Investors Heritage
	Capital Corporation
	2015 Annual Review
	table of contents
2	Letter To Our Stockholders
4	management’s discussion and analysis
20	management’s report on internal control over financial reporting
21	report of independent registered public accounting firm
22	consolidated financial statements
27	notes to consolidated financial statements
54	corporate information

 

 

 

LETTER

TO OUR STOCKHOLDERS

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Investors Heritage Capital Corporation and its wholly owned subsidiary, Investors Heritage Life Insurance Company, experienced positive gains in 2015. A dividend of $.21 a share was declared by the Board of Directors on February 11, 2016 to be paid to stockholders on April 7, 2016.

 

Preneed sales in our funeral home market were up 6.5% for the year. In February 2016, we introduced a new target marketing cooperative program. We anticipate this proactive approach will improve sales of our preneed products and assist in recruitment of new funeral homes.

 

Our efforts over the past few years to reduce general expenses in all phases of our operation continue to be successful. General insurance expense for Investors Heritage Life was down 8.5% during 2015 when compared to 2014 results. Although a significant portion of the 2015 decrease came from planned reductions in our agency sales expense, we continue to look for new ways to reduce expenses in the future.

 

Our association group life product continues to provide steady revenue and sales growth opportunities. We hope to expand our coverage in this market with several association prospects this year. In addition, the third party administration (TPA) services we provide for several non-affiliated companies continues to be an important revenue source and proof of the strong capabilities of our administrative personnel and systems. Revenue from our TPA service was up 13% in 2015 compared to the previous year.

 

Although our 2015 net income was down compared to 2014 results, the decrease was primarily due to increased life claims and other benefits and less than anticipated premium volume from our wealth management products sold by our marketing and sales partner, Puritan Financial Group, Inc. We are working closely with Puritan and anticipate that sales will return to projected levels in 2016.

 

Last year we reported the introduction of the new “Doorway” Agent portal for producers. The portal has been successfully implemented and well received by our sales force. The Doorway Agent portal provides sales personnel access to issued and pending policy information, completed and pending claim information as well as current and past commissions. Quotes for current products may also be generated and stored in the portal. Claims, applications, policy service forms and other documents can be uploaded to the home office through the portal. This portal allows agents and our sales managers to more closely monitor and manage their business. Other features will be added in the future.

 

We plan to reintroduce our Final Expense II product during the second quarter of 2016. This will replace the Heritage FX product. The reintroduction is the result of numerous conversations with our agency force requesting this product. Therefore, we anticipate that sales will increase in this market.

 

We had three retirements during 2015. Mike Wiley, sales manager for middle and east Tennessee, retired after seven years with Investors Heritage Life. We appreciate the industry knowledge Mike brought to us and the fine work he did for the organization. We wish Mike and his wife, Nancy the very best in the future.

 

Mike was instrumental in finding an outstanding young man to succeed him. He recommended and we hired Jay Slatton, a licensed funeral director. Jay joined us April 1, 2015 and had a very successful first nine months during 2015. We welcome Jay and his wife, Leann, and their children to the Investors Heritage Family.

 

 

LETTER

TO OUR STOCKHOLDERS

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Rick Calvert, Vice President of Investors Heritage Printing, retired on December 31, 2015. Rick represented us for 21 years and was a fine ambassador for our organization. Due to changes in the print industry as well as the increased use of electronic documents, our printing needs have reduced significantly. As our in-house needs reduced, the print shop continued to perform jobs for non-affiliated organizations. However, with Rick’s retirement, we have closed our print company operations. We thank Rick for his service to our companies and wish Rick and his wife, Diana, the very best.

 

Debbie Beach, our company chef, retired at year-end and therefore we closed our employee cafeteria. Debbie began work with us in 1976 assisting her mother, Sara, in the food preparation for our employees and guests. Debbie assumed the lead chef role upon the retirement of her mother in 1993. Debbie made many friends through the years and served delicious food. We thank Debbie for her longtime service to the Company and her fellow employees and hope she has much happiness in retirement.

 

I am very sorry to report that our former Corporate Secretary and my Executive Assistant for 34 years, Wilma Yeary, died on December 25, 2015. She was 84 years of age. Wilma retired on December 31, 2003. Having started with Investors Heritage Life on December 1, 1963, Wilma was a treasure trove of knowledge of the Company’s history, employees and agents throughout the years. Wilma was an outstanding employee, great help to me and others and a great friend.

 

My thanks to our Board of Directors for their interest in the Company and advice to our management team. My thanks also to our employees and sales personnel, together they make a great team of dedicated people providing important products and service to our customers.

 

Please refer to Management’s Discussion & Analysis beginning on the following pages for a detailed report of the consolidated operating results of the companies.

 

 

 

 

 

 

 

 

	Respectfully submitted,
	Harry Lee Waterfield II
	Chairman, Chief Executive Officer

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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EXECUTIVE OVERVIEW

 

The following discussion highlights significant factors impacting the consolidated operating results and financial condition of Investors Heritage Capital Corporation (“Investors Heritage Capital”) and its subsidiaries (collectively referred to as “we”, “us”, “our” or the “Company”) as of and for the year ended December 31, 2015, as compared with the year ended December 31, 2014. This supplementary financial information should be read in conjunction with the consolidated financial statements and related notes, all of which are integral parts of the following analysis of our results of operations and financial position.

 

Investors Heritage Capital is the parent company of Investors Heritage Life Insurance Company (“Investors Heritage Life”), Investors Heritage Financial Services Group, Inc. (“Investors Heritage Financial”), Investors Heritage Printing, Inc., and is the sole member of At Need Funding, LLC and Heritage Funding, LLC. Investors Heritage Capital and each subsidiary are domiciled in the Commonwealth of Kentucky. In excess of 99% of Investors Heritage Capital’s consolidated revenue is generated by Investors Heritage Life.

 

MAJOR MARKETS AND AFFILIATIONS

 

Investors Heritage Life offers a full line of life insurance products including, but not limited to, whole life, term life, single premium life, multi-pay life and annuities. Investors Heritage Life’s primary lines of business are insurance policies and annuities utilized to fund preneed funeral contracts, policies sold in the senior wealth transfer market, final expense insurance, credit life and credit disability insurance, group term insurance sold through associations, and term life and reducing term life sold through financial institutions. We continue to actively develop new products and diversify distribution systems in order to broaden our marketing base.

 

We focus significant sales efforts in the preneed funeral market. We have established a strong marketing base allowing us to maintain solid premium production in our core market.

 

We continue to market two products geared toward wealth preservation in the senior market – the Heritage Solution, a single premium life policy, and the Heritage Provider, a ten pay whole life and single premium immediate annuity combination. These products are currently being sold exclusively through our partnership with Puritan Financial Group and are being underwritten and issued using a third party underwriter with significant experience in that market. Premiums are generated through a combination of direct sales of these products in addition to reinsurance assumed through sales by Puritan Life Insurance Company of America and Sterling Investors Life Insurance Company of identical products in certain states where we are not currently marketing. Prior to July 31, 2015, we ceded 25% of new business generated under our marketing agreement to Puritan Life Insurance Company of America, and we assumed 75% of the risks associated with sales by both Puritan Life Insurance Company of America and Sterling Investors Life Insurance Company. These reinsurance agreements were terminated with respect to new business effective July 31, 2015, after which time we maintain 100% of the direct new business produced under our marketing agreement.

 

We continue to actively market an association group term product. This product provides a monthly renewable term benefit and is being marketed to various association groups.

 

Investors Heritage Financial operates under marketing agreements with Investors Heritage Life. These arrangements have enabled Investors Heritage Financial and Investors Heritage Life to utilize their expertise in the marketing and administration of credit insurance products. Further, Investors Heritage Financial enables Investors Heritage Life to offer mortgage protection and ordinary life insurance products through financial institutions.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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Investors Heritage Life continues to market its third party administrative (“TPA”) services as an additional revenue source. These agreements, for various levels of administrative services on behalf of each company, generate fee income for Investors Heritage Life. We currently have four TPA clients for which we provide tailored services to meet each client’s individual business needs. Two life insurance holding company clients terminated their agreements effective October 1, 2015 in order to begin performing that work in-house. We have been able to perform our TPA services using existing in-house resources.

 

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

 

The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. Preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. We evaluate our estimates continually, including those related to investments, deferred acquisition costs, value of business acquired, policy liabilities, income taxes, employee benefit plans, regulatory requirements, contingencies and litigation. We base such estimates on historical experience and other assumptions believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe the following accounting policies, judgments and estimates are the most critical to the preparation of our consolidated financial statements.

 

Investments in Fixed Maturities, Equity Securities, Mortgage Loans and State-Guaranteed Receivables

We hold fixed maturities and equity interests in a variety of companies. Additionally, we originate, underwrite and manage commercial mortgage loans, and we purchase residential mortgage loans through the secondary market. We also own certain investments in state-guaranteed receivables consisting of the future cash flow rights from lottery prize winners. We continuously evaluate all of our investments based on current economic conditions, credit loss experience and other developments. We evaluate the difference between the cost/amortized cost and estimated fair value of our investments to determine whether any decline in fair value is other-than-temporary in nature. This determination involves a degree of uncertainty.

 

If a decline in the fair value of a security is determined to be temporary, the decline is recognized in other comprehensive income (loss) within stockholders’ equity. If a decline in a security’s fair value is considered to be other-than-temporary, we then determine the proper treatment for the other-than-temporary impairment. For fixed maturities, the amount of any other-than-temporary impairment related to a credit loss is recognized in earnings and reflected as a reduction in the cost basis of the security, and the amount of any other-than-temporary impairment related to other factors is recognized in other comprehensive income (loss) with no change to the cost basis of the security.  For equity securities, the amount of any other-than-temporary impairment is recognized in earnings and reflected as a reduction in the cost basis of the security.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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The assessment of whether a decline in fair value is considered temporary or other-than-temporary includes management’s judgment as to the financial position and future prospects of the entity issuing the security. It is not possible to accurately predict when it may be determined that a specific security will become impaired. Future adverse changes in market conditions, poor operating results of underlying investments and defaults on mortgage loan payments could result in losses or an inability to recover the current carrying value of the investments, thereby possibly requiring an impairment charge in the future. Likewise, if a change occurs in our intent to sell temporarily impaired securities prior to maturity or recovery in value, or if it becomes more likely than not that we will be required to sell such securities prior to recovery in value or maturity, a future impairment charge could result.

 

If an other-than-temporary impairment related to a credit loss occurs with respect to a bond, we amortize the reduced book value back to the security’s expected recovery value over the remaining term of the bond. We continue to review the security for further impairment that would prompt another write-down in the book value.

 

We classify our fixed maturities and equity securities as available-for-sale and carry them at fair value on the balance sheet, with unrealized appreciation (depreciation) relating to temporary market value changes recorded as an adjustment to other comprehensive income (loss), net of adjustments to deferred acquisition costs and federal income taxes. Fair value for these investments is determined using Accounting Standards Codification principles covering Level 1, Level 2 and Level 3 instruments as further discussed in Note 3 to the consolidated financial statements.

 

Our fixed maturities are Level 2 instruments, for which the fair value is derived from readily available pricing services utilizing recent trades and broker information. Certain liquid equity securities are considered Level 1 instruments and are valued based on publicly available market quotes in an active market. We hold $352,000 in Level 3 financial instruments, comprising 0.1% of our total investments carried at fair value. Fair value for these instruments is derived from unobservable inputs such as non-binding broker quotes and internal models using unobservable assumptions about market participants.

 

Deferred Acquisition Costs

The recovery of deferred acquisition costs is dependent on the future profitability of the underlying business for which acquisition costs were incurred. Each reporting period, we evaluate the recoverability of the unamortized balance of deferred acquisition costs. We consider estimated future gross profits or future premiums, expected mortality or morbidity, interest earned and credited rates, persistency and expenses in determining whether the balance is recoverable. If we determine a portion of the unamortized balance is not recoverable, it is immediately charged to amortization expense. The assumptions we use to amortize and evaluate the recoverability of the deferred acquisition costs involve significant judgment. A revision to these assumptions may impact future financial results.

 

Deferred acquisition costs related to annuities and universal life insurance products are deferred to the extent deemed recoverable and amortized in relation to the present value of actual and expected gross profits on the policies. To the extent that realized gains and losses on securities result in adjustments to deferred acquisition costs related to annuities, such adjustments are reflected as a component of the amortization of deferred acquisition costs.

 

Deferred acquisition costs related to annuities are also adjusted, net of tax, for the change in amortization that would have been recorded if the unrealized gains (losses) from securities had actually been realized. This adjustment is included in the change in net unrealized appreciation (depreciation) on available-for-sale securities, a component of "Accumulated Other Comprehensive Income (Loss)" in the stockholders' equity section of the balance sheet.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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Policy Liabilities

Estimating liabilities for our long-duration insurance contracts requires management to make various assumptions, including policyholder persistency, mortality rates, investment yields, discretionary benefit increases, new business pricing, and operating expense levels. We evaluate historical experience for these factors when assessing the need for changing current assumptions. However, since many of these factors are interdependent and subject to short-term volatility during the long-duration contract period, substantial judgment is required. Actual experience may emerge differently from that originally estimated. Any such difference would be recognized in the current year’s consolidated statement of income. We utilize in-house actuaries in developing our actuarial assumptions and estimates and in monitoring such assumptions and estimates against actual experience.

 

Income Taxes

We evaluate our deferred income tax assets, which partially offset our deferred tax liabilities, for any necessary valuation allowances. In doing so, we consider our ability and potential for recovering income taxes associated with such assets, which involve significant judgment. Revisions to the assumptions associated with any necessary valuation allowances would be recognized in the consolidated financial statements in the period in which such revisions are made.

 

Under current tax law, we are allowed to utilize the small life insurance company tax deduction to limit the federal taxable income associated with Investors Heritage Life annually. Changes in tax law or the growth of the Company’s tax basis assets to an amount greater than $500 million could limit our ability to utilize this deduction in future years, which could give rise to higher current federal income tax expense.

 

Employee Benefit Plans

We maintain a defined benefit retirement plan on behalf of our employees. Measurement of the future benefit obligations associated with this plan involves significant judgment, particularly in regard to the expected long-term rate of return on plan assets and the current discount rate used to calculate the present value of future obligations. The long-term rate of return for plan assets is determined based on an analysis of historical returns on invested assets, anticipated future fixed income, equity investment markets, and diversification needs. Long term trends are evaluated relative to current market factors such as inflation, interest rates and investment strategies, including risk management, in order to assess the assumptions as applied to the plan. The discount rate utilized is determined based on reviews of market indices commonly used to measure such liabilities in the industry. Changes in our assumptions can significantly impact the accrued pension liability and net periodic benefit cost recorded in the consolidated financial statements. Additionally, funding of plan liabilities is sensitive to changes in investment returns as well as regulatory changes, which can significantly impact our consolidated financial statements. We continually monitor the performance of plan assets and growth in liabilities and funding necessities, utilizing independent and experienced consultants to assist in plan management.

 

During 2014, the Society of Actuaries released new mortality tables and a new mortality improvement scale for consideration with respect to defined benefit plan liability measurement. Effective December 31, 2015, our plan began utilizing new mortality tables and improvement scales, developed by plan consulting actuaries utilizing the principles underlying the guidance from the Society of Actuaries along with allowable adjustments where warranted.

 

At December 31, 2015, our unfunded status with respect to our defined benefit pension plan was $6,075,376, compared to an unfunded status of $5,141,442 at December 31, 2014. This decline in funded status is due primarily to the performance of plan assets for the year ended December 31, 2015. The estimated net loss that will be amortized from accumulated other comprehensive income (loss) into net periodic benefit cost in 2016 is approximately $737,000. We currently expect to contribute $300,000 to our plan during 2016, although this contribution is subject to change based on the results of current year funding analyses to be performed by plan actuaries.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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New Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued guidance regarding accounting for revenue recognition that identifies the accounting treatment for an entity’s contracts with customers.  Certain contracts, including insurance contracts, are specifically excluded from this guidance.  However, certain other types of contracts may impact the financial statements of insurance providers. In August 2015, the FASB deferred the effective date of this guidance for public entities to annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. We are currently evaluating this guidance, but we do not expect it to have a material impact on our consolidated financial statements.

 

In July 2015, the FASB issued guidance regarding employee benefit accounting. The guidance is divided into three parts. First, the guidance requires a pension plan to use contract value as the only required measure for fully benefit-responsive investment contracts. Second, the guidance simplifies and increases the effectiveness of the investment disclosure requirements for employee benefit plans. Third, the guidance provides benefit plans with a measurement date practical expedient. This guidance is effective for fiscal years beginning after December 15, 2015. We are currently evaluating this guidance, but we do not expect it to have a material impact on our consolidated financial statements.

 

In January 2016, the FASB issued guidance regarding the recognition and measurement of financial assets and liabilities. This guidance intends to enhance reporting for financial instruments and addresses certain aspects of recognition and measurement of investments in equity securities and the presentation in the balance sheet of financial assets and liabilities measured at fair value. It also amends certain disclosure requirements associated with the fair value of financial instruments. This guidance is effective for fiscal years beginning after December 15, 2017. The recognition and measurement provisions of this guidance will be applied by means of a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption and early adoption is not permitted. We are in the process of evaluating this guidance, but we expect its primary impact on the Company will be the recognition of all unrealized gains and losses on available-for-sale equity securities in net income. Currently, all unrealized gains and losses on available-for-sale equity securities are recognized in other comprehensive income (loss).  Refer to Note 2 for details of unrealized gains and losses on available-for-sale equity securities held by the Company.

 

In February 2016, the FASB issued updated guidance regarding leases that provides new requirements for leases to be recognized in the financial statements. In general, the guidance requires the lessee to recognize liabilities on the balance sheet for the obligation to make lease payments and an asset for the right to use the underlying assets for the lease term.  There is a differentiation between finance leases and operating leases for the lessee in the statements of operations and cash flows.  Finance leases recognize interest on the lease liability separately from the right to use the asset whereas an operating lease recognizes a single lease cost allocated over the lease term on a generally straight-line basis.  All cash payments are within operating activities in the statement of cash flows except finance leases classify repayments of the principal portion of the lease liability within financing activities. The updated guidance is to be applied using a modified retrospective approach effective for annual and interim periods beginning after December 15, 2018.  Early adoption is permitted.  The adoption of this guidance is not expected to have a material effect on our consolidated financial statements.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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All other new accounting standards and updates of existing standards issued through the date of this filing were considered by management and did not relate to accounting policies and procedures pertinent to the Company at this time or were not expected to have a material impact to the consolidated financial statements.

 

BUSINESS SEGMENTS

 

FASB guidance requires a "management approach" in the presentation of business segments based on how management internally evaluates the operating performance of business units. Accordingly, our business segments are as follows:

 

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Preneed and Burial Products segment includes both life and annuity products sold by funeral directors or affiliated agents to fund prearranged funerals or to provide for the insured’s final expenses.

 

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Traditional and Universal Life Products segment includes senior wealth transfer products, traditional life, group life, certain annuities and universal life products.

 

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Administrative and Financial Services segment includes the administration of credit life and credit accident and health insurance products as well as the fees generated from our third party administrative relationships.

 

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Corporate and Other segment consists of corporate accounts primarily including stockholders' paid-in capital, earned surplus, property and equipment, company-owned life insurance and other minor business lines which include group annuities and group and individual accident and health products.

 

Please see Note 9 to the consolidated financial statements for additional information regarding segment data.

 

 

OPERATING RESULTS

 

Consolidated Operations

Consolidated revenues decreased approximately $2,721,000 during 2015. This decrease was primarily driven by a decrease in net premiums of approximately $3,075,000, or 6.5%, during 2015. The decrease was predominantly due to lower direct and assumed premiums relative to the Puritan product offerings.

 

Net investment income increased approximately $75,000, or 0.4%, during 2015 due primarily to increased investment income generated by our investments in residential mortgage loans and dividend-paying common stocks, which were partially offset by reductions in income associated with fixed maturities and higher investment expenses. Our mortgage loan portfolio provides greater investment yields than the current fixed maturity market. New fixed maturity investments with lower yields continue to put downward pressure on our investment income. We continue to seek high quality investments while considering alternative investments that can be used to enhance future investment income.

 

Net realized gains were $818,705 and $710,632 during 2015 and 2014, respectively. The 2015 realized gains primarily resulted from capital gains taken on common stocks. The 2014 realized gains primarily resulted from the sales of certain high-yield fixed maturities as we attempted to reduce our portfolio allocation to this investment class. We experienced no other-than-temporary impairments during these periods.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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Other income increased approximately $172,000, or 10.8%, during 2015. This increase is primarily due to increased third party administrative fees based on increased policy counts for our life insurance company clients as well as acquisition conversion work performed on behalf of a TPA client.

 

Total benefits and expenses decreased approximately $1,929,000, or 2.8%, during 2015. This decrease is primarily driven by the change in reserves and decreased commissions associated with our lower premium volume as well as cost savings generated in our general and administrative expenses. These changes were partially offset by an increase in death and other benefits of approximately $3,737,000, or 9.2%, due to negative mortality experience in both our preneed and final expense segment and our traditional and ordinary segment. In addition, we incurred an increase in net amortization of deferred acquisition costs of approximately $391,000 attributable to lower expense deferrals due to the reduction in new business in the current year as well as the runoff of previously capitalized deferred acquisition costs associated with older policies.

 

After providing for federal income taxes, our net income was $1,036,716 with net income per share of $0.93 for 2015 as compared to net income of $1,266,184 and net income per share of $1.12 for 2014.

 

We declared a dividend of $0.21 per share on February 12, 2015 to shareholders of record on March 20, 2015. This dividend was paid on April 7, 2015. We declared a dividend of $0.20 per share on February 13, 2014 to shareholders of record on March 14, 2014. This dividend was paid on April 7, 2014.

 

Preneed & Burial Products

Revenues for the preneed and burial products business segment increased approximately $1,449,000, or 3.1%, in 2015 compared to 2014. This increase was predominantly due to stronger sales of our preneed products in comparison to the prior period. Our pre-tax loss increased approximately $462,000 in 2015, resulting in a pre-tax loss of approximately $496,000. This loss was driven primarily by the previously mentioned increases in death benefits due to negative mortality experience during 2015 as well as by the increase in the net amortization of deferred acquisition costs in excess of new deferrals compared to the prior year.

 

The table below provides the detail of premiums for the top ten producing states for this segment:

 

Preneed Premium Production
First Year and Single
Year Ended December 31
		2015				2014
Kentucky		$	7,172,554			$	6,068,600
North Carolina			6,861,083				6,572,901
Tennessee			4,465,024				3,843,423
Georgia			2,355,569				2,370,391
Virginia			1,769,661				1,840,765
Ohio			1,570,985				1,872,173
Indiana			1,033,919				1,177,977
South Carolina			548,890				414,214
Michigan			479,093				410,401
Illinois			417,525				464,044
All Other States			916,187				869,826
TOTAL		$	27,590,490			$	25,904,715

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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We currently market the Legacy Gold and Heritage FX Final Expense products within this segment. The Legacy Gold life insurance and annuity product series is sold in the preneed market in conjunction with prearranged funerals. The Legacy Gold series includes both single premium and multi-pay policies, and both underwritten and guaranteed issue options are available. The Heritage FX Final Expense product is a non-participating whole life insurance product with simplified underwriting, sold in the final expense market. The Heritage FX product is structured to allow increased production while mitigating surplus strain through the use of reinsurance.

 

Traditional & Universal Life Products

Revenues for 2015 decreased approximately $4,480,000, or 21.1%, while pre-tax income decreased approximately $544,000. The decrease in revenue was primarily due to the reduction in direct and assumed premiums generated from the Puritan product offerings in comparison to the prior year. The decrease in pre-tax income was driven by the reduction in premiums coupled with our negative mortality experience within this line during the current year.

 

Within this segment, we currently market two products geared toward wealth preservation in the senior market – the Heritage Solution, a single premium life policy, and the Heritage Provider, a ten pay whole life and single premium immediate annuity combination. These products are currently being sold exclusively through our partnership with Puritan Financial Group and are being underwritten and issued using a third party underwriter with significant experience in that market. Prior to January 1, 2013, this business was being reinsured under a 50% coinsurance arrangement with Puritan Life Insurance Company of America. Effective January 1, 2013, this coinsurance agreement was amended to reinsure 25% of new business. This reinsurance agreement was terminated with respect to new business effective July 31, 2015, after which time we now retain 100% of new business being produced under the marketing agreement. The statutory reserves ceded under this agreement are secured by a trust account located within the Commonwealth of Kentucky. Premiums generated during the years ended December 31, 2015 and 2014 from this partnership totaled approximately $8,933,000 and $10,918,000, respectively.

 

Investors Heritage Life assumes 75% of the risks on certain policies sold by Puritan Life Insurance Company of America and Sterling Investors Life Insurance Company. The products being assumed are identical to the Heritage Solution and Heritage Provider products currently being written by Investors Heritage Life. However, these reinsurance arrangements allow us to participate in the profitability of these products in certain states where we are not currently marketing. These reinsurance agreements were also terminated with respect to new business effective July 31, 2015. Premiums assumed under these agreements totaled approximately $753,000 and $3,310,000 for the years ended December 31, 2015 and 2014, respectively.

 

Our traditional and universal life products also include the HLW Choice Whole Life product and the Heritage Protector IV product. The HLW Choice Whole Life product is designed with numerous options and with flexibility to achieve our customers’ goals. The Heritage Protector IV product is a term product marketed primarily by banks and other financial institutions in conjunction with consumer credit.

 

We introduced an association group term product during the second half of 2013. This product provides a monthly renewable term benefit and is being marketed to various association groups.

 

We also market the Heritage Youth Protector, which is a combination term/whole life plan marketed to parents and grandparents, with issue ages of 0‐22. The policy is a term policy until age 25 at which time it automatically converts to a whole life policy with increased premium. Waiver of premium and guaranteed insurability option riders are also available. Initial coverage may be purchased in $5,000 increments from $5,000 to $20,000 per child, with single or annual payment options to age 25. At age 25, the policy becomes an annual pay plan.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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We utilize a combination of yearly renewable term reinsurance and coinsurance to cede life insurance coverage in excess of our desired retention limits, which in most cases is $25,000 per life. Most of our business is written in the smaller face amount markets and, in the past, claims on larger-case ordinary business caused income fluctuations. This lower retention level has stabilized earnings fluctuations. The lowered retention was achieved by maintaining the established reinsurance treaties and adding additional yearly renewable term treaties for amounts between our desired net amount at risk and the previous retention of $100,000.

 

Administrative & Financial Services

This segment includes the administration of credit life and credit accident and health insurance products. We reinsure 100% of the related underwriting risk on credit products currently produced within this segment. Accordingly, credit product revenue is generated primarily from initiation fees as well as fees for servicing and administering the credit business for our reinsurers. Because the credit product revenue is fee-based, performance is in direct relation to new premium production coupled with fees generated as premiums are earned. Premium production within this segment is also significantly affected by economic conditions within our credit markets, particularly Kentucky.

 

In addition to credit administration, this segment includes fees generated relative to our third party administrative relationships. We currently provide tailored administrative services for four unaffiliated life insurance companies. Services provided to each company vary based on their needs and can include some or all aspects of back-office accounting, actuarial services and policy administration. Two life insurance holding company clients terminated their agreements effective October 1, 2015 in order to begin performing that work in-house.

Revenues for this segment increased approximately $113,000, or 9.1%, in 2015 while pre-tax income decreased approximately $10,000. The increase in revenues was primarily due to the fact that our life insurance company clients have experienced increased policy counts which have resulted in an increase in our monthly fees. Additionally, we performed additional conversion work as a result of an acquisition by one of our TPA clients. The slight decrease in pre-tax income was primarily due to higher general expenses allocated to this line as a result of the time being spent on those clients in comparison to the prior year.

 

Corporate & Other

Corporate & other consists of corporate accounts measured primarily by stockholders’ paid-in capital, contributed surplus, earned surplus, property and equipment, corporate-owned life insurance and other minor business lines which include group annuities and group and individual accident and health products. Revenues from this segment increased approximately $197,000, or 20.0%, in 2015, while pre-tax income increased $224,000. The increases in revenues and pre-tax income were primarily due to an increase in investment income allocated to this segment, the mark-to-market adjustment on our investments in convertible options and net life insurance proceeds received under company-owned life insurance policies upon the death of covered employees and board members. For the year ended December 31, 2015, the Company recognized investment income of approximately $102,000 associated with the mark-to-market adjustment on our investments in convertible options, which were purchased in 2015. Additionally, the net life insurance proceeds received under company owned life insurance policies totaled approximately $203,000 and $142,000 during 2015 and 2014, respectively.

 

 

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During 2015, Investors Heritage Financial's revenues were approximately $140,000, down $12,000 compared to 2014. Investors Heritage Financial paid dividends to Investors Heritage Capital totaling $105,000 during 2015. Revenues from Investors Heritage Printing were approximately $122,000 in 2015, down $32,000 compared to 2014. Investors Heritage Printing paid dividends to Investors Heritage Capital totaling $35,000 during 2015. Revenues from At Need Funding were approximately $114,000 in 2015, up $14,000 compared to 2014. At Need Funding paid no distributions to Investors Heritage Capital during 2015. Revenues from all non-Investors Heritage Life sources constitute less than 1% of total consolidated revenues in 2015. Management continues to focus on the growth and profitability of Investors Heritage Financial and At Need Funding. Due to the retirement of a key employee at the end of 2015 and shifts in print demand, the Company currently has no ongoing operational plans relative to Investors Heritage Printing.

 

INVESTMENTS, LIQUIDITY AND CAPITAL RESOURCES

 

 

Investments

Together with our outside investment advisors and portfolio manager, we manage the fixed income investment portfolio to achieve the Company’s investment goals, which include the diversification of credit risk, the maintenance of adequate portfolio liquidity, the management of interest rate risk and the maximization of investment returns. The primary investment objectives are to maintain the quality and integrity of the fixed income portfolio while improving the total return on investments.

 

We maintain a sound, conservative investment strategy. As of December 31, 2015, 87.5% of our total invested assets consisted of fixed income securities, compared to 88.7% at December 31, 2014. At December 31, 2015 and 2014, our fixed income investments were 97.5% and 98.5% investment grade, respectively, as rated by Standard & Poor's. The Standard & Poor's average quality rating of our fixed income portfolio holdings as of December 31, 2015 was A. None of our investments are in default.

 

The fixed income portfolio is diversified among sectors. At December 31, 2015 and 2014, the fixed income portfolio was allocated as follows:

 

		December 31
		2015				2014
Corporate:
Bank and finance			16.0	%			14.3	%
Industrial and miscellaneous			41.5	%			41.4	%
Goverment			5.9	%			6.7	%
Mortage-backed securities			11.2	%			11.8	%
Foreign			15.2	%			15.3	%
Asset-backed securities			0.1	%			0.3	%
States and political subdivisions			10.1	%			10.2	%

 

 

The fixed maturities and equity securities within our portfolio were in a net unrealized gain position of approximately $9,785,000 at December 31, 2015 compared to a net unrealized gain position of approximately $27,596,000 at December 31, 2014. This decrease in the unrealized gains on the portfolio is a function of the current interest rate and economic environment rather than credit related items indicative of other-than-temporary impairments. Please see Note 3 to the consolidated financial statements for additional information regarding these fair values.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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At December 31, 2015, 97.4% of our fixed maturity portfolio had a fair value to amortized cost ratio of greater than 80%, and 93.4% of our equity securities portfolio had a fair value to cost ratio of greater than 80%. At December 31, 2015, 54.5% and 22.6% of our gross unrealized losses were comprised of fixed maturity securities in the basic industrial sector and energy sector, respectively.  The majority of these unrealized losses were attributable to credit spread widening across the energy sector and metals/mining subsectors associated with sharp declines in commodity prices.  Energy-related companies have been negatively impacted by the rapid decline in oil prices, which has pressured revenues and margins.  The metal/mining sub-sector companies are experiencing lower demand for coal, copper, iron ore and other minerals due to the economic slowdown in China in addition to sluggish demand in the United States and Europe and tightening environmental regulation.

 

At December 31, 2015, the unrealized losses associated with our equity securities were primarily attributable to unrealized losses on real estate sector stocks.  The increase in unrealized losses is primarily due to equity market conditions at year end.

 

The fixed income portfolio includes approximately $45,878,000 (at fair value) of non-U.S. Government mortgage-backed securities ("MBS"). MBS have historically added value to the portfolio and our outside investment advisor has provided the expertise to purchase MBS with confidence that the credit ratings have been properly analyzed and that the investment properly suits our asset and liability needs.

 

There have been concerns expressed by rating agencies, various regulators and other constituencies regarding investments in MBS by insurers and other financial institutions. Although these highly rated securities provide excellent credit quality, their liquidity risk must be monitored. Except for six commercial-backed mortgages totaling approximately $6,963,000, all of the collateral of the MBS owned are guaranteed by the Government National Mortgage Association ("GNMA"), Federal National Mortgage Association ("FNMA") or Federal Home Loan Mortgage Corporation ("FHLMC").

 

The FNMA and FHLMC securities are structured either as publicly traded collateralized mortgage obligations ("CMO") or pass-throughs. Unlike most corporate or real estate debt, the primary concern with MBS is the uncertainty of timing of cash flows due to prepayment assumptions rather than the possibility of loss of principal.

 

CMO holdings represent approximately 27% of the total MBS portfolio. In accordance with relevant accounting guidance, when these securities are purchased at a discount or premium, the income yield will vary with changes in prepayment speeds due to the change in accretion of discount or amortization of premium, as well as the timing of the basic principal and interest cash flows. The overall impact of the CMO’s variability in yields on the portfolio has not been significant in relation to the yield and cash flows of the total invested assets. More importantly, the investment portfolio has no exposure to more volatile, high-risk CMO’s, such as those structured to share in residual cash flows. Except for two sequential pay CMO’s totaling approximately $5,281,000, the CMO’s held are either planned amortization class bonds or support class bonds, both of which are structured to provide more certain cash flows to the investor and therefore have reduced prepayment risk. Based on our analysis of the investment portfolio, there are no impairment issues with respect to our CMO’s.

 

Pass-throughs comprise the remainder of MBS owned, representing approximately 73% of the total MBS portfolio. Pass-throughs are FNMA or FHLMC guaranteed MBS that, simply stated, pass through interest and principal payments to the investors in accordance with their respective ownership percentage.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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We continuously monitor the investment risk within our portfolio, including the risk associated with subprime lending with our CMO investments. As of December 31, 2015, we have no investments with any level of direct subprime exposure. Additionally, we have no Alt-A bond exposure within our current holdings.

 

We have an investment advisory agreement with an independent third-party investment advisor to purchase common and preferred stocks in stable areas within the real estate sector. The investment advisor has a history of strong performance within these markets. The majority of these funds have been invested in a diversified assortment of regularly traded, exchange listed common stocks. As of December 31, 2015, the largest individual stock position within this sector had a fair value of approximately $406,000. We believe the unrealized losses in our common stock portfolio are temporary in nature given the credit quality of the issuers. We believe that these investments will generate positive future results by providing a slightly increased and fully managed exposure to equity markets.

 

Additionally, Investors Heritage Life engages in commercial and residential mortgage lending. As of December 31, 2015 and 2014, investments in commercial mortgage loans comprised 32.1% and 41.9%, respectively, of our mortgage portfolio. Our commercial and residential apartment building mortgage loans are either originated in-house or through two mortgage brokers, are secured by first mortgages on the real estate and generally carry personal guarantees by the borrowers. Loan-to-value ratios of 80% or less and debt service coverage from existing cash flows of 115% or higher are generally required. We minimize credit risk in our mortgage loan portfolio through various methods, including stringently underwriting the loan request, maintaining small average loan balances, and reviewing larger mortgage loans on an annual basis.

 

As of December 31, 2015 and 2014, investments in residential mortgage loans comprised 67.9% and 58.1%, respectively, of our mortgage portfolio. We purchase single family residential mortgage loans through the secondary market. Each mortgage loan opportunity is reviewed individually, considering both the value of the underlying property and the credit worthiness of the borrower. We utilize third party servicers to administer these loans. We currently anticipate evaluating and making additional residential mortgage loan investments assuming they meet our investment goals and criteria.

 

As of December 31, 2015, our average loan balance is $173,687 and the average loan-to-value is 61%. The largest loan currently held is $934,337. Our mortgage loans are spread across properties located in 22 states, with approximately 75.1% of our loans located in the states of Illinois, Texas, Florida, California, Kentucky and Georgia. At December 31, 2015 and 2014, 7.1% and 6.1% of invested assets consisted of mortgage loans, respectively.

 

The mortgage loan portfolio consists of the following property types:

 

		December 31
		2015				2014
Residential			62.6	%			52.7	%
Retail			26.9	%			35.3	%
Apartments			5.3	%			5.4	%
Office			1.8	%			2.3	%
Medical			1.5	%			1.9	%
Industrial			1.2	%			1.5	%
Other			0.7	%			0.9	%

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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We are familiar with our mortgage loan markets and given our low loan-to-value ratios, we do not believe that there is a significant risk of loss on our mortgage loan portfolio. We have been successful in adding value to the total investment portfolio through mortgage loan originations and secondary market purchases due to the fact that yields realized from the mortgage loan portfolio are generally higher than yields realized from fixed income investments. Value has also been added because the mortgage loan portfolio has consistently performed well. As of December 31, 2015 and 2014, we had no non-performing mortgage loans, which would include loans past due 90 days or more, loans in process of foreclosure, or restructured loans.

 

We own certain investments in state-guaranteed receivables. These investments represent an assignment of the future rights to cash flows from lottery winners purchased at a discounted price. Payments on these investments are made by state run lotteries and guaranteed by the states. As these payment streams are secured by the states themselves, a key function of our due diligence is the assessment of the states’ ability to meet these obligations. Additionally, each state generally withholds income tax from each payment for which we must file for reimbursement of such tax annually. We carry the state-guaranteed receivables at their amortized cost basis on the balance sheet. As of December 31, 2015, we held approximately $7,693,000 in state-guaranteed receivables, with the largest concentrations in the states of New York, Massachusetts and Georgia totaling approximately $3,496,000, $1,992,000 and $1,432,000, respectively. At December 31, 2015 and 2014, 1.6% of invested assets consisted of state-guaranteed receivables.

 

During the third quarter of 2015, with the assistance and under the active management of our external third party investment advisor, we began purchasing investments in convertible fixed maturity securities. Convertible securities feature an option allowing for a portion of the security to be converted into an equity position of the underlying issuer in exchange for a lower coupon rate. In accordance with FASB accounting guidance, this convertible feature must be bifurcated and reported separately on the balance sheet at fair value, with adjustments in fair value recognized in the income statement. Accordingly, the convertible options within our portfolio are reported as investments in convertible options on the balance sheet, and the mark-to-market adjustment associated with the changes in fair value of the convertible options are reported as gains (losses) on investments in convertible options as a component of net investment income. As of December 31, 2015, the total fair value of our investments in convertible options was $957,405. For the year ended December 31, 2015, we recognized a gain on our investments in convertible options of $102,342 relative to the mark-to-market adjustment. Additionally, we recognized net realized investment gains of $7,223 upon the exchange of convertible securities.

 

Liquidity and Capital Resources

The quality of our investment portfolio and the current level of stockholders' equity continue to provide a sound financial base as we strive to expand our marketing system and to offer competitive, quality products. Our investment portfolio continues to provide financial stability. It is management's opinion that we have adequate cash flows both on a long-term and short-term basis as evidenced by the net cash flows provided by operating activities in the consolidated statements of cash flows. Investors Heritage Life’s primary sources of cash flows used to meet short-term and long-term cash requirements are insurance premiums, which include mortality and expense charges, investment income, and administrative service fees.

 

Investors Heritage Life’s short-term obligations consist primarily of policyholder benefits and operating expenses. Investors Heritage Life has historically been able to meet these obligations out of operating cash, premiums and investment income.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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Investors Heritage Life’s principal long-term obligations are fixed contractual obligations incurred in the sale of its life insurance products. The premiums charged for these products are based on conservative and actuarially sound assumptions as to mortality, persistency and interest. We believe these assumptions will produce revenues sufficient to meet our future contractual benefit obligations and operating expenses, and provide an adequate profit margin.

 

Investors Heritage Capital’s principal sources of cash flow are rental income, dividends from its subsidiaries and proceeds received under company-owned life insurance policies. Investors Heritage Capital’s principal long-term obligations are payments on long-term debt and stock purchased under the put option through the IHCC Retirement Savings Plan and Trust, which is now frozen with respect to new contributions.

 

The stability of our liquidity is found in our conservative approach to product development and in the strength and stability of our fixed income portfolio and mortgage loans. Liquidity is also managed by laddering maturities of our fixed income portfolio. The average duration of our fixed income investments is 5.2 years with approximately $9,981,000 due within twelve months and approximately $96,190,000 due within the following four years. Historically, management has anticipated that all such investments will be held until maturity. However, one of the responsibilities of our independent portfolio manager is to constantly monitor the credit rating of our fixed income investments to determine if rating changes of any investment requires action by management. As explained in detail in Note 1 to the consolidated financial statements, all fixed income securities and all marketable equity securities are classified as available-for-sale and are carried at fair value.

 

During the first quarter of 2015, we renewed the Investors Heritage Capital Corporation operating line of credit and the At Need Funding line of credit. The Investors Heritage Capital Corporation line of credit remains at $150,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, with a floor of 3.25%. The At Need Funding line of credit was increased to $1,500,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, which is currently 3.50%. This line of credit is used for the purpose of funding at-need funerals secured by the assignment of verified, incontestable life insurance policies. At December 31, 2015, the outstanding principal balance on the At Need Funding line of credit was $59,484. At December 31, 2015, there was no amount outstanding on the Investors Heritage Capital Corporation operating line of credit.

 

On November 25, 2014, Investors Heritage Capital entered into a line of credit agreement for $1,500,000, maturing on November 25, 2016. This line of credit is designated for the purpose of funding the purchase of agent debit balance receivables from Investors Heritage Life. These agent debit balance receivables will be purchased by Investors Heritage Capital at a discount with servicing retained by Investors Heritage Life. Borrowings under the line of credit will be collateralized by the agent debit balances. This line of credit requires interest to be paid monthly at the prime rate. We have not yet borrowed any amounts under this line of credit.

 

On November 5, 2012, we entered into a loan agreement to borrow $2,000,000 in order to fund a credit agreement to Puritan Financial Companies, Inc. On November 25, 2014, this note was amended to extend the maturity date to November 25, 2019 to correlate with an amendment to the Puritan promissory note and marketing agreement, as discussed further below. The amended loan agreement calls for interest to be paid quarterly at a rate of 0.25% under the prime rate. The note requires monthly principal payments of at least $15,000 beginning December 5, 2014 with a balloon payment upon maturity. There is no penalty for prepayment. This note is collateralized with 55,000 shares of Investors Heritage Life Insurance Company common stock. At December 31, 2015, the outstanding principal balance on the bank note was $1,373,964.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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The borrowed funds were utilized to fund a credit agreement to Puritan Financial Companies, Inc. for $2,000,000, with interest at a rate of 1.75% above the prime rate. The promissory note and the marketing agreement with Puritan Financial Group were amended on August 28, 2014 to extend the maturity date to August 28, 2019. These amendments allow the Company to withhold 15% of Puritan Financial’s earned commissions on certain products to pay down the note. Additionally, the amended note calls for quarterly payments of principal and interest and requires Puritan Financial to pay at least $400,000 annually toward the outstanding balance of the note from 2015 until the balance is paid in full. Any unpaid principal balance together with all accrued interest shall be due and payable with a balloon payment upon maturity. Under this credit agreement, Puritan Financial Companies, Inc. and its wholly-owned subsidiary Puritan Financial Group have committed to an increased level of new business production on behalf of the Company. Additionally, Puritan Financial Companies, Inc. has issued warrants for 2,000,000 shares of common stock to the Company in exchange for this funding. This note is further collateralized by all the stock and other assets of Puritan Financial Companies, Inc. and each of its affiliated companies. Puritan Financial Companies, Inc. has another credit facility with a senior lender and the Company has a subordinate interest to the senior lender in all of the collateral which is security for this loan. The outstanding balance on this note receivable, which is included within other invested assets on the balance sheet, was $1,450,830 and $1,860,043 at December 31, 2015 and 2014, respectively.

 

On February 3, 2005, Investors Heritage Capital borrowed $3,650,000 to finance the purchase of certain home office property previously owned by Investors Heritage Life at a purchase price of $3,650,000. The proceeds received by Investors Heritage Life were used to repay their surplus notes to Investors Heritage Capital. Additionally, Investors Heritage Capital used such proceeds to repay the $3,000,000 bank note outstanding at December 31, 2004. This transaction was approved by the Kentucky Department of Insurance. The balance on this note was paid in full during 2014.

 

We are a member of the Federal Home Loan Bank of Cincinnati, Ohio by way of our investment in shares of their common stock. As a member, we have access to both short-term and long-term borrowings at below market rates. Borrowings under this program are collateralized by securities within our investment portfolio. To this point, we have not needed to access this borrowing capacity.

 

We assess our compliance with prescribed debt covenant requirements as outlined in the terms of each debt agreement at least annually, if not otherwise required in the debt agreement. Management has assessed our position as of December 31, 2015, and we are in compliance with all debt covenant requirements.

 

Management is not aware of any other commitments or unusual events that could materially affect our capital resources. We have the option to prepay certain notes payable at our discretion prior to their maturity dates.

 

Other than anticipated increases in federal and state regulatory reporting requirements which generally increase administrative expenses, management is not aware of any current recommendations by any regulatory authority which, if implemented, would have any material effect on our liquidity, capital resources or operations.

 

 

MANAGEMENT’S

DISCUSSION & ANALYSIS

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We will continue to explore various opportunities, including mergers and acquisitions and purchasing blocks of business from other companies, which may dictate a need for either long-term or short-term debt. There are no restrictions as to use of funds except the restriction on Investors Heritage Life as to the payment of cash dividends to shareholders that is discussed in more detail in Note 7 to the consolidated financial statements.

 

REGULATORY MATTERS

 

The statutory capital and surplus of Investors Heritage Life increased approximately $334,000 in 2015. The increase in statutory capital and surplus in 2015 is due primarily to net income, which was partially offset by a decrease in net unrealized capital gains on common stock investments and an increase in the asset valuation reserve. Investors Heritage Life produced a statutory operating gain of approximately $688,000 and $774,000 in 2015 and 2014, respectively, before the effect of realized gains (losses). For additional discussion on statutory accounting practices refer to Note 8 to the consolidated financial statements.

 

OFF-BALANCE SHEET ARRANGEMENTS

 

We have no off-balance sheet arrangements as of December 31, 2015.

 

FORWARD LOOKING INFORMATION

 

We caution readers regarding certain forward-looking statements contained in this report and in any other statements made by us, or on our behalf, whether or not in future filings with the Securities and Exchange Commission. Forward-looking statements are statements not based on historical information and which relate to future operations, strategies, financial results or other developments. Statements using verbs such as "expect", "anticipate", "believe" or words of similar import generally involve forward-looking statements. Without limiting the foregoing, forward-looking statements include statements which represent our beliefs concerning future levels of sales and redemptions of our products, investment spreads and yields or the earnings and profitability of our activities.

 

Forward-looking statements are necessarily based on estimates and assumptions that are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control and many of which are subject to change. These uncertainties and contingencies could cause actual results to differ materially from those expressed in any forward-looking statements made by us, or on our behalf. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable factors and developments. Some of these may be national in scope, such as general economic conditions, changes in tax laws and changes in interest rates. Some may be related to the insurance industry generally, such as pricing competition, regulatory developments, industry consolidation and the effects of competition in the insurance business from other insurance companies and other financial institutions operating in our market area and elsewhere. Others may relate to us specifically, such as credit, volatility and other risks associated with our investment portfolio. We caution that such factors are not exclusive. We disclaim any obligation to update forward-looking information.

 

 

MANAGEMENT’S REPORT ON INTERNAL

CONTROL OVER FINANCIAL REPORTING

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Management is responsible for establishing and maintaining adequate internal control over financial reporting. Our internal control over financial reporting is designed to provide reasonable assurances regarding the reliability of financial reporting and the preparation of our consolidated financial statements in accordance with U.S. generally accepted accounting principles. Our accounting policies and internal controls over financial reporting, established and maintained by management, are under the general oversight of our Audit Committee.

 

Our internal control over financial reporting includes those policies and procedures that:

 

■

pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company;

 

■

provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that receipts and expenditures are being made only in accordance with authorizations of our management and directors; and

 

■

provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

Management has assessed our internal control over financial reporting as of December 31, 2015. The standard measures adopted by management in making its evaluation are the measures in the Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.

 

Based upon its assessment, management has concluded that our internal control over financial reporting is effective at December 31, 2015, and that there were no material weaknesses in our internal control over financial reporting as of that date.

 

This annual report does not include an attestation report of our independent registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by our registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permit us to provide only management’s report in this annual report.

 

 

REPORT OF INDEPENDENT

REGISTERED PUBLIC ACCOUNTING FIRM

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To the Board of Directors and Stockholders

Investors Heritage Capital Corporation

 

We have audited the accompanying consolidated balance sheets of Investors Heritage Capital Corporation (“the Company”) as of December 31, 2015 and 2014, and the related consolidated statements of income, comprehensive income (loss), stockholders’ equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Investors Heritage Capital Corporation as of December 31, 2015 and 2014, and the consolidated results of its operations and its cash flows for each of the years then ended, in conformity with accounting principles generally accepted in the United States of America.

Louisville, Kentucky 

March 23, 2016

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

CONSOLIDATED BALANCE SHEETS

DECEMBER 31, 2015 AND 2014

 

		2015				2014
ASSETS
Investments:
Securities available-for-sale, at fair value:
Fixed maturities (amortized cost: 2015 - $399,525,617; 2014 - $403,596,261)		$	409,146,807			$	430,117,478
Equity securities (cost: 2015 - $7,452,666; 2014 - $6,331,436)			7,616,789				7,405,819
Mortgage loans on real estate			33,174,131				29,459,436
Policy loans			6,702,911				6,665,493
State-guaranteed receivables			7,692,959				7,917,379
Investments in convertible options			957,405				-
Other invested assets			2,379,451				3,270,848
Total investments			467,670,453				484,836,453
Cash and cash equivalents			3,619,663				1,870,867
Accrued investment income			5,149,612				5,190,740
Due premiums			2,946,218				3,217,136
Deferred acquisition costs			17,237,522				17,847,907
Value of business acquired			225,276				301,037
Leased property under capital leases			381,432				555,251
Property and equipment			909,151				1,000,120
Cash value of company-owned life insurance			13,191,773				12,441,833
Other assets			2,374,292				2,041,050
Amounts recoverable from reinsurers			56,332,692				55,910,993
Total assets		$	570,038,084			$	585,213,387
LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES
Policy liabilities:
Benefit reserves		$	493,369,378			$	490,126,730
Unearned premium reserves			8,119,385				7,812,972
Policy claims			2,584,088				2,821,106
Liability for deposit-type contracts			3,400,836				3,432,793
Reserves for dividends and endowments and other			388,193				391,439
Total policy liabilities			507,861,880				504,585,040
Deferred federal income tax liability			1,105,776				7,785,450
Obligations under capital leases			377,259				553,028
Notes payable			1,433,448				2,508,576
Accrued pension liability			6,075,376				5,141,442
Other liabilities			3,933,343				4,103,365
Total liabilities			520,787,082				524,676,901
STOCKHOLDERS' EQUITY
Common stock (shares issued: 2015 - 1,117,647; 2014 - 1,123,980)			1,117,647				1,123,980
Paid-in surplus			8,913,360				8,908,243
Accumulated other comprehensive income			757,161				12,704,319
Retained earnings			38,462,834				37,799,944
Total stockholders' equity			49,251,002				60,536,486
Total liabilities and stockholders' equity		$	570,038,084			$	585,213,387

 

See Notes to Consolidated Financial Statements.

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

FOR THE YEARS ENDED DECEMBER 31, 2015 AND 2014

 

		2015				2014
REVENUE
Premiums and other considerations		$	56,864,702			$	61,116,195
Premiums ceded			(12,511,080	)			(13,687,074	)
Net premiums			44,353,622				47,429,121
Investment income, net of expenses			21,237,313				21,162,735
Net realized gains on investments			818,705				710,632
Other income			1,767,071				1,595,300
Total revenue			68,176,711				70,897,788
BENEFITS AND EXPENSES
Death and other benefits			44,305,739				40,568,665
Guaranteed annual endowments			404,466				413,135
Dividends to policyholders			332,063				339,945
Increase in benefit reserves and unearned premiums			6,739,357				11,522,583
Acquisition costs deferred			(6,030,513	)			(6,678,626	)
Amortization of deferred acquisition costs			7,103,147				7,359,964
Commissions			3,537,009				4,564,713
Other general and administrative expenses			10,881,337				11,111,572
Total benefits and expenses			67,272,605				69,201,951
INCOME BEFORE FEDERAL INCOME TAXES			904,106				1,695,837
PROVISION (BENEFIT) FOR FEDERAL INCOME TAXES
Current			392,468				315,444
Deferred			(525,078	)			114,209
Total federal income taxes			(132,610	)			429,653
NET INCOME		$	1,036,716			$	1,266,184
BASIC AND DILUTED NET EARNINGS PER SHARE		$	0.93			$	1.12

 

See Notes to Consolidated Financial Statements.

 

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

FOR THE YEARS ENDED DECEMBER 31, 2015 AND 2014

 

		2015				2014
NET INCOME		$	1,036,716			$	1,266,184
OTHER COMPREHENSIVE INCOME (LOSS):
Change in net unrealized gains (losses) on available-for-sale securities:
Unrealized holding gains (losses) arising during period			(17,074,720	)			12,863,346
Reclassification adjustment for gains included in income			(735,567	)			(710,632	)
Adjustment for effects of deferred acquisition costs			462,249				(293,231	)
Net unrealized gains (losses) on investments			(17,348,038	)			11,859,483
Change in defined benefit pension plan:
Actuarial net loss on pension plan			(1,515,949	)			(3,231,218	)
Amortization of actuarial net loss in net periodic pension cost			762,233				390,413
Net change in defined benefit pension plan			(753,716	)			(2,840,805	)
Other comprehensive income (loss) before income taxes			(18,101,754	)			9,018,678
Income tax expense (benefit)			(6,154,596	)			3,066,350
OTHER COMPREHENSIVE INCOME (LOSS), NET OF TAXES			(11,947,158	)			5,952,328
COMPREHENSIVE INCOME (LOSS)		$	(10,910,442	)		$	7,218,512

 

See Notes to Consolidated Financial Statements.

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

FOR THE YEARS ENDED DECEMBER 31, 2015 AND 2014

 

										Accumulated
										Other								Total
		Common				Paid-in				Comprehensive				Retained				Stockholders'
		Stock				Surplus				Income				Earnings				Equity
BALANCE, JANUARY 1, 2014		$	1,128,583			$	8,908,243			$	6,751,991			$	36,858,451			$	53,647,268
Net income			-				-				-				1,266,184				1,266,184
Other comprehensive income, net			-				-				5,952,328				-				5,952,328
Cash dividends			-				-				-				(225,717	)			(225,717	)
Repurchases of common stock, net			(4,603	)			-				-				(98,974	)			(103,577	)
BALANCE, DECEMBER 31, 2014		$	1,123,980			$	8,908,243			$	12,704,319			$	37,799,944			$	60,536,486
Net income			-				-				-				1,036,716				1,036,716
Other comprehensive loss, net			-				-				(11,947,158	)			-				(11,947,158	)
Cash dividends			-				-				-				(236,035	)			(236,035	)
Repurchases of common stock, net			(6,333	)			5,117				-				(137,791	)			(139,007	)
BALANCE, DECEMBER 31, 2015		$	1,117,647			$	8,913,360			$	757,161			$	38,462,834			$	49,251,002

 

See Notes to Consolidated Financial Statements.

 

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE YEARS ENDED DECEMBER 31, 2015 AND 2014

 

		2015				2014
OPERATING ACTIVITIES
Net income		$	1,036,716			$	1,266,184
Adjustments to reconcile net income to net cash provided by operating activities:
Net realized gains on investments			(818,705	)			(710,632	)
Expense (benefit) for deferred federal income taxes			(525,078	)			114,209
Amortization of deferred acquisition costs			7,103,147				7,359,964
Acquisition costs deferred			(6,030,513	)			(6,678,626	)
Net adjustment for premium and discount on investments			(185,671	)			(278,027	)
Depreciation and other amortization			599,638				735,741
Change in value of convertible options			(102,342	)			-
Changes in operating assets and liabilities:
Accrued investment income			41,128				513
Due premiums			270,918				150,872
Cash value of company-owned life insurance			(749,940	)			(633,585	)
Amounts recoverable from reinsurers			(421,699	)			(241,905	)
Benefit reserves			7,126,305				12,701,323
Policy claims			(237,018	)			(851,368	)
Liability for deposit-type contracts			(31,957	)			148,833
Reserves for dividends and endowments and other			(3,246	)			(17,116	)
Other assets and other liabilities			(498,817	)			199,497
NET CASH PROVIDED BY OPERATING ACTIVITIES			6,572,866				13,265,877
INVESTING ACTIVITIES
Purchases of available-for-sale securities			(33,893,271	)			(47,681,113	)
Sales of available-for-sale securities			8,115,128				18,366,907
Maturities of available-for-sale securities			29,085,575				28,079,553
Acquisitions of mortgage loans on real estate			(12,240,031	)			(14,310,374	)
Payments of mortgage loans on real estate			8,619,349				3,475,019
Payments of state-guaranteed receivables			769,540				725,540
Purchases of convertible options			(1,016,251	)			-
Sales and exchanges of convertible options			168,415				-
Net reductions (additions) in other investments			853,979				(80,272	)
Net additions to property and equipment			(259,089	)			(157,822	)
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES			203,344				(11,582,562	)
FINANCING ACTIVITIES
Policyholder account deposits			4,486,920				4,932,397
Policyholder account withdrawals			(8,064,164	)			(8,035,476	)
Payments on notes payable			(3,877,673	)			(3,614,374	)
Proceeds from notes payable			2,802,545				3,091,008
Dividends paid			(236,035	)			(225,717	)
Repurchases of common stock, net			(139,007	)			(103,577	)
NET CASH USED IN FINANCING ACTIVITIES			(5,027,414	)			(3,955,739	)
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS			1,748,796				(2,272,424	)
Cash and cash equivalents at beginning of year			1,870,867				4,143,291
CASH AND CASH EQUIVALENTS AT END OF YEAR		$	3,619,663			$	1,870,867
SUPPLEMENTAL INFORMATION
Cash paid during year for federal income taxes		$	213,671			$	181,385

 

See Notes to Consolidated Financial Statements.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

NOTE 1 - Nature of Operations and Accounting Policies

 

Investors Heritage Capital Corporation is the holding company of Investors Heritage Life Insurance Company; Investors Heritage Printing, Inc., a printing company; Investors Heritage Financial Services Group, Inc., an insurance marketing company; is the sole member of At Need Funding, LLC, a limited liability company that provides advance funding of funerals in exchange for the irrevocable assignment of life insurance policies from other nonaffiliated companies; and is the sole member of Heritage Funding, LLC, a limited liability company that invests in various business ventures. These entities are collectively hereinafter referred to as the "Company". In excess of 99% of Investors Heritage Capital’s consolidated revenue is generated by Investors Heritage Life.

 

The Company's operations involve the sale and administration of various insurance and annuity products, including, but not limited to, participating and non-participating whole life, limited pay life, universal life, annuity contracts, credit life, credit accident and health and group insurance policies. The principal markets for the Company's products are in Kentucky, North Carolina, Georgia, Indiana, Michigan, Ohio, Pennsylvania, South Carolina, Tennessee, Texas and Virginia.

 

Basis of Presentation: The accompanying consolidated financial statements of the Company have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”).

 

Principles of Consolidation: The consolidated financial statements include the accounts of the wholly-owned subsidiaries of Investors Heritage Capital, which are Investors Heritage Life and its subsidiary, Investors Underwriters, Inc., Investors Heritage Printing, Investors Heritage Financial, At Need Funding and Heritage Funding. Intercompany transactions are eliminated in the Company's consolidated financial statements.

 

Use of Estimates: The preparation of financial statements 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.

 

Investments: The Company classifies all fixed maturities and equity securities as available-for-sale. Securities classified as available-for-sale are carried at fair value with unrealized appreciation (depreciation) relating to temporary market value changes recorded as an adjustment to other comprehensive income (loss), net of adjustments to deferred acquisition costs and federal income taxes.

 

Premiums and discounts on fixed maturity investments are amortized into income using the interest method. Anticipated prepayments on mortgage-backed securities are considered in the determination of the effective yield on such securities. If a difference arises between anticipated prepayments and actual prepayments, the carrying amounts of the investments are adjusted with a corresponding charge or credit to interest income.

 

Realized gains and losses on the sales of investments are determined based upon the specific identification method and include provisions for other-than-temporary impairments where appropriate, as discussed in further detail in Note 2 to the consolidated financial statements.

 

If an other-than-temporary impairment occurs with respect to a bond, the reduced book value is amortized back to the security’s expected recovery value over the remaining term of the bond. The Company continues to review the security for further impairment that would prompt another write-down in the value.

 

Mortgage loans are carried at their aggregate principal balance, adjusted for any unamortized premium or discount.

 

Policy loans are carried at their aggregate principal balance.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

State-guaranteed receivables represent an assignment of the future rights to cash flows from lottery winners purchased at a discounted price. Payments on these investments are made by state run lotteries and guaranteed by the states. The state-guaranteed receivables are carried at their amortized cost basis.

 

Investments in convertible options represent the bifurcated equity derivative portion of convertible security investments. These investments are recorded at their market value with changes in the market value recorded as a component of net investment income on the income statement.

 

Other invested assets include real estate investments and notes receivable. Real estate investments are carried at cost less accumulated depreciation. Notes receivable are carried at their aggregate principal balance.

 

Short-term investments represent securities with maturity dates within one year but exceeding three months. These securities are carried at amortized cost, which approximates fair value.

 

Cash equivalents include money market funds on deposit at various financial institutions with contractual maturity dates within three months at the time of purchase.

 

Deferred Acquisition Costs: Commissions and other acquisition costs, which vary with and are primarily related to the production of new business, are deferred and amortized over the life of the related policies (refer to Revenues and Expenses discussed later regarding amortization methods). Recoverability of deferred acquisition costs is evaluated periodically by comparing the current estimate of the present value of expected pretax future profits to the unamortized asset balance. If this current estimate is less than the existing balance, the difference is charged to expense.

 

Deferred acquisition costs related to annuities and universal life insurance products are deferred to the extent deemed recoverable and amortized in relation to the present value of actual and expected gross profits on the policies. To the extent that realized gains and losses on fixed income securities result in adjustments to deferred acquisition costs related to annuities, such adjustments are reflected as a component of the amortization of deferred acquisition costs.

 

Deferred acquisition costs related to annuities and universal life insurance products are also adjusted, net of tax, for the change in amortization that would have been recorded if the unrealized gains (losses) from securities had actually been realized. This adjustment is included in the change in net unrealized appreciation (depreciation) on available-for-sale securities, a component of "Accumulated Other Comprehensive Income" in the stockholders' equity section of the balance sheet.

 

Value of Business Acquired: Value of business acquired represents the estimated value assigned to the insurance in force of the assumed policy obligations at the date of acquisition of a block of policies. Amortization of value of business acquired recognized in 2015 and 2014 totaled $75,761 and $85,019, respectively. Accumulated amortization was $696,080 and $620,319 at December 31, 2015 and 2014, respectively. Estimated annual amortization will be approximately $70,000, $63,000, $44,000, $13,000, and $8,000 in 2016 through 2020, respectively.

 

Property and Equipment: Property and equipment is carried at cost less accumulated depreciation, using principally the straight-line method. Accumulated depreciation on property and equipment was $3,991,112 and $3,860,908 at December 31, 2015 and 2014, respectively.

 

Capital Leases: During 2015, the Company entered into one new capital lease totaling $184,100 at inception. During 2014, the Company entered into five new capital leases totaling $13,450 at inception. Total lease payments for 2015 and 2014 relating to previously existing capital leases were $395,024 and $501,379, respectively. Future minimum lease payments for 2016 through 2018 are $324,151; $74,034; and $6,259, respectively. The present value of net minimum lease payments at December 31, 2015 was $377,259, which is equal to the total future minimum lease payments of $404,444 less imputed interest of $27,185. Accumulated amortization on the leased property was $745,601 and $992,449 at December 31, 2015 and 2014, respectively.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

Cash Value of Company-Owned Life Insurance: The Company holds life insurance policies on key members of the organization. These policies are reported at the current cash surrender values of the policies.

 

Benefit Reserves and Policyholder Deposits: Reserves on traditional life and accident and health insurance products are calculated using the net level premium method based upon estimated future investment yields, mortality, withdrawals and other assumptions, including dividends on participating policies. The assumptions used for prior year issues are locked in. Current year issues are reserved using updated assumptions determined by reviewing the Company's past experience and include a provision for possible unfavorable deviation.

 

Benefit reserves and policyholder deposits on universal life and investment-type products are determined by using the retrospective deposit method and represent the policy account value before consideration of surrender charges. In addition, unearned revenues are included as a part of the benefit reserve.

 

The mortality assumptions for regular ordinary business are based on the 1955-60 Basic Table, Select and Ultimate, for plans issued prior to 1982; the 1965-70 Basic Table, Select and Ultimate, for plans issued in 1982 through 1984; the 1975-80 Basic Table, Select and Ultimate, for plans issued after 1984; the 2001 Valuation Basic Table, Select and Ultimate, for plans issued after 2008; and on the Company's experience for final expense and preneed plans.

 

Reinsurance: The Company assumes and cedes reinsurance under various agreements providing greater diversification of business, allowing management to control exposure to potential losses arising from large risks, and providing additional capacity for growth. Amounts recoverable from reinsurers are estimated in a manner consistent with the related liabilities associated with the reinsured policies. At December 31, 2015 and 2014, amounts recoverable from reinsurers were $56,332,692 and $55,910,993, respectively. These amounts included reserves ceded to reinsurers of $55,510,620 and $55,154,752 at December 31, 2015 and 2014, respectively.

 

Unearned Premium Reserves: Credit life unearned premium reserves are calculated for level and reducing coverage certificates using the monthly pro rata and Rule of 78's methods, respectively. Credit accident and health unearned premium reserves are determined based upon the Rule of 78's.

 

Policy Claims: Policy claims are based on reported claims plus estimated incurred but not reported claims developed from trends of historical data applied to current exposure.

 

At December 31, 2015 and 2014, the Company’s policy claims liability includes an estimate of $721,592 and $940,600, respectively, for outstanding claims relative to a comparison of our life insurance policies against the Social Security Death Master File. This comparison was performed in compliance with a recently enacted Kentucky state law which follows a model law adopted by the National Conference of Insurance Legislators. This amount primarily affects the traditional and universal life segment, along with a much smaller impact on the final expense portion of the preneed and burial segment. The Company is in the process of researching the potential matches to determine that a valid claim exists, to locate beneficiaries and to pay benefits accordingly.

 

Liability for Deposit-Type Contracts: Liability for deposit-type contracts consists of supplemental contracts without life contingencies, premium deposit funds and dividends and endowments left on deposit at interest.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

Participating Policies: Participating business approximates 15% of ordinary life insurance in force at December 31, 2015 and 2014. Premiums relative to participating business comprised approximately 3% of net premiums for the years ended December 31, 2015 and 2014. Participating dividends are accrued as declared by the Board of Directors of Investors Heritage Life. For participating policies that are not a part of the Texas Memorial Life or Memorial Service Life policy acquisitions, the liability for future policy benefits for participating policies was determined based on the Net Level Premium Reserve Method, 3% interest, and the 1941 CSO Mortality and 1958 CSO Mortality tables. All guaranteed benefits were considered in calculating these reserves. Deferred acquisition costs are amortized in proportion to expected gross profits.

 

The liability for future policy benefits of the Texas Memorial Life and Memorial Service Life blocks of participating business was determined based on the 2001 CSO and 1980 CSO Mortality tables, respectively. While these policies are participating, no future dividends are anticipated on this block of policies.

 

The average assumed investment yields used in determining expected gross profits ranged from 3.56% to 9.17% (for the current and all future years, an assumed investment yield of 4.50% was utilized).

 

Federal Income Taxes: The Company utilizes the liability method to account for income taxes. Under such method, deferred tax assets and liabilities are determined based on differences between the financial reporting and the tax bases of assets and liabilities and are measured using the enacted tax rates.

 

Revenues and Expenses: Revenues on traditional life and accident and health insurance products consist of direct and assumed premiums reported as earned when due. Liabilities for future policy benefits, including unearned premium reserves on accident and health policies and unreleased profits on limited-pay life policies, are provided and acquisition costs are amortized by associating benefits and expenses with earned premiums to recognize related profits over the life of the contracts. Acquisition costs are amortized over the premium paying period using the net level premium method. Traditional life insurance products are treated as long duration contracts since they are ordinary whole life insurance products, which generally remain in force for the lifetime of the insured. The accident and health insurance products are treated as long duration contracts because they are non-cancelable.

 

Revenues for universal life and investment-type products consist of investment income and policy charges for the cost of insurance and policy initiation and administrative fees. Expenses include interest credited to policy account balances, actual administrative expenses and benefit payments in excess of policy account balances.

 

Other income consists principally of third party administrative service fees along with servicing and administration fees relative to credit insurance administered for our reinsurers.

 

Common Stock and Earnings per Share: The par value per share is $1.00 with 4,000,000 shares authorized. Earnings per share of common stock were computed based on the weighted average number of common shares outstanding during each year. The weighted average number of shares outstanding during 2015 and 2014 were 1,120,306 and 1,126,365 shares, respectively. The Company paid cash dividends per share of $0.21 and $0.20 in 2015 and 2014, respectively.

 

Subsequent Events: Management has evaluated all events subsequent to December 31, 2015 through the date that these consolidated financial statements were available to be issued.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

New Accounting Standards: In May 2014, the Financial Accounting Standards Board (“FASB”) issued guidance regarding accounting for revenue recognition that identifies the accounting treatment for an entity’s contracts with customers.  Certain contracts, including insurance contracts, are specifically excluded from this guidance.  However, certain other types of contracts may impact the financial statements of insurance providers. In August 2015, the FASB deferred the effective date of this guidance for public entities to annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. The Company is currently evaluating this guidance, but it is not expected to have a material impact on its consolidated financial statements.

 

In July 2015, the FASB issued guidance regarding employee benefit accounting. The guidance is divided into three parts. First, the guidance requires a pension plan to use contract value as the only required measure for fully benefit-responsive investment contracts. Second, the guidance simplifies and increases the effectiveness of the investment disclosure requirements for employee benefit plans. Third, the guidance provides benefit plans with a measurement date practical expedient. This guidance is effective for fiscal years beginning after December 15, 2015. The Company is currently evaluating this guidance, but it is not expected to have a material impact on its consolidated financial statements.

 

In January 2016, the FASB issued guidance regarding the recognition and measurement of financial assets and liabilities. This guidance intends to enhance reporting for financial instruments and addresses certain aspects of recognition and measurement of investments in equity securities and the presentation in the balance sheet of financial assets and liabilities measured at fair value. It also amends certain disclosure requirements associated with the fair value of financial instruments. This guidance is effective for fiscal years beginning after December 15, 2017. The recognition and measurement provisions of this guidance will be applied by means of a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption and early adoption is not permitted. The Company is in the process of evaluating this guidance, but its primary impact on the Company is expected to be the recognition of all unrealized gains and losses on available-for-sale equity securities in net income. Currently, all unrealized gains and losses on available-for-sale equity securities are recognized in other comprehensive income (loss).

 

In February 2016, the FASB issued updated guidance regarding leases that provides new requirements for leases to be recognized in the financial statements. In general, the guidance requires the lessee to recognize liabilities on the balance sheet for the obligation to make lease payments and an asset for the right to use the underlying assets for the lease term.  There is a differentiation between finance leases and operating leases for the lessee in the statements of operations and cash flows.  Finance leases recognize interest on the lease liability separately from the right to use the asset whereas an operating lease recognizes a single lease cost allocated over the lease term on a generally straight-line basis.  All cash payments are within operating activities in the statement of cash flows except finance leases classify repayments of the principal portion of the lease liability within financing activities. The updated guidance is to be applied using a modified retrospective approach effective for annual and interim periods beginning after December 15, 2018.  Early adoption is permitted.  The adoption of this guidance is not expected to have a material effect on the Company’s consolidated financial statements.

 

All other new accounting standards and updates of existing standards issued through the date of this filing were considered by management and did not relate to accounting policies and procedures pertinent to the Company at this time or were not expected to have a material impact to the consolidated financial statements.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

NOTE 2 - Investments

 

The Company limits credit risk by investing primarily in investment grade securities and by diversifying its investment portfolio among government and corporate bonds and mortgage loans. The Company manages its fixed income portfolio to diversify between and within industry sectors. Investments in available-for-sale securities at December 31 are summarized as follows:

 

2015		Amortized				Gross Unrealized				Gross Unrealized				Fair
		Cost				Gains				Losses				Value
Available-for-sale securities:
Fixed maturities:
U.S. government obligations		$	23,373,714			$	642,038			$	-			$	24,015,752
States and political subdivisions			36,830,198				4,511,826				136,585				41,205,439
Corporate			229,425,035				10,338,999				4,587,896				235,176,138
Foreign			65,010,084				1,731,076				4,682,638				62,058,522
Asset-backed securities			143,552				457				-				144,009
Mortgage-backed securities (MBS):
Commercial MBS			6,830,520				148,314				15,592				6,963,242
Residential MBS			37,200,599				1,776,233				62,255				38,914,577
Corporate redeemable preferred stock			711,915				-				42,787				669,128
Total fixed maturity securities			399,525,617				19,148,943				9,527,753				409,146,807
Equity securities:
U.S. agencies			707,900				-				-				707,900
Mutual funds			318,284				-				14,253				304,031
Corporate common stock			6,426,482				702,497				524,121				6,604,858
Total equity securities			7,452,666				702,497				538,374				7,616,789
Total		$	406,978,283			$	19,851,440			$	10,066,127			$	416,763,596

 

2014		Amortized					Gross Unrealized				Gross Unrealized			Fair
		Cost					Gains				Losses			Value
Available-for-sale securities:
Fixed maturities:
U.S. government obligations		$	28,063,178			$	820,997			$	16,164			$	28,868,011
States and political subdivisions			38,021,271				5,985,975				-				44,007,246
Corporate			224,299,411				15,669,733				930,632				239,038,512
Foreign			63,792,040				2,934,542				751,369				65,975,213
Asset-backed securities			1,432,996				33,501				-				1,466,497
Mortgage-backed securities (MBS):
Commercial MBS			7,869,355				266,831				-				8,136,186
Residential MBS			40,118,010				2,507,809				6				42,625,813
Total fixed maturity securities			403,596,261				28,219,388				1,698,171				430,117,478
Equity securities:
U.S. agencies			707,900				-				-				707,900
Mutual funds			318,284				40,038				-				358,322
Corporate common stock			5,305,252				1,157,718				123,373				6,339,597
Total equity securities			6,331,436				1,197,756				123,373				7,405,819
Total		$	409,927,697			$	29,417,144			$	1,821,544			$	437,523,297

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The following table summarizes, for all securities in an unrealized loss position at December 31, 2015 and 2014, the estimated fair value, pre-tax gross unrealized loss and number of securities by length of time that those securities have been continuously in an unrealized loss position.

 

		December 31, 2015												December 31, 2014
						Gross				Number								Gross				Number
		Estimated				Unrealized				of				Estimated				Unrealized				of
		Fair Value				Loss				Securities				Fair Value				Loss				Securities
Fixed maturities:
Less than 12 months:
States and political subdivisions		$	1,613,415			$	136,585				2			$	-			$	-				-
Corporate			55,039,213				3,873,158				52				12,473,068				508,818				7
Foreign			24,154,510				1,418,143				20				10,374,173				310,267				7
Commercial MBS			1,447,694				15,592				2				-				-				-
Residential MBS			3,320,890				62,255				2				16,862				6				1
Corporate redeemable
preferred stock			669,128				42,787				2				-				-				-
Greater than 12 months:
U.S. government obligations			-				-				-				7,736,774				16,164				1
Corporate			5,533,581				714,738				4				3,828,887				421,814				3
Foreign			6,007,156				3,264,495				4				4,724,455				441,102				2
Total fixed maturities			97,785,587				9,527,753				88				39,154,219				1,698,171				21
Equity securities:
Less than 12 months:
Mutual funds			304,031				14,253				1				-				-				-
Corporate common stock			2,449,672				473,551				15				527,614				103,438				4
Greater than 12 months:
Corporate common stock			183,960				50,570				3				525,865				19,935				4
Total equities			2,937,663				538,374				19				1,053,479				123,373				8
Total		$	100,723,250			$	10,066,127				107			$	40,207,698			$	1,821,544				29

 

At December 31, 2015, 97.4% of the fixed maturity portfolio had a fair value to amortized cost ratio of greater than 80%, and 93.4% of the equity securities portfolio had a fair value to cost ratio of greater than 80%. At December 31, 2015, 54.5% and 22.6% of the gross unrealized losses shown above were comprised of fixed maturity securities in the basic industrial sector and energy sector, respectively.  The majority of these unrealized losses were attributable to credit spread widening across the energy sector and metals/mining subsectors associated with sharp declines in commodity prices.  Energy-related companies have been negatively impacted by the rapid decline in oil prices, which has pressured revenues and margins.  The metal/mining sub-sector companies are experiencing lower demand for coal, copper, iron ore and other minerals due to the economic slowdown in China in addition to sluggish demand in the United States and Europe and tightening environmental regulation.

 

At December 31, 2015, the unrealized losses associated with our equity securities were primarily attributable to unrealized losses on real estate sector stocks.  The increase in unrealized losses is primarily due to equity market conditions at year end.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The Company’s decision to record an impairment loss is primarily based on whether the security’s fair value is likely to remain significantly below its book value in light of all the factors considered. Factors that are considered include the length of time the security’s fair value has been below its carrying amount, the severity of the decline in value, the credit worthiness of the issuer, and the coupon and/or dividend payment history of the issuer. The Company also assesses whether it intends to sell or whether it is more likely than not that it may be required to sell the security prior to its recovery in value. For any fixed maturity securities that are other-than-temporarily impaired, the Company determines the portion of the other-than-temporary impairment that is credit-related and the portion that is related to other factors. The credit-related portion is the difference between the expected future cash flows and the amortized cost basis of the fixed maturity security, and that difference is charged to earnings. The non-credit-related portion representing the remaining difference to fair value is recognized in other comprehensive income (loss). Only in the case of a credit-related impairment where management has the intent to sell the security, or it is more likely than not that it will be required to sell the security before recovery of its cost basis, is a fixed maturity security adjusted to fair value and the resulting losses recognized in realized gains/losses in the consolidated statements of income. Any other-than-temporary impairments on equity securities are recorded in the consolidated statements of income in the periods incurred as the difference between fair value and cost. Based on our review, the Company experienced no other-than-temporary impairments during the years ended December 31, 2015 or 2014.

 

Management believes that the Company will fully recover its cost basis in the securities held at December 31, 2015, and management does not have the intent to sell nor is it more likely than not that the Company will be required to sell such securities until they recover or mature. The temporary impairments shown herein are primarily the result of the current interest rate and economic environment rather than credit factors that would imply other-than-temporary impairment.

 

Net unrealized gains for investments classified as available-for-sale are presented below, net of the effect on deferred income taxes and deferred acquisition costs assuming that the appreciation had been realized.

 

		December 31
		2015				2014
Net unrealized appreciation on available-for sale securities		$	9,785,313			$	27,595,600
Adjustment to deferred acquisition costs			(249,401	)			(711,650	)
Deferred income taxes			(3,242,210	)			(9,140,543	)
Net unrealized appreciation on available-for sale securities		$	6,293,702			$	17,743,407

 

The amortized cost and fair value of debt securities at December 31, 2015, by contractual maturity, are presented below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

		Available-for-Sale
		Amortized				Fair
		Cost				Value
Due in one year or less		$	9,836,202			$	9,981,356
Due after one year through five years			90,063,962				96,190,461
Due after five years through ten years			183,395,618				180,028,828
Due after ten years			50,322,624				54,780,672
Due at multiple maturity dates			65,907,211				68,165,490
Total		$	399,525,617			$	409,146,807

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

Proceeds for the years ended December 31, 2015 and 2014 from sales and maturities of investments in available-for-sale securities, as well as gross gains and gross losses realized, are presented below.

 

		2015				2014
Proceeds from sales and maturities		$	37,200,703			$	46,446,460
Gross realized gains			939,423				974,260
Gross realized losses			(203,856	)			(263,628	)

 

Presented below is investment information, including the accumulated and annual change in net unrealized investment gains or losses. Additionally, the table shows the annual change in net unrealized investment gains (losses) and the amount of realized investment gains (losses) by investment type for the years ended December 31, 2015 and 2014.

 

 

		2015				2014
Change in net unrealized investment gains (losses):
Securities available-for-sale:
Fixed maturities		$	(16,900,027	)		$	11,008,303
Equity securities			(910,260	)			1,144,411
Net realized investment gains (losses):
Securities available-for-sale:
Fixed maturities		$	91,141			$	682,604
Equity securities			644,426				28,028
Mortgage loans on real estate			75,915				-
Investments in convertible options			7,223				-

 

The Company is required to hold assets on deposit for the benefit of policyholders in accordance with statutory rules and regulations. At December 31, 2015 and 2014, these required deposits had a total fair value of $22,899,132 and $23,951,372, respectively.

 

The Company also engages in commercial and residential mortgage lending. As of December 31, 2015, investments in commercial and residential properties comprised 32.1% and 67.9%, respectively, of the Company’s mortgage portfolio. At December 31, 2014, investments in commercial and residential properties comprised 41.9% and 58.1%, respectively, of the Company’s mortgage portfolio.

 

All commercial mortgage loans as well as residential apartment building loans are either originated in-house or through two mortgage brokers, are secured by first mortgages on the real estate and generally carry personal guarantees by the borrowers. Loan-to-value ratios of 80% or less and debt service coverage from existing cash flows of 115% or higher are generally required. We minimize credit risk in our mortgage loan portfolio through various methods, including stringently underwriting the loan request, maintaining small average loan balances, and reviewing larger mortgage loans on an annual basis.

 

The Company purchases single family residential mortgage loans through the secondary market. Each mortgage loan opportunity is reviewed individually, considering both the value of the underlying property and the credit worthiness of the borrower. We utilize third party servicers to administer these loans.

 

As of December 31, 2015 and 2014, there were no non-performing mortgage loans, loans on nonaccrual status, loans 90 days past due or more, loans in process of foreclosure, or restructured loans. The Company experienced no mortgage loan defaults during 2015 or 2014.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The Company’s investments in mortgage loans, by state, are as follows:

 

		December 31
		2015				2014
Illinois		$	6,046,408			$	3,392,446
Texas			5,694,612				2,290,700
Florida			3,906,034				6,047,236
California			3,366,434				4,806,451
Kentucky			3,241,793				3,492,854
Georgia			2,671,788				3,123,530
Ohio			1,692,354				1,805,093
Missouri			1,342,845				267,996
Tennessee			895,607				1,054,671
Arizona			774,060				927,600
Indiana			759,139				95,434
West Virginia			412,250				440,725
Nevada			373,359				-
Pennsylvania			370,323				-
North Carolina			353,275				359,308
New Jersey			247,723				252,612
South Carolina			225,881				248,815
Colorado			222,364				225,772
Massachusetts			205,469				239,399
Idaho			159,073				174,433
Kansas			135,401				136,442
Utah			77,939				77,919
Total		$	33,174,131			$	29,459,436

 

At December 31, 2015, the Company held various real estate investments for the production of income totaling $1,126,649, which is reported net of accumulated depreciation of $586,762. At December 31, 2014, the Company’s real estate investments totaled $1,123,089, net of accumulated depreciation of $561,459.

 

The Company owns certain investments in state-guaranteed receivables. These investments represent an assignment of the future rights to cash flows from lottery winners purchased at a discounted price. Payments on these investments are made by state run lotteries and guaranteed by the states. At December 31, 2015, the amortized cost and estimated fair value of state-guaranteed receivables, by contractual maturity, are summarized as follows:

 

		State-Guaranteed Receivables
		Amortized				Fair
		Cost				Value
Due in one year or less		$	763,177			$	772,746
Due after one year through five years			2,663,392				2,898,690
Due after five years through ten years			3,014,588				3,688,548
Due after ten years			1,251,802				1,734,950
Total		$	7,692,959			$	9,094,934

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The outstanding balance of state-guaranteed receivables, by state, as of December 31, 2015 and 2014 is summarized as follows:

 

		December 31
		2015				2014
New York		$	3,496,115			$	3,694,805
Massachusetts			1,991,601				1,969,570
Georgia			1,432,022				1,467,774
Pennsylvania			294,968				299,851
Texas			243,939				227,649
California			180,143				188,131
Ohio			54,171				69,599
Total		$	7,692,959			$	7,917,379

 

During the third quarter of 2015, the Company began purchasing investments in convertible fixed maturity securities. Convertible securities feature an option allowing for a portion of the security to be converted into an equity position of the underlying issuer in exchange for a lower coupon rate. In accordance with FASB accounting guidance, this convertible feature must be bifurcated and reported separately on the balance sheet at fair value, with adjustments in fair value recognized in the income statement. Accordingly, the convertible options within our portfolio are reported as investments in convertible options on the balance sheet, and the mark-to-market adjustment associated with the changes in fair value of the convertible options are reported as gains (losses) on investments in convertible options as a component of net investment income. As of December 31, 2015, the total fair value of our investments in convertible options was $957,405. For the year ended December 31, 2015, we recognized a gain on our investments in convertible options of $102,342 relative to the mark-to-market adjustment. Additionally, we recognized net realized investment gains of $7,223 upon the exchange of convertible securities.

 

Major categories of net investment income are summarized as follows:

 

		2015				2014
Fixed maturities		$	18,296,411			$	18,957,838
Equity securities			295,368				270,306
Mortgage loans on real estate			2,316,721				1,497,721
Policy loans			494,299				478,712
State-guaranteed receivables			545,120				557,812
Gain on investments in convertible options			102,342				-
Other			219,037				232,606
Gross investment income			22,269,298				21,994,995
Investment expenses			1,031,985				832,260
Net investment income		$	21,237,313			$	21,162,735

 

 

NOTE 3 - Fair Values of Financial Instruments

 

The fair value of a financial instrument is the estimated amount at which the instrument could be exchanged in an orderly transaction between knowledgeable, unrelated, willing parties, i.e., not in a forced transaction.  The estimated fair value of a financial instrument may differ from the amount that could be realized if the security was sold in an immediate sale, e.g., a forced transaction.  Additionally, the valuation of investments is more subjective when markets are less liquid due to the lack of market based inputs, which may increase the potential that the estimated fair value of an investment is not reflective of the price at which an actual transaction would occur.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The Company holds fixed maturities and equity securities that are measured and reported at fair market value on the balance sheet. The Company is also required to disclose fair value estimates for other financial instruments not required to be carried at market value on the balance sheet. The Company determines the fair market values of its financial instruments based on the fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value, as follows:

 

Level 1     -     Quoted prices in active markets for identical assets or liabilities.

 

Level 2     -     Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

Level 3     -     Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. The unobservable inputs reflect the Company’s own assumptions about the inputs that market participants would use.

 

The Company has categorized its financial instruments, based on the priority of the inputs to the valuation technique, into the three-level fair value hierarchy. If the inputs used to measure the financial instruments fall within different levels of the hierarchy, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument. A review of fair value hierarchy classifications is conducted on a quarterly basis. Changes in the valuation inputs, or their ability to be observed, may result in a reclassification for certain financial assets or liabilities. Reclassifications impacting Level 3 of the fair value hierarchy are reported as transfers in/out of the Level 3 category as of the beginning of the period in which the reclassifications occur.

 

Valuation of Investments Reported at Fair Value in Financial Statements

 

The Company’s Level 1 investments include equity securities that are traded in an active exchange market, as well as one U.S. agency equity security whose value is set by government statute.

 

The Company’s Level 2 investments include fixed maturities with quoted prices that are traded less frequently than exchange-traded instruments or instruments whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes the majority of our fixed maturities, where fair values are obtained from a nationally recognized, third-party pricing service as well as our investments in convertible options. These options are bifurcated from the underlying fixed maturity investments and are also valued using observable market data.

 

The Company’s Level 3 investments include financial instruments whose value cannot be obtained through a pricing service and must be determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. This category currently includes one private equity investment where independent pricing inputs were not able to be obtained. For fixed maturities that may fall within this level, the Company utilizes the assistance of its third-party investment advisor to estimate the fair value based on non-binding broker quotes and internal models using unobservable assumptions about market participants. For the private equity investment, the Company establishes fair value based on the most recent trading activity as well as a review of the underlying financial statements of the entity.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The following table presents the Company’s fair value hierarchy for those financial instruments measured and reported at fair value on a recurring basis as of December 31, 2015 and 2014.

 

		December 31, 2015
		Level 1				Level 2				Level 3				Total
U.S. government obligations		$	-			$	24,015,752			$	-			$	24,015,752
States and political subdivisions			-				41,205,439				-				41,205,439
Corporate			-				235,176,138				-				235,176,138
Foreign			-				62,058,522				-				62,058,522
Asset-backed securities			-				144,009				-				144,009
Mortgage-backed securities:
Commercial MBS			-				6,963,242				-				6,963,242
Residential MBS			-				38,914,577				-				38,914,577
Corporate redeemable preferred stock			-				669,128				-				669,128
Total fixed maturities		$	-			$	409,146,807			$	-			$	409,146,807
U.S. agencies		$	707,900			$	-			$	-			$	707,900
Mutual funds			304,031				-				-				304,031
Corporate common stock			6,252,858				-				352,000				6,604,858
Total equity securities		$	7,264,789			$	-			$	352,000			$	7,616,789
Investments in convertible options		$	-			$	957,405			$	-			$	957,405

 

		December 31, 2014
		Level 1				Level 2				Level 3				Total
U.S. government obligations		$	-			$	28,868,011			$	-			$	28,868,011
States and political subdivisions			-				44,007,246				-				44,007,246
Corporate			-				239,038,512				-				239,038,512
Foreign			-				65,975,213				-				65,975,213
Asset-backed securities			-				1,466,497				-				1,466,497
Mortgage-backed securities:
Commercial MBS			-				8,136,186				-				8,136,186
Residential MBS			-				42,625,813				-				42,625,813
Total fixed maturities		$	-			$	430,117,478			$	-			$	430,117,478
U.S. agencies		$	707,900			$	-			$	-			$	707,900
Mutual funds			358,322				-				-				358,322
Corporate common stock			5,955,597				-				384,000				6,339,597
Total equity securities		$	7,021,819			$	-			$	384,000			$	7,405,819

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The following table provides a summary of changes in fair value of our Level 3 financial instruments for the years ended December 31, 2015 and 2014.

 

 

		Year Ended December 31
		2015				2014
Corporate common stock:
Beginning balance		$	384,000			$	384,000
Transfers into Level 3			-				-
Transfers out of Level 3			-				-
Purchases			-				-
Sales			-				-
Total gains or losses:
Included in earnings			-				-
Included in other comprehensive income (loss)			(32,000	)			-
Ending balance		$	352,000			$	384,000

 

The Company experienced no transfers between Level 1 and Level 2 during the years ended December 31, 2015 or 2014. The Company experienced no transfers between Level 2 and Level 3 during the years ended December 31, 2015 or 2014. Transfers in and/or (out) of Level 3 are primarily attributable to changes in the availability of market observable information and re-evaluation of the observability of pricing inputs.

 

The unrealized gains (losses) on Level 3 investments are recorded as a component of accumulated other comprehensive income (loss), net of tax, in accordance with required accounting for our available-for-sale portfolio.

 

Financial Instruments Disclosed, but not Carried, at Fair Value

 

The following disclosure presents the carrying values and estimated fair values of the Company’s financial instruments disclosed, but not carried, at fair value as of December 31, 2015 and 2014, and the level within the fair value hierarchy at which such assets and liabilities are measured on a recurring basis. The fair values for insurance contracts other than investment-type contracts are not required to be disclosed. The estimated fair value amounts have been determined using available market information and appropriate valuation methodologies. However, considerable judgment was required to interpret market data to develop these estimates. Accordingly, the estimates are not necessarily indicative of the amounts which could be realized in a current market exchange. The use of different market assumptions or estimation methodologies may have a material effect on the fair value amounts.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

		December 31, 2015
		Carrying				Fair
		Amount				Value				Level 1				Level 2				Level 3
Assets:
Mortgage loans on real estate:
Commercial		$	10,655,107			$	11,080,145			$	-			$	-			$	11,080,145
Residential			22,519,024				24,679,435				-				-				24,679,435
Policy loans			6,702,911				6,702,911				-				-				6,702,911
State-guaranteed receivables			7,692,959				9,094,934				-				9,094,934				-
Other invested assets			2,379,451				2,379,451				-				-				2,379,451
Cash and cash equivalents			3,619,663				3,619,663				3,619,663				-				-
Accrued investment income			5,149,612				5,149,612				-				-				5,149,612
Cash value of company-owned life insurance			13,191,773				13,191,773				-				-				13,191,773
Liabilities:
Policyholder deposits (Investment-type contracts)			52,694,746				53,880,242				-				-				53,880,242
Policy claims			2,584,088				2,584,088				-				-				2,584,088
Obligations under capital leases			377,259				377,259				-				-				377,259
Notes payable			1,433,448				1,433,448				-				-				1,433,448

 

		December 31, 2014
		Carrying				Fair
		Amount				Value				Level 1				Level 2				Level 3
Assets:
Mortgage loans on real estate:
Commercial		$	12,961,492			$	13,693,557			$	-			$	-			$	13,693,557
Residential			16,497,944				18,392,927				-				-				18,392,927
Policy loans			6,665,493				6,665,493				-				-				6,665,493
State-guaranteed receivables			7,917,379				9,719,006				-				9,719,006				-
Other invested assets			3,270,848				3,270,848				-				-				3,270,848
Cash and cash equivalents			1,870,867				1,870,867				1,870,867				-				-
Accrued investment income			5,190,740				5,190,740				-				-				5,190,740
Cash value of company-owned life insurance			12,441,833				12,441,833				-				-				12,441,833
Liabilities:
Policyholder deposits (Investment-type contracts)			53,318,598				55,486,262				-				-				55,486,262
Policy claims			2,821,106				2,821,106				-				-				2,821,106
Obligations under capital leases			553,028				553,028				-				-				553,028
Notes payable			2,508,576				2,508,576				-				-				2,508,576

 

The following methods and assumptions were used in estimating the fair value disclosures for financial instruments in the accompanying consolidated financial statements and notes thereto:

 

Mortgage loans on real estate: The fair values for mortgage loans are estimated using discounted cash flow analyses. For commercial mortgage loans, the discount rate was assumed to be the interest rate of the last commercial mortgage acquired by the Company. For residential mortgage loans, the discount rate was assumed to be the average yield on recent purchases less an expense factor.

 

State-guaranteed receivables: The fair values for state-guaranteed receivables are estimated using discounted cash flow analyses, using the average Citigroup Pension Liability Index in effect at the end of each period.

 

Cash and cash equivalents: The carrying amounts reported for these financial instruments approximate their fair values given the highly liquid nature of the instruments.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

Cash value of company-owned life insurance: The carrying values and fair values for these policies are based on the current cash surrender values of the policies.

 

Investment-type contracts: The fair value for liabilities under investment-type insurance contracts (accumulation annuities) is calculated using a discounted cash flow approach. Cash flows are projected using actuarial assumptions and discounted to the valuation date using risk-free rates adjusted for credit risk and the nonperformance risk of the liabilities.

 

Notes payable: The fair values for notes payable with floating interest rates and promissory notes approximate the unpaid principal balances on such notes.

 

Policy loans, other invested assets, accrued investment income, policy claims and obligations under capital leases: The carrying values of these instruments approximate their fair values and are disclosed in Level 3 of the hierarchy.

 

NOTE 4 - Federal Income Taxes

 

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred tax liabilities and assets as of December 31 are as follows:

 

		2015				2014
Deferred tax liabilities:
Policy acquisition costs		$	2,675,908			$	2,954,747
Net unrealized gain on available-for-sale securities			3,242,210				9,140,543
Due premiums			957,825				1,068,415
Other			695,201				861,193
Total deferred tax liabilities			7,571,144				14,024,898
Deferred tax assets:
Benefit reserves, net of reinsurance			3,137,466				3,229,901
Other policyholder funds			363,106				376,530
AMT credit carryforwards			565,828				511,673
Accrued pension liability			2,065,628				1,748,090
Other			333,340				373,254
Total deferred tax assets			6,465,368				6,239,448
Net deferred tax liabilities		$	1,105,776			$	7,785,450

 

The Company periodically reviews its gross deferred tax assets for recoverability. At December 31, 2015 and 2014, the Company is able to demonstrate that the benefit of its gross deferred tax assets is fully recoverable.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The reconciliation of income tax attributable to operations computed at the federal statutory tax rate to income tax expense is as follows:

 

		2015				2014
Statutory federal income tax rate			34.0	%			34.0	%
Small life insurance company deduction			(19.2	)			(2.5	)
Dividends-received deduction			(2.7	)			(1.4	)
Defined contribution plan dividend			(2.3	)			(1.3	)
Nondeductible COLI expense			(16.3	)			(7.2	)
Nontaxable COLI life insurance proceeds			(7.7	)			(2.8	)
Nondeductible travel & meals expense			2.5				1.3
True-up of provision to actual			1.7				4.4
Other			(4.7	)			0.8
Effective income tax rate			(14.7	)%			25.3	%

 

We file U.S. federal income tax returns and income tax returns in various state jurisdictions. Our 2012 through 2015 U.S. federal tax years remain subject to income tax examination by tax authorities. We have no known uncertain tax benefits within our provision for income taxes. In addition, we do not believe the Company will be subject to any penalties or interest relative to any open tax years and, therefore, have not accrued any such amounts. However, should such a circumstance arise, it is our policy to classify any interest and penalties (if applicable) as income tax expense in the consolidated financial statements.

 

NOTE 5 - Notes Payable

 

During the first quarter of 2015, the Company renewed the Investors Heritage Capital Corporation operating line of credit and the At Need Funding line of credit. The Investors Heritage Capital Corporation line of credit remains at $150,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, with a floor of 3.25%. The At Need Funding line of credit was increased to $1,500,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, which is currently 3.50%. This line of credit is used for the purpose of funding at-need funerals secured by the assignment of verified, incontestable life insurance policies.

 

On November 25, 2014, Investors Heritage Capital entered into a line of credit agreement for $1,500,000, maturing on November 25, 2016. This line of credit is designated for the purpose of funding the purchase of agent debit balance receivables from Investors Heritage Life. These agent debit balance receivables will be purchased by Investors Heritage Capital at a discount with servicing retained by Investors Heritage Life. Borrowings under the line of credit will be collateralized by the agent debit balances. This line of credit requires interest to be paid monthly at the prime rate. We have not yet borrowed any amounts under this line of credit.

 

On November 5, 2012, the Company entered into a loan agreement to borrow $2,000,000 in order to fund a credit agreement to Puritan Financial Companies, Inc. On November 25, 2014, this note was amended to extend the maturity date to November 25, 2019 to correlate with an amendment to the Puritan promissory note and marketing agreement, as discussed further below. The amended loan agreement calls for interest to be paid quarterly at a rate of 0.25% under the prime rate. The note requires monthly principal payments of at least $15,000 beginning December 5, 2014 with a balloon payment upon maturity. There is no penalty for prepayment. This note is collateralized with 55,000 shares of Investors Heritage Life Insurance Company common stock.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The borrowed funds were utilized to fund a credit agreement to Puritan Financial Companies, Inc. for $2,000,000, with interest at a rate of 1.75% above the prime rate. The promissory note and the marketing agreement with Puritan Financial Group were amended on August 28, 2014 to extend the maturity date to August 28, 2019. These amendments allow the Company to withhold 15% of Puritan Financial’s earned commissions on certain products to pay down the note. Additionally, the amended note calls for quarterly payments of principal and interest and requires Puritan Financial to pay at least $400,000 annually toward the outstanding balance of the note from 2015 until the balance is paid in full. Any unpaid principal balance together with all accrued interest shall be due and payable with a balloon payment upon maturity. Under this credit agreement, Puritan Financial Companies, Inc. and its wholly-owned subsidiary Puritan Financial Group have committed to an increased level of new business production on behalf of the Company. Additionally, Puritan Financial Companies, Inc. has issued warrants for 2,000,000 shares of common stock to the Company in exchange for this funding. This note is further collateralized by all the stock and other assets of Puritan Financial Companies, Inc. and each of its affiliated companies. Puritan Financial Companies, Inc. has another credit facility with a senior lender and the Company has a subordinate interest to the senior lender in all of the collateral which is security for this loan. The outstanding balance on this note receivable, which is included within other invested assets on the balance sheet, was $1,450,830 and $1,860,043 at December 31, 2015 and 2014, respectively.

 

On February 3, 2005, Investors Heritage Capital borrowed $3,650,000 to finance the purchase of certain home office property previously owned by Investors Heritage Life at a purchase price of $3,650,000. The proceeds received by Investors Heritage Life were used to repay their surplus notes to Investors Heritage Capital. Additionally, Investors Heritage Capital used such proceeds to repay the $3,000,000 bank note outstanding at December 31, 2004. This transaction was approved by the Kentucky Department of Insurance. The balance on this note was paid in full during 2014. Interest expense and interest paid on this note during 2014 were $15,795 and $18,164, respectively.

 

Information relative to the Company’s outstanding notes payable at December 31, 2015 and 2014 is as follows:

 

2015		Outstanding				Current			Maturity		Interest				Interest
		Principal				Interest Rate			Date		Expense				Paid
At Need Funding line of credit		$	59,484				3.50	%	3/24/2017		$	19,301			$	20,002
Bank note			1,373,964				3.25	%	11/25/2019			32,186				35,194

 

2014		Outstanding				Current			Maturity		Interest				Interest
		Principal				Interest Rate			Date		Expense				Paid
At Need Funding line of credit		$	727,566				3.25	%	9/25/2015		$	20,887			$	20,641
Bank note			1,781,010				3.00	%	11/25/2019			58,308				59,270

 

We assess our compliance with prescribed debt covenant requirements as outlined in the terms of each debt agreement at least annually, if not otherwise required in the debt agreement. Management has assessed our position as of December 31, 2015, and we are in compliance with all debt covenant requirements.

 

NOTE 6 - Employee Benefit Plans

The Company sponsors the IHCC Employee Retirement Plan (the “Pension Plan”), which is a noncontributory defined benefit pension plan that was frozen in 2012 with respect to new benefit accruals. Participants in the plan at the time it was frozen may still continue to earn vesting credit towards their Pension Plan benefit.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The following table provides additional details relative to the Pension Plan as of December 31.

 

		2015				2014
Change in projected benefit obligation:
Benefit obligation at beginning of year		$	24,975,342			$	21,315,600
Service cost			-				-
Interest cost			890,263				1,045,055
Actuarial (gain) loss			(5,930	)			3,687,960
Benefits paid			(1,167,798	)			(1,073,273	)
Benefit obligation at end of year			24,691,877				24,975,342
Change in plan assets:
Fair value of plan assets at beginning of year			19,833,900				18,427,757
Actual return on plan assets			(349,601	)			1,654,416
Employer contributions			300,000				825,000
Benefits paid			(1,167,798	)			(1,073,273	)
Fair value of plan assets at end of year			18,616,501				19,833,900
Funded status			(6,075,376	)			(5,141,442	)
Unrecognized net actuarial loss			8,388,698				7,634,982
Net amount recognized as prepaid benefit cost		$	2,313,322			$	2,493,540
Components of net periodic benefit cost:
Service cost		$	-			$	-
Interest cost			890,263				1,045,055
Expected return on plan assets			(1,172,278	)			(1,197,674	)
Amortization of net (gain) loss			762,233				390,413
Net periodic benefit cost		$	480,218			$	237,794
Accumulated benefit obligation		$	24,691,877			$	24,975,342

 

 

The portion of the accrued pension liability included in accumulated other comprehensive income at December 31, 2015 is $8,388,698, which has been recorded net of related tax of $2,852,157. The portion of the accrued pension liability included in accumulated other comprehensive income at December 31, 2014 is $7,634,982, which has been recorded net of related tax of $2,595,894. These amounts are solely the result of unamortized actuarial net losses not yet amortized into income.

 

The estimated net loss that will be amortized from accumulated other comprehensive income (loss) into net periodic benefit cost during 2016 is $737,174.

 

Actuarial assumptions used at December 31, 2015 and 2014 to determine benefit obligations and net periodic benefit cost are as follows:

 

		December 31
		2015				2014
Discount rate			4.20	%			3.75	%
Expected return on plan assets			6.25	%			6.50	%

 

The long-term rate of return for plan assets is determined based on an analysis of historical returns on invested assets, anticipated future fixed income, equity investment markets, and diversification needs. Long term trends are evaluated relative to current market factors such as inflation, interest rates and investment strategies, including risk management, in order to assess the assumptions as applied to the plan.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The Company employs a conservative investment strategy whereby the majority of invested assets are held in appropriate investments for defined benefit pension plans, including a small portion of plan assets held in common stock of the Company. The Company uses an independent third party to administer its retirement plan. Plan assets are held in a trust account and include a diversified assortment of pooled separate accounts as well as Company common stock. The fair value of plan assets as of December 31, 2015 and 2014 are as follows:

 

		December 31
		2015				2014
Pooled separate accounts		$	18,029,051			$	19,168,950
Company common stock - 31,000 shares			587,450				664,950

 

Pooled separate accounts held by the Pension Plan at December 31, 2015 and 2014 are considered Level 2 assets and are valued at the net asset value (“NAV”) of units held by the Pension Plan at year end. The NAV is determined by dividing the net assets, at fair value, of the fund by the number of units outstanding on the day of valuation.  Pooled separate accounts are comprised, primarily, of shares of registered investment companies held through subaccounts of a separate account of an insurance company. The NAV as adjusted (for mutual fund dividends, mutual fund splits and administrative maintenance charges and other items) and reported by the insurance company approximates fair value of the investments. The investments are redeemable at the adjusted NAV under agreements with the insurance company.  However, it is possible that the redemption rights may be restricted or eliminated in the future. Due to the nature of the investments, changes in the market conditions, liquidity requirements, and the economic environment may significantly affect the NAV of the registered investment companies and, consequently, the fair value of the Pension Plan's investments.

 

Shares of Company common stock held by the plan at December 31, 2015 and 2014 are considered Level 2 assets and are valued based on observable inputs, such as quoted prices in markets with limited activity. Dividends of $6,510 and $6,200 were paid to the plan in 2015 and 2014, respectively, on the Company common stock. The plan made no purchases or sales of Company common stock during 2015 or 2014.

 

A summary of the allocation of plan assets by investment type as of December 31, 2015 and 2014 is as follows:

 

		December 31
		2015				2014
Fixed income pooled separate accounts			68	%			67	%
Equity pooled separate accounts			29	%			30	%
Company common stock			3	%			3	%

 

The Company expects to contribute approximately $300,000 to its pension plan in 2016.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The following estimated future benefit payments are expected to be paid:

 

			Pension Benefits
2016			$	2,220,000
2017				1,350,000
2018				1,340,000
2019				1,390,000
2020				1,670,000
2021-2025				8,170,000

 

The Company sponsors a 401(k) defined contribution plan known as the IHCC Retirement Savings Plan and Trust (the “Old 401(k) Plan”), which was frozen in 2012 relative to allowable new contributions. The only remaining investments held within the Old 401(k) Plan consist of Company stock. Upon distribution of the Company stock by the Old 401(k) Plan, the participant has the right to hold the stock, sell the stock on the open market, subject to a right of first refusal in favor of the Company, or sell the stock back to the Company at its then fair market value as determined by an independent appraiser.  Under the put option, the Company has the right to purchase the stock in substantially equal annual installments over a period not exceeding five years.

 

The Company also sponsors a traditional 401(k) retirement plan, the IHCC 401(k) Retirement Plan (the “Retirement Plan”). Employees are eligible to participate in the Retirement Plan on the first day of employment. Under the Retirement Plan, the Company matches employee contributions dollar for dollar up to 4% of employee compensation deferrals. Employees who have met certain employment criteria may also be eligible to receive an additional allocation after the end of each plan year.

 

Information relative to the assets within both the Old 401(k) Plan and the Retirement Plan as of December 31, 2015 and 2014, along with employer contributions expensed and dividends paid on Company stock for the years then ended, are as follows:

  

		December 31
		2015				2014
Old 401(k) Plan
Company common stock:
Shares held			276,590				294,467
Fair value		$	5,241,377			$	6,316,313
Retirement Plan
Mutual funds - fair value		$	2,979,588			$	2,119,209

 

		For the Year Ended December 31
		2015				2014
Old 401(k) Plan
Employer contributions		$	-			$	-
Dividends on Company stock			61,838				66,312
Retirement Plan
Employer contributions		$	453,576			$	466,926

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

In addition, the Company sponsors a deferred compensation plan for selected executive officers. Information relative to the assets within the deferred compensation plan as of December 31, 2015 and 2014, along with employer contributions expensed and dividends paid on Company stock for the years then ended, are as follows:

 

 

		December 31
		2015				2014
Company common stock:
Shares held			27,350				21,020
Fair value		$	518,292			$	450,889
Mutual funds - fair value			80,666				140,770
Cash and cash equivalents			6,227				5,816

 

		For the Year Ended December 31
		2015				2014
Employer contributions		$	50,263			$	35,010
Dividends on Company stock			4,340				4,164

 

NOTE 7 - Stockholders' Equity and Dividend Restrictions

 

Statutory restrictions limit the amount of dividends which may be paid by Investors Heritage Life. Generally, dividends during any year may not be paid, without prior regulatory approval, in excess of the lesser of (a) 10 percent of statutory surplus as of the preceding December 31, or (b) statutory net gain from operations for the preceding year. For 2016, the maximum dividend that Investors Heritage Life can pay to Investors Heritage Capital without regulatory approval is $688,465.

 

NOTE 8 - Statutory Accounting Practices

 

Investors Heritage Life's statutory-basis capital and surplus was $21,202,435 and $20,868,262 at December 31, 2015 and 2014, respectively. Statutory-basis net income was $1,267,672 and $848,303 for 2015 and 2014, respectively.

 

Principal adjustments to statutory amounts to derive GAAP amounts include: a) costs of acquiring new policies are deferred and amortized; b) benefit reserves are calculated using more realistic investment, mortality and withdrawal assumptions; c) changes in deferred taxes associated with timing differences are recorded in net income rather than directly to equity; d) value of business acquired and goodwill established for acquired companies differ from admitted statutory goodwill; e) accounting for certain investments in debt securities is at fair value with unrealized gains and losses reported as a separate component of equity; f) statutory asset valuation reserves and interest maintenance reserves are eliminated; and g) convertible option components of certain fixed maturities are bifurcated and recorded at market value with changes in market value recorded in the income statement.

 

NOTE 9 - Segment Data

 

The Company operates in four segments. All segments include both individual and group insurance. Identifiable revenues, expenses and assets are assigned directly to the applicable segment. Net investment income, realized gains and losses, and invested assets are generally allocated to the insurance and the corporate segments in proportion to policy liabilities and stockholders' equity, respectively. Certain assets, such as property and equipment and leased property under capital leases, are allocated between the administrative and financial services segment and the corporate and other segment. Investors Heritage Financial revenue and income associated with credit administrative services is assigned to the administrative and financial services segment, along with fees relative to third party administrative services. Any remaining revenue and income is assigned to the corporate and other segment. Results for the parent company, Investors Heritage Printing, At Need Funding and Heritage Funding, after elimination of intercompany amounts, are allocated to the corporate and other segment.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

Information relative to our operating segments is as follows:

 

		2015				2014
		(000's omitted)
Revenue:
Preneed and burial products		$	48,894			$	47,445
Traditional and universal life products			16,746				21,226
Administrative and financial services			1,357				1,244
Corporate and other			1,180				983
Total		$	68,177			$	70,898
Pre-tax income (loss) from operations:
Preneed and burial products		$	(496	)		$	(34	)
Traditional and universal life products			742				1,286
Administrative and financial services			274				284
Corporate and other			384				160
Total		$	904			$	1,696
Assets:
Preneed and burial products		$	374,793			$	375,219
Traditional and universal life products			123,823				120,377
Administrative and financial services			9,706				9,496
Corporate and other			61,716				80,121
Total		$	570,038			$	585,213
Amortization and depreciation expense:
Preneed and burial products		$	5,641			$	5,458
Traditional and universal life products			1,538				1,987
Administrative and financial services			214				278
Corporate and other			310				373
Total		$	7,703			$	8,096

 

Included in the corporate and other revenue and pre-tax income above and as a component of other income in the consolidated statement of income for the years ended December 31, 2015 and 2014 are $203,451 and $141,907, respectively, of net life insurance proceeds received under a company-owned life insurance policy upon the death of a former employee and former board member.

 

NOTE 10 - Reinsurance

 

The Company ceded 100% of the risks associated with its credit life and accident insurance written during 2015 and 2014 through coinsurance agreements with various companies. The Company administers the ceded credit life and accident insurance for an agreed-upon fee. During 2015 and 2014, the Company received $223,994 and $242,327, respectively, of fee income associated with these reinsurance arrangements, which is recognized in the administrative and financial services segment in the preceding table in Note 9. Ceded claim reserves associated with these reinsurance arrangements at December 31, 2015 and 2014 were $1,396,448 and $1,544,874, respectively. Additionally, unearned premium reserves were reduced by $8,117,461 and $7,810,299 at December 31, 2015 and 2014, respectively, for credit-related reinsurance transactions. The Company utilizes yearly renewable term reinsurance to cede life insurance coverage in excess of its retention limit.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

Investors Heritage Life cedes 85% of life and annuity policy obligations assumed from Franklin American Life Insurance Company to Scottish Annuity and Life Insurance Company (Cayman) Ltd. Benefit reserves ceded to Scottish and included in the amounts recoverable from reinsurers approximated $18,522,000 and $19,806,000 at December 31, 2015 and 2014, respectively. An escrow account has been established by Scottish to secure Investors Heritage Life's ceded benefit obligations.

 

Investors Heritage Life coinsures policy obligations written through its relationship with Puritan Financial Group to Puritan Life Insurance Company of America (“Puritan”). This reinsurance agreement was terminated with respect to new business effective July 31, 2015, after which time the Company now maintains 100% of direct new business produced under the marketing agreement. Benefit reserves ceded to Puritan and included in the amounts recoverable from reinsurers approximated $18,261,000 and $16,931,000 at December 31, 2015 and 2014, respectively. Puritan maintains a trust account in Kentucky to secure Investors Heritage Life's ceded benefit obligations.

 

Investors Heritage Life assumes 75% of the risks on certain policies sold by Puritan and Sterling Investors Life Insurance Company. The products being assumed are identical to the Heritage Solution and Heritage Provider products currently being written by Investors Heritage Life. However, these reinsurance arrangements allow us to participate in the profitability of these products in certain states where we are not currently marketing. These reinsurance agreements were also terminated with respect to new business effective July 31, 2015. Premiums assumed under these agreements totaled approximately $753,000 and $3,310,000 for the years ended December 31, 2015 and 2014, respectively. Benefit reserves assumed under these agreements totaled approximately $11,267,000 and $10,991,000 at December 31, 2015 and 2014, respectively.

 

Reinsurance ceded and assumed amounts included in the consolidated statements of income are as follows:

 

		2015				2014
Premiums ceded		$	12,511,080			$	13,687,074
Premiums assumed			781,863				3,346,657
Commission and expense allowances			4,457,058				3,443,836
Benefit recoveries			8,414,608				7,703,390

 

The Company remains contingently liable on all ceded insurance should any reinsurer be unable to meet their obligations.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

NOTE 11 – Other Comprehensive Income

 

The following tables present the pretax components of the Company’s other comprehensive income, and the related income tax expense (benefit) for each component, for the years ended December 31, 2015 and 2014.

 

		Year Ended December 31, 2015
						Income Tax
						Expense
		Pretax				(Benefit)				Net of Tax
Other comprehensive loss:
Change in net unrealized gains on available-for-sale securities:
Unrealized holding losses arising during period		$	(17,074,720	)		$	(5,805,405	)		$	(11,269,315	)
Reclassification adjustment for gains included in income			(735,567	)			(250,093	)			(485,474	)
Adjustment for effect of deferred acquisition costs			462,249				157,165				305,084
Net unrealized losses on investments			(17,348,038	)			(5,898,333	)			(11,449,705	)
Change in defined benefit pension plan:
Actuarial net loss on pension plan			(1,515,949	)			(515,422	)			(1,000,527	)
Amortization of actuarial net loss in net periodic pension cost			762,233				259,159				503,074
Net change in defined benefit pension plan			(753,716	)			(256,263	)			(497,453	)
Total other comprehensive loss		$	(18,101,754	)		$	(6,154,596	)		$	(11,947,158	)

 

		Year Ended December 31, 2014
						Income Tax
						Expense
		Pretax				(Benefit)				Net of Tax
Other comprehensive income:
Change in net unrealized gains on available-for-sale securities:
Unrealized holding gains arising during period		$	12,863,346			$	4,356,021			$	8,507,325
Reclassification adjustment for gains included in income			(710,632	)			(224,098	)			(486,534	)
Adjustment for effect of deferred acquisition costs			(293,231	)			(99,699	)			(193,532	)
Net unrealized gains on investments			11,859,483				4,032,224				7,827,259
Change in defined benefit pension plan:
Actuarial net loss on pension plan			(3,231,218	)			(1,098,614	)			(2,132,604	)
Amortization of actuarial net loss in net periodic pension cost			390,413				132,740				257,673
Net change in defined benefit pension plan			(2,840,805	)			(965,874	)			(1,874,931	)
Total other comprehensive income		$	9,018,678			$	3,066,350			$	5,952,328

 

Realized gains and losses on the sales of investments are determined based upon the specific identification method and include provisions for other-than-temporary impairments where appropriate.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

The change in the components of the Company’s accumulated other comprehensive income for the years ended December 31, 2015 and 2014 are as follows:

 

		Unrealized Gains				Defined				Accumulated
		(Losses) on				Benefit				Other
		Available-For-Sale				Pension				Comprehensive
		Securities				Plans				Income
For the year ended December 31, 2015:
Beginning balance		$	17,743,407			$	(5,039,088	)		$	12,704,319
Other comprehensive loss before reclassifications			(10,964,231	)			(1,000,527	)			(11,964,758	)
Amounts reclassified from accumulated other comprehensive income			(485,474	)			503,074				17,600
Net current period other comprehensive loss			(11,449,705	)			(497,453	)			(11,947,158	)
Ending balance		$	6,293,702			$	(5,536,541	)		$	757,161
For the year ended December 31, 2014:
Beginning balance		$	9,916,148			$	(3,164,157	)		$	6,751,991
Other comprehensive income (loss) before reclassifications			8,313,793				(2,132,604	)			6,181,189
Amounts reclassified from accumulated other comprehensive income			(486,534	)			257,673				(228,861	)
Net current period other comprehensive income (loss)			7,827,259				(1,874,931	)			5,952,328
Ending balance		$	17,743,407			$	(5,039,088	)		$	12,704,319

 

The following table presents the pretax and the related income tax components of the amounts reclassified from the Company’s accumulated other comprehensive income to the Company’s consolidated statement of income for the years ended December 31, 2015 and 2014.

 

		Year Ended December 31,
Reclassification Adjustments		2015				2014
Unrealized gains on available-for-sale securities:
Realized gains on sale of securities (a)		$	735,567			$	710,632
Income tax expense (c)			(250,093	)			(224,098	)
Net of tax			485,474				486,534
Defined benefit pension plans:
Amortization of actuarial net loss (b)			(762,233	)			(390,413	)
Income tax benefit (c)			259,159				132,740
Net of tax			(503,074	)			(257,673	)
Total reclassifications for the period		$	(17,600	)		$	228,861

 

(a) These items appear within net realized gains on investments in the consolidated income statements.

(b) These items are included in the computation of net periodic benefit cost (see Note 6).

(c) These items appear within federal income taxes in the consolidated income statements.

 

 

NOTES TO CONSOLIDATED

FINANCIAL STATEMENTS

---

 

NOTE 12 - Contingent Liabilities

 

The Company is named as a defendant in several legal actions arising primarily from claims made under insurance policies. Management and its legal counsel are of the opinion that the settlement of those actions will not have a material adverse effect on the financial position or results of operations.

 

In most of the states in which the Company is licensed to do business, guaranty fund assessments may be taken as a credit against premium taxes over a five-year period. These assessments, brought about by the insolvency of life and health insurers, are levied at the discretion of the various state guaranty fund associations to cover association obligations. It is management's opinion that the effect of any future assessments would not be material to the financial position or results of operations of the Company because of the use of premium tax offsets.

 

 

 BOARD OF DIRECTORS

 

HARRY LEE WATERFIELD II			Chairman of the Board President Chief Executive Officer	Executive Committee Finance Committee Nominating Committee Frankfort, Kentucky

 

GEORGE R. BURGESS, JR.			Executive Committee Nominating Committee Frankfort, Kentucky	ROBERT M. HARDY, JR.			Executive Vice President, General Counsel Executive Committee Finance Committee Frankfort, Kentucky
HAROLD G. DORAN, JR.			Audit Committee Executive Committee Finance Committee Murray, Kentucky	DAVID W. REED			Audit Committee Nominating Committee Gilbertsville, Kentucky
GORDON C. DUKE			Audit Committee Finance Committee Frankfort, Kentucky	HELEN S. WAGNER			Executive Committee Nominating Committee Daniel Island, South Carolina
MICHAEL F. DUDGEON, JR.			Finance Committee Frankfort, Kentucky

 

CORPORATE OFFICERS

 

RAYMOND L. CARR			Executive Vice President, Chief Operating Officer Frankfort, Kentucky	JANE S. JACKSON			Corporate Secretary Frankfort, Kentucky
LARRY J. JOHNSON II, CPA			Vice President, Chief Financial Officer Frankfort, Kentucky	SHANE S. MITCHELL, CPA			Treasurer Frankfort, Kentucky

 

MOUNTJOY CHILTON MEDLEY LLP			Independent Registered Public Accounting Firm Louisville, Kentucky
ANNUAL MEETING			The 2016 annual meeting of shareholders of Investors Heritage Capital Corporation is scheduled for 11:00 a.m. on May 12, 2016 at the Company auditorium, Second and Shelby Streets, Frankfort, Kentucky.
FORM 10-K			A copy of the Form 10-K Annual Report to the Securities and Exchange Commission for the Company can be obtained at www.investorsheritage.com or upon request to the Secretary.
TRANSFER AGENT			Investors Heritage Life Insurance Company Stock Transfer Department P.O. Box 717 Frankfort, KY 40602-0717 Phone: 800.422.2011 502.209.1009

 

 

54