Management believes that the Company’s present facilities are adequate for its anticipated needs.
The selected consolidated financial data for the Company set forth below for each of the five years in the period ended December 31, 2010 are not necessarily an indication of future operations. This data should be read in conjunction with the Company’s Consolidated Financial Statements and notes thereto and Item 7, Management’s Discussion and Analysis of Operations and Financial Condition.
1 This table includes restated financial results for the Company for the years ended 2009 and 2008. See Note 15 in Notes to Consolidated Financial Statements for the effects of the restatement on the Company’s Statement of Income for the years ended December 31, 2009 and 2008. Fiscal Years 2007 and 2006 have also been corrected to conform to the restated accounting treatment of our limited partnership investments.
This Form 10-K reflects the restatement of the Company’s Consolidated Financial Statements for the years ended December 31, 2008 and 2009 to apply the fair value method of accounting for investments in limited partnerships in which we have less than a 5% interest and do not have influence over the operating and financial policies of the partnership, and to apply the equity method of accounting where we have either a 5% or greater interest, or less than a 5% interest but with respect to which partnership we have more than virtually no influence over the operating and financial policies of the partnership. The restatement primarily impacts the net investment income, change in deferred policy acquisition costs and provision (benefit) for income taxes amounts in the statement of income and the limited partnerships investments, deferred policy acquisition costs, deferred income tax asset and shareholders' equity amounts in the balance sheet.
Historically, the Company applied the equity method of accounting based primarily on actual cash distributions from (or contributions to) the limited partnerships. Each quarter, the Company recorded cash distributions either as income (loss) or return of capital, as appropriate. Subsequent to the end of the fiscal year, upon receipt of the Schedule K-1s and annual audited GAAP-basis financial statements provided by the limited partnerships, the Company would record changes in market values of the limited partnerships as a component of equity (in other comprehensive income or loss); the Company would also record its allocable share of undistributed earnings (losses), recognized by the limited partnerships during the preceding year, on its income statement (as a component of consolidated net income). The SEC informed the Company in March 2011 that it believed we erred in our application of the equity method under ASC Topic 323, Investments-Equity Method and Joint Ventures. As a result, we concluded that, (i) under the equity method, the Company should record its share of investee earnings, whether realized or unrealized, as a component of consolidated net income in each quarterly and annual period; and (ii) certain qualitative factors previously used by the Company to assess its level of influence with respect to the partnerships should not, in fact, be considered in determining whether to use the equity method, rather than the fair value method. The Company now accounts for its limited partnership investments as follows:
where consolidation is not appropriate, the Company applies the equity method of accounting consistent with ASC 323, Investments - Equity Method and Joint Ventures, to limited partnerships in which the Company holds either (a) a five percent or greater interest or (b) less than a five percent interest, but with respect to which partnership the Company has more than virtually no influence over the operating or financial policies of the limited partnership. The Company records realized and unrealized earnings (or losses) of the limited partnerships as equity in earnings (loss) each period. Generally, the Company records its share of its earnings using a three month lag.
The effects of the restatement on the Company's consolidated financial statements for 2009 and 2008 are summarized as follows:
Net realized investment (losses) gains, excluding other than temporary impairment (“OTTI”) losses
The Company’s earnings per share were $0.73 for 2010, as compared to $0.50 in 2009 and $(.08) in 2008. Results in 2010 primarily reflect an increase in realized investment gains when compared to 2009 and 2008. Our total revenues in 2010 were $297.0 million, compared to $263.0 million in 2009 and $231.7 million in 2008. Net income (loss) in 2010 was $21.5 million as compared to $14.7 million in 2009 and $(2.5) million in 2008. Benefits and expenses in 2010 were $262.2 million, compared to $246.8 million in 2009 and $247.3 million in 2008. The Company’s increases in earnings and revenues in 2010 resulted primarily from increases in realized investment gains. Income from limited partnerships using the fair value method of accounting, totaling $26.2 million, $7.2 million and $21.2 million in 2010, 2009 and 2008, respectively, is classified as net realized investment gains (losses).
Legal and Regulatory Risk. As an insurance company, we are subject to substantial regulatory control. Any material change in the framework in which we operate could have a material impact on the business. For further discussion on the regulatory environment in which we operate, see “Item 1. Business - Insurance Regulation.”
Management believes that we are able to offer our products at competitive prices to the Company’s targeted markets as a result of: (i) maintaining relatively low issuance costs by selling through the independent general agency system; (ii) minimizing home office administrative costs; and (iii) utilizing appropriate underwriting guidelines.
Ratio of annualized voluntary terminations (surrenders and lapses) to mean life insurance in force
Average of cash and aggregate invested amounts at the beginning and end of period.
The Company seeks to manage its investment portfolio in part to reduce its exposure to interest rate fluctuations. In general, the market value of our fixed maturity portfolio increases or decreases in an inverse relationship with fluctuations in interest rates, and our net investment income increases or decreases in direct relationship with interest rate changes. For example, if interest rates decline, the Company's fixed maturity investments generally will increase in market value, while net investment income will decrease as fixed income investments mature or are sold and proceeds are reinvested at the declining rates, and vice versa. Management is aware that prevailing market interest rates frequently shift and, accordingly, has adopted strategies that are designed to address either an increase or decrease in prevailing rates.
To determine the recovery period of a fixed maturity security, we consider the facts and circumstances surrounding the underlying issuer, including, but not limited to, the following:
adverse conditions specifically related to the security or to specific conditions in an industry or geographic area;
For all fixed maturities securities evaluated for OTTI, we consider the timing and amount of the cash flows. When evaluating whether our collateralized mortgage obligations (“CMOs”) are other-than-temporarily impaired, we also examine the characteristics of the underlying collateral, such as delinquency, loss severities and default rates, the quality of the underlying borrower, the type of collateral in the pool, the vintage year of the collateral, subordination levels within the structure of the collateral pool, the quality of any credit guarantors, the susceptibility to variability of prepayments, our intent to sell the security and whether it is more likely than not we will be required to sell the security before the recovery of its amortized cost basis. In assessing corporate fixed maturities securities for OTTI, we evaluate the ability of the issuer to meet its debt obligations and the value of the company or specific collateral securing the debt position, including the fundamentals of the issuer to determine what we would recover if they were to file bankruptcy versus the price at which the market is trading; fundamentals of the industry in which the issuer operates, expectations regarding defaults and recovery rates and changes to the rating of the security by a rating agency.
For an equity security, if we do not have the ability and intent to hold the security for a sufficient period of time to allow for a recovery in value, we conclude that an OTTI has occurred, and the cost of the equity security is written down to the current fair value, with a corresponding change to realized gain (loss) in our Consolidated Statements of Income. We base our review on a number of factors, including, but not limited to, the severity and duration of the decline in fair value of the equity security as well as the cause of the decline, the length of time we have held the equity security, any third-party research reports or analysis, and the financial condition and near-term prospects of the security’s issuer, taking into consideration the economic prospects of the issuer’s industry and geographical location.
As of December 31, 2010 and 2009, approximately 5.2% and 5.9%, respectively, of the Company's total invested assets were invested in limited partnerships and equity securities. See “Note 2 to the Notes to Consolidated Financial Statements.” As of December 31, 2010, the Company was committed, if called upon during a specified period, to contribute an aggregate of approximately $58.3 million of additional capital to certain of these limited partnerships. Commitments of $31.6 million are expected to expire in 2011, $25.5 million in 2012, and $1.2 million in 2013. In general, risks associated with such limited partnerships include those related to their underlying investments (i.e., equity securities, debt securities and real estate), plus a level of illiquidity. With the exception of hedge funds, these risks are mitigated by our ability to receive quarterly distributions of partnership earnings. Despite earning positive returns on its limited partnership investments and their substantial contributions to the Company’s profits in the years prior to the very significant market and economic downturn from 2008 to 2010, the Company’s limited partnership investments performed poorly in late 2008 and in 2009, contributing significant pressure on net income in these periods. Performance rebounded somewhat in 2010. There can be no assurance that we will again achieve the same level of positive returns on our investments in limited partnerships that we achieved in years prior to the downturn or that we will achieve any returns on such investments at all. In addition, there can be no assurance that we will receive a return of all or any portion of our current or future capital investments in limited partnerships. The failure to receive the return of a material portion of our capital investments in limited partnerships, or to achieve historic levels of returns on such investments, would have a material adverse effect on our financial condition and results of operations.
Approximately $42.6 million or 22% of the limited partnership portfolio is invested in restructuring funds. Approximately 75% of the funds invested in this segment by the Company are in four partnerships which are managed by two different general partners, each of which have significant experience in distressed debt investing. These general partners seek to invest in situations that reflect a significant discount to underlying collateral value or enterprise value, or both, with the intent of recovering substantial premiums to acquisition prices. A common element to each general partner’s approach is to identify good companies with weak balance sheets through a rigorous fundamental analysis of each individual investment, combined with an emphasis on the acquisition of securities in the upper part of the capital structure.
The primary market risks in the Company’s investment portfolio are interest rate risk, credit risk and market valuation risk. Changes in credit risk are generally measured by changes in corporate yields in relation to the underlying Treasuries (“corporate spreads”) as well as changes in the Credit Default Swap (“CDS”) market, although the Company is a cash investor and does not buy or sell credit default swaps. The Company's exposure to foreign exchange risk is insignificant. The Company has no direct commodity risk. Changes in interest rates can potentially impact our profitability. In certain scenarios where interest rates are volatile, we could be exposed to disintermediation risk (asset/liability mismatch) and reduction in net interest rate spread or profit margin. See “Interest Rate Risk” above.
The following table presents the amortized cost and gross unrealized losses for fixed maturities and common stock where the estimated fair value had declined and remained below amortized cost at December 31, 2010:
As of December 31, 2010, the Company had 220 securities in a net unrealized loss position. Of this total, 198 are bonds holdings and 22 represent preferred stock positions.
The predominant investment category for the Company’s investments is the “corporate bond” category (including Public Utilities), which totaled $2.6 billion at December 31, 2010. Unrealized losses on corporate bonds decreased from $86.7 million at December 31, 2009 to $28.2 million at December 31, 2010. The five largest loss positions at December 31, 2010 consisted of the following holdings:
MMCaps is a hybrid security that is backed by junior subordinated deferrable interest debentures issued by community banks and other middle-market financial institutions. The Western and Southern and Nationwide Mutual holdings are outsized positions ($14.6 million and $10.2 million market value, respectively) in major insurance companies that were affected by the 2008 financial crisis. Hearst-Argyle Television was impacted by a transaction to take it private by its parent, Hearst, Inc., in 2010. The First Tennessee position is a hybrid security in a regional bank (First Horizon Corp.) that has been impacted by losses in residential and commercial lending.
At December 31, 2010, preferred stock losses of duration longer than 12 months totaled $6.8 million on a cost basis of $55.6 million. The largest loss of $3.0 million is a $6.97 million market value position in 5 ¾% preference shares in the Royal Bank of Scotland. Although non-cumulative, Royal Bank of Scotland has asserted that it has a contractual obligation to continue to pay these dividends under the indenture of this issue or risk a default of an associated bond issue. It has asserted that it will continue to pay these dividends unless prohibited by its financial regulators. The next four positions include a $1.2 million loss position in a National Westminster Bank 8 5/8% preference stock, also of the Royal Bank of Scotland; $390,204 loss in a Duke Realty 6 ½% preferred; $291,674 loss in a Morgan Stanley 6 ¼% capital trust preferred and $228,000 loss in a Bank Santander 6.41% preferred.
The rating affirmation of Presidential Life reflects its favorable risk-adjusted capitalization, growth in its core annuity business and positive earnings over a five-year period. While the Company’s earnings are positive and capitalization levels remain favorable, both its capitalization and pre-tax earnings declined in recent years due to the economic crisis and low interest rate environment. In addition, A.M. Best believes lower investment yields due to the current interest rate environment may result in further spread compression and lead to lower earnings.
Results of Operations - Comparison of Fiscal Year 2010 to Fiscal Year 2009 and Fiscal Year 2009 to Fiscal Year 2008.
Net investment income and equity in earnings (loss) on limited partnerships
The Company’s sales team worked diligently with our general agent distribution channel and additional focus was placed on our Accident and Health, immediate annuity and Graded Benefit Life product lines. In 2010, Accident and Health premiums increased by 24% or $1.9 million, Immediate annuity premiums increased by 12% or $9.2 million, while Life premiums increased by 8% or $1.5 million. The independent agent marketplace continues to be the company’s major source of distribution.
Net realized investment gains (losses) including other than temporary impairment losses, pre-tax, amounted to $26.9 million in 2010, $4.2 million in 2009 and $(26.7 million) in 2008. With improving market conditions in 2009 and 2010, the Company experienced a reduction in impairment charges associated with the fixed maturity portfolio when compared to 2008. Other than temporary impairments charges amounted to $1.4 million, $7.8 million and $21.1 million in 2010, 2009 and 2008, respectively. When impairments are determined to be other than temporary, the Company adjusts the book value to reflect the fair value, as appropriate, on a quarterly basis and the amount of the impairments are recorded as realized investment losses in the income statement. Realized investment gains (losses) also result from the sale of certain equity and convertible securities and calls and sales of fixed maturity investments in the Company’s investment portfolio. Also, the change in the fair value of the derivative instruments, even if the investments continue to be held by the Company, is reflected in the income statement as a realized gain or loss. Net realized investment gains derived from the limited partnership portfolio using the fair value method of accounting amounted to $26.2 million, $7.2 million and $21.2 million in 2010, 2009 and 2008, respectively.
Interest credited and benefits paid to policyholders amounted to $229.6 million in fiscal 2010 as compared to $214.6 million in fiscal 2009 and $208.7 million in fiscal 2008. These represent an increase of 7% comparing fiscal 2010 to fiscal 2009 and a 2.8% increase in comparing fiscal 2009 to fiscal 2008.
The interest expense on our notes payable amounted to approximately $0.8 million in 2009 and approximately $7.4 million in 2008. The decrease in 2009 was due to the repayment of our senior note in February of 2009. The Company did not incur any interest expense in 2010.
General Expenses and Taxes, Commissions, Costs Related to Consent Revocation and Proxy Solicitation
General expenses, taxes, commissions to agents and costs related to consent revocation and proxy solicitation totaled $27.3 million in 2010 as compared to $30.5 million in 2009 and $26.8 million in 2008. This represents a decrease of 10.5% comparing 2010 to 2009 and an increase of 13.8% comparing 2009 to 2008. The decrease in 2010 was primarily due to lower commissions as low interest rates dramatically slowed the sales of deferred annuities. The increase in 2009 was primarily due to increased corporate and legal expenses in connection with Herbert Kurz’s commencement of a failed consent solicitation.
The change in the net DAC for the year ended December 31, 2010 resulted in a charge of approximately $5.3 million, as compared to a charge of approximately $1.0 million for the year ended December 31, 2009 and a charge of approximately $4.4 million for the year ended December 31, 2008. Changes in DAC consist of three elements: deferred costs associated with product sales, amortization of the DAC on deferred annuity business and amortization of the DAC on the remainder of the Company’s business, and is summarized below:
As a result of the factors and results discussed above, the Company had net income of approximately $21.5 million in 2010, as compared to $14.7 million in 2009 and a net loss of approximately $2.5 million in 2008.
Accumulated other comprehensive income increased from approximately $13.8 million at December 31, 2009 to $99.5 million at December 31, 2010. The increase was due to an increase in net unrealized investment gains, net of taxes, during the year of approximately $85.8 million. General economic and market conditions were the primary reasons for the increase.
The Company is an insurance holding company and its primary uses of cash are operating expenses and dividend payments. The Company’s principal sources of cash are sales of and interest on the Company’s investments, rent from its real estate and dividends from the Insurance Company. In 2008, the Board of Directors reduced the quarterly dividend by 50% to $.0625 per share as a prudent measure to preserve capital. During 2010, 2009 and 2008, the Company did not repurchase any of its common stock, although at December 31, 2010, the Company was authorized to purchase approximately 385,000 shares of common stock.
The Insurance Company is subject to various regulatory restrictions on the maximum amount of payments, including loans, dividends or cash advances, that it may make to the Company without obtaining prior regulatory approval. Under the New York Insurance Law, the Insurance Company is permitted, without prior insurance regulatory clearance, to pay a dividend to the Company as long as the aggregate amount of all such dividends in any calendar year does not exceed the lesser of (i) 10% of its statutory surplus as of the immediately preceding calendar year or (ii) its statutory net gain from operations for the immediately preceding calendar year (after tax, excluding realized capital gains and losses). The Insurance Company will only be permitted to pay a dividend to the Company in excess of that amount if it files notice of its intention to declare such a dividend and the amount thereof with the Superintendent and the Superintendent does not disapprove the distribution. The Insurance Company paid $23.0 million, $24.8 million and $35.7 million in dividends to the Company in fiscal 2010, 2009 and 2008, respectively. In 2011, the Insurance Company would be permitted to pay a stockholder dividend of up to $26.9 million to the Company without prior regulatory clearance. On a going forward basis, there can be no assurance that the Insurance Company will have sufficient statutory earnings to fund its cash requirements and pay cash dividends or that the Superintendent will not disapprove any dividends that the Insurance Company must submit for the Superintendent’s consideration.
Given the Insurance Company’s historical cash flow and current financial results, management believes that, for the reasonably foreseeable future, the Insurance Company’s cash flow from operating activities will provide sufficient liquidity for the operations of the Insurance Company.
Public or private offerings of common stock, preferred stock or other securities.
For purposes of the Company's consolidated statements of cash flows, financing activities relate primarily to sales and surrenders of the Insurance Company's annuity and universal life insurance products. The payment of dividends by the Company to its stockholders is also considered to be a financing activity. Net cash used in the Company's financing activities amounted to approximately $52.6 million, $62.1 million and $203.3 million in 2010, 2009 and 2008, respectively. These fluctuations primarily are attributable to changes in policyholder account balances as a result of surrenders, sales and interest earned by the policyholders. The repayment of the Corporate debt was also a primarily use of cash in 2009 and 2008.
A persistent focus of our management is maintaining the appropriate balance between the duration of invested assets and the duration of contractual liabilities to the Company’s annuity holders and credit suppliers. Towards this end, at least quarterly, the investment department of the Company determines the duration of the Company’s invested assets in coordination with the Company’s actuaries, who are responsible for calculating the liability duration. In the event it is determined that the duration gap between its assets and liabilities exceeds a one year target level, the Company may re-position its assets through the sale of invested assets or the purchase of new investments. The Company manages the investment portfolio focusing on duration management to support our current and future liabilities. Through periodic monitoring of the effective duration of the company’s assets and liabilities, the company ensures that the degree of duration mismatch is within the guidelines of the Company’s policy which provides for a mismatch of up to one year. As of December 31, 2010 and December 31, 2009, the effective duration of the Company's fixed income portfolio was approximately 5.6 and 4.9 years, respectively. The effective duration of the Company’s liabilities for the same periods was approximately 5.8 and 5.3 years.
In December 2010, the Company executed a new series of Payor Swaptions expiring in January 2015, 2016 and 2017 for a total consideration of $9,975,000. The counterparties were 2 major U.S. money center banks rated Aaa/AAA and Aa1/AA- by Moody’s and Standard & Poor’s, respectively. Total notional value of the Swaptions is $221,500,000 and is designed to cover approximately ½ of the potential portfolio loss in the event of a 500 basis point rise in interest rates from current levels.
The following presents a summary of the Company’s significant contractual obligations as of December 31, 2010.
(2) The difference between the recorded liability of $3,157.7 million, and the total payment obligation amount of $4,613.1 million, is $1,455.4 million and is comprised of (i) future interest to be credited; (ii) the effect of mortality discount for those payments that are life contingent; and (iii) the impact of surrender charges on those contracts that have such charges.
In a declining interest rate environment, the Company's cost of funds would be expected to decrease over time, reflecting lower interest crediting rates on its fixed annuities. Conversely, in an increasing interest rate environment, the cost of funds would be expected to increase, reflecting higher interest crediting rates. Should increased liquidity be required for withdrawals in such an interest rate environment, management believes that the portion of the Company's investments that are designated as available for sale in the Company's consolidated balance sheet could be sold without materially adverse consequences in light of the general strengthening in market prices that would be expected in the fixed maturity security market.
Interest rate changes also may have temporary effects on the sale and profitability of our annuity products. For example, if interest rates rise, competing investments (such as annuity or life insurance products offered by the Company's competitors, certificates of deposit, mutual funds and similar instruments) may become more attractive to potential purchasers of the Company's products until the Company increases the rates credited to holders of its annuity products. In contrast, as interest rates fall, we would attempt to lower our credited rates to compensate for the corresponding decline in net investment income. As a result, changes in interest rates could materially adversely affect the financial condition and results of operations of the Company depending on the attractiveness of alternative investments available to the Company's customers. In that regard, in the current interest rate environment, the Company has attempted to maintain its credited rates at competitive levels designed to discourage surrenders and also to be considered attractive to purchasers of new annuity products.
The Company defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. In many cases, the exit price and the transaction (or entry) price will be the same at initial recognition. However, in certain cases, the transaction price may not represent fair value. It requires that fair value be a market-based measurement in which the fair value is determined based on a hypothetical transaction at the measurement date, considered from the perspective of a market participant. When quoted prices are not used to determine fair value, the Company considers three broad valuation techniques: (i) the market approach, (ii) the income approach, and (iii) the cost approach. The Company determines the most appropriate valuation technique to use, given what is being measured and the availability of sufficient inputs. The Company prioritizes the inputs to fair valuation techniques and allows for the use of unobservable inputs to the extent that observable inputs are not available. The Company categorizes its assets and liabilities measured at estimated fair value into a three-level hierarchy, based on the priority of the inputs to the respective valuation technique. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). An asset or liability’s classification within the fair value hierarchy is based on the lowest level of input to its valuation. The input levels are as follows:
The Company’s investments in fixed maturity and equity securities, investments in trading securities and certain short-term investments are reported at their estimated fair value. In determining the estimated fair value of these investments, various methodologies, assumptions and inputs are utilized, as described further below.
The Company initially estimates the fair value of investments in certain limited partnerships by reference to the transaction price. Subsequently, the Company generally obtains the fair value of these investments from net asset value information provided by the general partner or manager of the investments, the financial statements of which are generally audited annually. The Company considers observable market data and performs diligence procedures in validating the appropriateness of using the net asset value as a fair value measurement. The remaining carrying value recognized in the consolidated balance sheets represents investments in other limited partnership interests accounted for using the equity method, which do not meet the definition of financial instruments for which fair value is required to be disclosed.
For equity method investees, the Company considers financial and other information provided by the limited partnerships, other known information and inherent risks in the underlying investments, as well as future capital commitments, in determining whether an impairment has occurred. When an OTTI is deemed to have occurred, the Company records a realized capital loss to record the investment at its estimated fair value.
Where consolidation is not appropriate, the Company applies the equity method of accounting consistent with ASC 323, Investments - Equity Method and Joint Ventures, to limited partnerships in which the Company holds either (a) a five percent or greater interest or (b) less than a five percent interest, but with respect to which partnership the Company has more than virtually no influence over the operating or financial policies of the limited partnership. The Company records realized and unrealized earnings (or losses) of the limited partnerships in net income each period. Generally, the Company records its share of its earnings using a three month lag.
For the years ended December 31, 2010, 2009, and 2008, approximately 36.3%, 51.4% and 54.1%, respectively, of premiums from traditional life, annuity, universal life and investment-type contracts received by the Company were attributable to sales to annuitants and policyholders residing in the State of New York.
To demonstrate the sensitivity of our net DAC balance ($57.0 million as of December 31, 2010) relative to our future spreads and expenses, the information below indicates how much the net DAC balance would have changed if the future spread assumption decreased by 30% and if the future expense assumption increased by 30%. We believe that any variation in our expense or spread estimate is likely to fall within these ranges.
The reserves reflected in the Company’s consolidated financial statements included herein are calculated based on GAAP and differ from those specified by the laws of the various states in which the Insurance Company does business and those reflected in the Insurance Company's statutory financial statements. These differences arise from the use of different mortality and morbidity tables and interest rate assumptions, the introduction of lapse assumptions into the reserve calculation and the use of the net level premium reserve method on all insurance business. See “Notes 1H and 1I to the Notes to the Consolidated Financial Statements.”
For policies and contracts where the reserve is reported as the account balance ($2,401.5 million), a change in expected experience would have no effect on the reserve.
For traditional life insurance business ($48.9 million of reserves), establishing reserves requires the use of many assumptions. Due to the number of independent variables inherent in the calculation of these reserves, and because this business is not material to the overall Company results, it is not practical to perform a quantitative analysis on the impact of changes in underlying assumptions. However, the Insurance Company historically has not experienced significant adverse deviations from its assumptions and believes that its assumptions are realistic and produce reserves that are fairly stated in accordance with GAAP.
The Company accounts for income taxes under FASB Codification Topic 740-10-25 (“ASC 740-10-25”). Accordingly, we use the asset and liability method to record deferred income taxes. Accordingly, deferred income tax assets and liabilities are recognized that reflect the net tax effect of the temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, using enacted tax rates. Such temporary differences are primarily due to tax basis of reserves for future policy benefits, deferred acquisition costs, and net operating loss carry forwards. A valuation allowance is applied to deferred tax assets if it is more likely than not that all, or some portion, of the benefits related to the deferred tax assets will not be realized.