UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
Annual Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the fiscal year ended December 31, 2004
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Commission file number: 333-57212, 333-104539, 333-104546,
333-104547, 333-104548, and 333-116137
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ING USA Annuity and Life Insurance Company
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(Exact name of registrant as specified in its charter)
Iowa 41-0991508
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(State or other jurisdiction (IRS employer
of incorporation or organization) identification no.)
1475 Dunwoody Drive, West Chester, Pennsylvania 19380-1478
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(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code (610) 425-3400
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Former name, former address and former fiscal year, if changed since last report
Securities registered pursuant to Section 12(b) of Act: None
Securities registered pursuant to Section 12(g) of Act: None
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this form 10-K or any amendment to this
Form 10-K. Yes [ X ] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [ X ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 250,000 shares of Common Stock
as of March 17, 2005, all of which were directly owned by Lion Connecticut
Holdings Inc.
NOTE: WHEREAS ING USA ANNUITY AND LIFE INSURANCE COMPANY MEETS THE CONDITIONS
SET FORTH IN GENERAL INSTRUCTION I(1)(a) AND (b) OF FORM 10-K, THIS FORM IS
BEING FILED WITH THE REDUCED DISCLOSURE FORMAT PURSUANT TO GENERAL INSTRUCTION
I(2).
ING USA Annuity and Life Insurance Company,
(A wholly-owned subsidiary of Lion Connecticut Holdings Inc.)
Annual Report on Form 10-K
For the Year Ended December 31, 2004
TABLE OF CONTENTS
Form 10-K
Item No. Page
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PART I
Item 1. Business** 3
Item 2. Properties** 16
Item 3. Legal Proceedings 16
Item 4. Submission of Matters to a Vote of Security Holders* 16
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters 17
Item 6. Selected Financial Data*** 18
Item 7. Management's Narrative Analysis of the Results of Operations and Financial Condition** 19
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 45
Item 8. Financial Statements and Supplementary Data 49
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 100
Item 9A. Controls and Procedures 100
Item 9B Other Information 100
PART III
Item 10. Directors and Executive Officers of the Registrant* 101
Item 11. Executive Compensation* 101
Item 12. Security Ownership of Certain Beneficial Owners and Management* 101
Item 13. Certain Relationships and Related Transactions* 101
Item 14. Principal Accountant Fees and Services 101
PART IV
Item 15. Exhibits and Financial Statement Schedules 104
Index on Financial Statement Schedules 110
Signatures 114
* Item omitted pursuant to General Instruction I(2) of Form 10-K, except as
to Part III, Item 10 with respect to compliance with Sections 406 and 407
of the Sarbanes Oxley Act of 2002.
** Item prepared in accordance with General Instruction I(2) of Form 10-K.
*** Although item may be omitted pursuant to Georgia Instruction I(2) of Form
10-K, the Company has provided certain disclosure under this Item.
PART I
Item 1. Business (Dollar amounts in millions, unless otherwise stated)
Organization of Business
ING USA Annuity and Life Insurance Company ("ING USA" or the
"Company"), a wholly-owned subsidiary of Lion Connecticut Holdings
Inc. ("Lion" or "Parent"), is a stock life insurance company organized
under the laws of the State of Iowa.
Lion is an indirect, wholly-owned subsidiary of ING Groep N.V.
("ING"), a global financial services holding company based in The
Netherlands, with American Depository Shares listed on the New York
Stock Exchange under the symbol "ING". ING USA is authorized to
conduct its insurance business in the District of Columbia and all
states except New York. ING USA was domiciled as a life insurance
company under the laws of the State of Delaware until December 31,
2003 and has been domiciled in Iowa since January 1, 2004.
On January 1, 2004 (the "Merger Date"), the Company simultaneously
redomesticated from Delaware to Iowa, changed its name from Golden
American Life Insurance Company ("Golden American") to ING USA Annuity
and Life Insurance Company, and merged the following affiliates into
the Company: Equitable Life Insurance Company of Iowa ("Equitable
Life"), USG Annuity & Life Company ("USG"), and United Life & Annuity
Insurance Company ("ULA") (collectively, the "Merger Companies").
Prior to the Merger Date, the Company was a wholly-owned subsidiary of
Equitable Life. Equitable Life merged its affiliate, Ameribest Life
Insurance Company ("AMB"), a life insurance company domiciled in
Georgia, into its operations on January 1, 2003.
Description of Business
ING's U.S.-based operations offer a broad range of life insurance,
annuities, mutual funds, employee benefit, defined contribution,
guaranteed investment contracts and funding agreements. For the year
ended December 31, 2004, ING's U.S.-based operations were ranked sixth
in sales of variable annuities according to data published by
Morningstar and sixth in sales of fixed annuities according to data
published by LIMRA International Inc. ("LIMRA"). The Company serves as
one of the primary vehicles through which ING's U.S.-based operations
write this fixed and variable annuity business. According to LIMRA's
fourth quarter 2004 sales report on Stable Value and Funding Agreement
products, ING's U.S.-based operations were ranked fifth in market
share for funding agreement contracts, and tenth for traditional
general account guaranteed investment contracts, in terms of total
assets.
The Company offers various insurance products including immediate and
deferred variable and fixed annuities. The Company's annuity products
are distributed by national wirehouses, regional securities firms,
independent National Association of Securities Dealers, Inc. ("NASD")
firms with licensed registered representatives, banks, life insurance
companies with captive agency sales forces, independent insurance
agents, independent marketing organizations, and the ING broker-dealer
network. The Company's primary annuity customers are retail consumers.
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The Company also offers guaranteed investment contracts and funding
agreements primarily to institutional investors and corporate benefit
plans. These products are directly sold by home office personnel or
through specialty insurance brokers to institutional purchasers.
The Company previously provided interest-sensitive, traditional and
variable life insurance, and health insurance products. The Company no
longer issues these products. The life insurance business is in
run-off and the Company has ceded to other insurers all health
insurance.
See "Reserves" for a discussion of the Company's reserves by product
type.
The Company has one operating segment, ING U.S. Financial Services
("USFS") which offers the products described below.
Products and Services
The Company offers a portfolio of immediate and deferred fixed and
variable annuities designed to address customer needs for
tax-advantaged savings, retirement needs, and wealth-protection
concerns.
The fixed annuities offered by the Company are General Account
products and include single premium immediate, multi-year guaranteed,
annual reset, and equity index annuities. For these contracts, the
principal amount is guaranteed, and for a specified time period, the
Company credits interest to the customer's account at a fixed interest
rate. The Company's major source of income from fixed annuities is the
spread between the investment income earned on the underlying General
Account assets and the interest rate credited to customers' accounts.
The Company bears the investment risk because, while the Company
credits customers' accounts with a stated interest rate, the Company
cannot be certain the investment income earned on the General Account
assets will exceed that rate. With respect to indexed annuities, the
Company hedges the equity risk exposure by purchasing derivative
instruments on the relevant equity index.
The variable annuities offered by the Company are savings vehicles in
which contract owner deposits are recorded and primarily maintained in
Separate Accounts established for the Company and registered with the
Securities and Exchange Commission ("SEC") as a unit investment trust.
Separate Account assets and liabilities generally represent funds
maintained to meet specific investment objectives of contractowners
who bear the investment risk, subject, in limited cases, to certain
minimum guarantees. Investment income and investment gains and losses
generally accrue directly to such contractowners. The assets of each
account are legally segregated and are not subject to claims that
arise out of any other business of the Company. Separate Account
assets supporting variable options under variable annuity contracts
are invested, as designated by the contractowner or participant under
a contract, in shares of mutual funds which are managed by the Company
or its affiliates, or in other selected mutual funds not managed by
the Company or its affiliates. Variable annuity deposits are allocated
to various subaccounts established within the Separate Account. Each
subaccount represents a different investment option into which the
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contractowner may allocate deposits. The account value of a variable
annuity contract is equal to the aggregate value of the subaccounts
selected by the contractowner (including the value allocated to any
fixed account) less fees and expenses. The Company offers investment
options for its variable annuities covering a wide range of investment
styles, including large, mid and small cap equity funds, as well as
fixed income alternatives. Unlike fixed annuities, variable annuity
contract owners bear the risk of investment gains and losses
associated with the selected investment allocation. The Company,
however, offers certain guaranteed death and living benefits
(described below) under which it bears specific risks associated with
these products. Many of the variable annuities issued by ING USA are
combination variable and fixed deferred annuity contracts under which
some or all of the deposits may be allocated by the contract owner to
a fixed account available under the contract. The Company's major
source of income from variable annuities is the base contract
mortality fee and expense fees and guaranteed living and death benefit
rider fees charged to the customer, less the cost of administering the
product, as well as the cost of providing for the guaranteed living
and death benefits.
The Company sells variable annuity contracts that offer one or more of
the following guaranteed death benefits and living benefits:
Guaranteed Minimum Death Benefits ("GMDB"): The Company has offered
the following guaranteed death benefits:
- Standard - This guarantees that upon the death of the annuitant
the death benefit will be no less than the premiums paid by the
contractowner net of any contract withdrawals.
- Ratchet - This guarantees that upon the death of the annuitant
the death benefit will be no less than the greater of (1)
Standard or (2) the maximum anniversary (or quarterly) value of
the variable annuity.
- Rollup (7% or 5.5% Solution) - This guarantees that upon the
death of the annuitant the death benefit will be no less than the
aggregate premiums paid by the contractowner accruing interest at
7% or 5.5% per annum, subject to a maximum cap on the account
value. (The Company has discontinued this option for new sales.)
- Combo (Max 7) - This guarantees that upon the death of the
annuitant the death benefit will be no less than the greater of
(1) Ratchet or (2) Rollup.
At December 31, 2004, the guaranteed value of these death benefits in
excess of account values was estimated to be $2.5 billion, before
reinsurance, which was a $0.4 billion decrease from the estimated $2.9
billion at December 31, 2003. The decrease was primarily driven by the
improved equity markets in 2004. For contracts issued prior to January
1, 2000, most contracts with enhanced death benefit guarantees were
reinsured to third party reinsurers to mitigate the risk produced by
such guaranteed death benefits. For contracts issued after December
31, 1999, the Company has instituted an equity hedging program in lieu
of reinsurance, to mitigate the risk produced by the guaranteed death
benefits. The equity hedging program is based on the Company entering
into derivative positions to offset exposures to guaranteed minimum
death benefits due to adverse changes in the equity markets. At
December 31, 2004, the guaranteed value of minimum guaranteed death
benefits in excess of account values, net of reinsurance, was
estimated to be $1.4 billion, of which $748.7 is projected to be
covered by the Company's equity hedging program, consistent with the
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Company's exposure as of December 31, 2003. As of December 31, 2004,
the Company has recorded a liability of $66.9, net of reinsurance,
representing the estimated net present value of the Company's future
obligation for guaranteed minimum death benefits in excess of account
values. The liability increased $0.5 from $66.5 at December 31, 2003,
mainly due to the increase in fee income collected from customers used
to fund the reserve exceeding the decrease in the reserve, due to the
improved equity markets during 2004. The liability is recorded in
accordance with the provisions of the Financial Accounting Standards
Board ("FASB") Statement of Position 03-1, "Accounting and Reporting
by Insurance Enterprises for Certain Nontraditional Long-Duration
Contracts and for Separate Accounts" ("SOP 03-1").
Guaranteed Living Benefits: The Company offers the following
guaranteed living benefits:
- Guaranteed Minimum Income Benefit ("GMIB") - This guarantees a
minimum income payout, exercisable each contract anniversary on
or after the 10th rider anniversary. This type of living benefit
is the predominant selection in the Company's sales of variable
annuities.
- Guaranteed Minimum Withdrawal Benefit ("GMWB") - This guarantees
that annual withdrawals of up to 7% of eligible premiums may be
made until eligible premiums previously paid by the contractowner
are returned, regardless of account value performance. The new
2004 GMWB rider (ING Principal Guard) provides reset and step-up
features, which provide, in certain instances, for increases in
the amount available for withdrawal.
- Guaranteed Minimum Accumulation Benefit ("GMAB") - Guarantees
that the account value will be at least 100% of the premiums paid
by the contractowner after 10 years (GMAB10) or 200% after 20
years (GMAB20).
At December 31, 2004, the guaranteed value of these living benefits in
excess of account values was estimated to be $269.7, which is a
decrease of $38.5 from an estimated $308.2 at December 31, 2003. The
decrease was primarily driven by the improved equity markets during
2004. All living benefits are covered by the Company's equity hedging
program. As of December 31, 2004, the Company has recorded a liability
of $40.3 representing the estimated net present value of its future
obligation for living benefits in excess of account values. The
liability increased $26.4 from $13.9 at December 31, 2003, mainly due
to the increase in fee income collected from customers used to fund
the reserve exceeding the decrease in the reserve, due to the improved
equity market during 2004. For GMIBs, the liability is recorded in
accordance with the provisions of SOP 03-1. For GMABs and GMWBs, the
liability is held at fair value in accordance with Statement of
Financial Accounting Standards ("FAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities".
Variable annuity contracts containing guaranteed death and living
benefits expose the Company to equity risk. An increase in the value
of the equity markets will increase account values for these
contracts, thereby decreasing the Company's risk associated with the
MGDBs, GMIBs, GMWBs, and GMABs. A decrease in the equity markets, that
causes a decrease in the account values, will increase the possibility
that the Company may be required to pay amounts to customers due to
guaranteed death and living benefits.
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The Company also is a provider of institutional investment products,
primarily guaranteed investment contracts and funding agreements,
collectively referred to as "GICs," issued to the stable value market
and other institutional customers. The Company intends to issue GICs
to one or more special purpose vehicles, which sell notes to
institutional and retail investors in order to fund the purchase of
those GICs. The Company profits from the sale of GICs by earning
income in excess of the amount credited to the customer accounts less
the cost of administering the product.
Historically, the Company has provided interest-sensitive, traditional
and variable life insurance, and health insurance. All health
insurance has been ceded to other insurers and new policies are no
longer written. The Company ceased the issuance of life insurance
policies in 2001, and all life insurance business is currently in
run-off. A certain portion of the assets held in the general account
are dedicated to funding this block of business.
Strategy, Method of Distribution, and Principal Markets
The Company believes longer life expectancies, an aging population,
and growing concern over the stability and availability of the Social
Security system have made retirement planning a priority for many
Americans. The target market for the Company's annuity products is
primarily individuals, while the target market for GICs is primarily
institutional investors and corporate benefit plans.
The principal distribution channels of the Company's variable and
fixed annuities include national wirehouses, regional securities
firms, independent NASD firms with licensed registered
representatives, banks, life insurance companies with captive agency
sales forces, independent insurance agents, independent marketing
organizations, and the ING broker-dealer network. GICs are distributed
primarily to institutional investors and corporate benefit plans
through direct sales by home office personnel or through specialty
insurance brokers.
The Company markets its variable annuities primarily on the underlying
guarantee features, positioning the product line as a risk management
tool for clients and advisors. Indexed annuities are marketed
primarily based on underlying guarantee features coupled with
consumer-friendly product designs offering the potential for equity
market upside potential. The Company also offers fixed annuities
offering a guaranteed interest rate or annuity payment suitable for
clients seeking a stable return.
The Company also utilizes sales inducements as part of its
distribution strategy for annuities. Sales inducements represent
benefits paid to contractowners for a specified period that are
incremental to the amounts the Company credits on similar contracts
and are higher than the contract's expected ongoing crediting rates
for periods after the inducement.
The Company continued to expand distribution systems during 2004 and 2003. The
Company believes that broad-based distribution networks are key to realizing a
growing share of the wealth accumulation marketplace. The Company plans to
establish new relationships and implement strategies to increase penetration
with key distributors in existing channels. Other than Morgan Stanley which
produced approximately 6% of annuity sales and ING Advisors Network (a group of
broker-dealers affiliated with the Company) which produced approxmiately 13% of
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annuity sales, no other broker or agency firm accounted for more than
5% of sales of the Company's annuity products in 2004.
The Company is not dependent upon any single customer and no single
customer accounted for 10% or more of revenue in 2004.
Assets Under Management
A substantial portion of the Company's fees or other charges and
margins are based on assets under management. Assets under management
are principally affected by net deposits (i.e., annuity premiums and
GIC deposits less surrenders), investment performance (i.e., interest
credited to customer accounts for fixed options or market performance
for variable options), and customer retention. The Company's customer
assets under management, that support fixed and variable annuities,
were as follows:
December 31,
2004 2003
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Variable annuities $ 25,847.0 $ 19,448.0
Fixed annuities 17,160.2 15,625.0
GICs 1,797.4 425.4
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Total $ 44,804.6 $ 35,498.4
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Competition
The annuity competitive environment remains intense and is dominated
by a number of large, highly-rated insurance companies. Increasing
competition within the retirement savings business from traditional
insurance carriers, as well as banks and mutual fund companies, offers
consumers many choices. The Company's annuity products compete in the
annuity market principally on the basis of investment performance,
product design, brand recognition, financial strength ratings,
distribution capabilities, levels of charges and credited rates,
reputation, and customer service.
The Company competes in the GIC market primarily on the basis of its
capital markets, product structuring, and risk management expertise,
as well as its brand recognition and financial strength ratings. Other
competitors in this market include other life insurance companies, as
well as banks and other financial institutions.
Reserves
The Company records as liabilities actuarially-determined reserves
that are calculated to meet the Company's future obligations under its
variable annuity, fixed annuity, GIC products, and other insurance
products.
Reserves for deferred annuity investment contracts and immediate
annuity without life contingent payouts equal cumulative deposits,
less charges and withdrawals, plus credited interest thereon (reserve
interest rates vary by product up to 10.0% for the years 2004, 2003,
and 2002).
Reserves for immediate annuities with life contingent payout benefits
are computed on the basis of assumed interest discount rates,
mortality, and expenses, including a margin for adverse deviations.
Such assumptions generally vary by plan, year of issue, and policy
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duration. For the years 2004, 2003, and 2002, reserve interest rates
ranged from 3.0% to 8.0%. Mortality and withdrawal rate assumptions
are based on relevant Company experience and are periodically reviewed
against both industry standards and experience.
As discussed above under "Products and Services," the Company has
established reserves for the guaranteed death and living benefits
included in variable annuities.
Reserves for GICs are calculated using the amount deposited with the
Company, less withdrawals, plus interest accrued to the ending
valuation date. Interest on these contracts is accrued by a
predetermined index plus a spread or a fixed rate, established at
contract issuance.
Reserves for universal life products are equal to cumulative deposits
less withdrawals and charges plus credited interest thereon. In
addition, the Company holds reserves as required for SOP 03-1 for
certain products with anticipated losses in later policy durations.
Reserves for traditional life insurance contracts represent the
present value of future benefits to be paid to or on behalf of
contractowners and related expenses less the present value of future
net premiums.
As of December 31, 2004, ING USA's $47,707.7 of life and annuity
insurance reserves (general and separate account), and deposit-type
funds were comprised of each type of the following products:
Reserves % of Total
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Variable and Fixed Annuity $ 43,271.9 90.7%
GICs 3,060.1 6.4%
Other 1,375.7 2.9%
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Total $ 47,707.7 100.0%
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The Other category primarily consists of relatively small closed
blocks of health insurance products and interest-sensitive, universal,
and traditional life insurance products.
Reinsurance Arrangements
The Company utilizes indemnity reinsurance agreements to reduce its
exposure to large losses from its life and annuity insurance
businesses. Reinsurance permits recovery of a portion of losses,
although it does not discharge the Company's liability as the direct
insurer of the risks. Reinsurance treaties are structured as yearly
renewable term, coinsurance, or modified coinsurance. All treaties are
closed for new business, including variable annuity guarantees and the
life business in force under those treaties is in run-off. Thus, the
Company is currently not selecting new reinsurers. If in a position to
select a reinsurer, the Company would primarily base its selection on
the financial strength of the reinsurer. The Company currently has no
significant concentration with reinsurers. The Company has $1.3
billion of reinsurance related to GICs with its affiliate, Security
Life of Denver Insurance Company ("Security Life"), and has a minimal
level of other affiliate reinsurance.
One of the main risks reinsured by the Company is the GMDB on its
variable annuity policies issued prior to January 1, 2000. For
contracts issued after December 31, 1999, the Company hedges its
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exposure due to these products. Other reinsurance contracts coinsure
life, accident and health, and annuity businesses. The Company
continually monitors and evaluates the financial strength and credit
ratings of its reinsurers. Only those reinsurance recoverable balances
deemed probable of recovery are reflected as assets on the Company's
Balance Sheets.
Investment Overview and Strategy
The Company's investment strategy involves diversification by asset
class, and seeks to add economic diversification and to reduce the
risks of credit, liquidity, and embedded options within certain
investment products, such as prepayment options and interest rate
options embedded in collateralized mortgage obligations and call
options embedded in corporate bonds. The investment management
function is centralized under ING Investment Management LLC ("IIM"),
an affiliate of the Company, pursuant to an investment advisory
agreement. Separate portfolios are established for each general type
of product within the Company.
The Company's general account invests primarily in fixed maturity
investments, including publicly issued bonds (including government
bonds), privately placed notes and bonds, mortgage-backed securities,
and asset-backed securities. The primary investment strategy is to
optimize the risk-adjusted return through superior asset selection
predicated on a developed relative value approach, credit research and
monitoring, superior management of interest rate risk, and active
exploration into new investment product opportunities. Investments are
purchased when market returns, adjusted for risk, and expenses, are
sufficient to profitably support growth of the liability block of
business. In addition, assets and liabilities are analyzed and
reported for internal management purposes on an option-adjusted basis.
The level of required capital of given transactions is a primary
factor in determining relative value among different investment and
liability alternatives, within the scope of each product type's
objective. An active review of existing holdings identifies specific
assets that could be effectively traded in order to enhance the
risk-adjusted returns of the portfolio, while minimizing adverse tax
and accounting impacts. The Company strives to maintain a portfolio
average asset quality rating of A, excluding mortgage loans, but
including mortgage-backed securities, which are reported with bonds,
based on Standard & Poor's ratings classifications.
The Company's use of derivatives is limited mainly to hedging purposes
to reduce the Company's exposure to cash flow variability of assets
and liabilities, interest rate risk, and market risk. See "Liquidity
and Capital Resources - Derivatives" for further discussion of the
Company's use of derivatives.
Ratings
On December 15, 2004, Standard & Poor's reaffirmed its AA (Very
Strong) counterparty credit and financial strength rating of ING's
primary U.S. insurance operating companies ("ING U.S."), including the
Company. Standard & Poor's also on this date revised the outlook on
the core insurance operating companies from negative to stable,
reflecting ING's commercial position and diversification, financial
flexibility, reduced capital leverage, and improved profitability. The
outlook revisions recognize ING's progress in setting a more focused
and decisive strategic direction and implementing more integrated
financial management across banking and insurance. On February 9,
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2005, Standard & Poor's assigned its A-1+ short-term counterparty
credit rating to the Company. Standard & Poor's noted that the ratings
are based on the Company's status as a core member of ING U.S.
On December 17, 2004, Moody's Investor's Service, Inc. ("Moody's")
issued a credit opinion affirming the financial strength rating of ING
U.S., including the Company, of Aa3 (Excellent) with a stable outlook.
The rating is based on the strong implicit support and financial
strength of the parent company, ING. Furthermore, Moody's noted that
ING U.S. has built a leading market share in the domestic individual
life insurance, annuity, and retirement plan businesses. ING U.S.
enjoys product diversity, further enhancing its credit profile through
the use of these multiple distribution channels.
On December 22, 2004, A.M. Best Company, Inc. ("A.M. Best") reaffirmed
the financial strength rating of A+ (Superior) of ING U.S., including
the Company, while maintaining its negative outlook for ING U.S. These
rating actions follow ING's announcement of its intention to sell Life
Insurance Company of Georgia ("LOG"), as well as the conclusion of
A.M. Best's review of ING's plan to exit the U.S. individual
reinsurance business. ING closed the transaction to exit the U.S.
individual life reinsurance business on December 31, 2004 and the sale
of LOG is expected to be completed during the second quarter of 2005,
subject to regulatory approval. Neither of these transactions directly
impact the Company.
Regulation
The Company's operations are subject to comprehensive regulation
throughout the United States. The laws of the various jurisdictions
establish supervisory agencies, including the state insurance
departments, with broad authority to grant licenses to transact
business and regulate many aspects of the products and services
offered by the Company, as well as solvency and reserve adequacy. Many
agencies also regulate the investment activities of insurance
companies on the basis of quality, diversification, and other
quantitative criteria. The Company's operations and accounts are
subject to examination at regular intervals by certain of these
regulators.
ING USA is subject to the insurance laws of the state in which it is
organized and of the other jurisdictions in which it transacts
business. The primary regulator of the Company's insurance operations
is the Division of Insurance for the State of Iowa. Among other
matters, these agencies may regulate premium rates, trade practices,
agent licensing, policy forms, underwriting and claims practices,
minimum interest rate to be credited to fixed annuity customer
accounts, and the maximum interest rates that can be charged on policy
loans.
The SEC, NASD and, to a lesser extent, the states, regulate sales and
investment management activities and operations of the Company.
Generally, the Company's variable annuity products and certain of its
fixed annuities are registered as securities with the SEC. Regulations
of the SEC, Department of Labor ("DOL") and Internal Revenue Service
also impact certain of the Company's annuity, life insurance, and
other investment products. These products may involve separate
accounts and mutual funds registered under the Investment Company Act
of 1940.
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Insurance Holding Company Laws
A number of states regulate affiliated groups of insurers such as the
Company under holding company statutes. These laws, among other
things, place certain restrictions on transactions between affiliates
such as dividends and other distributions that may be paid to the
Company's parent corporation.
Insurance Company Guaranty Fund Assessments
Insurance companies are assessed the costs of funding the insolvencies
of other insurance companies by the various state guaranty
associations, generally based on the amount of premiums companies
collect in that state.
The Company accrues the cost of future guaranty fund assessments based
on estimates of insurance company insolvencies provided by the
National Organization of Life and Health Insurance Guaranty
Associations (NOLHGA) and the amount of premiums written in each
state. The Company has estimated this liability to be $13.8 and $18.4
as of December 31, 2004 and 2003, respectively and has recorded a
reserve. The Company has also recorded an asset of $3.7 and $0.6 as of
December 31, 2004 and 2003, respectively, for future credits to
premium taxes for assessments already paid.
For information regarding certain other potential regulatory changes
relating to the Company's businesses, see "Risk Factors" in Item 1 -
Business.
Employees
The Company had 1,204 employees as of December 31, 2004, primarily
focused on managing the product distribution, marketing, customer
service, and product and financial management of the Company and
certain of its affiliates. The Company also makes use of other
services provided by ING North America Insurance Corporation and other
affiliates. These services include underwriting and new business
processing, actuarial, risk management, human resources, investment
management, finance, information technology, and legal and compliance
services. The affiliated companies are reimbursed for the Company's
use of various services and facilities under a variety of intercompany
agreements.
Risk Factors
In addition to the normal risks of business, the Company is subject to
significant risks and uncertainties, including those which are
discussed below.
The Company's efforts to reduce the impact of interest rate
changes on its profitability and financial condition may not be
effective
The Company attempts to reduce the impact of changes in interest rates
on the profitability and financial condition of its fixed annuity
operations. The Company accomplishes this reduction primarily by
managing the duration of its assets relative to the duration of its
liabilities. During a period of rising interest rates, annuity
contract surrenders and withdrawals may increase as customers seek to
achieve higher returns through other financial products. Despite its
efforts to reduce the impact of rising interest rates, the Company may
be required to sell assets to raise the cash necessary to respond to
12
such surrenders and withdrawals, thereby realizing capital losses on
the assets sold. An increase in policy surrenders and withdrawals may
also require the Company to accelerate amortization of policy
acquisition costs relating to these contracts, which would further
reduce its net income.
During periods of declining interest rates, borrowers may prepay or
redeem mortgages and bonds that the Company owns, which would force it
to reinvest the proceeds at lower interest rates. For some of its
products, such as guaranteed investment contracts and funding
agreements, the Company is unable to lower the rate it credits to
customers in response to the lower return it will earn on its
investments. In addition, certain of its products provide a minimum
rate which the Company must credit to its customers. Therefore, it may
be more difficult for the Company to maintain its desired spread
between the investment income it earns and the interest it credits to
its customers, thereby reducing its profitability.
Equity market volatility could negatively impact the Company's
profitability and financial condition
The sales and profitability of certain of the Company's annuity
products which provide returns based on equities or equity indices
could be impacted by declines in the equity markets. Generally, sales
of equity-linked annuity products, including variable annuities,
decrease when equity markets decline over an extended period of time.
The amount of fees the Company receives on its variable annuity
products is based on the account values of the separate accounts which
support such variable earnings. A decline in the equity markets will
likely result in a decrease in such account values and therefore a
decrease in the fees the Company receives on its variable annuities.
In addition, certain of its products provide guarantees which are
related to the equity markets. A sustained decline in the equity
markets will increase the Company's exposure to such guarantees, while
at the same time it is receiving less fees from such products. The
Company tries to minimize its exposure to these guarantees through
reinsurance and other risk management strategies, including the
Company's hedging program. The Company's future profitability may be
negatively impacted by its failure to successfully minimize these
risks, which could result from a number of efforts, including the
failure of a reinsurer or other counterparty to make payments due to
the Company, the unavailability or increase in costs of such
reinsurance or other risk management strategies, and the Company's
inability to implement an effective risk management strategy. To the
extent that the actual performance of the equity markets and the
Company's expectations of future performance decrease its future
profit expectations, the Company may be required to accelerate the
amount of deferred policy acquisition cost amortization in a given
period, potentially negatively impacting its net income in a period.
13
A downgrade in any of the Company's ratings may, among other
things, increase policy surrenders and withdrawals, reduce new
sales and terminate relationships with distributors, any of which
could adversely affect its profitability and financial condition
Ratings are important factors in establishing the competitive position
of insurance companies. A downgrade, or the potential for such a
downgrade, of any of the Company's ratings could, among other things:
|X| Materially increase the number of annuity contract surrenders and
withdrawals;
|X| Result in the termination of relationships with broker-dealers,
banks, agents, wholesalers, and other distributors of the
Company's products and services; and
|X| Reduce new sales of certain products including annuities, GICs
and other investment products.
Any of these consequences could adversely affect the Company's
profitability and financial condition.
Rating organizations assign ratings based upon several factors. While
most of the factors relate to the rated company, some of the factors
relate to the views of the rating organization, general economic
conditions, and circumstances outside the rated company's control. In
addition, rating organizations may employ different models and
formulas to assess financial strength of a rated company, and from
time to time rating organizations have, in their discretion, altered
the models. Changes to the models, general economic conditions, or
circumstances outside the Company's control could impact a rating
organizations' judgment of its rating and the subsequent rating it
assigns the Company. The Company cannot predict what actions rating
organizations may take, or what actions it may be required to take in
response to the actions of rating organizations, which could adversely
affect the Company.
The Company's ability to grow depends in large part upon the
continued availability of capital
Lion has recently contributed significant amounts of capital to the
Company to support its sales activities. The Company has also used
capital primarily to support sales growth and also to strengthen
reserves associated with its annuity products. Although the equity
markets have had positive performance recently, deterioration in these
markets could lead to further capital consumption from guaranteed
benefits related to policy liabilities. There is no formal obligation
or requirement for Lion to contribute capital to the Company.
Therefore, although the Company believes it has sufficient capital to
fund its immediate growth and capital needs, the amount of capital
required and the amount of capital available can vary from period to
period due to a variety of circumstances, some of which are neither
predictable nor foreseeable, nor necessarily within its control. A
lack of sufficient capital could hinder the Company's ability to grow.
14
The Company's investment portfolio is subject to several risks
that may diminish the value of its invested assets and adversely
affect its sales, profitability and the investment returns
credited to certain of its customers
The Company's investment portfolio is subject to several risks,
including, among other things:
|X| The Company may experience an increase in defaults or delinquency
in the investment portfolios, including the commercial mortgage
loan portfolio.
|X| The Company may have greater difficulty selling privately placed
fixed maturity securities, commercial mortgage loans, and real
estate investments at attractive prices, in a timely manner, or
both, because they are less liquid than its publicly traded fixed
maturity securities.
|X| During periods of declining interest rates, borrowers may prepay
or redeem prior to maturity (i) mortgages that back certain
mortgage backed securities and (ii) bonds with embedded call
options that the Company owns which would force it to reinvest
the proceeds received at lower interest rates.
|X| Environmental liability exposure may result from the Company's
commercial mortgage loan portfolio and real estate investments.
|X| The Company may experience losses in its commercial mortgage loan
portfolio as a result of economic downturns or losses
attributable to natural disasters in certain regions.
|X| The Company may experience volatility of earnings to the extent
that the derivative positions entered into by the Company do not
qualify for hedge accounting under GAAP.
Any of these consequences may diminish the value of the Company's
invested assets and adversely affect its sales, profitability, or the
investment returns credited to its customers.
Changes in regulation in the United States may reduce the
Company's profitability
The Company's insurance business is subject to comprehensive
regulation and supervision throughout the United States by both state
and federal regulators. The primary purpose of state regulation of the
insurance business is to protect contractowners, and not necessarily
to protect other constituencies such as creditors or investors. State
insurance regulators, state attorneys general, the National
Association of Insurance Commissioners, the SEC, and the NASD
continually reexamine existing laws and regulations and may impose
changes in the future. Changes in federal legislation and
administrative policies in areas such as employee benefit plan
regulation, financial services regulation, and federal taxation could
lessen the advantages of certain of the Company's products as compared
to competing products, or possibly result in the surrender of some
existing contracts and policies or reduced sales of new products and,
therefore, could reduce the Company's profitability.
The insurance industry has recently become the focus of greater
regulatory scrutiny due to questionable business practices relating to
trading and pricing within the mutual fund and variable annuity
industries, allegations related to improper special payments,
price-fixing, conflicts of interest and improper accounting practices,
and other misconduct alleged by and initiatives of the New York
Attorney General, state insurance departments, and in related
litigation. As a result, a large number of insurance companies,
15
including certain ING affiliatesand the Company, have been requested
to provide information to regulatory authorities. In some cases this
regulatory scrutiny has led to new proposed legislation regulating
insurance companies, regulatory penalties, and related litigation. At
this time, the Company does not believe that any such regulatory
scrutiny will materially impact it; however, the Company cannot
guarantee that new laws, regulations, or other regulatory action aimed
at the business practices under scrutiny would not adversely affect
its business. The adoption of new laws or regulations, enforcement
action or litigation, whether or not involving the Company, could
influence the manner in which it distributes its insurance products,
which could adversely impact the Company.
Item 2. Properties
The Company's principal office is located at 1475 Dunwoody Drive, West
Chester, Pennsylvania, 19380-1478. The Company's annuity operations
and customer service center are located at 909 Locust Street, Des
Moines, Iowa 50309. All Company office space is leased or subleased by
the Company or its other affiliates. The Company pays substantially
all expenses associated with its leased and subleased office
properties. Affiliates within ING's U.S. operations provide the
Company with various management, finance, investment management, and
other administrative services, from facilities located at 5780 Powers
Ferry Road, N.W., Atlanta, Georgia 30327-4390. The affiliated
companies are reimbursed for the Company's use of these services and
facilities under a variety of intercompany agreements.
Item 3. Legal Proceedings
The Company is a party to threatened or pending lawsuits/arbitrations
arising from the normal conduct of business. Due to the climate in
insurance and business litigation/arbitration, suits against the
Company sometimes include claims for substantial compensatory,
consequential or punitive damages and other types of relief. Moreover,
certain claims are asserted as class actions, purporting to represent
a group of similarly situated individuals. While it is not possible to
forecast the outcome of such lawsuits/arbitrations, in light of
existing insurance, reinsurance and established reserves, it is the
opinion of management that the disposition of such
lawsuits/arbitrations will not have a materially adverse effect on the
Company's operations or financial position.
Item 4. Submission of Matters to a Vote of Security Holders
Omitted pursuant to General Instruction I(2)(c) of Form 10-K.
16
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters
(Dollar amounts in millions, unless otherwise stated)
There is no public trading market for the Company's common stock. As
of January 1, 2004, all of the Company's outstanding common stock was
owned by its parent, Lion, as a result of the affiliate mergers
described in Part I, Item 1. All of the outstanding common stock of
Lion is owned by ING AIH, whose ultimate parent is ING. As of December
31, 2003, prior to the merger, all of the Company's common stock was
owned by Equitable Life, a wholly owned subsidiary of Lion.
The Company's ability to pay dividends to its parent is subject to the
prior approval of the Iowa Division of Insurance for payment of any
dividend, which, when combined with other dividends paid within the
preceding twelve months, exceeds the greater of (1) ten percent (10%)
of the Company's statutory surplus at the prior year end or (2) the
Company's prior year statutory net gain from operations. The Company
did not pay any dividends on its common stock during 2004 or 2002.
During 2003, the Company paid $12.4 in dividends on its common stock
to its Parent.
During 2004, 2003, and 2002, ING USA received capital contributions of
$230.0, $88.7, and $456.3, respectively, from Lion. Lion has recently
contributed significant amounts of capital to the Company to support
its sales activities. The Company has also used capital primarily to
support sales growth and also to strengthen reserves associated with
its annuity products.
17
Item 6. Selected Financial Data
(Dollar amounts in millions unless otherwise stated)
ING USA ANNUITY AND LIFE INSURANCE COMPANY
3-YEAR SUMMARY OF SELECTED FINANCIAL DATA
2004 2003* 2002*
-----------------------------------------
OPERATING RESULTS
Net investment income $ 1,023.9 $ 974.6 $ 989.3
Fee income 566.7 397.7 295.7
Premiums 22.8 26.0 36.8
Net realized capital gains (losses) 57.6 106.9 (196.5)
Total revenue 1,673.8 1,509.0 1,141.6
Interest credited and other benefits to
contractowners 1,134.0 925.7 848.0
Amortization of deferred policy acquisition
costs and value of business acquired 186.8 347.9 302.0
Income (loss) before cumulative effect of
change in accounting principle 92.9 57.3 (116.1)
Cumulative effect of change in accounting
principle, net of tax (1.0) - (1,298.4)
Net income (loss) 91.9 57.3 (1,414.5)
FINANCIAL POSITION
Total investments $ 22,882.7 $ 19,844.6 $ 18,413.4
Assets held in separate accounts 24,746.7 18,220.1 12,052.4
Total assets 52,417.6 41,097.4 33,460.1
Future policy benefits and claims reserves 22,961.0 19,400.5 18,404.9
Liabilities related to separate accounts 24,746.7 18,220.1 12,052.4
Notes to affiliates 435.0 85.0 85.0
Total shareholder's equity 2,774.5 2,528.0 2,339.5
* These amounts have been restated due to the merger that occurred
on January 1, 2004, which was accounted for in a manner similar
to a pooling-of-interests.
18
Item 7. Management's Narrative Analysis of the Results of Operations and
Financial Condition
(Dollar amounts in millions, unless otherwise stated)
Overview
The following narrative analysis of the results of operations presents
a review of ING USA Annuity and Life Insurance Company ("ING USA" or
"the Company") for each of the three years ended December 31, 2004,
2003, and 2002 and financial condition as of December 31, 2004 versus
December 31, 2003. This item should be read in its entirety and in
conjunction with the selected financial data, financial statements and
related notes and other supplemental data which can be found under
Part II, Item 6 and Item 8 contained herein.
Forward-Looking Information/Risk Factors
In connection with the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, the Company cautions readers
regarding certain forward-looking statements contained in this report
and in any other statements made by, or on behalf of, the Company,
whether or not in future filings with the Securities and Exchange
Commission ("SEC"). Forward-looking statements are statements not
based on historical information and which relate to future operations,
strategies, financial results, or other developments. Statements using
verbs such as "expect," "anticipate," "believe" or words of similar
import generally involve forward-looking statements. Without limiting
the foregoing, forward-looking statements include statements which
represent the Company's beliefs concerning future levels of sales and
redemptions of the Company's products, investment spreads and yields,
or the earnings and profitability of the Company's activities.
Forward-looking statements are necessarily based on estimates and
assumptions that are inherently subject to significant business,
economic, and competitive uncertainties and contingencies, many of
which are beyond the Company's control and many of which are subject
to change. These uncertainties and contingencies could cause actual
results to differ materially from those expressed in any
forward-looking statements made by, or on behalf of, the Company.
Whether or not actual results differ materially from forward-looking
statements may depend on numerous foreseeable and unforeseeable
developments. Some may be national in scope, such as general economic
conditions, changes in tax law and changes in interest rates. Some may
be related to the insurance industry generally, such as pricing
competition, regulatory developments, and industry consolidation.
Others may relate to the Company specifically, such as litigation,
regulatory action, and risks associated with the Company's investment
portfolio, such as changes in credit quality, price volatility and
liquidity. Investors are also directed to consider other risks and
uncertainties discussed in "Risk Factors" in Item 1 contained herein
and in other documents filed by the Company with the SEC. Except as
may be required by the federal securities laws, the Company disclaims
any obligation to update forward-looking information.
19
Basis of Presentation
ING USA Annuity and Life Insurance Company ("ING USA" or the
"Company"), a wholly-owned subsidiary of Lion Connecticut Holdings
Inc. ("Lion" or "Parent"), is a stock life insurance company organized
under the laws of the State of Iowa.
Lion is an indirect, wholly-owned subsidiary of ING Groep N.V.
("ING"), a global financial services holding company based in The
Netherlands, with American Depository Shares on the New York Stock
Exchange under the symbol "ING". ING USA is authorized to do business
in the District of Columbia and all states except New York. ING USA
was domiciled as a life insurance company under the laws of the State
of Delaware until December 31, 2003 and has been domiciled as such in
Iowa since January 1, 2004.
On January 1, 2004 (the "Merger Date"), the Company simultaneously
redomesticated from Delaware to Iowa, changed its name from Golden
American Life Insurance Company to ING USA Annuity and Life Insurance
Company, and merged the following affiliates into the Company:
Equitable Life Insurance Company of Iowa ("Equitable Life"), USG
Annuity & Life Company ("USG"), and United Life & Annuity Insurance
Company ("ULA") (collectively, the "Merger Companies"). Prior to the
merger date, ING USA was a wholly-owned subsidiary of Equitable Life.
Equitable Life merged its affiliate, Ameribest Life Insurance Company
("AMB"), a life insurance company domiciled in Georgia, into its
operations on January 1, 2003.
Statement of Financial Accounting Standards ("FAS") No. 141, "Business
Combinations", excludes transfers of net assets or exchanges of shares
between entities under common control, and notes that certain
provisions under Accounting Principles Board ("APB") Opinion No. 16,
"Business Combinations", provide a source of guidance for such
transactions. In accordance with APB Opinion No. 16, financial
information of the combined entity is presented as if the entities had
been combined for the full year, and all comparative financial
statements are restated and presented as if the entities had
previously been combined, in a manner similar to a
pooling-of-interests. The Balance Sheets and Statements of Operations
give effect to the consolidation transactions as if they had occurred
on December 31, 2003 and January 1, 2002, respectively.
Critical Accounting Policies
General
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States ("GAAP") requires
the use of estimates and assumptions in certain circumstances that
affect amounts reported in the accompanying financial statements and
related footnotes. These estimates and assumptions are evaluated on an
on-going basis based on historical developments, market conditions,
industry trends, and other information that is reasonable under the
circumstances. There can be no assurance that actual results will
conform to estimates and assumptions, and that reported results of
operations will not be materially adversely affected by the need to
make future accounting adjustments to reflect changes in these
estimates and assumptions from time to time.
20
The Company has identified the following estimates as critical in that
they involve a higher degree of judgment and are subject to a
significant degree of variability: reserves, other-than-temporary
impairment testing, amortization of deferred policy acquisition costs
and value of business acquired, and valuation of derivatives
instruments. In developing these estimates, management makes
subjective and complex judgments that are inherently uncertain and
subject to material changes as facts and circumstances develop.
Although variability is inherent in these estimates, management
believes the amounts provided are appropriate based upon the facts
available upon compilation of the financial statements.
Reserves
The Company establishes and carries actuarially determined reserves
which are calculated to meet its future obligations. Reserves are
calculated using mortality and withdrawal rate assumptions based on
relevant Company experience and are periodically reviewed against both
industry standards and experience. Changes in or deviations from the
assumptions used can significantly affect the Company's reserve levels
and related future operations.
Future policy benefits and claims reserves include reserves for
universal life insurance contracts, traditional life insurance
contracts, immediate and deferred annuities with life contingent
payouts, and guaranteed investment contracts ("GICs").
Reserves for deferred annuity investment contracts and immediate
annuity without life contingent payouts are equal to cumulative
deposits less charges and withdrawals, plus credited interest thereon
(reserve interest rates vary by product up to 10.0% for 2004, 2003,
and 2002).
Reserves for immediate annuities with life contingent payout benefits
are computed on the basis of assumed interest discount rates,
mortality, and expenses, including a margin for adverse deviations.
Such assumptions generally vary by annuity plan type, year of issue,
and policy duration. For 2004, 2003, and 2002, reserve interest rates
ranged from 3.0% to 8.0%.
Certain variable annuity contracts offer guaranteed minimum death
benefits ("GMDB"), as well as guaranteed living benefits. The GMDB is
provided in the event the customer's account value at death is below
the guaranteed value. Guaranteed living benefits offered include
guaranteed minimum income benefits, guaranteed minimum withdrawal
benefits, and guaranteed minimum accumulation benefits. See Item I,
Business, "Products and Services", for a description of the guaranteed
living benefits. Although the Company reinsures or hedges a
significant portion of the death and living benefit guarantees
associated with its in force business, declines in the equity market
may increase the Company's net exposure to the death and living
benefits under these contracts.
Reserves for GICs are calculated using the amount deposited with the
Company, less withdrawals, plus interest accrued to the ending
valuation date. Interest on these contracts is accrued by a
predetermined index plus a spread or a fixed rate, established at the
issue date of the contract.
21
Reserves for universal life products are equal to cumulative deposits
less withdrawals and charges plus credited interest thereon. In
addition, the Company holds reserves as required for Statement of
Position ("SOP") 03-1, "Accounting and Reporting by Insurance
Enterprises for Certain Long-Duration Contracts and for Separate
Accounts", for certain products with anticipated losses in later
policy durations. Reserves for traditional life insurance contracts
represent the present value of future benefits to be paid to or on
behalf of contractowners and related expenses less the present value
of future net premiums.
Other-Than-Temporary Impairment Testing
The Company's accounting policy requires that a decline in the value
of an investment below its amortized cost basis be assessed to
determine if the decline is other-than-temporary. If so, the
investment is deemed to be other-than-temporarily impaired, and a
charge is recorded in net realized capital losses equal to the
difference between fair value and the amortized cost basis of the
investment. The fair value of the other-than-temporarily impaired
investment becomes its new cost basis.
In addition, the Company invests in structured securities that meet
the criteria of Emerging Issues Task Force ("EITF") Issue No. 99-20,
"Recognition of Interest Income and Impairment on Purchased and
Retained Beneficial Interests in Securitized Financial Assets." Under
EITF Issue No. 99-20, a determination of the required impairment is
based on credit risk and the possibility of significant prepayment
risk that restricts the Company's ability to recover the investment.
An impairment is recognized if the fair value of the security is less
than amortized cost and there has been an adverse change in cash flow
since the remeasurement date. When a decline in fair value is
determined to be other-than-temporary, the individual security is
written down to fair value and the loss is accounted for as a realized
loss.
The evaluation of other-than-temporary impairments included in the
Company's general account is a quantitative and qualitative process,
which is subject to risks and uncertainties and is intended to
determine whether declines in the fair value of investments should be
recognized in current period earnings. The risks and uncertainties
include the length of time and extent to which the fair value has been
less than amortized cost, changes in general economic conditions, the
issuer's financial condition or near-term recovery prospects, and the
effects of changes in interest rates.
Amortization of Deferred Policy Acquisition Costs and Value of
Business Acquired
Deferred policy acquisition costs ("DAC") represent policy acquisition
costs that have been capitalized and are subject to amortization. Such
costs consist principally of certain commissions, underwriting,
contract issuance, and agency expenses, related to the production of
new and renewal business.
Value of business acquired ("VOBA") represents the outstanding value
of in force business capitalized and amortized in purchase accounting
when the Company was acquired. The value is based on the present value
of estimated net cash flows embedded in the Company's contracts.
22
The amortization methodology used for DAC and VOBA varies by product
type. Statement of Financial Accounting Standards ("FAS") No. 60,
"Accounting and Reporting by Insurance Enterprises," applies to
traditional life insurance products, primarily whole life and term
life insurance contracts. Under FAS No. 60, DAC and VOBA are amortized
over the premium payment period, in proportion to the premium revenue
recognized.
FAS No. 97, "Accounting and Reporting by Insurance Enterprises for
Certain Long-Duration Contracts and for Realized Gains and Losses from
the Sale of Investments" applies to universal life and investment-type
products, such as fixed and variable deferred annuities. Under FAS No.
97, DAC and VOBA are amortized, with interest, over the life of the
related contracts (usually 25 years) in relation to the present value
of estimated future gross profits from investment, mortality, and
expense margins; asset-based fees, policy administration, and
surrender charges; less policy maintenance fees and non-capitalized
commissions, as well as realized gains and losses on investments. DAC
related to guaranteed investment contracts, however, are amortized on
a straight-line basis over the life of the contract.
Changes in assumptions can have a significant impact on DAC and VOBA
balances and amortization rates. Several assumptions are considered
significant in the estimation of future gross profits associated with
variable universal life and variable deferred annuity products. One of
the most significant assumptions involved in the estimation of future
gross profits is the assumed return associated with the variable
account performance. To reflect the volatility in the equity markets,
this assumption involves a combination of near-term expectations and
long-term assumptions regarding market performance. The overall return
on the variable account is dependent on multiple factors, including
the relative mix of the underlying sub-accounts among bond funds and
equity funds, as well as equity sector weightings. Other significant
assumptions include surrender and lapse rates, estimated interest
spread, and estimated mortality.
Due to the relative size and sensitivity to minor changes in
underlying assumptions of DAC and VOBA balances, the Company performs
a quarterly and annual analysis of DAC and VOBA for the annuity and
life businesses, respectively. The DAC and VOBA balances are evaluated
for recoverability and are reduced to the extent that estimated future
gross profits are inadequate to recover the asset.
At each evaluation date, actual historical gross profits are
reflected, and estimated future gross profits and related assumptions
are evaluated for continued reasonableness. Any adjustment in
estimated profit requires that the amortization rate be revised
("unlocking"), retroactively to the date of the policy or contract
issuance. The cumulative unlocking is recognized as a component of
current period amortization. In general, increases in investment,
mortality, and expense margins, and thus estimated future profits,
lower the rate of amortization. However, decreases in investment,
mortality, and expense margins, and thus estimated future profits,
increase the rate of amortization.
23
Analysis of DAC/VOBA-Annuity
The variance in amortization expense in 2004 versus 2003 was impacted
by SOP 03-1. In prior years, amortization of inducements was included
in amortization of DAC and VOBA. Beginning in 2004, sales inducement
amortization is included as a component of benefit expense in
accordance with SOP 03-1. Therefore, the decrease in amortization of
DAC and VOBA is partially related to 2004 sales inducement
amortization being included in interest credited instead of
amortization of DAC and VOBA. Also contributing to the decrease is the
improved market performance during 2003, which lowered the
amortization rate for 2004. Amortization expense in 2003 was higher
than 2002 due in part to the poor equity market performance in 2002,
which increased the amortization rate in 2003, as well as to the
amortization of acquisition costs related to increased sales of fixed
annuities during 2002. 2003 was the first full year of amortization
for this block of acquisition costs. Also impacting amortization of
DAC and VOBA are unlocking adjustments discussed below.
The actual separate account market return exhibited by the variable
deposits invested in mutual funds associated with the Company's
liabilities in 2004 exceeded the long-term assumption, thereby
producing deceleration of DAC/VOBA amortization of $6.6, before tax.
As a part of the regular analysis of DAC/VOBA, at the end of the first
quarter of 2004, the Company modified its assumptions regarding the
future rate of spread income on some of its fixed annuity liabilities.
The assumption modification was in the direction of lower spread
income, and produced an acceleration of DAC/VOBA amortization of $5.0,
before tax. Similar regular analysis of DAC/VOBA at the end of the
third quarter of 2004 included unlocking of the Company's assumptions
regarding contractowner withdrawal behavior. Based on experience
studies, assumed rates of full surrender for both fixed and variable
annuities and rates of partial withdrawal of account balance for
variable annuities were all modified downward, producing a
deceleration of DAC/VOBA amortization of $4.2, before tax. The
combined effect of the three factors of actual variable return for
2004 exceeding long-term assumptions, modification of future spread
income expectations, and modification of expectations regarding future
withdrawal behavior was a deceleration of DAC/VOBA amortization
totaling $5.8, before tax, or $3.8, net of $2.0 of federal income tax
expense.
The Company reset long-term return assumptions for the separate
account to 8.5% from 9.0% (gross before fund management fees and
mortality and expense and other policy charges) as of December 31,
2003, reflecting a blended return of equity and other sub-accounts.
The largest component of the 2003 unlocking adjustment comprised a
deceleration of DAC/VOBA amortization totaling $41.3, before tax. This
component was primarily driven by improved market performance. The
Company also unlocked assumptions regarding future lapse rates for
fixed annuities during the analysis at the end of the third quarter of
2003, resulting in an acceleration of DAC/VOBA amortization of $6.0,
before tax. In each of the regular analyses of DAC/VOBA at the end of
the third and fourth quarters of 2003, expectations regarding yields
on assets backing fixed annuity liabilities were revised downward,
resulting in respective accelerations of DAC/VOBA amortization
measuring $2.1, before tax and $6.0, before tax. The combined effect
of all unlocking in 2003 was a deceleration of DAC/VOBA amortization
totaling $27.2, before tax, or $17.7, net of $9.5 of federal income
tax expense.
24
As part of the regular analysis of DAC/VOBA, at the end of third
quarter of 2002, the Company unlocked its long-term rate of return
assumptions. The Company reset long-term assumptions for the separate
account return to 9.0% (gross before fund management fees, and
mortality and expense and other policy charges), as of December 31,
2002, reflecting a blended return of equity and other sub-accounts.
The largest component of the 2002 unlocking adjustment comprised an
acceleration of DAC/VOBA amortization totaling $91.5, before tax. This
component was primarily driven by the sustained downturn in the equity
markets and revised expectations for future returns. The Company also
unlocked assumptions regarding future lapse and partial withdrawal
rates for fixed annuities during the analysis at the end of the third
quarter of 2002, resulting in an acceleration of DAC/VOBA amortization
measuring $2.0, before tax. During the regular analysis at the end of
the fourth quarter of 2002, expectations regarding the assets backing
the fixed annuity liabilities were revised to reflect higher
anticipated default rates. This fourth quarter adjustment resulted in
an acceleration of DAC/VOBA amortization of $8.0, before tax. The
combined effect of all unlocking adjustments in 2002 was an
acceleration of DAC/VOBA amortization totaling $101.5 before tax, or
$66.0, net of $35.5 of federal income tax benefit.
Analysis DAC/VOBA - Life
As part of the regular analysis of DAC/VOBA for the life insurance
block, at the end of each of the years ended December 31, 2004, 2003,
and 2002, the Company unlocked due to assumption changes related
primarily to mortality, lapse, expense, and interest amounts. The
impact of unlocking on the amortization of DAC/VOBA was a decrease of
$1.2 in 2004, an increase of $6.0 in 2003, and an increase of $5.2 in
2002.
Valuation of Derivative Instruments
Derivative instruments are reported at fair value and are obtained
internally from the derivative accounting system. Embedded derivative
instruments are reported at fair value based upon internally
established valuations that are consistent with external valuation
models or market quotations. Guaranteed minimum withdrawals benefits
("GMWBs") and guaranteed minimum accumulation benefits ("GMABs")
represent an embedded derivative liability in the variable annuity
contract that are required to be reported separately from the host
variable annuity contract. GMWBs and GMABs are carried at fair value
based on actuarial assumptions related to projected cash flows,
including benefits and related contract charges, over the lives of the
contracts, incorporating expectations concerning contractowner
behavior. Estimating cash flows involves numerous estimates and
subjective judgments including those regarding expected market rates
of return, market volatility, correlations of market returns, and
discount rates.
Results of Operations
Year ended December 31, 2004 compared to year ended December 31, 2003
Net Income: Net income increased by $34.6 to $91.9 for 2004 from $57.3
for 2003. The increase in income is primarily the result of higher fee
income and lower amortization of DAC and VOBA, partially offset by
higher benefits to contractowners, operating expenses, and taxes.
25
Net Investment Income: Net investment income from general account
assets increased by $49.3 to $1,023.9 for 2004 from $974.6 for 2003.
The increase in net investment income is partially due to higher fixed
assets under management due to higher net cash flows into fixed
products. Also contributing to the increase was a rise in income on
derivatives, specifically interest rates swaps and call options, which
are used to manage interest rate and equity risk. Partially offsetting
the increase in income is a rise in investment management fees and
decline in yields.
Fee Income: Fee income increased by $169.0 to $566.7 for 2004 from
$397.7 for 2003. The increase is primarily due to a $6.2 billion
increase in the average variable annuity assets under management by
the Company resulting from continued growth in sales related to the
Company's variable annuity product lines and equity market performance
in 2003 and 2004. Also contributing to the increase in fee income were
sales of products with higher charges for living benefits during 2004.
Premiums: Premiums, primarily related to traditional life insurance
products, decreased by $3.2 to $22.8 for 2004 from $26.0 for 2003.
This decrease in premium is primarily related to this line of business
being in run-off since 2001.
Net Realized Capital Gains (Losses): Net realized capital gains
decreased by $49.3 to $57.6 for 2004 from $106.9 for 2003. The
decrease in gains is primarily due to rising interest rates in 2004
and a decline in other-than-temporary impairments. In an increasing
rate environment, the market value of fixed maturities in the
portfolios decreases, which in turn, results in lower realized gains
upon sale.
Interest Credited and Other Benefits to Contractowners: Interest
credited and other benefits to contractowners increased by $208.3 to
$1,134.0 for 2004 from $925.7 for 2003. The increase is primarily
related to: (i) an increase in the cost of guaranteed benefits mainly
due to an increase in average variable assets under management in
2004; (ii) higher fixed annuity deposits and GICs which resulted in
higher interest credited to contractowner accounts; and (iii) the
amortization of deferred sales inducements are included in this line
item in 2004 in accordance with SOP 03-1. In 2003 and 2002, the
amortization of deferred sales inducements is included in the
amortization of DAC and VOBA.
Amortization of DAC and VOBA: Amortization of DAC and VOBA decreased
by $161.1 to $186.8 for 2004 from $347.9 for 2003. In prior years,
amortization of deferred sales inducements is included in amortization
of DAC and VOBA. Beginning in 2004, deferred sales inducement
amortization is included as a component of interest credited and other
benefits in accordance with SOP 03-1. Therefore, the decrease in
amortization of DAC and VOBA is partially related to 2004 deferred
sales inducement amortization of $65 being included in interest
credited and other benefits instead of amortization of DAC and VOBA.
Also contributing to the decrease is the improved market performance
during 2003, which lowered the amortization rate for 2004.
Income Tax Expense (Benefit): Income tax expense increased by $81.5 to
$80.7 for 2004 from a benefit of $(0.8) for 2003. The increase is
primarily due to the increase in pre-tax income in 2004 and the
establishment of a valuation allowance due to clarifying tax guidance.
Also contributing to the increase is a decrease in the dividend
received deduction.
26
Year ended December 31, 2003 compared to year ended December 31, 2002
Net Income (Loss): Net income (loss) increased by $1,471.8 to $57.3
for 2003 from a loss of $(1,414.5) for 2002. This increase is
primarily due to the 2003 cumulative effect of change in accounting
principle, an increase in fee income and net realized capital gains,
partially offset by an increase in interest credited and other
benefits to contractowners, amortization of DAC/VOBA, and a decrease
in the income tax benefit.
Net Investment Income: Net investment income from general account
assets decreased by $14.7 to $974.6 for 2003 from $989.3 for 2002.
This decrease was primarily due to a rise in losses on derivatives due
to a loss on futures trading in 2003 to mitigate exposure to GICs.
Partially offsetting this decrease is a rise in investment income
driven by increased assets under management, and a reduction in losses
related to other derivatives. Other derivative losses decreased
primarily due to an increase in gains on derivative products hedging
the Company's exposure in its indexed annuities, reflecting the
improved market environment in 2003 over 2002.
Fee Income: Fee income increased by $102.0 to $397.7 for 2003 from
$295.7 for 2002. The increase is mainly due to a $3.0 billion increase
in average variable annuity assets under management by the Company,
resulting from the growth in sales related to the Company's variable
annuity product lines, and growth in the percentage of customers
choosing products with higher charges for living benefits.
Premiums: Premiums decreased by $10.8 to $26.0 for 2003 from $36.8 for
2002. This decrease is related to the lapse, surrender, or pay-up of
policies in the closed block of participating life business, which was
closed to new sales during 2001.
Net Realized Capital Gains (Losses): Net realized capital gains
increased by $303.4 to $106.9 for 2003 from a loss of $(196.5) for
2002. The increase is primarily due to the declining interest rates in
2003. In a declining rate environment, the market value of fixed
maturities in the portfolios increases, which in turn, results in
higher realized gains upon sale. Also contributing to the increase is
a rise in realized gains on derivatives due to changes in the value of
open derivative contracts.
Interest Credited and Other Benefits to Contractowners: Interest
credited and other benefits to contractowners increased $77.7 to
$925.7 for 2003 from $848.0 for 2002. This increase is primarily due
to an increase in interest credited on higher average fixed annuity
assets under management due to increased sales of fixed annuity
products during 2002 and 2003.
Amortization of DAC and VOBA: The amortization of DAC and VOBA
increased by $45.9 to $347.9 for 2003 from $302.0 for 2002. This
increase is due in part to the poor equity market performance in 2002,
which increased the amortization rate in 2003, as well as to the
amortization of acquisition costs related to increased sales of fixed
annuities during 2002. 2003 was the first full year of amortization
for this block of acquisition costs.
27
Cumulative Effect of Change in Accounting Principle: The 2002
cumulative effect of the change in accounting principle reflects the
Company's adoption of Financial Accounting Standards Board ("FASB")
Statement of Financial Accounting Standards ("FAS") No. 142, "Goodwill
and Other Intangible Assets". The adoption of this standard resulted
in a goodwill impairment loss of $1,298.4, net of $699.1 of income
taxes, related to prior acquisitions. This impairment loss represented
the entire carrying amount of goodwill, net of accumulated
amortization.
Income Tax Expense (Benefit): Income tax benefit decreased $59.4 to
$(0.8) for 2003 from $(60.2) for 2002. This decrease is primarily
driven by the change in pre-tax income and utilization of operations
and capital loss carryforwards in 2003. Offsetting those decreases is
an increase in the dividend received deduction and a benefit related
to refinement of the Company's method of calculating deferred tax
inventories.
Financial Condition
Investments
Investment Strategy
The Company's investment strategy for its general account investments
involves diversification by asset class, and seeks to add economic
diversification and to reduce the risks of credit, liquidity, and
embedded options within certain investment products, such as convexity
risk on collateralized mortgage obligations and call options. The
investment management function is centralized under ING Investment
Management LLC ("IIM"), an affiliate of the Companypursuant to an
investment advisory agreement. Separate portfolios are established for
each general type of product within the Company.
The Company invests its general account primarily in fixed maturity
investments, including publicly issued bonds (including government
bonds), privately placed notes and bonds, mortgage-backed securities,
and asset-backed securities. The primary investment strategy is to
optimize the risk-adjusted return through superior asset selection
predicated on a developed relative value approach, credit research and
monitoring, superior management of interest rate risk, and active
exploration into new investment product opportunities. Investments are
purchased when market returns, adjusted for risk, and expenses, are
sufficient to profitably support growth of the liability block of
business. In addition, assets and liabilities are analyzed and
reported for internal management purposes on an option-adjusted basis.
The level of required capital of given transactions is a primary
factor in determining relative value among different investment and
liability alternatives, within the scope of each product type's
objective. An active review of existing holdings identifies specific
assets that could be effectively traded in order to enhance the
risk-adjusted returns of the portfolio, while minimizing adverse tax
and accounting impacts. The Company strives to maintain a portfolio
average asset quality rating of A, excluding mortgage loans, but
including mortgage-backed securities that are reported with bonds,
based on Standard & Poor's ratings classifications.
For a discussion of the Company's use of derivatives, see "Liquidity
and Capital Resources - Derivatives."
28
Portfolio Composition
The following table presents the investment portfolio at December 31,
2004 and 2003.
2004 2003
---------------------------- ----------------------------
Fair Value % Fair Value %
----------------- --------- ----------------- ---------
Fixed maturities, including
securities pledged $ 18,597.8 81.3% $ 16,097.8 81.1%
Equity securities 35.3 0.2% 120.2 0.6%
Mortgage loans on real estate 3,851.8 16.8% 3,388.7 17.1%
Real estate 1.8 0.0% 4.5 0.0%
Policy loans 169.0 0.7% 177.1 0.9%
Short-term investments 6.9 0.0% 0.3 0.0%
Other investments 220.1 1.0% 56.0 0.3%
----------------- --------- ----------------- ---------
$ 22,882.7 100.0% $ 19,844.6 100.0%
================= ========= ================= =========
Fixed Maturities
Fixed maturities available-for-sale as of December 31, 2004 were as
follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------------- -------------- -------------- ---------------
Fixed maturities:
U.S. government and government
agencies and authorities $ 464.0 $ 1.8 $ 1.1 $ 464.7
State, municipalities and political
subdivisions 20.7 - 0.8 19.9
U.S. corporate securities:
Public utilities 1,796.9 78.4 8.9 1,866.4
Other corporate securities 6,292.4 243.5 22.7 6,513.2
--------------- -------------- -------------- ---------------
Total U.S. corporate securities 8,089.3 321.9 31.6 8,379.6
--------------- -------------- -------------- ---------------
Foreign securities:
Government 518.9 24.2 2.2 540.9
Other 2,571.2 97.7 11.5 2,657.4
--------------- -------------- -------------- ----------------
Total foreign securities 3,090.1 121.9 13.7 3,198.3
--------------- -------------- -------------- ----------------
Residential mortgage-backed securities 3,440.3 43.9 22.4 3,461.8
Commercial mortgaged-backed securities 1,107.8 34.9 3.0 1,139.7
Other asset-backed securities 1,934.2 14.3 14.7 1,933.8
--------------- -------------- -------------- ----------------
Total fixed maturities, including fixed
maturities pledged 18,146.4 538.7 87.3 18,597.8
Less: fixed maturities pledged 1,100.5 9.8 1.7 1,108.6
--------------- -------------- -------------- ----------------
Fixed maturities $ 17,045.9 $ 528.9 $ 85.6 $ 17,489.2
=============== ============== ============== ================
29
Fixed maturities available-for-sale as of December 31, 2003 were as
follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------------- -------------- -------------- ---------------
Fixed maturities:
U.S. government and government
agencies and authorities $ 195.5 $ 2.0 $ 0.1 $ 197.4
State, municipalities and political
subdivisions 31.7 - 2.5 29.2
U.S. corporate securities:
Public utilities 1,341.2 84.3 8.0 1,417.5
Other corporate securities 6,246.4 300.9 33.7 6,513.6
--------------- -------------- -------------- ----------------
Total U.S. corporate securities 7,587.6 385.2 41.7 7,931.1
--------------- -------------- -------------- ----------------
Foreign securities:
Government 487.1 21.7 3.9 504.9
Other 1,984.4 96.0 24.1 2,056.3
--------------- -------------- -------------- ----------------
Total foreign securities 2,471.5 117.7 28.0 2,561.2
--------------- -------------- -------------- ----------------
Residential mortgage-backed securities 3,247.0 66.7 21.8 3,291.9
Commercial mortgaged-backed securities 774.2 45.8 2.1 817.9
Other asset-backed securities 1,273.0 17.2 21.1 1,269.1
Total fixed maturities, including fixed
maturities pledged 15,580.5 634.6 117.3 16,097.8
Less: fixed maturities pledged 555.5 6.4 2.8 559.1
--------------- -------------- -------------- ----------------
Total fixed maturities $ 15,025.0 $ 628.2 $ 114.5 $ 15,538.7
=============== ============== ============== ================
It is management's objective that the portfolio of fixed maturities be
of high quality and be well diversified by market sector. The fixed
maturities in the Company's portfolio are generally rated by external
rating agencies and, if not externally rated, are rated by the Company
on a basis believed to be similar to that used by the rating agencies.
The average quality rating of the Company's fixed maturities portfolio
was A+ at December 31, 2004 and December 31, 2003. Ratings are
calculated using a rating hierarchy that considers S&P, Moody's, and
internal ratings.
Total fixed maturities by quality rating category, including fixed
maturities pledged to creditors, were as follows at December 31, 2004
and 2003:
2004 2003
--------------------------- ---------------------------
Fair % of Fair % of
Value Total Value Total
--------------- ---------- -------------- -----------
AAA $ 6,542.5 35.2% $ 5,690.2 35.3%
AA 865.3 4.7% 760.8 4.7%
A 4,035.7 21.7% 3,427.4 21.3%
BBB 6,325.2 34.0% 5,369.8 33.4%
BB 710.7 3.8% 642.4 4.0%
B and below 118.4 0.6% 207.2 1.3%
--------------- ---------- -------------- -----------
Total $ 18,597.8 100.0% $ 16,097.8 100.0%
=============== ========== ============== ===========
30
95.6% and 94.7% of the fixed maturities were invested in securities
rated BBB and above (Investment Grade) at December 31, 2004 and 2003,
respectively.
Fixed maturities rated BB and below (Below Investment Grade) may have
speculative characteristics, and changes in economic conditions or
other circumstances are more likely to lead to a weakened capacity of
the issuer to make principal and interest payments than is the case
with higher rated fixed maturities.
Total fixed maturities by market sector, including fixed maturities
pledged to creditors, were as follows at December 31, 2004 and 2003:
2004 2003
--------------------------- ---------------------------
Fair % of Fair % of
Value Total Value Total
--------------- ---------- -------------- -----------
U.S. Corporate $ 8,399.5 45.2% $ 7,960.3 49.5%
Residential mortgage-backed 3,461.8 18.6% 3,291.9 20.5%
Commercial/multifamily mortgage-backed 1,139.7 6.1% 817.9 5.0%
Foreign(1) 3,198.3 17.2% 2,561.2 15.9%
U.S. Treasuries/Agencies 464.7 2.5% 197.4 1.2%
Asset-backed 1,933.8 10.4% 1,269.1 7.9%
--------------- ---------- -------------- -----------
Total $ 18,597.8 100.0% $ 16,097.8 100.0%
=============== ========== ============== ===========
(1)Primarily U.S. dollar denominated
The amortized cost and fair value of fixed maturities as of December
31, 2004 are shown below by contractual maturity. Actual maturities
may differ from contractual maturities because securities may be
restructured, called, or prepaid.
Amortized Fair
Cost Value
--------------- ---------------
Due to mature:
One year or less $ 336.8 $ 341.5
After one year through five years 4,066.3 4,151.2
After five years through ten years 4,209.5 4,403.0
After ten years 3,051.6 3,166.9
Mortgage-backed securities 4,548.0 4,601.4
Other asset-backed securities 1,934.2 1,933.8
Less: fixed maturities pledged 1,100.5 1,108.6
--------------- ----------------
Fixed maturities, excluding
fixed maturities pledged $ 17,045.9 $ 17,489.2
=============== ================
The Company did not have any investments in a single issuer, other
than obligations of the U.S. government, with a carrying value in
excess of 10% of the Company's shareholder's equity at December 31,
2004.
At December 31, 2004 and 2003, fixed maturities with fair values of
$