Back to GetFilings.com
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM __________ TO __________
----------
COMMISSION FILE NUMBER 33-58677
----------
THE TRAVELERS LIFE AND ANNUITY COMPANY
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
CONNECTICUT 06-0904249
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ONE CITYPLACE, HARTFORD, CONNECTICUT 06103-3415
(Address of principal executive offices) (Zip Code)
(860) 308-1000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the 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 checkmark whether the registrant is an accelerated filer (as defined
in Exchange Act Rule 12b-2).
Yes No X
----- -----
As of the date hereof, there were outstanding 30,000 shares of common stock, par
value $100 per share, of the registrant, all of which were owned by The
Travelers Insurance Company, an indirect wholly owned subsidiary of Citigroup
Inc.
REDUCED DISCLOSURE FORMAT
The registrant meets the conditions set forth in General Instruction I(1)(a) and
(b) of Form 10-K and is therefore filing this Form with the reduced disclosure
format.
DOCUMENTS INCORPORATED BY REFERENCE: NONE
THE TRAVELERS LIFE AND ANNUITY COMPANY
TABLE OF CONTENTS
FORM 10-K
ITEM NUMBER PAGE
- ----------- ----
PART I
1. Business................................................... 2
2. Properties................................................. 4
3. Legal Proceedings.......................................... 5
4. Submission of Matters to a Vote of Security Holders........ 6
PART II
5. Market for Registrant's Common Equity and Related
Stockholder Matters........................................ 6
6. Selected Financial Data.................................... 6
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................. 7
7A. Quantitative and Qualitative Disclosures About Market
Risk....................................................... 12
8. Financial Statements and Supplementary Data................ 15
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure................................... 52
9A. Controls and Procedures.................................... 52
9B. Other Information.......................................... 52
PART III
10. Directors and Executive Officers of the Registrant......... 52
11. Executive Compensation..................................... 52
12. Security Ownership of Certain Beneficial Owners and
Management................................................. 52
13. Certain Relationships and Related Transactions............. 52
14. Principal Accountant Fees and Services..................... 53
PART IV
15. Exhibits and Financial Statement Schedules................. 54
Exhibit Index.............................................. 55
Signatures ................................................ 56
Index to Financial Statements and Financial Statement
Schedules.................................................. 57
Exhibit 31.01.............................................. 62
Exhibit 31.02.............................................. 63
Exhibit 32.01.............................................. 64
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
PART I
ITEM 1. BUSINESS.
GENERAL
The Travelers Life and Annuity Company (the Company) is a wholly owned
subsidiary of The Travelers Insurance Company (TIC), a wholly owned subsidiary
of Citigroup Insurance Holding Corporation (CIHC), an indirect wholly owned
subsidiary of Citigroup Inc. (Citigroup). Citigroup is a diversified global
financial services holding company whose businesses provide a broad range of
financial services to consumer and corporate customers around the world. The
periodic reports of Citigroup and TIC provide additional business and financial
information concerning those companies and their consolidated subsidiaries.
On January 31, 2005, Citigroup announced that it had agreed to sell its Life
Insurance and Annuity businesses, including TIC and the Company, to MetLife,
Inc. The transaction is subject to certain domestic and international regulatory
approvals, as well as other customary conditions to closing. TIC's Primerica
segment and certain other assets will remain with Citigroup. The transaction is
expected to close this summer. See Note 14 of Notes to Financial Statements. TIC
filed a Form 8-K regarding this proposed transaction on February 2, 2005.
The Company is a stock insurance company chartered in 1973 in the State of
Connecticut and has been continuously engaged in the insurance business since
that time. The Company is licensed to conduct life and annuity insurance
business in all the states except New York. The Company is also licensed to
conduct life and annuity insurance business in the District of Columbia and
Puerto Rico.
The Company offers retail annuities and individual life insurance to individuals
and small businesses under the Travelers Life & Annuity (TLA) name. On April 1,
2004 Travelers Property Casualty Corporation (TPC), a former affiliate of the
Company, merged with a subsidiary of The St. Paul Companies to form St. Paul
Travelers. TIC has a license from St. Paul Travelers to use the names "Travelers
Life & Annuity", "The Travelers Insurance Company" and "The Travelers Life and
Annuity Company."
The retail annuity products offered are fixed and variable deferred annuities.
Retail annuity products are distributed through affiliated and non-affiliated
channels. The primary affiliated distribution channels are Smith Barney (SB), a
division of Citigroup Global Markets Inc., and Primerica Financial Services,
Inc. (PFS). Retail annuity sales by SB accounted for 25% of total retail annuity
sales in 2004 and 32% in both 2003 and 2002. Sales by PFS accounted for 31%, 29%
and 26% in 2004, 2003 and 2002, respectively. In addition, the Company
distributes its products through CitiStreet Retirement Services, a division of
CitiStreet LLC, (CitiStreet) and Citibank, N.A. (Citibank), also affiliates of
the Company.
Individual life insurance is used to meet estate, business planning and
retirement needs and also to provide protection against financial loss due to
death. Individual life products are primarily marketed by independent financial
professionals and account for 83.5% of total 2004 life sales. SB and Citibank
accounted for 8.4% and 6.0%, respectively, of total individual life sales for
2004.
In the past, the Company offered group pension close-out business. The Company
no longer actively markets this product and all new sales are reported in TIC.
Periodically, premiums are collected from the business that remains in force.
Reserves related to this block of business remain recorded in the Company's
balance sheets.
2
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
The Company has assets held in a separate account related to reserves on
structured settlement contracts that provide guarantees for the contractholders
independent of the investment performance of the separate account assets. The
assets held in this separate account are owned by the Company and
contractholders do not share in their investment performance. The assets,
liabilities and earnings related to the structured settlements are fully
consolidated and are classified consistently with general account assets,
liabilities and earnings. These contracts were purchased by TPC in connection
with the settlement of certain of their policyholder obligations. Effective
April 1998, the Company no longer writes structured settlement contracts.
INSURANCE REGULATIONS
Insurance Regulatory Information System
The National Association of Insurance Commissioners (NAIC) Insurance Regulatory
Information System (IRIS) was developed to help state regulators identify
companies that may require special attention. The IRIS system consists of a
statistical phase and an analytical phase whereby financial examiners review
annual statements and financial ratios. The statistical phase consists of 12 key
financial ratios based on year-end data that are generated from the NAIC
database annually; each ratio has an established "usual range" of results. These
ratios assist state insurance departments in executing their statutory mandate
to oversee the financial condition of insurance companies.
A ratio result falling outside the usual range of IRIS ratios is not considered
a failing result; rather, unusual values are viewed as part of the regulatory
early monitoring system. Furthermore, in some years, it may not be unusual for
financially sound companies to have several ratios with results outside the
usual ranges. An insurance company may fall out of the usual range for one or
more ratios because of specific transactions that are in themselves immaterial.
Generally, an insurance company will become subject to regulatory scrutiny if it
falls outside the usual ranges for four or more of the ratios. The Company had
four ratios fall outside the usual range for December 31, 2004 statutory
financial statements filed on March 1, 2005. The Company had one ratio and
three ratios fall outside the usual range for December 31, 2003 and 2002,
respectively. The Company was not subject to any regulatory action by any state
insurance department or the NAIC with respect to these IRIS ratios for the 2003
and 2002 statutory financial statements.
Risk-Based Capital (RBC) Requirements
In order to enhance the regulation of insurer solvency, the NAIC adopted a
formula and model law to implement RBC requirements for most life and annuity
insurance companies, which are designed to determine minimum capital
requirements and to raise the level of protection that statutory surplus
provides for policyholder obligations. For this purpose, an insurer's total
adjusted capital is measured in relation to its specific asset and liability
profiles. A company's risk-based capital is calculated by applying factors to
various asset, premium and reserve items, where the factor is higher for those
items with greater underlying risk and lower for less risky items.
The RBC formula for life insurers measures four major areas of risk:
- asset risk (i.e., the risk of asset default),
- insurance risk (i.e., the risk of adverse mortality and morbidity
experience),
- interest rate risk (i.e., the risk of loss due to changes in interest
rates) and
- business risk (i.e., normal business and management risk).
3
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
Under laws adopted by the states, insurers having less total adjusted capital
than that required by the RBC calculation will be subject to varying degrees of
regulatory action, depending upon the level of capital inadequacy.
The RBC law provides for four levels of regulatory action as defined by the
NAIC. The extent of regulatory intervention and action increases as the level of
total adjusted capital to RBC falls. The first level, the company action level,
requires an insurer to submit a plan of corrective actions to the regulator if
total adjusted capital falls below 200% of the RBC amount. The second level, the
regulatory action level, requires an insurer to submit a plan containing
corrective actions and requires the relevant insurance commissioner to perform
an examination or other analysis and issue a corrective order if total adjusted
capital falls below 150% of the RBC amount. The third level, the authorized
control level, authorizes the relevant commissioner to take whatever regulatory
actions are considered necessary to protect the best interest of the
policyholders and creditors of the insurer which may include the actions
necessary to cause the insurer to be placed under regulatory control, i.e.,
rehabilitation or liquidation, if total adjusted capital falls below 100% of the
RBC amount. The fourth level, the mandatory control level, requires the relevant
insurance commissioner to place the insurer under regulatory control if total
adjusted capital falls below 70% or the RBC amount.
The formulas have not been designed to differentiate among adequately
capitalized companies, which operate with higher levels of capital. Therefore,
it is inappropriate and ineffective to use the formula to rate or rank
companies. At December 31, 2004, the Company had total adjusted capital in
excess of amounts requiring company action or any level of regulatory action at
any prescribed RBC level.
Insurance Regulation Concerning Dividends
The Company is domiciled in the State of Connecticut. The insurance holding
company law of Connecticut requires notice to, and approval by, the State of
Connecticut Insurance Department for the declaration or payment of any dividend
which, together with other distributions made within the preceding twelve
months, exceeds the greater of (i) 10% of the insurer's surplus or (ii) the
insurer's net gain from operations for the twelve-month period ending on the
preceding December 31st, in each case determined in accordance with statutory
accounting practices. Such declaration or payment is further limited by adjusted
unassigned funds (surplus), reduced by 25% of the change in net unrealized
capital gains, as determined in accordance with statutory accounting practices.
In accordance with the Connecticut statute, the Company may not pay dividends
during 2005 without prior approval of the State of Connecticut Insurance
Department.
Code of Ethics
The Company has adopted a code of ethics for financial professionals which
applies to the Company's principal executive officer and principal financial and
accounting officer. The code of ethics for financial professionals has been
included as an exhibit to this Form 10-K and can be found on the Citigroup
website by selecting the "Corporate Governance" page.
ITEM 2. PROPERTIES.
The Company's executive offices are located in Hartford, Connecticut. The
Company and TIC moved their executive offices to One Cityplace, Hartford,
Connecticut, during the first quarter of 2003. The Company and TIC occupy
373,000 square feet at this location under an operating lease (in which TIC is
the lessee) that runs through October 31, 2008. Management believes that these
facilities are suitable and adequate for the Company's current needs.
The preceding discussion does not include information on investment properties.
4
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
ITEM 3. LEGAL PROCEEDINGS.
In August 1999, an amended putative class action complaint captioned Lisa
Macomber, et al. vs. Travelers Property Casualty Corporation, et al. was filed
in New Britain, Connecticut Superior Court against the Company, its parent
corporation, certain of the Company's affiliates (collectively TLA), and the
Company's former affiliate, Travelers Property Casualty Corporation. The amended
complaint alleges Travelers Property Casualty Corporation purchased structured
settlement annuities from the Company and spent less on the purchase of those
structured settlement annuities than agreed with claimants; and that commissions
paid to brokers of structured settlement annuities, including an affiliate of
the Company, were paid, in part, to Travelers Property Casualty Corporation. The
amended complaint was dismissed and following an appeal by plaintiff in
September 2002 the Connecticut Supreme Court reversed the dismissal of several
of the plaintiff's claims. On May 26, 2004, the Connecticut Superior Court
certified a nationwide class action. The class action claims against TLA are
violation of the Connecticut Unfair Trade Practice Statute, unjust enrichment
and civil conspiracy. On June 15, 2004, the Defendants, including TLA, appealed
the Connecticut Superior Court's May 26, 2004 class certification order.
In 2003 and 2004, several issues in the mutual fund and variable insurance
product industries have come under the scrutiny of federal and state regulators.
Like many other companies in our industry, the Company has received a request
for information from the Securities and Exchange Commission (SEC) and a subpoena
from the New York Attorney General regarding market timing and late trading.
During 2004 the SEC requested additional information about the Company's
variable product operations on market timing, late trading and revenue sharing,
and the SEC, the National Association of Securities Dealers and the New York
Insurance Department have made inquiries into these issues and other matters
associated with the sale and distribution of insurance products. In addition,
like many insurance companies and agencies, in 2004 and 2005 the Company
received inquiries from certain state Departments of Insurance regarding
producer compensation and bidding practices. The Company is cooperating fully
with all of these requests and is not able to predict their outcomes.
5
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Omitted pursuant to General Instruction I(2)(c) of Form 10-K.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company has 100,000 authorized shares of common stock, of which 30,000 are
issued and outstanding as of December 31, 2004. All outstanding shares of the
Company's common stock are held by TIC, and there exists no established public
trading market for the common stock of the Company. The Company did not pay
dividends in 2004 or 2003. See Note 7 of Notes to Financial Statements for
dividend restrictions.
ITEM 6. SELECTED FINANCIAL DATA.
Omitted pursuant to General Instruction I(2)(a) of Form 10-K.
6
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
PART II (CONTINUED)
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
Management's narrative analysis of the results of operations is presented in
lieu of Management's Discussion and Analysis of Financial Condition and Results
of Operations, pursuant to General Instruction I(2)(a) of Form 10-K.
The Company's Annual Report on Form 10-K, its quarterly reports on Form 10-Q and
any current reports on Form 8-K, and all amendments to these reports are
available on the Travelers Life & Annuity website at
http://www.travelerslife.com by selecting the "Financial Information" page and
selecting "SEC Filings."
CRITICAL ACCOUNTING POLICIES
The Notes to Financial Statements contain a summary of the Company's significant
accounting policies, including a discussion of recently issued accounting
pronouncements. Certain of these policies are considered to be critical to the
portrayal of the Company's financial condition since they require management to
make difficult, complex or subjective judgments, some of which may relate to
matters that are inherently uncertain, which are discussed below.
DEFERRED ACQUISITION COSTS
Deferred acquisition costs (DAC) represent costs that are deferred and amortized
over the estimated life of the related insurance policies. DAC principally
includes commissions and certain expenses related to policy issuance,
underwriting and marketing, all of which vary with and are primarily related to
the production of new business. The method for determining amortization of
deferred acquisition costs varies by product type based upon three different
accounting pronouncements: Statement of Financial Accounting Standards (SFAS)
No. 60, "Accounting and Reporting by Insurance Enterprises" (SFAS 60), SFAS No.
91, "Accounting for Nonrefundable Fees and Costs Associated with Originating or
Acquiring Loans and Initial Direct Costs of Leases" (SFAS 91) and SFAS No. 97,
"Accounting and Reporting by Insurance Enterprises for Certain Long Duration
Contracts and for Realized Gains and Losses from the Sale of Investments" (SFAS
97).
DAC for deferred annuities, both fixed and variable, is amortized employing a
level effective yield methodology per SFAS 91 as indicated by AICPA Practice
Bulletin 8, generally over 10-15 years. An amortization rate is developed using
the outstanding DAC balance and projected account balances. This rate is applied
to actual account balances to determine the amount of DAC amortization. The
projected account balances are derived using a model that contains assumptions
related to investment returns and persistency. The model rate is evaluated at
least annually, and changes in underlying lapse and interest rate assumptions
are to be treated retrospectively. Variances in expected equity market returns
versus actual returns are treated prospectively and a new amortization pattern
is developed so that the DAC balances will be amortized over the remaining
estimated life of the business.
DAC for universal life (UL) is amortized in relation to estimated gross profits
from surrender charges, investment, mortality, and expense margins per SFAS 97,
generally over 16-25 years. Actual profits can vary from management's estimates,
resulting in increases or decreases in the rate of amortization. Re-estimates of
gross profits, performed at least annually, result in retrospective adjustments
to earnings by a cumulative charge or credit to income.
7
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
DAC relating to traditional life, including term insurance, is amortized in
relation to anticipated premiums per SFAS 60, generally over 5-20 years.
Assumptions as to the anticipated premiums are made at the date of policy
issuance or acquisition and are consistently applied over the life of the
policy.
All DAC is reviewed, at least annually, to determine if it is recoverable from
future income, including investment income, and, if not recoverable, is charged
to expense. All other acquisition expenses are charged to operations as
incurred.
FUTURE POLICY BENEFITS
Future policy benefits represent liabilities for future insurance policy
benefits for payout annuities and traditional life products and are prepared in
accordance with industry standards and accounting principles generally accepted
in the United States of America (GAAP). The annuity payout reserves are
calculated using the mortality and interest assumptions used in the actual
pricing of the benefit. Mortality assumptions are based on Company experience
and are adjusted to reflect deviations such as substandard mortality in
structured settlement benefits. The interest rates range from 1.5% to 9.2% for
these annuity products with a weighted average interest rate of 6.6%, including
adverse deviation. Traditional life products include whole life and term
insurance. Future policy benefits for traditional life products are estimated on
the basis of actuarial assumptions as to mortality, persistency and interest,
established at policy issue and are based on the Company's experience, which,
together with interest assumptions, include a margin for adverse deviation.
Appropriate recognition has been given to experience rating and reinsurance.
Interest assumptions applicable to traditional life products range from 3.0% to
7.0%, with a weighted average of 6.3%.
INVESTMENTS IN FIXED MATURITIES
Fixed maturities, which comprise 85% and 88% of total investments at December
31, 2004 and 2003, respectively, include bonds, notes and redeemable preferred
stocks. Fixed maturities, including financial instruments subject to securities
lending agreements (see Note 2 of Notes to Financial Statements), are classified
as "available for sale" and are reported at fair value, with unrealized
investment gains and losses, net of income taxes, credited or charged directly
to shareholder's equity. Fair values of investments in fixed maturities are
based on quoted market prices or dealer quotes. If quoted market prices are not
available, discounted expected cash flows using market rates commensurate with
the credit quality and maturity of the investment are used to determine fair
value. Impairments are realized when investment losses in value are deemed
other-than-temporary. The Company conducts a rigorous review each quarter to
identify and evaluate investments that have indications of impairment. An
investment in a debt or equity security is impaired if its fair value falls
below its cost and the decline is considered other- than-temporary. Factors
considered in determining whether a loss is other-than-temporary include the
length of time and extent to which fair value has been below cost; the financial
condition and near-term prospects of the issuer; and the Company's ability and
intent to hold the investment for a period of time sufficient to allow for any
anticipated recovery. Changing economic conditions - global, regional, or
related to specific issuers or industries - could result in other-than-temporary
losses.
PREMIUMS
Premium income is reported for individual payout annuities, group close-out
annuities, whole life and term insurance. The annuities premiums are recognized
as revenue when collected. The life premiums are recognized as revenues when
due. Premiums for contracts with a limited number of premium payments, due over
a significantly shorter period than the period over which benefits are provided,
are
8
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
considered revenue when due. The portion of premium which is not required to
provide for benefits and expenses is deferred and recognized in revenues in a
constant relationship to insurance benefits in force.
RESULTS OF OPERATIONS ($ in millions)
FOR THE YEAR ENDED DECEMBER 31, 2004 2003
- ------------------------------- ---- ----
Revenues $822 $646
Benefits and interest credited 326 307
Operating expenses 289 185
---- ----
Income before taxes 207 154
Income taxes 49 35
---- ----
Net income $158 $119
==== ====
Net income of $158 million in 2004, increased 33% from $119 million in 2003 from
higher fee income and net investment income (NII) related to increased business
volumes. These increases were partially offset by a 56% increase in operating
expenses, which resulted from the increased business volumes related to deposits
and market appreciation, and which included greater amortization of DAC. Lower
tax benefits from the separate account dividends received deduction (DRD), also
partially offset the increased revenues. Net income included net after-tax
realized investment gains (losses) of $11.2 million and $(4.7) million for the
years ended December 31, 2004 and 2003, respectively. A tax benefit related to
adjustments to the DRD of prior periods in 2004 and 2003 of $9.6 million and
$13.1 million, respectively, contributed to a 24% effective tax rate for 2004
and a 23% effective tax rate for 2003.
Revenues increased 27% in 2004 over prior year. This increase was driven by NII
and fee income. NII was $389 million in 2004 compared to $356 million in 2003.
This increase was primarily due to a larger invested asset base created from a
$400 million capital contribution from TIC and higher business volumes. Fee
income increased $134 million, or 57%, in the current year compared to 2003,
primarily from $188 million of management fees from variable annuities and $182
million from universal life fees.
Operating expenses in 2004 were up $104 million, or 56%, over the prior year due
to an increase in the amortization of DAC, which was $226 million in 2004 versus
$136 million in 2003, and an increase in other expenses related to business
volume.
The amortization of capitalized DAC is a significant component of the Company's
expenses. The Company's recording of DAC amortization varies based upon product
type. DAC for retail annuities, both fixed and variable employs a level yield
methodology as described in SFAS 91. DAC for UL is amortized in relation to
estimated gross profits as described in SFAS 97, with traditional life,
including term insurance and other products, amortized in relation to
anticipated premiums as per SFAS 60.
9
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
The following is a summary of capitalized DAC by type:
Traditional Deferred
($ in millions) Life Annuity UL Total
- --------------- ----------- -------- ---- ------
Beginning balance January 1, 2003 $ 55 $ 632 $377 $1,064
Commissions and expenses deferred 14 172 165 351
Amortization expense (10) (107) (19) (136)
---- ----- ---- ------
Balance December 31, 2003 59 697 523 1,279
Commissions and expenses deferred 11 182 276 469
Amortization expense (10) (147) (43) (200)
Underlying lapse and interest rate assumptions -- (2) -- (2)
Pattern of estimated gross profit adjustment -- -- (24) (24)
---- ----- ---- ------
Balance December 31, 2004 $ 60 $ 730 $732 $1,522
==== ===== ==== ======
DAC capitalization increased $118 million, or 34%, in 2004 versus 2003. The 2004
growth was driven by a 67% increase in UL capitalization which is consistent
with the increase in premiums and deposits for the individual life line of
business. The increase in amortization expense in 2004 was primarily driven by
business volume growth in variable deferred annuities and UL. Included in UL's
2004 amortization expense was a one-time $24 million retrospective adjustment
for the change in pattern of the estimated gross profits.
The following table shows net written premiums and deposits by product line for
the years ended December 31, 2004 and 2003. The majority of the annuity business
and a substantial portion of the life business written by the Company are
accounted for as investment contracts, with the result that the deposits
collected are reported as liabilities and are not included in revenues. Deposits
represent a statistic used for measuring business volumes, which management of
the Company uses to manage the life insurance and annuities operations, and may
not be comparable to similarly captioned measurements used by other life
insurance companies.
10
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
PREMIUMS AND DEPOSITS ($ in millions)
FOR THE YEARS ENDED DECEMBER 31, 2004 2003
- -------------------------------- ------ ------
Premiums
Individual Life $ 34 $ 37
Other Annuity 6 4
------ ------
Total Premiums $ 40 $ 41
------ ------
Deposits
Retail Annuity - Fixed $ 392 $ 606
Retail Annuity - Variable 1,637 1,581
------ ------
Total Retail Annuity 2,029 2,187
Individual Life 950 599
Other Annuity 4 4
------ ------
Total Deposits $2,983 $2,790
------ ------
Retail annuity deposits collected for the year ended December 31, 2004 decreased
$158 million, or 7%, from the prior year. This decrease was driven by lower
fixed annuity sales and a third quarter 2004 shift in offering certain retail
annuity products by TIC, which were previously offered by the Company. Variable
annuity deposits collected for the twelve months ended December 31, 2004 were up
$56 million from the twelve months ended December 31, 2003 due mainly to
improved equity market conditions in 2004 versus 2003; and sales related to the
guaranteed minimum withdrawal benefit feature to the variable annuity product.
These variable annuity deposit increases were partially decreased by the shift
of variable products into TIC. This should continue in future periods. This is a
forward looking statement within the meaning of the Private Securities
Litigation Reform Act. See "Forward-Looking Statements" on the following page.
Retail annuity account balances and benefit reserves were $14.9 billion and
$13.0 billion at December 31, 2004 and 2003, respectively. This increase is
reflective of $1.0 billion market appreciation and $1.2 billion of net sales of
variable annuity investments over the past year.
Individual life deposits increased $351 million, or 59%, for the twelve months
ended December 31, 2004 versus 2003 as a result of increased universal life
production including significant single premium sales in the second quarter of
2004. Life insurance in force was $54.9 billion at December 31, 2004, up from
$43.7 billion at December 31, 2003.
OUTLOOK
Certain of the statements below are forward-looking statements within the
meaning of the Private Securities Litigation Reform Act. See "Forward-Looking
Statements" on the following page.
The Company is included in the TLA segment of TIC and its outlook should be
considered within that context. The Company should benefit from growth in the
aging population which is becoming more focused on the need to accumulate
adequate savings for retirement, to protect these savings and to plan for the
transfer of wealth to the next generation. The Company is well positioned to
take advantage of the favorable long-term demographic trends through its strong
financial position, widespread brand name recognition and broad array of
competitive life, annuity, retirement and estate planning products sold through
established distribution channels.
11
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
TLA's business is significantly affected by movements in the U.S. equity and
fixed income credit markets. U.S. equity and credit market events can have both
positive and negative effects on the deposit, revenue and policy retention
performance of the business. A sustained weakness in the equity markets will
decrease revenues and earnings in variable annuity products. Declines in credit
quality of issuers will have a negative effect on earnings. The retail annuities
business is interest rate and equity market sensitive. TLA's variable annuities
offer products with guaranteed features that are equity market sensitive. The
guaranteed minimum death benefit feature pays benefits when at the time of death
of a contractholder the account value is below the guaranteed amount. Another
guaranteed feature offered is a guaranteed minimum withdrawal benefit, which is
considered an embedded derivative. Exposure increases with the decline in equity
markets and exposure decreases with equity market growth. This creates earnings
volatility because the embedded derivative is marked to market through income.
TLA has entered into an alternative hedging strategy to reduce the earnings
volatility.
Citigroup, the Company's ultimate parent has agreed to sell its Life Insurance
and Annuities business to MetLife, Inc. The Company is included in Citigroup's
Life Insurance and Annuities business. The transaction is expected to close this
summer. At that time, the Company will become part of MetLife, Inc.
Federal and state regulators have focused on, and continue to devote substantial
attention to, the mutual fund and variable insurance product industries. As a
result of publicity relating to widespread perceptions of industry abuses, there
have been numerous proposals for legislative and regulatory reforms, including
mutual fund governance, new disclosure requirements concerning mutual fund share
classes, commission breakpoints, revenue sharing, advisory fees, market timing,
late trading, portfolio pricing, annuity products, hedge funds, producer
compensation and other issues. It is difficult to predict at this time whether
changes resulting from new laws and regulations will affect the industries or
the Company's businesses, and, if so, to what degree.
FUTURE APPLICATION OF ACCOUNTING STANDARDS
See Note 1 of Notes to Financial Statements for a discussion of recently issued
accounting pronouncements.
FORWARD-LOOKING STATEMENTS
Certain of the statements contained herein that are not historical facts are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act. The Company's actual results may differ materially from
those included in the forward-looking statements. Forward-looking statements are
typically identified by the words "believe," "expect," "anticipate," "intend,"
"estimate," "may increase," "predict", and similar expressions or future or
conditional verbs such as "will," "should," "would," and "could." These
forward-looking statements involve risks and uncertainties including, but not
limited to, regulatory matters, the resolution of legal proceedings, the impact
that the proposed sale to MetLife, Inc., may have on the Company and its
prospects, the potential impact of a decline in credit quality of investments on
earnings; the Company's market risk and the discussions of the Company's
prospects under "Outlook" on the page 11.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss arising from adverse changes in market rates and
prices, such as interest rates, foreign currency exchange rates, and other
relevant market rate or price changes. Market risk is directly influenced by the
volatility and liquidity in the markets in which the related underlying assets
are
12
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
traded. The following is a discussion of the Company's primary market risk
exposures and how those exposures are currently managed as of December 31, 2004.
The Company's market risk sensitive instruments are entered into for purposes
other than trading.
The primary market risk to the Company's investment portfolio is interest rate
risk. The Company's exposure to equity price risk and foreign exchange risk is
not significant. The Company has no direct commodity risk.
The interest rate risk taken in the investment portfolio is managed relative to
the duration of the liabilities. The portfolio is differentiated by business
unit, with each unit's portfolio structured to meet its particular needs.
Potential liquidity needs of the business are also key factors in managing the
investment portfolio. The portfolio duration relative to the liabilities'
duration is primarily managed through cash market transactions. For additional
information regarding the Company's investment portfolio see Note 2 of Notes to
Financial Statements.
There were no significant changes in the Company's primary market risk exposures
or in how those exposures are managed compared to the year ended December 31,
2003. The Company does not anticipate significant changes in the Company's
primary market risk exposures or in how those exposures are managed in future
reporting periods based upon what is known or expected to be in effect in future
reporting periods. The statements above are forward-looking statements within
the meaning of the Private Securities Litigation Reform Act. See
"Forward-Looking Statements" on the previous page.
SENSITIVITY ANALYSIS
Sensitivity analysis is defined as the measurement of potential loss in future
earnings, fair values or cash flows of market sensitive instruments resulting
from one or more selected hypothetical changes in interest rates and other
market rates or prices over a selected time. In the Company's sensitivity
analysis model, a hypothetical change in market rates is selected that is
expected to reflect reasonably possible near-term changes in those rates. The
term "near-term" means a period of time going forward up to one year from the
date of the financial statements. Actual results may differ from the
hypothetical change in market rates assumed in this report, especially since
this sensitivity analysis does not reflect the results of any actions that would
be taken by the Company to mitigate such hypothetical losses in fair value.
In this sensitivity analysis model, the Company uses fair values to measure its
potential loss. The sensitivity analysis model includes the following financial
instruments: fixed maturities, mortgage loans, short-term securities, cash,
investment income accrued, policy loans, contractholder funds, and derivative
financial instruments. In addition, certain non-financial instrument liabilities
have been included in the sensitivity analysis model. These non-financial
instruments include future policy benefits and policy and contract claims. The
primary market risk to the Company's market sensitive instruments is interest
rate risk. The sensitivity analysis model uses a 100 basis point change in
interest rates to measure the hypothetical change in fair value of financial
instruments and the non-financial instruments included in the model.
For invested assets, duration modeling is used to calculate changes in fair
values. Durations on invested assets are adjusted for call, put and reset
features. Portfolio durations are calculated on a market value weighted basis,
including accrued investment income, using trade date holdings as of December
31, 2004 and 2003. The sensitivity analysis model used by the Company produces a
loss in fair value of interest rate sensitive invested assets of approximately
$335 million and $299 million based on a 100 basis point increase in interest
rates as of December 31, 2004 and 2003, respectively.
13
THE TRAVELERS LIFE AND ANNUITY COMPANY
ANNUAL REPORT ON FORM 10-K
Liability durations are determined consistently with the determination of
liability fair values. Where fair values are determined by discounting expected
cash flows, the duration is the percentage change in the fair value for a 100
basis point change in the discount rate. Where liability fair values are set
equal to surrender values, option-adjusted duration techniques are used to
calculate changes in fair values. The sensitivity analysis model used by the
Company produces a decrease in fair value of interest rate sensitive insurance
policy and claims reserves of approximately $274 million and $254 million based
on a 100 basis point increase in interest rates as of December 31, 2004 and
2003, respectively. Based on the sensitivity analysis model used by the Company,
the net loss in fair value of market sensitive instruments as a result of a 100
basis point increase in interest rates as of December 31, 2004 and 2003 is not
material.
14
THE TRAVELERS LIFE AND ANNUITY COMPANY
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
PAGE
----
Report of Independent Registered Public Accounting Firm.................. 16
Financial Statements:
Statements of Income for the years ended
December 31, 2004, 2003 and 2002...................................... 17
Balance Sheets as of December 31, 2004 and 2003....................... 18
Statements of Changes in Shareholder's Equity for the years
ended December 31, 2004, 2003 and 2002................................ 19
Statements of Cash Flows for the years ended
December 31, 2004, 2003 and 2002...................................... 20
Notes to Financial Statements......................................... 21
15
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholder
The Travelers Life and Annuity Company:
We have audited the accompanying balance sheets of The Travelers Life and
Annuity Company as of December 31, 2004 and 2003, and the related statements of
income, changes in shareholder's equity, and cash flows for each of the years in
the three-year period ended December 31, 2004. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of The Travelers Life and Annuity
Company as of December 31, 2004 and 2003, and the results of its operations and
its cash flows for each of the years in the three-year period ended December 31,
2004, in conformity with U.S. generally accepted accounting principles.
As discussed in Note 1 to the financial statements, the Company changed its
methods of accounting and reporting for certain nontraditional long-duration
contracts and for separate accounts in 2004 and for goodwill and intangible
assets in 2002.
/s/ KPMG LLP
Hartford, Connecticut
March 28, 2005
16
THE TRAVELERS LIFE AND ANNUITY COMPANY
STATEMENTS OF INCOME
($ in millions)
FOR THE YEAR ENDED DECEMBER 31, 2004 2003 2002
- ------------------------------- ---- ---- ----
REVENUES
Premiums $ 40 $ 41 $ 43
Net investment income 389 356 312
Net realized investment gains (losses) 17 (7) (31)
Fee income 371 237 190
Other revenues 5 19 19
---- ---- ----
Total Revenues 822 646 533
---- ---- ----
BENEFITS AND EXPENSES
Current and future insurance benefits 85 90 94
Interest credited to contractholders 241 217 181
Amortization of deferred acquisition costs 226 136 67
General and administrative expenses 63 49 32
---- ---- ----
Total Benefits and Expenses 615 492 374
---- ---- ----
Income before federal income taxes 207 154 159
---- ---- ----
Federal income taxes
Current 96 74 (31)
Deferred (47) (39) 87
---- ---- ----
Total Federal Income Taxes 49 35 56
---- ---- ----
Net Income $158 $119 $103
==== ==== ====
See Notes to Financial Statements.
17
THE TRAVELERS LIFE AND ANNUITY COMPANY
BALANCE SHEETS
($ in millions)
AT DECEMBER 31, 2004 2003
- --------------- ------- -------
ASSETS
Fixed maturities, available for sale at fair value (including $133
and $131 subject to securities lending agreements)
(cost $5,929 and $5,034) $ 6,261 $ 5,357
Equity securities, at fair value (cost $16 and $8) 19 8
Mortgage loans 212 136
Short-term securities 420 195
Other invested assets 417 393
------- -------
Total Investments 7,329 6,089
------- -------
Separate and variable accounts 11,631 9,690
Deferred acquisition costs 1,522 1,279
Premiums and fees receivable 75 67
Other assets 268 313
------- -------
Total Assets $20,825 $17,438
------- -------
LIABILITIES
Future policy benefits and claims $ 1,079 $ 1,098
Contractholder funds 5,227 4,512
Separate and variable accounts 11,631 9,690
Deferred federal income taxes 180 225
Other liabilities 747 515
------- -------
Total Liabilities 18,864 16,039
------- -------
SHAREHOLDER'S EQUITY
Common stock, par value $100; 100,000 shares authorized,
30,000 issued and outstanding 3 3
Additional paid-in capital 817 417
Retained earnings 922 764
Accumulated other changes in equity from nonowner sources 219 215
------- -------
Total Shareholder's Equity 1,961 1,399
------- -------
Total Liabilities and Shareholder's Equity $20,825 $17,438
======= =======
See Notes to Financial Statements.
18
THE TRAVELERS LIFE AND ANNUITY COMPANY
STATEMENTS OF CHANGES IN SHAREHOLDER'S EQUITY
($ in millions)
FOR THE YEAR ENDED
DECEMBER 31,
---------------------------
2004 2003 2002
------ ------ ------
COMMON STOCK
Balance, beginning of year $ 3 $ 3 $ 3
Changes in common stock -- -- --
------ ------ ------
Balance, end of year $ 3 $ 3 $ 3
====== ====== ======
ADDITIONAL PAID-IN CAPITAL
Balance, beginning of year $ 417 $ 417 $ 417
Capital contributed by parent 400 -- --
------ ------ ------
Balance, end of year $ 817 $ 417 $ 417
====== ====== ======
RETAINED EARNINGS
Balance, beginning of year $ 764 $ 645 $ 542
Net income 158 119 103
------ ------ ------
Balance, end of year $ 922 $ 764 $ 645
====== ====== ======
ACCUMULATED OTHER CHANGES
IN EQUITY FROM NONOWNER SOURCES
Balance, beginning of year $ 215 $ 95 $ 16
Unrealized gains, net of tax 9 123 72
Derivative instrument hedging activity gains
(losses), net of tax (5) (3) 7
------ ------ ------
Balance, end of year $ 219 $ 215 $ 95
====== ====== ======
SUMMARY OF CHANGES IN EQUITY
FROM NONOWNER SOURCES
Net income $ 158 $ 119 $ 103
Other changes in equity from nonowner sources 4 120 79
------ ------ ------
Total changes in equity from nonowner sources $ 162 $ 239 $ 182
====== ====== ======
TOTAL SHAREHOLDER'S EQUITY
Balance, beginning of year $1,399 $1,160 $ 978
Changes in total shareholder's equity 562 239 182
------ ------ ------
Balance, end of year $1,961 $1,399 $1,160
====== ====== ======
See Notes to Financial Statements.
19
THE TRAVELERS LIFE AND ANNUITY COMPANY
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH
($ in millions)
FOR THE YEARS ENDED DECEMBER 31, 2004 2003 2002
- -------------------------------- ------- ------- -------
CASH FLOWS FROM OPERATING ACTIVITIES
Premiums collected $ 39 $ 44 $ 44
Net investment income received 383 320 277
Fee and other income received 399 265 239
Benefits and claims paid (134) (106) (104)
Interest paid to contractholders (241) (217) (181)
Operating expenses paid (470) (437) (344)
Income taxes (paid) received 179 (135) 89
Other (46) 41 (21)
------- ------- -------
Net Cash Provided by (Used in) Operating Activities 109 (225) (1)
------- ------- -------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from maturities of investments
Fixed maturities 489 520 255
Mortgage loans 53 23 36
Proceeds from sales of investments
Fixed maturities 802 1,658 1,690
Equity securities 19 8 36
Mortgage loans 6 -- --
Real estate held for sale 2 1 --
Purchases of investments
Fixed maturities (2,179) (2,824) (3,018)
Equity securities (30) (4) (36)
Mortgage loans (136) (28) (45)
Policy loans, net (5) 1 (11)
Short-term securities (purchases) sales, net (225) 280 (269)
Other investment purchases, net (43) (46) (21)
Securities transactions in course of settlement, net 23 (4) 118
------- ------- -------
Net Cash Used in Investing Activities (1,224) (415) (1,265)
------- ------- -------
CASH FLOWS FROM FINANCING ACTIVITIES
Contractholder fund deposits 1,023 914 1,486
Contractholder fund withdrawals (308) (288) (224)
Contribution from parent company 400 -- --
------- ------- -------
Net Cash Provided by Financing Activities 1,115 626 1,262
------- ------- -------
Net increase (decrease) in cash -- (14) (4)
Cash at beginning of year 1 15 19
------- ------- -------
Cash at December 31, $ 1 $ 1 $ 15
======= ======= =======
See Notes to Financial Statements.
20
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Significant accounting policies used in the preparation of the accompanying
financial statements follow.
BASIS OF PRESENTATION
The Travelers Life and Annuity Company (the Company) is a wholly owned
subsidiary of The Travelers Insurance Company (TIC), a wholly owned
subsidiary of Citigroup Insurance Holding Corporation (CIHC), an indirect
wholly owned subsidiary of Citigroup Inc. (Citigroup), a diversified global
financial services holding company whose businesses provide a broad range
of financial services to consumer and corporate customers around the world.
On January 31, 2005, Citigroup announced its intention to sell its Life
Insurance and Annuities business, which includes TIC, the Company and
certain other businesses, to MetLife. TIC's Primerica Life Segment will
remain part of Citigroup. See Note 14.
The financial statements and accompanying footnotes of the Company are
prepared in conformity with U.S. generally accepted accounting principles
(GAAP). The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities, the disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenues and benefits and expenses during the reporting
period. Actual results could differ from those estimates.
Certain prior year amounts have been reclassified to conform to the 2004
presentation.
ACCOUNTING CHANGES
ACCOUNTING AND REPORTING BY INSURANCE ENTERPRISES FOR CERTAIN
NONTRADITIONAL LONG-DURATION CONTRACTS AND FOR SEPARATE ACCOUNTS
On January 1, 2004, the Company adopted the Accounting Standards Executive
Committee of the American Institute of Certified Public Accountants
Statement of Position 03-1, "Accounting and Reporting by Insurance
Enterprises for Certain Nontraditional Long-Duration Contracts and for
Separate Accounts" (SOP 03-1). The main components of SOP 03-1 provide
guidance on accounting and reporting by insurance enterprises for separate
account presentation, accounting for an insurer's interest in a separate
account, transfers to a separate account, valuation of certain liabilities,
contracts with death or other benefit features, contracts that provide
annuitization benefits, and sales inducements to contract holders.
21
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
The following summarizes the more significant aspects of the Company's
adoption of SOP 03-1:
Variable Annuity Contracts with Guaranteed Minimum Death Benefit Features.
For variable annuity contracts with guaranteed minimum death benefit (GMDB)
features, SOP 03-1 requires the reporting entity to categorize the contract
as either an insurance or investment contract based upon the significance
of mortality or morbidity risk. SOP 03-1 provides explicit guidance for
calculating a reserve for insurance contracts, and provides that the
reporting entity does not hold reserves for investment contracts (i.e.
there is no significant mortality risk).
The Company determined that the mortality risk on its GMDB features was not
a significant component of the total variable annuity product, and
accordingly continued to classify these products as investment contracts.
Reserving for Universal Life and Variable Universal Life Contracts. SOP
03-1 requires that a reserve, in addition to the account balance, be
established for certain insurance benefit features provided under universal
life (UL) and variable universal life (VUL) products if the amounts
assessed against the contract holder each period for the insurance benefit
feature are assessed in a manner that is expected to result in profits in
earlier years and losses in subsequent years from the insurance benefit
function.
The Company's UL and VUL products were reviewed to determine if an
additional reserve is required under SOP 03-1. The Company determined that
SOP 03-1 applied to some of its UL and VUL contracts with these features
and established an additional reserve of less than $1 million.
Sales Inducements to Contract Holders. SOP 03-1 provides that,
prospectively, sales inducements provided to contract holders meeting
certain criteria are capitalized and amortized over the expected life of
the contract as a component of benefit expense. During 2004, the Company
capitalized sales inducements of approximately $24.9 million in accordance
with SOP 03-1. These inducements relate to bonuses on certain products
offered by the Company. For the twelve months ended December 31, 2004,
amortization of these capitalized amounts was insignificant.
CONSOLIDATION OF VARIABLE INTEREST ENTITIES
On January 1, 2004, the Company adopted the Financial Accounting Standards
Board (FASB) Interpretation No. 46, "Consolidation of Variable Interest
Entities (revised December 2003)" (FIN 46-R), which includes substantial
changes from the original FIN 46. Included in these changes, the
calculation of expected losses and expected residual returns has been
altered to reduce the impact of decision maker and guarantor fees in the
calculation of expected residual returns and expected losses. In addition,
the definition of a variable interest has been changed in the revised
guidance. FIN 46 and FIN 46-R change the method of determining whether
certain entities should be included in the Company's financial statements.
The Company has evaluated the impact of applying FIN 46-R to existing
variable interest entities in which it has variable interests. The effect
of adopting FIN 46-R on the Company's balance sheet is immaterial.
An entity is subject to FIN 46 and FIN 46-R and is called a VIE if it has
(1) equity that is insufficient to permit the entity to finance its
activities without additional subordinated financial support from other
parties, or (2) equity investors that cannot make significant decisions
about the entity's operations or that do not absorb the expected losses or
receive the expected returns of the entity. All other entities are
evaluated for consolidation under Statement of Financial Accounting
Standards (SFAS) No. 94, "Consolidation of All Majority-Owned Subsidiaries"
(SFAS 94). A VIE is consolidated by its primary beneficiary, which is the
party involved with the VIE that has a majority of the expected losses or a
majority of the expected residual returns or both.
22
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
For any VIEs that must be consolidated under FIN 46 that were created
before February 1, 2003, the assets, liabilities, and noncontrolling
interests of the VIE are initially measured at their carrying amounts with
any difference between the net amount added to the balance sheet and any
previously recognized interest being recognized as the cumulative effect of
an accounting change. If determining the carrying amounts is not
practicable, fair value at the date FIN 46 first applies may be used to
measure the assets, liabilities, and noncontrolling interests of the VIE.
In October 2003, the FASB announced that the effective date of FIN 46 was
deferred from July 1, 2003 to periods ending after December 15, 2003 for
VIEs created prior to February 1, 2003. The Company elected to implement
the provisions of FIN 46 in the 2003 third quarter. The implementation of
FIN 46 encompassed a review of numerous entities to determine the impact of
adoption and considerable judgment was used in evaluating whether or not a
VIE should be consolidated. Based upon the implementation guidance, the
Company is not considered a primary beneficiary of any VIEs, thus no
consolidations were required due to the implementation of FIN 46 on July 1,
2003. The Company does, however, hold a significant interest in other VIEs,
none of which were material to the Company's financial statements.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities" (SFAS 149). SFAS 149 amends
and clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging
activities under SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities" (SFAS 133). In particular, this Statement clarifies
under what circumstances a contract with an initial net investment meets
the characteristic of a derivative and when a derivative contains a
financing component that warrants special reporting in the statement of
cash flows. This Statement is generally effective for contracts entered
into or modified after June 30, 2003 and did not have an impact on the
Company's financial statements.
COSTS ASSOCIATED WITH EXIT OR DISPOSAL ACTIVITIES
On January 1, 2003, the Company adopted SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" (SFAS 146). SFAS 146 requires
that a liability for costs associated with exit or disposal activities,
other than in a business combination, be recognized when the liability is
incurred. Previous generally accepted accounting principles provided for
the recognition of such costs at the date of management's commitment to an
exit plan. In addition, SFAS 146 requires that the liability be measured at
fair value and be adjusted for changes in estimated cash flows.
The provisions of the new standard are effective for exit or disposal
activities initiated after December 31, 2002. The adoption of SFAS 146 did
not have an impact on the Company's financial statements.
STOCK-BASED COMPENSATION
On January 1, 2003, the Company adopted the fair value recognition
provisions of SFAS No. 123, Accounting for Stock-Based Compensation" (SFAS
123), prospectively for all awards granted, modified, or settled after
December 31, 2002. The prospective method is one of the adoption methods
provided for under SFAS No. 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure," issued in December 2002. SFAS 123
requires that compensation cost for all stock awards be calculated and
recognized over the service period (generally equal to the vesting period).
This compensation cost is determined using option pricing models, intended
to estimate the fair value of the awards at the grant date. Similar to
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees", (APB 25) the alternative method of accounting, an offsetting
increase to shareholder's equity under SFAS 123 is recorded equal to the
amount of
23
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
compensation expense charged. During the 2004 first quarter, the Company
changed its valuation from the Black-Scholes model to the Binomial Method.
The impact of this change was insignificant. Compensation expense and
proforma compensation expense had the Company applied SFAS 123 prior to
2003 was insignificant for the year ended December 31, 2004 and 2003.
BUSINESS COMBINATIONS, GOODWILL AND OTHER INTANGIBLE ASSETS
Effective January 1, 2002, the Company adopted SFAS No. 141, "Business
Combinations" (SFAS 141) and No. 142, "Goodwill and Other Intangible
Assets" (SFAS 142). These standards change the accounting for business
combinations by, among other things, prohibiting the prospective use of
pooling-of-interests accounting and requiring companies to stop amortizing
goodwill and certain intangible assets with an indefinite useful life
created by business combinations accounted for using the purchase method of
accounting. Instead, goodwill and intangible assets deemed to have an
indefinite useful life will be subject to an annual review for impairment.
All goodwill was fully amortized at December 31, 2001 and the Company did
not have any other intangible assets with an indefinite useful life. Other
intangible assets that are not deemed to have an indefinite useful life
will continue to be amortized over their useful lives. See Note 4.
FUTURE APPLICATION OF ACCOUNTING STANDARDS
OTHER-THAN-TEMPORARY IMPAIRMENTS OF CERTAIN INVESTMENTS
On September 30, 2004, the FASB voted unanimously to delay the effective
date of Emerging Issues Task Force (EITF) No. 03-1, "The Meaning of
Other-Than-Temporary Impairment and its Application to Certain Investments"
(EITF 03-1). The delay applies to both debt and equity securities and
specifically applies to impairments caused by interest rate and sector
spreads. In addition, the provisions of EITF 03-1 that have been delayed
relate to the requirements that a company declare its intent to hold the
security to recovery and designate a recovery period in order to avoid
recognizing an other-than-temporary impairment charge through earnings.
The FASB will be issuing implementation guidance related to this topic.
Once issued, the Company will evaluate the impact of adopting EITF 03-1.
The disclosures required by EITF 03-1 are included in Note 2 to the
Financial Statements.
STOCK-BASED COMPENSATION
In December 2004, the FASB issued SFAS No. 123 (Revised 2004), "Share-Based
Payment" (SFAS 123-R), which replaces the existing SFAS 123 and supersedes
APB 25. SFAS 123-R requires companies to measure and record compensation
expense for stock options and other share-based payment based on the
instruments' fair value. SFAS 123-R is effective for interim and annual
reporting periods beginning after June 15, 2005. The Company will adopt
SFAS 123-R on July 1, 2005 by using a modified prospective approach. For
unvested stock-based awards granted before January 1, 2003 (APB 25 awards),
the Company will expense the fair value of the awards as at the grant date
over the remaining vesting period. The impact of recognizing compensation
expense for the unvested APB 25 awards will be immaterial in the third and
fourth quarters of 2005. In addition, the amount of additional compensation
expense that will be disclosed as the impact in the first and second
quarters of 2005, as if the standard had been adopted as of January 1,
2005, but will not be recognized in earnings, will be immaterial. The
Company continues to evaluate other aspects of adopting SFAS 123-R.
24
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
ACCOUNTING POLICIES
INVESTMENTS
Fixed maturities include bonds, notes and redeemable preferred stocks.
Fixed maturities, including financial instruments subject to securities
lending agreements (see Note 2), are classified as "available for sale" and
are reported at fair value, with unrealized investment gains and losses,
net of income taxes, credited or charged directly to shareholder's equity.
Fair values of investments in fixed maturities are based on quoted market
prices or dealer quotes. If these are not available, discounted expected
cash flows using market rates commensurate with the credit quality and
maturity of the investment are used to determine fair value. Impairments
are realized when investment losses in value are deemed
other-than-temporary. The Company conducts a rigorous review each quarter
to identify and evaluate investments that have indications of impairment.
An investment in a debt or equity security is impaired if its fair value
falls below its cost and the decline is considered other-than-temporary.
Factors considered in determining whether a loss is other-than-temporary
include the length of time and extent to which fair value has been below
cost; the financial condition and near-term prospects of the issuer; and
the Company's ability and intent to hold the investment for a period of
time sufficient to allow for any anticipated recovery. Changing economic
conditions - global, regional, or related to specific issuers or industries
- could result in other-than-temporary losses.
Also included in fixed maturities are loan-backed and structured securities
(including beneficial interests in securitized financial assets).
Beneficial interests in securitized financial assets that are rated "A" and
below are accounted for under the prospective method in accordance with
EITF 99-20. Under the prospective method of accounting, the investment's
effective yield is based upon projected future cash flows. All other
loan-backed and structured securities are amortized using the retrospective
method. The effective yield used to determine amortization is calculated
based upon actual and projected future cash flows.
Equity securities, which include common and non-redeemable preferred
stocks, are classified as "available-for-sale" and are carried at fair
value based primarily on quoted market prices. Changes in fair values of
equity securities are charged or credited directly to shareholder's equity,
net of income taxes.
Mortgage loans are carried at amortized cost. A mortgage loan is considered
impaired when it is probable that the Company will be unable to collect
principal and interest amounts due. For mortgage loans that are determined
to be impaired, a reserve is established for the difference between the
amortized cost and fair market value of the underlying collateral. Cash
received on impaired loans is reported as income. In estimating fair value,
the Company uses interest rates reflecting the current real estate
financing market.
Short-term securities, consisting primarily of money market instruments and
other debt issues purchased with a maturity of less than one year, are
carried at amortized cost, which approximates fair value.
Other invested assets include trading securities, which are marked to
market with the change recognized in net investment income during the
current period. Also included are limited partnership and limited liability
company interests in investment funds and real estate joint ventures which
are accounted for on the equity method of accounting. Undistributed income
of these investments is reported in net investment income. Also included in
other invested assets are policy loans which are carried at the amount of
the unpaid balances that are not in excess of the net cash surrender values
of the related insurance policies. The carrying value of policy loans,
which have no defined maturities, is considered to be fair value.
25
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
Accrual of investment income, included in other assets, is suspended on
fixed maturities or mortgage loans that are in default, or on which it is
likely that future payments will not be made as scheduled. Interest income
on investments in default is recognized only as payment is received.
DERIVATIVE FINANCIAL INSTRUMENTS
The Company uses derivative financial instruments, including interest rate
and equity futures contracts, swaps, interest rate caps, options and
forward contracts as a means of hedging exposure to interest rate changes,
equity price changes and foreign currency risk. The Company does not hold
or issue derivative instruments for trading purposes. (See Note 9 for a
more detailed description of the Company's derivative use.) Derivative
financial instruments in a gain position are reported in the balance sheet
in other assets, derivative financial instruments in a loss position are
reported in the balance sheet in other liabilities and derivatives
purchased to offset embedded derivatives on variable annuity contracts are
reported in other invested assets.
To qualify for hedge accounting, the hedge relationship is designated and
formally documented at inception detailing the particular risk management
objective and strategy for the hedge. This documentation includes the item
and risk that is being hedged, the derivative that is being used, as well
as how effectiveness is being assessed. A derivative must be highly
effective in accomplishing the objective of offsetting either changes in
fair value or cash flows for the risk being hedged.
For fair value hedges, in which derivatives hedge the fair value of assets
and liabilities, changes in the fair value of derivatives are reflected in
realized investment gains and losses, together with changes in the fair
value of the related hedged item. The net amount is reflected in current
earnings. The Company primarily hedges available-for-sale securities.
For cash flow hedges, the accounting treatment depends on the effectiveness
of the hedge. To the extent that derivatives are effective in offsetting
the variability of the hedged cash flows, changes in the derivatives' fair
value will be reported in accumulated other changes in equity from nonowner
sources. These changes in fair value will be included in earnings of future
periods when earnings are also affected by the variability of the hedged
cash flows. To the extent these derivatives are not effective, the
ineffective portion of the changes in fair value is immediately included in
realized investment gains and losses.
The effectiveness of these hedging relationships is evaluated on a
retrospective and prospective basis using quantitative measures of
effectiveness. If a hedge relationship is found to be ineffective, it no
longer qualifies for hedge accounting and any gains or losses attributable
to such ineffectiveness as well as subsequent changes in fair value are
recognized in realized investment gains and losses.
For those fair value and cash flow hedge relationships that are terminated,
hedge designations removed, or forecasted transactions that are no longer
expected to occur, the hedge accounting treatment described in the
paragraphs above will no longer apply. For fair value hedges, any changes
to the hedged item remain as part of the basis of the asset or liability
and are ultimately reflected as an element of the yield. For cash flow
hedges, any changes in fair value of the derivative remain in the
accumulated other changes in equity from nonowner sources in shareholder's
equity and are included in earnings of future periods when earnings are
also affected by the variability of the hedged cash flow. If the hedged
relationship is discontinued because a forecasted transaction will not
occur when scheduled, the accumulated changes in fair value of the
derivative recorded in shareholder's equity are immediately reflected in
realized investment gains and losses.
26
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
The Company enters into derivative contracts that are economic hedges but
do not qualify or are not designated as hedges for accounting purposes.
These derivatives are carried at fair value, with changes in value
reflected in realized investment gains and losses.
Financial Instruments with embedded derivatives
The Company bifurcates an embedded derivative from the host contract where
the economic characteristics and risks of the embedded instrument are not
clearly and closely related to the economic characteristics and risks of
the host contract, the entire instrument would not otherwise be remeasured
at fair value and a separate instrument with the same terms of the embedded
instrument would meet the definition of a derivative under SFAS 133.
The Company purchases investments that have embedded derivatives, primarily
convertible debt securities. These embedded derivatives are carried at fair
value with changes in value reflected in realized investment gains and
losses. Derivatives embedded in convertible debt securities are classified
in the balance sheet as fixed maturity securities, consistent with the host
instruments.
The Company markets certain investment contracts that have embedded
derivatives, primarily variable annuity contracts. These embedded
derivatives are carried at fair value, with changes in value reflected in
realized investment gains and losses. Derivatives embedded in variable
annuity contracts are classified in the consolidated balance sheet as
future policy benefits and claims.
The Company may enter into derivative contracts to hedge the exposures
represented by these embedded derivatives. These are economic hedges,
however they do not qualify for hedge accounting. These derivatives are
carried at fair value, with the changes in value reflected in realized
gains and losses.
INVESTMENT GAINS AND LOSSES
Realized investment gains and losses are included as a component of pre-tax
revenues based upon specific identification of the investments sold on the
trade date. Realized gains and losses also result from fair value changes
in derivative contracts that do not qualify, or are not designated, as
hedging instruments, and from the application of fair value hedge
accounting under SFAS 133. Impairments are recognized as realized losses
when investment losses in value are deemed other-than-temporary. The
Company conducts regular reviews to assess whether other-than-temporary
losses exist. Also included are gains and losses arising from the
remeasurement of the local currency value of foreign investments to U.S.
dollars, the functional currency of the Company.
SEPARATE AND VARIABLE ACCOUNTS
Separate and variable accounts primarily represent funds for which
investment income and investment gains and losses accrue directly to, and
investment risk is borne by, the contractholders. Each account has specific
investment objectives. The assets of each account are legally segregated
and are not subject to claims that arise out of any other business of the
Company. The assets of these accounts are carried at fair value.
Amounts assessed to the separate account contractholders for management
services are included in revenues. Deposits, net investment income and
realized investment gains and losses for these accounts are excluded from
revenues, and related liability increases are excluded from benefits and
expenses.
27
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
Variable Annuity Contracts with Guaranteed Minimum Death Benefit Features.
For variable annuity contracts with GMDB features, SOP 03-1 requires the
reporting entity to categorize the contract as either an insurance or
investment contract based upon the significance of mortality or morbidity
risk. SOP 03-1 provides explicit guidance for calculating a reserve for
insurance contracts, and provides that the reporting entity does not hold
reserves for investment contracts (i.e. there is no significant mortality
risk).
The Company determined that the mortality risk on its GMDB features was not
a significant component of the total variable annuity product, and
accordingly continued to classify these products as investment contracts.
DEFERRED ACQUISITION COSTS
Deferred acquisition costs (DAC) represent costs that are deferred and
amortized over the estimated life of the related insurance policies. DAC
principally includes commissions and certain expenses related to policy
issuance, underwriting and marketing, all of which vary with and are
primarily related to the production of new business. The method for
determining amortization of DAC varies by product type based upon three
different accounting pronouncements: SFAS No. 60, "Accounting and Reporting
by Insurance Enterprises" (SFAS 60), SFAS No. 91, "Accounting for
Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans
and Initial Direct Costs of Leases" (SFAS 91) and SFAS No. 97, "Accounting
and Reporting by Insurance Enterprises for Certain Long Duration Contracts
and for Realized Gains and Losses from the Sale of Investments" (SFAS 97).
DAC for deferred annuities, both fixed and variable, is amortized employing
a level effective yield methodology per SFAS 91 as indicated by AICPA
Practice Bulletin 8, generally over 10-15 years. An amortization rate is
developed using the outstanding DAC balance and projected account balances.
This rate is applied to actual account balances to determine the amount of
DAC amortization. The projected account balances are derived using a model
that contains assumptions related to investment returns and persistency.
The model rate is evaluated at least annually, and changes in underlying
lapse and interest rate assumptions are to be treated retrospectively.
Variances in expected equity market returns versus actual returns are
treated prospectively and a new amortization pattern is developed so that
the DAC balances will be amortized over the remaining estimated life of the
business.
DAC for UL is amortized in relation to estimated gross profits from
surrender charges, investment, mortality, and expense margins per SFAS 97,
generally over 16-25 years. Actual profits can vary from management's
estimates resulting in increases or decreases in the rate of amortization.
Re-estimates of gross profits, performed at least annually, result in
retrospective adjustments to earnings by a cumulative charge or credit to
income.
DAC relating to traditional life, including term insurance, is amortized in
relation to anticipated premiums per SFAS 60, generally over 5-20 years.
Assumptions as to the anticipated premiums are made at the date of policy
issuance or acquisition and are consistently applied over the life of the
policy.
All DAC is reviewed, at least annually, to determine if it is recoverable
from future income, including investment income, and, if not recoverable,
is charged to expense. All other acquisition expenses are charged to
operations as incurred. See Note 4.
CASH AND CASH EQUIVALENTS
Cash, which is reported in other assets, includes certificates of deposits
and other time deposits with original maturities of less than 90 days.
28
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
VALUE OF INSURANCE IN FORCE
The value of insurance in force, reported in other assets, is an asset that
represents the actuarially determined present value of anticipated profits
to be realized from annuity contracts at the date of acquisition using the
same assumptions that were used for computing related liabilities, where
appropriate. The value of insurance in force was the actuarially determined
present value of the projected future profits discounted at an interest
rate of 16% for the annuity business acquired. The annuity contracts are
amortized employing a level yield method over 31 years. The value of
insurance in force is reviewed periodically for recoverability to determine
if any adjustment is required. Adjustments, if any, are charged to income.
See Note 4.
FUTURE POLICY BENEFITS
Future policy benefits represent liabilities for future insurance policy
benefits for payout annuities and traditional life products and are
prepared in accordance with industry standards and U.S. GAAP. The annuity
payout reserves are calculated using the mortality and interest assumptions
used in the actual pricing of the benefit. Mortality assumptions are based
on Company experience and are adjusted to reflect deviations such as
substandard mortality in structured settlement benefits. The interest rates
range from 1.5% to 9.2% for these annuity products with a weighted average
interest rate of 6.6%, including adverse deviation. Traditional life
products include whole life and term insurance. Future policy benefits for
traditional life products are estimated on the basis of actuarial
assumptions as to mortality, persistency and interest, established at
policy issue and are based on the Company's experience, which, together
with interest assumptions, include a margin for adverse deviation.
Appropriate recognition has been given to experience rating and
reinsurance. Interest assumptions applicable to traditional life products
range from 3.0% to 7.0%, with a weighted average of 6.3%.
CONTRACTHOLDER FUNDS
Contractholder funds represent deposits from the issuance of UL pension
investment and certain retail annuity and structured settlement contracts.
For UL contracts, contractholder fund balances are increased by receipts
for mortality coverage, contract administration, surrender charges and
interest accrued where one or more elements are not fixed or guaranteed.
These balances are decreased by withdrawals, mortality charges and
administrative expenses charged to the contractholders where these charges
and expenses may not be fixed or guaranteed. Interest rates credited to
contractholder funds related to UL range from 4.5% to 5.4%, with a weighted
average interest rate of 5.0%.
Pension investment and certain annuity contracts do not contain significant
insurance risk and are considered investment-type contracts. Contractholder
fund balances are increased by receipts and credited interest, and reduced
by withdrawals and administrative expenses charged to the contractholder.
Interest rates credited to these investment-type contracts range from less
than 1.0% to 8.0% with a weighted average interest rate of 5.2%.
Reserving for Universal Life and Variable Universal Life Contracts. SOP
03-1 requires that a reserve, in addition to the account balance, be
established for certain insurance benefit features provided under UL and
VUL products if the amounts assessed against the contract holder each
period for the insurance benefit feature are assessed in a manner that is
expected to result in profits in earlier years and losses in subsequent
years from the insurance benefit function.
29
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
The Company's UL and VUL products were reviewed to determine if an
additional reserve is required under SOP 03-1. The Company determined that
SOP 03-1 applied to some of its UL and VUL contracts with these features
and established an additional reserve of less than $1 million.
GUARANTY FUND AND OTHER INSURANCE-RELATED ASSESSMENTS
Included in other liabilities is the Company's estimate of its liability
for guaranty fund and other insurance-related assessments. State guaranty
fund assessments are based upon the Company's share of premiums written or
received in one or more years prior to an insolvency occurring in the
industry.
Once an insolvency has occurred, the Company recognizes a liability for
such assessments if it is probable that an assessment will be imposed and
the amount of the assessment can be reasonably estimated. At December 31,
2004 and 2003, the Company's liability for guaranty fund assessments was
not significant.
PERMITTED STATUTORY ACCOUNTING PRACTICES
The Company, domiciled in the State of Connecticut, prepares statutory
financial statements in accordance with the accounting practices prescribed
or permitted by the State of Connecticut Insurance Department. Prescribed
statutory accounting practices are those practices that are incorporated
directly or by reference in state laws, regulations, and general
administrative rules applicable to all insurance enterprises domiciled in a
particular state. Permitted statutory accounting practices include
practices not prescribed by the domiciliary state, but allowed by the
domiciliary state regulatory authority. The Company does not have any
permitted statutory accounting practices.
PREMIUMS
Premium income is reported for individual payout annuities, group close-out
annuities, whole life and term insurance. The annuities premiums are
recognized as revenue when collected. The life premiums are recognized as
revenues when due. Premiums for contracts with a limited number of premium
payments, due over a significantly shorter period than the period over
which benefits are provided, are considered revenue when due. The portion
of premium which is not required to provide for benefits and expenses is
deferred and recognized in revenues in a constant relationship to insurance
benefits in force.
FEE INCOME
Fee income is recognized on deferred annuity and UL contracts for
mortality, administrative and equity protection charges according to
contract due dates. Fee income is recognized on variable annuity and
universal life separate accounts either daily, monthly, quarterly or
annually as per contract terms.
OTHER REVENUES
Other revenues include surrender penalties collected at the time of a
contract surrender, and other miscellaneous charges related to annuity and
universal life contracts recognized when received.
CURRENT AND FUTURE INSURANCE BENEFITS
Current and future insurance benefits represent charges for mortality and
morbidity related to fixed annuities, universal life and term life
insurance benefits.
30
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
INTEREST CREDITED TO CONTRACTHOLDERS
Interest credited to contractholders represents amounts earned by universal
life, pension investment and certain retail annuity contracts in accordance
with contract provisions.
FEDERAL INCOME TAXES
The provision for federal income taxes is comprised of two components,
current income taxes and deferred income taxes. Deferred federal income
taxes arise from changes during the year in cumulative temporary
differences between the tax basis and book basis of assets and liabilities.
31
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
2. INVESTMENTS
FIXED MATURITIES
The amortized cost and fair values of investments in fixed maturities were
as follows:
GROSS GROSS
DECEMBER 31, 2004 AMORTIZED UNREALIZED UNREALIZED FAIR
($ in millions) COST GAINS LOSSES VALUE
- ----------------- --------- ---------- ---------- ------
AVAILABLE FOR SALE:
Mortgage-backed securities - CMOs and
pass-through securities $ 906 $ 24 $ 1 $ 929
U.S. Treasury securities and obligations
of U.S. Government and government agencies
and authorities 154 9 -- 163
Obligations of states and political
subdivisions 57 8 -- 65
Debt securities issued by foreign
governments 63 6 -- 69
All other corporate bonds 3,565 219 4 3,780
All other debt securities 1,180 71 2 1,249
Redeemable preferred stock 4 2 -- 6
------ ---- --- ------
Total Available For Sale $5,929 $339 $ 7 $6,261
------ ---- --- ------
GROSS GROSS
DECEMBER 31, 2003 AMORTIZED UNREALIZED UNREALIZED FAIR
($ in millions) COST GAINS LOSSES VALUE
- ----------------- --------- ---------- ---------- ------
AVAILABLE FOR SALE:
Mortgage-backed securities - CMOs and
pass-through securities $ 645 $ 18 $ 2 $ 661
U.S. Treasury securities and obligations
of U.S. Government and government agencies
and authorities 192 5 1 196
Obligations of states and political
subdivisions 53 6 -- 59
Debt securities issued by foreign
governments 58 3 -- 61
All other corporate bonds 3,179 241 5 3,415
All other debt securities 903 59 3 959
Redeemable preferred stock 4 2 -- 6
------ ---- --- ------
Total Available For Sale $5,034 $334 $11 $5,357
------ ---- --- ------
32
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
Proceeds from sales of fixed maturities classified as available for sale
were $801.9 million, $1.7 billion and $1.7 billion in 2004, 2003 and 2002,
respectively. Gross gains of $25.0 million, $48.2 million and $85.6 million
and gross losses of $24.4 million, $52.4 million and $29.9 million in 2004,
2003 and 2002, respectively, were realized on those sales. Additional
losses of $6.9 million, $10.2 million and $66.9 million were realized due
to other-than-temporary losses in value in 2004, 2003 and 2002,
respectively. The significant impairment activity in 2002 was concentrated
in telecommunication and energy company investments.
The amortized cost and fair value of fixed maturities available for sale at
December 31, 2004, by contractual maturity, are shown below. Actual
maturities will differ from contractual maturities because borrowers may
have the right to call or prepay obligations with or without call or
prepayment penalties.
AMORTIZED FAIR
($ in millions) COST VALUE
- --------------- --------- ------
MATURITY:
Due in one year or less $ 264 $ 270
Due after 1 year through 5 years 1,675 1,757
Due after 5 years through 10 years 2,365 2,514
Due after 10 years 719 791
------ ------
5,023 5,332
------ ------
Mortgage-backed securities 906 929
------ ------
Total Maturity $5,929 $6,261
------ ------
The Company makes significant investments in collateralized mortgage
obligations (CMOs). CMOs typically have high credit quality, offer good
liquidity, and provide a significant advantage in yield and total return
compared to U.S. Treasury securities. The Company's investment strategy is
to purchase CMO tranches which are protected against prepayment risk,
including planned amortization class tranches and last cash flow tranches.
Prepayment protected tranches are preferred because they provide stable
cash flows in a variety of interest rate scenarios. The Company does invest
in other types of CMO tranches if an assessment indicates a favorable
risk/return tradeoff. The Company does not purchase residual interests in
CMOs.
At December 31, 2004 and 2003, the Company held CMOs classified as
available for sale with a fair value of $532.6 million and $332.4 million,
respectively. Approximately 34% of the Company's CMO holdings were fully
collateralized by GNMA, FNMA or FHLMC securities at December 31, 2004 and
2003. In addition, the Company held $396.0 million and $327.7 million of
GNMA, FNMA or FHLMC mortgage-backed pass-through securities at December 31,
2004 and 2003, respectively. All of these securities are rated AAA.
The Company engages in securities lending transactions whereby certain
securities from its portfolio are loaned to other institutions for short
periods of time. The Company generally receives cash collateral from the
borrower, equal to at least the market value of the loaned securities plus
accrued interest, and invests in a short-term investment pool. See Note 11.
The loaned securities remain a recorded asset of the Company. The Company
records a liability for the amount of the cash collateral held,
representing its obligation to return the cash collateral, and reports that
liability as part of other liabilities in the balance
33
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
sheet. At December 31, 2004 and 2003, the Company held cash collateral of
$113.5 million and $154.0 million, respectively. The Company also had $23.7
million of investments held with a third party used as collateral at
December 31, 2004. The Company does not have the right to sell or pledge
this collateral and it is not recorded on the balance sheet. No such
collateral existed at December 31, 2003.
The Company participates in dollar roll repurchase transactions as a way to
generate investment income. These transactions involve the sale of
mortgage-backed securities with the agreement to repurchase substantially
the same securities from the same counterparty. Cash is received from the
sale, which is invested in the Company's short-term money market pool. The
cash is returned at the end of the roll period when the mortgage-backed
securities are repurchased. The Company will generate additional investment
income based upon the difference between the sale and repurchase prices.
These transactions are recorded as secured borrowings. The mortgage-backed
securities remain recorded as assets. The cash proceeds are reflected in
short-term investments and a liability is established to reflect the
Company's obligation to repurchase the securities at the end of the roll
period. This liability is classified as other liabilities in the balance
sheets and fluctuates based upon the timing of the repayments. Although
these types of transactions occurred during the years, there were no
outstanding amounts at December 31, 2004 and 2003.
EQUITY SECURITIES
The cost and fair values of investments in equity securities were as
follows:
GROSS GROSS
UNREALIZED UNREALIZED FAIR
($ in millions) COST GAINS LOSSES VALUE
- --------------- ---- ---------- ---------- -----
DECEMBER 31, 2004
Common stocks $12 $ 3 $-- $15
Non-redeemable preferred stocks 4 -- -- 4
--- --- --- ---
Total Equity Securities $16 $ 3 $-- $19
--- --- --- ---
DECEMBER 31, 2003
Common stocks $ 2 $-- $-- $ 2
Non-redeemable preferred stocks 6 -- -- 6
--- --- --- ---
Total Equity Securities $ 8 $-- $-- $ 8
--- --- --- ---
Proceeds from sales of equity securities were $18.5 million, $7.8 million
and $35.6 million in 2004, 2003 and 2002, respectively. Gross gains and
losses on sales and impairments were insignificant.
34
THE TRAVELERS LIFE AND ANNUITY COMPANY
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
OTHER-THAN-TEMPORARY LOSSES ON INVESTMENTS
Management has determined that the unrealized losses on the Company's
investments in fixed maturity and equity securities at December 31, 2004
are temporary in nature. The Company conducts a periodic review to identify
and evaluate investments that have indications of possible impairment. An
investment in a debt or equity security is impaired if its fair value falls
below its cost and the decline is considered other-than-temporary. Factors
considered in determining whether a loss is other-than-temporary include
the length of time and extent to which fair value has been below cost; the
financial condition and near-term prospects of the issuer; and the
Company's ability and intent to hold the investment for a period of time
sufficient to allow for any anticipated recovery. The Company's review for
impairment generally entails:
- Identification and evaluation of investments that have possible
indications of impairment;
- Analysis of individual investments that have fair values less than 80%
of amortized cost, including consideration of length of time the
investment has been in an unrealized loss position.
- Discussion of evidential matter, including an evaluation of factors or
triggers that would or could cause individual investments to qualify
as having other-than-temporary impairments and those that would not
support other-than-temporary impairment;
- Documentation of the results of these analyses, as required under
business policies.
The tables below shows the fair value of investments in fixed maturities
and equity securities that are available-for-sale and have been in an
unrealized loss position at:
Gross Unrealized Losses
---------------------------------------
Less Than One Year One Year or Longer Total
------------------ ------------------ ------------------
Gross Gross Gross
December 31, 2004 Fair Unrealized Fair Unrealized Fair Unrealized
($ in millions) Value Losses Value Losses Value Losses
- ----------------- ----- ---------- ----- ---------- ----- ----------
Fixed maturity securities available-for-sale:
Mortgage-backed securities-CMO's and
pass-through securities $103 $ 1 $-- $-- $103 $ 1
U.S. Treasury securities and obligations of
U.S. Government and government agencies
and authorities 5 -- -- -- 5 --
Debt securities issued by foreign governments 1 -- -- -- 1 --
All other corporate bonds 408 4 15 -- 423 4
All other debt securities 141 1 24 1 165 2
Redeemable preferred stock 1 -- -- -- 1 --