NBLIC subleases general office space in Long Island City, New York under a sublease expiring in March 2020.
In Canada, we lease general office space in Mississauga, Ontario under a lease expiring in October 2030 and warehouse and printing operation space in Mississauga, Ontario under a separate lease also expiring in October 2030.
We believe that our existing facilities in the U.S. and Canada are adequate for our current requirements and for our operations for the foreseeable future.
Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to inform the reader about matters affecting the financial condition and results of operations of Primerica, Inc. (the “Parent Company”) and its subsidiaries (collectively, “we,” “us” or the “Company”) for the three-year period ended December 31, 2018. As a result, the following discussion should be read in conjunction with the consolidated financial statements and accompanying notes that are included herein. This discussion contains forward-looking statements that constitute our plans, estimates and beliefs. These forward-looking statements involve numerous risks and uncertainties, including, but not limited to, those discussed in “Risk Factors”. Actual results may differ materially from those contained in any forward-looking statements.
Our ability to increase the size of the independent sales force (“sales representatives” or “sales force”) is largely based on the success of the sales force’s recruiting efforts as well as training and motivating recruits to get licensed to sell life insurance. We believe that recruitment and licensing levels are important to sales force trends, and growth in recruiting and licensing is usually indicative of future growth in the overall size of the sales force. Recruiting changes do not always result in commensurate changes in the size of the licensed sales force because new recruits may obtain the requisite licenses at rates above or below historical levels.
New recruits declined in 2018 to 290,886 from 303,867 in 2017, which benefitted from approximately 19,000 additional recruits whose Independent Business Application (“IBA”) fees were waived from areas affected by severe hurricanes in 2017. Recruiting activity in 2018 and 2017 was relatively consistent when excluding the impact of recruits with waived IBA fees.
In 2017, new recruits increased to 303,867 from 262,732 in 2016 primarily due to sustained growth in the size of the sales force, resulting in more agents available to actively recruit as well as the inclusion of recruits whose IBA fees were waived.
In 2017, the size of the life-licensed sales force increased to 126,121 from 116,827 at December 31, 2016 primarily due to the benefit of robust recruiting activity in prior periods. The number of life-licensed sales representatives as of December 31, 2017 was not significantly affected by the additional recruits from the hurricane-affected areas who received the IBA fee waivers.
New life insurance policies increased in 2017 from 2016 largely due to sustained growth in the size of the life-licensed sales force in prior periods. Productivity in 2017 was consistent with 2016 productivity and at the higher end of our historical range.
The face amount of term life insurance policies in force increased from 2017 to 2018 and from 2016 to 2017 as the level of face amount issued continued to exceed the face amount of policy terminations. As a percentage of the beginning face amount in force, issued face amount as well as terminated face amount during 2018 remained consistent with 2017 and 2016. The effect of a stronger U.S. dollar in relation to the Canadian dollar unfavorably impacted the translated face amount in force and partially offset the overall increase in issued face amount in 2018. During 2017, the strengthening of the Canadian dollar relative to the U.S. dollar contributed to the increase in face amount. Our average issued face amount in 2018 was relatively consistent with 2017 at approximately $246,200 and $244,800, respectively. In 2017, our average issued face amount increased modestly from approximately $241,500 in 2016.
Product sales. The increase in investment and savings product sales in 2018 from 2017 was largely attributable to strong growth in managed investments as a result of the Lifetime Investment Platform that we launched in the second quarter of 2017 as well as higher variable annuity sales, reflecting enhanced product offerings by our product partners and improved investor demand for variable annuities. Higher retail mutual funds sales also contributed to the increase in product sales as strong market performance experienced through most of 2018 contributed to higher investor demand for retail mutual funds in 2018.
In 2017, investment and savings product sales increased from 2016 largely due to the positive impact of market performance on investor demand for U.S. retail mutual funds as well as increased sales of managed investments reflecting the launch of the Primerica Advisors Lifetime Investment Platform product during the second quarter of 2017. These increases were partially offset by lower sales of variable annuity products, in line with industry trends and a shift in 2017 from 2016 of larger size trades to managed accounts and retail mutual funds.
In 2017, the average client asset values increased from 2016 primarily due to market appreciation and continued positive net flows in prior periods.
Rollforward of client asset values. Client asset values decreased during 2018 from 2017 largely due to a decline in market value reflecting unfavorable market performance near the end of 2018. Also contributing to the decrease in client asset values was the negative effect of a lower Canadian dollar on the translated amount of Canadian client assets. Inflows from product sales outpaced redemptions and remained consistent as a percentage of beginning client assets when compared with 2017.
In 2017, client asset values increased from 2016 largely due to positive market performance and continued inflows from product sales, which outpaced redemptions.
On September 13, 2018, the CSA published for comment proposed amendments that would prohibit upfront sales commissions by fund companies for the sale of mutual funds offered under a prospectus in Canada. The CSA has indicated that the prohibition of upfront sales commissions by fund companies will eliminate the use of the mutual fund deferred sales charge compensation model, which is the primary model for the mutual funds we distribute in Canada. These proposed amendments follow the June 21, 2018 publication of the CSA’s policy decision on embedded commissions and its proposed Client Focused Reforms. Under proposed enhanced conflict of interest rules in the Client Focused Reforms, all embedded commissions would be considered conflicts that must be addressed in the best interests of clients or avoided. The proposed amendments were open for comment through December 13, 2018. If such rules are adopted, changes in compensation arrangements with the fund companies that offer the mutual fund products we distribute in Canada may be necessary.
Sales and policies in force. Sales of term policies and the size and characteristics of our in-force book of policies are vital to our results over the long term. Premium revenue is recognized as it is earned over the term of the policy, and eligible acquisition expenses are deferred and amortized ratably with the level premiums of the underlying policies. However, because we incur significant cash outflows at or about the time policies are issued, including the payment of sales commissions and underwriting costs, changes in life insurance sales volume in a period will have a more immediate impact on our cash flows than on revenue and expense recognition in that period.
Persistency. Persistency is a measure of how long our insurance policies stay in force. As a general matter, persistency that is lower than our pricing assumptions adversely affects our results over the long term because we lose the recurring revenue stream associated with the policies that lapse. Determining the near-term effects of changes in persistency is more complicated. When actual persistency is lower than our pricing assumptions, we must accelerate the amortization of deferred policy acquisition costs (“DAC”). The resultant increase in amortization expense is offset by a corresponding release of reserves associated with lapsed policies, which causes a reduction in benefits and claims expense. The future policy benefit reserves associated with any given policy will change over the term of such policy. As a general matter, future policy benefit reserves are lowest at the inception of a policy term and rise steadily to a peak before declining to zero at the expiration of the policy term.
Accordingly, depending on when the lapse occurs in relation to the overall policy term, the reduction in benefits and claims expense may be greater or less than the increase in amortization expense, and, consequently, the effects on earnings for a given period could be positive or negative. Persistency levels will impact results to the extent actual experience deviates from the persistency assumptions that are locked-in at time of issue.
In 2010, as part of our corporate reorganization and the initial public offering of our common stock, we entered into significant coinsurance transactions (the “IPO coinsurance transactions”) with entities then affiliated with Citigroup, Inc. (collectively, the “IPO coinsurers”) and ceded between 80% and 90% of the risks and rewards of our term life insurance policies that were in force at year-end 2009. We administer all such policies subject to these coinsurance agreements. Beginning in 2017, policies reaching the end of their initial level term period are no longer ceded under the IPO coinsurance transactions.
Ceded premiums. Ceded premiums are the premiums we pay to reinsurers. These amounts are deducted from the direct premiums we earn to calculate our net premium revenues. Similar to direct premium revenues, ceded coinsurance premiums remain level over the initial term of the insurance policy. Ceded YRT premiums increase over the period that the policy has been in force. Accordingly, ceded YRT premiums generally constitute an increasing percentage of direct premiums over the policy term.
Asset values in client accounts. We earn marketing and distribution fees (trail commissions or, with respect to U.S. mutual funds, 12b-1 fees) on mutual fund and annuity assets in the United States and Canada. In the United States, we also earn investment advisory and administrative fees on assets in managed investments. In Canada, we earn management fees on certain mutual fund assets and on the segregated funds for which we serve as investment manager. Asset values are influenced by new product sales, ongoing contributions to existing accounts, redemptions and the change in market values in existing accounts. While we offer a wide variety of asset classes and investment styles, our clients’ accounts are primarily invested in equity funds.
The year-end exchange rates used by the Company to translate our Canadian dollar functional currency assets and liabilities into U.S. dollars decreased by 8% in 2018 from 2017 and it increased by 7% in 2017 from 2016. The average exchange rates used by the Company in 2018 to translate our Canadian dollar functional currency revenues and expenses into U.S. dollars remained consistent with 2017 and it decreased by 2% in 2017 from 2016.
Income Taxes. The profitability of the Company and its subsidiaries is affected by income taxes assessed by federal, state, and U.S. territorial jurisdictions in the U.S. and federal and provincial jurisdictions in Canada. Changes in tax legislation, such as the Tax Cuts
and Jobs Act of 2017 (the “Tax Reform Act”), impact the measurement of our deferred tax assets and liabilities and the amount of income tax expense we incur.
Deferred Policy Acquisition Costs. We defer incremental direct costs of successful contract acquisitions that result directly from and are essential to the contract transaction(s) and that would not have been incurred had the contract transaction(s) not occurred. These costs include commissions and policy issue expenses. Deferrable term life insurance policy acquisition costs are amortized over the initial premium-paying period of the related policies in proportion to premium income and include assumptions made by us regarding persistency, expenses, interest rates and claims, which are updated on new business to reflect recent experience. These assumptions may not be modified, or unlocked on in-force term life insurance business, unless recoverability testing deems estimated future cash flows to be inadequate. DAC is subject to recoverability testing annually and when circumstances indicate that recoverability is uncertain.
Future Policy Benefit Reserves and Reinsurance. Liabilities for future policy benefits on our term life insurance products are reserves established for death claims and waiver of premium benefits and have been computed using a net level method and include assumptions as to mortality, persistency, interest rates, disability rates, and other assumptions based on our historical experience, modified as necessary for new business to reflect anticipated trends and to include provisions for possible adverse deviation. Reserves related to reinsured policies are accounted for using assumptions consistent with those used to determine the future policy benefit reserves and are included in Reinsurance recoverables in our consolidated balance sheets. Similar to the term life insurance DAC discussion above, we do not modify the assumptions used to establish future policy benefit reserves during the policy term unless recoverability testing deems them to be inadequate and there is no remaining DAC associated with the underlying policies. Our results depend significantly upon the extent to which our actual experience is consistent with the assumptions we used in determining our future policy benefit reserves. Our future policy benefit reserve assumptions and estimates require significant judgment and, therefore, are inherently uncertain. We cannot determine with precision the ultimate amounts that we will pay for actual claims or the timing of those payments.
The net impact of differences between actual and expected persistency on future policy benefit reserves and reinsurance recoverables will partially offset the earnings impact recognized from DAC amortization noted above. In our Term Life Insurance segment, if actual annual lapses at each policy duration are 10% higher, the additional future policy benefit reserves that would be released is approximately $24 million, partially offset by the release of the corresponding recoverable from reinsurers asset of approximately $11 million using balances as of December 31, 2018. Higher lapses in later policy durations would have a greater effect on the release of future policy benefit reserves since the future policy benefit reserves are higher at the later durations.
Income Taxes. We account for income taxes using the asset and liability method. We recognize deferred tax assets and liabilities for the future tax consequences attributable to (i) temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and (ii) operating loss and tax credit carryforwards. Deferred tax assets are recognized subject to management’s judgment that realization is more likely than not applicable to the periods in which we expect the temporary difference will reverse. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. For example, as of December 31, 2017, we measured our deferred tax assets and liabilities for temporary differences subject to U.S. federal income tax using the 21% statutory rate that became effective on January 1, 2018 as a result of the Tax Reform Act enacted on December 22, 2017. We recognized the effect on deferred tax assets and liabilities of a change in tax rates in income in the period that includes the enactment date and, therefore, we have recognized the impact from the previous 35% statutory rate to the updated 21% statutory rate through income during the year ended December 31, 2017.
Invested Assets. We hold primarily fixed-maturity securities, including bonds and redeemable preferred stocks. We have classified these invested assets as available-for-sale, except for the securities of our U.S. broker-dealer subsidiary, which we have classified as trading securities. We also hold a credit-enhanced note, which we classified as a held-to-maturity security that was issued in exchange for a surplus note (the “Surplus Note”) with an equal principal amount as part of a redundant reserve financing transaction. All of these securities are carried at fair value, except for the held-to-maturity security, which is carried at amortized cost. Unrealized gains and losses on available-for-sale securities, except for other-than-temporary impairments (“OTTI”) discussed below, are included as a separate component of other comprehensive income in our statements of comprehensive income.
OTTI analyses that we perform involve the use of estimates, assumptions, and subjectivity. If these factors or future events change, we could experience material OTTI in future periods, which could adversely affect our financial condition, results of operations and the size and quality of our invested assets portfolio.
Benefits and claims. Reflects the benefits and claims payable on insurance policies, as well as changes in our reserves for future policy claims and reserves for other benefits payable, net of reinsurance.
Amortization of DAC. Represents the amortization of capitalized costs directly associated with the sale of an insurance policy or segregated fund, including sales commissions, medical examination and other underwriting costs, and other eligible policy issuance costs.
Interest expense. Reflects interest on our notes payable, any interest and the commitment fee on our revolving credit facility, the financing charges related to the letter of credit issued under the credit facility agreement with Deutsche Bank (the “Peach Re Credit Facility Agreement”), fees paid for the credit enhancement feature on our held-to-maturity invested asset, and a finance charge incurred pursuant to one of our coinsurance agreements with an IPO coinsurer.
Total revenues. Total revenues increased in 2018 from 2017 primarily due to the incremental premiums on term life insurance policies that are not subject to the IPO coinsurance transactions. The run-off of business subject to these transactions is reflected in the decline in ceded premiums. Additionally, the higher level of term life insurance policy sales in recent periods contributed to the increase in both direct and net premiums. Commissions and fees from our Investment and Savings Products segment increased largely due to growth in client asset values and higher investment and savings product sales. Also contributing to the increase in commissions and fees was $26.8 million of higher account-based revenue primarily from revised contracts with a mutual fund provider and a service provider that expanded the scope of the Company’s transfer agent recordkeeping platform.
Net investment income increased in 2018 over 2017 by $8.2 million from growth in the size of our invested asset portfolio. Lower portfolio yields in 2018 offset this growth by $6.2 million. Investment income net of investment expenses includes interest earned on our held-to-maturity invested asset, which is completely offset by interest expense on the Surplus Note, thereby eliminating any impact on net investment income. Amounts recognized for each line item will remain offsetting and will fluctuate from period to period along with the principal amounts of the held-to-maturity asset and the Surplus Note based on the balance of reserves being contractually supported under a redundant reserve financing transaction used by Vidalia Re, Inc. (“Vidalia Re”), a special purpose financial captive insurance company and wholly owned subsidiary of Primerica Life Insurance Company (“Primerica Life”). For more information on the Surplus Note, see Note 10 (Debt) and for additional information on the redundant reserve financing transaction used by Vidalia Re, see Note 4 (Investments) to our consolidated financial statements included elsewhere in this report.
The change in realized investment gains (losses), including OTTI losses from 2017 to 2018 was largely due to the adoption of ASU 2016-01 in 2018 that resulted in the recognition of $2.5 million of net losses for the change in fair value of equity securities that would have been recorded as other comprehensive income (loss) prior to the adoption of ASU 2016-01. This net loss was partially offset by $0.3 million in net gains recognized from the sale of certain securities.
Other, net revenues increased in 2017 from 2016 mostly due to the increase in fees collected for POL as a result of subscriber growth that coincided with growth in the size of the sales force. Similarly, the increase in these fees was accompanied by higher technology spending incurred primarily to support and enhance POL as noted below in the “Total benefits and expenses” section.
Total benefits and expenses. Total benefits and expenses increased in 2018 from 2017 primarily due to growth in premium-related costs, which include benefits and claims and amortization of DAC. Although benefits and claims increased in 2018 versus 2017, the rate of growth was slower than the rate of net premium growth as claims experience for 2018 was favorable relative to 2017 by approximately $4 million. This is believed to be normal claims volatility/fluctuation. Insurance expenses and other operating expenses increased reflecting higher costs of $25.2 million in performing transfer agent recordkeeping services largely from the revised contracts discussed above as well as $9.1 million of increased spending on initiatives as a result of savings from the Tax Reform Act. Also contributing to the increase in insurance expenses and other operating expenses was incremental spending of $7.5 million on digital development and other technology initiatives, and $7.2 million of higher employee-related costs and other expenses incurred to support growth in the business.
Income taxes. Our effective income tax rate of 22.1% in 2018 reflects the new lower tax rate as well as $2.7 million of lower income tax expenses resulting from adjustments to the provisional amounts recognized due to the enactment of the Tax Reform Act in 2017. For more information on adjustments to the provisional amounts recognized due to the enactment of the Tax Reform Act, see Note 11 (Income Taxes) to our consolidated financial statements included elsewhere in this report.
Term Life Insurance Segment. Our results for the Term Life Insurance segment for the years ended December 31, 2018, 2017, and 2016 were as follows:
Net premiums. Direct premiums increased in 2018 from 2017 largely due to the higher level of new policies issued in recent years. The decline in ceded premiums includes $63.5 million in lower coinsurance ceded premiums due to the run-off of business subject to the IPO coinsurance transactions, which declined more than the prior year due to policies reaching the end of their initial level term period no longer being ceded under the IPO coinsurance transactions. Partially offsetting the run-off of business subject to IPO transactions was $44.3 million in higher non-level YRT reinsurance ceded premiums as business not subject to the IPO coinsurance transactions ages. The continued impact from the increase in direct premiums combined with the decrease in ceded premiums caused net premiums to grow at a higher rate than direct premiums.
Benefits and claims increased in 2017 from 2016 primarily due to the growth in net premiums. Actual life claims experience in the first half of 2017 negatively impacted benefits and claims by $6 million. However, this impact from claims experience was mostly offset by YRT rate reductions negotiated for 2014 and later issue years, which continues to dampen the growth in benefits and claims relative to the growth in net premiums.
Insurance expenses. Insurance expenses increased in 2018 from 2017 largely due to higher employee-related costs and other expenses of $7.2 million incurred to support growth in the business as well as increased spending of $5.1 million on initiatives entered into as a result of savings from the Tax Reform Act. Also contributing to the year-over-year increase in insurance expenses was incremental spending of $5.3 million on growth-related expenses and $3.2 million of higher costs on digital development and other technology initiatives.
Commissions and fees increased in 2017 from 2016 primarily due to growth in asset-based revenues, reflecting higher average client asset values as a result of market appreciation and net positive inflows. Sales-based revenues also contributed to the increase in commissions and fees due to higher product sales during the first half of 2017 while being partially offset by the change in sales mix towards product offerings with lower sales-based commission rates. Account-based revenues increased due to a change in our account-based fee structure on U.S. qualified accounts since the prior year and a shift in mix among fund families on our recordkeeping platform, as well as an increase in the average number of positions and accounts for which we earn recordkeeping fees and custodial fees, respectively.
Amortization of DAC. Amortization of DAC increased in 2018 from 2017 largely due to unfavorable market performance of the funds underlying our Canadian segregated funds in the first and fourth quarters of 2018.
Other operating expenses. Other operating expenses increased in 2018 from 2017 primarily due to $25.2 million of higher costs in performing transfer agent recordkeeping services largely from the revised contracts discussed above, increased spending of $5.5 million to support growth in the business, and $2.4 million of incremental spending on initiatives entered into as a result of savings from the Tax Reform Act and digital development and other technology initiatives.
Other operating expenses increased in 2017 from 2016 largely due to growth in expenses of $2.4 million based on client assets, higher costs of $1.8 million related to the launch of the new Primerica Advisors Lifetime Investment Platform during the second quarter of 2017, and technology spending of $1.7 million for a new sales tool to support the agents’ distribution of products. These increases in other operating expenses were partially offset by $1.4 million of lower costs related to preparation for implementation of the fiduciary rule that was proposed by the Department of Labor in 2016 but ultimately was vacated in federal court.
Total Benefits and Expenses. Total benefits and expenses increased in 2018 from 2017 largely due to higher aggregate spending of $6.0 million on initiatives entered into as a result of savings from the Tax Reform Act and digital development and other technology initiatives. Sales commission increased $2.8 million reflecting higher commission and fees revenues. The increase in total benefits and expenses was partially offset by a decline in benefits and claims of $2.0 million due to the run-off of the closed blocks of business issued by NBLIC.
We invest a portion of our portfolio in assets denominated in Canadian dollars to support our Canadian operations. Additionally, to ensure adequate liquidity for payment of claims, we take into account the maturity and duration of our invested asset portfolio and our general liability profile.
Reinsurance recoverables. Reinsurance recoverables reflects future policy benefit reserves and claim reserves due from third-party reinsurers, including the IPO coinsurers. Reinsurance recoverables as of December 31, 2018 decreased compared with December 31, 2017 primarily due to the continued run-off of business that is ceded to the IPO coinsurers. In addition, the impact that the lower Canadian spot rate had on the U.S. dollar translated balance of Canadian reinsurance recoverables contributed to the decrease from December, 31 2017 to December 31, 2018.
Deferred policy acquisition costs, net. The increase in DAC was primarily a result of the cumulative impact of incremental commissions and expenses deferred as a result of new business in 2018 not subject to the IPO coinsurance agreements.
Future policy benefits. The increase in future policy benefits was primarily a result of the growth in our in-force book of business.
Dividends and other payments to the Parent Company from its subsidiaries are our principal sources of cash. The amount of dividends paid by the subsidiaries is dependent on their capital needs to fund future growth and applicable regulatory restrictions. The primary uses of funds by the Parent Company include the payments of stockholder dividends, interest on notes payable, general operating expenses, and income taxes, as well as repurchases of shares of our common stock outstanding. During 2018, our life insurance underwriting companies declared and paid ordinary dividends of $222.8 million to the Parent Company. See Note 15 (Statutory Accounting and Dividend Restrictions) to our consolidated financial statements included elsewhere in this report for more information on insurance subsidiary dividends and statutory restrictions. In addition, in 2018 our non-life insurance subsidiaries declared and paid dividends of $80.1 million to the Parent Company. At December 31, 2018, the Parent Company had cash and invested assets of $151.8 million.
Operating activities. Cash provided by operating activities increased in 2018 from 2017 driven by growth in cash receipts from the collection of premium revenues in excess of benefits and claims paid in our Term Life Insurance segment. The impact of direct premium growth and the additional layering of net premiums from term life insurance policies not subject to the IPO coinsurance transactions has continued to generate positive incremental cash.
The largest item affecting the 2017 versus 2016 increase in cash used in investing activities was the higher use of cash in 2017 to purchase investments in fixed-maturity securities compared with 2016 as the size of our investment portfolio continued to grow along with the growth of our in-force term life business. Additionally, in 2017 the Company had a lower level of fixed-maturity securities that matured and it sold fewer fixed-maturity securities versus the comparable period in 2016.
Cash used in financing activities during 2017 increased modestly compared to the same period in 2016 primarily due to higher tax withholdings on the vesting of employee equity awards as a result of the increased market share price of our common stock. In addition, the per share increase in stockholder dividends declared by the Company in 2017 versus 2016 also contributed to the increase in cash used in financing activities.
In Canada, an insurer’s minimum capital requirement is overseen by the Office of the Superintendent of Financial Institutions (“OSFI”) and determined as the sum of the capital requirements for five categories of risk: asset default risk; mortality/morbidity/lapse risks; changes in interest rate environment risk; segregated funds risk; and foreign exchange risk. As of December 31, 2018, Primerica Life Insurance Company of Canada was in compliance with Canada’s minimum capital requirements as determined by OSFI.
For more information regarding statutory capital requirements and dividend capacities of our insurance subsidiaries, see Note 15 (Statutory Accounting and Dividend Restrictions) to our consolidated financial statements included elsewhere in this report for more information.
On July 30, 2018, Moody’s Investors Service upgraded its credit rating for Primerica, Inc.’s Senior Notes to Baa1, stable outlook from Baa2, positive outlook.
As of December 31, 2018, Primerica Life’s financial strength ratings were as follows:
On July 30, 2018, Moody’s Investors Service upgraded its financial strength rating for Primerica Life to A1, stable outlook from A2, positive outlook.
Off-Balance Sheet Arrangements. We have no transactions, agreements or other contractual arrangements to which an entity unconsolidated with the Company is a party, under which the Company maintains any off-balance sheet obligations or guarantees as of December 31, 2018.
Contractual Obligations. Our contractual obligations, including payments due by period, were as follows:
Our liability for future policy benefits represents the present value of estimated future policy benefits to be paid, less the present value of estimated future net benefit premiums to be collected. Net benefit premiums represent the portion of gross premiums required to provide for all benefits and associated expenses. These benefit payments are contingent on policyholders continuing to renew their policies and make their premium payments. Our contractual obligations table discloses the impact of benefit payments that will be due assuming the underlying policy renewals and premium payments continue as expected in our actuarial models. The future policy benefit payments represented in the table are presented on an undiscounted basis, gross of any amounts recoverable through reinsurance agreements and gross of any premiums to be collected. We expect to fully fund the obligations for future policy benefits
from cash flows from general account invested assets, claims reimbursed by reinsurers, and from future premiums. These estimations are based on mortality and lapse assumptions comparable with our historical experience. Due to the significance of the assumptions used, the amounts presented could materially differ from actual results.
Interest obligations (reported within other liabilities in our consolidated balance sheets) reflect expected interest on our Senior Notes, the commitment fee on our Revolving Credit Facility, the financing charges related to an issued letter of credit, fees paid for the credit enhancement feature on the LLC Note, and a finance charge incurred pursuant to one of our coinsurance agreements as of December 31, 2018. We did not include the principal or interest on the Surplus Note in the table above as the payments due for these items are contractually offset by the principal and interest on the LLC Note as long as we hold the LLC Note. The Company asserts its positive intent and ability to hold the LLC Note until maturity.
Commissions represent commissions that have been earned by the sales force but have not been paid as of December 31, 2018. We are only obligated to pay commissions as earned from sales of our products. The total liability amount is reported within other liabilities in our consolidated balance sheets.
Our lease obligations primarily relate to office, warehouse, printing, and distribution properties. For additional information on leased properties, see “Item 2. Properties” included elsewhere in this report.
Use of Estimates. The preparation of financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect financial statement balances, revenues and expenses and cash flows, as well as the disclosure of contingent assets and liabilities. Management considers available facts and knowledge of existing circumstances when establishing the estimates included in our financial statements. The most significant items that involve a greater degree of accounting estimates and actuarial determinations subject to change in the future are the valuation of investments, deferred policy acquisition costs (“DAC”), future policy benefit reserves and corresponding amounts recoverable from reinsurers, and income taxes. Estimates for these and other items are subject to change and are reassessed by management in accordance with U.S. GAAP. Actual results could differ from those estimates.
Equity securities, including common and nonredeemable preferred stocks, are carried at fair value. Changes in fair value of equity securities are included in realized investment gains (losses) in the period in which the change occurred.
DAC. We defer incremental direct costs of successful contract acquisitions that result directly from and are essential to the contract transaction(s) and that would not have been incurred had the contract transaction(s) not occurred. These deferred policy acquisition costs mainly include commissions and policy issue expenses. All other acquisition-related costs, including unsuccessful acquisition and renewal efforts, are charged to expense as incurred. Also, administrative costs, rent, depreciation, occupancy, equipment, and all other general overhead costs are considered indirect costs and are charged to expense as incurred.
indefinite-lived intangible asset exceeds its fair value. For the other intangible assets, which are subject to amortization, an impairment is recognized if the carrying amount is not recoverable and exceeds the fair value of the intangible asset.
We have an indefinite-lived intangible asset related to the 1989 purchase of the right to contract with the sales force. This asset represents the core distribution model of our business, which is our primary competitive advantage to profitably distribute term life insurance and investment and savings products on a significant scale, and as such, is considered to have an indefinite life. This indefinite-lived intangible asset is supported by a significant portion of the discounted cash flows of our future business. We assessed this asset for impairment as of October 1, 2018 and determined that no impairment had occurred. There have been no subsequent events requiring further analysis.
Depreciation expense is included in other operating expenses in the accompanying consolidated statements of income. Depreciation expense was $9.0 million, $10.1 million, and $11.2 million for the years ended December 31, 2018, 2017, and 2016, respectively.
Policyholder Liabilities. Future policy benefits are accrued over the current and renewal periods of the contracts. Liabilities for future policy benefits on traditional life insurance products are reserves established for death claims and waiver of premium benefits and have been computed using a net level method, using assumptions as to interest rates, mortality, persistency, disability rates and other assumptions based on our experience, modified as necessary to reflect anticipated trends and to include provisions for possible adverse deviation. The underlying mortality tables are the Society of Actuaries (“SOA”) 65-70, SOA 75-80, SOA 85-90, and the 91 Bragg, modified to reflect various underwriting classifications and assumptions. Interest rate reserve assumptions at December 31, 2018 and 2017 ranged from 3.5% to 7.0%. For policies issued in 2010 and after, we have been using an increasing interest rate assumption to reflect the historically low interest rate environment. The liability for policy claims and other benefits payable on traditional life insurance products includes estimated unpaid claims that have been reported to us and claims incurred but not yet reported.
Income Taxes. We are subject to the income tax laws of the United States, its states, municipalities, and certain unincorporated territories, and those of Canada. These tax laws can be complex and subject to different interpretations by the taxpayer and the relevant governmental taxing authorities. In establishing a provision for income tax expense, we must make judgments and interpretations about the applicability of these tax laws. We also must make estimates about the future impact certain items will have on taxable income in the various tax jurisdictions, both domestic and foreign.
Premium Revenues. Traditional life insurance products consist principally of those products with fixed and guaranteed premiums and benefits, and are primarily related to term products. Premiums are recognized as revenues when due.
Share-Based Transactions. For employee and director share-based compensation awards, we determine a grant date fair value based on the price of our publicly-traded common stock and recognize the related compensation expense, adjusted for actual forfeitures, in the consolidated statements of income on a straight-line basis over the requisite service period for the entire award. For non-employee share-based compensation, we recognize the impact during the period of performance, and the fair value of the award is measured as of the date performance is complete, which is the vesting date. To the extent non-employee share-based compensation is an incremental direct cost of successful acquisitions or renewals of life insurance policies that result directly from and are essential to the policy acquisition(s) and would not have been incurred had the policy acquisition(s) not occurred, we defer and amortize the fair value of the awards in the same manner as other deferred policy acquisition costs.
New Accounting Principles. In May 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606) ("ASC 606"). ASC 606 clarifies the principles for recognizing revenue by establishing the core principle that an entity should recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. ASC 606 also requires additional disclosure about the nature, amount, timing and uncertainty of revenue that is recognized. Insurance contracts are specifically excluded from the scope of ASC 606 and therefore revenue from our insurance product lines is not affected by the new standard. We adopted the amendments in ASC 606 as of January 1, 2018 using the modified retrospective method. The cumulative effect of adopting ASC 606 resulted in an increase to retained earnings of $24.7 million or 1.7% on January 1, 2018. The adjustment recognized upon the adoption of ASC 606 primarily consisted of recognizing the after tax net impact of renewal commissions we anticipate collecting in future periods less the portion we pay to the sales representatives for the sale of prepaid legal service subscriptions and the referral of auto and homeowners’ insurance policies in our Corporate and Other Distributed Products segment made prior to January 1, 2018. Specifically, the cumulative effect adjustment recognized as of January 1, 2018 increased the following balance sheet line items:
After the initial product sale or referral, we earn commissions from product providers for our distribution services as clients pay ongoing subscription fees for prepaid legal service subscriptions or premiums on auto and homeowners’ insurance policies purchased through our referral channel. Prior to the adoption of ASC 606, we recognized commission revenue upon receipt of the commission revenue from the product providers, which is the point in time when revenue becomes fixed and determinable, as the commissions earned are dependent on our clients’ future renewal activity. After the adoption of ASC 606, we recognize commission revenue equal to the expected value of the commissions we will earn over the life of the subscription or the referred policy when that initial subscription sale or policy referral occurs, which coincides with when we satisfy our performance obligation to the product provider. The application of ASC 606 did not result in any material changes in the line items within our consolidated statements of income, comprehensive income and stockholders’ equity or our statement of cash flows during the year ended December 31, 2018 as compared with guidance in effect prior to the adoption of ASC 606, primarily due to the immaterial amount of revenue associated with these product distributions as well as the offsetting effect of replacing revenue for commissions received from existing sales prior to adopting ASC 606 with revenue for future estimated commissions from new sales subsequent to adopting ASC 606. Specifically, we recognized $1.6 million of additional revenue in 2018 as a result of the application of ASC 606 as compared with revenue that would have been recognized in accordance with guidance in effect prior to the adoption of ASC 606. Likewise, the application of ASC 606 as compared with guidance in effect prior to the adoption of ASC 606 did not have a material effect on the line items within our consolidated balance sheet between January 1, 2018 and December 31, 2018. In addition, no changes in the timing or measurement of revenue recognition have been made in any of our other product lines as discussed further in Note 18 (Revenue from Contracts with Customers).
In February 2016, the FASB issued Accounting Standards Update No. 2016-02, Leases (ASC 842) ("ASC 842"), which requires lessees to recognize right-of-use assets and lease liabilities on the balance sheet. We will adopt the amendments in ASC 842 in 2019 as of the January 1, 2019 application date through a cumulative-effect adjustment. The primary impact of ASC 842 will be the recognition of our operating lease obligations and corresponding right-of-use assets on our 2019 consolidated balance sheet, which mainly consist of our executive office operations and other real estate leases of office space. The impact of adopting this standard will result in an immaterial increase to assets and liabilities that is less than 1% of our total assets and total liabilities, respectively.
In June 2016, the FASB issued Accounting Standards Update No. 2016-13 ("ASU 2016-13"), Financial Instruments-Credit Losses (Topic 326) - Measurement of Credit Losses on Financial Instruments ("ASC 326"). ASC 326 introduces new guidance for accounting for credit losses on financial instruments within its scope, including reinsurance recoverables, by replacing the current approach that delays recognition until it is probable a loss has been incurred with a new approach that estimates an allowance for anticipated credit losses on the basis of an entity’s own expectations. The objective of the new approach for estimating credit losses is to require consideration of a broader range of forward-looking information, which is expected to result in earlier recognition of credit losses on financial instruments. AFS securities are excluded from the scope of financial instruments that require measurement of credit losses on the basis of a forward-looking expected loss estimate under ASC 326. The incurred probable loss approach for measuring credit losses on AFS securities will remain under ASC 326, however, an entity will be allowed to reverse credit losses previously recognized in an allowance for AFS securities (other than credit losses for securities an entity intends to sell or will more-likely-than-not be required to sell before recovery of amortized cost) in situations where the estimate of credit losses on those securities has declined. The amendments in ASC 326 also preclude an entity from considering the length of time an AFS security has been in an unrealized loss position to avoid recording a credit loss and removes the requirement to consider recoveries or declines in fair value after the balance sheet date. The amendments in ASC 326 are effective for the Company beginning in fiscal year 2020. The Company is currently in the process of evaluating its impact on the Company’s consolidated financial statements.
Notable information included in profit or loss by segment was as follows:
(1) The Investment and Savings Products segment includes assets held in separate accounts. Excluding separate accounts, the Investment and Savings Products segment assets were $102.8 million, $112.0 million, and $103.7 million as of December 31, 2018, 2017, and 2016, respectively.
Includes $0.1 million of OTTI losses related to corporates and mortgage- and asset-backed securities recognized in accumulated other comprehensive income (loss).
Includes $0.2 million of OTTI losses related to corporates and mortgage- and asset-backed securities recognized in accumulated other comprehensive income (loss).
Includes $9.8 million of net unrealized gains for equity securities recognized in accumulated other comprehensive income (loss) prior to the adoption of ASU 2016-01.
Equity securities, previously classified as trading securities, are no longer classified as trading securities due to the adoption of ASU 2016-01. As of December 31, 2018, all equity security investments held by the Company are presented in the consolidated balance sheet as equity securities.
The proceeds from sales or other redemptions of available-for-sale securities were as follows:
Analysis of individual investments that have fair values less than a pre-defined percentage of amortized cost, including consideration of the length of time the investment has been in an unrealized loss position;
The amortized costs of AFS securities with a cost basis in excess of their fair values were $1,239.6 million and $529.2 million as of December 31, 2018 and 2017, respectively.
The following tables summarize, for all AFS securities in an unrealized loss position, the aggregate fair value and the gross unrealized loss by length of time such securities have continuously been in an unrealized loss position:
Subsequent to the adoption of ASU 2016-01 all changes in the fair value of equity securities are recognized in net income and thus OTTI no longer applies to equity securities.
Derivatives. Embedded conversion options associated with fixed-maturity securities are bifurcated from the fixed-maturity security host contracts and separately recognized as equity securities. The change in fair value of these bifurcated conversion options is reflected in realized investment gains (losses), including OTTI losses. As of December 31, 2018 we did not hold any fixed-maturity securities with embedded conversion options. As of December 31, 2017, the fair value for fixed-maturity securities with embedded conversion options was $0.9 million.
Fair value is the price that would be received upon the sale of an asset in an orderly transaction between market participants at the measurement date. Invested assets recorded at fair value are measured and classified in accordance with a three-tier fair value hierarchy based on observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our view of market assumptions in the absence of observable market information. We classify and disclose all invested assets carried at fair value in one of the following three levels:
Level 1. Quoted prices for identical instruments in active markets. Level 1 consists of financial instruments whose value is based on quoted market prices in active markets, such as exchange-traded common stocks and actively traded mutual fund investments;
In estimating fair value of our investments, we use a third-party pricing service for approximately 94% of our securities that are measured at fair value on a recurring basis. The remaining securities are primarily thinly traded securities, such as private placements, and are valued using models based on observable inputs on public corporate spreads having similar characteristics (e.g., sector, average life and quality rating), liquidity and yield based on quality rating, average life and U.S. Treasury yields. All observable data inputs are corroborated by independent third-party data. We also corroborate pricing information provided by our third-party pricing service by performing a review of selected securities. Our review activities include obtaining detailed information about the assumptions, inputs and methodologies used in pricing the security; documenting this information; and corroborating it by comparison to independently obtained prices and or independently developed pricing methodologies.
In a fourth IPO coinsurance agreement, (the “10% Coinsurance Agreement”), we ceded to Prime Reinsurance Company (“Prime Re”), an affiliate of Citigroup, 10% of our U.S. (except New York) term life insurance business in force at year-end 2009 subject to an experience refund provision. As the 10% Coinsurance Agreement includes an experience refund provision, it does not satisfy U.S. GAAP risk transfer rules. As a result, we have accounted for this contract using deposit method accounting and have recognized a deposit asset in other assets on our consolidated balance sheets for assets backing the economic reserves. The deposit asset held in support of this agreement was $229.0 million and $217.3 million at December 31, 2018 and 2017, respectively. We make contributions to the deposit asset during the life of the agreement to fulfill our responsibility of funding the economic reserve. The market return on the deposit asset is reflected in net investment income during the life of the agreement. Prime Re is responsible for ensuring that there are sufficient assets to meet all statutory requirements. The finance charge on the statutory reserves in excess of economic reserves funded by Prime Re in support of the 10% Coinsurance Agreement is 0.5% per annum and is reflected in interest expense in our consolidated statements of income.
Pecan Re Inc. (“Pecan Re”) is a wholly owned subsidiary of Swiss Re Life & Health America Inc. (“Swiss Re”).
At December 31, 2018, we had $375.0 million in principal amount of publicly-traded, senior unsecured notes (the “Senior Notes”). The Senior Notes were issued in 2012 at a price of 99.843% of the principal amount with an annual interest rate of 4.75%, payable semi-annually in arrears on January 15 and July 15, and are scheduled to mature on July 15, 2022. As of December 31, 2018, we were in compliance with the covenants of the Senior Notes. No events of default occurred on the Senior Notes during the year ended December 31, 2018.
On December 22, 2017 the Tax Cuts and Jobs Act of 2017 (the “Tax Reform Act”) was enacted in the United States. The Tax Reform Act introduced a broad range of tax reforms affecting businesses, including corporate tax rates, business deductions, and international tax provisions. Under U.S. GAAP, the effects of new legislation are recognized upon enactment, which, for federal legislation, is the date the president signs a bill into law. Accordingly, we recognized the tax effects of the Tax Reform Act as of December 31, 2017. The SEC staff issued Staff Accounting Bulletin No. 118, which allowed companies to recognize provisional amounts for the tax effects resulting from the enactment of the Tax Reform Act for which the accounting under Accounting Standards Codification Topic 740, Income Taxes ("ASC 740") was incomplete as of December 31, 2017 but a reasonable estimate could be determined. Adjustments to these provisional amounts were to be completed within a measurement period not to exceed one year. Amounts recognized by the Company as of December 31, 2017 represented reasonable estimates based on obtaining, preparing, and analyzing the information necessary at that time to account for the tax effects of the Tax Reform Act under ASC 740. As of December 31, 2018, we finalized our analysis of the incomplete areas and made the necessary adjustments to the provisional amounts recognized as of December 31, 2017. We identified the following updates to the areas discussed in our Annual Report on Form 10-K for the year ended December 31, 2017 that were incomplete and adjusted in 2018 when the necessary information was available, prepared, or analyzed (including computations) in reasonable detail to complete the accounting:
We finalized the amount recognized for the one-time mandatory deemed repatriation of Canadian earnings required by the Tax Reform Act, which resulted in a $2.7 million reduction to income tax expense in 2018. As part of the finalization of the amount recognized for the one-time mandatory deemed repatriation, we identified excess foreign tax credits that could not be used to offset the mandatory deemed repatriation of foreign earnings stipulated by the Tax Reform Act of $6.1 million in addition to the provisional amount recognized as of December 31, 2017. However, the amount recognized for these foreign tax credits was fully offset by a corresponding increase to the full valuation allowance recorded for these foreign tax credits as we do not expect to be able to utilize them in the future.
We finalized the amount recognized for the timing difference for the haircut on deductibility of future policy benefit reserves prescribed in the Tax Reform Act upon the Company’s final computation as it relates to insurance contracts identified with cash value features. The adjustment did not impact the Company’s effective income tax rate or net deferred tax liability position and did not materially impact the timing of when such temporary differences are eliminated.
Prior to the enactment of the Tax Reform Act, deferred income tax assets and liabilities were measured using the 35% U.S. federal statutory tax rate that was expected to be applicable when those temporary differences were recognized in taxable income. The Tax Reform Act reduced the U.S. federal statutory tax rate from 35% to 21% effective January 1, 2018. The reduction in the U.S. federal statutory tax rate used to measure our net deferred tax liabilities as of the enactment date of approximately $98.5 million was recorded as a benefit to income tax expense during the year ended December 31, 2017.
Deferred tax liabilities associated with net unrealized gains from our AFS investments were originally established through OCI. Under ASC 740, the remeasurement of all deferred taxes, even those associated with net unrealized gains from AFS investments, resulting from the change in the statutory tax rate are recognized through income tax expense. As a result, we recognized an income tax benefit of approximately $7.8 million during the year ended December 31, 2017 to remeasure our U.S. deferred tax liabilities associated with net unrealized gains from AFS investments at the newly enacted 21% U.S. federal statutory tax rate. The stranded component, which
was also equal to $7.8 million, remained in accumulated OCI as of December 31, 2017. In February 2018, the FASB issued Accounting Standards Update No. 2018-02 Income Statement - Reporting Comprehensive Income (Topic 220)- Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (“ASU 2018-02”). ASU 2018-02 allows for the reclassification of stranded tax effects on items resulting from the Tax Reform Act from accumulated other comprehensive income (loss) to retained earnings. We adopted the amendments in ASU 2018-02 during 2018 to reclassify the stranded tax effects from the Tax Reform Act and recorded a decrease of $7.8 million to retained earnings with a corresponding increase to accumulated other comprehensive income (loss) on January 1, 2018.
In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, carryback and carryforward periods, and tax planning strategies in making this assessment. As of December 31, 2018, management identified excess foreign tax credits of approximately $46.5 million that could not be used to offset the mandatory deemed repatriation of foreign earnings tax stipulated by the Tax Reform Act and believes it will not be able to utilize these foreign tax credits in the future. Therefore, the Company established a deferred tax asset for these foreign tax credits with a corresponding full valuation allowance. These foreign tax credits are available for use through 2027. With the exception of these foreign tax credits, management believes that it is more likely than not that the results of future operations will generate sufficient taxable income to realize its deferred tax assets. Therefore, there were no other deferred tax asset valuation allowances as of December 31, 2018 or 2017.
In response to the provisions of the Tax Reform Act, we have not made a permanent reinvestment assertion for any unremitted earnings in Canada; therefore, in connection with the adjustments noted in the previous paragraph, we established a deferred tax liability to account for Canadian withholding taxes that will occur upon repatriation of such earnings. Furthermore, as we no longer make a permanent reinvestment assertion for unremitted earnings in Canada, we continue to record deferred tax liabilities to account for Canadian withholding taxes as earnings are recognized.
Unrecognized tax benefits. The total amount of unrecognized benefits on uncertain tax positions that, if recognized, would affect our effective tax rate was approximately $13.9 million and $13.4 million as of December 31, 2018 and 2017, respectively. We recognize interest expense related to unrecognized tax benefits in tax expense net of federal income tax. The total amount of accrued interest and penalties in the consolidated balance sheets was $1.9 million as of each reporting period. Additionally, we did not recognize any interest expense related to unrecognized tax benefits in the consolidated statements of income in 2018. During 2017 and 2016, we recognized less than $0.3 million of interest expense related to unrecognized tax benefits in the consolidated statements.
On February 6, 2018, our Board of Directors authorized a share repurchase program for up to $275.0 million of our outstanding common stock for purchases through June 30, 2019 (the “share repurchase program”). Under the share repurchase program, we repurchased 2,036,188 shares of our common stock in the open market for an aggregate purchase price of $210.1 million through December 31, 2018. Approximately $65.0 million of our outstanding common stock remains available for repurchases under the share repurchase program as of December 31, 2018. On February 7, 2019, our Board of Directors authorized a new share repurchase program for up to $275.0 million of our outstanding common stock (including $65.0 million remaining from the prior repurchase program) for purchases through June 30, 2020.
The following table summarizes PSU activity during the years ended December 31, 2018 and 2017.
The 2016 PSU awards outstanding are based on target. Based on the actual ROAE achieved within the three-year performance period ended December 31, 2018, recipients will receive 22,758 shares of common stock on the vesting date, March 1, 2019.
The 2017 PSU awards outstanding are based on target. Depending upon the ROAE achieved within the performance period, recipients may receive between 0 and 54,069 shares of common stock.
The 2018 PSU awards outstanding are based on target. Depending upon the ROAE achieved within the performance period, recipients may receive between 0 and 45,869 shares of common stock.
As of December 31, 2018 total unrecognized compensation related to PSU awards was $0.6 million, and the weighted-average period over which cost will be recognized was 0.9 year.
The following table summarizes activity related to stock options outstanding and exercisable during the years ended December 31, 2018, 2017, and 2016:
As of December 31, 2018, there was $6 thousand of total unrecognized compensation cost related to unvested options, and the weighted-average period over which cost will be recognized was 0.1 year.
Agent equity awards vest and are measured using the fair market value at the conclusion of the quarterly contest, which is the time that performance is complete. Equity awards granted to the sales force prior to 2018 contained sales restrictions that expired over three years. Because of such sales restrictions, the fair market value of the awards incorporated an illiquidity discount reflecting the risk associated with the post-vesting restrictions. To quantify this discount for each award, we used a series of put option models with one-, two- and three-year tenors to estimate a hypothetical cost of eliminating the downside risk associated with the sale restrictions. Starting in 2018, equity awards granted under quarterly contests no longer contain sales restrictions, thereby eliminating the need to incorporate an illiquidity discount. These awards are measured using the fair value at the conclusion of the quarterly contest. Awards granted before January 2018 maintain the post-vesting sales restrictions established at the time of grant.
The most significant assumptions in estimating the illiquidity discount for awards granted prior to 2018 in the put option models are the volatility assumptions. We derive volatility assumptions primarily from the historical volatility of our common stock using terms comparable to the sale restriction terms.
The following table presents the assumptions used in valuing quarterly RSU granted to agents prior to 2018:
Details on the granting and valuation of these awards were as follows:
As of December 31, 2018, all agent equity awards were fully vested with the exception of approximately 34 thousand shares that vested on January 1, 2019. As such, any related compensation cost not recognized as either expense or DAC in our financial statements through December 31, 2018 is immaterial.
Our U.S. insurance subsidiaries are required to report their results of operations and financial position to state authorities on the basis of statutory accounting practices prescribed or permitted by such authorities and the National Association of Insurance Commissioners (“NAIC”), which is a comprehensive basis of accounting other than U.S. GAAP. Prescribed statutory accounting practices include a variety of publications of the NAIC, as well as state laws, regulations and general administrative rules. Permitted statutory accounting practices encompass all accounting practices not so prescribed. The Company’s principal life insurance company, Primerica Life, prepares its statutory financial statements on the basis of accounting practices prescribed or permitted by the NAIC and the Tennessee Department of Commerce and Insurance (“Tennessee DOCI”) and includes the statutory financial statements of its wholly owned insurance subsidiaries, NBLIC, Peach Re, and Vidalia Re. NBLIC’s statutory financial statements are prepared on the basis of accounting practices prescribed or permitted by the NAIC and the New York State Department of Financial Services, while the statutory financial statements of Peach Re and Vidalia Re are prepared on the basis of accounting practices prescribed or permitted by the NAIC or the Vermont Department of Financial Regulation (“Vermont DOI”). Our U.S. insurance subsidiaries’ ability to pay dividends to their parent is subject to and limited by the various laws and regulations of their respective states. There are no regulatory restrictions on the ability of the Parent Company to pay dividends (other than limitations under the Delaware General Corporation Law that provide that dividends on common stock shall be declared by the Board of Directors out of surplus or, if there is no surplus, out of net profits for the fiscal year in which the dividend is declared and/or the preceding prior fiscal year).
Primerica Life’s statutory net gain from operations was $547.9 million, $398.8 million and $392.4 in 2018, 2017 and 2016, respectively. Primerica Life made no pro rata distributions of any class of its own securities during 2018. During 2018, Primerica Life paid ordinary dividends of $150.0 million to the Parent Company. During 2018, Primerica Life also paid an ordinary distribution of $50.0 million to the Parent Company from gross paid-in and contributed surplus. As of January 1, 2019, the amount of dividends Primerica Life could pay from statutory unassigned surplus without prior approval of the commissioner of the Tennessee DOCI was $176.5 million, which is prescribed by the amount of statutory unassigned surplus on that date.
Primerica Life’s investment basis in NBLIC, Peach Re, and Vidalia Re reflect their statutory capital and surplus amounts recorded in accordance with statutory accounting practices prescribed or permitted by the NAIC and/or each subsidiary’s state of domicile; New York and Vermont. Peach Re was formed as a special-purpose financial captive insurance company and, with the explicit permission of the Vermont DOI, has included the value of a letter of credit serving as collateral for its policy reserves as an admitted asset in its statutory capital and surplus. This permitted accounting practice was critical to the organization and operational plans of Peach Re and explicitly included in the licensing order issued by the Vermont DOI. The impact of this permitted practice as of December 31, 2018 was $299.6 million on Peach Re’s statutory capital and surplus. As of December 31, 2018, even if Peach Re had not been permitted to include the letter of credit as an admitted asset, Primerica Life would not have been below the minimum statutory capital and surplus level that triggers a regulatory action event. There are no other permitted accounting practices that are not encompassed in prescribed statutory accounting practices.
Primerica Life Canada’s capacity to pay ordinary dividends to its parent is limited by OSFI regulations to the extent that its capital exceeds internal capital targets. OSFI requires companies to set internal target levels of capital sufficient to provide for all the risks of the insurer, including risks specified in OSFI’s capital guidelines. As of December 31, 2018 and 2017, Primerica Life Canada’s statutory capital and surplus satisfied regulatory requirements and was $377.6 million and $331.3 million, respectively.
In Canada, dividends can be paid subject to the paying insurance company continuing to have adequate capital and forms of liquidity as defined by OSFI following the dividend payment and upon 15 days minimum notice to OSFI. Primerica Life Canada’s dividend capacity at January 1, 2019 is estimated to be $56.6 million, which is calculated based on satisfying the Company’s internal capital targets.
Commitments. We lease office and warehouse space under various noncancellable operating lease agreements that expire through October 2030. Total minimum rent expense was $8.0 million, $7.5 million, and $7.0 million for the years ended December 31, 2018, 2017, and 2016, respectively. We had no contingent rent expense during 2018, 2017, or 2016.
Under the Credit Facility Agreement, Deutsche Bank issued a letter of credit in the initial amount of $450.0 million with a term expiring on December 31, 2025 (the “LOC”) for the benefit of Primerica Life, the direct parent of Peach Re. Subject to certain conditions, the amount of the LOC periodically increased up to a maximum amount of approximately $507.0 million, which was reached in 2014. As of December 31, 2018, the amount outstanding under the LOC was $299.6 million. This amount will continue to decline over the remaining term of the LOC to correspond with declines in the Regulation XXX reserve. Pursuant to the terms of the Credit Facility Agreement, in the event amounts are drawn under the LOC by Primerica Life, Peach Re will be obligated, subject to certain limited conditions, to reimburse Deutsche Bank for the amount of any draws and interest thereon. Peach Re has collateralized its obligations to Deutsche Bank by granting it a security interest in all of its assets with the exception of amounts held in a special account established to meet minimum asset thresholds required by state regulatory authorities. As of December 31, 2018, the Company was in compliance with all financial covenants under the Credit Facility Agreement.
The Company is currently undergoing multi-state unclaimed property audits by 30 jurisdictions, currently focusing on the life insurance claims paying practices of its subsidiaries, Primerica Life and NBLIC. Other jurisdictions may pursue similar audits. The potential outcome of such audits is difficult to predict but could subject the Company to adverse consequences, including, but not limited to, settlement payments, additional payments to beneficiaries and additional escheatment of funds deemed abandoned under state laws. At this time, the Company cannot reasonably estimate the likelihood or the impact of additional costs or liabilities that could result from the resolution of these matters.
Fees earned for investment advisory and administrative services within our managed investments programs.
Account-based fees for transfer agent recordkeeping functions and non-bank custodial services.
Premiums from insurance contracts we underwrite, fees received from segregated funds insurance contracts, and income earned on our invested assets are excluded from the definition of revenues from contracts with customers in accordance with U.S. GAAP.
The disaggregation of our revenues from contracts with customers were as follows:
Account-based Services. We provide distinct transfer agent recordkeeping services for certain mutual funds we distribute and non-bank custodial services to investors purchasing investment products we distribute through qualified retirement accounts in the United States. Fees charged for these account-based services consist primarily of a stated fee for each investment position or each qualified retirement account. Generally, our performance obligation for each account-based service arrangement is satisfied over time and is substantially the same with the same pattern of delivery. We recognize revenue to which we are entitled for each investment position or each qualified account over time based on the time-based pro-rata amount earned each reporting period. The adoption of ASC 606 did not result in any changes in the timing or measurement of revenue recognition for account-based services.
No significant estimate adjustments were made to the contract asset and no impairment losses were recognized on the contract asset during the year ended December 31, 2018. Incremental costs to obtain or fulfill contracts, most notably sales commissions to the sales representatives, are not incurred prior to the recognition of the related revenue. Therefore, we have no assets recognized for incremental costs to obtain or fulfill contracts.