ALLSTATE LIFE INSURANCE CO - 10-K Annual Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

----------

FORM 10-K

THE REGISTRANT MEETS THE CONDITIONS FOR SET FORTH IN GENERAL INSTRUCTIONS
I(1)(a) AND (b) OF FORM 10-K AND IS THEREFORE FILING THIS FORM WITH THE REDUCED
DISCLOSURE FORMAT.

/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003

OR

/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF
THE SECURITIES EXCHANGE ACT OF 1934

COMMISSION FILE NUMBER: 0-31248

ALLSTATE LIFE INSURANCE COMPANY
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

ILLINOIS 36-2554642
(STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NO.)

3100 SANDERS ROAD
NORTHBROOK, ILLINOIS 60062
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)

REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: 847/402-5000

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE SECURITIES EXCHANGE ACT
OF 1934: NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE SECURITIES EXCHANGE ACT
OF 1934: COMMON STOCK, PAR VALUE $227.00 PER SHARE

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
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. /X/

INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS AN ACCELERATED FILER (AS
DEFINED IN RULE 12b-2 OF THE SECURITIES EXCHANGE ACT OF 1934). YES / / NO /X/

NONE OF THE COMMON EQUITY OF THE REGISTRANT IS HELD BY NON-AFFILIATES.
THEREFORE, THE AGGREGATE MARKET VALUE OF THE COMMON EQUITY HELD BY
NON-AFFILIATES OF THE REGISTRANT IS ZERO.

AS OF MARCH 15, 2004, THE REGISTRANT HAD 23,800 COMMON SHARES, $227 PAR VALUE,
OUTSTANDING, ALL OF WHICH ARE HELD BY ALLSTATE INSURANCE COMPANY.

PART III OF THIS FORM 10-K INCORPORATES BY REFERENCE CERTAIN INFORMATION FROM
THE ALLSTATE CORPORATION NOTICE OF ANNUAL MEETING AND PROXY STATEMENT DATED
MARCH 26, 2004, SEC FILE NUMBER 1-11840.

ALLSTATE LIFE INSURANCE COMPANY
INDEX TO ANNUAL REPORT ON FORM 10-K
DECEMBER 31, 2003

* Omitted pursuant to General Instruction I(2) of Form 10-K

PART I

ITEM 1. BUSINESS.

Allstate Life Insurance Company was organized in 1957 as a stock life
insurance company under the laws of the State of Illinois. Allstate Life
Insurance Company, together with its subsidiaries, produces personal life
insurance, retirement and savings products for individual consumers and a
variety of investment products for institutional investors. It conducts
substantially all of its operations directly or through wholly owned U.S.
subsidiaries. In this document, we refer to Allstate Life Insurance Company as
"Allstate Life" or "ALIC" and to Allstate Life and its wholly owned subsidiaries
as the "Allstate Life Group" or the "Company."

Allstate Life is a wholly owned subsidiary of Allstate Insurance Company, a
stock property-liability insurance company organized under the laws of the State
of Illinois. All of the outstanding stock of Allstate Insurance Company is owned
by The Allstate Corporation, a publicly owned holding company incorporated under
the laws of the State of Delaware. The Allstate Corporation is the largest
publicly held personal lines insurer in the United States. Widely known through
the "You're In Good Hands With Allstate(R)" slogan, The Allstate Corporation
provides insurance products to more than 16 million households and has
approximately 12,900 exclusive agencies and exclusive financial specialists in
the United States and Canada. The Allstate Corporation is the second-largest
personal property and casualty insurer in the United States on the basis of 2002
statutory premiums earned and through the Allstate Life Group and other life
companies is the nation's 13th-largest life insurance business on the basis of
2002 ordinary life insurance in force and 19th on the basis of 2002 statutory
admitted assets. In this document, we refer to Allstate Insurance Company as
"AIC" and to The Allstate Corporation and its consolidated subsidiaries as the
"Parent Group" or the "Corporation."

The Parent Group has four business segments, one of which is Allstate
Financial. Allstate Financial, which is not a separate legal entity, is composed
of the Allstate Life Group together with other Parent Group subsidiaries that
are not part of the Allstate Life Group. In addition to being one of the Parent
Group's business segments, the name Allstate Financial has been used from time
to time to refer collectively to the Allstate Life Group, the Allstate Bank and
other Parent Group subsidiaries. This document describes the Allstate Life
Group. It does not describe the entire group of companies that form the Allstate
Financial segment of the Parent Group.

In this annual report on Form 10-K, we occasionally refer to statutory
financial information that has been prepared in accordance with the National
Association of Insurance Commissioners ("NAIC") Accounting Practices and
Procedure Manual. All domestic U.S. insurance companies are required to prepare
statutory-basis financial statements in accordance with the Manual. As a result,
industry data is available on a widespread basis that enables comparisons
between insurance companies, including competitors that are not subject to the
requirement to publish financial statements on the basis of accounting
principles generally accepted in the United States of America ("GAAP.") We
frequently use industry publications containing statutory financial information
to assess our competitive position.

PRODUCTS

The Allstate Life Group products are listed below. We continue to develop
new versions of these products to satisfy evolving consumer needs.

INSURANCE

Term life
Universal life
Single premium life
Variable life
Variable universal life
Whole life
Long-term care
Accidental death
Hospital indemnity

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During 2003, we discontinued sales of traditional guaranteed investment
contracts ("GICs") and synthetic GICs.

Information regarding premiums and contract charges by product for the
Allstate Life Group for the last three years is set forth in Management's
Discussion and Analysis of Financial Condition and Results of Operations, page
14, in the table presenting premiums and contract charges by product. That table
is incorporated in this Part I, Item 1 by reference.

RISK MANAGEMENT, UNDERWRITING AND PRICING

For individual life insurance policies, we use detailed and uniform
underwriting policies and procedures to assess and quantify the risk of each
applicant. In some cases we require medical examinations and in some cases we
may order attending physicians statements and consumer investigative reports.
For supplemental accident and health insurance products, we use a more
simplified underwriting approach.

Structured settlement annuities and immediate annuities are underwritten
using recent mortality experience and an assumption of continued improvement in
annuitant longevity.

Some of our life insurance policies allow us to adjust charges and credits,
generally, to reflect changes from expected mortality and expense experience or
higher or lower investment returns. However, we are subject to contractual
maximum charges and minimum crediting rates and state regulatory limits on
increasing charges after a policy is issued.

We price our personal life insurance, retirement and savings products at
issuance to achieve a target return on required capital based on assumptions
regarding mortality, expenses, investment return, persistency, required reserves
and capital. Our assumptions are based on regular reviews of our experience in
this business. Periodically, we revise in-force products through non-guaranteed
charges or credits to reflect changes in experience and to preserve the margins
originally priced into the product.

For funding agreements, our risk management strategy is based on:
- Using sophisticated systems and processes to project expected cash
flows for assets and liabilities and to measure the sensitivity of
asset and liability cash flows to interest rate changes.
- Managing interest rate exposure to control the "duration match" of
assets and liabilities. In other words, closely matching the relative
sensitivity of asset and liability values to interest rate changes
when feasible, often by using derivative financial instruments.
- Primarily writing contracts with predictable maturity structures and
without credit event triggers, cross default acceleration clauses or
premature surrender or redemption provisions.
- Monitoring withdrawal activity to detect deviations from expected cash
flows.
- Establishing multi-disciplinary working groups of professionals with
expertise in investment, sales, financial and pricing management to
manage risk.

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DISTRIBUTION

The Allstate Life Group distributes its products through various
distribution channels, as described below. This multi-channel distribution
strategy results in a broad distribution network and increases operating
flexibility while allowing us to focus our marketing efforts.

INDEPENDENT AGENTS. Through master brokerage agencies, we use independent
agents to distribute term life insurance, universal life insurance, variable
universal life insurance, fixed annuities (immediate and deferred, including
indexed), variable annuities and long-term care insurance.

ALLSTATE EXCLUSIVE AGENCIES. Through Allstate agencies, we use exclusive
agents and exclusive financial specialists to increase sales of our personal
life insurance, retirement and savings products. The products distributed
through this channel include term life insurance, whole life insurance,
universal life insurance, variable universal life insurance, deferred fixed
annuities, variable annuities, long-term care insurance, and non-proprietary
mutual funds.

BROKER-DEALERS. Through broker-dealers across the country, we target
consumers who want assistance in investing for retirement. The products that we
distribute through broker-dealers include fixed annuities (deferred, including
indexed), variable annuities and single premium variable life insurance. We have
established distribution arrangements with most national broker-dealers and
regional firms and with many independent broker-dealers.

FINANCIAL INSTITUTIONS. We also use financial institutions across the
country to target consumers who want assistance in investing for retirement. The
products that we distribute through financial institutions include fixed
annuities (deferred, including indexed), variable annuities, single premium
fixed life insurance and single premium variable life insurance. We have
established distribution arrangements with a growing number of leading financial
institutions.

DIRECT MARKETING. In 2003, we continued to use direct marketing techniques
such as telemarketing and direct mail to distribute primarily term life
insurance, accidental death insurance and hospital indemnity products. However,
we intend to dispose of this distribution channel in 2004.

INSTITUTIONAL INVESTORS - FUNDING AGREEMENTS. Primarily, we sell funding
agreements directly to variable interest entities that issue medium-term notes
through investment banks to investors seeking high-quality, fixed-income
investments. However, we also sell funding agreements, directly or through
specialized brokers, to short-term institutional money managers seeking
high-quality investments with reasonable liquidity. Approximately 84% of our
funding agreement sales are derived from transactions in which a variable
interest entity purchases a funding agreement with terms similar to those of
notes issued by the variable interest entity to institutional investors. The
level of funding agreement sales to variable interest entities is dependent on
conditions in the capital markets. As a result, sales of funding agreements can
vary widely from one reporting period to another.

STRUCTURED SETTLEMENT ANNUITIES. We have relationships with several
structured settlement brokers and brokerage firms across the country. In
addition, a significant number of the structured settlement annuities that we
sold in 2003 originated with cases referred from claims activity in the Parent
Group's Allstate Protection segment.

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The following table lists the Allstate Life Group's major distribution
channels with the associated primary products and targeted customers.

GEOGRAPHIC MARKETS

We sell our personal life insurance, retirement, savings and
supplemental accident and health insurance products throughout the United
States. Through subsidiary insurance companies, we are authorized to sell
various types of these products in all 50 states, the District of Columbia,
Puerto Rico, Guam and the U.S. Virgin Islands.

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We sell funding agreements in the United States and in the Cayman Islands.
However, in the Cayman Islands, our distribution is generally limited to selling
funding agreements to support medium-term note programs.

The following table reflects, in percentages, the principal geographic
distribution of statutory premiums and annuity considerations for the Allstate
Life Group for the year ended December 31, 2003, based on information contained
in statements filed with state insurance departments. Approximately 93.8% of the
statutory premiums and annuity considerations generated in Delaware represent
deposits received in connection with funding agreements sold to a variable
interest entity domiciled in Delaware. No other jurisdiction accounted for more
than five percent of the statutory premiums and annuity considerations.

Delaware 17.3%
California 9.7
New York 6.6
Florida 5.7
Pennsylvania 5.1

COMPETITION

With regard to our personal life insurance, retirement, savings and
supplemental accident and health insurance products, we compete principally
on the basis of the scope of our distribution systems, the breadth of our
product offerings, the recognition of our brands, our financial strength and
ratings, our product features and prices, and the level of customer service
that we provide. In addition, with respect to variable life and variable
annuity products, we compete on the basis of the variety of providers and
choices of funds for our separate accounts and the management and performance
of those funds within our separate accounts.

The market for these products continues to be highly fragmented and
competitive. As of December 31, 2002, there were approximately 780 groups of
life insurance companies in the United States, most of which offered one or
more products similar to the Allstate Life Group's products. Based on
information contained in statements filed with state insurance departments,
as of December 31, 2002, the Allstate Life Group ranked 13th based on
ordinary life insurance in force and 19th based on statutory admitted assets.
In some states, we compete with banks and savings and loan associations in
the sale of life insurance products. In addition, because many of these
products include a savings or investment component, our competition includes
securities firms, investment advisors, mutual funds, banks and other
financial institutions. Competitive pressure is growing due to several
factors, including cross marketing alliances between unaffiliated businesses,
as well as consolidation activity in the financial services industry.

REGULATION

The Allstate Life Group is subject to extensive regulation. In the U.S. the
method, extent and substance of such regulation varies by state but generally
has its source in statutes that delegate regulatory authority to a state
regulatory agency and define standards of conduct. In general, such regulation
is intended for the protection of insurance policyholders rather than security
holders. These rules have a substantial effect on our business and relate to a
wide variety of matters including insurance company licensing and examination,
agent licensing, price setting, trade practices, policy forms, accounting
methods, the nature and amount of investments, claims practices, participation
in guaranty funds, reserve adequacy, insurer solvency, transactions with
affiliates, the payment of dividends, and underwriting standards. Some of these
matters are discussed in more detail below. For a discussion of statutory
financial information, see Note 14 of the Consolidated Financial Statements. For
a discussion of regulatory contingencies, see Note 11 of the Consolidated
Financial Statements. Notes 14 and 11 are incorporated in this Part I, Item 1 by
reference.

In recent years the state insurance regulatory framework has come under
increased federal scrutiny and legislation that would provide for federal
chartering of insurance companies has been proposed. In addition, state
legislators and insurance regulators continue to examine the appropriate nature
and scope of state insurance regulation. We cannot predict whether any state or
federal measures will be adopted to

5

change the nature or scope of the regulation of the insurance business or what
effect any such measures would have on the Allstate Life Group.

LIMITATIONS ON DIVIDENDS BY INSURANCE SUBSIDIARIES. Allstate Life may
receive dividends from time to time from its subsidiaries. When received, these
dividends represent a source of cash from which Allstate Life may meet some of
its obligations. If a subsidiary is an insurance company, its ability to pay
dividends may be restricted by state laws regulating insurance companies. For
additional information regarding those restrictions, see Note 14 of the
Consolidated Financial Statements.

GUARANTY FUNDS. Under state insurance guaranty fund laws, insurers doing
business in a state can be assessed, up to prescribed limits, in order to cover
certain obligations of insolvent insurance companies.

INVESTMENT REGULATION. Our insurance companies are subject to regulations
that require investment portfolio diversification and that limit the amount of
investment in certain categories. Failure to comply with these rules leads to
the treatment of non-conforming investments as non-admitted assets for purposes
of measuring statutory surplus. Further, in some instances, these rules require
divestiture of non-conforming investments. As of December 31, 2003, the
investment portfolios of our insurance companies did not contain any investments
that were non-admitted for failure to comply with such laws and regulations.

VARIABLE LIFE INSURANCE, VARIABLE ANNUITIES AND REGISTERED FIXED ANNUITIES.
The sale of variable life insurance, variable annuities and registered fixed
annuities with market value adjustment features are subject to extensive
regulatory oversight at the federal and state level, including regulation and
supervision by the Securities and Exchange Commission and the National
Association of Securities Dealers.

BROKER-DEALERS, INVESTMENT ADVISORS AND INVESTMENT COMPANIES. The Allstate
Life Group entities that operate as broker-dealers, registered investment
advisors and investment companies are subject to regulation and supervision by
the Securities and Exchange Commission, the National Association of Securities
Dealers and/or, in some cases, state securities administrators.

REGULATION AND LEGISLATION AFFECTING CONSOLIDATION IN THE FINANCIAL
SERVICES INDUSTRY. The Gramm-Leach-Bliley Act of 1999 permits mergers that
combine commercial banks, insurers and securities firms within one holding
company group. Until passage of the Gramm-Leach-Bliley Act, the Glass Steagall
Act of 1933 had limited the ability of banks to engage in securities-related
businesses and the Bank Holding Company Act of 1956 had restricted banks from
being affiliated with insurers. With the passage of the Gramm-Leach-Bliley Act,
bank holding companies may acquire insurers and insurance holding companies may
acquire banks. In addition, grandfathered unitary thrift holding companies,
including our parent company, may engage in activities that are not financial in
nature. The ability of banks to affiliate with insurers may materially adversely
affect our business by substantially increasing the number, size and financial
strength of potential competitors.

PRIVACY REGULATION. Federal law and the law of some states require
financial institutions to protect the security and confidentiality of customer
information and to notify customers about their policies and practices relating
to their collection and disclosure of customer information and their policies
relating to protecting the security and confidentiality of that information.
Federal and state law also regulate disclosures of customer information.
Congress, state legislatures and regulatory authorities are expected to consider
additional regulation relating to privacy and other aspects of customer
information.

TAX. State and federal laws affect the taxation of insurance companies.
Congress and various state legislatures have occasionally considered proposals
that, if enacted, could impose a greater tax burden on the Allstate Life Group.

EMPLOYEES AND OTHER SHARED SERVICES

The Allstate Life Group has no employees. Instead, we primarily use the
services of employees of Allstate Insurance Company, our direct parent. We also
make use of other services and facilities provided

6

by Allstate Insurance Company and other members of the Parent Group. These
services and facilities include space rental, utilities, building maintenance,
human resources, investment management, finance, information technology and
legal services. We reimburse our affiliates for these services and facilities
under a variety of agreements.

SERVICE MARKS

The Allstate Life Group, together with the Parent Group, uses the following
names, logos and slogans extensively in our business:

Allstate
Allstate Financial design logo
Allstate Life
Allstate Treasury-Linked Annuity
Glenbrook
Good Hands
TrueReturn
Insure Today. Secure Tomorrow.
Lincoln Benefit Life
Northbrook Design Logo
The Good Hand Network
The Good Hands People
Slant "A" Allstate Logo

You're In Good Hands With Allstate
The Right Hands Make All The Difference

In addition, we use the graphic "Good Hands" design logos featuring cupped
hands. Our rights in the United States to these names, logos and slogans
continue so long as we continue to use them in commerce. Most of these service
marks are the subject of renewable U.S. and/or foreign service mark
registrations. We believe that these service marks are important to our business
and we intend to maintain our rights to them by continued use.

ITEM 2. PROPERTIES.

Our home office is part of the Parent Group's home office complex in
Northbrook, Illinois. The complex consists of several buildings totaling
approximately 2.3 million square feet of office space on a 250-acre site. In
addition, we operate from various administrative, data processing, claims
handling and support facilities.

All of the facilities from which we operate are owned or leased by our
direct parent, Allstate Insurance Company, except for office space in Lincoln,
Nebraska that is leased by Lincoln Benefit Life Company, a wholly owned
subsidiary of ALIC, for general operations, file storage and information
technology. Expenses associated with facilities owned or leased by Allstate
Insurance Company are allocated to us on both a direct and an indirect basis,
depending on the nature and use of each particular facility. We believe that
these facilities are suitable and adequate for our current operations.

The locations from which the Parent Group exclusive agencies operate in the
U.S. are normally leased by the agencies as lessees.

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ITEM 3. LEGAL PROCEEDINGS.

Information required for Item 3 is incorporated by reference to the
discussion under the heading "Regulation" and under the heading "Legal
proceedings" in Note 11 of the Company's consolidated financial statements in
Item 8 of this Form 10-K.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDER.

Omitted.

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES.

There is no public trading market for Allstate Life's common stock. All of
its outstanding common stock is owned by its parent, Allstate Insurance Company
("AIC"). All of the outstanding common stock of AIC is owned by The Allstate
Corporation.

From January 1, 2002 through March 15, 2004, Allstate Life paid the
following amounts to AIC in the aggregate on the dates specified as dividends on
its common stock:

Within the past three years, the only equity securities sold by Allstate
Life that were not registered under the Securities Act of 1933 have been shares
of preferred stock issued to companies that are wholly-owned by The Allstate
Corporation. These securities were issued in transactions that were exempt from
registration under the Securities Act of 1933 because they did not involve a
public offering.

For additional information on dividends, including restrictions on the
payment of dividends by Allstate Life and its subsidiaries, see the "Liquidity"
subsection of the "Capital Resources and Liquidity" section of our "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in
Item 7 of this Form 10-K, which is incorporated herein by reference.

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ITEM 6. SELECTED FINANCIAL DATA.

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
5-YEAR SUMMARY OF SELECTED FINANCIAL DATA

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

OVERVIEW

Management's Discussion and Analysis ("MD&A") highlights significant
factors influencing the consolidated financial position and results of
operations of Allstate Life Insurance Company ("ALIC") and its wholly owned
subsidiaries (together with ALIC, "we", "our", "us" or the "Company"). ALIC is
wholly owned by Allstate Insurance Company ("AIC"), a wholly owned subsidiary of
The Allstate Corporation (the "Corporation"). It should be read in conjunction
with the selected financial data, consolidated financial statements and related
notes found under Part II, Item 6 and Item 8 contained herein. We operate as a
single segment entity, based on the manner in which financial information is
used internally to evaluate performance and determine the allocation of
resources.

The most important matters that we monitor to evaluate the financial
condition and performance of our company include:
- For Operations: investment and mortality margins, the amortization of
deferred policy acquisition costs, premiums and deposits, expenses,
operating income, invested assets, contractholder funds, separate
accounts and face amount of life insurance in force;
- For Investments: credit quality/experience, stability of long-term
returns, cash flows and asset and liability duration;
- For financial condition: our financial strength ratings and operating
leverage; and
- For product distribution: profitably growing distribution partner
relationships and Allstate agent sales of all products and services in
order to meet the financial needs of our customers.

2003 HIGHLIGHTS

- - Revenues increased 9.0% in 2003 compared to 2002. This increase was
primarily due to lower net capital losses in 2003. Excluding net capital
losses, revenues increased 1.2% in 2003 to $4.91 billion primarily due to
increased net investment income.
- - Net income increased to $278 million in 2003 from $245 million in 2002.
This increase was primarily due to lower net realized capital losses in
2003, partly offset by higher income tax expense and an increased loss on
disposition of operations.
- - Investments, including separate accounts assets, increased 15.1% to $73.41
billion due primarily to strong contractholder funds deposits and increases
in separate accounts balances resulting from improved equity market
performance during the year.
- - Contractholder funds deposits totaled $9.84 billion for 2003 compared to
$8.92 billion in 2002. The increase of $925 million was primarily
attributable to fixed annuity and institutional product deposits.

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CONSOLIDATED NET INCOME

APPLICATION OF CRITICAL ACCOUNTING POLICIES

We have identified four accounting policies that require us to make
assumptions and estimates that are significant to the consolidated financial
statements. It is reasonably likely that changes in these assumptions and
estimates could occur from period to period and have a material impact on our
consolidated financial statements. A brief summary of each of these critical
accounting policies follows. For a more complete discussion of the effect of
these policies on our consolidated financial statements, and the judgments and
estimates relating to these policies, see the referenced sections of MD&A. For a
complete summary of our significant accounting policies see Note 2 of the
consolidated financial statements.

INVESTMENT VALUATION The fair value of publicly traded fixed income and equity
securities is based on independent market quotations, whereas the fair value of
non-publicly traded securities is based on either widely accepted pricing
valuation models which use internally developed ratings and independent third
party data as inputs or independent third party pricing sources. Factors used in
our internally developed models, such as liquidity risk associated with
privately-placed securities are difficult to observe and to characterize.
Because of this, judgment is required in developing certain of these estimates
and, as a result, the estimated fair value of non-publicly traded securities may
differ from amounts that would be realized upon an immediate sale of the
securities.
Periodic changes in fair values of investments classified as available for
sale (other than those accounted for under the cost or equity method) are
reported as a component of accumulated other comprehensive income on the
Consolidated Statements of Financial Position and are not reflected in the
operating results of any period until reclassified to net income upon the
consummation of a transaction with an unrelated third party, or when declines in
fair values are deemed other than temporary. The assessment of other than
temporary impairment of a security's fair value is performed on a case-by-case
basis

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considering a wide range of factors. There are a number of assumptions and
estimates inherent when assessing impairments and determining if they are other
than temporary, including 1) our ability and intent to retain the investment for
a period of time sufficient to allow for an anticipated recovery in value; 2)
the expected recoverability of principal and interest; 3) the duration and
extent to which the fair value has been less than cost for equity securities or
amortized cost for fixed income securities; 4) the financial condition,
near-term and long-term prospects of the issuer, including relevant industry
conditions and trends, and implications of rating agency actions and offering
prices; and 5) the specific reasons that a security is in a significant
unrealized loss position, including market conditions which could affect
liquidity. Additionally, once assumptions and estimates are made, any number of
changes in facts and circumstances could cause us to later determine that an
impairment is other than temporary, including 1) general economic conditions
that are worse than assumed or that have a greater adverse effect on a
particular issuer than originally estimated; 2) changes in the facts and
circumstances related to a particular issuer's ability to meet all of its
contractual obligations; and 3) changes in facts and circumstances or new
information that we obtain which causes a change in our ability or intent to
hold a security to maturity or until it recovers in value. Changes in
assumptions, facts and circumstances could result in additional charges to
earnings in future periods to the extent that losses are realized. The charge to
earnings, while potentially significant to net income, would not have a
significant effect on shareholder's equity since the majority of our portfolio
is held at fair value and as a result, the related unrealized loss, net of tax,
would already be reflected as accumulated other comprehensive income in
shareholder's equity.
For a more detailed discussion of the risks relating to changes in
investment values and levels of investment impairment, and the potential causes
of such changes, see Note 6 of the consolidated financial statements and the
Investments, Market Risk and Forward-looking Statements and Risk Factors
sections of the MD&A.

DERIVATIVE INSTRUMENT HEDGE EFFECTIVENESS In the normal course of business, we
use derivative financial instruments to reduce our exposure to market risk and
in conjunction with asset/liability management. The fair value of exchange
traded derivative contracts is based on independent market quotations, whereas
the fair value of non-exchange traded derivative contracts is based on either
widely accepted pricing valuation models which use independent third party data
as inputs or independent third party pricing sources.
When derivatives meet specific criteria, they may be designated as
accounting hedges and accounted for as fair value, cash flow, foreign currency
fair value, or foreign currency cash flow hedges. When designating a derivative
as an accounting hedge, we formally document the hedging relationship, risk
management objective and strategy. The documentation identifies the hedging
instrument, the hedged item, the nature of the risk being hedged and the
assumptions used to assess how effective the hedging instrument is in offsetting
the exposure to changes in the hedged item's fair value attributable to the
hedged risk. In the case of a cash flow hedge, this documentation includes the
exposure to changes in the hedged transaction's variability in cash flows
attributable to the hedged risk. We do not exclude any component of the change
in fair value of the hedging instrument from the effectiveness assessment. At
each reporting date, we confirm that the hedging instrument continues to be
highly effective in offsetting the hedged risk. The determination of whether a
hedging instrument is effective both at its inception and on an on-going basis
requires a significant degree of judgment. For further discussion of these
policies and quantification of the impact of these estimates and assumptions,
see Note 7 of the consolidated financial statements and the Investments, Market
Risk and Forward-looking Statements and Risk Factors sections of the MD&A.

DEFERRED POLICY ACQUISITION COST ("DAC") AMORTIZATION We incur significant costs
in connection with acquiring business. In accordance with generally accepted
accounting principles ("GAAP"), costs that vary with and are primarily related
to acquiring business are deferred and recorded as an asset on the Consolidated
Statements of Financial Position.
DAC related to traditional life insurance and other premium paying
contracts is amortized over the premium paying period of the related policies in
proportion to the estimated revenues on such business. Assumptions relating to
estimated premiums, investment income and realized capital gains and losses, as
well as to all other aspects of DAC are determined based upon conditions as of
the date of policy issue and are generally not revised during the life of the
policy. Any deviations from projected business in force resulting from actual
policy terminations differing from expected levels, and any estimated premium
deficiencies, change the rate of amortization in the period such events occur.
Generally, the amortization period for these contracts approximates the
estimated lives of the contracts.

12

DAC related to interest-sensitive life, variable annuities and investment
contracts is amortized in relation to the present value of estimated gross
profits ("EGP") over the estimated lives of the contracts. Generally, the
amortization period ranges from 15-30 years. However, an assumption for the rate
of contract surrenders is also used, which results in the majority of the DAC
being amortized over the surrender charge period. The rate of amortization
during the surrender charge period is matched to the assumed pattern of EGP. EGP
consists of estimates of the following components: margins from mortality
including guaranteed minimum death and income benefits; investment margin
including realized capital gains and losses; and contract administration,
surrender and other contract charges, less maintenance expenses.
The most significant assumptions involved in determining EGP are the
expected separate accounts fund performance after fees, surrender rates, lapse
rates, and investment and mortality margins. Our long-term assumption of
separate accounts fund performance after fees is approximately 8%, which is
consistent with our pricing assumptions. Whenever actual separate accounts fund
performance, based on the two most recent years, varies from 8%, we create an
estimate of performance levels over the next five years such that the mean
return over that seven-year period equals the long-term 8% assumption. This
process is referred to as a "reversion to the mean" and is commonly used by the
life insurance industry. Although the use of a reversion to the mean assumption
is common within the industry, the parameters used in the methodology are
subject to judgment and vary between companies. For example, when applying this
assumption we do not allow the future mean rate of returns after fees projected
over the five-year period to exceed 12.75% or fall below 0%. Revisions to EGPs
result in changes in the amounts expensed as a component of amortization of DAC
in the period in which the revision is made. This is commonly known as "DAC
unlocking".
For quantification of the impact of these estimates and assumptions, see
the Operations and Forward-looking Statements and Risk Factors sections of the
MD&A.

RESERVE FOR LIFE-CONTINGENT CONTRACT BENEFITS ESTIMATION Long-term actuarial
assumptions of future investment yields, mortality, morbidity, policy
terminations and expenses are used when estimating the reserve for
life-contingent contract benefits. These assumptions, which for traditional life
insurance are applied using the net level premium method, include provisions for
adverse deviation and generally vary by such characteristics as type of
coverage, year of issue and policy duration. Future investment yield assumptions
are determined at the time the policy is issued based upon prevailing investment
yields as well as estimated reinvestment yields. Mortality, morbidity and policy
termination assumptions are based on our experience and industry experience
prevailing at the time the policies are issued. Expense assumptions include the
estimated effects of inflation and expenses to be incurred beyond the
premium-paying period.
For further discussion of these policies see Note 8 of the consolidated
financial statements and the Forward-looking Statements and Risk Factors section
of the MD&A.

OPERATIONS

OVERVIEW AND STRATEGY We are a leading provider of life insurance, annuities and
other financial services to a broad spectrum of individual and institutional
customers. Our mission is to assist financial services professionals in meeting
their clients' financial protection, savings and retirement needs by providing
top-tier products delivered with reliable and efficient service.
We will pursue the following to grow our business organically: develop
focused, top-tier products; deepen distribution partner relationships; improve
our cost structure; and implement a more systematic risk management program. The
Company also leverages the strength of the Allstate brand name across products
and distribution channels. We intend to grow this business through a combination
of organic growth, selective acquisitions and expanding profitable distribution
relationships.
Our individual retail product line includes a wide variety of financial
protection, savings and retirement products aimed at serving the financial needs
of our customers. Individual retail products include traditional life,
interest-sensitive life, variable life and long-term care insurance, and both
variable and fixed annuities. Individual retail products are sold through a
variety of distribution channels including Allstate exclusive agencies,
independent agents (including master brokerage agencies), financial institutions
and broker/dealers. Our institutional product line consists primarily of funding
agreements sold to entities that issue medium-term notes to institutional
investors.

13

PREMIUMS AND CONTRACT CHARGES Premiums represent revenues generated from
traditional life, immediate annuities with life contingencies and other
insurance products that have significant mortality or morbidity risk. Contract
charges are revenues generated from interest-sensitive life products, variable
annuities, fixed annuities and other savings products for which deposits are
classified as contractholder funds or separate accounts liabilities. Contract
charges are assessed against the contractholder account values for maintenance,
administration, cost of insurance and surrender prior to contractually specified
dates. As a result, changes in contractholder funds and separate accounts
liabilities are considered in the evaluation of growth and as indicators of
future levels of revenues.

The following table summarizes premiums and contract charges by product.

The following table summarizes premiums and contract charges by
distribution channel.

Total premiums decreased 6.3% in 2003 compared to 2002. The decrease was
primarily the result of the discontinuance of our direct response business and
lower traditional life and immediate annuity premium. The decline in premiums
from our direct response business reflects management actions over the past two
years to discontinue this business. The decline in traditional life premium
reflects a shift in

14

product sales from traditional whole life policies to term insurance, which has
lower premiums and where we utilize more ceded reinsurance. The decline in
immediate annuities with life contingencies was a result of underwriting actions
to reduce the size of certain types of individual contracts sold in 2003.
Total premiums were $1.02 billion in 2002 compared to $1.05 billion in
2001. The decrease was due to declines in traditional life and other insurance
products, partially offset by increases in immediate annuities with life
contingencies. The decline in traditional life premiums was primarily related to
the implementation of a reinsurance agreement on January 1, 2002 that ceded our
direct response credit life insurance products and, to a lesser extent, a shift
in product sales from traditional whole life insurance to term.
Contract charges increased 2.2% to $872 million in 2003 compared to $853
million in 2002. The increase was due to higher interest-sensitive life contract
charges resulting from in-force business growth, partially offset by lower
variable annuity contract charges, which resulted from lower average variable
annuity account balances during the period. Variable annuity contract charges,
as a percent of average separate account values, increased to 166 basis points
in 2003 from 163 basis points in 2002 as a result of increases in benefit rider
fee rates and utilization by contractholders.
Contract charges increased 3.9% in 2002 compared to 2001 as contract
charges on new sales of interest-sensitive life products more than offset a
decline from variable annuities. Variable annuity contract charges declined due
to lower average account values during 2002 as poor equity market performance
more than offset growth from deposits during the year.
Contractholder funds represent interest-bearing liabilities arising from
the sale of individual products, such as interest-sensitive life, fixed
annuities and institutional products, such as funding agreements. The balance of
contractholder funds is equal to the cumulative deposits received and interest
credited to the contractholder less cumulative contract maturities, benefits,
surrenders, withdrawals and contract charges for mortality or administrative
expenses.
The following table shows the changes in contractholder funds.

Contractholder funds increased 15.6% in 2003 compared to 2002, and average
contractholder funds increased 17.7% in 2003 compared to 2002, due to
significant increases in institutional product and fixed annuity deposits. Fixed
annuity deposits increased 6.0% over 2002 due to competitive pricing and our

15

decision to maintain a market presence despite a challenging interest rate
environment. Fixed annuity deposits through our financial institutions
distribution channel grew 34% in 2003 compared to 2002. This growth was a result
of expanded relationships and consumers' attraction to fixed rate contracts with
shorter-term rate guarantees due to volatile equity markets and the uncertainty
of a low interest rate environment. This growth was partially offset by a
decline in fixed annuities sold through our independent agencies distribution
channel where longer-term interest rate guarantees are generally favored. As a
result of the low interest rate environment during 2003, we introduced fixed
annuity contracts with lower guaranteed crediting rates. Institutional products
deposits increased 44.8% largely due to our assessment of market opportunities.
Benefits and withdrawals increased $170 million in 2003 compared to 2002.
Benefits and withdrawals for 2003 represent 6.9% of the beginning of period
contractholder funds balance compared to 7.8% in 2002. Institutional product
maturities increased $1.11 billion in 2003 as an increasing number of contracts
issued in prior years reached their stated maturity dates. $1.91 billion is
scheduled to mature in 2004.
Contractholder funds deposits increased in 2002 compared to 2001 due to
significant increases in fixed annuity deposits, partially offset by a decline
in institutional products. Fixed annuity deposits increased 57.3% over 2001 due
to competitive pricing and the introduction of the Allstate(R) Treasury-Linked
Annuity, which generated $761 million of deposits in 2002. Institutional
deposits decreased 30.4% in 2002, as market conditions at times during the year
would not allow us to achieve acceptable pricing returns. Average contractholder
funds increased 18.6% in 2002 compared to 2001.
Separate accounts liabilities represent contractholders' claims to the
related legally segregated separate accounts assets. Separate accounts
liabilities primarily arise from the sale of variable annuity contracts and
variable life insurance policies. The following table shows the changes in
separate accounts liabilities.

Separate accounts liabilities increased $2.30 billion during 2003 compared
to 2002 reflecting a significant improvement in investment results and net
deposits. The increase in variable annuity net deposits resulted from the
increasing attractiveness of the separate accounts equity investment funds
following improved equity market performance and the introduction of the
Allstate(R) Advisor variable annuity product. Allstate Advisor is a
multi-manager variable annuity that offers funds from four mutual fund families.
In volatile and uncertain equity markets, variable annuity contractholders often
allocate a significant portion of their initial variable annuity contract
deposit into a fixed rate investment option. This allows contractholders to
transfer funds to separate accounts equity investment funds over time and to
purchase their equity investment fund shares at multiple fund price levels. This
is commonly referred to as dollar cost averaging. The level of this activity is
reflected above in the deposits allocated to the fixed accounts, while all other
transfer activity between the fixed and separate accounts investment options is
reflected in net transfers from fixed accounts. The liability for the fixed
portion of variable annuity contracts is reflected in contractholder funds.
Separate accounts liabilities decreased $2.46 billion during 2002 compared
to 2001, reflecting the significant decline in equity markets and the resulting
substantial decrease in variable annuity net deposits during the year.

NET INVESTMENT INCOME increased 3.5% in 2003 compared to 2002 and 5.1% in 2002
compared to 2001. The increases were due to higher portfolio balances during the
year as investment income on positive cash

16

flows from product sales and deposits was mostly offset by lower portfolio
yields. Investment balances as of December 31, 2003, excluding unrealized net
capital gains, increased 14.5% from December 31, 2002 and increased 16.0% as of
December 31, 2002 compared to December 31, 2001. The lower portfolio yields were
primarily due to purchases of fixed income securities with yields lower than the
current portfolio average.
During 2003 we reclassified periodic settlements and accruals on derivative
instruments used for economic hedging purposes but categorized as "non-hedge"
for accounting purposes, to realized capital gains and losses so that they are
reported consistently with the corresponding fair value adjustments on these
instruments. The reclassifications decreased net investment income $22 million,
$5 million and $6 million for the years ended December 31, 2003, 2002 and 2001,
respectively.

NET INCOME analysis is presented in the following table.

INVESTMENT MARGIN represents the excess of investment income earned over
interest credited to policyholders and contractholders and interest expense.
Investment margin includes periodic settlements and accruals on derivative
instruments used for economic hedging purposes but categorized as "non-hedge"
for accounting purposes that are included in realized capital gains and losses
on the Consolidated Statements of Operations and Comprehensive Income.
Investment margin increased 3.3% in 2003 compared to 2002 due to a 15.6%
increase in contractholder funds and actions to reduce crediting rates where
possible, partially offset by the decline in the portfolio yield of fixed income
securities. For fixed annuities and life products for which we have the ability
to modify crediting rates, the weighted average interest crediting rate was
approximately 70 and 140 basis points above the long-term underlying guaranteed
rate at December 31, 2003 and December 31, 2002, respectively. The yield decline
on the assets that support our capital, traditional life or other products for
which the Company does not have the

17

ability to modify crediting rates also had a significant negative impact on the
investment margin during the year.
The investment margin increased 11.9% in 2002 compared to 2001. The
increase was primarily attributable to a 20.3% increase in contractholder funds.
The impact of this growth was partially offset by a decline in portfolio yields
from lower market interest rates affecting the yield on the investment of cash
flows from operations and investments, and a shift to sales of savings products
with lower investment margins, such as market value adjusted annuities ("MVAA")
and funding agreements that have lower capital requirements and cash flow
variability.
The following table summarizes the annualized weighted average investment
yield, interest crediting rates and investment spreads during 2003, 2002 and
2001.

The following table summarizes the liabilities as of December 31 for these
contracts and policies.

MORTALITY MARGIN, which represents premiums and cost of insurance contract
charges less related policy benefits, was $346 million in 2003, reflecting a $75
million or 17.8% decline compared to 2002. An increase in guaranteed minimum
death benefits ("GMDBs") on variable annuity contracts in 2003 compared to 2002
represents $30 million of the $75 million decline. The remainder was due to a
larger number of life claims in the first quarter of 2003, poor mortality
results on certain closed blocks of business and the effect of the
discontinuance of direct response non-life credit insurance, partially offset by
higher mortality margin from growth of interest-sensitive life product sales. In
2003, GMDB payments were $83 million, net of reinsurance, hedging results and
other contractual arrangements ("net GMDB payments"), compared to $53 million
and $31 million in 2002 and 2001, respectively. While 2003 net GMDB payments
were higher than in 2002, improved equity market performance during 2003
resulted in sequential quarterly reductions in gross GMDB payments. Direct
response non-life credit insurance generated a mortality margin of $2 million
and $7 million in 2003 and 2002, respectively. The mortality margin was
comparable in 2002 and 2001 as increased contract charges from
interest-sensitive life growth were offset by increased policy benefits and net
GMDB payments.

AMORTIZATION OF DAC increased 4.1% during 2003 compared to 2002. The increase
was primarily due to in force business growth, partially offset by decreased
amortization from lower gross margins on variable annuities and certain fixed
annuities. Amortization of DAC increased 19.5% in 2002 compared to 2001,

18

primarily due to higher DAC unlocking and growth of business in force. Net DAC
unlocking totaled $89 million, $94 million and $2 million in 2003, 2002 and
2001, respectively.
We performed our annual comprehensive evaluation of DAC assumptions in the
first quarter of 2003 and concluded that, due to sustained poor performance of
the equity markets coupled with an expectation of moderate future performance
due to continuing weakness in the U.S. economy and uncertainty in the
geopolitical environment, it was no longer reasonably possible that variable
annuity fund returns would revert to the expected long-term mean within the time
horizon used in our reversion to the mean model. As a result, we unlocked the
DAC assumptions for all savings products, including variable and fixed
annuities, and interest-sensitive life products, to be consistent across all
product lines.
The 2003 unlocking of DAC assumptions included $124 million for variable
annuities, partially offset by the effect of favorable investment margins on
fixed annuities and favorable persistency on interest-sensitive life products.
The most significant assumption change involved resetting the variable annuity
reversion to the mean calculation, such that future equity market performance
during the five year reversion period was reduced from 13.25% after fees to the
long-term assumed return of 8% after fees.
The changes in the DAC asset are summarized in the following tables.

(1) Included as a component of Amortization of DAC on the Consolidated
Statements of Operations and Comprehensive Income.

We believe that as a result of the DAC unlocking performed in 2003, the
variable annuity DAC asset is appropriately valued for the current economic
environment. With moderate movements in the equity markets, the likelihood of
future DAC unlocking is substantially reduced since the projected return in the
mean reversion period is no longer at the maximum.

19

OPERATING COSTS AND EXPENSES increased 3.8% in 2003 compared to 2002. The
following table summarizes operating costs and expenses.

The increase in total operating costs and expenses in 2003 compared to 2002
was primarily due to higher non-deferrable acquisition costs such as renewal and
annual trail commissions. Other operating costs and expenses in 2003 compared to
2002 decreased as higher employee benefit and technology related costs were more
than offset by lower litigation expense.
Total operating costs and expenses increased 14.2% during 2002 compared to
2001 due to investments in technology, increased employee related benefits,
advertising costs and litigation expenses.
Adjustments to prior year tax liabilities resulted in net unfavorable
adjustments to net income of $11 million in 2003 compared with net favorable
adjustments of $39 million in 2002.

REINSURANCE CEDED We enter into reinsurance agreements with unaffiliated
carriers to limit our risk of mortality losses. For life insurance policies,
depending upon the issue year and product, we may cede 90%, 80% or 60% of the
mortality risk. As of December 31, 2003, 46% of our face amount of life
insurance in force is reinsured. Additionally, we cede 100% of the morbidity
risk on our long-term care contracts. Since 1998, we have ceded the mortality
risk on new life contracts that exceed $2 million per individual, whereas prior
to 1998, we ceded mortality risk in excess of specific amounts up to $1 million
per life for individual coverage. Also, on certain in-force variable annuity
contracts we cede 100% of the mortality and certain other risks related to
product features. We retain primary liability as a direct insurer for all risks
ceded to reinsurers.

The impacts of reinsurance on our reserve for life insurance policy
benefits at December 31 are summarized in the following table.

Estimating amounts of reinsurance recoverables is impacted by the
uncertainties involved in the establishment of reserves.
Developments in the insurance industry have recently led to a decline in
the financial strength of some of our reinsurance carriers, causing amounts
recoverable from them to be considered a higher risk. There has also been recent
consolidation activity between reinsurers in the industry, which causes
reinsurance risk across the industry to be concentrated among fewer companies.
Additionally, one of our primary reinsurers has announced its intention to no
longer assume life reinsurance risks. As a result, we plan to increase our
retention of term life insurance and evaluate alternative reinsurance
structures.

20

Our reinsurance recoverables, summarized by the reinsurers' Standard &
Poor's financial strength ratings as of December 31, are shown in the following
table. In certain cases, these ratings refer to the financial strength of the
affiliated group or parent company of the reinsurer.

We continuously monitor the creditworthiness of reinsurers in order to
determine our risk of recoverability on an individual and aggregate basis, and a
provision for uncollectible reinsurance is recorded if needed. At December 31,
2003, there were no reinsurance recoverable amounts that were greater than 60
days past due and we did not have an allowance established for them. No amounts
have been deemed unrecoverable in the three-years ended December 31, 2003.
ALIC's insurance subsidiaries are domiciled in Illinois, New York, Arizona
and Nebraska. Except for those domiciled in New York and one in Nebraska, ALIC
has 100% inter-company reinsurance agreements in place with most of its domestic
insurance subsidiaries. With the exception of Allstate Life Insurance Company of
New York, which retains substantially all of its business up to its per life
limit, only invested assets supporting capital and relating to Separate Accounts
remain in these subsidiaries. All significant inter-company transactions have
been eliminated in consolidation.

OUTLOOK
- - Our ability to grow our investment margin is dependent upon maintaining
profitable spreads between investment yields and interest crediting rates,
and growing the amount of business in force. As interest rates decrease or
remain at historically low levels, we expect a reduction in our investment
yields. The amount in which these lower yields will reduce our investment
margin is contingent on our ability to lower interest crediting rates on
certain interest-sensitive products, which could be limited by market
conditions, regulatory minimum rates or contractual minimum rate
guarantees, and may not match the timing or magnitude of changes in asset
yields. Also, a significant amount of our invested assets are used to
support our capital and non-interest-sensitive products, which do not
provide this offsetting opportunity. As a result, we expect growth in our
investment margin from net new business growth, which also fluctuates in
relation to the interest rate environment, to be partially offset by
compression in our in-force investment spreads.
- - If equity markets perform at historical norms, we expect to see positive
growth in our variable annuity gross margins from increased revenue and
lower net GMDB payments on our in-force business. However, improvements or
deteriorations in our variable annuity gross margins from changes in equity
markets performance creates a proportional increase or decrease in variable
annuity amortization of DAC, which will offset a significant portion of the
changes in gross margins.
- - Market conditions beyond our control determine the availability and cost of
the reinsurance we purchase. To eliminate some of these market concerns, we
are expecting to retain more of our mortality risk in 2004. This change
will have a diminutive effect on our net income in the short-term, but will
provide the foundation to drive increased long-term growth in our life
insurance business. Our mortality margins will also be more volatile in the
future as we retain and manage more of our mortality risk, which will
require increased statutory capital.

21

INVESTMENTS

An important component of our financial results is the return on our
investment portfolio. The investment portfolio is managed based upon the nature
of the business and its corresponding liability structure.

OVERVIEW AND STRATEGY The investment strategy is based upon a strategic asset
allocation framework that takes into account the need to manage the portfolio on
a risk-adjusted spread basis for the underlying contract liabilities and to
maximize return on retained capital. Generally, a combination of recognized
market, analytical and proprietary modeling is used to achieve a desired asset
mix in the management of the portfolio. The strategic asset allocation model
portfolio is the primary basis for setting annual asset allocation targets with
respect to interest sensitive, illiquid and credit asset allocations as well as
limitations with respect to overall below-investment-grade exposure and
diversification requirements. On a tactical basis, decisions are made on an
option adjusted relative value basis staying within the constraints of the
strategic asset allocation framework. We believe asset spread is maximized by
selecting assets that perform on a long-term basis and by using trading to
minimize the effect of downgrades and defaults. Total return measurement is used
on a selective basis where the asset risks are significant (e.g., high yield
fixed income securities, convertible bonds). We expect that by employing this
strategy we will minimize interest rate market impacts on investment income and
provide sustainable investment income over time.

PORTFOLIO COMPOSITION The composition of the investment portfolio at December
31, 2003 is presented in the table below. Also see Notes 2 and 6 to the
consolidated financial statements for investment accounting policies and
additional information.

(1) Fixed income securities are carried at fair value. Amortized cost basis for
these securities was $48.40 billion.

Investments increased to $59.99 billion at December 31, 2003, from $52.67
billion at December 31, 2002. The increase in investments was primarily due to
positive cash flows from operating and financing activities and increased funds
associated with dollar roll programs.
Investment balances related to collateral increased to $1.92 billion at
December 31, 2003, from $1.24 billion at December 31, 2002.
We use different methodologies to estimate the fair value of publicly and
non-publicly traded marketable investment securities and exchange traded and
non-exchange traded derivative contracts. For a discussion of these methods, see
the Application of Critical Accounting Policies section of the MD&A.

22

The following table shows the investment portfolio, and the sources of its
fair value, at December 31, 2003.

FIXED INCOME SECURITIES See Note 6 of the consolidated financial statements for
a table showing the amortized cost, unrealized gains, unrealized losses and fair
value for each type of fixed income securities for the years ended December 31,
2003 and 2002.
U.S. government and agencies of the U.S. government securities were all
rated investment grade at December 31, 2003.
Municipal bonds, including tax-exempt and taxable securities, totaled $1.72
billion and 100.0% were rated investment grade at December 31, 2003.
Approximately 30.4% of the municipal bond portfolio was insured by 5 bond
insurers and the bonds accordingly have a rating of Aaa or Aa. The municipal
bond portfolio at December 31, 2003 consisted of approximately 134 issues from
approximately 108 issuers. The largest exposure to a single issuer was less than
6.9% of the municipal bond portfolio. The ultimate obligors of approximately
35.3% of the municipal bond portfolio were corporate entities.
Corporate bonds totaled $30.80 billion and 88.9% were rated as investment
grade at December 31, 2003. As of December 31, 2003, the fixed income securities
portfolio contained $14.33 billion of privately placed corporate obligations or
46.5% of the total corporate obligations in the portfolio, compared with $12.36
billion at December 31, 2002. The benefits of privately placed securities when
compared to publicly issued securities are generally higher yields, improved
cash flow predictability through pro-rata sinking funds on many bonds, and a
combination of covenant and call protection features designed to better protect
the holder against losses resulting from credit deterioration, reinvestment risk
and fluctuations in interest rates. A disadvantage of privately placed
securities when compared to publicly issued securities is relatively reduced
liquidity. At December 31, 2003, 85.5% of the privately placed securities were
rated as investment grade.
Foreign government securities totaled $1.59 billion and 91.4% were rated
investment grade at December 31, 2003.
Mortgage-backed securities ("MBS") totaled $10.76 billion at December 31,
2003. In our MBS portfolio, the credit risk is mitigated due to the fact that
46.2% of the portfolio includes securities that were issued by, or have
underlying collateral that is guaranteed by, U.S. government agencies or U.S.
government sponsored entities. The MBS portfolio is also subject to interest
rate risk since price volatility and ultimate realized yield are affected by the
rate of repayment of the underlying mortgages. We attempt to limit interest rate
risk on these securities by investing a portion of the portfolio in securities
that provide prepayment protection. At December 31, 2003, approximately 37.0% of
the MBS portfolio was invested in planned amortization class bonds or the
equivalent. Though these security types offer greater relative prepayment
protection than other MBS securities, the degree of protection has been limited
in this interest rate environment. Based on market conditions and potential
changes in portfolio management objectives, the value of this protection and
significance of these holdings relative to the entire portfolio may be reduced
in future periods.
Asset-backed securities ("ABS") totaled $3.43 billion at December 31, 2003.
Our ABS portfolio is subject to credit and interest rate risk. Credit risk is
mitigated by monitoring the performance of the collateral. Approximately 55.6%
of the ABS portfolio had a Moody's rating of Aaa or a Standard & Poor's ("S&P")
rating of AAA, the highest rating category. The ABS portfolio is also subject to
interest rate risk since the price volatility and ultimate realized yield are
affected by the rate of repayment of the underlying assets. Approximately 29.9%
of the ABS portfolio is invested in securitized credit card receivables. The

23

remainder of the portfolio is primarily backed by securitized home equity,
manufactured housing and auto loans.
At December 31, 2003, 92.8% of the consolidated fixed income securities
portfolio was rated investment grade, which is defined as a security having a
rating from The National Association of Insurance Commissioners ("NAIC") of 1 or
2; a Moody's equivalent rating of Aaa, Aa, A or Baa; an S&P equivalent rating of
AAA, AA, A or BBB; or a comparable internal rating.

The following table summarizes the credit quality of the fixed income
securities portfolio at December 31, 2003.

(IN MILLIONS)

EQUITY SECURITIES Equity securities include limited partnership interests,
common stocks and non-redeemable preferred stocks. The equity securities
portfolio was $164 million at December 31, 2003 compared to $183 million in
2002. Gross unrealized gains totaled $4 million at December 31, 2003 and
December 31, 2002. There were no unrealized losses at December 31, 2003 compared
to $12 million at December 31, 2002.

24

UNREALIZED GAINS AND LOSSES See Note 6 of the consolidated financial statements
for further disclosures regarding unrealized losses on fixed income and equity
securities and factors considered in determining that they are not other than
temporarily impaired. The unrealized net capital gains on fixed income and
equity securities at December 31, 2003 were $3.18 billion, an increase of $107
million or 3.5% since December 31, 2002. Gross unrealized losses were primarily
concentrated in the corporate fixed income portfolios and were comprised of
securities in the following sectors.

The banking, consumer goods, transportation, and basic industry sectors had
the highest concentration of unrealized losses in our corporate fixed income
securities portfolio at December 31, 2003. The gross unrealized losses in these
sectors are primarily company specific or interest rate related. While we expect
eventual recovery of these securities and the related sectors, we included every
security in our portfolio monitoring process at December 31, 2003.
The following table shows the composition by credit quality of the fixed
income securities with gross unrealized losses at December 31, 2003.

(IN MILLIONS)

25

The table above includes redeemable preferred securities with a fair value
of $20 million and an unrealized loss of $1 million. It also includes 56
securities that have not yet received an NAIC rating, for which we have assigned
a rating based on an analysis similar to that used by the NAIC, with a fair
value totaling $755 million and an unrealized loss of $10 million. Due to lags
between the funding of an investment, processing of final legal documents,
filing with the Securities Valuation Office of the NAIC ("SVO"), and rating by
the SVO, we will always have a small number of securities that have a pending
rating.
At December 31, 2003, $221 million, or 75.2%, of the gross unrealized
losses were related to investment grade fixed income securities. Unrealized
losses on investment grade securities principally relate to changes in interest
rates or changes in sector-related credit spreads since the securities were
acquired.
As of December 31, 2003, $73 million of the gross unrealized losses were
related to below-investment-grade fixed income securities. Of this amount, 48.0%
was in a significant unrealized loss position (greater than or equal to 20% of
amortized cost) for six or more consecutive months prior to December 31, 2003.
Included among the securities that are rated below investment grade are both
public and privately placed high-yield bonds and securities that were purchased
at investment grade but have since been downgraded. We mitigate the credit risk
of investing in below-investment-grade fixed income securities by limiting the
percentage of our fixed income portfolio invested in such securities and through
diversification of the portfolio.
The scheduled maturity dates for fixed income securities in an unrealized
loss position at December 31, 2003 is shown below. Actual maturities may differ
from those scheduled as a result of prepayments by the issuers.

(1) Because of the potential for prepayment, mortgage- and asset-backed
securities are not categorized based on their contractual maturities.

PORTFOLIO MONITORING We have a comprehensive portfolio monitoring process to
identify and evaluate fixed income and equity securities whose carrying value
may be other than temporarily impaired. The process includes a quarterly review
of all securities using a screening process to identify those securities whose
fair value compared to amortized cost for fixed income securities or cost for
equity securities is below established thresholds for certain time periods, or
which are identified through other monitoring criteria such as ratings
downgrades or payment defaults. The securities identified, in addition to other
securities for which we may have concern, are evaluated based on facts and
circumstances for inclusion on our watch-list. The watch-list is reviewed in
detail to determine whether any other than temporary impairment exists.
The unrealized loss balance for fixed income and equity securities can be
further segmented into the following four categories of securities, with the
unrealized net loss in each category at December 31, 2003 listed in parenthesis:

(i) Securities with an unrealized loss less than 20% of amortized cost
for fixed income securities or cost for equity securities ($220
million of unrealized loss);
(ii) Securities with an unrealized loss greater than or equal to 20% of
amortized cost for fixed income securities or cost for equity
securities for a period of less than six consecutive months prior to
December 31, 2003 ($31 million of unrealized loss);
(iii) Securities with an unrealized loss greater than or equal to 20% of
amortized cost for fixed income securities or cost for equity
securities for a period of six or more consecutive months, but less
than 12 consecutive months prior to December 31, 2003 ($30 million
of unrealized loss); and

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(iv) Securities with an unrealized loss greater than or equal to 20% of
amortized cost for fixed income securities or cost for equity
securities for twelve or more consecutive months prior to December
31, 2003 ($13 million of unrealized loss).

Categories (i) and (ii) have generally been adversely affected by the
downturn in the financial markets, overall economic conditions, and the market's
evaluation of certain sectors. While all of the securities in these categories
are monitored for impairment, the degree to which and/or length of time that the
securities have been in an unrealized loss position does not suggest that these
securities pose a high risk of being other than temporarily impaired. In
general, we expect that the fair values of these securities will recover over
time.
For category (iii) there were 7 fixed income securities with a fair value
of $56 million and $30 million of unrealized loss, with the largest unrealized
loss being $7 million. Of the fixed income securities in this category, 5
securities with a fair value of $49 million and an unrealized loss of $22
million were rated as being below investment grade at December 31, 2003.
For category (iv) there were 7 fixed income securities with a fair value of
$33 million and $13 million of unrealized loss, with the largest unrealized loss
being $5 million. All of these securities were rated as being below investment
grade at December 31, 2003.
Whenever we decide that a fixed income security's unrealized loss of 20% or
more for at least 36 months or any equity security's unrealized loss of 20% or
more for at least 12 months is temporary, we use a process of additional
evaluations and management approvals to determine why a write-down is not
required.
The following table contains the individual securities as of December 31,
2003, with the largest unrealized losses. No other fixed income or equity
security had an unrealized loss greater than 1.0% of the total unrealized loss
on fixed income and equity securities:

We also monitor the quality of our fixed income portfolio, by categorizing
certain investments as "problem", "restructured" or "potential problem." Problem
fixed income securities are securities in default with respect to principal or
interest and/or securities issued by companies that have gone into bankruptcy
subsequent to our acquisition of the security. Restructured fixed income
securities have rates and terms that are not consistent with market rates or
terms prevailing at the time of the restructuring. Potential problem fixed
income securities are current with respect to contractual principal and/or
interest, but because of other facts and circumstances, we have serious concerns
regarding the borrower's ability to pay future principal and interest, which
causes us to believe these securities may be classified as problem or
restructured in the future.

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The following table summarizes problem, restructured and potential problem
fixed income securities at December 31.

We have experienced a decrease in our balance of fixed income securities
categorized as potential problem as of December 31, 2003 compared to December
31, 2002. The decrease was related primarily to the sale of holdings in this
category due to specific developments causing a change in our outlook and intent
to hold those securities.
We also evaluated each of these securities through our portfolio monitoring
process at December 31, 2003 and recorded write-downs when appropriate. We
further concluded that any remaining unrealized losses on these securities were
temporary in nature. While these balances may increase in the future,
particularly if economic conditions are unfavorable, management expects that the
total amount of securities in these categories will remain low relative to the
total fixed income securities portfolio.

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NET REALIZED CAPITAL GAINS AND LOSSES The following table presents the
components of realized capital gains and losses and the related tax effect for
the years ended December 31.

Investment write-downs during 2003 represent approximately 0.3% of the
average total investment portfolio value during the year. For the year ended
December 31, 2003, the $64 million in net gains from sales was comprised of
gross gains of $254 million and gross losses of $190 million. Gross losses from
sales of fixed income and equity securities were $188 million which, combined
with investment write-downs on fixed income and equity securities of $174
million, represents total gross realized losses of $362 million for the year
ended December 31, 2003. Of the $188 million in gross losses from sales of fixed
income and equity securities, $184 million resulted from sales of fixed income
securities and $4 million resulted from sales of equity securities.
In 2003, losses from sales were primarily related to routine reductions of
exposures to deteriorating credits, reallocation of funds to other investments
in a higher interest rate environment and equity portfolio turnover resulting
from relative value opportunities. We may sell securities during the period in
which fair value has declined below amortized cost for fixed income securities
or cost for equity securities. Recognizing in certain situations new factors
such as negative developments, subsequent credit deterioration, relative value
opportunities, market liquidity concerns and portfolio reallocations can
subsequently change our previous intent to continue holding a security.
The ten largest losses from sales of individual securities for the year
ended December 31, 2003 totaled $74 million with the largest being $42 million
and the smallest being $3 million. Of those losses, six related to securities
that were in our unrealized loss categories (iii) or (iv).

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Our largest aggregate loss on sales and writedowns by issuer and its
affiliates are shown in the following table. No other issuer and its affiliates
had an aggregated loss on sales and writedowns greater than 3% of the total
gross loss on sales and writedowns on fixed income and equity securities. We
have also included in this table the related circumstances giving rise to the
losses and a discussion of how those circumstances may have affected other
material investments held.

(1) Holdings could include fixed income securities at amortized cost or equity
securities at cost.

MORTGAGE LOANS Our $6.35 billion mortgage loans portfolio at December 31, 2003
and $5.88 billion at December 31, 2002, was comprised primarily of loans secured
by first mortgages on developed commercial real estate. Geographical and
property type diversification are key considerations used to manage our mortgage
loan risk.
We closely monitor our commercial mortgage loan portfolio on a loan-by-loan
basis. Loans with an estimated collateral value less than the loan balance, as
well as loans with other characteristics indicative of higher than normal credit
risk, are reviewed by financial and investment management at least quarterly for
purposes of establishing valuation allowances and placing loans on non-accrual
status. The underlying

30

collateral values are based upon discounted property cash flow projections or a
commonly used valuation method that utilizes a one-year projection of expected
annual income divided by an expected rate of return. We had net realized capital
losses related to write-downs on mortgage loans of $4 million for the year ended
December 31, 2003. There were no realized capital losses related to prepayments
and write-downs on mortgage loans for the year ended December 31, 2002, and $1
million for the year ended December 31, 2001.

SHORT-TERM INVESTMENTS Our short-term investment portfolio was $765 million and
$839 million at December 31, 2003 and 2002, respectively. We invest available
cash balances primarily in taxable short-term securities having a final maturity
date or redemption date of one year or less.
We also participate in securities lending, primarily as an investment yield
enhancement, with third parties such as brokerage firms. We obtain collateral in
an amount equal to 102% of the fair value of the securities and monitor the
market value of the securities loaned on a daily basis with additional
collateral obtained as necessary. The cash we receive is subsequently invested
and an offsetting liability is recorded in other liabilities. At December 31,
2003, the amount of securities lending collateral reinvested in short-term
investments had a carrying value of $271 million. This compares to $460 million
at December 31, 2002.

MARKET RISK

Market risk is the risk that we will incur losses due to adverse changes in
equity, interest, commodity, or currency exchange rates and prices. Our primary
market risk exposures are to changes in interest rates and equity prices,
although we also have a smaller exposure to changes in foreign currency exchange
rates.
The active management of market risk is integral to our results of
operations. We may use the following approaches to manage exposure to market
risk within defined tolerance ranges: 1) rebalancing existing asset or liability
portfolios, 2) changing the character of investments purchased in the future and
3) using derivative instruments to modify the market risk characteristics of
existing assets and liabilities or assets expected to be purchased. For a more
detailed discussion of our use of derivative financial instruments, see Note 7
to the consolidated financial statements.

OVERVIEW We generate substantial investable funds from our business. In
formulating and implementing guidelines for investing funds, we seek to earn
returns that enhance our ability to offer competitive rates and prices to
customers while contributing to attractive and stable profits and long-term
capital growth. Accordingly, our investment decisions and objectives are a
function of the underlying risks and product profiles.
Investment guidelines define the overall framework for managing market and
other investment risks, including accountability and control over these risk
management activities. In addition, the subsidiaries that conduct investment
activities follow guidelines that have been approved by their respective boards
of directors and that specify the investment limits and strategies that are
appropriate given their liquidity, surplus, product, and regulatory
requirements. Executive oversight of investment risk management processes is
conducted primarily through the boards of directors and investment committees of
the subsidiaries conducting investment activities. Administration and detailed
managerial oversight of investment risk, including market risk, is provided
through the credit and risk management committee ("CRMC"). The Corporation also
has an enterprise-wide committee called the Enterprise Risk Council ("ERC") that
is responsible for assessing risks, including market and other investment risks,
on an integrated basis across subsidiaries and organizations.
We manage our exposure to market risk through the use of asset allocation
limits and duration limits, through the use of simulation and, as appropriate,
through the use of stress tests. We have asset allocation limits that place
restrictions on the total funds that may be invested within an asset class. We
have duration limits on our investment portfolios and, as appropriate, on
individual components of these portfolios. These duration limits place
restrictions on the amount of interest rate risk that may be taken.
Comprehensive day-to-day management of market risk within defined tolerance
ranges occurs as portfolio managers buy and sell within their respective markets
based upon the acceptable boundaries established by the investment guidelines.

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INTEREST RATE RISK is the risk that we will incur an economic loss due to
adverse changes in interest rates. This risk arises from many of our primary
activities, as we invest substantial funds in interest-sensitive assets and
carry significant interest-sensitive liabilities.
We manage the interest rate risk in our assets relative to the interest
rate risk in our liabilities. One of the measures used to quantify this exposure
is duration. Duration measures the sensitivity of the assets and liabilities to
changes in interest rates. For example, if interest rates increase 100 basis
points, the fair value of an asset with a duration of 5 is expected to decrease
in value by approximately 5%. At December 31, 2003, the difference between our
asset and liability duration was approximately 0.78, compared to a (0.09) gap at
December 31, 2002. A positive duration gap indicates that the fair value of our
assets is more sensitive to interest rate movements than the fair value of our
liabilities.
We seek to invest premiums, contract charges and deposits to generate
future cash flows that will fund future claims, benefits and expenses, and that
will earn stable margins across a wide variety of interest rate and economic
scenarios. In order to achieve this objective and limit exposure to interest
rate risk, we adhere to a philosophy of managing the duration of assets and
related liabilities. This philosophy includes using interest rate swaps,
futures, forwards, caps and floors to reduce the interest rate risk resulting
from unintended duration mismatches between assets and liabilities, and
financial futures and other derivative instruments to hedge the interest rate
risk related to anticipated purchases and sales of investments and product sales
to customers.
We pledge and receive collateral on certain types of derivative contracts.
For futures and option contracts traded on exchanges, we have pledged securities
as margin deposits totaling $34 million as of December 31, 2003. For
over-the-counter derivative transactions involving interest rate swaps, foreign
currency swaps, interest rate caps, interest rate floor agreements and credit
default swaps, master netting agreements are used. These agreements allow us to
net payments due for transactions covered by the agreements, and when
applicable, we are required to post collateral. As of December 31, 2003,
counterparties have posted collateral to us totaling $333 million.
To calculate duration, we project asset and liability cash flows and
calculate their net present value using a risk-free market interest rate
adjusted for credit quality, sector attributes, liquidity and other specific
risks. Duration is calculated by revaluing these cash flows at alternative
interest rates and determining the percentage change in aggregate fair value.
The cash flows used in this calculation include the expected maturity and
repricing characteristics of our derivative financial instruments, all other
financial instruments (as described in Note 7 of the consolidated financial
statements), and certain other items including interest-sensitive liabilities
and annuity liabilities. The projections include assumptions (based upon
historical market experience and our experience) that reflect the effect of
changing interest rates on the prepayment, lapse, leverage and/or option
features of instruments, where applicable. Such assumptions relate primarily to
mortgage-backed securities, collateralized mortgage obligations, callable
corporate obligations, and fixed rate single and flexible premium deferred
annuities.
Based upon the information and assumptions we use in this duration
calculation, and interest rates in effect at December 31, 2003, we estimate that
a 100 basis point immediate, parallel increase in interest rates ("rate shock")
would decrease the net fair value of the assets and liabilities by approximately
$641 million, compared to $102 million at December 31, 2002. Additionally, there
are $5.42 billion of assets supporting life insurance products such as
traditional and interest-sensitive life that are not financial instruments and
as a result have not been included in the above estimate. This amount has
increased from the $4.85 billion reported at December 31, 2002 due to increases
in policies in force. Based on assumptions described above, in the event of a
100 basis point immediate increase in interest rates, these assets would
decrease in value by $240 million, compared to a decrease of $185 million at
December 31, 2002. The selection of a 100 basis point immediate parallel change
in interest rates should not be construed as our prediction of future market
events, but only as an illustration of the potential effect of such an event.
To the extent that conditions differ from the assumptions we used in these
calculations, duration and rate shock measures could be significantly impacted.
Additionally, our calculations assume that the current relationship between
short-term and long-term interest rates (the term structure of interest rates)
will remain constant over time. As a result, these calculations may not fully
capture the effect of non-parallel changes in the term structure of interest
rates and/or large changes in interest rates.

EQUITY PRICE RISK is the risk that we will incur economic losses due to adverse
changes in a particular stock, mutual fund, or stock index. At December 31,
2003, we held approximately $43 million in common stocks and $533 million in
other securities with equity risk (including primarily convertible securities),

32

compared to approximately $40 million in common stocks and $551 million in other
equity investments at December 31, 2002.
At December 31, 2003, our portfolio of equity instruments had a beta of
approximately 0.52, compared to a beta of approximately 0.60 at December 31,
2002. Beta represents a widely used methodology to describe, in mathematical
terms, an investment's market risk characteristics relative to the Standard &
Poor's 500 Composite Price Index ("S&P 500"). Based on the beta analysis, we
estimate that if the S&P 500 decreases by 10%, the fair value of our equity
portfolio will decrease by approximately 5.2%. Likewise, we estimate that if the
S&P 500 increases by 10%, the fair value of our equity portfolio will increase
by approximately 5.2%. Based upon the information and assumptions we used to
calculate beta at December 31, 2003, we estimate that an immediate decrease in
the S&P 500 of 10% would decrease the net fair value of our equity portfolio
identified above by approximately $30 million, compared to $36 million at
December 31, 2002. The selection of a 10% immediate decrease in the S&P 500
should not be construed as our prediction of future market events, but only as
an illustration of the potential effect of such an event.
The beta of our equity portfolio was determined by comparing the monthly
total returns of the equity portfolio to monthly total returns of the S&P 500
over a three-year historical period. Since beta is historically based,
projecting future price volatility using this method involves an inherent
assumption that historical volatility and correlation relationships between
stocks will not change in the future. Therefore, the illustrations noted above
may not reflect our actual experience if future volatility and correlation
relationships differ from the historical relationships.
At December 31, 2003 and 2002, we had separate accounts assets with account
values totaling $13.43 billion and $11.13 billion, respectively. We earn
contract charges as a percentage of these account values. In the event of an
immediate decline of 10% in the account values due to equity market declines, we
would have earned approximately $21 million and $18 million less in fee income
at December 31, 2003 and December 31, 2002, respectively.
Variable annuity contracts sold usually have a GMDB and customers may
choose to purchase an enhanced GMDB, guaranteed minimum income benefits ("GMIB")
prior to 2004 and beginning in 2004 a TrueReturn(SM) Accumulation Benefit
("GMAB") on certain contracts. These guarantees subject us to additional equity
risk because the beneficiary or contractholder may receive a benefit that is
greater than the current account value. GMDBs are payable upon death, while
GMIBs are payable on or after the ten-year anniversary of the contract if the
contractholder elects to receive a defined stream of payments ("annuitize").
GMABs are payable on a date that is pre-determined by the contractholder,
between the eighth and twentieth year of the contract. GMABs guarantee a return
of up to 2.5 times (or 250%) of the amount deposited in the contract, depending
on the amount of time the contract is in force and adherence to certain fund
allocations.
At December 31, 2003 and 2002, the guaranteed value of these death benefits
in excess of account values was estimated to be $2.46 billion and $4.07 billion,
respectively, net of reinsurance. The decrease in this estimate between periods
is attributable to improved equity markets during 2003. In both periods,
approximately two-thirds of this exposure is related to the return of deposits
guarantee, while the remaining one-third is attributable to a death benefit
guarantee greater than the original deposits. In addition to reinsurance for
these benefits, we entered into various derivative instruments during 2003 that
were intended to offset a portion of 2003 expected death benefit payments and
the risk on all future death claims on new business issued on January 1, 2003
and later, and any payments of GMABs.
We estimate the present value of expected future payments for GMDBs for the
next 40 quarters to be approximately $145 million at December 31, 2003 compared
to $264 million at December 31, 2002. In order to calculate this estimate, we
considered the current guarantees outstanding for all contracts that contain
GMDBs, the expected fund performance and the assumptions and methodology we use
for DAC amortization. The decrease in this estimate at December 31, 2003 is
primarily attributable to the equity market improvement during the year. We also
estimate the effect on expected future GMDB payments in the event of extreme
adverse market conditions. In the event of an immediate decline in account
values of 10% due to equity market declines, payments for guaranteed death
benefits at December 31, 2003 would increase by an estimated $18 million during
the next year. The selection of a 10% immediate decrease should not be construed
as our prediction of future market events, but only as an example to illustrate
the potential effect on earnings and cash flow of equity market declines as a
result of this guarantee. Also, our actual payment experience in the future may
not be consistent with the assumptions used in the model.
Included among the GMIB contracts we have sold are contracts that provide
the contractholder with the right to annuitize based on the highest account
value at any anniversary date or on a guaranteed

33

earnings rate based on the initial account value over the specified period. The
guaranteed benefit feature was first offered in certain of our GMIB products
beginning in 1998, with guaranteed benefits available for election by the
contractholders beginning in 2008.
We estimate the present value of expected future payments for GMIBs for the
next 40 years to be approximately $15 million at December 31, 2003 compared to
$16 million at December 31, 2002. In calculating this estimate we considered the
current mix of guarantees outstanding, expected fund performance and the
assumptions and methodology we use for DAC amortization. The decrease in 2003 is
primarily due to improved equity markets in 2003, partially offset by the fact
that contractholders are one year closer to being eligible to annuitize. We also
estimate the effect on our expected future GMIB payments in the event of extreme
adverse market conditions. In the event of an immediate decline of 10% in
contractholders' account values as of December 31, 2003 due to equity market
declines, there would be no immediate effect on our earnings or cash flow, since
these benefits are not payable until at least 2008. The selection of a 10%
immediate decrease should not be construed as our prediction of future market
events, but only as an example to illustrate the potential effect on earnings
and cash flow of equity market declines as a result of this guarantee. As of
December 31, 2003 we do not have a reserve established for the GMDBs or GMIBs;
however, this will change with the adoption of Statement of Position 03-01 in
2004. See Note 2 of the consolidated financial statements for a discussion of
this pending accounting change.
Additional sales of variable annuity contracts will increase our equity
risk because of these benefits. An increase in the equity markets above the
December 31, 2003 level will increase account values for these contracts,
thereby decreasing the risk of the GMDBs, GMIBs, and GMABs being utilized in the
future. Likewise, a decrease in the equity markets that causes a decrease in the
account values will increase our equity risk because of these benefits.
In addition to our GMDB and GMIB equity risk, at December 31, 2003 and 2002
we had approximately $1.55 billion and $1.36 billion, respectively, in
equity-indexed annuity liabilities that provide customers with guaranteed
crediting rates based on the price of the S&P 500. We hedge the equity risk
associated with these liabilities through the purchase and sale of
equity-indexed options, futures, swap futures, and eurodollar futures,
maintaining risk within specified value-at-risk limits.
We are also exposed to equity risk in DAC. Fluctuations in the value of the
variable annuity and life contract account values due to the equity market
affect DAC amortization, because the expected fee income and guaranteed benefits
payable are components of the EGP for variable life and annuity contracts. For a
more detailed discussion of DAC, see Note 2 to the consolidated financial
statements and the Application of Critical Accounting Policies section of the
MD&A.

FOREIGN CURRENCY EXCHANGE RATE RISK is the risk that we will incur economic
losses due to adverse changes in foreign currency exchange rates. This risk
primarily arises from our foreign equity and real estate investments. We also
have funding agreement programs and a small amount of fixed income securities
that are denominated in foreign currencies, but we use derivatives to hedge the
foreign currency risk of these funding agreements and securities.
At December 31, 2003, we had approximately $0.7 million in foreign currency
denominated equity securities, compared to $2 million at December 31, 2002.
Based upon the information and assumptions we used at December 31, 2003, we
estimate that a 10% immediate unfavorable change in each of the foreign currency
exchange rates that we are exposed to would decrease the value of our foreign
currency denominated instruments by approximately $0.1 million, compared with an
estimated $0.2 million decrease at December 31, 2002. The selection of a 10%
immediate decrease in all currency exchange rates should not be construed as our
prediction of future market events, but only as an illustration of the potential
effect of such an event. Our currency exposure at December 31, 2003 is
diversified across 10 countries, comparable to 11 countries at December 31,
2002. Our largest individual currency exchange exposures at December 31, 2003
were to the French franc (56%) and the British pound (32%). The largest
individual currency exchange exposures at December 31, 2002 were to the French
franc (53%) and the British pound (26%). Our primary regional exposure is to
Western Europe, approximately 97% at December 31, 2003, compared to 98% at
December 31, 2002.
The modeling technique we use to report our currency exposure does not take
into account correlation among foreign currency exchange rates. Even though we
believe it is very unlikely that all of the foreign currency exchange rates that
we are exposed to would simultaneously decrease by 10%, we nonetheless stress
test our portfolio under this and other hypothetical extreme adverse market
scenarios. Our actual

34

experience may differ from these results because of assumptions we have used or
because significant liquidity and market events could occur that we did not
foresee.

CAPITAL RESOURCES AND LIQUIDITY

CAPITAL RESOURCES consist of shareholder's equity. The following table
summarizes the Company's capital resources at December 31.

(IN MILLIONS)

SHAREHOLDER'S EQUITY increased in 2003 when compared to 2002, as net income
was partially offset by dividends paid to AIC. The balance of redeemable
preferred stock declined during 2003 due to the reduction of investment by a
strategic alliance partner.
Shareholder's equity increased in 2002 compared to 2001 due to an increase
in net unrealized capital gains, additional capital paid-in and retained income.
In 2002, AIC contributed $350 million of capital to maintain our statutory
surplus and risk-based capital measures at management's target levels. The need
for additional capital was driven primarily by the impact of realized capital
losses, new business growth and statutory reserves required for variable annuity
GMDBs and GMIBs.
DEBT of $45 million as of December 31, 2003 reflects the impact of the
adoption of Financial Accounting Standards Board ("FASB") Interpretation No. 46
("FIN 46"), which required us to consolidate the debt of a previously
unconsolidated investment security. Although we were required to consolidate
this security, we have no legal ownership of the assets and no obligation to
repay the debt. Moody's and Standard and Poor's have apprised us that the debt
associated with this consolidation will be excluded for analytical purposes from
the ratio of debt to shareholder's equity for ratings considerations. For more
information about FIN 46 see Note 2 of the Consolidated Financial Statements. As
of December 31, 2002, we had no outstanding debt.
We have an inter-company loan agreement with the Corporation whereby the
amount of inter-company loans available is at the discretion of the Corporation.
The maximum amount of loans the Corporation will have outstanding to all its
eligible subsidiaries at any given point in time is limited to $1.00 billion. We
had no amounts outstanding under the inter-company loan agreement at December
31, 2003 or 2002.

35

FINANCIAL RATINGS AND STRENGTH The following table summarizes the Company's
financial strength ratings at December 31, 2003.

Our ratings are influenced by many factors including our operating and
financial performance, asset quality, liquidity, asset/liability management,
overall portfolio mix, financial leverage (i.e., debt), exposure to risks such
as catastrophes and the current level of operating leverage. In February 2004,
A.M. Best revised the outlook to stable from positive for our insurance
financial strength ratings and certain rated subsidiaries and affiliates.
State laws specify regulatory actions if an insurer's risk-based capital
("RBC"), a measure of an insurer's solvency, falls below certain levels. The
NAIC has a standard formula for assessing RBC. The formula for calculating RBC
for life insurance companies takes into account factors relating to insurance,
business, asset and interest rate risks. At December 31, 2003, our RBC and RBC
for each of our insurance company subsidiaries was above levels that would
require regulatory actions.
The NAIC has also developed a set of financial relationships or tests known
as the Insurance Regulatory Information System to assist state regulators in
monitoring the financial condition of insurance companies and identifying
companies that require special attention or actions by insurance regulatory
authorities. The NAIC analyzes financial data provided by insurance companies
using prescribed ratios, each with defined "usual ranges". Generally, regulators
will begin to monitor an insurance company if its ratios fall outside the usual
ranges for four or more of the ratios. If an insurance company has insufficient
capital, regulators may act to reduce the amount of insurance it can issue. The
ratios of our insurance companies are within these ranges.

LIQUIDITY SOURCES AND USES Our potential sources of funds principally include
the following activities.

- Receipt of insurance premiums
- Contractholder fund deposits
- Reinsurance recoveries
- Receipts of principal, interest and dividends on investments
- Sales of investments
- Funds from investment repurchase agreements, securities lending,
dollar roll and lines of credit agreements
- Inter-company loans and tax refunds/settlements
- Capital contributions from parent
- Dividends from subsidiaries

Our potential uses of funds principally include the following activities.

- Payment of contract benefits, maturities, surrenders and
withdrawals
- Reinsurance cessions and payments
- Operating costs and expenses
- Purchase of investments
- Repayment of investment repurchase agreements, securities lending,
dollar roll and lines of credit agreements
- Payment or repayment of inter-company loans
- Capital contributions to subsidiaries
- Dividends to parent

36

As reflected in our Consolidated Statements of Cash Flows, lower operating
cash flows in 2003 compared to 2002 are primarily attributable to a decline in
mortality margin, partially offset by an increase in the investment margin. Cash
flows in investing activities declined in 2003 as the investment of operating
cash flows were offset by lower financing cash flow.
Lower cash flow from financing activities during 2003 reflects an increase
in maturities of institutional products and benefits and withdrawals from
contractholders' accounts, partially offset by increased deposits received from
contractholders. Higher cash provided by financing activities in 2002 reflects
increased deposits received from contractholders. For quantification of the
changes in contractholder funds, see page 15. A portion of our product
portfolio, primarily fixed annuity and interest-sensitive life insurance
products, is subject to surrender and withdrawal at the discretion of
contractholders. The following table summarizes liabilities for these products
by their contractual withdrawal provisions at December 31, 2003. Approximately
13.3% of these liabilities is subject to discretionary withdrawal without
adjustment.

(1) Includes $9.34 billion of liabilities with a contractual surrender charge of
less than 5% of the account balance.

To ensure we have the appropriate levels of liquidity, we perform actuarial
tests on the impact to cash flows of policy surrenders and other actions under
various scenarios.
As of December 31, 2003, the Company had $1.59 billion of putable funding
agreements of varying lengths of putable periods ranging from seven to three
hundred sixty five days. At December 31, 2003, the weighted average put period
was 264 days.
The Corporation has established external sources of short-term liquidity
that include lines of credit, dollar rolls and repurchase agreements. In the
aggregate, at December 31, 2003, these sources could provide over $2.3 billion
of additional liquidity. For additional liquidity, we can issue new insurance
contracts, incur additional debt and sell assets from our investment portfolio.
The liquidity of the investment portfolio varies by type of investment. For
example, $14.33 billion of privately placed corporate obligations that represent
23.8% of the investment portfolio, and $6.35 billion of mortgage loans that
represent 10.6% of the investment portfolio, generally are considered to be less
liquid than many of our other types of investments, such as our U.S. government
and agencies, municipal and public corporate fixed income security portfolios.
We have access to additional borrowing to support liquidity through the
Corporation as follows:

- - A commercial paper program with a borrowing limit of $1.00 billion to cover
short-term cash needs. As of December 31, 2003, there were no borrowings
outstanding; however, the outstanding balance fluctuates daily.

- - Two primary credit facilities and one additional credit facility totaling
$1.20 billion to cover short-term liquidity requirements. These consist of
a $575 million five-year revolving line of credit expiring in 2006, a $575
million 364-day revolving line of credit expiring in the second quarter of
2004 and a $50 million one-year revolving line of credit expiring in the
third quarter of 2004. The right to borrow under the five-year and 364-day
facilities is subject to requirements that are customary for facilities of
this size, type and purpose. These requirements are currently being met and
we expect to continue to meet them in the future. There were no borrowings
under any of these lines of credit during 2003. The total amount
outstanding at any point in time under the combination of the commercial
paper program and the three credit facilities is limited to $1.20 billion.

- - The right of the Corporation to issue up to an additional $2.80 billion of
debt securities, equity securities, warrants for debt and equity
securities, trust preferred securities, stock purchase contracts and stock
purchase units utilizing the shelf registration statement filed with the
Securities and Exchange Commission ("SEC") in August 2003.

37

Certain remote events and circumstances could constrain our or the
Corporation's liquidity. Those events and circumstances include, for example, a
catastrophe resulting in extraordinary losses, a downgrade in the Corporation's
current long-term debt rating of A1 and A+ (from Moody's and Standard & Poor's,
respectively) to non-investment grade status of below Baa3/BBB-, a downgrade in
AIC's financial strength ratings from Aa2, AA and A+ (from Moody's, Standard &
Poor's and A.M. Best, respectively) to below Baa/BBB/A-, or a downgrade in our
financial strength ratings from Aa2/AA/A+ (from Moody's, Standard & Poor's and
A.M. Best, respectively) to below Aa3/AA-/A-. The rating agencies also consider
the interdependence of the Corporation's individually rated entities, and
therefore a rating change in one entity could potentially affect the ratings of
other related entities.

CONTRACTUAL OBLIGATIONS AND COMMITMENTS Our contractual obligations as of
December 31, 2003 and the payments due by period are shown in the following
table.

(1) Securities lending, dollar rolls and repurchase transactions are typically
fully collateralized with marketable securities. We manage our short-term
liquidity position to ensure the availability of a sufficient amount of
liquid assets to extinguish short-term liabilities as they come due in the
normal course of business.
(2) The putable/callable funding agreement program as well as the non-putable
funding agreement and GIC programs, are very closely asset/liability
duration matched. Accordingly, we maintain assets with a sufficient market
value to extinguish the liabilities in the normal course of business upon
surrender or maturity of the related contracts.
(3) We closely manage the assets supporting payout annuities/structured
settlement liabilities.
(4) Our payment obligations relating to operating leases are managed within the
structure of our intermediate to long-term liquidity management program.

38

The following is a distribution in U.S. Dollars of funding agreements
(non-putable) by currency at December 31. All foreign currency denominated
funding agreements have been swapped to U.S. Dollars.

(IN MILLIONS)

Our contractual commitments as of December 31, 2003 and the payments due by
period are shown in the following table.

(1) Represents investment commitments such as private placements and
mortgage loans.

We have agreements in place for services we conduct, generally at cost,
between subsidiaries relating to insurance, reinsurance, loans and
capitalization. All material inter-company transactions have appropriately been
eliminated in consolidation. Inter-company transactions among insurance
subsidiaries and affiliates have been approved by the appropriate departments of
insurance as required.

REGULATION AND LEGAL PROCEEDINGS

REGULATION We are subject to changing social, economic and regulatory
conditions. Recent state and federal regulatory initiatives and proceedings have
included efforts to remove barriers preventing banks from engaging in the
securities and insurance businesses, change tax laws affecting the taxation of
insurance companies and the tax treatment of insurance products or competing
non-insurance products that may impact the relative desirability of various
personal savings products and otherwise expand overall regulation of insurance
products and the insurance industry. The ultimate changes and eventual effects
of these initiatives on our business, if any, are uncertain.

LEGAL PROCEEDINGS We are involved in various legal and regulatory actions that
have an effect on specific aspects of our business. Like other members of the
insurance industry, we are the target of an increasing number of class action
lawsuits and other types of litigation, some of which involve claims for
substantial or indeterminate amounts. For a detailed description of these
actions, see Note 11 to the consolidated financial statements.

PENDING ACCOUNTING STANDARDS

As of December 31, 2003, there are several pending and proposed accounting
standards that we have not implemented either because the standard has not been
finalized or the implementation date has not yet occurred. These standards
include Statement of Position 03-01, FASB Staff Position No. FAS 106-1 and
Emerging Issues Task Force Topic number 03-01. For a discussion of these pending
and proposed standards, see Note 2 of the consolidated financial statements.
Based on our interpretation and application

39

of Statement of Position 03-01, we estimate that upon adoption on January 1,
2004, it will impact our Consolidated Statements of Operations and Comprehensive
Income in the range of $150 million to $200 million. However, the effect of
implementing certain accounting standards on our financial results and financial
condition is often based in part on market conditions at the time of
implementation of the standard and other factors we are unable to determine
prior to implementation. For this reason, we are sometimes unable to estimate
the effect of certain pending accounting standards until the relevant
authoritative body finalizes these standards or until we implement them.

FORWARD-LOOKING STATEMENTS AND RISK FACTORS

This document contains "forward-looking statements" that anticipate results
based on our estimates, assumptions and plans that are subject to uncertainty.
These statements are made subject to the safe-harbor provisions of the Private
Securities Litigation Reform Act of 1995. We assume no obligation to update any
forward-looking statements as a result of new information or future events or
developments.
These forward-looking statements do not relate strictly to historical or
current facts and may be identified by their use of words like "plans," "seeks,"
"expects," "will," "should," "anticipates," "estimates," "intends," "believes,"
"likely," "targets" and other words with similar meanings. These statements may
address, among other things, our strategy for growth, product development,
regulatory approvals, market position, expenses, financial results, litigation
and reserves. We believe that these statements are based on reasonable
estimates, assumptions and plans. However, if the estimates, assumptions or
plans underlying the forward-looking statements prove inaccurate or if other
risks or uncertainties arise, actual results could differ materially from those
communicated in these forward-looking statements. Factors which could cause
actual results to differ materially from those suggested by such forward-looking
statements include but are not limited to those discussed or identified in this
document (including the risks described below) and in our public filings with
the SEC.
In addition to the normal risks of business, we are subject to significant
risks and uncertainties, including those listed below, which apply to us as an
insurer and a provider of other financial services.

CHANGES IN RESERVE ESTIMATES MAY REDUCE PROFITABILITY
Reserve for life-contingent contract benefits is computed on the basis of
long-term actuarial assumptions of future investment yields, mortality,
morbidity, policy terminations and expenses. We periodically review and revise
our reserve estimates and if future experience differs from assumptions,
adjustments to reserves may be required which could have a material adverse
effect on our operating results and financial condition.

CHANGES IN MARKET INTEREST RATES MAY LEAD TO A SIGNIFICANT DECREASE IN THE SALES
AND PROFITABILITY OF SPREAD-BASED PRODUCTS
Our ability to manage the investment margin for spread-based products is
dependent upon maintaining profitable spreads between investment yields and
interest crediting rates on business. As interest rates decrease or remain at
historically low levels, assets may be reinvested at lower yields, reducing
investment margin. For example, during 2003 the average pre-tax investment yield
for the portfolio declined to 6.0% from 6.7% in 2002. Lowering interest
crediting rates can offset decreases in investment margin on some products.
However, these changes could be limited by market conditions, regulatory minimum
rates or contractual minimum rate guarantees on many contracts and may not match
the timing or magnitude of changes in asset yields. Decreases in the rates
offered on products in the financial segment could make those products less
attractive, leading to lower sales and/or changes in the level of surrenders and
withdrawals for these products. Increases in market interest rates can also have
negative effects, for example by increasing the attractiveness of other
investments, which can lead to higher surrenders at a time when the segment's
investment asset values are lower as a result of the increase in interest rates.
Unanticipated surrenders could result in DAC unlocking or affect the
recoverability of DAC and thereby increase expenses and reduce profitability.

DECLINING EQUITY MARKETS MAY REDUCE BOTH SALES OF PRODUCTS AND INCOME FROM
CONTRACT CHARGES AND MAY ADVERSELY AFFECT OPERATING RESULTS AND FINANCIAL
CONDITION
Conditions in the United States and international stock markets affect
sales of variable annuities. Recent allegations of improper or illegal trading
activities at large mutual fund complexes could affect the

40

stock markets. In general, sales of variable annuities decrease when stock
markets are declining over an extended period of time. The effect of decreasing
separate accounts balances resulting from volatile equity markets, lower
underlying fund performance or declining consumer confidence could cause
contract charges earned to decrease. In addition, it is possible that the
assumptions and projections we use to establish prices for GMDB, GMIB and GMAB
products, particularly assumptions and projections about investment performance,
do not accurately reflect the level of costs that we will ultimately incur in
providing those benefits, resulting in adverse margin trends. These factors may
result in accelerated DAC amortization and require increases in reserves, which
would reduce statutory capital and surplus and/or net income. Poor fund
performance could also result in higher partial withdrawals of account value
which, for some contracts, do not reduce the GMDB by a proportional amount.

CHANGES IN ESTIMATES OF PROFITABILITY ON INTEREST-SENSITIVE PRODUCTS MAY HAVE AN
ADVERSE EFFECT ON RESULTS THROUGH INCREASED AMORTIZATION OF DAC
DAC related to interest-sensitive life, variable annuity and investment
contracts is amortized in proportion to EGP over the estimated lives of the
contracts. Assumptions underlying EGP, including those relating to margins from
mortality, investment margin, contract administration, surrender and other
contract charges, are updated from time to time in order to reflect actual and
expected experience and its potential effect on the valuation of DAC. Updates to
these assumptions could result in DAC unlocking, which in turn could adversely
affect our operating results and financial condition.

A LOSS OF KEY PRODUCT DISTRIBUTION RELATIONSHIPS COULD MATERIALLY AFFECT SALES
Certain products are distributed under agreements with other members of the
financial services industry that are not affiliated with us. Termination of one
or more of these agreements due to, for example, a change in control of one of
these distributors, could have a detrimental effect on sales. This risk may be
heightened by the enactment of the Gramm-Leach-Bliley Act of 1999 (the "GLB
Act"), which eliminated many federal and state law barriers to affiliations
among banks, securities firms, insurers and other financial service providers.

CHANGES IN TAX LAWS MAY DECREASE SALES AND PROFITABILITY OF PRODUCTS
Under current federal and state income tax law, certain products (primarily
life insurance and annuities) we offer receive favorable tax treatment. This
favorable treatment may give certain of our products a competitive advantage
over noninsurance products. Congress from time to time considers legislation
that would reduce or eliminate the favorable policyholder tax treatment
currently applicable to life insurance and annuities. Congress also considers
proposals to reduce the taxation of certain products or investments that may
compete with life insurance and annuities. One such proposal was enacted in May
2003 when President Bush signed the Jobs and Growth Tax Relief Reconciliation
Act of 2003, which reduced the federal income tax rates applicable to certain
dividends and capital gains realized by individuals. Legislation that increases
the taxation on insurance products or reduces the taxation on competing products
could lessen the advantage of certain of our products as compared to competing
products. Such proposals, if adopted, could have an adverse effect on our
financial position or ability to sell such products and could result in the
surrender of some existing contracts and policies. In addition, recent changes
in the federal estate tax laws have negatively affected the demand for the types
of life insurance used in estate planning.

RISKS RELATING TO THE INSURANCE INDUSTRY

OUR FUTURE RESULTS ARE DEPENDENT IN PART ON OUR ABILITY TO SUCCESSFULLY OPERATE
IN AN INSURANCE INDUSTRY THAT IS HIGHLY COMPETITIVE
The insurance industry is highly competitive. Many of our competitors have
well-established national reputations and market similar insurance products.
Because of the competitive nature of the insurance industry, including
competition for producers such as exclusive and independent agents, there can be
no assurance that we will continue to effectively compete with our industry
rivals, or that competitive pressure will not have a material adverse effect on
our business, operating results or financial condition. In addition, we may face
increased competition from banks. Until passage of the GLB Act, the ability of
banks to engage in securities-related businesses was limited and banks were
restricted from being affiliated with insurers. With the passage of the GLB Act,
mergers that combine commercial banks, insurers and

41

securities firms under one holding company are now permitted. The ability of
banks to affiliate with insurers may have a material adverse effect on all of
our product lines by substantially increasing the number, size and financial
strength of potential competitors. Furthermore, certain competitors operate
using a mutual insurance company structure and therefore, may have dissimilar
profitability and return targets.

CHANGING INTEREST RATES AND DECLINES IN CREDIT QUALITY MAY HAVE ADVERSE EFFECTS
A decline in market interest rates could have an adverse effect on our
investment income as we invest cash in new investments that may yield less than
the portfolio's average rate. In a declining interest rate environment,
borrowers may prepay or redeem securities we hold more quickly than expected as
they seek to refinance at lower rates. An increase in market interest rates
could have an adverse effect on the value of our investment portfolio, for
example, by decreasing the fair values of the fixed income securities that
comprise a substantial majority of our investment portfolio. Increases in
interest rates also may lead to an increase in policy loans, surrenders and
withdrawals that generally would be funded at a time when fair values of fixed
income securities are lower. A decline in the quality of our investment
portfolio as a result of adverse economic conditions or otherwise could cause
additional realized losses on securities, including realized losses relating to
derivative strategies not adequately addressing portfolio risks.

WE MAY SUFFER LOSSES FROM LITIGATION
As is typical for a large insurance group, we are involved in litigation.
Among other things, we, like other participants in the insurance industry, have
been subject in recent years to an increasing volume of class action litigation
challenging a range of industry practices. Our litigation exposure could result
in a material adverse effect on our operating results and financial condition in
a future period in the event of an unexpected adverse outcome or if additional
reserves are required to be established for such litigation. For a description
of our current material litigation matters, see Note 11 of the consolidated
financial statements.

WE ARE SUBJECT TO EXTENSIVE REGULATION AND POTENTIAL FURTHER RESTRICTIVE
REGULATION MAY INCREASE OUR OPERATING COSTS AND LIMIT OUR GROWTH
We are subject to extensive regulation by state insurance regulators. This
regulation is focused on the protection of policyholders and not investors. In
many cases, state regulations limit our ability to grow and improve the
profitability of our business. Additionally, we have various entities registered
under the federal securities laws as broker-dealers, investment advisers and/or
investment companies. These entities are subject to the regulatory jurisdiction
of the SEC, the National Association of Securities Dealers and, in some cases,
state securities administrators. The laws regulating the securities products and
activities are complex, numerous and subject to change. Further, in recent
years, the state insurance regulatory framework has come under increased federal
scrutiny, and proposals that would provide for optional federal chartering of
insurance companies have been discussed by members of Congress. We can make no
assurances as to whether further state or federal measures will be adopted to
change the nature or scope of the regulation of the insurance industry or as to
the effect that any such measures would have on us.

THE UNAVAILABILITY OF REINSURANCE MAY LIMIT OUR ABILITY TO WRITE NEW BUSINESS
Market conditions beyond our control determine the availability and cost of
the reinsurance we purchase. No assurances can be made that reinsurance will
remain continuously available to us to the same extent and on the same terms and
rates as are currently available. If we were unable to maintain our current
level of reinsurance or purchase new reinsurance protection in amounts that we
consider sufficient and at prices that we consider acceptable, we would have to
either accept an increase in our net liability exposure or reduce our insurance
writings.

REINSURANCE SUBJECTS US TO THE CREDIT RISK OF OUR REINSURERS AND MAY NOT BE
ADEQUATE TO PROTECT US AGAINST LOSSES ARISING FROM CEDED INSURANCE
The collectibility of reinsurance recoverables is subject to uncertainty
arising from a number of factors, including whether insured losses meet the
qualifying conditions of the reinsurance contract and whether reinsurers, or
their affiliates, have the financial capacity and willingness to make payments
under the terms of a reinsurance treaty or contract. Our inability to collect a
material recovery from a reinsurer could have a material adverse effect on our
operating results and financial condition.

42

THE CONTINUED THREAT OF TERRORISM AND ONGOING MILITARY ACTIONS MAY ADVERSELY
AFFECT THE LEVEL OF CLAIM EXPENSE WE INCUR AND THE VALUE OF OUR INVESTMENT
PORTFOLIO
The continued threat of terrorism, both within the United States and
abroad, and ongoing military and other actions and heightened security measures
in response to these types of threats, may cause significant volatility and
declines in the equity markets in the United States, Europe and elsewhere, and
result in loss of life, property damage, additional disruptions to commerce and
reduced economic activity. Some of the assets in our investment portfolio may be
adversely affected by declines in the equity markets and reduced economic
activity caused by the continued threat of terrorism. In the event that a
terrorist act occurs, we may be adversely affected, depending on the nature of
the event. We seek to mitigate the potential impact of terrorism on our
commercial mortgage portfolio by limiting geographical concentrations in key
metropolitan areas and by requiring terrorism insurance to the extent that it is
commercially available.

ANY DECREASE IN OUR FINANCIAL STRENGTH RATINGS MAY HAVE AN ADVERSE EFFECT ON OUR
COMPETITIVE POSITION
Financial strength ratings are important factors in establishing the
competitive position of insurance companies and generally will have an effect on
an insurance company's business. On an ongoing basis, rating agencies review the
financial performance and condition of insurers and could downgrade or change
the outlook on an insurer's ratings due to, for example, a decline in the value
of an insurer's investment portfolio or increased liabilities for variable
contracts arising from additional GMDB, GMIB or GMAB exposure resulting from
market declines. Currently, our insurance financial strength ratings and the
ratings of AIC are Aa2, AA and A+ (from Moody's, Standard & Poor's and A.M.
Best, respectively). Because these ratings are subject to periodic review, the
continued retention of these ratings cannot be assured. A multiple level
downgrade in any of these ratings could have a material adverse effect on our
sales, including the competitiveness and marketability of our product offerings,
as well as our liquidity, operating results and financial condition.

CHANGES IN ACCOUNTING STANDARDS ISSUED BY THE FASB OR OTHER STANDARD-SETTING
BODIES MAY ADVERSELY AFFECT OUR FINANCIAL STATEMENTS
Our financial statements are subject to the application of GAAP, which is
periodically revised and/or expanded. Accordingly, we are required to adopt new
or revised accounting standards from time to time issued by recognized
authoritative bodies, including the FASB. It is possible that future changes we
are required to adopt could change the current accounting treatment that we
apply to our consolidated financial statements and that such changes could have
a material adverse effect on our results and financial condition. For a
description of potential changes in accounting standards that could affect us
currently, see Note 2 of the consolidated financial statements.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Information required for Item 7A is incorporated by reference to the
material under caption "Market Risk" in Part II, Item 7 of this report.

43

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

See notes to consolidated financial statements.

44

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION

See notes to consolidated financial statements.

45

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDER'S EQUITY

See notes to consolidated financial statements.

46

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS

See notes to consolidated financial statements.

47

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. GENERAL

BASIS OF PRESENTATION

The accompanying consolidated financial statements include the accounts of
Allstate Life Insurance Company ("ALIC") and its wholly owned subsidiaries
(collectively referred to as the "Company"). ALIC is wholly owned by Allstate
Insurance Company ("AIC"), a wholly owned subsidiary of The Allstate Corporation
(the "Corporation"). These consolidated financial statements have been prepared
in conformity with accounting principles generally accepted in the United States
of America ("GAAP"). All significant intercompany accounts and transactions have
been eliminated.

To conform with the 2003 presentation, certain amounts in the prior years'
consolidated financial statements and notes have been reclassified.

The preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the amounts reported in
the consolidated financial statements and accompanying notes. Actual results
could differ from those estimates.

NATURE OF OPERATIONS

The Company offers a diversified portfolio of retail and institutional
products to meet consumers' needs in the areas of financial protection, savings
and retirement through a variety of distribution channels. Retail life insurance
products include: term life, whole life, credit life, interest-sensitive life,
variable life, variable universal life and single premium life. Other insurance
products include long-term care, accidental death, hospital indemnity and credit
disability. Savings products include fixed deferred annuities (including market
value adjusted annuities, equity-indexed annuities and treasury-linked
annuities), immediate annuities (including structured settlement annuities) and
variable annuities. These products are sold through a variety of distribution
channels including Allstate agencies, financial institutions and broker/dealers,
independent agents (primarily master brokerage agencies), direct marketing and
specialized brokers. The institutional product line consists primarily of
funding agreements sold to variable interest entities that issue medium-term
notes to institutional investors.

The Company is authorized to sell its products in all 50 states, the
District of Columbia, Puerto Rico, Guam and the U.S. Virgin Islands. For 2003,
the top geographic locations for statutory premiums and annuity considerations
for the Company were Delaware, California, New York, Florida, and Pennsylvania.
No other jurisdiction accounted for more than 5% of statutory premiums and
annuity considerations for the Company.

The Company monitors economic and regulatory developments that have the
potential to impact its business. Federal legislation has allowed banks and
other financial organizations to have greater participation in the securities
and insurance businesses. This legislation may result in an increased level of
competition for sales of the Company's products. Furthermore, state and federal
laws and regulations affect the taxation of insurance companies and life
insurance and annuity products. Congress and various state legislatures have
considered proposals that, if enacted, could impose a greater tax burden on the
Company or could have an adverse impact on the tax treatment of some insurance
products offered by the Company, including favorable policyholder tax treatment
currently applicable to life insurance and annuities. Recent legislation that
reduced the federal income tax rates applicable to certain dividends and capital
gains realized by individuals, or other proposals, if adopted, that reduce the
taxation, or permit the establishment, of certain products or investments that
may compete with life insurance or annuities could have an adverse effect on the
Company's financial position or ability to sell such products. In addition,
recent changes in the federal estate tax laws have negatively affected the
demand for the types of life insurance used in estate planning.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

INVESTMENTS

Fixed income securities include bonds, mortgage-backed and asset-backed
securities, and redeemable preferred stocks. Fixed income securities are carried
at fair value and may be sold prior to their contractual maturity ("available
for sale"). The fair value of publicly traded fixed income securities is based
upon independent market quotations. The fair value of non-publicly traded
securities is based on either widely accepted pricing valuation models which use
internally developed ratings and independent third party data (e.g., term
structures and current publicly traded bond prices) as inputs or independent
third party pricing sources. The valuation models use indicative information
such as

48

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

ratings, industry, coupon, and maturity along with related third party data and
publicly traded bond prices to determine security specific spreads. These
spreads are then adjusted for illiquidity based on historical analysis and
broker surveys. Periodic changes in fair values, net of deferred income taxes,
certain deferred policy acquisition costs, and certain reserves for
life-contingent contract benefits, are reflected as a component of other
comprehensive income. Cash received from calls, principal payments and
make-whole payments is reflected as a component of proceeds from sales. Cash
received from maturities and pay-downs is reflected as a component of investment
collections.

Mortgage loans are carried at the outstanding principal balance, net of
unamortized premium or discount and valuation allowances. Valuation allowances
are established for impaired loans when it is probable that contractual
principal and interest will not be collected. Valuation allowances for impaired
loans reduce the carrying value to the fair value of the collateral or the
present value of the loan's expected future repayment cash flows discounted at
the loan's original effective interest rate.

Equity securities include common stocks, non-redeemable preferred stocks
and limited partnership interests. Common stocks and non-redeemable preferred
stocks had a carrying value of $83 million and $96 million, and cost of $79
million and $104 million at December 31, 2003 and 2002, respectively. Common
stocks and non-redeemable preferred stocks are classified as available for sale
and are carried at fair value if independent market quotations are available. If
independent market quotations are not available, these securities are carried at
cost. The difference between cost and fair value, net of deferred income taxes,
is reflected as a component of accumulated other comprehensive income.
Investments in limited partnership interests had a carrying value and cost of
$81 million and $87 million at December 31, 2003 and 2002, respectively, and are
accounted for in accordance with the equity method of accounting except for
instances in which the Company's interest is so minor that it exercises
virtually no influence over operating and financial policies, in which case, the
Company applies the cost method of accounting.

Policy loans are carried at unpaid principal balances. Other investments
consist primarily of real estate investments, which are accounted for by the
equity method if held for investment, or depreciated cost, net of valuation
allowances, if the Company has an active plan to sell.

Short-term investments are carried at cost or amortized cost that
approximates fair value, and generally include the reinvestment of collateral
received in connection with certain securities included in repurchase, resale
and lending activities and derivative transactions. For these transactions, the
Company records an offsetting liability in other liabilities and accrued
expenses for the Company's obligation to repay the collateral.

Investment income consists primarily of interest and dividends, net
investment income from partnership interests and income from certain derivative
transactions. Interest is recognized on an accrual basis and dividends are
recorded at the ex-dividend date. Interest income on mortgage-backed and
asset-backed securities is determined using the effective yield method, based on
estimated principal repayments. Interest income on certain beneficial interests
in securitized financial assets is determined using the prospective yield
method, based upon projections of expected future cash flows. Accrual of income
is suspended for fixed income securities and mortgage loans that are in default
or when the receipt of interest payments is in doubt. Income from investments in
partnership interests, accounted for on the cost basis, is recognized upon
receipt of amounts distributed by the partnerships as income.

Realized capital gains and losses include gains and losses on investment
dispositions, write-downs in value due to other than temporary declines in fair
value and changes in the value of certain derivatives including related periodic
and final settlements. Realized capital gains and losses on investment
dispositions are determined on a specific identification basis.

The Company writes down, to fair value, any fixed income or equity security
that is classified as other than temporarily impaired in the period the security
is deemed to be other than temporarily impaired.

DERIVATIVE AND EMBEDDED DERIVATIVE FINANCIAL INSTRUMENTS

The Company adopted the provisions of Financial Accounting Standards Board
("FASB") Statement of Financial Accounting Standard ("SFAS") No. 133,
"Accounting for Derivative Instruments and Hedging Activities", and SFAS No.
138, "Accounting for Certain Derivative Instruments and Certain Hedging
Activities", as of January 1, 2001. The impact of SFAS No. 133 and SFAS No. 138
(the "statements") to the Company was a loss of $6 million, after-tax, and is
reflected as a cumulative effect of change in accounting principle on the
Consolidated Statements of Operations and Comprehensive Income for the year
ended December 31, 2001.

49

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Derivative financial instruments include swaps, futures, options, interest
rate caps and floors, warrants, certain forward contracts for purchases of
to-be-announced ("TBA") mortgage securities, and certain investment risk
transfer reinsurance agreements. Derivatives that are required to be separated
from the host instrument and accounted for as derivative financial instruments
("subject to bifurcation") are embedded in convertible and other fixed income
securities, equity-indexed life and annuity contracts, certain variable life and
annuity contracts and modified coinsurance contracts (see Note 7).

All derivatives are accounted for on a fair value basis and reported as
other investments, other assets, other liabilities and accrued expenses or
contractholder funds. Embedded derivative instruments subject to bifurcation are
also accounted for on a fair value basis and are reported together with the host
contract. The change in the fair value of derivatives embedded in assets and
subject to bifurcation is reported in realized capital gains and losses. The
change in the fair value of derivatives embedded in liabilities and subject to
bifurcation is reported in life and annuity contract benefits or realized
capital gains and losses.

When derivatives meet specific criteria, they may be designated as
accounting hedges and accounted for as fair value, cash flow, foreign currency
fair value or foreign currency cash flow hedges. The hedged item may be either
all or a specific portion of a recognized asset, liability or an unrecognized
firm commitment attributable to a particular risk. At the inception of the
hedge, the Company formally documents the hedging relationship and risk
management objective and strategy. The documentation identifies the hedging
instrument, the hedged item, the nature of the risk being hedged and the
methodology used to assess how effective the hedging instrument is in offsetting
the exposure to changes in the hedged item's fair value attributable to the
hedged risk, or in the case of a cash flow hedge, the exposure to changes in the
hedged item's or transaction's variability in cash flows attributable to the
hedged risk. The Company does not exclude any component of the change in fair
value of the hedging instrument from the effectiveness assessment. At each
reporting date, the Company confirms that the hedging instrument continues to be
highly effective in offsetting the hedged risk. Ineffectiveness in fair value
hedges and cash flow hedges is reported in realized capital gains and losses.
For the years ended December 31, 2003, 2002 and 2001, the hedge ineffectiveness
reported as realized capital gains and losses amounted to gains of $16 million,
losses of $15 million and gains of $6 million, respectively.

FAIR VALUE HEDGES The Company designates certain of its interest rate and
foreign currency swap contracts and certain investment risk transfer reinsurance
agreements as fair value hedges when the hedging instrument is highly effective
in offsetting the risk of changes in the fair value of the hedged item.

For hedging instruments used in fair value hedges, when the hedged items
are investment assets or a portion thereof, the change in the fair value of the
derivatives is reported in net investment income, together with the change in
the fair value of the hedged items. The change in the fair value of hedging
instruments used in fair value hedges of contractholder funds liabilities or a
portion thereof are reported in life and annuity contract benefits, together
with the change in the fair value of the hedged item. Accrued periodic
settlements on swaps are reported together with the changes in fair value of the
swaps in net investment income, life and annuity contract benefits or interest
expense. The book value of the hedged asset or liability is adjusted for the
change in the fair value of the hedged risk.

CASH FLOW HEDGES The Company designates certain of its foreign currency
swap contracts as cash flow hedges when the hedging instrument is highly
effective in offsetting the exposure of variations in cash flows for the hedged
risk that could affect net income. The Company's cash flow exposure may be
associated with an existing asset, liability, or a forecasted transaction.
Anticipated transactions must be probable of occurrence and their significant
terms and specific characteristics must be identified.

For hedging instruments used in cash flow hedges, the changes in fair value
of the derivatives are reported in accumulated other comprehensive income.
Amounts are reclassified to net investment income or realized capital gains and
losses as the hedged transaction affects net income or when the forecasted
transaction affects net income. Accrued periodic settlements on derivatives used
in cash flow hedges are reported in net investment income. The amount reported
in accumulated other comprehensive income for a hedged transaction is limited to
the lesser of the cumulative gain or loss on the derivative less the amount
reclassified to net income; or the cumulative gain or loss on the derivative
needed to offset the cumulative change in the expected future cash flows on the
hedged transaction from inception of the hedge less the derivative gain or loss
previously reclassified from accumulated other comprehensive income to net
income. If the Company expects at any time that the loss reported in accumulated
other comprehensive income would lead to a net loss on the combination of the
hedging instrument and the hedged transaction which may not be

50

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

recoverable, a loss is recognized immediately in realized capital gains and
losses. If an impairment loss is recognized on an asset or an additional
obligation is incurred on a liability involved in a hedge transaction, any
offsetting gain in accumulated other comprehensive income is reclassified and
reported together with the impairment loss or recognition of the obligation.

TERMINATION OF HEDGE ACCOUNTING If, subsequent to entering into a hedge
transaction, the derivative becomes ineffective (including if the hedged item is
sold or otherwise extinguished, the occurrence of a hedged forecasted
transaction is no longer probable, or the hedged asset has become impaired), the
Company may terminate the derivative position. The Company may also terminate
derivative instruments or redesignate them as non-hedge as a result of other
events or circumstances. If the derivative financial instrument is not
terminated when a fair value hedge is no longer effective, the future gains and
losses recognized on the derivative are reported in realized capital gains and
losses. When a fair value hedge is no longer effective, is redesignated as a
non-hedge, or for which the derivative has been terminated, the gain or loss
recognized on the item being hedged and used to adjust the book value of the
asset, liability or portion thereof is amortized over the remaining life of the
hedged item to net investment income or life and annuity contract benefits,
beginning in the period that hedge accounting is no longer applied. If the
hedged item of a fair value hedge is an asset which has become impaired, the
adjustment made to the book value of the asset is subject to the accounting
policies applied to impaired assets. When a derivative financial instrument used
in a cash flow hedge of an existing asset or liability is no longer effective or
is terminated, the gain or loss recognized on the derivative is reclassified
from accumulated other comprehensive income to net income as the hedged risk
impacts net income, beginning in the period hedge accounting is no longer
applied or the derivative instrument is terminated. If the derivative financial
instrument is not terminated when a cash flow hedge is no longer effective, the
future gains and losses recognized on the derivative are reported in realized
capital gains and losses. When a derivative financial instrument used in a cash
flow hedge of a forecasted transaction is terminated because the forecasted
transaction is no longer probable, or if the cash flow hedge is no longer
effective, the gain or loss recognized on the derivative is reclassified from
accumulated other comprehensive income to realized capital gains and losses in
the period that hedge accounting is no longer applied.

NON-HEDGE DERIVATIVE FINANCIAL INSTRUMENTS The Company also has certain
derivatives that are used in interest rate, equity price and credit risk
management strategies for which hedge accounting is not applied. These
derivatives primarily consist of indexed instruments, certain interest rate swap
agreements and financial futures contracts, interest rate cap and floor
agreements, certain forward contracts for TBA mortgage securities and credit
default swaps. Based upon the type of derivative instrument and strategy, the
income statement effects of these derivatives are reported in a single line
item, generally with results of the associated risk. Therefore, the derivatives'
fair value gains and losses and accrued periodic settlements are recognized
together in one of the following during the reporting period: net investment
income, realized capital gains and losses, operating costs and expenses or life
and annuity contract benefits.

SECURITY REPURCHASE AND RESALE AND SECURITIES LOANED

Securities purchased under agreements to resell and securities sold under
agreements to repurchase, including a mortgage dollar roll program, are treated
as financing arrangements and the related obligations to return the collateral
are carried at the amounts at which the securities will be subsequently resold
or reacquired, including accrued interest, as specified in the respective
agreements. The Company's policy is to take possession or control of securities
purchased under agreements to resell. Assets to be repurchased are the same, or
substantially the same, as the assets transferred and the transferor, through
the right of substitution, maintains the right and ability to redeem the
collateral on short notice. The market value of securities to be repurchased or
resold is monitored, and additional collateral is obtained, where appropriate,
to protect against credit exposure.

Securities loaned are treated as financing arrangements and the collateral
received is recorded in short-term investments, fixed income securities and
other liabilities and accrued expenses. The Company obtains collateral in an
amount equal to 102% of the fair value of securities. The Company monitors the
market value of securities loaned on a daily basis and obtains additional
collateral as necessary. Substantially all of the Company's securities loaned
are on loan with large brokerage firms.

Securities repurchase and resale agreements and securities lending
transactions are used to generate net investment income. The cash received from
repurchases and resale agreements also provide a source of liquidity. These
instruments are short-term in nature (usually 30 days or less) and are
collateralized principally by U.S. Government and mortgage-backed securities.
The carrying values of these instruments approximate fair value because of their
relatively

51

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

short-term nature.

RECOGNITION OF PREMIUM AND CONTRACT CHARGE REVENUE AND RELATED BENEFITS AND
INTEREST CREDITED

Traditional life insurance products consist principally of products with
fixed and guaranteed premiums and benefits, primarily term and whole life
insurance products. Premiums from these products are recognized as revenue when
due. Benefits are recognized in relation to such revenue so as to result in the
recognition of profits over the life of the policy and are reflected in life and
annuity contract benefits.

Immediate annuities with life contingencies, including certain structured
settlement annuities, provide insurance protection over a period that extends
beyond the period during which premiums are collected. Gross premiums in excess
of the net premium on immediate annuities with life contingencies are deferred
and recognized over the contract period. Contract benefits are recognized in
relation to such revenue so as to result in the recognition of profits over the
life of the policy.

Interest-sensitive life contracts, such as universal life and single
premium life, are insurance contracts whose terms are not fixed and guaranteed.
The terms that may be changed include premiums paid by the contractholder,
interest credited to the contractholder account balance and any amounts assessed
against the contractholder account balance. Premiums from these contracts are
reported as contractholder fund deposits. Contract charges consist of fees
assessed against the contractholder account balance for cost of insurance
(mortality risk), contract administration and early surrender. These revenues
are recognized when assessed against the contractholder account balance. Life
and annuity contract benefits include life-contingent benefit payments in excess
of the contractholder account balance.

Contracts that do not subject the Company to significant risk arising from
mortality or morbidity are referred to as investment contracts. Fixed annuities,
including market value adjusted annuities, equity-indexed annuities and
immediate annuities without life contingencies, certain guaranteed investment
contracts ("GICs") and funding agreements are considered investment contracts.
Deposits received for such contracts are reported as contractholder fund
deposits. Contract charges for investment contracts consist of fees assessed
against the contractholder account balance for contract administration and early
surrender. These revenues are recognized when assessed against the
contractholder account balance.

Interest credited to contractholder funds represents interest accrued or
paid for interest-sensitive life contracts and investment contracts. Crediting
rates for certain fixed annuities and interest-sensitive life contracts are
adjusted periodically by the Company to reflect current market conditions
subject to contractually guaranteed minimum rates. Crediting rates for indexed
annuities and indexed life products are based on a specified interest rate
index, such as LIBOR, or an equity index, such as the S&P 500.

Separate accounts products include variable annuities and variable life
insurance contracts. The assets supporting these products are legally segregated
and available only to settle separate accounts contract obligations. Deposits
received are reported as separate accounts liabilities. Contract charges for
these products consist of fees assessed against the contractholder account
values for contract maintenance, administration, mortality, expense and early
surrender. Contract benefits incurred include guaranteed minimum death benefits
paid on variable annuity contracts.

DEFERRED POLICY ACQUISITION COSTS

Costs that vary with and are primarily related to acquiring life insurance
and investment business are deferred and recorded as deferred policy acquisition
costs ("DAC"). These costs are principally agents' and brokers' remuneration,
certain underwriting costs and direct mail solicitation expenses. All other
acquisition expenses are charged to operations as incurred and included in
operating costs and expenses on the Consolidated Statements of Operations and
Comprehensive Income. DAC is periodically reviewed for recoverability and
written down when necessary.

For traditional life insurance and other premium paying contracts, such as
immediate annuities with life contingencies and limited payment contracts, DAC
is amortized in proportion to the estimated revenues on such business.
Assumptions used in amortization of DAC and reserve calculations are determined
based upon conditions as of the date of policy issue and are generally not
revised during the life of the policy. Any deviations from projected business in
force, resulting from actual policy terminations differing from expected levels,
and any estimated premium deficiencies change the rate of amortization in the
period such events occur. Generally, the amortization period for these contracts
approximates the estimated lives of the policies.

52

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

For internal exchanges of traditional life insurance and immediate
annuities with life contingencies, the unamortized balance of costs previously
deferred under the original contracts are charged to income. The new costs
associated with the exchange are deferred and amortized to income.

For interest-sensitive life, variable annuities and investment contracts,
DAC is amortized in proportion to the incidence of the present value of
estimated gross profits ("EGP") on such business over the estimated lives of the
contracts. Generally, the amortization period ranges from 15-30 years; however,
estimates of customer surrender rates result in the majority of deferred costs
being amortized over the surrender charge period. The rate of amortization
during this term is matched to the pattern of EGP. EGP consists of the following
components: margins from mortality including guaranteed minimum death and income
benefits; contract administration, surrender and other contract charges, less
maintenance expenses; and investment margin, including realized capital gains
and losses.

DAC amortization for variable annuity and life contracts is significantly
impacted by the return on the underlying funds. The Company's long-term
expectation of separate accounts fund performance after fees is approximately
8%, which is consistent with its pricing assumptions. Whenever actual separate
accounts fund performance based on the two most recent years varies from the 8%
expectation, the Company projects performance levels over the next five years
such that the mean return over that seven year period equals the long-term 8%
expectation. This approach is commonly referred to as "reversion to the mean"
and is commonly used by the life insurance industry as an appropriate method for
amortizing variable annuity and life DAC. In applying the reversion to the mean
process, the Company does not allow the future rates of return after fees
projected over the five-year period to exceed 12.75% or fall below 0%. The
Company periodically evaluates the utilization of this process to determine that
it is reasonably possible that variable annuity and life fund performance will
revert to the expected long-term mean within this time horizon.

Changes in the amount or timing of the incidence of EGP result in
adjustments to the cumulative amortization of DAC. All such adjustments are
reflected in the current results of operations.

The Company performs quarterly reviews of DAC recoverability for
interest-sensitive life, variable annuities and investment contracts in the
aggregate using current assumptions. If a change in the amount of EGP is
significant, it could result in the unamortized DAC not being recoverable,
resulting in a charge which is included as a component of amortization of
deferred policy acquisition costs on the Consolidated Statements of Operations
and Comprehensive Income.

The cost assigned to the right to receive future cash flows from certain
business purchased from other insurers is also classified as deferred policy
acquisition costs in the Consolidated Statements of Financial Position. The
costs capitalized represent the present value of future profits expected to be
earned over the life of the contracts acquired. These costs are amortized as
profits emerge over the life of the acquired business and are periodically
evaluated for recoverability. Present value of future profits was $27 million
and $63 million at December 31, 2003 and 2002, respectively. Amortization
expense on present value of future profits was $36 million, $15 million and $16
million for the years ended December 31, 2003, 2002 and 2001, respectively.

REINSURANCE RECOVERABLE

In the normal course of business, the Company seeks to limit aggregate and
single exposure to losses on large risks by purchasing reinsurance from
reinsurers (see Note 9). The amounts reported in the Consolidated Statements of
Financial Position include amounts billed to reinsurers on losses paid as well
as estimates of amounts expected to be recovered from reinsurers on incurred
losses that have not yet been paid. Reinsurance recoverables on unpaid losses
are estimated based upon assumptions consistent with those used in establishing
the liabilities related to the underlying reinsured contract. Insurance
liabilities are reported gross of reinsurance recoverables. Prepaid reinsurance
premiums are deferred and reflected in income in a manner consistent with the
recognition of premiums on the reinsured contracts. Reinsurance does not
extinguish the Company's primary liability under the policies written.
Therefore, the Company regularly evaluates reinsurers and amounts recoverable
and establishes allowances for uncollectible reinsurance as appropriate.

The Company also has reinsurance agreements that transfer the investment
risk for a portion of the GMDBs and guaranteed minimum income benefits ("GMIBs")
offered in certain variable contracts.

INCOME TAXES

The income tax provision is calculated under the liability method. Deferred
tax assets and liabilities are recorded

53

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

based on the difference between the financial statement and tax bases of assets
and liabilities at the enacted tax rates. The principal assets and liabilities
giving rise to such differences are unrealized capital gains and losses on
certain investments, insurance reserves and deferred policy acquisition costs. A
deferred tax asset valuation allowance is established when there is uncertainty
that such assets would be realized.

SEPARATE ACCOUNTS

The Company issues variable annuities, variable life insurance contracts
and certain GICs, the assets and liabilities of which are legally segregated and
recorded as assets and liabilities of the separate accounts. The assets of the
separate accounts are carried at fair value. Separate accounts liabilities
represent the contractholders' claims to the related assets and are carried at
the fair value of the assets. Investment income and realized capital gains and
losses of the separate accounts accrue directly to the contractholders and
therefore, are not included in the Company's Consolidated Statements of
Operations and Comprehensive Income. Revenues to the Company from the separate
accounts consist of contract charges for maintenance and administration
services, mortality, early surrender and expenses and are reflected in contract
charges. Deposits to the separate accounts are not included in consolidated cash
flows.

Absent any contract provision wherein the Company guarantees either a
minimum return or account value upon death or annuitization, variable annuity
and variable life insurance contractholders bear the investment risk that the
separate accounts' funds may not meet their stated investment objectives.

RESERVES FOR LIFE-CONTINGENT CONTRACT BENEFITS

The reserve for life-contingent contract benefits, which relates to
traditional life insurance and immediate annuities with life contingencies, is
computed on the basis of long-term actuarial assumptions as to future investment
yields, mortality, morbidity, terminations and expenses. These assumptions,
which for traditional life insurance are applied using the net level premium
method, include provisions for adverse deviation and generally vary by such
characteristics as type of coverage, year of issue and policy duration. Detailed
reserve assumptions and reserve interest rates are outlined in Note 8. To the
extent that unrealized gains on fixed income securities would result in a
premium deficiency had those gains actually been realized, the related increase
in reserves for certain immediate annuities with life contingencies is recorded
net of tax as a reduction of the unrealized net capital gains included in
accumulated other comprehensive income.

CONTRACTHOLDER FUNDS

Contractholder funds arise from the issuance of interest-sensitive life
policies and investment contracts. Deposits received are recorded as
interest-bearing liabilities. Contractholder funds are equal to deposits
received and interest credited to the benefit of the contractholder less
surrenders and withdrawals, mortality charges and administrative expenses.
Detailed information on crediting rates and surrender and withdrawal provisions
on contractholder funds are outlined in Note 8.

OFF-BALANCE-SHEET FINANCIAL INSTRUMENTS

Commitments to invest, commitments to purchase private placement
securities, commitments to extend mortgage loans, financial guarantees and
credit guarantees have off-balance-sheet risk because their contractual amounts
are not recorded in the Company's Consolidated Statements of Financial Position.
The contractual amounts and fair values of these instruments are outlined in
Note 7.

ADOPTED ACCOUNTING STANDARDS

FASB INTERPRETATION NO.46 AND 46R, "CONSOLIDATION OF VARIABLE INTEREST ENTITIES"
("FIN 46" AND "FIN 46R")

In January 2003, the FASB issued FIN 46, which addressed whether certain
types of entities, referred to as variable interest entities ("VIEs"), should be
consolidated in a company's financial statements. A VIE is an entity in which
the equity investors lack certain essential characteristics of a controlling
financial interest or that lacks sufficient equity to finance its own activities
without financial support provided by other entities. A company must consolidate
a VIE if it has a variable interest that will absorb a majority of the expected
losses if they occur, receive a majority of the entity's expected returns, or
both.

In December 2003, the FASB issued FIN 46R to clarify and revise a number of
key elements of FIN 46 including the definition of a VIE and the treatment of
fees paid to decision makers.

54

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

The application of FIN 46 was required for VIEs created on or after
February 1, 2003. For VIEs existing prior to that date, the effective date of
the interpretation was delayed through the issuance of FASB Staff Position
("FSP") FIN 46-6, until the end of the first interim or annual period ending
after December 15, 2003. However, the early adoption of FIN 46 was permitted for
some or all of a reporting entity's affected VIEs. The adoption of FIN 46R is
required by the end of the first reporting period ending after December 15, 2003
for VIEs considered to be special-purpose entities.

The Company elected to adopt FIN 46 as of July 1, 2003 for its existing
VIEs. The impact of adopting FIN 46 as of July 1, 2003 was as follows:

- The Company issues funding agreements to a Special Purpose Entity
("SPE") (which is considered a VIE under FIN 46) used to issue Global
Medium Term Notes ("GMTNs") to unrelated third parties. The GMTNs and
certain equity interests issued by the SPE, to the extent they are
exposed to all the risks and rewards of owning the funding agreements
that collateralize the GMTNs, are considered variable interests in a
VIE. Because the Company owns none of the variable interests issued by
the VIE, it is not required to consolidate the VIE and will continue to
classify funding agreements issued to the VIE as a component of
contractholder funds.

- Consistent with the GMTN program, the Company's Euro Medium Term Notes
("EMTNs") program no longer requires consolidation. The impact of
deconsolidating the EMTNs was the recognition of the funding agreements
issued to the VIE as a component of contractholder funds, which is
consistent with the previous accounting for this program.

- The Company was determined to be the primary beneficiary of a previously
unconsolidated investment transaction considered to be a VIE under FIN
46. Accordingly, the VIE was consolidated as of July 1, 2003. As a
result of consolidating the investment transaction, the Company's
consolidated balance sheet as of September 30, 2003 included $50 million
of assets classified as investments and long-term debt of $44 million.
The holders of the consolidated long-term debt have no recourse to the
equity of the Company as the sole source of payment of the liabilities
is the assets of the VIE.

- The issuance of FIN 46R had no impact on the initial application of FIN
46 to the VIEs described above.

SFAS NO. 149, "AMENDMENT OF STATEMENT 133 ON DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES" ("SFAS NO. 149")

In April 2003, the FASB issued SFAS No. 149, which amends, clarifies and
codifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts and used
for hedging activities under SFAS No. 133. While this statement applies
primarily to certain derivative contracts and embedded derivatives entered into
or modified after June 30, 2003, it also codifies conclusions previously reached
by the FASB at various dates on certain implementation issues. The impact of
adopting the provisions of the statement was not material to the Company's
Consolidated Statements of Operations and Comprehensive Income or Financial
Position.

DERIVATIVES IMPLEMENTATION GROUP STATEMENT 133 IMPLEMENTATION ISSUE NO. B36,
"EMBEDDED DERIVATIVES: MODIFIED COINSURANCE ARRANGEMENTS AND DEBT INSTRUMENTS
THAT INCORPORATE CREDIT RISK EXPOSURES THAT ARE UNRELATED OR ONLY PARTIALLY
RELATED TO THE CREDITWORTHINESS OF THE OBLIGOR UNDER THOSE
INSTRUMENTS"("IMPLEMENTATION ISSUE B36")

In April 2003, the FASB issued Implementation Issue B36, which became
effective October 1, 2003. Implementation Issue B36 was applied to two of the
Company's modified coinsurance agreements, and as a result, the embedded
derivatives were bifurcated from the agreements and marked to market value at
October 1, 2003. The effect of adopting Implementation Issue B36 was the
recognition of a loss of $13 million, after-tax, which is reflected as a
cumulative effect of a change in accounting principle on the Consolidated
Statements of Operations and Comprehensive Income.

PENDING ACCOUNTING STANDARD

STATEMENT OF POSITION 03-01, "ACCOUNTING AND REPORTING BY INSURANCE ENTERPRISES
FOR CERTAIN NONTRADITIONAL LONG-DURATION CONTRACTS AND FOR SEPARATE ACCOUNTS"
("SOP NO. 03-01")

In July 2003, the American Institute of Certified Public Accountants issued
SOP 03-01, which applies to several of the Company's insurance products and
product features. The effective date of the SOP is for fiscal years beginning
after December 15, 2003. A provision of the SOP requires the establishment of
reserves in addition to the account

55

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

balance for contracts containing certain features that provide guaranteed death
or other insurance benefits and guaranteed income benefits. These reserves are
not currently established by the Company. Recently, the Company implemented new
actuarial models that permitted determination of the estimated impact on the
Consolidated Statements of Operations and Comprehensive Income. Based on the
Company's application of the estimation methodologies set forth in the SOP, the
estimated after-tax impact of adopting the SOP on the Consolidated Statements of
Operations and Comprehensive Income, including the related impact on deferred
acquisition costs, is in the range of $150 million to $200 million as of January
1, 2004, based on market conditions that existed at December 31, 2003.

PROPOSED ACCOUNTING STANDARD

EMERGING ISSUES TASK FORCE TOPIC NO. 03-01, "THE MEANING OF OTHER-THAN-TEMPORARY
IMPAIRMENT AND ITS APPLICATION TO CERTAIN INVESTMENTS" ("EITF NO. 03-01")

The Emerging Issues Task Force ("EITF") is currently deliberating EITF No.
03-01, which attempts to define other-than-temporary impairment and highlight
its application to investment securities accounted for under both SFAS No. 115,
"Accounting for Certain Investments in Debt and Equity Securities" ("SFAS No.
115") and Accounting Principles Board Opinion No. 18, "The Equity Method of
Accounting for Investments in Common Stocks" ("APB No. 18"). The current issue
summary, which has yet to be finalized, proposes that if, at the evaluation
date, the fair value of an investment security is less than its carrying value
then an impairment exists for which a determination must be made as to whether
the impairment is other-than-temporary. If it is determined that an impairment
is other-than-temporary, then an impairment loss should be recognized equal to
the difference between the investment's carrying value and its fair value at the
reporting date. In recent deliberations, the EITF discussed different models to
assess whether impairment is other-than-temporary for different types of
investments (e.g. SFAS No. 115 marketable equity securities, SFAS No. 115 debt
securities, and equity and cost method investments subject to APB No. 18) and
subsequently decided to use a unified model. Due to the uncertainty of the final
model (or models) that may be adopted, the estimated impact to the Company's
Consolidated Statements of Operations and Comprehensive Income and Financial
Position is presently not determinable. In November 2003, the EITF reached a
consensus with respect to certain disclosures effective for fiscal years ending
after December 15, 2003. Quantitative and qualitative disclosures are required
for fixed income and marketable equity securities classified as
available-for-sale or held-to-maturity under SFAS No. 115. The Company has
included those disclosures at December 31, 2003 (see Note 6).

3. ACQUISITIONS AND DISPOSITIONS

2003 DISPOSITIONS

The Company announced its intention to exit the direct response
distribution business. Based on its decision to sell the business, the Company
recorded an estimated loss on the disposition of $44 million. An agreement was
entered into with American Health and Life Insurance Company and Triton
Insurance Company, subsidiaries of Citigroup Inc., to dispose of a portion of
the direct response business. If approved by the state insurance departments,
the transaction will be effective January 1, 2004.

2002 DISPOSITIONS

The Company terminated its joint venture agreement with Putnam Investments,
LLC ("Putnam") and received a net settlement of $1.5 million from Putnam. The
$1.5 million net settlement was comprised of the $2.3 million Putnam owed the
Company for Allstate Distributors, LLC ("ADLLC") promotional expenses, partially
offset by the $826 thousand purchase price for Putnam's 50% share of ADLLC (See
Note 5 for further discussion).

The Company approved the disposal of its direct response long-term care
business through a reinsurance transaction. As a result, the Company recognized
a $3 million loss ($2 million after-tax) to reduce the carrying value of the
long-term care business to its fair value.

2001 DISPOSITIONS

The Company disposed of its operations in Indonesia through a sale and
purchase agreement with The Prudential Assurance Company Limited ("Prudential"),
where Prudential acquired the Company's holdings in Pt Asuransi Jiwa Allstate,
Indonesia. The Company recognized a loss on the disposition of $4 million ($3
million after-tax) and a $4 million tax benefit, not previously recognized,
attributable to the inception-to-date losses of the subsidiary. The tax benefit
was reported as a reduction to the Company's income tax expense on the
Consolidated Statements of Operations

56

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

and Comprehensive Income.

2001 ACQUISITIONS

The Company acquired blocks of business from American Maturity Life
Insurance Company ("American Maturity") via coinsurance contracts. Pursuant to
the terms of the coinsurance contracts, the Company assumed: variable annuities,
market value adjusted annuities, equity-indexed annuities, fixed annuities, and
immediate annuities. The Company received assets consisting primarily of cash,
investments and accrued investment income with a fair value in an amount equal
to the corresponding assumed reserves for life-contingent contract benefits and
contractholder funds resulting in no goodwill.

The Company acquired Provident National Assurance Company ("PNAC"), a
broadly licensed inactive company that maintains authority to sell life
insurance and variable annuity products in most states, from UnumProvident
Corporation. The transaction was accounted for as a purchase and the excess of
the acquisition cost over the fair value of PNAC's net assets acquired of $5
million was recorded as goodwill. The Company paid consideration of $14 million
as part of the acquisition. PNAC's name was subsequently changed to Allstate
Assurance Company, which was redomiciled in the State of Illinois.

4. SUPPLEMENTAL CASH FLOW INFORMATION

Non-cash investment exchanges and modifications, which primarily reflect
refinancings of fixed income securities and mergers completed with equity
securities, totaled $41 million, $98 million and $210 million for the years
ended December 31, 2003, 2002 and 2001, respectively.

The adoption of FIN 46 resulted in the consolidation of one VIE causing
increases in assets of $52 million and long-term debt of $45 million. See
further discussion of the impacts of adopting FIN 46 in Note 2.

In 2003, the Company paid $98 million in dividends of investment securities
to AIC.

Secured borrowing reinvestment transactions excluded from cash flows from
investing activities in the Consolidated Statements of Cash Flows for the years
ended December 31 are as follows:

The Company acquired the assets of businesses in 2001 (see Note 3) using
cash and by assuming liabilities. The following is a summary of the effects of
these transactions on the Company's consolidated financial position for the year
ended December 31, 2001.

5. RELATED PARTY TRANSACTIONS

BUSINESS OPERATIONS

The Company uses services performed by its affiliates, AIC and Allstate
Investments LLC, and business facilities owned or leased and operated by AIC in
conducting its business activities. In addition, the Company shares the services
of employees with AIC. The Company reimburses its affiliates for the operating
expenses incurred on behalf of the Company. The Company is charged for the cost
of these operating expenses based on the level of services provided. Operating
expenses, including compensation, retirement and other benefit programs
allocated to the Company (see Note 15), were $299 million, $238 million, and
$208 million in 2003, 2002 and 2001, respectively. A portion of these expenses
relate to the acquisition of business, which is deferred and amortized into
income.

57

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

STRUCTURED SETTLEMENT ANNUITIES

The Company issued $119 million, $133 million and $117 million of
structured settlement annuities, a type of immediate annuity, in 2003, 2002 and
2001, respectively, at prices determined based upon interest rates in effect at
the time of purchase, to fund structured settlements in matters involving AIC.
Of these amounts, $21 million, $27 million and $38 million relate to structured
settlement annuities with life contingencies and are included in premium income
for 2003, 2002, and 2001, respectively. In most cases, these annuities were
issued under a "qualified assignment," which means the Company assumed AIC's
obligation to make the future payments.

AIC issued surety bonds, in return for premiums of $531 thousand in 2001 to
guarantee the payment of structured settlement benefits assumed (from both AIC
and non-related parties) and funded by certain annuity contracts issued by the
Company. In previous periods, the Company had entered into a General Indemnity
Agreement pursuant to which it has indemnified AIC for any liabilities
associated with the surety bonds and gives AIC certain collateral security
rights with respect to the annuities and certain other rights in the event of
any defaults covered by the surety bonds. For contracts written on or after July
1, 2001, AIC no longer issues surety bonds to guarantee the payment of
structured settlement benefits. Alternatively, ALIC guarantees the payment of
structured settlement benefits on all contracts issued on or after July 1, 2001.

Reserves recorded by the Company for annuities that are guaranteed by the
surety bonds of AIC were $5.00 billion and $5.29 billion at December 31, 2003
and 2002, respectively.

BROKER/DEALER AGREEMENT

The Company receives underwriting and distribution services from Allstate
Financial Services, LLC ("AFS"), an affiliated broker/dealer company, for
certain variable annuity and variable life insurance contracts sold by Allstate
exclusive agencies. The Company incurred $38 million, $35 million and $30
million of commission and other distribution expenses for the years ending
December 31, 2003, 2002 and 2001, respectively.

ALIC received underwriting and distribution services from ADLLC, a
broker/dealer company, for certain variable annuity contracts. Effective
September 30, 2002, ALIC and Putnam terminated a joint venture agreement and
ADLLC became a consolidated wholly owned subsidiary of ALIC as a result of
ALIC's purchase of Putnam's 50% ownership therein. ALIC incurred $32 million and
$80 million of commission and other distribution expenses from ADLLC for the
years ending December 31, 2002 and 2001, respectively. Other distribution
expenses included administrative, legal, financial management and sales support
which ALIC provided to ADLLC, for which ALIC earned administration fees of $1
million and $1 million for the years ended December 31, 2002 and 2001,
respectively. Other distribution expenses also included marketing expenses for
subsidizing bonus interest crediting rates associated with ALIC's variable
annuity dollar cost averaging program for which ADLLC reimbursed ALIC $1 million
and $7 million for the years ended December 31, 2002 and 2001, respectively.

REINSURANCE TRANSACTIONS

The Company has a coinsurance contract with Columbia Universal Life
Insurance Company ("Columbia"), an affiliate of the Company, to assume 100% of
fixed annuity business in force as of June 30, 2000 and new business as written.
In addition, the Company has a modified coinsurance contract with Columbia to
assume 100% of traditional life and accident and health business in force on the
effective date of July 1, 2000 and new business as written. Both agreements are
continuous but may be terminated by either party with 30 days notice, material
breach by either party, or by Columbia in the event of the Company's non-payment
of reinsurance amounts due. As of May 31, 2001, Columbia ceased issuing new
contracts. During 2003, 2002 and 2001, the Company assumed $17 million, $19
million and $21 million, respectively, in premiums and contract charges from
Columbia.

The Company has a modified coinsurance contract with Allstate Reinsurance,
Ltd. ("Allstate Re"), an affiliate of the Company, to cede 50% of certain fixed
annuity business issued under a distribution agreement with PNC Bank NA. Under
the terms of the contract, a trust has been established to provide protection
for ceded liabilities. This agreement is continuous but may be terminated by
either party with 60 days notice. During 2003, 2002 and 2001, the Company ceded
$369 thousand, $329 thousand and $236 thousand, respectively, in contract
charges to Allstate Re.

The Company has a contract to assume 100% of all credit insurance written
by AIC. This agreement is continuous but may be terminated by either party with
60 days notice. The Company assumed premiums from AIC in the amount of $2
million, $18 million and $29 million in 2003, 2002 and 2001, respectively.

58

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

ALIC enters into certain intercompany reinsurance transactions with its
wholly owned subsidiaries. ALIC enters into these transactions in order to
maintain underwriting control and spread risk among various legal entities.
These reinsurance agreements have been approved by the appropriate regulatory
authorities. All significant intercompany transactions have been eliminated in
consolidation.

Effective January 1, 2003, Northbrook Life Insurance Company ("NLIC"), a
wholly owned subsidiary of ALIC, was merged into ALIC to achieve future cost
savings and operational efficiency. The merger had no impact on the Company's
results of operations or financial position.

PREFERRED STOCK

AIC guarantees the repayment of notes payable and the interest thereon
issued to Morgan Stanley DW, Inc. under the terms of a distribution agreement
with The Northbrook Corporation. The balance of the notes payable was $82
million at December 31, 2003.

INCOME TAXES

The Company is a party to a federal income tax allocation agreement with
the Corporation (Note 12).

DEBT

The Company has entered into an inter-company loan agreement with the
Corporation. The amount of inter-company loans available to the Company is at
the discretion of the Corporation. The maximum amount of loans the Corporation
will have outstanding to all its eligible subsidiaries at any given point in
time is limited to $1.00 billion. No amounts were outstanding for the
intercompany loan agreement during the three years ended December 31, 2003. The
Corporation uses commercial paper borrowings, bank lines of credit and
repurchase agreements to fund intercompany borrowings.

6. INVESTMENTS

FAIR VALUES

The amortized cost, gross unrealized gains and losses, and fair value for
fixed income securities are as follows:

59

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

SCHEDULED MATURITIES

The scheduled maturities for fixed income securities are as follows at
December 31, 2003:

Actual maturities may differ from those scheduled as a result of
prepayments by the issuers. Because of the potential for prepayment on mortgage-
and asset-backed securities, they are not categorized by contractual maturity.

NET INVESTMENT INCOME

Net investment income for the years ended December 31 is as follows:

Net investment income from equity securities includes income from
partnership interests of $7 million, $16 million and $15 million for the years
ended December 31, 2003, 2002 and 2001, respectively.

REALIZED CAPITAL GAINS AND LOSSES, AFTER TAX

Realized capital gains and losses by security type for the years ended
December 31 are as follows:

Realized capital gains and losses by transaction type for the years ended
December 31 are as follows:

Excluding the effects of calls and prepayments, gross gains of $173
million, $137 million and $183 million and gross losses of $184 million, $327
million and $237 million were realized on sales of fixed income securities
during

60

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

2003, 2002 and 2001, respectively.

UNREALIZED NET CAPITAL GAINS AND LOSSES

Unrealized net capital gains and losses on fixed income, equity securities
and derivative instruments included in accumulated other comprehensive income at
December 31, 2003 are as follows:

At December 31, 2002, equity securities had gross unrealized gains of $4
million and gross unrealized losses of $12 million.

CHANGE IN UNREALIZED NET CAPITAL GAINS AND LOSSES

The change in unrealized net capital gains and losses for the years ended
December 31 is as follows:

PORTFOLIO MONITORING

Inherent in the Company's evaluation of a particular security are
assumptions and estimates about the operations of the issuer and its future
earnings potential. Some of the factors considered in evaluating whether a
decline in fair value is other than temporary are: 1) the Company's ability and
intent to retain the investment for a period of time sufficient to allow for an
anticipated recovery in value; 2) the recoverability of principal and interest;
3) the duration and extent to which the fair value has been less than cost for
equity securities or amortized cost for fixed income securities; 4) the
financial condition, near-term and long-term prospects of the issuer, including
relevant industry conditions and trends, and implications of rating agency
actions and offering prices; and 5) the specific reasons that a security is in a
significant unrealized loss position, including market conditions which could
affect access to liquidity.

The following table summarizes the gross unrealized losses and fair value
of fixed income and equity securities by the length of time that individual
securities have been in a continuous unrealized loss position at December 31,
2003:

61

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

The above table includes $220 million of unrealized losses related to
securities with an unrealized loss position less than 20% of cost or amortized
cost, the degree of which suggests that these securities do not pose a high risk
of being other than temporarily impaired. Of the $220 million, $198 million
relate to unrealized losses on investment grade fixed income securities.
Investment grade is defined as a security having a rating from the National
Association of Insurance Commissioners ("NAIC") of 1 or 2; a Moody's equivalent
rating of Aaa, Aa, A or Baa; a Standard & Poor's ("S&P") equivalent rating of
AAA, AA, A or BBB; or a comparable internal rating. Unrealized losses on
investment grade securities are principally related to changes in interest rates
or changes in issuer and sector related credit spreads since the securities were
acquired.

The remaining $74 million of unrealized losses relate to securities in
unrealized loss positions greater than or equal to 20% of cost or amortized
cost. Of the $74 million, $23 million relate to investment grade fixed income
securities and $51 million relate to below investment grade fixed income
securities. Of these amounts $10 million and $26 million, respectively, had been
in an unrealized loss position for a period of twelve months or more as of
December 31, 2003. $13 million of the unrealized losses from below investment
grade securities are airline industry issues. The securities comprising the $74
million of unrealized losses were evaluated considering factors such as the
financial condition and near-term and long-term prospects of the issuer and were
determined to have adequate resources to fulfill contractual obligations, such
as recent financings or bank loans, cash flows from operations, collateral or
the position of a subsidiary with respect to its parent's bankruptcy.

As of December 31, 2003, the Company had the intent and ability to hold
these investments for a period of time sufficient for them to recover in value.

MORTGAGE LOAN IMPAIRMENT

A mortgage loan is impaired when it is probable that the Company will be
unable to collect all amounts due according to the contractual terms of the loan
agreement.

The net carrying value of impaired loans at December 31, 2003 and 2002 was
comprised of loans in foreclosure and delinquent loans of $4 million and $11
million, respectively. There were no restructured loans at December 31, 2003 and
2002. No valuation allowances were established for impaired loans because the
impaired loans are collateral dependent loans and the fair value of the
collateral was greater than the recorded investment in the loans.

Interest income for impaired loans is recognized on an accrual basis if
payments are expected to continue to be received; otherwise the cash basis is
used. For impaired loans that have been restructured, interest is accrued based
on the principal amount at the adjusted interest rate. The Company recognized
interest income of $2 million on impaired loans during 2003 and $1 million
during both 2002 and 2001. The average balance of impaired loans was $23
million, $16 million and $27 million during 2003, 2002 and 2001, respectively.

There were no valuation allowances for mortgage loans at December 31, 2003
and 2002. Direct write-downs of mortgage loan gross carrying amounts were $3
million and $5 million in 2003 and 2002. There were no direct write-downs of
mortgage loans in 2001. There were no net reductions to mortgage loans valuation
allowances in 2003. For the years ended December 31, 2002 and 2001, net
reductions to mortgage loan valuation allowances were $5 million and $300
thousand, respectively.

INVESTMENT CONCENTRATION FOR MUNICIPAL BOND PORTFOLIOS

The Company maintains a diversified portfolio of municipal bonds. The
following table shows the principal geographic distribution of municipal bond
issuers represented in the Company's portfolio. No other state represents more
than 5% of the portfolio at December 31, 2003:

62

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

INVESTMENT CONCENTRATION FOR COMMERCIAL MORTGAGE PORTFOLIOS AND OTHER INVESTMENT
INFORMATION

The Company's mortgage loans are collateralized by a variety of commercial
real estate property types located throughout the United States. Substantially
all of the commercial mortgage loans are non-recourse to the borrower. The
following table shows the principal geographic distribution of commercial real
estate represented in the Company's mortgage portfolio. No other state
represented more than 5% of the portfolio at December 31, 2003:

The types of properties collateralizing the commercial mortgage loans at
December 31 are as follows:

The contractual maturities of the commercial mortgage loan portfolio as of
December 31, 2003 for loans that were not in foreclosure are as follows:

In 2003, $234 million of commercial mortgage loans were contractually due.
Of these, 97% were paid as due and 3% were refinanced at prevailing market
terms. None were foreclosed or in the process of foreclosure, and none were in
the process of refinancing or restructuring discussions.

Included in fixed income securities are below investment grade assets
totaling $3.69 billion and $3.66 billion at December 31, 2003 and 2002,
respectively.

At December 31, 2003, the carrying value of investments, excluding equity
securities, that were non-income producing during 2003 was $13 million.

At December 31, 2003, fixed income securities with a carrying value of $70
million were on deposit with regulatory authorities as required by law.

SECURITIES LENDING

The Company participates in securities lending programs, primarily for
investment yield enhancement purposes, with third parties, mostly large
brokerage firms. At December 31, 2003 and 2002, fixed income securities with a
carrying value of $949 million and $1.04 billion, respectively, were on loan
under these agreements. In return, the

63

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Company receives cash that it invests and includes in short-term investments and
fixed income securities, with an offsetting liability recorded in other
liabilities and accrued expenses to account for the Company's obligation to
return the collateral. Interest income on collateral, net of fees, was $4
million, $5 million and $6 million, for the years ended December 31, 2003, 2002
and 2001, respectively.

7. FINANCIAL INSTRUMENTS

In the normal course of business, the Company invests in various financial
assets, incurs various financial liabilities and enters into agreements
involving derivative financial instruments and other off-balance-sheet financial
instruments. The fair value estimates of financial instruments presented below
are not necessarily indicative of the amounts the Company might pay or receive
in actual market transactions. Potential taxes and other transaction costs have
not been considered in estimating fair value. The disclosures that follow do not
reflect the fair value of the Company as a whole since a number of the Company's
significant assets (including DAC and reinsurance recoverables, net) and
liabilities (including reserve for life-contingent contract benefits,
contractholder funds pertaining to interest-sensitive life contracts and
deferred income taxes) are not considered financial instruments and are not
carried at fair value. Other assets and liabilities considered financial
instruments such as accrued investment income and cash are generally of a
short-term nature. Their carrying values are deemed to approximate fair value.

FINANCIAL ASSETS

The carrying value and fair value of financial assets at December 31 are as
follows:

Fair values of publicly traded fixed income securities are based upon
quoted market prices or dealer quotes. The fair value of non-publicly traded
securities, primarily privately placed corporate obligations, is based on either
widely accepted pricing valuation models, which use internally developed ratings
and independent third party data (e.g., term structures and current publicly
traded bond prices) as inputs, or independent third party pricing sources.
Equity securities are valued based principally on quoted market prices. Mortgage
loans are valued based on discounted contractual cash flows. Discount rates are
selected using current rates at which similar loans would be made to borrowers
with similar characteristics, using similar properties as collateral. Loans that
exceed 100% loan-to-value are valued at the estimated fair value of the
underlying collateral. Short-term investments are highly liquid investments with
maturities of less than one year whose carrying values are deemed to approximate
fair value. The carrying value of policy loans is deemed to approximate fair
value. Separate accounts assets are carried in the Consolidated Statements of
Financial Position at fair value based on quoted market prices.

FINANCIAL LIABILITIES

The carrying value and fair value of financial liabilities at December 31
are as follows:

Contractholder funds include interest-sensitive life insurance contracts
and investment contracts. Interest-sensitive life insurance contracts are not
considered to be financial instruments subject to fair value disclosure
requirements. The fair value of investment contracts is based on the terms of
the underlying contracts. Fixed annuities are valued at the

64

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

account balance less surrender charges. Immediate annuities without life
contingencies, GICs and funding agreements are valued at the present value of
future benefits using current interest rates. Market value adjusted annuities'
fair value is estimated to be the market adjusted surrender value.
Equity-indexed annuity contracts' fair value approximates carrying value since
the embedded equity options are carried at market value in the consolidated
financial statements.

The fair value of long-term debt is determined using discounted cash flow
calculations. Security repurchase agreements are valued at carrying value due to
their short-term nature. Separate accounts liabilities are carried at the fair
value of the underlying assets.

DERIVATIVE FINANCIAL INSTRUMENTS

The Company primarily uses derivative financial instruments to reduce its
exposure to market risk (principally interest rate, equity price and foreign
currency risk) and in conjunction with asset/liability management. The Company
does not buy, sell or hold these instruments for trading purposes.

The following table summarizes the notional amounts, fair value and
carrying value of the Company's derivative financial instruments at December 31,
2003:

- ----------
(1) Carrying value include the effects of legally enforceable master netting
agreements. Fair value and carrying value of the assets and liabilities
exclude accrued periodic settlements, which are reported in accrued
investment income.

65

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

The following table summarizes the notional amount, fair value and carrying
value of the Company's derivative financial instruments at December 31, 2002:

- ----------
(1) Carrying value include the effects of legally enforceable master netting
agreements. Fair value and carrying value of the assets and liabilities
exclude accrued periodic settlements, which are reported in accrued
investment income.

The notional amounts specified in the contracts are used to calculate the
exchange of contractual payments under the agreements, and are not
representative of the potential for gain or loss on these agreements.

Fair value, which is equal to the carrying value, is the estimated amount
that the Company would receive (pay) to terminate the derivative contracts at
the reporting date. For exchange traded derivative contracts, the fair value is
based on dealer or exchange quotes. The fair value of non-exchange traded
derivative contracts, including embedded derivative financial instruments
subject to bifurcation, is based on either independent third party pricing
sources or widely accepted pricing and valuation models which use independent
third party data as inputs.

The Company manages its exposure to credit risk by utilizing highly rated
counterparties, establishing risk control limits, executing legally enforceable
master netting agreements and obtaining collateral where appropriate. The
Company uses master netting agreements for over-the-counter derivative
transactions, including interest rate swap, foreign currency swap, interest rate
cap, interest rate floor and credit default swap agreements. These agreements
permit either party to net payments due for transactions covered by the
agreements. Under the provisions of the agreements, collateral is either pledged
or obtained when certain predetermined exposure limits are exceeded. As of
December 31, 2003, counterparties pledged $333 million in cash to the Company
under these agreements. To date, the Company has not incurred any losses on
derivative financial instruments due to counterparty nonperformance. Other
derivatives including futures and certain option contracts are traded on
organized exchanges, which require margin

66

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

deposits and guarantee the execution of trades, thereby mitigating any
associated potential credit risk.

Credit exposure represents the Company's potential loss if all of the
counterparties failed to perform under the contractual terms of the contracts
and all collateral, if any, became worthless. This exposure is measured by the
fair value of freestanding derivative contracts with a positive fair value at
the reporting date reduced by the effect, if any, of master netting agreements.

The following table summarizes the counterparty credit exposure by
counterparty credit rating at December 31, as it relates to interest rate swap,
currency swap, interest rate cap, interest rate floor and credit default swap
agreements.

($ IN MILLIONS)

- ----------
(1) Rating is the lower of Standard & Poor's or Moody's ratings.
(2) For each counterparty, only over-the-counter derivatives with a net
positive market value are included.

Market risk is the risk that the Company will incur losses due to adverse
changes in market rates and prices. Market risk exists for all of the derivative
financial instruments the Company currently holds, as these instruments may
become less valuable due to adverse changes in market conditions. To limit the
risk, the Company's senior management has established risk control limits. In
addition, changes in fair value of the derivative financial instruments that the
Company uses for risk management purposes are generally offset by the change in
the fair value or cash flows of the hedged risk component of the related assets,
liabilities or forecasted transactions.

The Company reclassified pretax net losses of $756 thousand and $259
thousand related to cash flow hedges to net income from accumulated other
comprehensive income during 2003 and 2002, respectively. An estimated $1 million
of pretax net gains will be released from accumulated other comprehensive income
to net income during 2004.

67

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

The following table presents information about the nature and accounting
treatment of the Company's primary derivative instruments. Included in the table
is a description of the individual derivative instruments, the risk management
strategies to which they relate, and the financial statement reporting for the
derivative instruments in the Company's consolidated financial statements as of
and for the periods ending December 31, 2003 and 2002. Amounts reported are in
millions on a pre-tax basis.

68

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

69

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

OFF-BALANCE-SHEET FINANCIAL INSTRUMENTS

The contractual amounts and fair values of off-balance-sheet financial
instruments at December 31 are as follows:

Except for credit guarantees, the contractual amounts represent the amount
at risk if the contract is fully drawn upon, the counterparty defaults and the
value of any underlying security becomes worthless. Unless noted otherwise, the
Company does not require collateral or other security to support
off-balance-sheet financial instruments with credit risk.

Commitments to invest generally represent commitments to acquire financial
interests or instruments. The Company enters into these agreements to allow for
additional participation in certain limited partnership investments. Because the
equity investments in the limited partnerships are not actively traded, it is
not practical to estimate the fair value of these commitments.

Private placement commitments represent conditional commitments to purchase
private placement debt and equity securities at a specified future date. The
Company regularly enters into these agreements in the normal course of business.
The fair value of these commitments generally cannot be estimated on the date
the commitment is made as the terms and conditions of the underlying private
placement securities are not yet final.

Commitments to extend mortgage loans are agreements to lend to a borrower
provided there is no violation of any condition established in the contract. The
Company enters these agreements to commit to future loan fundings at a
predetermined interest rate. Commitments generally have fixed expiration dates
or other termination clauses. Commitments to extend mortgage loans, which are
secured by the underlying properties, are valued based on estimates of fees
charged by other institutions to make similar commitments to similar borrowers.

Credit guarantees represent conditional commitments included in certain
fixed income securities owned by the Company. These commitments provide for
obligations to exchange credit risk or to forfeit principal due, depending on
the nature or occurrence of credit events for the referenced entities. The
Company enters into these transactions in order to achieve higher yields than
direct investment in referenced entities. The fees for assuming the conditional
commitments are reflected in the interest receipts reported in net investment
income over the lives of the contracts. The fair value of the credit guarantees
are estimates of the conditional commitments only and are calculated using
quoted

70

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

market prices or valuation models, which incorporate external market data.

In the event of bankruptcy or other default of the referenced entities, the
Company's maximum amount at risk, assuming the value of the referenced credits
becomes worthless, is the fair value of the subject fixed income securities,
which totaled $87 million at December 31, 2003. The Company includes the impact
of credit guarantees in its analysis of credit risk, and the referenced credits
were current to their contractual terms at December 31, 2003.

8. RESERVE FOR LIFE-CONTINGENT CONTRACT BENEFITS AND CONTRACTHOLDER FUNDS

At December 31, the reserve for life-contingent contract benefits consists
of the following:

The following table highlights the key assumptions generally used in
calculating the reserve for life-contingent contract benefits:

To the extent the unrealized gains on fixed income securities would result
in a premium deficiency had those gains actually been realized, a premium
deficiency reserve has been recorded for certain immediate annuities with life
contingencies. A liability of $932 million and $797 million is included in the
reserve for life-contingent contract benefits with respect to this deficiency as
of December 31, 2003 and 2002, respectively. The offset to this liability is
recorded as a reduction of the unrealized net capital gains included in
accumulated other comprehensive income.

71

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

At December 31, contractholder funds consists of the following:

The following table highlights the key contract provisions that determine
contractholder funds:

Contractholder funds include funding agreements sold to VIEs issuing
medium-term notes. The VIEs, Allstate Life Funding, LLC and Allstate Life Global
Funding II, are used exclusively for the Company's funding agreements supporting
medium-term note programs.

Contractholder funds activity for the years ended December 31 is as
follows:

9. REINSURANCE

The Company reinsures certain of its risks to other insurers under yearly
renewable term, coinsurance, and modified coinsurance agreements. These
agreements result in the passing of the agreed-upon percentage of risk to the

72

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

reinsurer in exchange for negotiated reinsurance premium payments. Modified
coinsurance is similar to coinsurance except that the cash and investments that
support the liability for contract benefits are not transferred to the assuming
company and settlements are made on a net basis between the companies.

For discussion of reinsurance agreements with related parties, see Note 5.

The Company ceded 90%, 80% or 60% of the mortality risk on certain life
policies, depending upon the issue year and product, to a pool of fourteen
unaffiliated reinsurers. In November 1998, the Company began ceding mortality
risk on new business in excess of $2 million per life for individual coverage.
For business sold prior to November 1998, the Company ceded mortality risk in
excess of $1 million per life for individual coverage. As of December 31, 2003,
$176.91 billion of life insurance in force was ceded to other companies.

The Company had a contract to assume 100% of all insurance written by Sears
Life Insurance Company ("SLIC"). This agreement was terminated effective
December 31, 2003. The Company assumed $85 million, $76 million and $64 million
in premiums from SLIC for the years ended December 31, 2003, 2002 and 2001,
respectively.

On January 2, 2001, the Company acquired blocks of business from American
Maturity via coinsurance contracts. Pursuant to the terms of the coinsurance
contracts, the Company assumed: variable annuities, market value adjusted
annuities, equity-indexed annuities, fixed annuities, and immediate annuities.
The Company received assets consisting primarily of cash, investments and
accrued investment income with a fair value in an amount equal to the
corresponding assumed reserves for life contingent contract benefits and
contractholder funds.

In addition, the Company has a modified coinsurance contract with Alpine to
cede 50% of certain variable annuity business issued on or after May 1, 1999
under a distribution agreement with PNC. This agreement is continuous but may be
terminated by either party with 120 days notice.

The Company has entered into reinsurance agreements in conjunction with the
disposition of certain blocks of business.

The effects of reinsurance on premiums and contract charges for the years
ended December 31 are as follows:

The effects of reinsurance on contract benefits for the years ended
December 31 are as follows:

Reinsurance recoverables, net in the Company's Consolidated Statements of
Financial Position were $1.19 billion and $1.05 billion, at December 31, 2003
and 2002, respectively. The reinsurance recoverable and reinsurance payable
balances pertaining to related party reinsurance agreements were not material at
December 31, 2003 and 2002. No single reinsurer has a material obligation to the
Company nor is the Company's business substantially dependent upon any
reinsurance contract.

73

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

10. DEFERRED POLICY ACQUISITION COSTS

Deferred policy acquisition costs for the years ended December 31 are as
follows:

Amortization charged to income includes $46 million, $2 million and $17
million in 2003, 2002 and 2001, respectively, due to realized capital gains and
losses.

11. COMMITMENTS, GUARANTEES AND CONTINGENT LIABILITIES

The Company leases certain office facilities and computer equipment. Total
rent expense for all leases was $2 million, $2 million and $3 million in 2003,
2002 and 2001, respectively.

Minimum rental commitments under noncancelable operating leases with an
initial or remaining term of more than one year as of December 31, 2003 are as
follows:

(IN MILLIONS)

2004 $ 1
2005 1
2006 -
2007 -
2008 -
Thereafter -
---------
$ 2
=========

GUARANTY FUNDS

Under state insurance guaranty fund laws, insurers doing business in a
state can be assessed, up to prescribed limits, for certain obligations of
insolvent insurance companies to policyholders and claimants. Amounts assessed
to each company are typically related to its proportion of business written in a
particular state. The Company's expenses related to these funds have been
immaterial.

GUARANTEES

The Company owns certain fixed income securities that obligate the Company
to exchange credit risk or to forfeit principal due, depending on the nature or
occurrence of specified credit events for the referenced entities. Additionally,
the Company has written credit default swaps that obligate the Company to make a
payment upon the occurrence of specified credit events. In the event all such
specified credit events were to occur, the Company's maximum amount at risk on
these fixed income securities and written credit default swaps, as measured by
the par value and notional value, respectively, was $132 million at December 31,
2003. The obligations associated with these fixed income securities and written
credit default swaps expire at various times during the next seven years.

Lincoln Benefit Life Company ("LBL"), a wholly owned subsidiary of ALIC,
has issued universal life insurance contracts to third parties who finance the
premium payments on the universal life insurance contracts through a commercial
paper program. LBL has issued a repayment guarantee on the outstanding
commercial paper balance that is fully collateralized by the cash surrender
value of the universal life insurance contracts. At December 31, 2003, the
amount due under the commercial paper program is $300 million and the cash
surrender value of the policies is $306 million. The repayment guarantee expires
April 30, 2006.

In the normal course of business, the Company provides standard
indemnifications to counterparties in contracts in connection with numerous
transactions, including indemnifications for breaches of representations and
warranties, taxes and certain other liabilities, such as third party lawsuits.
The indemnification clauses are often standard contractual terms and were
entered into in the normal course of business based on an assessment that the
risk of loss would be remote. The terms of the indemnifications vary in duration
and nature. In many cases, the maximum obligation is not

74

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

explicitly stated and the contingencies triggering the obligation to indemnify
have not occurred and are not expected to occur. Because the obligated amounts
of the indemnifications are not explicitly stated in many cases, the maximum
amount of the obligation under such indemnifications is not determinable.
Historically, the Company has not made any material payments pursuant to these
obligations.

Pursuant to their respective bylaws, the Company and its subsidiaries
indemnify their respective directors, officers and other individuals serving at
the request of the Company as a director or officer or in a similar capacity in
another entity for liabilities and expenses arising from litigation in specified
circumstances. Since these indemnifications are generally not subject to
limitation with respect to duration or amount, the Company does not believe that
it is possible to determine the maximum potential amount due under these
indemnifications.

The aggregate liability balance related to all guarantees was not material
as of December 31, 2003.

REGULATION

The Company is subject to changing social, economic and regulatory
conditions. Recent state and federal regulatory initiatives and proceedings have
included efforts to remove barriers preventing banks from engaging in the
securities and insurance businesses, change tax laws affecting the taxation of
insurance companies and the tax treatment of insurance products or competing
non-insurance products that may impact the relative desirability of various
personal investment products and otherwise expand overall regulation of
insurance products and the insurance industry. The ultimate changes and eventual
effects of these initiatives on the Company's business, if any, are uncertain.

LEGAL PROCEEDINGS

Legal proceedings involving Allstate agencies and AIC may impact the
Company, even when the Company is not directly involved, because the Company
sells its products through a variety of distribution channels including Allstate
agencies. Consequently, information about the more significant of these
proceedings is provided below.

AIC is defending various lawsuits involving worker classification issues.
These lawsuits include a number of putative class actions and one certified
class action challenging the overtime exemption claimed by AIC under the Fair
Labor Standards Act or state wage and hour laws. These class actions mirror
similar lawsuits filed recently against other carriers in the industry and other
employers. A putative nationwide class action filed by former employee agents
also includes a worker classification issue; these agents are challenging
certain amendments to the Agents Pension Plan and are seeking to have exclusive
agent independent contractors treated as employees for benefit purposes. AIC has
been vigorously defending these and various other worker classification
lawsuits. The outcome of these disputes is currently uncertain.

AIC is also defending certain matters relating to its agency program
reorganization announced in 1999. These matters include an investigation by the
U.S. Department of Labor and a lawsuit filed in December 2001 by the U.S. Equal
Employment Opportunity Commission ("EEOC") with respect to allegations of
retaliation under the Age Discrimination in Employment Act, the Americans with
Disabilities Act and Title VII of the Civil Rights Act of 1964. A putative
nationwide class action has also been filed by former employee agents alleging
various violations of ERISA, breach of contract and age discrimination. AIC has
been vigorously defending these lawsuits and other matters related to its agency
program reorganization. In addition, AIC is defending certain matters relating
to its life agency program reorganization announced in 2000. These matters
include an investigation by the EEOC with respect to allegations of age
discrimination and retaliation. AIC is cooperating fully with the agency
investigation and will continue to vigorously defend these and other claims
related to the life agency program reorganization. The outcome of these disputes
is currently uncertain.

The Company is defending various lawsuits and regulatory proceedings that
allege that it engaged in business or sales practices inconsistent with state or
federal law. The Company has been vigorously defending these matters, but their
outcome is currently uncertain.

Various other legal and regulatory actions are currently pending that
involve the Company and specific aspects of its conduct of business. Like other
members of the insurance industry, the Company is the target of an increasing
number of class action lawsuits and other types of litigation, some of which
involve claims for substantial or indeterminate amounts. This litigation is
based on a variety of issues including insurance and claim settlement practices.
The outcome of these disputes is currently unpredictable. However, at this time,
based on their present status, it is the opinion of management that the ultimate
liability, if any, in one or more of these other actions in excess of

75

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

amounts currently reserved is not expected to have a material effect on the
results of operations, liquidity or financial position of the Company.

12. INCOME TAXES

ALIC and its eligible domestic subsidiaries (the "Allstate Life Group")
join with the Corporation (the "Allstate Group") in the filing of a consolidated
federal income tax return and are party to a federal income tax allocation
agreement (the "Allstate Tax Sharing Agreement"). Under the Allstate Tax Sharing
Agreement, the Allstate Life Group pays to or receives from the Corporation the
amount, if any, by which the Allstate Group's federal income tax liability is
affected by virtue of inclusion of the Allstate Life Group in the consolidated
federal income tax return. Effectively, this results in the Allstate Life
Group's annual income tax provision being computed, with adjustments, as if the
Allstate Life Group filed a separate return. Certain domestic subsidiaries are
not eligible to join in the consolidated federal income tax return and file
separate tax returns.

The Internal Revenue Service ("IRS") has completed its review of the
Corporation's federal income tax returns through the 1996 tax year. Any
adjustments that may result from IRS examinations of tax returns are not
expected to have a material impact on the financial position, liquidity or
results of operations of the Company.

The components of the deferred income tax assets and liabilities at
December 31 are as follows:

Although realization is not assured, management believes it is more likely
than not that the deferred tax assets will be realized based on the assumption
that certain levels of income will be achieved. There were no valuation
allowances on deferred tax assets at December 31, 2003 and 2002.

The components of income tax expense for the years ended December 31 are as
follows:

The Company paid income taxes of $161 million, $116 million and $116
million in 2003, 2002 and 2001, respectively. The Company had a current income
tax asset of $24 million and a current income tax liability of $50 million at
December 31, 2003 and 2002, respectively.

A reconciliation of the statutory federal income tax rate to the effective
income tax rate on income from operations for the years ended December 31 is as
follows:

76

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Adjustments for prior year tax liabilities were an increase in expense
of $11 million and a decrease in expense of $39 million in 2003 and 2002,
respectively, which primarily resulted from Internal Revenue Service
developments and reconciliation of deferred taxes.

Prior to January 1, 1984, the Company was entitled to exclude certain
amounts from taxable income and accumulate such amounts in a "policyholder
surplus" account. The balance in this account at December 31, 2003,
approximately $94 million, will result in federal income taxes payable of $33
million if distributed by the Company. No provision for taxes has been made as
the Company has no plan to distribute amounts from this account. No further
additions to the account have been permitted since 1983.

13. CAPITAL STRUCTURE

DEBT OUTSTANDING

The Company was determined to be the primary beneficiary of a previously
unconsolidated structured investment security considered a VIE under FIN 46. As
a result, the VIE was consolidated in 2003 resulting in an increase in debt of
$45 million in the consolidated financial statements. The underlying debt of the
structured investment security VIE is zero coupon and matures in 2007.

PREFERRED STOCK

The Company has one series of non-voting, redeemable preferred stock.
Redeemable preferred stock--Series A was issued to The Northbrook Corporation, a
subsidiary of AIC, which is redeemable at the option of the Company at any time
five years after the issuance date at a price of $100 per share plus cumulative
accrued and unpaid dividends. If the Company is liquidated or dissolved, holders
of the preferred stock will be entitled to payments of $100 per share plus
cumulative accrued and unpaid dividends.

For redeemable preferred stock--Series A, the Company's Board of Directors
declares and pays a cash dividend from time to time, but not more frequently
than quarterly. The dividend is based on the three month LIBOR rate. Dividends
of $2 million, $3 million and $5 million were paid during 2003, 2002, and 2001,
respectively. There were no accrued and unpaid dividends for Series A preferred
stock at December 31, 2003.

Redeemable preferred stock--Series A subscriptions receivable resulted from
the Company's issuance of additional shares to The Northbrook Corporation in
return for $14 million in cash, which was received on January 14, 2002.

On December 28, 2001 AIC made a capital contribution to ALIC of all of the
issued and outstanding ALIC Redeemable preferred stock--Series B, resulting in
an increase in additional capital paid-in of $117 million.

For redeemable preferred stock--Series B, cash dividends of 6.9% per annum
were payable annually in arrears on the last business day of each year to the
shareholder of record on the immediately preceding business day. Dividends of $8
million were paid during 2001.

77

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

14. STATUTORY FINANCIAL INFORMATION

The following table reconciles consolidated net income for the years ended
December 31, and consolidated shareholder's equity at December 31, as reported
herein in conformity with GAAP with total statutory net income and capital and
surplus of ALIC and its insurance subsidiaries, determined in accordance with
statutory accounting practices prescribed or permitted by insurance regulatory
authorities:

ALIC and each of its insurance subsidiaries prepare their statutory-basis
financial statements in conformity with accounting practices prescribed or
permitted by the insurance department of the applicable state of domicile.
Prescribed statutory accounting practices include a variety of publications of
the NAIC, as well as state laws, regulations and general administrative rules.
Permitted statutory accounting practices encompass all accounting practices not
so prescribed.

All states require domiciled insurance companies to prepare statutory-basis
financial statements in conformity with the NAIC Accounting Practices and
Procedures Manual ("Codification"), subject to any deviations prescribed or
permitted by the applicable insurance commissioner and/or director.

DIVIDENDS

The ability of ALIC to pay dividends is dependent on business conditions,
income, cash requirements of ALIC, receipt of dividends from its subsidiaries
and other relevant factors. The payment of shareholder dividends by ALIC to AIC
without the prior approval of the state insurance regulator is limited to
formula amounts based on net income and capital and surplus, determined in
conformity with statutory accounting practices, as well as the timing and amount
of dividends paid in the preceding twelve months.

In the twelve-month period beginning January 1, 2003, ALIC paid dividends
of $201 million, which was less than the maximum amount allowed under Illinois
insurance law without the prior approval of the Illinois Department of Insurance
("IL DOI") based on 2002 formula amounts. Based on 2003 ALIC statutory net
income, the maximum amount of dividends ALIC will be able to pay without prior
IL DOI approval at a given point in time during 2004 is $551 million, less
dividends paid during the preceding twelve months measured at that point in
time.

RISK-BASED CAPITAL

The NAIC has a standard for assessing the solvency of insurance companies,
which is referred to as risk-based capital ("RBC"). The requirement consists of
a formula for determining each insurer's RBC and a model law specifying
regulatory actions if an insurer's RBC falls below specified levels. At December
31, 2003, RBC for ALIC and each of its insurance subsidiaries
was above levels that would require regulatory action.

15. BENEFIT PLANS

PENSION AND OTHER POSTRETIREMENT PLANS

Defined benefit pension plans, sponsored by AIC, cover most full-time
employees, certain part-time employees and employee-agents. Benefits under the
pension plans are based upon the employee's length of service and eligible
annual compensation. A cash balance formula was added to the Allstate Retirement
Plan effective January 1, 2003. All eligible employees hired before August 1,
2002 were provided with a one-time opportunity to choose between the cash

78

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

balance formula and the final average pay formula. The cash balance formula
applies to all eligible employees hired after August 1, 2002. AIC's funding
policy for the pension plans is to make annual contributions in accordance with
regulations under the Internal Revenue Code and in accordance with generally
accepted actuarial principles. The allocated cost to the Company included in net
income for the pension plans in 2003 and 2002 was $22 million and $11 million,
respectively, while the allocated benefit to the Company included in net income
in 2001 was $1 million.

AIC also provides certain health care and life insurance subsidies for
employees hired before January 1, 2003 when they retire. Qualified employees may
become eligible for these benefits if they retire in accordance with AIC's
established retirement policy and are continuously insured under AIC's group
plans or other approved plans in accordance with the plan's participation
requirements. AIC shares the cost of the retiree medical benefits with retirees
based on years of service, with AIC's share being subject to a 5% limit on
annual medical cost inflation after retirement. AIC has the right to modify or
terminate these plans. The allocated cost to the Company included in net income
was $6 million, $6 million and $5 million for postretirement benefits other than
pension plans in 2003, 2002 and 2001, respectively.

PROFIT SHARING PLANS

Employees of AIC are eligible to become members of The Savings and Profit
Sharing Fund of Allstate Employees ("Allstate Plan"). The Corporation's
contributions are based on the Corporation's matching obligation and
performance. The Company's allocation of profit sharing expense from the
Corporation was $13 million, $15 million, and $5 million in 2003, 2002 and 2001,
respectively.

16. OTHER COMPREHENSIVE INCOME

The components of other comprehensive income on a pre-tax and after-tax
basis for the years ended December 31 are as follows:

79

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

17. QUARTERLY RESULTS (UNAUDITED)

80

Independent Auditors' Report

TO THE BOARD OF DIRECTORS AND SHAREHOLDER
OF ALLSTATE LIFE INSURANCE COMPANY:

We have audited the accompanying Consolidated Statements of Financial
Position of Allstate Life Insurance Company and subsidiaries (the "Company", an
affiliate of The Allstate Corporation) as of December 31, 2003 and 2002, and the
related Consolidated Statements of Operations and Comprehensive Income,
Shareholder's Equity and Cash Flows for each of the three years in the period
ended December 31, 2003. Our audits also included Schedule I--Summary of
Investments other than Investments in Related Parties, Schedule
III--Supplementary Insurance Information, Schedule IV--Reinsurance, and Schedule
V--Valuation and Qualifying Accounts. These consolidated financial statements
and consolidated financial statement schedules are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements and consolidated financial statement schedules
based on our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall consolidated financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.

In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of the Company as of December 31,
2003 and 2002, and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 2003 in conformity with
accounting principles generally accepted in the United States of America. Also,
in our opinion, Schedule I--Summary of Investments other than Investments in
Related Parties, Schedule III--Supplementary Insurance Information, Schedule
IV--Reinsurance, and Schedule V--Valuation and Qualifying Accounts, when
considered in relation to the basic consolidated financial statements taken as a
whole, present fairly, in all material respects, the information set forth
therein.

As discussed in Note 2 to the consolidated financial statements, in 2003,
the Company changed its method of accounting for embedded derivatives in
modified coinsurance agreements and variable interest entities.

/s/ Deloitte & Touche LLP

Chicago, Illinois
February 4, 2004

81

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

None

ITEM 9A. CONTROLS AND PROCEDURES

With the participation of our principal executive officer and principal
financial officer, we carried out an evaluation of the effectiveness of the
design and operation of our disclosure controls and procedures as of the end of
the period covered by this report. Based upon this evaluation, the principal
executive officer and the principal financial officer concluded that our
disclosure controls and procedures are effective in timely alerting them to
material information required to be included in our periodic reports filed with
the Securities and Exchange Commission. However, the design of any system of
controls and procedures is based in part upon assumptions about the likelihood
of future events and there can be no assurance that any design will succeed in
achieving its stated goals under all potential future conditions, regardless of
how remote. Our disclosure controls and procedures are designed to provide
reasonable assurance of achieving their objectives and are effective at the
"reasonable assurance" level.

During the fiscal quarter ended December 31, 2003, there have been no
changes in our internal control over financial reporting that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Omitted.

ITEM 11. EXECUTIVE COMPENSATION

Omitted.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

Omitted.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Omitted.

82

ITEM 14. PRINCIPLE ACCOUNTANT FEES AND SERVICES

(1), (2), (3), (4) AND (5)(II) DISCLOSURE OF FEES -

The following fees have been, or will be, billed by Deloitte & Touche LLP,
the member firms of Deloitte Touche Tohmatsu, and their respective affiliates,
for professional services rendered to Allstate Life Insurance Company for the
fiscal years ending December 31, 2003 and December 31, 2002.

(a) Fees for audits of annual financial statements including financial
statements for the separate accounts, reviews of quarterly financial
statements, statutory audits, attest services, comfort letters,
consents and review of documents filed with the Commission.
(b) Audit related fees relate to professional services such as accounting
consultations relating to new accounting standards, due diligence
assistance and audits of non-consolidated entities (various trusts) and
are set forth below.

(c) Includes fees for tax compliance, consultation and planning
(d) All other fees include professional fees for consulting services
related to non-financial information technology.

(5)(i) AUDIT COMMITTEE'S PRE-APPROVAL POLICIES AND PROCEDURES -

The Audit Committee of The Allstate Corporation has established
preapproval policies and procedures for itself and its consolidated
subsidiaries, including the registrant. Those policies and procedures are
incorporated into this Item 14.(5)(i) by reference to Appendix D to The
Allstate Corporation's Notice of Annual Meeting and Proxy Statement dated
March 26, 2004. The Board of Directors of the registrant has recently formed
an Audit Committee, which will be responsible for these matters in the future
as they relate to the registrant and its subsidiaries.

83

PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)(1) The following Consolidated Financial Statements, Notes Thereto
and Independent Auditors' Report of Allstate Life Insurance Company
are included in Item 8.

Consolidated Statements of Operations and Comprehensive Income
Consolidated Statements of Financial Position
Consolidated Statements of Shareholder's Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Independent Auditors' Report

(a)(2) The following additional financial statement schedules are
furnished herewith pursuant to the requirements of Form 10-K.

Schedules required to be filed under the provisions of Regulation
S-X Article 7:

Schedule I - Summary of Investment Other than Investments in Related Parties S-1
Schedule III - Supplementary Insurance Information S-2
Schedule IV - Reinsurance S-3
Schedule V - Valuation and Qualifying Accounts S-4

All other schedules are omitted because they are not applicable, or
not required, or because the required information is included in the
Consolidated Financial Statements or notes thereto.

(a)(3) The following is a list of the exhibits filed as part of this
Form 10-K. The SEC File Number for the exhibits incorporated by
reference is 0-31248 except as otherwise noted.

84

10.3 Service Agreement effective as of July 1, 1989 between Allstate
Insurance Company and Allstate Life Insurance Company of New York.
Incorporated herein by reference to Exhibit 10.24 to Allstate Life
Insurance Company's Form 10 filed on April 24, 2002.

10.4 Administrative Services Agreement between Allstate Insurance
Company and Intramerica Life Insurance Company effective July 1,
1999. Incorporated herein by reference to Exhibit 10.25 to
Allstate Life Insurance Company's Form 10 filed on April 24, 2002.

10.5 Service Agreement between Lincoln Benefit Life Company and Allstate
Financial Services, LLC (f/k/a Laughlin Group Advisors, Inc. and LSA
Securities, Inc.) effective April 1, 1998. Incorporated herein by
reference to Exhibit 10.3 to Lincoln Benefit Life Company's Quarterly
Report on Form 10-Q for quarter ended June 30, 2002
(SEC File No. 333-59765)

10.6 Selling Agreement between Allstate Life Insurance Company, ALFS, Inc.
(f/k/a Allstate Life Financial Services, Inc.) and Allstate Financial
Services, LLC (f/k/a LSA Securities, Inc.) effective July 26, 1999.

10.7 Selling Agreement between Allstate Life Insurance Company of New York,
ALFS, Inc. and Allstate Financial Services, LLC effective May 17, 2001.

10.8 Selling Agreement between Lincoln Benefit Life Company, ALFS, Inc. (f/k/a
Allstate Life Financial Services, Inc.) and Allstate Financial Services, LLC
(f/k/a LSA Securities, Inc.) effective August 2, 1999.

10.9 Marketing Coordination and Administrative Services Agreement among
Allstate Insurance Company, Allstate Life Insurance Company and
Allstate Financial Services, LLC effective January 1, 2003.

10.10 Cost Sharing Agreement between Allstate Life Insurance Company and
Allstate Reinsurance Ltd. effective October 12, 2000. Incorporated
herein by reference to Exhibit 10.27 to Allstate Life Insurance
Company's Form 10 filed on April 24, 2002.

10.11 Investment Management Agreement and Amendment to Certain Service
and Expense Agreements Among Allstate Investments, LLC and
Allstate Insurance Company and The Allstate Corporation and
Certain Affiliates effective as of January 1, 2002. Incorporated
herein by reference to Exhibit 10.28 to Allstate Life Insurance
Company's Form 10 filed on April 24, 2002.

10.12 Investment Advisory Agreement by and between Allstate Insurance
Company and Intramerica Life Insurance Company effective July 1,
1999. Incorporated herein by reference to Exhibit 10.29 to
Allstate Life Insurance Company's Form 10 filed on April 24, 2002.

10.13 Assignment and Assumption Agreement dated as of January 1, 2002
among Allstate Insurance Company, Allstate Investments, LLC and
Intramerica Life Insurance Company. Incorporated herein by
reference to Exhibit 10.30 to Allstate Life Insurance Company's
Form 10 filed on April 24, 2002.

10.14 Investment Advisory Agreement and Amendment to Service Agreement
as of January 1, 2002 between Allstate Insurance Company, Allstate
Investments, LLC and Allstate Life Insurance Company of New York.
Incorporated herein by reference to Exhibit 10.31 to Allstate Life
Insurance Company's Form 10 filed on April 24, 2002.

10.15 Cash Management Services Master Agreement between Allstate
Insurance Company and Allstate Bank (fka Allstate Federal Savings
Bank) dated March 16, 1999. Incorporated herein by reference to
Exhibit 10.32 to Allstate Life Insurance Company's Form 10 filed
on April 24, 2002.

10.16 Amendment No. 1 to Cash Management Services Master Agreement
effective January 5, 2001. Incorporated herein by reference to
Exhibit 10.33 to Allstate Life Insurance Company's Form 10 filed
on April 24, 2002.

10.17 Agent Access Agreement among Allstate Insurance Company, Allstate Life
Insurance Company and Allstate Bank effective January 1, 2002.

85

10.18 Form of Allstate Insurance Company Agreement of General Indemnity
executed by Allstate Life Insurance Company and Northbrook Life
Insurance Company dated November 27, 1987 and executed by Allstate
Settlement Corporation dated May 14, 1991. Incorporated herein by
reference to Exhibit 10.34 to Allstate Life Insurance Company's
Form 10 filed on April 24, 2002.

10.19 Stipulation to Allstate Insurance Company Agreement of General
Indemnity executed by Allstate Settlement Corporation.
Incorporated herein by reference to Exhibit 10.35 to Allstate Life
Insurance Company's Form 10 filed on April 24, 2002.

10.20 Tax Sharing Agreement dated as of November 12, 1996 among The
Allstate Corporation and certain affiliates. Incorporated herein
by reference to Exhibit 10.36 to Allstate Life Insurance Company's
Form 10 filed on April 24, 2002.

10.21 Reinsurance Agreement between Allstate Insurance Company and
Allstate Life Insurance Company effective as of June 1, 1992.
Incorporated herein by reference to Exhibit 10.37 to Allstate Life
Insurance Company's Form 10 filed on April 24, 2002.

10.22 Amendment to Reinsurance Agreement between Allstate Insurance
Company and Allstate Life Insurance Company, effective January 1,
1993. Incorporated herein by reference to Exhibit 10.38 to
Allstate Life Insurance Company's Form 10 filed on April 24, 2002.

10.23 Reinsurance Agreement between Columbia Universal Life Insurance
Company and Allstate Life Insurance Company, approved August 2000.
Incorporated herein by reference to Exhibit 10.39 to Allstate Life
Insurance Company's Form 10 filed on April 24, 2002.

10.24 Reinsurance Agreement between Columbia Universal Life Insurance
Company and Allstate Life Insurance Company, approved July 2000.
Incorporated herein by reference to Exhibit 10.40 to Allstate Life
Insurance Company's Form 10 filed on April 24, 2002.

10.25 Retrocession Agreement between Allstate Life Insurance Company and
Allstate Reinsurance, Ltd. Incorporated herein by reference to
Exhibit 10.41 to Allstate Life Insurance Company's Form 10 filed
on April 24, 2002.

10.26 Amendment No. 1 to Retrocession Agreement between Allstate Life
Insurance Company and Allstate Reinsurance, Ltd. effective January
1, 1998. Incorporated herein by reference to Exhibit 10.42 to
Allstate Life Insurance Company's Form 10 filed on April 24, 2002.

10.27 Amendment No. 2 to Retrocession Agreement between Allstate Life
Insurance Company and Allstate Reinsurance, Ltd. Incorporated
herein by reference to Exhibit 10.43 to Allstate Life Insurance
Company's Form 10 filed on April 24, 2002.

10.28 Amendment No. 3 to Retrocession Agreement between Allstate Life
Insurance Company and Allstate Reinsurance, Ltd. Incorporated
herein by reference to Exhibit 10.44 to Allstate Life Insurance
Company's Form 10 filed on April 24, 2002.

10.29 Catastrophe Reinsurance Agreement between Allstate Life Insurance
Company and American Heritage Life Insurance Company effective July 1,
2003.

86

23 Independent Auditors' Consent

31.1 Rule 13a-14(a) Certification of Principal Executive Officer

31.2 Rule 13a-14(a) Certification of Principal Financial Officer

32 Section 1350 Certification

(b)(1) No current reports on Form 8-K were filed during the fourth
quarter of 2003.

(c)(1) The exhibits are listed in Item 15 (a) (3) above.

(d)(1) The financial statement schedules are listed in Item 15 (a) (2)
above.

87

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.

ALLSTATE LIFE INSURANCE COMPANY
(Registrant)

March 24, 2004 /s/ Samuel H. Pilch
--------------------
By: Samuel H. Pilch
(chief accounting officer and duly
authorized officer of the registrant)

88

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

89

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
SCHEDULE I--SUMMARY OF INVESTMENTS OTHER THAN INVESTMENTS IN RELATED
PARTIES DECEMBER 31, 2003

S-1

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
SCHEDULE III--SUPPLEMENTARY INSURANCE INFORMATION

S-2

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
SCHEDULE IV--REINSURANCE

S-3

ALLSTATE LIFE INSURANCE COMPANY AND SUBSIDIARIES
SCHEDULE V--VALUATION AND QUALIFYING ACCOUNTS

S-4