Loss reserve estimates are subject to a high degree of variability due to the inherent uncertainty of ultimate settlement values. Periodic adjustments to these estimates will likely occur as the actual loss emergence reveals itself over time. Our loss reserving processes reflect accepted actuarial practices and our methodologies result in a reasonable provision for reserves as of December 31, 2017.
Incentive and profit-sharing amounts earned by executives, managers and associates are predominately influenced by corporate performance including net earnings excluding after-tax net realized gains or losses, combined ratio and return on capital. Return on capital measures components of comprehensive earnings against a minimum required return on capital. Return on capital is the primary measure of executive bonus achievement and a significant component of manager and associate incentive targets. Incentive and profit sharing-related expenses attributable to the favorable reserve developments totaled $5.9 million, $6.6 million and $11.0 million for 2017, 2016 and 2015, respectively. An additional $7.7 million in incentive and profit-sharing-related expenses was recorded in 2017 in connection with the tax reform benefits recognized during the year. These performance-related expenses impact policy acquisition, insurance operating and general corporate expenses line items in the financial statements. Partially offsetting the 2017, 2016 and 2015 increases were $4.9 million, $2.6 million and $1.9 million, respectively, in reductions to incentive and profit-sharing amounts earned due to losses associated with natural catastrophe activity.
The segment’s loss ratio was 9.0 in 2017, compared to 15.2 in 2016 and 9.2 in 2015. The higher amount of favorable development on prior years’ reserves was the primary driver of the lower loss ratio in 2017. The above mentioned losses in 2016 on energy and contract surety also contributed to the modestly higher loss ratio in that period. The expense ratio for the segment was 62.2 in 2017, compared to 62.6 in 2016 and 62.3 in 2015. The slight improvement in 2017 was driven by shifts in product mix and smaller amounts of reinstatement premium related to ceded loss activity on prior accident years. In addition, $1.4 million of incentive and profit-sharing expenses was recognized in connection with tax reform benefits during 2017, which added approximately 1 point to the expense ratio. No such expense amounts were present in 2016 or 2015 results.
Variability in the average life of principal repayment is an inherent risk of owning mortgage-related securities. However, we reduce our portfolio’s exposure to prepayment risk by seeking characteristics that tighten the probable scenarios for expected cash flows. As of December 31, 2017, the MBS portfolio contained 64 percent of pure pass-throughs compared to 76 percent as of December 31, 2016. An additional 25 percent of the MBS portfolio was invested in sequential payer, up from 10 percent in 2016.
Requires equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income;
The amortized cost and estimated fair value of fixed income securities at December 31, 2017, by contractual maturity, are shown as follows:
Expected maturities may differ from contractual maturities due to call provisions on some existing securities. At December 31, 2017, the net unrealized appreciation of available-for-sale fixed income and equity securities totaled $244.3 million pretax. At December 31, 2016, the net unrealized appreciation of available-for-sale fixed maturities and equity securities totaled $190.6 million pretax.
The following table is a reconciliation of our unpaid losses and settlement expenses (LAE) for the years 2017, 2016 and 2015:
The following is information about incurred and paid loss development as of December 31, 2017, net of reinsurance, as well as cumulative claim frequency, the total of IBNR liabilities included within the net incurred loss amounts and average historical claims duration as of December 31, 2017. The loss information has been disaggregated so that only losses that are expected to develop in a similar manner are grouped together. This has resulted in the presentation of loss information for our property and surety segments at the segment level, while information for our casualty segment has been separated in four groupings: primary occurrence, excess occurrence, claims made and transportation. Primary occurrence includes select lines within the professional
The surety segment experienced favorable development of $4.8 million, inclusive of ULAE. The majority of the favorable development was from accident year 2015, which offset the unfavorable development from accident years 2008 through 2011 and 2014. Commercial and energy surety products were the main contributors with favorable development of $1.7 million and $1.9
Our net earnings include equity in earnings of unconsolidated investees, Maui Jim and Prime. The investees do not have a policy or pattern of paying dividends. As a result, we record a deferred tax liability on the earnings at the recently revised corporate capital gains rate of 21 percent in anticipation of recovering our investments through means other than through the receipt of dividends, such as a sale. In the fourth quarter of 2017, Maui Jim gave notification that a $9.9 million dividend would be paid in January 2018. Even though no dividend was received in 2017, we were aware that the lower tax rate applicable to affiliated dividends (7.35 percent in 2018) would be applied when the dividend was paid in 2018 and we therefore recorded a $1.4 million tax benefit in 2017. We received a $9.9 million dividend from Maui Jim in the fourth quarter of 2016 and recognized a $2.8 million tax benefit from applying the lower tax rate applicable to affiliated dividends (7 percent in 2016), as compared to the corporate capital gains rate on which the deferred tax liabilities were based. No dividends were received from unconsolidated investees in 2015. Standing alone, the dividends resulted in a 1.6 percent and 1.8 percent reduction to the 2017 and 2016 effective tax rates, respectively.