changed its name to TIAA-CREF Life Insurance Company (“TIAA-CREF Life” or the “Company”) on May 1, 1998. TIAA-CREF Life is a direct wholly-owned subsidiary of Teachers Insurance and Annuity Association of America (“TIAA” or the “Parent”), a legal reserve life insurance company established under the insurance laws of the State of New York in 1918. As of December 31, 2008, the Company was licensed in 51 jurisdictions.
The table below provides a reconciliation of the Company’s net income and capital and surplus between NAIC SAP and the New York SAP annual statement filed with the Department. The additional reserves arise because the Company maintains more conservative reserves, as prescribed or permitted by New York SAP, under which annuity reserves are generally discounted on the basis of contractually guaranteed interest rates and mortality tables. The deferred premium asset limitation results from the Department requiring that any deferred premium asset established along with the corresponding mean reserve should be reduced by the proportionate amount reinsured on a coinsurance basis. The deferred premium asset for reinsurance is adjusted based upon the premium mode of the direct policy.
The interest maintenance reserve (“IMR”) is eliminated and realized gains and losses resulting from changes in interest rates are reported as a component of net income rather than being accumulated in and subsequently amortized into income over the remaining life of the investments sold;
Policy acquisition costs are deferred and amortized over the lives of the policies issued rather than being charged to operations as incurred;
Policy and contract reserves are based on estimates of expected mortality, morbidity, persistency and interest rather than being based on statutory mortality, morbidity and interest requirements;
Investments in wholly-owned subsidiaries, other entities under the control of the parent, and certain variable interest entities are consolidated in the parent’s financial statements rather than being carried at the parent’s share of the underlying audited GAAP equity or statutory surplus of a domestic insurance subsidiary;
Annuities that do not incorporate significant insurance risk are classified as investment contracts and are not accounted for as insurance contracts;
Certain reinsurance transactions are accounted for as financing transactions under GAAP and as reinsurance for statutory purposes and assets and liabilities are reported gross of reinsurance for GAAP and net of reinsurance for statutory purposes.
The effects of these differences, while not determined, are presumed to be material.
The preparation of the Company’s statutory-basis financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses at the date of the financial statements. Actual results may differ from those estimates. The following is a summary of the significant accounting policies followed by the Company:
Short-Term Investments: Short-term investments (debt securities with maturities of one year or less at the time of acquisition) that are not impaired are stated at amortized cost using the interest method. Short-term investments impaired are stated at the lower of amortized cost or market value.
Bonds: Bonds not backed by loans and not impaired are stated at amortized cost using the interest method. Bonds not backed by loans that are held for sale and NAIC designations 6 and 6Z are valued at the lower of amortized cost or fair value. For other than temporary impairment, the cost basis of the bond is written down to its fair value and the amount of the write down is recognized as a realized loss.
Preferred Stock: Preferred stocks are stated at amortized cost unless they have an NAIC rating designation of 4, 5 or 6 which are stated at the lower of amortized cost or fair value.
Mortgages: Mortgages are stated at amortized cost, net of valuation allowances, except that purchase money mortgages are stated at the lower of amortized cost or ninety percent of appraised value. Mortgages held for sale are stated at the lower of amortized cost or fair value. A mortgage is evaluated for impairment when it is probable that the receipt of contractual payments of principal and interest may not occur when scheduled. If the impairment is considered to be temporary, a valuation reserve is established for the excess of the carrying value of the mortgage over its estimated fair value. Changes in valuation reserves for mortgages are included in net unrealized capital gains/losses on investments. When an event occurs resulting in an impairment that is other-than-temporary, a direct write-down is recorded as a realized loss and a new cost basis is established.
Wholly-Owned Subsidiaries: Investments in wholly-owned subsidiaries are stated at the value of their underlying net assets as follows: (1) domestic insurance subsidiaries are stated at the value of their underlying statutory surplus; (2) non-insurance subsidiaries are stated at the value of their underlying audited GAAP equity. Dividends and distributions from subsidiaries are recorded in investment income and changes in the equity of subsidiaries are recorded directly to surplus as unrealized gains or losses.
Separate Accounts: Separate Accounts are established in conformity with insurance laws and are segregated from the Company’s general account and are maintained for the benefit of separate account contract holders. Seed money investments in the separate account, which are included in Separate Account Assets in the accompanying balance sheets, are stated at fair value.
Derivative Instruments: The Company has filed a Derivatives Use Plan with the Department. This plan details the Company’s derivative policy objectives, strategies and controls, and any restrictions placed on various derivative types. The plan also specifies the procedures and systems that the Company has established to evaluate, monitor and report on the derivative portfolio in terms of valuation, hedge effectiveness and counter party credit quality. The Company uses derivative instruments for hedging, and income generation purposes. Derivatives used by the Company include foreign currency swaps and interest rate swaps. See Note 10.
Non-Admitted Assets: Certain investment balances and corresponding investment income due and accrued may be designated as non-admitted assets in accordance with New York SAP, based on delinquencies, defaults, and other statutory criteria, and cannot be included in the life insurance company’s balance sheets filed with the Department. The Company had no investment-related non-admitted assets at December 31, 2008 or 2007. Income on bonds in default is not accrued and therefore, is not included in the non-admitted totals. Certain non-investment assets, such as deferred federal income tax (“DFIT”) assets, are also designated non-admitted assets. The non-admitted portion of the DFIT asset was $34,909 thousand and $10,310 thousand at December 31, 2008 and 2007, respectively. Changes in non-admitted assets are charged or credited directly to surplus.
Asset Valuation Reserve: The AVR, which covers all invested asset classes, is a reserve required by NAIC SAP to provide for potential future credit and equity losses. Reserve components of the AVR are maintained for bonds, mortgages, other invested assets and derivatives. Realized and unrealized credit and equity capital gains and losses, net of capital gains taxes, are credited to or charged against the related components of the AVR. Statutory formulae determine the required reserve components primarily based on factors applied to asset classes, and insurance companies may also establish additional reserves for any component; however, the ultimate balance cannot exceed the statutory maximum reserve for that component. Contributions and adjustments to the AVR are reported as a change in surplus on the Statements of Changes in Capital and Surplus. No voluntary contributions were made in either 2008 or 2007.
Interest Maintenance Reserve: The IMR is a reserve required by NAIC SAP, which accumulates realized interest rate-related capital gains and losses on sales of debt securities and mortgages, as defined by NAIC SAP. Such capital gains and losses are amortized out of the IMR, under the grouped method of amortization, as an adjustment to net investment income over the remaining lives of the assets sold.
Premiums Revenue: Premiums are recognized as income over the premium-paying period of the related policies. Annuity considerations are recognized as revenue when received. Expenses incurred in connection with acquiring new insurance business are charged to operations as incurred.
* Amortized cost for bonds and original cost for preferred stocks net of cumulative recorded other-than-temporary impairments.
Bonds, not due at a single maturity date have been included in the preceding table based on the year of final maturity. Actual maturities may differ from contractual maturities because borrowers may have the right to prepay obligations, although prepayment premiums may be applicable.
Included in the preceding table under asset-backed securities is the Company’s exposure to sub-prime mortgage investments totaling $45,483 thousand. Ninety-eight percent (98%) of the sub-prime securities were rated investment grade (NAIC 1 and 2).
Bond Credit Quality and Diversification: At December 31, 2008 and 2007, approximately 98.0% and 97.5%, respectively, of the long-term bond portfolio was comprised of investment grade securities. The carrying values of long-term bond investments were diversified by industry classification at December 31 as follows:
Mortgage Impairment Review Process: The Company monitors the effects of current and expected market conditions and other factors on the collectibility of mortgages to identify and quantify any impairment in value. Any impairment is classified as either temporary, for which, a recovery is anticipated, or other-than-temporary. Mortgages held to maturity with impaired values at December 31, 2008, and 2007 have been written down to net realizable values based upon independent appraisals of the collateral while mortgages held for sale have been written down to the current fair value of the loan, as shown in the table below. For impaired mortgages where the impairments were deemed to be temporary, an allowance for credit losses has been established, as indicated below (in thousands):
Mortgage Diversification: At December 31, 2008 and 2007, the carrying values of mortgage investments were diversified by property type and geographic region, as follows:
Actual maturities may differ from contractual maturities because borrowers may have the right to prepay mortgages, although prepayment premiums may be applicable.
There were no mortgages with restructured or modified terms at December 31, 2008 and 2007. For the years ended December 31, 2008, 2007 and 2006 the investment income earned on such mortgages was $ 0. When restructuring mortgages, the Company generally requires participation features, yield maintenance stipulations, and/or the establishment of property-specific escrow accounts funded by the borrowers. With respect to impaired loans, the Company accrues interest income to the extent it is deemed collectible. Due and accrued income on
any mortgage in default for more than eighteen months is non-admitted. Cash received on impaired mortgages that are performing according to their contractual terms is applied in accordance with those terms. For mortgages in the process of foreclosure, cash received is initially held in suspense and applied as return of principal at the time that the foreclosure process is completed, or the mortgage is otherwise disposed. There were no mortgages with interest more that 180 days past due at December 31, 2008 or 2007.
During 2008, the Company did not reduce the interest rate of outstanding loans.
The Company has no Reverse Mortgages as of December 31, 2008 and 2007.
The Company’s carrying value of other long-term investments, which are primarily the interest in Agency, contract loans, derivatives, and investments in process, at December 31, 2008 and 2007 was $2,170 thousand, and $1,863 thousand, respectively.
The funding of bond commitments is contingent upon the continued favorable financial performance of the potential borrowers and the funding of mortgages and real estate commitments are generally contingent upon the underlying properties meeting specified requirements, including construction, leasing and occupancy. At December 31, 2008, the Company had no outstanding commitments to fund future investments.
Due and accrued income is excluded from surplus on the following basis: 1) Bonds - income due and accrued on bonds NAIC designation 6 and 6Z or that is over 90 days past due, 2) Mortgages - income due and accrued with amounts greater than the excess of the property value over the unpaid principal balance and on mortgages in default more than eighteen months. Total due and accrued income excluded from net income was $2 thousand during 2008 and $ 0 for the years ended December 31, 2007 and 2006.
Realized Capital Gains and Losses: The net realized capital gains (losses) on sales, redemptions of investments and write-downs due to other than temporary impairments for the years ended December 31 were as follows (in thousands):
2008, 2007 and 2006, respectively. Write-downs of mortgages resulting from impairments that are considered to be other-than-temporary were $ 0, $3,000 thousand and $326 thousand at December 31, 2008, 2007 and 2006, respectively.
Proceeds from sales of long-term bond investments during 2008, 2007 and 2006 were $55,617 thousand, $42,587 thousand and $146,587 thousand, respectively. Gross gains of $1,775 thousand, $130 thousand and $2,534 thousand, and gross losses, excluding impairments considered to be other-than-temporary, of $12,568 thousand, $597 thousand and $3,809 thousand were realized on these sales during 2008, 2007 and 2006, respectively.
Unrealized Capital Gains and Losses: For 2008, 2007 and 2006, the net change of unrealized capital gains / (losses) in investments, resulting in a net increase / (decrease) in valuation of investments was approximately $759 thousand, $(566) thousand and $(299) thousand, respectively.
The fair value of an asset is the amount at which that asset could be bought or sold in a current transaction between willing parties, that is, other than in a forced or liquidation sale. The fair value of a liability is the amount at which that liability could be incurred or settled in a current transaction between willing parties, that is, other than in a forced or liquidation sale.
Fair values are based on quoted market prices when available. When market prices are not available, fair values are primarily provided by a third party vendor or internally calculated. These fair values are generally estimated using discounted cash flow analyses, incorporating current market inputs for similar financial instruments with comparable terms and credit quality. In instances where there is little or no market activity for the same or similar instruments, the Company estimates fair value using methods, models and assumptions that management believes market participants would use to determine a current transaction price. These valuation techniques involve management estimation and judgment which becomes significant with increasingly complex instruments or pricing models. Where appropriate, adjustments are included to reflect the risk inherent in a particular methodology, model or input used.
Level 1-Values are unadjusted quoted prices for identical assets and liabilities in active markets accessible at the measurement date.
Level 2-Inputs include quoted prices for similar assets or liabilities in active markets, quoted prices from those willing to trade in markets that are not active, or other inputs that are observable or can be corroborated by market data for the term of the instrument. Such inputs include market interest rates and volatilities, spreads and yield curves.
The following table provides information as of December 31, 2008 about the Company’s financial assets and liabilities measured at fair value on a recurring basis (in thousands):
Certain financial assets are measured at fair value on a non-recurring basis, such as certain bonds and preferred stock valued at the lower of cost or fair value, or investments that are impaired during the reporting period and recorded at fair value on the balance sheet at December 31, 2008. The following table summarizes the changes in assets measured at fair value on a non-recurring basis as of December 31, 2008 (in thousands):
Described below are the Company’s application of the fair value hierarchy to its assets and liabilities carried at fair value on a recurring and non-recurring basis:
Unadjusted quoted prices for these securities are provided to the Company by independent pricing services. Separate account assets in Level 1 primarily include mutual fund investments valued by the respective mutual fund companies. Preferred stocks carried on a lower of cost or market basis are those that trade in an active market where prices for identical securities are readily available.
Typical inputs to models used by independent pricing services include but are not limited to benchmark yields, reported trades, broker-dealer quotes, issuer spreads, benchmark securities, bids, offers, reference data, and industry and economic events. Because most bonds and preferred stocks do not trade daily, independent pricing services regularly derive fair values using recent trades of securities with similar features. When recent trades are not available, pricing models are used to estimate the fair values of securities by discounting future cash flows at estimated market interest rates.
The estimated fair value amounts of financial instruments presented in the following tables were determined by the Company using market information available as of December 31, 2008 and 2007 and appropriate valuation
methodologies. However, considerable judgment is necessarily required to interpret market data in developing the estimates of fair value for financial instruments for which there are no available market value quotations. The estimates presented are not necessarily indicative of the amounts the Company could have realized in a market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
Valuation techniques or pricing sources for each instrument type are as follows:
Deposit-type contracts: For deposit-type contracts the fair value approximates the carrying value. The carrying value is payable upon demand.
Foreign Currency Swap Contracts: The Company enters into foreign currency swap contracts to exchange fixed and variable amounts of foreign currency at specified future dates and at specified rates (in U.S. dollars) as
Interest Rate Swap Contracts: The Company enters into interest rate swap contracts to hedge against the effect of interest rate fluctuations on certain variable interest rate bonds. These contracts are designated as cash flow hedges and allow the Company to lock in a fixed interest rate and to transfer the risk of higher or lower interest rates. This type of derivative instrument is traded over-the-counter, and the Company is exposed to both market and counter party risk. The Company also enters into interest rate swap contracts to exchange the cash flows on certain fixed interest rate bonds into variable interest rate cash flows. These contracts are entered into as a fair value hedge in connection with certain interest sensitive products. Generally, no cash is exchanged at the outset of the contract and no principal payments are made by either party. These transactions are entered into pursuant to master agreements that provide for a single net payment to be made by one counter party at each due date. Net payments received and net payments made or accrued under interest rate swap contracts are reflected in net investment income. Derivative instruments used in hedging transactions that do not meet or no longer meet the accounting criteria of an effective hedge are accounted for at fair value. During 2008, there were no realized gains or losses on interest rate swaps.
The Company’s Separate Account VA-1 (“VA-1”) was established as a separate account of the Company on July 27, 1998 to fund individual non-qualified variable annuities. It currently funds the Personal Annuity Select, Intelligent Variable Annuity, Lifetime Variable Select, Individual Flexible Premium Variable Annuities, and Single Premium Immediate Annuities. VA-1 is registered with the Securities and Exchange Commission (“SEC”) as a unit investment trust under the Investment Company Act of 1940. All of its assets are invested in an underlying portfolio of mutual funds.
Most of the contracts offered through VA-1 include a nominal guaranteed minimum death benefit. The Separate Account offers full or partial withdrawal at market value with no surrender charge. The assets of these accounts are carried at market value.
Although the Company owns the assets of the separate accounts, and the obligations under the contracts are obligations of the Company, the separate account’s income, investment gains, and investment losses are credited to or charged against the assets of the separate account without regard to the Company’s other income, gains or losses. Under New York law, the separate account cannot be charged with liabilities incurred by any other than the Company’s separate account or other business activity the Company may undertake.
The Company’s Separate Account Investment Horizon Annuity (“IHA”) was established on July 23, 2008, as an individual flexible premium modified guaranteed annuity contract. The Company owns all of the assets related to the separate account and all of the investment performance. The assets of this account are carried at market value.
* Includes annuities whose credited rate will be at or below 4% during 2009.
** Includes annuities whose credited rate will be above 4% throughout 2009.
Services for funding agreements used to fund certain qualified state tuition programs for which TIAA-CREF Tuition Financing, Inc. (“TFI”), a wholly-owned subsidiary of Enterprises, is the program manager, are provided to TIAA-CREF Life by TFI pursuant to a Service Agreement between the Company and TFI.
Beginning January 1, 1998, the Company began filing a consolidated federal income tax return with its parent and its affiliates. The consolidated group has entered into a tax-sharing agreement that follows the current reimbursement method, whereby members of the group will generally be reimbursed for their losses on a pro-rata basis by other members of the group to the extent that they have taxable income, subject to the limitations imposed under the Internal Revenue Code (“Code”). Amounts due from TIAA for federal income taxes were $206 thousand and $755 thousand at December 31, 2008 and 2007, respectively. The affiliates that file a consolidated federal income tax return with TIAA-CREF Life and its parent are as follows:
A reconciliation of TIAA-CREF Life statutory tax rate to actual federal income tax rate was as follows (in thousands):
The Company incurred $16,905 thousand of tax basis capital losses in 2008. In addition, the Company has a $3,865 thousands capital loss from 2007. The Company has net capital losses carry forwards which will expire as follows: 2011 through 2013, $20,770 thousand.
The Company’s gross deferred tax assets are primarily attributable to differences in required reserves, capitalization of deferred acquisition costs required by the Code and write-downs of securities that are deferred for tax purposes.
The Company incurred federal taxes in the current or preceding years that are available for recoupment in the event of future net losses, as follows (in thousands):
The Company has no employees. The Company’s parent, TIAA allocates employee benefit expenses based on salaries attributable to the Company. The Company’s share of net expense for the qualified defined contribution plan was approximately $1,799 thousand, $1,679 thousand and $2,054 thousand for 2008, 2007 and 2006, respectively and for other postretirement benefit plans was $200 thousand, $217 thousand and $327 thousand for 2008, 2007 and 2006, respectively.
Policy and contract reserves are determined in accordance with standard valuation methods approved by the Department and are computed in accordance with standard actuarial formulae. The reserves are based on assumptions for interest, mortality and other risks insured and establish a sufficient provision for all benefits guaranteed under policy and contract provisions.
For deferred annuities in the pay out stage, Single Premium Immediate Annuities (“SPIA”) and supplementary contracts, the path of future guaranteed benefits with the highest present value is used to set policy reserves. For most fixed period annuity contracts (except for certain issues prior to 2002), this present value is calculated using the maximum statutory valuation interest rate for SPIA. Life annuity contracts are valued based on the Annuity 2000 table, and the maximum valuation interest rates on an issue year basis.
Withdrawal characteristics of annuity actuarial reserves and deposit-type contracts at December 31 are as follows (in thousands):
Annuity reserves and deposit-type contract funds for the year ended December 31 are as follows (in thousands):
The Company waives deduction of deferred fractional premiums upon death of the insured and returns any portion of the final premium beyond the date of death. The Company had no policies where the surrender values were in excess of the legally computed reserves at December 31, 2008 and December 31, 2007, respectively. As of December 31, 2008 and 2007, the Company had $21.9 billion and $21.4 billion of insurance in force for which the gross premiums were less than the net premiums according to the standard of valuation set by the State of New York. Premium deficiency reserves related to the above insurance totaled $8,208 thousand and $9,839 thousand at December 31, 2008 and 2007, respectively.
In 2004, TIAA and TIAA-CREF Life entered into a series of agreements with Metropolitan Life Insurance Company (“MetLife”) including an administrative agreement for MetLife to service the long-term care business of TIAA and TIAA-CREF Life, an indemnity reinsurance agreement where TIAA and TIAA-CREF Life ceded to MetLife 100% of the long-term care liability and an assumption reinsurance agreement where, after appropriate filings in each jurisdiction, MetLife has begun the process of offering the TIAA and TIAA-CREF Life policyholders the option of transferring the liability for policies from TIAA and TIAA-CREF Life to MetLife. At December 31, 2008, there were still premiums in force of $9,733 thousand.
In addition to the MetLife agreements, the Company enters into reinsurance agreements in the normal course of its insurance business to reduce overall risk. The Company remains liable for reinsurance ceded if the reinsurer fails to meet its obligation on the business assumed. All reinsurance is placed with unaffiliated reinsurers. The regulatory required liability for reserves ceded to unauthorized reinsurers is secured by letters of credit. The Company does not have reinsurance agreements in effect under which the reinsurer may unilaterally cancel the
agreement. Amounts shown in the financial statements are reported net of the impact of reinsurance. The major lines in the accompanying financial statements that were reduced by the effect of these reinsurance agreements include (in thousands):
Capital: The Company has 2,500 shares of common stock authorized, issued and outstanding. All shares are Class A. The Company has no preferred stock outstanding.
Dividend Restrictions: Under the New York Insurance Law, the Company is permitted without prior insurance regulatory clearance to pay a stockholder dividend as long as the aggregated amount of all such dividends in any calendar year does not exceed the lesser of (i) 10% of its surplus to policyholders as of the immediately preceding calendar year and (ii) its net gain from operations for the immediately preceding calendar year (excluding realized investment gains). The Company generally has not paid dividends to its shareholder and has no plans to in 2009.