MIDWEST HOLDING INC. - FORM 10-Q

MIDWEST HOLDING INC. - FORM 10-Q - May 14, 2020

Attached files

Attached files

MIDWEST HOLDING INC. Reports

file	filename
EX-32.2 - EX-32.2 - MIDWEST HOLDING INC.	mdwt-20200331ex322a8e03a.htm
EX-32.1 - EX-32.1 - MIDWEST HOLDING INC.	mdwt-20200331ex321b9b097.htm
EX-31.2 - EX-31.2 - MIDWEST HOLDING INC.	mdwt-20200331ex31204186c.htm
EX-31.1 - EX-31.1 - MIDWEST HOLDING INC.	mdwt-20200331ex31160859b.htm
EX-10.1 - EX-10.1 - MIDWEST HOLDING INC.	mdwt-20200331ex1013b300f.htm

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q


(Mark One)
☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarter ended March 31, 2020
or

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

COMMISSION FILE NUMBER 000‑10685

Midwest Holding Inc.

(Exact name of registrant as specified in its charter)


Nebraska		20‑0362426
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

2900 S. 70th, Suite 400, Lincoln, NE		68506
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (402) 489-8266

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:


Title of each class:		Trading Symbol(s):
Voting Common Stock, $0.001 par value		MDWT

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically, if any, every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer ☐		Accelerated filer ☐
Non-accelerated filer ☐		Smaller reporting company ☒
(Do not check if a		Emerging growth company ☐
smaller reporting company)

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or reviewed financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Act). Yes ☐ No ☒

As of May 1, 2020, there were 1,360,675,242 shares of Voting Common Stock, par value $0.001 per share, issued and outstanding.

DOCUMENTS INCORPORATED BY REFERENCE - None

MIDWEST HOLDING INC.

FORM 10-Q

TABLE OF CONTENTS

PART I – FINANCIAL INFORMATION


Item No.	Item Caption	Page
Item 1.	Financial Statements	3

	Consolidated Balance Sheets	3

	Consolidated Statements of Comprehensive Loss	4

	Consolidated Statements of Stockholders’ Equity	5

	Consolidated Statements of Cash Flows	6

	Notes to Consolidated Financial Statements	7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	31

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	38

Item 4.	Controls and Procedures	38

PART II – OTHER INFORMATION


Item No.	Item Caption	Page
Item 1.	Legal Proceedings	39

Item 1A.	Risk Factors	39

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	39

Item 3.	Defaults Upon Senior Securities	39

Item 4.	Mine Safety Disclosures	40

Item 5.	Other Information	40

Item 6.	Exhibits	41

	Signatures	42

Table of Contents

PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS.

MIDWEST HOLDING INC. AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS


	March 31, 2020		December 31, 2019
		(Unaudited)
Assets
Investments, available for sale, at fair value fixed maturities (amortized cost: $152,339,447 and $116,676,312, respectively) (See Note 5)	$	125,832,863	$	117,241,861
Mortgage loans on real estate, held for investment		48,982,622		13,810,041
Derivatives		463,330		575,294
Other invested assets		2,796,352		2,468,947
Investment escrow		—		3,899,986
Preferred stock		500,000		500,000
Policy loans		128,734		106,014
Total investments		178,703,901		138,602,143
Cash and cash equivalents		25,506,856		43,716,205
Deferred acquisition costs, net		1,633,037		—
Premiums receivable		350,360		355,959
Accrued investment income		2,563,529		1,511,200
Reinsurance recoverables (See Note 9)		51,200,947		30,579,524
Intangible assets		700,000		700,000
Property and equipment, net		81,165		85,395
Operating lease right of use assets		439,648		470,132
Other assets		322,358		241,580
Assets associated with business held for sale (See Note 3)		2,526,376		3,653,748
Total assets	$	264,028,177	$	219,915,886
Liabilities and Stockholders’ Equity
Liabilities:
Benefit reserves	$	16,413,606	$	16,319,912
Policy claims		156,820		225,228
Deposit-type contracts		220,462,679		171,168,785
Advance premiums		8,536		261
Deferred gain on coinsurance transactions		8,612,135		7,578,195
Lease liabilities (See Note 14):
Finance lease		1,860		1,860
Operating lease		490,870		524,248
Other liabilities		6,756,091		6,291,782
Liabilities associated with business held for sale (See Note 3)		2,520,198		3,646,867
Total liabilities		255,422,795		205,757,138
Commitments and Contingencies (See Note 13)
Stockholders’ Equity:
Common stock, $0.001 par value; authorized 1,970,000,000 shares; issued and outstanding as of March 31, 2020 and 1,023,408,553 as of December 31, 2019.		1,023,409		1,023,409
Additional paid-in capital		53,484,922		53,472,988
Accumulated deficit		(19,533,252)		(41,081,710)
Accumulated other comprehensive income (loss) (See Note 6)		(26,556,674)		619,584
Noncontrolling interest
Total Midwest Holding Inc.'s stockholders' equity		8,418,405		14,034,271
Noncontrolling interest		186,977		124,477
Total stockholders' equity		8,605,382		14,158,748
Total liabilities and stockholders' equity	$	264,028,177	$	219,915,886

See Notes to Consolidated Financial Statements.

Table of Contents

MIDWEST HOLDING INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(Unaudited)


	Three months ended March 31,
	2020		2019
Revenues
Insurance premiums	$	21	$	(2,479)
Investment income, net of expenses		1,240,978		190,995
Net realized gains on investments (See Note 5)		22,600,010		(4,397)
Amortization of deferred gain on reinsurance		182,438		806,047
Miscellaneous income		390,044		15,540
Total revenues		24,413,491		1,005,706
Expenses:
Interest credited		211,202		20,821
Benefits		(7,103)		3,395
Amortization of deferred acquisition costs		40,509		2,069
Salaries and benefits		824,896		539,449
Other operating expenses		1,325,113		1,934,990
Total expenses		2,394,617		2,500,724
Gain (loss) from continuing operations before taxes		22,018,874		(1,495,018)
Income tax expense		(407,916)		—
Net gain (loss)		21,610,958		(1,495,018)
Less: Gain attributable to noncontrolling interest		(62,500)		—
Net gain (loss) attributable to Midwest Holding Inc.		21,548,458		(1,495,018)
Comprehensive loss:
Unrealized (losses) gains on investments arising during period, net of tax		(4,170,973)		847,971
Unrealized losses on foreign currency		(405,275)		—
Less: reclassification adjustment for net realized gains on investments		(22,600,010)		4,397
Other comprehensive (loss) income		(27,176,258)		852,368
Comprehensive loss:	$	(5,627,800)	$	(642,650)
Net gain (loss) per common share
Basic	$	0.021	$	(0.07)
Diluted	$	0.016	$	(0.001)

See Notes to Consolidated Financial Statements.

Table of Contents

MIDWEST HOLDING INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(Unaudited)



			Additional								Total
	Common		Paid-In		Accumulated				Noncontrolling		Stockholders’
	Stock		Capital		Deficit		AOCI*		Interests		Equity (Deficit)
Balance, December 31, 2018	$	22,874	$	33,006,242	$	(35,348,052)	$	(1,818,014)	$	—	$	(4,136,950)
Net loss		—		—		(5,733,658)		—		—		(5,733,658)
Xenith note interest waived		—		845,536		—		—		—		845,536
Xenith note conversion		927,680		18,172,320		—		—		—		19,100,000
Class C preferred stock conversion		72,855		1,427,145		—		—		—		1,500,000
Employee stock options		—		21,745		—		—		—		21,745
Change in equity of noncontrolling interests		—		—		—		—		124,477		124,477
Unrealized gains on investments, net of taxes		—		—		—		2,291,413		—		2,291,413
Unrealized gains on foreign currency, net of taxes		—		—		—		146,185		—		146,185
Balance, December 31, 2019		1,023,409		53,472,988		(41,081,710)		619,584		124,477		14,158,748
Net income		—		—		21,548,458		—		—		21,548,458
Employee stock options		—		11,934		—		—		—		11,934
Change in equity of noncontrolling interests		—		—		—		—		62,500		62,500
Unrealized losses on investments (see Note 5)		—		—		—		(26,770,983)		—		(26,770,983)
Unrealized losses on foreign currency		—		—		—		(405,275)		—		(405,275)
Balance, March 31, 2020	$	1,023,409	$	53,484,922	$	(19,533,252)	$	(26,556,674)	$	186,977	$	8,605,382

*Accumulated other comprehensive income (loss)

See Notes to Consolidated Financial Statements.

Table of Contents

MIDWEST HOLDING INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)


	Three months ended March 31,
	2020		2019
Cash Flows from Operating Activities:
Net income (loss)	$	21,548,458	$	(1,495,018)
Adjustments to arrive at cash provided by operating activities:
Net premium and discount on investments		37,978		24,777
Depreciation and amortization		15,321		18,013
Stock options		11,934		—
Net transfers to noncontrolling interest		62,500		—
Amortization of deferred acquisition costs		40,509		2,069
Deferred acquisition costs capitalized		(1,483,941)		(253,186)
Net realized (gains) losses on investments		(22,600,010)		4,397
Deferred coinsurance ceding commission		1,033,940		(792,325)
Notes payable interest accrued		—		271,142
Preferred stock dividend		—		90,667
Changes in operating assets and liabilities:
Reinsurance recoverables		2,617,495		(204,111)
Interest and dividends due and accrued		(1,052,329)		(86,946)
Premiums receivable		5,599		(1,980)
Policy liabilities		1,699,134		276,747
Other assets and liabilities		379,158		2,042,291
Other assets and liabilities - discontinued operations		703		(145,981)
Net cash provided by or (used in) for operating activities		2,316,449		(249,444)
Cash Flows from Investing Activities:
Securities available for sale:
Purchases		(39,723,572)		(7,446,737)
Proceeds from sale or maturity		3,852,943		360,600
Mortgage loans on real estate, held for investment purchases
Purchases		(33,342,545)		—
Proceeds from sale		2,069,950		—
Purchases of derivatives		(651,661)		—
Other invested assets
Purchases		(2,715,965)		—
Proceeds from sale		2,388,560		—
Net change in policy loans		(22,720)		733
Net purchases of property and equipment		(8,998)		(3,818)
Net cash used in investing activities		(68,154,008)		(7,089,222)
Cash Flows from Financing Activities:
Finance lease		(111)		(111)
Receipts on deposit-type contracts		47,815,010		8,320,749
Withdrawals on deposit-type contracts		(186,689)		—
Net cash provided by financing activities		47,628,210		8,320,638
Net increase (decrease) in cash and cash equivalents		(18,209,349)		981,972
Cash and cash equivalents:
Beginning		43,716,205		2,832,567
Ending	$	25,506,856	$	3,814,539

See Notes to Consolidated Financial Statements.

Table of Contents

MIDWEST HOLDING INC. AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 1. Nature of Operations and Basis of Presentation

Nature of Operations

Midwest Holding Inc. (“Midwest,” “the Company,” “we,” “our,” or “us”) was incorporated in Nebraska on October 31, 2003 for the primary purpose of operating a financial services company. The Company is in the life and annuity insurance business and operates through its wholly owned subsidiary, American Life & Security Corp. (“American Life”). As discussed in Note 3, on June 28, 2018, we underwent a change in control as a result of the closing of a Loan, Convertible Preferred Stock and Convertible Senior Secured Note Purchase Agreement dated May 9, 2018 with a non-affiliated third party, Xenith Holdings LLC, a Delaware limited liability company (“Xenith”). On April 2, 2019, we obtained a 51% ownership in 1505 Capital, a Delaware limited liability company, that was established in 2018 to provide financial and investment advisory and management services to clients and related investment activities. 1505 Capital’s financial results are consolidated with the Company’s from the date of its acquisition.

Management evaluates the Company as one reporting segment in the life insurance industry. The Company is primarily engaged in the underwriting and marketing of annuity products and life insurance through American Life. The product offerings, the underwriting processes, and the marketing processes are similar. The Company’s historical product offerings consisted of a multi-benefit life insurance policy that combined cash value life insurance with a tax deferred annuity and a single premium term life product. These product offerings were underwritten, marketed, and managed as a group of similar products on an overall portfolio basis. The American Life presently offers two products, a multi-year guaranteed annuity ("MYGA") and a fixed indexed annuity (“FIA”).

Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with United States of America generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions from the Securities and Exchange Commission (“SEC”) Quarterly Report on Form 10‑Q, including Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. The information contained in the Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10‑K for the year ended December 31, 2019 (“2019 Form 10‑K”), should be read in connection with the reading of these interim unaudited consolidated financial statements.

Certain GAAP policies that significantly affect the determination of financial condition, results of operations and cash flows, are summarized in our 2019 Form 10‑K.

In the opinion of management, these statements include all normal recurring adjustments necessary for a fair presentation of the Company’s results. Operating results for the three months ended March 31, 2020, are not necessarily indicative of the results that may be expected for the full year ending December 31, 2020. All intercompany accounts and transactions have been eliminated in consolidation and certain immaterial reclassifications have been made to the prior period results to conform to the current period’s presentation with no impact on results of operations or total stockholders’ equity.

Investments

All fixed maturities and a portion of the equity securities owned by the Company are considered available-for-sale and are included in the consolidated financial statements at their fair value as of the financial statement date. Bond premiums and discounts are amortized using the scientific-yield method over the term of the bonds. Realized gains and losses on securities sold during the year are determined using the specific identification method. Unrealized holding gains and losses, net of applicable income taxes, are included in accumulated other comprehensive income.

Declines in the fair value of available-for-sale securities below their amortized cost are evaluated to assess whether any other-than-temporary impairment loss should be recorded. In determining if these losses are expected to be other-than-

Table of Contents

temporary, the Company considers severity of impairment, duration of impairment, forecasted recovery period, industry outlook, the financial condition of the issuer, issuer credit ratings, and the intent and ability of the Company to hold the investment until the recovery of the cost.

The recognition of other-than-temporary impairment losses on debt securities is dependent on the facts and circumstances related to the specific security. If the Company intends to sell a security or it is more likely than not that the Company would be required to sell a security prior to recovery of the amortized cost, the difference between amortized cost and fair value is recognized in the statement of comprehensive income as an other-than-temporary impairment. If the Company does not expect to recover the amortized basis, does not plan to sell the security and if it is not more likely than not that the Company would be required to sell a security before the recovery of its amortized cost, the recognition of the other-than-temporary impairment is bifurcated. The Company recognizes the credit loss portion in the income statement and the noncredit loss portion in accumulated other comprehensive loss. The credit component of an other-than-temporary impairment is determined by comparing the net present value of projected cash flows with the amortized cost basis of the debt security. The net present value is calculated by discounting the Company’s best estimate of projected future cash flows at the effective interest rate implicit in the fixed income security at the date of acquisition. Cash flow estimates are driven by assumptions regarding probability of default, including changes in credit ratings, and estimates regarding timing and amount of recoveries associated with a default. The Company has analyzed the securities portfolio and determined that there was not an other-than-temporary impairment for the three months ended March 31, 2020.

Investment income consists of interest, dividends, gains and losses from equity method investments, and real estate income, which are recognized on an accrual basis and amortization of premiums and discounts.

Mortgage loans on real estate, held for investment

Mortgage loans on real estate, held for investment are carried at unpaid principal balances. Interest income on mortgage loans on real estate, held for investment is recognized in net investment income at the contract interest rate when earned. A mortgage loan is considered to be impaired when it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the mortgage agreement. Valuation allowances on mortgage loans are established based upon losses expected by management to be realized in connection with future dispositions or settlements of mortgage loans, including foreclosures. The Company establishes valuation allowances for estimated impairments on an individual loan basis as of the balance sheet date. Such valuation allowances are based on the excess carrying value of the loan over the present value of expected future cash flows discounted at the loan’s original effective interest rate. These evaluations are revised as conditions change and new information becomes available. No such valuation allowance was established as of March 31, 2020.

Investment escrow

The Company held in escrow as of December 31, 2019, cash used to settle a mortgage loan that closed in January 2020. As of March 31, 2020, the Company did not hold any cash related to investments in escrow.

Other invested assets

The Company purchases and sells leases in its investment portfolio. As of March 31, 2020, the Company owned several lease investments.

Derivative Instruments

Derivatives are used to hedge the risks experienced in our ongoing operations, such as equity, interest rate and cash flow risks, or for other risk management purposes, which primarily involve managing liability risks associated with our indexed annuity products and reinsurance agreements. Derivatives are financial instruments whose values are derived from interest rates, foreign exchange rates, financial indices or other underlying notional amounts. Derivative assets and liabilities are carried at fair value on the consolidated balance sheets.

To qualify for hedge accounting, at the inception of the hedging relationship, we would formally document our designation of the hedge as a cash flow or fair value hedge and our risk management objective and strategy for undertaking the hedging transaction. In this documentation, we would identify how the hedging instrument is expected to hedge the designated risks

Table of Contents

related to the hedged item, the method that would be used to retrospectively and prospectively assess the hedging instrument’s effectiveness and the method which would be used to measure ineffectiveness. A derivative designated as a hedging instrument must be assessed as being highly effective in offsetting the designated risk of the hedged item. Hedge effectiveness is formally assessed at inception and periodically throughout the life of the designated hedging relationship.

In the fourth quarter of 2019, the Company began investing in options to hedge our interest rate risks on our FIA product. Options typically do not qualify for hedge accounting; therefore, we chose not to use hedge accounting for our options that we currently have. We value our derivatives at fair market value with the offset being recorded on our income statement as a realized gain or (loss).

Additionally, reinsurance agreements written on a funds withheld or modified coinsurance basis contain embedded derivatives on our fixed indexed annuity product. Gains or (losses) associated with the performance of assets maintained in the modified coinsurance deposit and funds withheld accounts are reflected as realized gains or (losses ) in the income statement.

Preferred Stock

Preferred stock of a non-affiliated company was purchased during the third quarter of 2019. The Company believes the cost of the preferred stock equals fair market value as of March 31, 2020.

Policy loans

Policy loans are carried at unpaid principal balances. Interest income on policy loans is recognized in net investment income at the contract interest rate when earned. No valuation allowance is established for these policy loans as the amount of the loan is fully secured by the death benefit of the policy and cash surrender value.

Cash and cash equivalents

The Company considers all liquid investments with original maturities of three months or less when purchased to be cash equivalents. At March 31, 2020 and December 31, 2019, the Company had no cash equivalents. At March 31, 2020, the Company held approximately 1.0 million in Great British Pounds in cash in two of our custody accounts. The USD equivalent held was approximately $1.2 million.

Deferred acquisition costs

Deferred acquisition costs (“DAC”) consist of incremental direct costs, net of amounts ceded to reinsurers, that result directly from and are essential to the contract acquisition transaction and would not have been incurred by the Company had the contract acquisition not occurred. These costs are capitalized, to the extent recoverable, and amortized over the life of the premiums produced. The Company evaluates the types of acquisition costs it capitalizes. The Company capitalizes agent compensation and benefits and other expenses that are directly related to the successful acquisition of contracts. The Company also capitalizes expenses directly related to activities performed by the Company, such as underwriting, policy issuance, and processing fees incurred in connection with successful contract acquisitions.

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. The Company performs a recoverability analysis annually in the fourth quarter unless events occur which require an immediate review. The Company determined that no events occurred in the three months ended March 31, 2020 that suggest a review should be undertaken.

Property and equipment

Property and equipment are stated at cost net of accumulated depreciation. Annual depreciation is primarily computed using straight-line methods for financial reporting and straight-line and accelerated methods for tax purposes. Furniture and equipment is depreciated over 3 to 7 years and computer software and equipment is generally depreciated over 3 years. Depreciation expense totaled $10,316 and $9,506 for the three months ended March 31, 2020 and 2019, respectively. Accumulated depreciation totaled $985,796 and $975,480 as of March 31, 2020 and December 31, 2019, respectively.

Table of Contents

Maintenance and repairs are expensed as incurred. Replacements and improvements which extend the useful life of the asset are capitalized. The net book value of assets sold or retired are removed from the accounts, and any resulting gain or loss is reflected in earnings.

Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. An impairment loss is recognized if the carrying amount of an asset may not be recoverable and exceeds estimated future undiscounted cash flows of the asset. A recognized impairment loss reduces the carrying amount of the asset to its fair value. Management has determined that no such events occurred in the three months ended March 31, 2020 that would indicate the carrying amounts may not be recoverable.

Reinsurance

As indicated in our 2019 Form 10-K, reinsurance is an integral part of our business plan. We expect to reinsure substantially all of our new insurance policies with a variety of third party reinsurers in exchange for upfront ceding commissions, expense reimbursements and administrative fees. Under these reinsurance agreements, we expect there will be a monthly or quarterly settlement of premiums, claims, surrenders, collateral and other administration fees. We believe this will help preserve American Life’s capital while supporting its growth because American Life will have lower capital requirements when its business is reinsured due to lower overall financial exposure versus retaining the insurance policy business itself.

There are two main categories of reinsurance transactions: 1) “indemnity,” where we cede a portion of our risk but retain the legal responsibility to our policyholders should our reinsurers not meet their financial obligations; and 2) “assumption,” where we transfer the risk and legal responsibilities to the reinsurers. The reinsurers are required to acquire the appropriate regulatory and policyholder approvals to convert indemnity policies to assumption policies.

Our reinsurers may be domestic or foreign capital markets investors or traditional reinsurance companies seeking to assume U.S. insurance business. We plan to mitigate the credit risk relating to reinsurers generally by requiring other financial commitments from the reinsurers to secure the reinsured risks (such as posting substantial collateral). It should be noted that under indemnity reinsurance agreements American Life remains exposed to the credit risk of its reinsurers. If one or more reinsurers becomes insolvent or is otherwise unable or unwilling to pay claims under the terms of the applicable reinsurance agreement, American Life retains legal responsibility to pay policyholder claims, which, in such event would likely materially and adversely affect the capital and surplus of American Life.

Some reinsurers are not and may not be “accredited” or qualified as reinsurers under Nebraska Law. In order to enter into reinsurance agreements with such reinsurers and to reduce potential credit risk, American Life may hold a deposit or withhold funds from the reinsurer or require the reinsurer to maintain a trust that holds assets backing up the reinsurer’s obligation to pay claims on the business it assumes. The reinsurer may also appoint an investment manager for such funds, which is some cases may be our investment adviser subsidiary, 1505 Capital, to manage these assets pursuant to guidelines adopted by us that are consistent with state investment statutes and reinsurance regulations.

American Life has treaties with two third-party reinsurers that have funds withheld provisions. Under those provisions, the assets backing the treaties are maintained by American Life as investments but the assets and total returns or losses on the investments are owned by the reinsurers. Under GAAP this arrangement is considered an embedded derivative as discussed in Note 6 to our consolidated financial statements above. As a result of recent market volatility, assets carried as investments on American Life’s financial statements for the third-party reinsurers contained unrealized losses of approximately $23.2 million as of March 31, 2020. The terms of the contracts with the third party reinsurers provide that unrealized losses on the portfolios accrue to the reinsurers. We account for this loss pass through by recording equivalent realized gains on our income statement. Accordingly, the unrealized losses on the assets held by American Life were offset by a gain in the embedded derivative of $23.2 million.

American Life currently has five reinsurance agreements in effect and has earned ceding commissions on four out of those agreements. See Note 9 to the consolidated financial statements in this report for further information on each of our reinsurance agreements.

Table of Contents

The table below shows the ceding commissions earned on the four most recent reinsurance transactions where American Life is earning ceding commissions on a statutory accounting principles basis:


		Three months ended March 31,
		2020				2019
Reinsurer	Effective Date of Transaction	Ceding Commission Earned		Expense Allowances(1)		Ceding Commission Earned		Expense Allowances(1)
US Alliance Life and Security Company	September 2017	$	15,262	$	—	$	15,262	$	—
Unified Life Insurance Company	July 2018		60,609		—		702,788		—
Ironbound Reinsurance Company Limited	July 2019		674,645		673,612		—		—
SDA Annuity & Life Re	November 2019		298,982		548,464		—		—
		$	1,049,498	$	1,222,076	$	718,050	$	—

(1)

Includes: acquisition and administrative expenses, commission expense allowance and product development fees.

Under GAAP, the ceding commission is deferred on the balance sheet and are amortized over the period of the policyholder contracts. The tables below shows the ceding commissions from the reinsurers and what was earned on a GAAP accounting basis:


	Three months ended March 31,
	2020										2019
Reinsurer	Gross Ceding Commission		Expense Allowances(1)		Commissions and Acquisition Expenses		Interest on Ceding Commissions		Earned Ceding Commission		Earned Ceding Commission
US Alliance Life and Security Company	$	-	$	-	$	-	$	-	$	12,094	$	25,816
Unified Life Insurance Company		-		-		-		-		67,451		780,231
Ironbound Reinsurance Company Limited		674,645		673,612		615,111		53,602		95,740		—
SDA Annuity & Life Re		298,982		548,464		503,207		12,966		7,153		—
	$	973,627	$	1,222,076	$	1,118,318	$	66,568	$	182,438	$	806,047

(1)

Includes: acquisition and administrative expenses, commission expense allowance and product development fees.

The tables below show the ceding commissions deferred on each reinsurance transaction on a GAAP accounting basis:


		March 31, 2020		December 31, 2019
Reinsurer	Effective Date of Transaction	Deferred Ceding Commission		Deferred Ceding Commission
US Alliance Life and Security Company(1)	September 2017	$	846,581	$	858,675
Unified Life Insurance Company(1)	July 2018		515,444		582,894
Ironbound Reinsurance Company Limited(2)	July 2019		5,741,686		5,060,359
SDA Annuity & Life Re(2)	November 2019		1,508,424		1,076,267
		$	8,612,135	$	7,578,195

(1)

These reinsurance transactions received gross ceding commissions on the effective dates of the transaction. The difference between the statutory net adjusted reserves and the GAAP adjusted reserves plus the elimination of DAC and VOBA related to these businesses reduces the gross ceding commission with the remaining deferred and amortized over the lifetime of the blocks of business.

(2)

These reinsurance transactions include the ceding commissions and expense allowances which are accounted for as described in (1).

Benefit reserves

The Company establishes liabilities for amounts payable under insurance policies, including traditional life insurance and annuities. Generally, amounts are payable over an extended period of time. Liabilities for future policy benefits of traditional life insurance have been computed by a net level premium method based upon estimates at the time of issue for investment yields, mortality and withdrawals. These estimates include provisions for experience less favorable than initially expected. Mortality assumptions are based on industry experience expressed as a percentage of standard mortality tables.

Table of Contents

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.

Deposit-type contracts

Deposit-type contracts consist of amounts on deposit associated with deferred annuity riders, premium deposit funds and supplemental contracts without life contingencies.

Deferred gain on ceding commissions

American Life has entered into several indemnity reinsurance contracts where it is earning ceding commissions. These ceding commissions are recorded as a deferred liability and amortized over the life of the business ceded. American Life receives commission, administrative, and option allowances from reinsurance transactions that represent recovery of acquisition costs. These allowances first reduce the DAC associated with that reinsured block of business with the remainder being included in the deferred gain on ceding commissions to also be amortized.

Income taxes

The Company is subject to income taxes in the U.S. federal and various state jurisdictions. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. With few exceptions, the Company is no longer subject to U.S. federal, state or local tax examinations by tax authorities for the years before 2015. The Company is not currently under examination for any open years. The provision for income taxes is based on income as reported in the financial statements. The income tax provision is calculated under the asset and liability method. Deferred tax assets are recorded based on the differences between the financial statement and tax basis of assets and liabilities at the enacted tax rates. The principal assets and liabilities giving rise to such differences are investments, insurance reserves, and deferred acquisition costs. A deferred tax asset valuation allowance is established when there is uncertainty that such assets would be realized. The Company has no uncertain tax positions that it believes are more-likely-than not that the benefit will not to be realized. When applicable, the Company recognizes interest accrued related to unrecognized tax benefits and penalties in income tax expense.

Revenue recognition and related expenses

Amounts received as payment for annuities are recognized as deposits to policyholder account balances and included in future insurance policy benefits. Revenues from these contracts are comprised of fees earned for administrative and contract-holder services and cost of insurance, which are recognized over the period of the contracts, and included in revenue. Deposits are shown as a financing activity in the consolidated statements of cash flows.

Revenues on traditional life insurance products consist of direct and assumed premiums reported as earned when due.

Liabilities for future policy benefits 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 expected life of the annuity contracts.

Comprehensive loss

Comprehensive loss is comprised of net loss and other comprehensive income (loss). Other comprehensive income (loss) includes unrealized gains and losses from marketable securities classified as available for sale and unrealized gains and losses from foreign currency transactions, net of applicable taxes. American Life has treaties with two third-party reinsurers that have funds withheld and modified coinsurance provisions. Under those provisions, the assets backing the treaties are maintained by American Life as collateral but are owned by the reinsurers, thus, the total return on the asset portfolio belongs to the reinsurers. Under GAAP this is considered an embedded derivative as discussed in Note 6 below. As a result of recent volatility, the investments carried by American Life for the third-party reinsurers contained unrealized losses of approximately $23.2 million as of March 31, 2020. The terms of the contracts with the third-party reinsurers, provided that unrealized losses on the portfolios

Table of Contents

shall accrue to the reinsurers. We account for this loss pass through by booking equivalent realized gains on our income statement. Accordingly, for the first quarter of 2020, our recognized embedded derivative gains were $23.2 million.

The remaining unrealized loss of approximately $3.3 million is related to the investments retained by American Life. The majority of these unrealized losses are related to our asset-backed securities or collateralized loan obligations (“CLOs”). CLOs are typically illiquid and are intended to be held to maturity thus loss risk is minimal, the Company has monitored the underlying unrealized losses and believe they pose little chance of loss in the long-term due to the quality of the underlying credits.

Basic earnings per share in the first quarter of fiscal 2020 were $0.021 which included the aforementioned gain of $23.2 million. Basic loss per share in the first quarter of fiscal 2020 without the aforementioned gain was ($0.002).

Common and preferred stock and earnings (loss) per share

The par value per each Company share is $0.001 with 1,970,000,000 voting common shares authorized, 20,000,000 non-voting common shares authorized, and 10,000,000 preferred shares authorized. On June 18, 2019, Xenith exercised the right to convert its 1,500,000 Series C preferred stock and the $19,100,000 notes payable to voting common stock at the conversion rate of approximately $0.02 per common share. At March 31, 2020 and December 31, 2019, the Company had 1,023,408,553 voting common shares issued and outstanding.

The Series C preferred shares were converted by Xenith to voting common shares on June 18, 2019 at a rate of approximately $0.02 per share for 72,854,474 voting common shares. The stated annual dividend rate on the Series C preferred shares was 8%. At the time of the conversion, Xenith forgave all previously accrued dividends from June 28, 2018 through the conversion date.

Loss per basic share attributable to the Company’s common stockholders was computed based on the weighted average number of shares outstanding during each period. The weighted average number of shares outstanding during the three months ended March 31, 2020 and the year ended December 31, 2019 were 1,023,408,553 and 576,594,387 shares, respectively.

Loss per diluted share attributable to the Company’s common stockholders was computed based on the average shares outstanding and options granted under our Long-Term Incentive Plan (“LTIP”), as if all were vested and exercised, which for the three months ended March 31, 2020 and the year ended December 31, 2019 were 1,361,622,261 and 577,541,406 shares, respectively.

Note 2. New Accounting Standards

Adoption of New Accounting Standards

In August 2018, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2018‑15, Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350‑40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computer Arrangement That is a Service Contract. Under ASU No. 2018‑15, the amendment aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The accounting for the service element of a hosting arrangement that is a service contract is not affected by the amendments in this update. In order to determine which costs can be capitalized, we are to follow the guidance in Subtopic 350‑40. Cost for implementation activities in the application development stage are capitalized depending on the nature of the costs, while costs incurred during the preliminary project and the post-implementation stage are expensed as the activities are performed. The amendments in this update are effective for public business entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. The amendments in this update should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. Management has reviewed and evaluated the impact of this pending new standard and will implement this starting in fiscal year 2020. We reviewed our software enhancements as of March 31, 2020 to determine the impact of implementing ASU No. 2018‑12 and determined that none of those enhancements should be capitalized as they did not meet the requirements of this ASU.

In February 2016, the FASB issued Accounting Standards Update (“ASU”) 2016‑02, Leases (Topic 842). The guidance in this ASU supersedes the leasing guidance in Topic 840, Leases. Under the new guidance, lessees are required to recognize

Table of Contents

lease assets and lease liabilities on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The lease liability is measured at the present value of the lease payments over the lease term with the right-of-use asset measured as the lease liability amount and including adjustments for certain lease incentives and initial direct costs. Lease expense recognition will continue to differentiate between finance leases and operating leases resulting in a similar pattern of lease expense recognition as under current GAAP. This ASU permitted a modified retrospective adoption approach that includes a number of optional practical expedients that entities may elect upon adoption. On January 1, 2019, the Company adopted this standard using a modified retrospective adoption approach. The adoption resulted in the Company identifying three operating leases and one financial lease which were subject to this guidance. The impact to the Consolidated Statements of Comprehensive Income (Loss) was minimal. We identified four leases with net assets of $439,648 and $473,045, and lease liabilities of $492,730 and $526,108 for the three months ended March 31, 2020 and the year ended December 31, 2019, respectively.

Future adoption of New Accounting Standards

In January 2020, the FASB issued ASU No. 2020-2, Equity Securities (Topic 321), Investments-Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815)-Clarifying the Interactions between Topic 321, Topic 323, and Topic 815. The amendments in this Update clarify certain interactions between the guidance to account for certain equity securities under Topic 321, the guidance to account for investments under the equity method of accounting in Topic 323, and the guidance in Topic 815, which could change how an entity accounts for an equity security under the measurement alternative or a forward contract or purchased option to purchase securities that, upon settlement of the forward contract or exercise of the purchased option, would be accounted for under the equity method of accounting or the fair value option in accordance with Topic 825, Financial Instruments. For public business entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years. We are unable to determine the impact at this time of ASU No. 2020-1 as we are still in the process of evaluating the standard.

In February 2020, the FASB issued ASU No. 2020-02, Financials Services Instruments-Credit Losses (Topic 326), and Leases (topic 842). The amendments in this Update adds language to Accounting Bulletin N. 119. In November 2019, the FASB issued ASU No. 2019-10, Financials Services Instruments-Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (topic 842). The Board developed a philosophy to extend and simplify how effective dates are staggered between larger public companies and all other entities. For business entities that meet the definition of a smaller reporting company (“SRC”), the amendments in ASU 2018-12 are effective for fiscal years beginning after December 15, 2021. In August 2018, the FASB issued ASU No. 2018‑12, Financial Services-Insurance (Topic 944). This update 1) modifies the timeliness of recognizing changes in the liability for future policy benefits and modifies the rate used to discount future cash flows, 2) simplifies the accounting for certain market-based options or guarantees associated with deposit contracts, 3) simplifies the amortization of deferred acquisition costs, and 4) addresses the effectiveness of the required disclosures. This ASU becomes effective for fiscal years, and interim periods within those years, beginning after December 15, 2023. We anticipate that the adoption of ASU 2018‑12 will have a broad impact on our consolidated financial statements and related disclosures and will require us to make changes to certain of our processes, systems and controls. We are unable to determine the impact at this time of ASU No. 2018‑12 as we are still in the process of evaluating the standard.

In March 2020, the FASB issued ASU No. 2020-03, Codification Improvements to Topic 326, Financial Instruments—Credit Losses. The scope of this amendment is to clarify the interaction of ASC 842 (Leases) and ASC 326 (credit losses). In November 2018, the FASB issued ASU No. 2018‑10, Codification Improvements to Topic 326, Financial Instruments—Credit Losses. The amendments in this update include items brought to the Board’s attention by stakeholders to clarify the guidance in the amendments in ASU 2016‑13, Financial Instruments – Credit Losses (Topic 326) which was issued in June 2016. These updated amendments clarify that receivables arising from operating leases are not within the scope of Subtopic 326‑20. Under ASU 2016‑13, this replaces the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to perform credit loss estimates. This update changes the methodology from an incurred loss to an expected credit loss. An allowance for the expected credit loss will be set up and the net income will be impacted. The credit losses will be evaluated in the current period and an adjustment to the allowance can be made. The new standard becomes effective after December 15, 2022. We are currently evaluating the impact of our pending adoption of the new standard on our consolidated financial statements.

Table of Contents

Note 3. Assets and Liabilities Held for Sale

On November 30, 2018, American Life entered into an Assumption and Indemnity Reinsurance Agreement (“Reinsurance Agreement”) with Unified Life Insurance Company (“Unified”), a Texas domiciled stock insurance company. The Reinsurance Agreement provides that American Life ceded and Unified agreed to reinsure, on an indemnity reinsurance basis, 100% of the liabilities and obligations under substantially all of American Life’s life, annuity and health policies (“Policies”). The Agreement closed on December 10, 2018, as previously disclosed in Midwest’s Current Report on Form 8‑K filed with the Securities and Exchange Commission (the “SEC”) on December 12, 2018. The effective date of the Agreement was July 1, 2018.

After the closing of the Reinsurance Agreement, Unified began the process of preparing and delivering certificates of assumption and other materials to policyholders of American Life in order to effect an assumption of the Policies by Unified such that all of American Life’s rights and obligations under the policies arising on and after July 1, 2018 would be completely assumed by Unified without further indemnification or other obligations, except for liabilities, claims and obligations incurred before July 1, 2018. Unified is obligated to indemnify American Life against all liabilities and claims and all of its policy obligations from and after the July 1, 2018.

As of March 31, 2020, 81% of the indemnity policies were converted to assumptive policies thereby releasing American Life from its legal obligations related to those policies.

The consideration paid by Unified to American Life under the Reinsurance Agreement upon closing was $3,500,000 (“Ceding Commission”), subject to minor settlement adjustments. At closing, American Life transferred the Statutory Reserves and Liabilities, as defined in the Reinsurance Agreement, directly related to the policies, to Unified.

The Ceding Commission is being amortized on a straight-line basis over the life of the policies. When the policies are converted to assumptive, meaning American Life has no liability exposure for those policies, the remaining Ceding Commission will be recognized in our income statement.

Our balance sheet was required to be restated for all periods shown with the assets and liabilities which were ceded by American Life to Unified into separate line items as assets and liabilities held for sale. The table below summarizes the assets and liabilities that are included in discontinued operations as of March 31, 2020 and as of December 31, 2019:


	As of March 31,		As of December 31,
	2020		2019
Carrying amounts of major classes of assets included as part of discontinued operations:
Policy loans	$	45,491	$	50,387
Reinsurance recoverables		2,430,884		3,569,849
Premiums receivable		50,001		33,512
Total assets held for sale in the Consolidated Balance Sheet	$	2,526,376	$	3,653,748

Carrying amounts of major classes of liabilities included as part of discontinued operations:
Benefit reserves	$	1,021,284	$	1,403,953
Policy claims		35,431		28,203
Deposit-type contracts		1,457,536		2,209,195
Advance premiums		2,327		2,226
Accounts payable and accrued expenses		3,620		3,290
Total liabilities held for sale in the Consolidated Balance Sheets	$	2,520,198	$	3,646,867

Note 4. Non-controlling Interest

On April 2, 2019, Midwest entered into a contract to acquire a 51% ownership in 1505 Capital LLC (“1505 Capital”), a Delaware limited liability company, located in New York. 1505 Capital was organized to provide financial and investment advisory and management services to clients and any related investment, trading or financial activities. Class A Units were

Table of Contents

authorized to be issued up to 1,000 shares. Midwest purchased for $1 a total of 510 of the Class A Units and Aurora Financial Services, Inc. owns the remaining 490 Class A Units.

As of March 31, 2020, Midwest consolidated the 1505 Capital income of $260,345 into the consolidated financials. Midwest’s portion of income was $197,845 and the non-controlling interest income was $62,500.

Note 5. Investments

The cost or amortized cost and estimated fair value of investments classified as available-for-sale as of March 31, 2020 and December 31, 2019 are as follows:


	Cost or		Gross		Gross
	Amortized		Unrealized		Unrealized		Estimated
	Cost		Gains		Losses		Fair Value
March 31, 2020:
Fixed maturities:
U.S. government obligations	$	2,086,391	$	129,809	$	—	$	2,216,200
Mortgage-backed securities		764,277		957		12,254		752,980
Asset-backed securities		128,469,099		66,021		25,756,095		102,779,025
States and political subdivisions -- general obligations		239,454		11,779		—		251,233
States and political subdivisions -- special revenue		2,884,223		95,600		8,112		2,971,711
Corporate		17,896,003		227,680		1,261,969		16,861,714
Total fixed maturities	$	152,339,447	$	531,846	$	27,038,430	$	125,832,863
Mortgage loans on real estate, held for investment		48,982,622		—		—		48,982,622
Derivatives		1,142,492		68,904		748,066		463,330
Investment Escrow		—		—		—		—
Other invested assets		2,796,352		—		—		2,796,352
Preferred stock		500,000		—		—		500,000
Total Investments	$	205,760,913	$	600,750	$	27,786,496	$	178,575,167

December 31, 2019:
U.S. government obligations		2,091,710		7,073		17,559		2,081,224
Mortgage-backed securities		819,678		—		21,070		798,608
Asset-backed securities		95,006,241		646,335		404,752		95,247,824
States and political subdivisions -- general obligations		240,494		8,788		—		249,282
States and political subdivisions -- special revenue		25,112		179		—		25,291
Corporate		18,493,077		501,022		154,467		18,839,632
Total fixed maturities		116,676,312		1,163,397		597,848		117,241,861
Mortgage loans on real estate, held for investment		13,810,041		—		—		13,810,041
Derivatives		490,831		87,684		3,221		575,294
Investment Escrow		3,899,986		—		—		3,899,986
Other invested assets		2,468,947		—		—		2,468,947
Preferred stock		500,000		—		—		500,000
Total fixed maturities	$	137,846,117	$	1,251,081	$	601,069	$	138,496,129

Table of Contents

The Company has two securities that individually exceed 10% of the total of the state and political subdivisions categories as of March 31, 2020. The amortized cost, fair value, credit ratings, and description of each security is as follows:


	Amortized		Estimated
	Cost		Fair Value		Credit Rating
March 31, 2020:
Fixed maturities:
States and political subdivisions -- general obligations
Bellingham, Washington	$	107,420	$	118,061	AA+
Longview, Washington Refunding		132,034		133,172	Aa3
Total	$	239,454	$	251,233

The following table summarizes, for all securities in an unrealized loss position at March 31, 2020 and December 31, 2019, the estimated fair value, pre-tax gross unrealized loss and number of securities by consecutive months they have been in an unrealized loss position.


	March 31, 2020						December 31, 2019
			Gross		Number				Gross		Number
	Estimated		Unrealized		of		Estimated		Unrealized		of
	Fair Value		Loss		Securities(1)		Fair Value		Loss		Securities(1)
Fixed Maturities:
Less than 12 months:
U.S. government obligations	$	—	$	—		—	$	1,518,772	$	14,935		9
Asset-backed securities		95,658,862		25,665,232		67		39,114,732		404,752		26
Mortgage-back securities		165,282		589		4		160,010		4,844		4
States and political subdivisions -- general obligations		1,764,400		8,112		1		—		—		—
Corporate		8,965,800		854,457		27		2,800,815		13,618		4
Greater than 12 months:
U.S. government obligations		—		—		—		353,834		2,624		2
Asset-backed securities		909,767		90,863		1		—		—		—
Mortgage-back securities		464,615		11,665		8		638,598		16,226		14
Corporate		491,033		407,512		4		2,201,658		140,849		13
Total fixed maturities	$	108,419,759	$	27,038,430		112	$	46,788,419	$	597,848		72

(1)

We may reflect a security in more than one aging category based on various purchase dates.

Due to significant price decreases in the capital markets because of the coronavirus (“COVID-19”) pandemic, our securities positions resulted in a substantial unrealized loss at March 31, 2020. We performed an analysis of the unrealized losses and determined that since they had only been in that position for less than three months, and approximately 80% had durations of 10 to 20 years, it would not be appropriate to write down any investments as of March 31, 2020. Management believes that the Company will fully recover its cost basis in the securities held at March 31, 2020, 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. We will continue to monitor the world and U.S. economy and the capital markets throughout the remainder of 2020 to determine if any impairment is required.

The majority of the unrealized losses are related to our CLOs. CLOs are typically illiquid and are intended to be held to maturity thus risk of loss is minimal. The Company has monitored the underlying unrealized losses and believes they pose little chance of loss in the long-term due to the quality of the underlying credits.

American Life has treaties with two reinsurance companies that have funds withheld and modified coinsurance provisions. Under these provisions, the assets backing the treaties are maintained by American Life as collateral but the assets and the total return on the asset portfolios are owned by the reinsurers. The mortgage loans and CLOs primarily make up that asset portfolio. Under GAAP, these assets are considered embedded derivatives.

The impact of these embedded derivatives is shown below in Note 6 Derivative investments.

Table of Contents

The amortized cost and estimated fair value of fixed maturities at March 31, 2020, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties. No securities due in the next year are in an unrealized loss position, further supporting management’s decision not to recognize an other-than-temporary impairment.


	Amortized		Estimated
	Cost		Fair Value
Due in one year or less	$	202,956	$	204,177
Due after one year through five years		3,284,845		3,281,374
Due after five years through ten years		27,511,001		23,467,777
Due after ten years through twenty years		109,927,220		88,586,999
Due after twenty years		11,413,425		10,292,536
	$	152,339,447	$	125,832,863

The Company is required to hold assets on deposit for the benefit of policyholders in accordance with statutory rules and regulations. At March 31, 2020 and December 31, 2019, these required deposits had a total amortized cost of $3,361,830 and $3,611,292 and fair values of $3,486,914 and $3,612,844, respectively.

The following table presents a reconciliation of the beginning balance for investments measured at fair value on a recurring basis using Level 3 inputs at March 31, 2020 and December 31, 2019:



		Carrying Value		Interest Income Accrued		Interest Income Earned
March 31, 2020:
Industrial	$	500,000	$	2,708	$	8,215
Commercial mortgage loan - multi-family		46,423,549		348,699		652,708
Other		2,059,073		18,251		49,633
Total mortgage loans	$	48,982,622	$	369,658	$	710,556
December 31, 2019:
Industrial	$	500,000	$	—	$	15,889
Commercial mortgage loan - multi-family		11,320,924		116,860		329,684
Other		1,989,117		195,168		7,386
Total mortgage loans	$	13,810,041	$	312,028	$	352,959

American Life has treaties with two third-party reinsurers that have funds withheld and modified coinsurance provisions. Under those provisions, the mortgage loans backing the treaties are maintained by American Life as collateral but the assets and total returns or losses on the asset portfolios belong to the reinsurers; therefore, the Company derives minimal investment income from these mortgages.

The components of net investment income for the three months ended March 31, 2020 and 2019 are as follows:


	Three months ended March 31,
	2020		2019
Fixed maturities	$	1,167,614	$	195,691
Mortgage loans		2,524		—
Other		—		1,244
Gross investment income		1,170,138		196,935
Less: refund received on investment expenses (investment expense)		70,840		(5,940)
Investment income, net of expenses	$	1,240,978	$	190,995

Proceeds for the three months ended March 31, 2020 and 2019 from sales of investments classified as available-for-sale were $3,852,943 and $360,600, respectively. Gross gains of $149,548 and $1,624 and gross losses of $24,832 and $6,021 were realized on those sales during the three months ended March 31, 2020 and 2019, respectively.

Table of Contents

Note 6. Derivative Instruments

The Company entered into derivative instruments to hedge fixed indexed annuity products that guarantee the return of principal to the policyholders and credit interest based on a percentage of the gain in a specified market index. To hedge against adverse changes in equity indices, the Company entered into contracts to buy equity indexed options. However, these derivatives are not designated as hedge under GAAP.

American Life has treaties with two reinsurance companies that have funds withheld and modified coinsurance provisions. Under those provisions, the assets backing the treaties are maintained by American Life as collateral and are carried on the balance sheet for A but are owned by the reinsurer, thus, the total return on the asset portfolio belongs to the reinsurers. Under GAAP this is considered an embedded derivative. However, this embedded derivative is not designated as a hedge under GAAP.

The following is a summary of the asset derivatives not designated as hedges and embedded derivatives in our FIA product as of March 31, 2020 and December 31, 2019:


		March 31, 2020					December 31, 2019
	Location in the
Derivatives Not Designated	Consolidated Statement	Notional		Number of	Estimated		Notional		Number of	Estimated
as Hedging Instruments	of Balance Sheets	Amount		Contracts	Fair Value		Amount		Contracts	Fair Value
Equity-indexed options	Derivatives	$	24,097,066	54	$	463,330	$	9,698,863	24	$	575,294
Equity-indexed embedded derivative	Deposit-type contracts		24,374,089	243		561,759		10,720,324	108		576,634

Due to significant price decreases in the capital markets because of the COVID-19 pandemic, our securities positions resulted in a substantial unrealized loss at March 31, 2020, reported in accumulated other comprehensive loss on the balance sheet.

The following table summarizes the impact of those embedded derivatives related to the Funds Withheld provision where the total return on the asset portfolio belongs to the reinsurers:


	March 31, 2020

	Book Value of			Market Value of		Total Return
Portfolio	Assets			Assets		Swap Value
Ironbound	$	97,863,315	$	78,198,346	$	19,664,969
SDA		17,756,548		14,182,598		3,573,950
Total	$	115,619,863	$	92,380,944	$	23,238,919

This was recorded as an increase in our amounts recoverable from reinsurers of $23,238,919 on our balance sheet and a realized gains of $23,238,919 on our income statement.

Note 7. Fair Values of Financial Instruments

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. We use valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, accounting standards establish

Table of Contents

a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2: Significant other 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.

Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

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.

A description of the valuation methodologies used for assets measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.

Level 1 measurements

Cash: The carrying value of cash and cash equivalents and short-term investments approximate the fair value because of the short maturity of the instruments.

Level 2 measurements

Fixed maturities: Fixed maturities are recorded at fair value on a recurring basis utilizing a third-party pricing source. The valuations are reviewed and validated quarterly through random testing by comparisons to separate pricing models or other third party pricing services. For the period ended March 31, 2020, there were no material changes to the valuation methods or assumptions used to determine fair values, and no broker or third party prices were changed from the values received.

Derivatives: Derivatives are reported at fair market value utilizing a third-party pricing source.

Investment escrow: The Company held in escrow as of December 31, 2019, cash that was used to settle a mortgage loan that did not close until January 2020.

Level 3 measurements

Mortgage loans on real estate, held for investment: Mortgage loans are carried at their unpaid principal value as there are no traded market values for these loans.

Other invested assets: Short-term equipment leases are carried at their principal value as there are no traded market values for these leases.

Preferred stock: The preferred stock investment was recorded at its principal value as there was no traded market values for this stock.

Policy loans: Policy loans are stated at unpaid principal balances. As these loans are fully collateralized by the cash surrender value of the underlying insurance policies, the carrying value of the policy loans approximates their fair value.

Deposit-type contracts: The fair value for direct and assumed liabilities under deposit-type insurance contracts (accumulation annuities) is calculated using a discounted cash flow approach. Cash flows are projected using actuarial

Table of Contents

assumptions and discounted to the valuation date using risk-free rates adjusted for credit risk and nonperformance risk of the liabilities. The fair values for insurance contracts other than deposit-type contracts are not required to be disclosed.

The following table presents the Company’s fair value hierarchy for those financial instruments measured at fair value on a recurring basis as of March 31, 2020 and December 31, 2019.


			Significant
	Quoted		Other		Significant
	In Active		Observable		Unobservable		Estimated
	Markets		Inputs		Inputs		Fair
	(Level 1)		(Level 2)		(Level 3)		Value
March 31, 2020
Financial assets
Fixed maturities:
U.S. government obligations	$	—	$	2,216,200	$	—	$	2,216,200
Mortgage-backed securities		—		752,980		—		752,980
Asset-backed securities		—		102,779,025		—		102,779,025
States and political subdivisions — general obligations		—		251,233		—		251,233
States and political subdivisions — special revenue		—		2,971,711		—		2,971,711
Corporate		—		16,861,714		—		16,861,714
Total fixed maturities		—		125,832,863		—		125,832,863
Mortgage loans on real estate, held for investment		—		—		48,982,622		48,982,622
Derivatives		—		463,330		—		463,330
Investment escrow		—		—		—		—
Other invested assets		—		—		2,796,352		2,796,352
Preferred stock		—		—		500,000		500,000
Total Investments	$	—	$	126,296,193	$	52,278,974	$	178,575,167
Financial liabilities
Embedded derivative for equity-indexed contracts	$	—	$	561,759	$	—		561,759
December 31, 2019
Fixed maturities:		—
U.S. government obligations		—		2,081,224		—		2,081,224
Mortgage-backed securities		—		798,608		—		798,608
Asset-backed securities		—		95,247,824		—		95,247,824
States and political subdivisions — general obligations		—		249,282		—		249,282
States and political subdivisions — special revenue		—		25,291		—		25,291
Corporate		—		18,839,632		—		18,839,632
Total fixed maturities		—		117,241,861		—		117,241,861
Mortgage loans on real estate, held for investment		—		—		13,810,041		13,810,041
Derivatives		—		575,294		—		575,294
Investment escrow		—		3,899,986		—		3,899,986
Other invested assets		—		—		2,468,947		2,468,947
Preferred stock		—		—		500,000		500,000
Total Investments	$	—	$	121,717,141	$	16,778,988	$	138,496,129
Financial liabilities
Embedded derivative for equity-indexed contracts	$	—	$	576,634	$	—		576,634

There were no transfers of financial instruments between any levels during the three months ended March 31, 2020 or during the year ended December 31, 2019.

Accounting standards require disclosure of the fair value of financial assets and financial liabilities, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or non-recurring basis. The methodologies for estimating the fair value of financial assets and financial liabilities that are measured at fair value on a recurring basis are discussed above. There were no financial assets or financial liabilities measured at fair value on a non-recurring basis.

Table of Contents

The following disclosure contains the carrying values, estimated fair values and their corresponding placement in the fair value hierarchy for financial assets and financial liabilities as of March 31, 2020 and December 31, 2019, respectively:


	March 31, 2020
			Fair Value Measurements Using
			Quoted Prices in
			Active Markets		Significant Other		Significant
			for Identical Assets		Observable		Unobservable
	Carrying		and Liabilities		Inputs		Inputs		Fair
	Amount		(Level 1)		(Level 2)		(Level 3)		Value
Assets:
Policy loans	$	128,734	$	—	$	—	$	128,734	$	128,734
Cash		25,506,856		25,506,856		—		—		25,506,856
Liabilities:
Policyholder deposits (Deposit-type contracts)		220,462,679		—		—		220,462,679		220,462,679


	December 31, 2019
			Fair Value Measurements Using
			Quoted Prices in
			Active Markets		Significant Other		Significant
			for Identical Assets		Observable		Unobservable
	Carrying		and Liabilities		Inputs		Inputs		Fair
	Amount		(Level 1)		(Level 2)		(Level 3)		Value
Assets:
Policy loans	$	106,014	$	—	$	—	$	106,014	$	106,014
Cash		43,716,205		43,716,205		—		—		43,716,205
Liabilities:
Policyholder deposits (Deposit-type contracts)		171,168,785		—		—		171,168,785		171,168,785

The following tables present a reconciliation of the beginning balance for all investments measured at fair value on a recurring basis using level three inputs during the three months ended March 31, 2020.



	Beginning								Ending
	Balance						Realized		Balance
	As of						Gain/		As of
	December 31, 2019		Additions		Sales		(Loss)		March 31, 2020
Assets
Policy loans	$	106,014	$	22,720	$	—	$	—	$	128,734
Mortgage loans on real estate,
held for investment		13,810,041		37,242,531		2,100,192		30,242		48,982,622
Other invested assets		2,468,947		2,458,792		2,131,387		—		2,796,352
Preferred stock		500,000		—		—		—		500,000
Total Investments	$	16,885,002	$	39,724,043	$	4,231,579	$	30,242	$	52,407,708

Table of Contents

Note 8. Income Tax Matters

Significant components of the Company’s deferred tax assets and liabilities as of March 31, 2020 and December 31, 2019 are as follows:


	March 31, 2020		December 31, 2019
Deferred tax assets:
Loss carryforwards	$	427,075	$	436,777
Capitalized costs		210,030		221,918
Stock option granted		7,072		4,566
Unrealized losses on investments		5,568,896		—
Policy acquisition costs		1,728,134		1,468,030
Charitable contribution carryforward		1,230		1,020
Property and equipment		23,362		15,508
Benefit reserves		1,338,072		848,643
Total deferred tax assets		9,303,871		2,996,462
Less valuation allowance		(4,156,035)		(2,618,741)
Total deferred tax assets, net of valuation allowance		5,147,836		377,721
Deferred tax liabilities:
Unrealized losses on investments		4,880,173		116,088
Due premiums		84,076		81,789
Intangible assets		147,000		147,000
Policy loans		36,587		32,844
Property and equipment		—		—
Total deferred tax liabilities		5,147,836		377,721
Net deferred tax assets	$	—	$	—

At March 31, 2020 and December 31, 2019, the Company recorded a valuation allowance of $4,156,035 and $2,618,741, respectively, on the deferred tax assets to reduce the total to an amount that management believes will ultimately be realized. Realization of deferred tax assets is dependent upon sufficient future taxable income during the period that deductible temporary differences and carryforwards are expected to be available to reduce taxable income.

There was income tax expense of $407,916 for the three months ended March 31, 2020 and no income tax expense for the three months ended March 31, 2019. This differed from the amounts computed by applying the statutory U.S. federal income tax rate of 21% to pretax income, as a result of the following:


	Three months ended March 31,
	2020		2019
Computed expected income tax benefit	$	4,610,839	$	(313,954)
Increase (reduction) in income taxes resulting from:
Meals, entertainment and political contributions		2,611		2,583
Change in valuation allowance		(4,147,690)		234,398
Other		(57,844)		76,973
Subtotal of increases		(4,202,923)		313,954
Tax expense (benefit)		407,916		—

Section 382 of the Internal Revenue Code limits the utilization of U.S. net operating loss (“NOL”) carryforwards following a change of control, which occurred on June 28, 2018. As of March 31, 2020, the deferred tax assets included the expected tax benefit attributable to federal NOLs of $1,896,207. The federal NOLs generated prior to June 28, 2018 which are subject to Section 382 limitation can be carried forward. If not utilized, the NOLs of $890,636 prior to 2017 will expire through the year of 2032, and the NOLs generated from June 28, 2018 to March 31, 2020 do not expire and will carry forward indefinitely, but their utilization in any carry forward year is limited to 80% of taxable income in that year.

Loss carry forwards for tax purposes as of March 31, 2020, have expiration dates that range from 2024 through 2039.

Table of Contents

Note 9. Reinsurance

A summary of significant reinsurance amounts affecting the accompanying consolidated financial statements as of March 31, 2020 and December 31, 2019 and for the three months ended March 31, 2020 and 2019 is as follows:


	Three months ended March 31,
	2020		2019
Statements of comprehensive income:
Premiums ceded		231,674		273,101
Benefits ceded		31,287		77,703
Commissions ceded		3,108		2,914

The following table provides a summary of the significant reinsurance balances recoverable on paid and unpaid policy claims by reinsurers except for a reinsurance with Unified as it was accounted for as discontinued operations:


							Recoverable on				Total Amount
			Recoverable		Recoverable		Benefit		Ceded		Recoverable
	AM Best		on Paid		on Unpaid		Reserves/Deposit-		Due		from
Reinsurer	Rating		Losses		Losses		type Contracts		Premiums		Reinsurer
Ironbound Reinsurance Company Limited		NR	$	—	$	—	$	21,325,367	$	—	$	21,325,367
Optimum Re Insurance Company		A		—		—		479,884		—		479,884
Sagicor Life Insurance Company		A-		—		134,417		11,367,938		267,808		11,234,546
SDA Annuity & Life Re		NR		—		—		5,761,090		—		5,761,088
US Alliance Life and Security Company		NR		—		—		12,458,766		58,704		12,400,062
			$	—	$	134,417	$	51,393,045	$	326,512	$	51,200,947

Due to the volatility of the markets resulting from the COVID-19 pandemic, certain assets that were carried on our balance sheet have resulted in approximately $27 million of unrealized losses. American Life has treaties with two third-party reinsurers that have funds withheld and modified coinsurance provisions. Under those provisions, the assets backing the treaties are maintained by American Life as collateral but the assets and total returns or losses on the asset portfolios belong to the reinsurers. Under GAAP this arrangement is considered an embedded derivative as discussed in Note 6. As a result of the COVID-19 pandemic, the assets had unrealized losses of approximately $23.2 million as of March 31, 2020. The terms of the contracts with the third party reinsurers provide that unrealized losses on the portfolios accrue to the reinsurers. We account for this loss pass through by recording equivalent realized gains on our income statement. Accordingly, the unrealized losses on the assets held by American Life were offset by a gain in the embedded derivative of $23.2 million. The remaining unrealized loss of approximately $3.3 million related to the investments retained by American Life primarily in CLOs. The CLOs have unique characteristics, including being typically illiquid and usually intended by us to be held to term.

Effective November 7, 2019, American Life entered into a Funds Withheld Coinsurance and Modified Coinsurance Agreement (“FW/Modco SDA Agreement”) with SDA Annuity & Life Re (“SDA”), a Cayman Islands-domiciled reinsurance company. In a modified coinsurance arrangement (“Modco”), the ceding entity retains the assets equal to the modified coinsurance reserves retained. In a funds withheld coinsurance agreement (“FW”), assets that would normally be paid over to a reinsurer are withheld by the ceding company to permit statutory credit for unauthorized reinsurance, to reduce the potential credit risk. Under the FW/Modco SDA Agreement, American Life cedes to SDA, on a funds withheld coinsurance and modified coinsurance basis, (5%) quota share of certain liabilities with respect to its multi-year guaranteed annuity (“MYGA”) business and an initial ninety-five (95%) quota share of certain liabilities with respect to its fixed indexed annuity (“FIA”) through December 31, 2019 and thirty (30%) through March 31, 2020. American Life has established two accounts to hold the assets for the FW/Modco Agreement, a Funds Withheld Account and a Modco Deposit Account.

Table of Contents

In addition, a trust account was established on November 7, 2019 among American Life, SDA and Wells Fargo Bank, National Association for the sole benefit of American Life to fund the SDA Funds Withheld Account and the SDA Modco deposit account for any shortage in required reserves.

The initial settlement included net premium income of $3,970,509 and net statutory reserves of $3,986,411. The initial settlement for the Funds Withheld Account was $2,256,802 and for the Modco Deposit Account was $1,504,535 and the reserves required was $2,391,847 and $1,594,564, respectively. The amount owed to the Funds Withheld Account and the Modco Deposit Account from the trust account was $135,044 and $90,029, respectively which was funded at the closing of the SDA transaction. American Life earned a ceding commission of $298,982 and $996,701 and commission and administrative allowances of $548,464 and $1,734,184 as of March 31, 2020 and December 31, 2019, respectively. The commission and administrative allowances of $548,464 and $1,734,184 first reduced costs that would have been deferred acquisitions costs incurred and the remainder of the allowances were classified as deferred ceding commissions along with the $298,982 and $996,701 ceding commission earned as of March 31, 2020 and December 31, 2019, respectively.

Effective July 25, 2019, American Life entered into a Funds Withheld Coinsurance and Modified Coinsurance Agreement (“FW/Modco Ironbound Agreement”) with Ironbound Reinsurance Company Limited, an unaffiliated reinsurance company organized under the laws of Barbados (“Ironbound”). Under the FW/Modco Ironbound Agreement, American Life ceded to Ironbound, on a funds withheld coinsurance and modified coinsurance basis, an initial ninety-five (95%) quota share of certain liabilities with respect to its MYGA business. Starting on March 1, 2020, the quota share dropped to (30%) and then again on March 11, 2020 the quota share dropped to (0%). American Life has established two accounts to hold the assets for the FW/Modco Ironbound Agreement, a Funds Withheld Account and a Modco Deposit Account.

In addition, a trust account was established on June 30, 2019 among American Life, Ironbound and Wells Fargo Bank, National Association for the sole benefit of American Life to fund the Funds Withheld Account and the Modco Deposit Account for any shortage in required reserves.

The initial settlement included net premium income of $45,005,536 (gross premiums of $46,568,321 minus gross commissions paid of $1,562,786) and net statutory reserves of $47,271,267. The initial settlement for the Funds Withheld Account was $24,928,934 and for the Modco Deposit Account was $16,619,289 and the reserves required was $26,944,622 and $17,963,081, respectively. The amount owed to the Funds Withheld Account and the Modco Deposit Account from the trust account was $2,015,688 and $1,343,792, respectively which was funded at the closing of the Ironbound transaction. American Life earned a ceding commission of $674,645 and $4,843,120 and commission and administrative allowances of $673,612 and $4,734,926 as of March 31, 2020 and December 31, 2019, respectively. The commission and administrative allowances of $673,612 and $4,734,926 first reduced costs that would have been deferred acquisitions costs incurred and the remainder of the allowances were classified as deferred ceding commissions along with the $674,645 and $4,843,120 ceding commission earned as of March 31, 2020 and December 31, 2019, respectively.

At March 31, 2020 and December 31, 2019 total benefit reserves, policy claims, deposit-type contracts, and due premiums ceded by American Life to Sagicor were $11,234,546 and $11,208,227, respectively. At March 31, 2020 and December 31, 2019, total benefit reserves, policy claims, deposit-type contracts, and due premiums ceded by American Life to US Alliance were $12,400,062 and $12,160,917, respectively. American Life remains contingently liable on the ceded reinsurance should Sagicor or US Alliance be unable to meet their respective obligations. At March 31, 2020 and December 31, 2019, total deposit-type contract ceded by American Life to Ironbound were $21,325,367 and $4,213,699, respectively. At March 31, 2020 and December 31, 2019, total deposit-type contract ceded by American Life to SDA were $5,761,088 and $2,506,911, respectively.

The use of reinsurance does not relieve American Life of its primary liability to pay the full amount of the insurance benefit in the event of the failure of a reinsurer to honor its contractual obligation for all blocks of business except what is included in the Unified transaction. The reinsurance agreement with Unified discharges American Life’s responsibilities once all the policies have changed from indemnity to assumptive reinsurance. No reinsurer of business ceded by American Life has failed to pay policy claims (individually or in the aggregate) with respect to our ceded business.

American Life monitors several factors that it considers relevant to satisfy itself as to the ongoing ability of a reinsurer to meet all obligations of the reinsurance agreements. These factors include the credit rating of the reinsurer, the financial strength of the reinsurer, significant changes or events of the reinsurer, and any other relevant factors. If American Life believes that any reinsurer would not be able to satisfy its obligations with American Life, separate contingency reserves may be established. At March 31, 2020 and December 31, 2019, no contingency reserves was established.

Table of Contents

Note 10. Notes Payable

On June 28, 2018, we underwent a change in control as a result of the closing of a Loan, Convertible Preferred Stock and Convertible Senior Secured Note Purchase Agreement dated May 9, 2018 (the “Agreement”) with a non-affiliated third party, Xenith. Vespoint LLC, a Delaware limited liability company (“Vespoint”), owns 100% of the voting stock of Xenith. Vespoint is owned and managed by AMS Advisors LLC, a Delaware limited liability company, and Rendezvous Capital LLC, a New York limited liability company. Each of these three companies is a private investment company; they are controlled by Michael Minnich and A. Michael Salem, who are Co-Chief Executive Officers of Vespoint and Executive Officers of Midwest and American Life.

At closing of the Agreement with Xenith, it loaned a total of $600,000 to Midwest, repayable upon maturity in 10 years with interest of 8% per annum with 4% payable quarterly and another 4% accrued and payable upon maturity. The loans were made under two notes of $500,000 and $100,000, respectively. The Agreement further provided that Xenith, in its sole discretion, could loan up to an additional $23,500,000 to Midwest. Any loans made by Xenith under this election (“Subsequent Loans”) could also to be converted into Midwest’s voting common stock at $0.02 per share. Xenith contributed an additional $18,500,000 in the fourth quarter of 2018 following the amendment of the Midwest Articles of Incorporation to increase its authorized voting common shares to 1,970,000,000. All loans were later converted into Midwest voting common stock on June 18, 2019. Any additional borrowing capacity was terminated by written mutual consent in April 2020.

The Company had total accrued interest of $845,536 on the Xenith notes through June 18, 2019. All interest on the notes from inception through June 18, 2019 was waived by Xenith. The accrued interest was accounted for as an additional capital contribution. The legal fees of $161,000 associated with the Xenith transaction were capitalized and subsequently written off when the notes were converted.

The following table sets forth information regarding loans made to us by Xenith through June 18, 2019 and the number of shares of voting common stock each loan was converted into on June 28, 2019:


			Shares of Common
	Loan		Stock into which
	Principal		Loans Were
Date of Loan	Amount		Converted
June 28, 2018	$	500,000	24,284,825
June 28, 2018		100,000	4,856,965
October 10, 2018		1,000,000	48,569,650
December 7, 2018		17,500,000	849,968,875
Total	$	19,100,000	927,680,315

As of March 31, 2020, Midwest had no notes outstanding to Xenith.

Note 11. Long-Term Incentive Plan

On June 11, 2019, our Board of Directors (the “Board”) approved the Midwest Holding Inc. Long-Term Incentive Plan. The purposes of this Long-Term Incentive Plan (“LTIP”) is to create incentives which are designed to motivate participants to put forth maximum effort toward the success and growth of the Company and to enable the Company to attract and retain experienced individuals who by their position, ability and diligence are able to make important contributions to the Company’s success. Toward these objectives, this Plan provides for the grant of Options, Restricted Stock Awards, Restricted Stock Units, SARs, Performance Units, Performance Bonuses, Stock Awards and Other Incentive Awards to Eligible Employees and the grant of Nonqualified Stock Options, Restricted Stock Awards, Restricted Stock Units, SARs, Performance Units, Stock Awards and Other Incentive Awards to Consultants and Eligible Directors, subject to the conditions set forth in this Plan. All awards are required to be established, approved and/or granted by our Board.

On July 19, 2019, the Company granted stock options for 8,950,000 shares at an exercisable during a ten year period after the date of grant at a price of $0.05 per share with one-third exercisable after July 17, 2021 and two-thirds exercisable after July 17, 2023. The fair market value of the shares was approximately $0.016 a share at grant date.

Table of Contents

The Company’s management team considered the stock options as compensation. Using the Black-Scholes Model we determined the consideration should be $143,200. The factors we used to determine the consideration were the following: the weighted average fair market value at grant date of $0.016 a share, exercise price of $0.05 a share, time to maturity of 10 years, annual risk-free interest rate of 1.84% based upon the 10 year U.S. Treasury rate at grant date, and a 200% volatility based on the change in price of the stock between the decision and grant date, the amount of shares and the closely held nature of the stock before the grant. As of March 31, 2020, we have amortized the consideration over the two and four year vesting tranches for an expense and additional paid in capital of $11,933. As of March 31, 2020, and December 31, 2019, the cumulative amortization and additional paid in capital was $33,678 and $21,745, respectively. No options had been or forfeited as of March 31, 2020 or December 31, 2019.

Note 12. Deposit-Type Contracts

The Company’s deposit-type contracts represent the contract value that has accrued to the benefit of policyholders as of the balance sheet date. Liabilities for these deposit-type contracts are included without reduction for potential surrender charges. This liability is equal to the accumulated account deposits, plus interest credited, and less policyholder withdrawals. The following table provides information about deposit-type contracts for the three months ended March 31, 2020 and the year ended December 31, 2019:


	March 31, 2020		December 31, 2019
Beginning balance	$	171,168,785	$	7,234,927
US Alliance		190,802		657,986
Ironbound Reinsurance Company Limited		—		1,839,551
SDA Annuity & Life Re (includes MVA adjustment and embedded derivative)		—		194,940
Deposits received		47,815,010		161,392,700
Investment earnings (includes MVA adjustment and embedded derivative)		1,474,771		9,271
Withdrawals		(186,689)		(160,590)
Ending balance	$	220,462,679	$	171,168,785

Note 13. Contingencies and Commitments

Legal Proceedings: We are involved in litigation incidental to our operations from time to time. We are not presently a party to any legal proceedings other than litigation arising in the ordinary course of our business, and we are not aware of any claims that could materially affect our financial position or results of operations.

Regulatory Matters: State regulatory bodies and other regulatory bodies regularly make inquiries and conduct examinations or investigations concerning the Company’s compliance with laws in relation to, but not limited to, insurance and securities matters. American Life received a Certificate of Authority to conduct business in Iowa during the first quarter of 2019. American Life received a Certificate of Authority to conduct business during 2020 from each of the following states: Utah, Montana, Louisiana, Ohio, and the District of Columbia. American Life has pending applications six additional states that are expected to be approved by the end of 2020. The Nebraska Department of Insurance (“NDOI”) granted American Life approval to enter into the Funds Withheld Coinsurance and Modified Coinsurance Agreement with Ironbound prior to closing of the agreement in July 2019. The NDOI granted American Life approval to enter into the Funds Withheld Coinsurance and Modified Coinsurance Agreement with SDA prior to closing of the agreement in December 2019.

Note 14. Leases

Our operating lease activities consist of leases for office space and equipment. Our finance lease activities consist of leases for hardware which we will own at the end of the lease agreement. None of our lease agreements include variable lease payments. See the discussion of our January 1, 2019 implementation of a new accounting standard for leases and its impact on our Consolidated Financial Statements in Note 2. New Accounting Standards.

Table of Contents

Supplemental balance sheet information as of March 31, 2020 regarding our leases is as follows:


		As of		As of
Leases	Classification	March 31, 2020		December 31, 2019
Assets
Noncurrent:
Finance	Office and other equipment, net of accumulated depreciation and amortization	$	—	$	2,913
Operating	Operating lease right-of-use assets		439,648		470,132
Total leased assets		$	439,648	$	473,045

Liabilities
Current:
Finance lease	Finance lease liabilities	$	—	$	1,860
Noncurrent:
Operating lease	Operating lease liabilities		492,730		524,248
Total leased liabilities		$	492,730	$	526,108

Our operating and finance leases expenses for the three months ended March 31, 2020 and 2019, were as follows:


		Three months ended March 31,
Leases	Classification	2020		2019
Operating	General and administrative expense	$	2,092	$	3,766

Finance lease cost:
	Amortization expense		2,913		2,914
	Interest expense		111		111

Minimum contractual obligations for our operating leases at March 31, 2020, are as follows:


	Operating Leases
2020 (excluding three months ended March 31, 2020)	$	121,279
2021		164,081
2022		156,608
2023		161,674
2024		13,508
Total remaining lease payments	$	617,150

Supplemental cash flow information related to leases was as follows:


	Three months ended March 31,
	2020		2019
Cash payments
Operating cash flows from operating leases	$	(1,035)	$	232
Operating cash flows from finance leases		1,164		1,165
Financing cash flows from finance leases		(111)		(111)

The weighted average remaining lease terms and discount rate of our finance and operating leases was follows:


	As of		As of
	March 31, 2020			December 31, 2019
Weighted Average Remaining Lease Term
Finance lease		—		3 months
Operating lease		2.2 years		2.5 years
Weighted Average Discount Rate
Finance lease		6%		6%
Operating lease		8%		8%

Table of Contents

Note 15. Statutory Net Income and Surplus

American Life is required to prepare statutory financial statements in accordance with statutory accounting practices prescribed or permitted by the Nebraska Department of Insurance. Statutory practices primarily differ from GAAP by charging policy acquisition costs to expense as incurred, establishing future policy benefit liabilities using different actuarial assumptions as well as valuing investments and certain assets and accounting for deferred taxes on a different basis. As filed in the statutory-basis annual statement with the Nebraska Department of Insurance, American Life’s statutory net gains (losses) for the three months ended March 31, 2020 and 2019 were $423,474 and $(1,308,563), respectively. Capital and surplus of American Life as of March 31, 2020 and December 31, 2019 was $18,504,524 and $19,507,325, respectively. The net gain was primarily due to the ceding commission and reserve adjustments earned on the Ironbound and SDA reinsurance transactions; offset by continuing expenses incurred to provide services on new software and related technology to distribute products through national marketing organizations. For the quarter ended March 31, 2020, the MYGA and FIA sales were $31,565,506 and $16,249,504 compared to the $8,292,617 of MYGA sales as of March 31, 2019. An additional $8,092,612 of MYGA and $6,786,557 of FIA sales were pending as of March 31, 2020.

As discussed in Note 9 Reinsurance above, American Life entered into the FW/Modco Agreement with Ironbound to cede 95% of American Life’s MYGA business. On March 1, 2020, the quota share ceded to Ironbound was reduced to 30% and on March 11, 2020 the quota share was further reduced to 0%. Premiums net of commissions and ceding commission and administrative fees ceded to Ironbound were $17,757,301 and $128,760,161 and the reserve requirement of $20,701,016 and $139,093,289 was ceded to Ironbound as of March 31, 2020 and December 31, 2019, respectively.

Also included in Note 9. Reinsurance above, American Life entered into the FW/Modco Agreement with SDA to cede 5% of the MYGA and 95% of the FIA business through December 31, 2019. Effective January 1, 2020, the FIA quota share was reduced to 30%. Premiums net of commissions and ceding commission and administrative fees ceded to SDA were $5,427,396 and $18,984,045 and the reserve requirements of $6,111,782 and $20,822,364 were ceded to SDA for the quarter ended March 31, 2020 and the year ended December 31, 2019.

State insurance laws require American Life to maintain certain minimum capital and surplus amounts on a statutory basis. Our insurance subsidiary is subject to regulations that restrict the payment of dividends from statutory surplus and may require prior approval from its domiciliary insurance regulatory authorities. American Life is also subject to risk-based capital (“RBC”) requirements that may further affect its ability to pay dividends. American Life’s statutory capital and surplus as March 31, 2020 and December 31, 2019, exceeded the amount of statutory capital and surplus necessary to satisfy regulatory requirements, including the RBC requirements.

As of March 31, 2020, and December 31, 2019, American Life did not hold any participating policyholder contracts where dividends were required to be paid.

Note 16. Third Party Administration

The Company commenced its third party administrative (“TPA”) services in 2012 as an additional revenue source. These services are offered to non-affiliated entities. These agreements, for various levels of administrative services on behalf of each company, generate fee income for the Company. Services provided vary based on their needs and can include some or all aspects of back-office accounting and policy administration. We have been able to perform our TPA services using our existing in-house resources. Fees earned during the three months ended March 31, 2020 and 2019 amounted to $8,160 and $15,540, respectively.

Note 17. Subsequent Events

COVID-19 Pandemic

Beginning in March 2020, the global pandemic associated with novel COVI-19 and related economic conditions began to impact the Company’s results. Due to the unprecedented volatility in the economy related to COVID-19, the Company’s available for sale assets values were reduced by approximately $26.5 million and was reflected in the accumulated other comprehensive income on the balance sheet. This was offset by a realized gain of $23.2 million on the related embedded derivative. Also, the derivative assets were reduced by $679,000 and were reflected in our realized gains and losses in the

Table of Contents

income statement. Approximately 80% of the unrealized losses were in our CLO portfolio and are typically illiquid which are intended to be held to maturity, thus we believe the risk of loss is not significant. The Company has monitored the underlying unrealized losses and believe they pose little threat in the long-term due to the quality of the underlying credits. We believe that the quality and duration of our investments provide reasonable assurance of continued performance of the portfolio despite the recent economic volatility. As mentioned above in Items Impacting Comparability, the assets backing the treaties are maintained by American Life as collateral whereas the assets and total return on the asset portfolios are owned by the reinsurers. The Company has only contingent exposure to these losses as the CLO’s are held as collateral in and funds withheld and modification coinsurance accounts for the performance of the reinsurers under the coinsurance treaties. The reinsurer bears the risk of loss. Under GAAP, this arrangement is considered an embedded derivative as discussed in Note 6 to our consolidated financial statements.

The COVD-19 pandemic has not materially impacted our sales of our annuity products as evidenced by new sales of $47.8 million in issued premium and pending applications of $14.9 million. Our policies sold have surrender charges over their duration that would tend to offset future income accruals.

Operationally, the Company has the vast majority of its workforce working remotely with a skeleton crew in the office. Our technology has allowed us to move to this work environment without a reduction in our productivity. The Company’s business continuity plan has performed as expected.

The Company’s management will continue to monitor our investments and cash flows to evaluate the impact as this pandemic evolves.

On April 7, 2020, the Nebraska Department of Insurance (“NDOI”) approved the Funds Withheld and Funds Paid Coinsurance Agreement (“US Alliance Agreement”) between American Life and US Alliance Life and Security Company, a Kansas reinsurance company (“US Alliance”). The US Alliance Agreement closed on April 15, 2020. Under the US Alliance Agreement, American Life will cede to US Alliance, on a funds withheld and funds paid coinsurance basis, an initial forty-nine percent (49%) quota share of certain liabilities with respect to American Life’s FIA business effective January 1, 2020 through March 31, 2020. Effective from March 1, 2020 through March 10, 2020, American Life will cede a forty-five point five percent (45.5%) quota share of certain liabilities with respect to its MYGA business to US Alliance. Effective March 11, 2020 through March 31, 2020, on a funds withheld and funds paid coinsurance basis, the quota share will increase to sixty-six point five percent (66.5%) of certain liabilities with respect to its MYGA business. Effective April 1, 2020, the FIA quota share was reduced to forty (40%) and the MYGA quota share was reduced to twenty-five percent (25%). American Life has established a US Alliance Funds Withheld Account to hold the assets for the US Alliance Agreement. The NDOI approved the inclusion of the US Alliance coinsurance in American Life’s March 31, 2020 statutory financials.

Effective March 12, 2020, Seneca Reinsurance Company, LLC (“Seneca Re”), a Vermont limited liability company was formed to operate as a sponsored captive insurance company for the purpose of insuring and reinsuring various types of risks of its participants through one or more protected cells and to carry on and conduct any other business or activity that is permitted for sponsored captive insurance companies under Vermont regulations. On March 30, 2020, Seneca Re received its Certification of Authority to transact the business of a captive insurance company. On May 12, 2020, Midwest contributed $300,000 to Seneca Re for a 100% ownership in it. On April 15, 2020, Midwest entered into an operating agreement with Seneca Re.

On May 13, 2020 the Nebraska Department of Insurance (“NDOI”) approved the Funds Withheld and Modified Coinsurance Agreement (“Seneca Re Agreement”) between American Life and Seneca Re, which is entering into this Seneca Re Agreement by and through Protected Cell 2020-01 (“SRC1”). The Seneca Re Agreement closed on May 13, 2020. Under the Seneca Re Agreement, American Life will cede to SRC1, on a funds withheld and modified coinsurance basis, an initial twenty-one percent (21%) quota share of certain liabilities with respect to American Life’s FIA business effective January 1, 2020 through March 31, 2020. Effective from March 1, 2020 through March 10, 2020, American Life will cede a nineteen point five percent (19.5%) quota share of certain liabilities with respect to its MYGA business to SRC1. Effective March 11, 2020 through March 31, 2020, on a funds withheld and funds paid coinsurance basis, the quota share will increase to twenty-eight point five percent (28.5%) of certain liabilities with respect to its MYGA business. Effective April 1, 2020, the FIA quota share was increased to forty-five (45%) and the MYGA quota share was increased to seventy-two point five percent (72.5%). American Life has established a SRC1 Funds Withheld Account to hold the assets for the Seneca Re Agreement. The NDOI approved the inclusion of the SRC1 coinsurance in American Life’s March 31, 2020 statutory financials.

Table of Contents

On April 24, 2020, the Company entered into a Securities Purchase Agreement with Xenith, Vespoint LLC, and Crestline Assurance Holdings LLC, a Delaware limited liability company (“Crestline”). Pursuant to the Agreement, Crestline purchased 222,222,222 shares of the Company’s voting common stock, par value $0.001 per share, at a purchase price of $0.045 per share for $10 million. Also on April 24, 2020, in a separate transaction, the Company sold 115,044,467 shares of common stock to various investors at $0.045 per share for $5.177 million. Midwest will contribute $5 million of proceeds received under this agreement to American Life. The remaining proceeds will be used by the Company for general working capital and corporate purposes. For more information, see the Current Report on Form 8-K that was filed with the Securities and Exchange Commission on April 24, 2020.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following Management’s Discussion and Analysis (“MD&A”) is intended to help the reader understand the financial condition of the Company as of March 31, 2020, compared with December 31, 2019, and the results of operations for the three months ended March 31, 2020, compared with the corresponding period in 2019 of Midwest Holding Inc. and its consolidated subsidiaries. The MD&A is provided as a supplement to, and should be read in conjunction with our consolidated financial statements and the accompanying notes to the consolidated financial statements (“Notes”) presented in “Part 1 – Item 1. Financial Statements” of this Report; and our Form 10‑K for the year ended December 31, 2019 (“2019 Form 10‑K”), including the sections entitled “Part I – Item 1A. Risk Factors,” and “Part II – Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Cautionary Note Regarding Forward-Looking Statements and Risk Factors

Except for certain historical information contained herein, this report contains certain statements that may be considered “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and such statements are subject to the safe harbor created by those sections. All statements, other than statements of historical fact, are statements that could be deemed forward-looking statements, including without limitation: any projections of revenues, earnings, cash flows, capital expenditures, or other financial items; any statement of plans, strategies, and objectives of management for future operations; any statements concerning new services, or developments; any statements regarding future economic conditions or performance; and any statements of belief and any statement of assumptions underlying any of the foregoing. Words such as “believe,” “may,” “could,” “expects,” “hopes,” “estimates,” “projects,” “intends,” “anticipates,” and “likely,” and variations of these words, or similar expressions, terms, or phrases, are intended to identify such forward-looking statements. Forward-looking statements are inherently subject to risks, assumptions, and uncertainties, many of which cannot be predicted or quantified, which could cause future events and actual results to differ materially from those set forth in, contemplated by, or underlying the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in “Item 1A. Risk Factors” of our 2019 Form 10-K and below in Part III – Other Information – Item 1A Risk Factors.

All such forward-looking statements speak only as of the date of this report. You are cautioned not to place undue reliance on such forward-looking statements. We expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in our expectations with regard thereto or any change in the events, conditions, or circumstances on which any such statements are based.

Overview

We were formed on October 31, 2003 for the primary purpose of becoming a financial services company. We operate our business through two subsidiaries: 1) American Life, a Nebraska-domiciled life insurance company and 2) 1505 Capital, a Delaware limited liability company in which we own a 51% interest and which provides investment advisory and related asset management services. In 2009, American Life was issued a certificate of authority to conduct life insurance business in Nebraska. We have incurred losses since inception that resulted primarily from costs incurred while raising capital and establishing and operating American Life and other entities.

Table of Contents

On June 28, 2018 we underwent a change in control as a result of the closing of a Loan, Convertible Preferred Stock and Convertible Senior Secured Note Purchase Agreement dated May 9, 2018 (the “Agreement”) with a non-affiliated third party, Xenith Holdings LLC, a Delaware limited liability company (“Xenith”). Xenith is a wholly controlled subsidiary of Vespoint LLC, a Delaware limited liability company (“Vespoint”), which is also the manager of Xenith. Vespoint is owned and managed by AMS Advisors LLC, a Delaware limited liability company, and Rendezvous Capital LLC, a New York limited liability company. Each of these three companies is a private investment company; they are controlled by Michael Minnich and A. Michael Salem, who are Co-Chief Executive Officers of Vespoint and executive officers and directors of Midwest and American Life.

Following the closing of the Agreement, we began implementation of a new business plan whose primary purpose is to leverage technology and reinsurance to distribute competitive insurance products through third-party marketing organizations.

The terms and conditions of the Agreement are described in our Current Report on Form 8‑K filed with the Securities and Exchange Commission (“SEC”) on May 14, 2018. The Agreement was filed as an exhibit to the referenced Current Report on Form 8‑K.

On April 24, 2020, we raised additional capital of $5.177 million from various third-party investors and issued 115,044,467 shares of voting common stock at $0.045 per share. Also on April 24, 2020, we signed a Securities Purchase Agreement with Crestline for additional capital of $10.0 million and issued 222,222,222 shares of our voting common stock $0.045 per share.

The Business Plan.

In 2018, subsequent to the change in control described above, we embarked upon our new business plan to become a leading, capital efficient, technology-enabled, services-oriented life and annuity fronting insurance company. Our objective is to leverage American Life, and our ancillary services business, to create and sell life and annuity products through third party independent marketing organizations using third-party reinsurance as the primary form of capital to support our growth and to bear the financial risk associated with out insurance products. Our targeted third party field marketing organizations offer products, infrastructure and other services to independent insurance agents across the United States. Although we may retain some business, we expect third-party reinsurers to ultimately assume substantially all of the insurance risk on our business through reinsurance agreements. In connection with these arrangements we will earn ceding fees from the reinsurers. We currently offer multi-year guaranteed annuity (“MYGA”) and fixed index annuity (“FIA”) through several independent marketing organizations.

We are seeking to create value through our ability to compete in the areas of:

life and annuity product innovation;

speed to market of new products;

competitive insurance rates and commissions;

streamlined customer and agent experience;

ease and efficient cost of doing business using our technology;

asset management for insurers and reinsurers; and

lower capital requirements through our use of reinsurance.

Technology: As an integral part of our new business plan, American Life implemented and integrated a modern technology platform designed to facilitate our business activities. American Life contracted with a third-party software company to license a new policy administration system known as “FAST,” an end-to-end product development, new business, distribution, management and policy administration platform that utilizes state-of-the-art technology that American Life hosts in the Amazon Web Services cloud. Functional implementation was completed in November 2018, and testing completed in January 2019. In addition, several core technology integrations were added, including document management, electronic application capability, secure log-ins and an agent and policyholder portal. Management believes this new technology should enhance cost effective product sales and development and policy administration as we scale up, as well as provide American Life with the ability to seek to expand its third party administrative services (which were a minor part of our legacy business) in the future.

Table of Contents

American Life is licensed to sell, underwrite, and market life insurance and annuity products in 20 states and has pending applications in six additional states in 2020. Sales have continued consistently and the Company’s investments continue to perform.

Critical Accounting Policies and Estimates

The MD&A included in our 2019 Form 10‑K contains a detailed discussion of our critical accounting policies and estimates. This report should be read in conjunction with the “Critical Accounting Policies and Estimates” discussed in our 2019 Form 10‑K.

Consolidated Results of Operations - Three Months Ended March 31, 2020

On June 28, 2018, Midwest closed on the Agreement with Xenith as discussed above under “Overview.” Following the closing, we embarked upon a new business plan which includes leveraging technology to distribute insurance products through Independent Marketing Organizations.

We also reinsured our existing legacy block of insurance business through a reinsurance agreement with a third party reinsurer in exchange for a ceding commission of $3.5 million. In addition, American Life obtained an A.M. Best Rating of B++ in December 2018 that was affirmed in 2019. We purchased and installed comprehensive new technology during the fourth quarter of 2018 and we began selling our first MYGA and FIA products in 2019 through the IMOs.

American Life closed the Legacy Reinsurance agreement on December 10, 2018 with a third party insurance company to cede 100% of the remaining legacy block of its business, with the transaction being effective July 1, 2018. See Note 3 Assets and Liabilities Held for Sale in the Notes to Consolidated Financial Statements above. Due to the assumptive nature of this agreement, this transaction qualified to be reported as Discontinued Operations under ASC 2014‑08 Presentation of Financial Statements (Topic 205).

American Life began selling its first MYGA and FIA products during 2019 resulting in gross premiums of $145,747,737 and $15,616,831, respectively, for the year ended December 31, 2019 on a statutory basis. For GAAP, such premiums are considered deposits and are not shown as premium income. For the three months ended March 31, 2020, and March 31, 2019, such gross premiums for MYGA and FIA products were $31,565,506 and $16,249,504, respectively.

On July 25, 2019, American Life closed a reinsurance agreement with a third party insurance company to cede 95% of American Life’s MYGA business, with the transaction being effective from inception of the sales of the MYGA product. This transaction eliminated 95% of the interest credited on the MYGA deposit-type contracts. On March 1, 2020, American Life reduced the quota share ceded to the third party reinsurer to 30% and again on March 11, 2020 to 0% at the request of the NDOI. See Note 9. Reinsurance to our Consolidated Financial Statements, above, for further discussion.

On November 7, 2019 American Life closed a second reinsurance agreement with a third party insurance company to cede the remaining 5% of the MYGA product and 95% of the FIA product to a third party reinsurer through December 31, 2019, at which time the FIA product was reduced to 30% ceded as of January 1, 2020. See Note 9. Reinsurance to our Consolidated Financial Statements, above, for further discussion.

Item Impacting Comparability

American Life has treaties with two third-party reinsurers that have funds withheld and modified coinsurance provisions. Under those provisions, the assets backing the treaties are maintained by American Life as collateral, whereas the assets and the total return on the asset portfolios belong to the reinsurers. Under GAAP this arrangement is considered an embedded derivative as discussed in Note 6 to our consolidated financial statements. As a result of recent market volatility, assets carried as investments on American Life’s financial statements for the third-party reinsurers contained unrealized losses of approximately $23.2 million as of March 31, 2020. The terms of the contracts with the third party reinsurers provide that unrealized losses on the portfolios accrue to the reinsurers. We account for this loss by recording equivalent realized gains on our income statement. Accordingly, the unrealized losses on the assets held by American Life were offset by a gain in the embedded derivative of $23.2 million.

Table of Contents

Basie earnings per share in the first quarter of fiscal 2020 were $0.021 which included the aforementioned gain of $23.2 million. Basic loss per share in the first quarter of fiscal 2020 without the aforementioned gain was ($0.002) per share.

If prices of investments recover, the unrealized gains may be reduced; therefore, the associated embedded derivative gain recognized in the first quarter of 2020, could be reduced accordingly,

COVID-19

The effect of the COVID-19 pandemic on the Company’s operations is not known as this time. Due to the unprecedented volatility in the economy related to COVID-19, the Company’s available for sale assets values were reduced by approximately $26.5 million and was reflected in the accumulated other comprehensive income on the balance sheet. This was offset by a realized gain of $23.2 million on the related embedded derivative. Also, the derivative assets were reduced by $679,000 and were reflected in our realized gains and losses in the income statement. Approximately 80% of the unrealized losses were in our CLO portfolio and are typically illiquid which are intended to be held to maturity, thus we believe the risk of loss is not significant. The Company has monitored the underlying unrealized losses and believe they pose little threat in the long-term due to the quality of the underlying credits. We believe that the quality and duration of our investments provide reasonable assurance of continued performance of the portfolio despite the recent economic volatility. As mentioned above in Items Impacting Comparability, the assets backing the treaties are maintained by American Life as collateral whereas the assets and total return on the asset portfolios belong to the reinsurers. The Company has only contingent exposure to these losses as the CLO’s are held as collateral in and funds withheld and modification coinsurance accounts for the performance of the reinsurers under the coinsurance treaties. The reinsurer bears the risk of loss. Under GAAP, this arrangement is considered an embedded derivative as discussed in Note 6 to our consolidated financial statements.

The Company’s management will continue to monitor our investments and cash flows to evaluate the impact as this pandemic evolves.

Revenues:

The following summarizes the sources of our revenue for the periods indicated:


	Three months ended March 31,
	2020		2019
Premiums revenues	$	21	$	(2,479)
Investment (losses) income, net of expenses		1,240,978		190,995
Net realized gains (losses) on investments		22,600,010		(4,397)
Amortization of deferred gain on reinsurance		182,438		806,047
Miscellaneous income		390,044		15,540
	$	24,413,491	$	1,005,706

Premium revenue: Premium revenue was flat for the three months ended March 31, 2020 compared to the same period in 2019. The introduction of our MYGA and FIA products discussed above generated a meaningful annuity policy sales; however, under GAAP, these products are considered investment contracts and GAAP requires that premiums be deferred and classified as deposit-type liabilities on our balance sheet. We expect that premium income under GAAP from our annuity products will not be a significant source of revenue until American Life develops new life insurance products in the future and achieves significant additional product sales.

The table below shows premiums under statutory accounting principles on our two annuity products:

Table of Contents


	Three months ended March 31,
	2020				2019
		MYGA		FIA		MYGA		FIA
	Premium(1)		Premium(1)(2)		Premium(1)		Premium(1)(2)
As of March 31, 2020	$	31,565,506	$	16,249,504	$	8,292,617	$	—

(1)

Under statutory accounting principles, the MYGA and FIA premiums are treated as premium revenue. Under GAAP these products are defined as deposit-type contracts; therefore, the premium revenue is accounted under GAAP as deposit-type liabilities on our balance sheet and is not recognized in our income statement.

(2)

We began selling the MYGA product in January 2019 and the FIA product in November 2019.

Investment (loss) income, net of expenses: The components of our net investment (loss) income are as follows:


	Three months ended March 31,
	2020		2019
Fixed maturities	$	1,167,614	$	195,691
Mortgage loans		2,524		—
Other		—		1,244
Gross investment income		1,170,138		196,935
Less: refund received on investment expenses (investment expense)		70,840		(5,940)
Investment income, net of expenses	$	1,240,978	$	190,995

The large increase over the prior period was due to the investment income earned on the bonds purchased with the sales of our MYGA and FIA products. Our investment portfolio grew from $25,289,696 as of March 31, 2019 compared to $177,960,625 as of March 31, 2020 due to the sales of the MYGA and FIA products which American Life used to purchase investments. American Life ceded $25,728,698 of premiums to third party reinsurers and transferred $1,495,179 of its investment income as required by the terms of the reinsurance agreements. The increase was also due to an over payment of investment expenses at year end December 31, 2019 of approximately $117,000 that was refunded in 2020.

Net realized gains and losses on investments: The net realized gain for 2020 was primarily due to the contracts to third-party reinsurers. Due to the COVID-19 pandemic and the volatility of the capital markets, the assets that were carried on the balance sheet resulted in approximately $26.0 million of unrealized losses. American Life has treaties with two third-party reinsurers that have funds withheld and modified coinsurance provisions. Under those provisions, the assets backing the treaties are maintained by American Life as collateral but the assets and total return on the asset portfolios belong to the reinsurers. Under GAAP this arrangement is considered an embedded derivative as discussed in Note 6. As a result of recent market volatility, assets carried as investments on American Life’s financial statements for the third-party reinsurers contained unrealized losses of approximately $23.2 million as of March 31, 2020. The terms of the contracts with the third party reinsurers provide that unrealized losses on the portfolios accrue to the reinsurers. We account for this loss by recording equivalent realized gains on our income statement. Accordingly, the unrealized losses on the assets held by American Life were offset by a gain in the embedded derivative of $23.2 million. In the event asset prices recover, the unrealized losses may be reduced; therefore, the associated embedded derivative gain recognized in the first quarter of 2020, could be reduced. The remaining unrealized loss of approximately $3.3 million related to the investments retained by American Life primarily in CLOs. The CLOs have unique characteristics, including being typically illiquid and usually intended by us to be held to term.

Amortization of deferred gain on reinsurance: The increase was due to the indemnity coinsurance converted to 28% assumptive reinsurance in 2019 compared to only 2% in 2020 under assumptive reinsurance we no longer have a legal obligation for policies subject to such agreement. This decrease was offset by the amortization of the ceding commission deferred from the two additional reinsurance agreements with third-party reinsurers which were not in effect in 2019.

Miscellaneous income: Miscellaneous income increased due to the consolidation of our investment advisor subsidiary as of April 2, 2019. This was offset by the decrease in third party administrative (“TPA”) fees. We had only one customer for whom we performed these services. TPA fees earned during the three months ended March 31, 2020 and 2019 were $8,160 and $15,540, respectively.

Table of Contents

Expenses are summarized in the table below.


	Three months ended March 31,
	2020		2019
Interest credited	$	211,202	$	20,821
Death and other benefits		(7,103)		3,395
Amortization of deferred acquisition costs		40,509		2,069
Salaries and benefits		824,896		539,449
Other operating expenses		1,325,113		1,934,990
	$	2,394,617	$	2,500,724

Interest credited: The decrease in the three months ended March 31, 2020 compared to the same period in 2019 was due to not ceding the interest earned on the initial sale of the MYGA product in 2019 to a third-party reinsurer. In 2020, American Life began retaining a portion of the annuity contracts which is reflected in the balance above.

Death and other benefits: Death benefits decreased due the reduction of the amount of our accrual during 2020.

Amortization of deferred acquisition costs: The increase was due to the deferred acquisition costs deferred on the sale of American Life’s MYGA product starting in late January 2019 and the subsequent amortization and the restatement of prior year for the legacy block of business amortization as an expense for discontinued operations.

Salaries and benefits: The increase was due to the addition of personnel to service our new business growth. We do not expect significant increase in these costs as we continue to implement our business plan.

Other operating expenses: Other operating expenses decreased primarily due to approximately $526,000 of Xenith note interest in 2019 which did not occur in 2020, and the decrease in the expenses related to technology and software development of approximately $58,000. These decreases were offset by the consolidation of 1505 Capital into Midwest and their expenses of approximately $138,000, an increase actuarial fees of $137,000 and the increase in legal fees of approximately $88,000 related to subsequent event transactions above in Note 17. Subsequent Events.

Investments

The Company’s overall investment philosophy is reflected in the allocation of its investments. The Company emphasizes investment grade debt securities, mortgages, and policy loans. The Company has modified its investment strategy to purchase larger position securities with increased yields compared to prior years. 1505 Capital will be providing investment and management services to the Company going forward. The following table shows the carrying value of our investments by investment category and cash and cash equivalents, and the percentage of each to total invested assets as of March 31, 2020 and December 31, 2019.


	March 31, 2020				December 31, 2019
	Carrying		Percent		Carrying		Percent
	Value		of Total		Value		of Total
Fixed maturity securities:
U.S. government obligations	$	2,216,200	1.1	%	$	2,081,224	1.1	%
Mortgage-backed securities		752,980	0.4			798,608	0.4
Asset-backed securities		102,779,025	50.3			95,247,824	52.2
States and political subdivisions - general obligation		251,233	0.1			249,282	0.1
States and political subdivisions - special revenue		2,971,711	1.5			25,291	—
Corporate		16,861,714	8.2			18,839,632	10.4
Total fixed maturity securities		125,832,863	61.6			117,241,861	64.2
Mortgage loans on real estate, held for investment		48,982,622	24.0			13,810,041	7.6
Derivatives		463,330	0.2			575,294	0.3
Investment escrow		-	-			3,899,986	2.1
Other invested assets		2,796,352	1.4			2,468,947	1.4
Preferred stock		500,000	0.2			500,000	0.3
Cash and cash equivalents		25,506,856	12.5			43,716,205	24.0

Table of Contents

Policy Loans

128,734

0.1

106,014

0.1

204,210,757

100.0

182,318,348

100.0

The following table shows the distribution of the credit ratings of our portfolio of fixed maturity securities by carrying value as of March 31, 2020 and December 31, 2019.


	March 31, 2020				December 31, 2019
	Carrying				Carrying
	Value		Percent		Value		Percent
AAA and U.S. Government	$	2,702,882	2.1	%	$	2,885,004	2.5	%
AA		10,415,734	8.3			6,658,274	5.7
A		28,797,795	22.9			23,812,502	20.3
BBB		79,429,527	63.1			79,996,081	68.2
Total investment grade		121,345,938	96.4			113,351,861	96.7
BB and other		4,486,925	3.6			3,890,000	3.3
Total	$	125,832,863	100.0	%	$	117,241,861	100.0	%

We expect that our annuity products sales will increase investable assets in future periods.

Market Risks of Financial Instruments

We hold a portfolio of investments that primarily includes cash, asset-backed securities, bonds, stocks, CLOs, mortgage loans, and notes receivable. Each of these investments is subject to market risks that can affect their return and their fair value. Further, our portfolio may be considered to have a concentration in CLOs. These securities have unique characteristics, including being typically illiquid and usually intended by us to be held to term. A majority of the investments are fixed maturity securities including debt issues of corporations, U.S. Treasury securities, mortgage-backed securities, CLOs and mortgage loans or securities issued by government agencies. The primary market risks affecting the investment portfolio are interest rate risk, credit risk, equity risk, and liquidity risk.

Interest Rate Risk

Interest rate risk arises from the price sensitivity of investments to changes in interest rates. Interest and dividend income represent the greatest portion of an investment’s return for most fixed maturity securities in stable interest rate environments. The changes in the fair value of such investments are inversely related to changes in market interest rates. As interest rates fall, the interest and dividend streams of existing fixed-rate investments become more valuable and fair values rise. As interest rates rise, the opposite effect occurs. We attempt to mitigate our exposure to adverse interest rate movements through staggering the maturities of the fixed maturity investments and through maintaining cash and other short term investments to assure sufficient liquidity to meet its obligations and to address reinvestment risk considerations. Due to the composition of our book of insurance business, we believe it is unlikely that we would encounter large surrender activity due to an interest rate increase that would force the disposal of fixed maturities at a loss.

Credit Risk

We are exposed to credit risk through counterparties and within the investment portfolio. Credit risk relates to the uncertainty associated with an obligor’s ability to make timely payments of principal and interest in accordance with the contractual terms of an instrument or contract. We manage our credit risk through diversification of investments amongst many corporations and numerous industries. Additionally, our investment policy limits the size of holding in any particular issuer.

Liquidity and Capital Resources

At March 31, 2020, the Company had cash and cash equivalents totaling $25,506,856. We believe that our existing cash and cash equivalents will be sufficient to fund the anticipated operating expenses and capital transaction expenditures for the foreseeable future.

Table of Contents

The National Association of Insurance Commissioners (“NAIC”) has established minimum capital requirements in the form of Risk-Based Capital (“RBC”). RBC factors the type of business written by an insurance company, the quality of its assets and various other aspects of an insurance company’s business to develop a minimum level of capital called “authorized control level risk-based capital” and compares this level to adjusted statutory capital that includes capital and surplus as reported under statutory accounting principles, plus certain investment reserves. Should the ratio of adjusted statutory capital to control level RBC fall below 200%, a series of remedial actions by the affected company would be required. As of December 31, 2019, the RBC ratio was 840%.

Net cash provided by operating activities was $2,316,449 for March 31, 2020, which was comprised primarily by net income of $21,956,374, an increase in recoverable from reinsurers of $2,617,495 policy liabilities of $1,699,134 primarily due increase in deposit-type contracts ceded to reinsurers, and an increase in deferred coinsurance ceding commissions due to the reinsurance agreements with third-party reinsurers of $1,033,940, offset by gain on investments due to the Swap Value discussed in Note 6 of $22,600,010 and the deferred acquisition costs capitalized of $1,483,941. Net cash used for investing activities was $68,154,008. The primary use of cash used was for purchase of our investments of $76,733,743. Offsetting this use of cash was our sale of investments in available-for-sale securities for proceeds of $8,311,453. Net cash provided by financing activities was $47,628,245. The primary source of cash was net receipts on the MYGA and FIA products of $47,815,010.

Impact of Inflation

Insurance premiums are established before the amount of losses and loss adjustment expenses, or the extent to which inflation may affect such losses and expenses, are known. We attempt, in establishing premiums, to anticipate the potential impact of inflation. If, for competitive reasons, premiums cannot be increased to anticipate inflation, this cost would be absorbed by us. Inflation also affects the rate of investment return on the investment portfolio with a corresponding effect on investment income. CLOs are typically illiquid and usually intended to be held by us to maturity.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

Contractual Obligations

As a “smaller reporting company,” the Company is not required to provide the table of contractual obligations required pursuant to this Item.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

As a “smaller reporting company,” the Company is not required to provide disclosure pursuant to this Item.

ITEM 4. CONTROLS AND PROCEDURES.

We have established disclosure controls and procedures to ensure, among other things, material information relating to our Company, including our consolidated subsidiary, is made known to our officers who certify our financial reports and to the other members of our senior management and the Board of Directors.

Management, (with the participation of our principal executive officer), carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a‑15(e) and 15d‑15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of March 31, 2020. Based on this evaluation, our principal executive officer concluded that, as of the end of the period covered in this report, our disclosure controls and procedures along with the related internal controls over financial reporting were effective to provide reasonable assurance that the information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in Securities and Exchange Commission rules and forms, and is

Table of Contents

accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS.

We are involved in litigation incidental to our operations from time to time. We are not presently a party to any legal proceedings other than litigation arising in the ordinary course of our business, and we are not aware of any claims that could materially affect our financial position or results of operations.

ITEM 1A. RISK FACTORS.

In addition to the risks previously disclosed in Item 1A – Risk Factors of our 2019 10-K, readers of this report should also consider that since March 13, 2020, the United States has been operating under a state of emergency declared by President Trump in response to the spread of COVID-19. COVID-19 and related federal, state and local governmental responses have affected economic and financial market conditions as well as the operations, results and prospects of companies across many industries.

More specifically, readers of this report should consider the following additional risk factor relating to the Company.

Major public health issues, such as the novel coronavirus COVID-19, could have an adverse impact on our business and results of operations.

We are monitoring developments related to the COVID-19 pandemic to assess its impact on our business; however, due to the evolving and highly uncertain nature of this event, it currently is not possible to estimate the direct and indirect impact of COVID-19 on our business, results of operations, financial condition or liquidity. COVID-19, or other major public health issues, could impact us in a number of ways. We may face increased costs associated with claims under our annuity and life insurance products. The cost of reinsurance, a major component of our business strategy, could increase, and we may encounter decreased availability of such reinsurance or our reinsurers.

Our investment portfolio may be adversely affected by market volatility, changes in interest rates, reduced liquidity, or by a slowdown in U.S. or global economic conditions caused by the COVID-19 pandemic or the uncertainty of its outcome. Extreme market volatility may leave us unable to react to market events in a prudent manner consistent with our historical practices in dealing with more orderly markets.

Our workforce, including particularly our executive officers, and the workforces of our vendors, service providers and counterparties, may also be affected, which could result in an adverse impact on our ability to conduct business. The efforts of governmental and non-governmental organizations in combating the spread and severity of COVID-19 or other major public health issues may not be effective. Further, we cannot predict how legal and regulatory responses to concerns about COVID-19 or other major public health issues, including the possible extension of insurance coverage beyond our policy language, will impact our business.

The extent to which COVID-19 impacts our business, results of operations, financial condition, or liquidity will depend on future developments which are highly uncertain and cannot be predicted, including new information which may emerge concerning the severity of COVID-19 and the actions taken to contain or treat its impact.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

Not applicable.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES.

None.

Table of Contents

ITEM 4. MINE SAFETY DISCLOSURES.

Not applicable.

ITEM 5. OTHER INFORMATION.

None.

Table of Contents

ITEM 6. EXHIBITS.


EXHIBIT NUMBER		DESCRIPTION
10.1**		Funds Withheld and Modified Coinsurance Agreement between SDA Annuity & Life Re and American Life & Security Corp dated
31.1*		Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2*		Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1*		Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2*		Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS *		XBRL Instance Document.
101.SCH *		XBRL Taxonomy Extension Schema Document.
101.CAL *		XBRL Taxonomy Extension Calculation Linkbase Document.
101.LAB *		XBRL Taxonomy Extension Label Linkbase Document.
101.PRE *		XBRL Taxonomy Extension Presentation Linkbase Document.
101.DEF *		XBRL Taxonomy Extension Definition Linkbase Document.

*Filed herewith.

** Portions of this exhibit have been redacted in compliance with Regulation S-K Item 601(b)(10).

EXPLANATORY NOTE: [REDACTED] INDICATES THE PORTION OF THIS EXHIBIT THAT HAS BEEN OMITTED BECAUSE IT IS BOTH (I) NOT MATERIAL AND (II) WOULD BE COMPETITIVELY HARMFUL IN PUBLICLY DISCLOSED.

Table of Contents

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

Dated: May 14, 2020


	MIDWEST HOLDING INC.


	By:	/s/ A. Michael Salem
	Name:	A. Michael Salem
	Title:	Chief Executive Officer, Principal Executive Officer

March 31, 2020

December 31, 2019

Balance sheets:

Benefit and claim reserves ceded