Citizens (CIA) 10-Q 2010 Q3 Quarterly report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

þ Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2010

or

o Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from                    to                    

Commission File Number:000-16509

CITIZENS, INC.

(Exact name of registrant as specified in its charter)

Colorado	84-0755371
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
400 East Anderson Lane, Austin, Texas	78752
(Address of principal executive offices)	(Zip Code)

(512) 837-7100

(Registrant’s telephone number, including area code)

N/A

(Former name, former address and former fiscal year, if changed since last report.)

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.

þ Yeso No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files).

o Yeso No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. (Check one):

Large accelerated filero Accelerated filerþ Non-accelerated filero Smaller reporting companyo

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o Yesþ No

As of November 4, 2010, the Registrant had 48,686,759 shares of Class A common stock, no par value, outstanding and 1,001,714 shares of Class B common stock outstanding.

TABLE OF CONTENTS

	Page
	Number
Part I. Financial Information
Item 1. Financial Statements
Consolidated Statements of Financial Position, September 30, 2010 (Unaudited) and December 31, 2009		2
Consolidated Statements of Operations, Three Months Ended September 30, 2010 and 2009 (Unaudited)		4
Consolidated Statements of Operations, Nine Months Ended September 30, 2010 and 2009 (Unaudited)		5
Consolidated Statements of Cash Flows, Nine Months Ended September 30, 2010 and 2009 (Unaudited)		6
Notes to Consolidated Financial Statements		8
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		26
Item 3. Quantitative and Qualitative Disclosures about Market Risk		42
Item 4. Controls and Procedures		43
Part II. Other Information
Item 1. Legal Proceedings		43
Item 1A. Risk Factors		44
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		44
Item 3. Defaults Upon Senior Securities		44
Item 4. (Reserved)		44
Item 5. Other Information		44
Item 6. Exhibits		45
Exhibit 21
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2
Exhibit 99.1

1

PART I. FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Consolidated Statements of Financial Position

(In thousands)

	September 30,		December 31,
Assets	2010		2009
	(Unaudited)
Investments:
Fixed maturities available-for-sale, at fair value (cost: $501,649 and $389,195 in 2010 and 2009, respectively)	$	519,132		385,579
Fixed maturities held-to-maturity, at amortized cost (fair value: $128,865 and $199,676 in 2010 and 2009, respectively)		127,674		206,909
Equity securities available-for-sale, at fair value (cost: $25,619 and $25,899 in 2010 and 2009, respectively)		33,986		33,477
Mortgage loans on real estate		1,501		1,533
Policy loans		34,970		32,096
Real estate held for sale		2,805		2,825
Real estate held for investment (less $445 and $374 accumulated depreciation in 2010 and 2009, respectively)		6,522		6,305
Other long-term investments		49		86
Short-term investments		—		2,510
Total investments		726,639		671,320
Cash and cash equivalents		65,366		48,625
Accrued investment income		8,406		7,455
Reinsurance recoverable		10,411		11,587
Deferred policy acquisition costs		121,540		115,570
Cost of customer relationships acquired		32,097		34,728
Goodwill		17,160		17,160
Other intangible assets		1,026		1,046
Federal income tax receivable		1,903		4,023
Property and equipment, net		6,772		6,018
Due premiums, net (less $1,341 and $1,644 allowance for doubtful accounts in 2010 and 2009, respectively)		7,224		8,960
Prepaid expenses		1,378		288
Other assets		477		546
Total assets	$	1,000,399		927,326

See accompanying notes to consolidated financial statements. (Continued)

2

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Consolidated Statements of Financial Position, Continued

(In thousands, except share amounts)

	September 30,			December 31,
Liabilities and Stockholders’ Equity	2010			2009
	(Unaudited)
Liabilities:
Policy liabilities:
Future policy benefit reserves:
Life insurance	$	621,841			592,358
Annuities		40,692			37,882
Accident and health		5,966			6,399
Dividend accumulations		9,188			5,621
Premiums paid in advance		22,140			20,373
Policy claims payable		10,810			10,222
Other policyholders’ funds		8,080			8,105
Total policy liabilities		718,717			680,960
Commissions payable		2,078			2,434
Deferred federal income tax		15,127			8,052
Payable for securities in process of settlement		18,500			6,000
Warrants outstanding		1,439			1,819
Other liabilities		7,588			11,986
Total liabilities		763,449			711,251
Commitments and contingencies (Note 8)
Stockholders’ equity:
Common stock:
Class A, no par value, 100,000,000 shares authorized, 51,822,497 shares issued in 2010 and 2009, including shares in treasury of 3,135,738 in 2010 and 2009		256,703			256,703
Class B, no par value, 2,000,000 shares authorized, 1,001,714 shares issued and outstanding in 2010 and 2009		3,184			3,184
Retained deficit		(31,636	)		(38,092	)
Accumulated other comprehensive income:
Unrealized gains on securities, net of tax		19,710			5,291
		247,961			227,086
Treasury stock, at cost		(11,011	)		(11,011	)
Total stockholders’ equity		236,950			216,075
Total liabilities and stockholders’ equity	$	1,000,399			927,326

See accompanying notes to consolidated financial statements.

3

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Consolidated Statements of Operations

Three Months Ended September 30,

(In thousands, except per share amounts)

(Unaudited)

	2010			2009
Revenues:
Premiums:
Life insurance	$	36,433			34,589
Accident and health insurance		392			371
Property insurance		1,230			1,192
Net investment income		7,272			7,413
Realized gains (losses), net		(103	)		1,006
Decrease in fair value of warrants		128			—
Other income		103			273
Total revenues		45,455			44,844
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		15,739			14,494
Increase in future policy benefit reserves		11,398			10,305
Policyholders’ dividends		1,977			1,827
Total insurance benefits paid or provided		29,114			26,626
Commissions		9,229			8,435
Other underwriting, acquisition and insurance expenses		6,580			6,772
Capitalization of deferred policy acquisition costs		(6,148	)		(5,306	)
Amortization of deferred policy acquisition costs		2,975			4,303
Amortization of cost of customer relationships acquired and other intangibles		726			946
Total benefits and expenses		42,476			41,776
Income before federal income tax		2,979			3,068
Federal income tax expense		1,313			1,033
Net income	$	1,666			2,035
Net income applicable to common stockholders	$	1,666			1,878
Per Share Amounts:
Basic and diluted earnings per share of Class A common stock	$	0.03			0.04
Basic and diluted earnings per share of Class B common stock	$	0.02			0.02

See accompanying notes to consolidated financial statements.

4

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Consolidated Statements of Operations

Nine Months Ended September 30,

(In thousands, except per share amounts)

(Unaudited)

	2010			2009
Revenues:
Premiums:
Life insurance	$	105,114			101,858
Accident and health insurance		1,215			1,135
Property insurance		3,592			3,501
Net investment income		23,896			21,733
Realized gains, net		648			2,827
Decrease in fair value of warrants		380			3,081
Other income		602			796
Total revenues		135,447			134,931
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		46,410			44,254
Increase in future policy benefit reserves		30,726			28,021
Policyholders’ dividends		5,324			4,742
Total insurance benefits paid or provided		82,460			77,017
Commissions		26,385			25,462
Other underwriting, acquisition and insurance expenses		20,541			21,889
Capitalization of deferred policy acquisition costs		(17,406	)		(16,257	)
Amortization of deferred policy acquisition costs		11,422			11,715
Amortization of cost of customer relationships acquired and other intangibles		2,332			2,630
Total benefits and expenses		125,734			122,456
Income before federal income tax		9,713			12,475
Federal income tax expense		3,257			2,762
Net income	$	6,456			9,713
Net income applicable to common stockholders	$	6,456			7,208
Per Share Amounts:
Basic earnings per share of Class A common stock	$	0.13			0.15
Basic earnings per share of Class B common stock	$	0.07			0.08
Diluted earnings per share of Class A common stock	$	0.13			0.10
Diluted earnings per share of Class B common stock	$	0.07			0.05

See accompanying notes to consolidated financial statements.

5

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Consolidated Statements of Cash Flows

Nine Months Ended September 30,

(In thousands)

(Unaudited)

	2010			2009
Cash flows from operating activities:
Net income	$	6,456			9,713
Adjustments to reconcile net income to net cash provided by operating activities:
Net realized gains on sale of investments and other assets		(648	)		(2,827	)
Net deferred policy acquisition costs		(5,984	)		(4,542	)
Amortization of cost of customer relationships acquired and other intangibles		2,332			2,630
Decrease in fair value of warrants		(380	)		(3,081	)
Depreciation		787			908
Amortization of premiums and discounts on fixed maturities and short-term investments		2,548			1,466
Deferred federal income tax benefit		(61	)		(1,191	)
Change in:
Accrued investment income		(951	)		434
Reinsurance recoverable		1,176			1,258
Due premiums and other receivables		1,736			856
Future policy benefit reserves		30,223			27,171
Other policyholders’ liabilities		5,897			1,187
Federal income tax receivable		2,120			2,827
Commissions payable and other liabilities		(4,754	)		58
Other, net		(1,021	)		(583	)
Net cash provided by operating activities		39,476			36,284
Cash flows from investing activities:
Purchase of fixed maturities, held-to-maturity		(71,452	)		(202,286	)
Calls of fixed maturities, held-to-maturity		150,350			—
Sale of fixed maturities, available-for-sale		7,074			72,148
Maturity and calls of fixed maturities, available-for-sale		137,506			276,058
Purchase of fixed maturities, available-for-sale		(246,238	)		(174,931	)
Sale of equity securities, available-for-sale		591			1,184
Calls of equity securities, available-for-sale		100			—
Purchase of equity securities, available-for-sale		(205	)		(476	)
Principal payments on mortgage loans		33			24
Mortgage loans funded		—			(170	)
Increase in policy loans		(2,874	)		(2,905	)
Sale of other long-term investments and property and equipment		42			406
Purchase of other long-term investments and property and equipment		(1,799	)		(2,172	)
Maturity of short-term investments		2,500			2,250
Purchase of short-term investments		—			(2,604	)
Cash acquired in acquisition		—			9,770
Net cash used in investing activities		(24,372	)		(23,704	)

See accompanying notes to consolidated financial statements. (Continued)

6

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Consolidated Statements of Cash Flows, Continued

Nine Months Ended September 30,

(In thousands)

(Unaudited)

	2010			2009
Cash flows from financing activities:
Warrants exercised	$	—			69
Annuity deposits		4,041			3,990
Annuity withdrawals		(2,404	)		(2,515	)
Net cash provided by financing activities		1,637			1,544
Net increase in cash and cash equivalents		16,741			14,124
Cash and cash equivalents at beginning of year		48,625			63,792
Cash and cash equivalents at end of period	$	65,366			77,916
Supplemental disclosures of operating activities:
Cash paid during the period for income taxes	$	1,200			1,125

Supplemental Disclosures of Non-Cash Investing Activities:

On February 27, 2009, the Company acquired Integrity Capital Corporation (“ICC”) for 1,294,000 shares of Class A common stock with a fair value of $8.4 million. CICA Life Insurance Company of America held a 13% interest in ICC prior to the acquisition with a carrying value of $551,000, making the total non-cash acquisition price approximately $9.0 million.

In 2010, the Company sold a parcel of real estate and issued a mortgage loan for $102,000.

In 2010, the Company foreclosed on a mortgage loan and transferred the real estate to real estate held for sale in the amount of $101,000.

Supplemental Disclosures of Non-Cash Financing Activities:

Dividends on the Company’s Series A-1 Convertible Preferred Stock, issued in 2004, and Series A-2 Convertible Preferred Stock, issued in 2005, were paid by the Company through the issuance of Class A common stock to the preferred shareholders in the amount of $216,000 in the first nine months of 2009. Accretion of deferred issuance costs and discounts on the Convertible Preferred Stock recorded as a deduction to Class A common stock during the first nine months of 2009 was $2.3 million.

See accompanying notes to consolidated financial statements.

7

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements

September 30, 2010

(Unaudited)

(1) Financial Statements

Basis of Presentation and Consolidation

The accompanying consolidated financial statements of the Company and its wholly owned subsidiaries have been prepared in conformity with U.S. Generally Accepted Accounting Principles (“U.S. GAAP”).

The consolidated financial statements include the accounts and operations of Citizens, Inc. (“Citizens”), a Colorado corporation, and its wholly-owned subsidiaries, CICA Life Insurance Company of America (“CICA”), Computing Technology, Inc. (“CTI”), Funeral Homes of America, Inc. (“FHA”), Insurance Investors, Inc. (“III”), Citizens National Life Insurance Company (“CNLIC”), Integrity Capital Corporation (“ICC”), Integrity Capital Insurance Company (“ICIC”), Security Plan Life Insurance Company (“SPLIC”) and Security Plan Fire Insurance Company (“SPFIC”). All significant inter-company accounts and transactions have been eliminated. Citizens and its wholly owned consolidated subsidiaries are collectively referred to as “the Company,” “we,” or “our.”

The consolidated statements of financial position for September 30, 2010, the consolidated statements of operations for the three and nine-month periods ended September 30, 2010 and 2009, and the consolidated statements of cash flows for the nine-month period then ended have been prepared by the Company without audit. In the opinion of management, all adjustments to present fairly the financial position, results of operations, and changes in cash flows at September 30, 2010 and for comparative periods have been made.

The Company completed its acquisition of ICC in exchange for 1,294,000 shares of its Class A common stock in the first quarter of 2009. ICC is the parent of ICIC, an Indiana life insurance company. The transaction was valued at $9.0 million on the closing date of February 27, 2009. On October 30, 2009, FHA completed the sale of its business assets valued at approximately $600,000, consisting primarily of funeral home assets.

We provide life and health insurance policies through four of our subsidiaries — CICA, SPLIC, CNLIC and ICIC. CICA, CNLIC and ICIC issue ordinary whole-life policies, burial insurance, pre-need policies, and accident and health related policies, throughout the midwest and southern United States. CICA also issues ordinary whole-life policies to non-U.S. residents. SPLIC offers final expense and home service life insurance in Louisiana, Arkansas and Mississippi and SPFIC, a wholly owned subsidiary of SPLIC, writes a limited amount of property insurance in Louisiana.

CTI provides data processing systems and services as well as furniture and equipment to the Company. III provides aviation transportation to the Company. FHA was a funeral home operator before the sale of its assets in 2009.

The Company corrected two valuation database discrepancies in the current quarter that resulted in a decrease to reserves of $559,000. There was a value per unit error related to fully paid up policies under one plan in duration twenty-one resulting in a reserve overstatement amounting to $508,000, with approximately $475,000 related to prior years, and another plan where surrender charges were not properly recorded, which also overstated reserves by $51,000.

Reserving assumptions are reviewed to ensure that our original assumptions at the time of policy issuance related to interest, mortality, withdrawals, and settlement expenses are based upon management’s best judgment. The Company modified these assumptions during the current year with respect to new policies issued, which resulted in an increase to reserves of $456,000.

8

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

Use of Estimates

The preparation of financial statements, in conformity with U.S. GAAP, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

The most significant estimates include those used in the evaluation of other-than-temporary impairments on debt securities and valuation allowances on investments, goodwill impairment, valuation allowance on deferred tax assets, and contingencies relating to litigation and regulatory matters. Certain of these estimates are particularly sensitive to market conditions, and deterioration and/or volatility in the worldwide debt or equity markets could have a material impact on the Consolidated Financial Statements.

Significant Accounting Policies

For a description of significant accounting policies, see Note 1 of the Notes to Consolidated Financial Statements included in our 2009 Form 10-K Annual Report, which should be read in conjunction with these accompanying Consolidated Financial Statements.

(2) Accounting Pronouncements

Accounting Standards Recently Adopted

In January 2010, the Financial Accounting Standards Board (“FASB”) updated Accounting Standards Codification (“ASC”) Topic 820, requiring additional disclosures about fair value measurements regarding transfers between fair value categories as well as purchases, sales, issuances and settlements related to fair value measurements of financial instruments with non-observable inputs. This update was effective for interim and annual periods beginning after December 15, 2009 except for disclosures about purchases, sales, issuances and settlements of financial instruments with non-observable inputs, which are effective for years beginning after December 15, 2010. The additional disclosures required by this update are included in the note on fair value measurements upon adoption. The additional disclosures did not have a material impact on our financial condition or results of operations.

On September 29, 2010, the FASB ratified the Emerging Issues Task Force’s (“EITF”) final consensus on EITF Issue No. 09-G, “Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts” (“Issue 09-G”). Issue 09-G clarifies what costs should be deferred by insurance companies when issuing or renewing insurance contracts. The EITF concluded that only costs incurred in the acquisition of new and renewal contracts that are 1) incremental direct costs of a successful contract acquisition, 2) portions of employees’ salaries and benefits directly related to time spent performing specified acquisition activities for a contract that has actually been acquired, 3) other costs directly related to the specified acquisition activities that would not have occurred otherwise, and 4) advertising costs that meet the capitalization criteria in other issued accounting guidance would be capitalizable as deferred acquisition costs. This Issue 09-G will be effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2011. The Company is currently reviewing this guidance and our current deferral policies to determine what impact this consensus may have on our consolidated financial statements and what information gathering changes may need to be implemented.

9

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

(3) Segment Information

The Company has three reportable segments: Life Insurance, Home Service Insurance, and Other Non-Insurance Enterprises. The accounting policies of the segments are in accordance with U.S. GAAP and are the same as those used in the preparation of the consolidated financial statements. The Company evaluates profit and loss performance based on U.S. GAAP income before federal income taxes for its three reportable segments.

The Company has no reportable differences between segments and consolidated operations.

	Three Months Ended September 30, 2010
				Home			Other
	Life			Service			Non-Insurance
	Insurance			Insurance			Enterprises			Consolidated
	(In thousands)
Revenues:
Premiums	$	27,514			10,541			—			38,055
Net investment income		3,893			3,244			135			7,272
Realized gains (losses), net		1			(96	)		(8	)		(103	)
Decrease in fair value of warrants		—			—			128			128
Other income		78			10			15			103
Total revenue		31,486			13,699			270			45,455
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		10,498			5,241			—			15,739
Increase in future policy benefit reserves		10,688			710			—			11,398
Policyholders’ dividends		1,965			12			—			1,977
Total insurance benefits paid or provided		23,151			5,963			—			29,114
Commissions		5,572			3,657			—			9,229
Other underwriting, acquisition and insurance expenses		2,596			3,529			455			6,580
Capitalization of deferred policy acquisition costs		(4,579	)		(1,569	)		—			(6,148	)
Amortization of deferred policy acquisition costs		2,613			362			—			2,975
Amortization of cost of customer relationships acquired and other intangibles		239			487			—			726
Total benefits and expenses		29,592			12,429			455			42,476
Income (loss) before income tax expense	$	1,894			1,270			(185	)		2,979

10

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

	Nine Months Ended September 30, 2010
				Home			Other
	Life			Service			Non-Insurance
	Insurance			Insurance			Enterprises			Consolidated
	(In thousands)
Revenues:
Premiums	$	78,364			31,557			—			109,921
Net investment income		13,239			10,251			406			23,896
Realized gains (losses), net		116			585			(53	)		648
Decrease in fair value of warrants		—			—			380			380
Other income		487			63			52			602
Total revenue		92,206			42,456			785			135,447
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		30,644			15,766			—			46,410
Increase in future policy benefit reserves		28,123			2,603			—			30,726
Policyholders’ dividends		5,267			57			—			5,324
Total insurance benefits paid or provided		64,034			18,426			—			82,460
Commissions		15,316			11,069			—			26,385
Other underwriting, acquisition and insurance expenses		8,213			10,964			1,364			20,541
Capitalization of deferred policy acquisition costs		(12,741	)		(4,665	)		—			(17,406	)
Amortization of deferred policy acquisition costs		10,752			670			—			11,422
Amortization of cost of customer relationships acquired and other intangibles		858			1,474			—			2,332
Total benefits and expenses		86,432			37,938			1,364			125,734
Income (loss) before income tax expense	$	5,774			4,518			(579	)		9,713

11

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

	Three Months Ended September 30, 2009
				Home			Other
	Life			Service			Non-Insurance
	Insurance			Insurance			Enterprises			Consolidated
	(In thousands)
Revenues:
Premiums	$	25,795			10,357			—			36,152
Net investment income		4,232			3,126			55			7,413
Realized gains, net		650			356			—			1,006
Other income		108			20			145			273
Total revenue		30,785			13,859			200			44,844
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		10,035			4,459			—			14,494
Increase in future policy benefit reserves		8,850			1,455			—			10,305
Policyholders’ dividends		1,809			18			—			1,827
Total insurance benefits paid or provided		20,694			5,932			—			26,626
Commissions		4,827			3,608			—			8,435
Other underwriting, acquisition and insurance expenses		2,563			3,588			621			6,772
Capitalization of deferred policy acquisition costs		(3,975	)		(1,331	)		—			(5,306	)
Amortization of deferred policy acquisition costs		3,757			546			—			4,303
Amortization of cost of customer relationships acquired and other intangibles		397			549			—			946
Total benefits and expenses		28,263			12,892			621			41,776
Income (loss) before income tax expense	$	2,522			967			(421	)		3,068

12

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

	Nine Months Ended September 30, 2009
				Home			Other
	Life			Service			Non-Insurance
	Insurance			Insurance			Enterprises		Consolidated
	(In thousands)
Revenues:
Premiums	$	75,570			30,924			—		106,494
Net investment income		12,196			9,396			141		21,733
Realized gains, net		1,068			1,682			77		2,827
Decrease in fair value of warrants		—			—			3,081		3,081
Other income		267			84			445		796
Total revenue		89,101			42,086			3,744		134,931
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		30,259			13,995			—		44,254
Increase in future policy benefit reserves		24,258			3,763			—		28,021
Policyholders’ dividends		4,687			55			—		4,742
Total insurance benefits paid or provided		59,204			17,813			—		77,017
Commissions		14,531			10,931			—		25,462
Other underwriting, acquisition and insurance expenses		7,873			11,577			2,439		21,889
Capitalization of deferred policy acquisition costs		(12,227	)		(4,030	)		—		(16,257	)
Amortization of deferred policy acquisition costs		10,677			1,038			—		11,715
Amortization of cost of customer relationships acquired and other intangibles		1,105			1,525			—		2,630
Total benefits and expenses		81,163			38,854			2,439		122,456
Income before income tax expense	$	7,938			3,232			1,305		12,475

(4) Total Comprehensive Income

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2010			2009			2010			2009
	(In thousands)
Net income	$	1,666			2,035			6,456			9,713
Other comprehensive income net of effects of deferred acquisition costs and taxes:
Unrealized gains on available-for-sale securities		11,288			16,963			21,554			22,614
Tax expense		(2,700	)		(3,678	)		(7,135	)		(4,233	)
Other comprehensive income		8,588			13,285			14,419			18,381
Total comprehensive income	$	10,254			15,320			20,875			28,094

13

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

(5) Earnings per Share

The following table sets forth the computation of basic and diluted earnings per share for the period indicated.

	Three Months Ended September 30,
	2010		2009
	(In thousands, except per share amounts)
Basic and diluted earnings per share:
Numerator:
Net income	$	1,666		2,035
Less: Preferred stock dividend		—		(13	)
Accretion of deferred issuance costs and discounts on preferred stock		—		(144	)
Net income available to common stockholders	$	1,666		1,878
Net income allocated to Class A common stock	$	1,649		1,859
Net income allocated to Class B common stock		17		19
Net income available to common stockholders	$	1,666		1,878
Denominator:
Weighted average shares of Class A outstanding — basic and diluted		48,687		48,441
Weighted average shares of Class B outstanding — basic and diluted		1,002		1,002
Total weighted average shares outstanding — basic and diluted		49,689		49,443
Basic and diluted earnings per share of Class A common stock	$	0.03		0.04
Basic and diluted earnings per share of Class B common stock	$	0.02		0.02

14

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

The following table sets forth the computation of basic and diluted earnings per share for the period indicated.

	Nine Months Ended September 30,
	2010		2009
	(In thousands, except per share amounts)
Basic and diluted earnings per share:
Numerator:
Net income	$	6,456		9,713
Less: Preferred stock dividend		—		(216	)
Accretion of deferred issuance costs and discounts on preferred stock		—		(2,289	)
Net income available to common stockholders	$	6,456		7,208
Net income allocated to Class A common stock	$	6,390		7,132
Net income allocated to Class B common stock		66		76
Net income available to common stockholders	$	6,456		7,208
Denominator:
Weighted average shares of Class A outstanding — basic		48,687		47,177
Weighted average shares of Class B outstanding — basic		1,002		1,002
Total weighted average shares outstanding — basic		49,689		48,179
Basic earnings per share of Class A common stock	$	0.13		0.15
Basic earnings per share of Class B common stock	$	0.07		0.08
Diluted earnings per share of Class A common stock	$	0.13		0.10
Diluted earnings per share of Class B common stock	$	0.07		0.05

For the three and nine months ended September 30, 2010, the warrants associated with the Convertible Preferred Stock portfolio were anti-dilutive. As such, the diluted weighted average shares of Class A common stock outstanding for the period was 48,687,000.

For the nine months ended September 30, 2009, certain warrants relative to the Convertible Preferred Stock became dilutive. As such, the diluted weighted average shares of Class A common stock for the period was 47,204,000. Total diluted weighted average shares was 48,206,000.

15

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

(6) Investments

Financial stability and the prevention of capital erosion are important investment considerations for the Company. A primary investment goal is the conservation of assets due to the long-term nature of a significant portion of our insurance liabilities. The Company invests primarily in fixed maturity securities, which totaled 81.7% of total investments and cash and cash equivalents at September 30, 2010.

	September 30, 2010					December 31, 2009
	Carrying		% of Total			Carrying		% of Total
	Value		Carrying Value			Value		Carrying Value
	(In thousands)					(In thousands)
Fixed maturity securities	$	646,806		81.7	%	$	592,488		82.3	%
Equity securities		33,986		4.3			33,477		4.6
Mortgage loans		1,501		0.2			1,533		0.2
Policy loans		34,970		4.4			32,096		4.5
Real estate and other long-term investments		9,376		1.2			9,216		1.3
Short-term investments		—		—			2,510		0.3
Cash and cash equivalents		65,366		8.2			48,625		6.8
Total cash, cash equivalents and investments	$	792,005		100.0	%	$	719,945		100.0	%

Cash balances increased in 2010 compared to December 31, 2009 due to call activity related to fixed maturity securities. The balances held in cash are expected to be reinvested into fixed maturity securities in the next few months. Significant call activity may continue if our investment income returns remain low.

16

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

The following tables represent gross unrealized gains and losses for fixed maturities and equity securities as of the periods indicated.

	September 30, 2010
	Cost or			Gross		Gross
	Amortized			Unrealized		Unrealized		Fair
	Cost			Gains		Losses		Value
	(In thousands)
Fixed maturities available-for-sale:
U.S. Treasury securities	$	10,921			2,936		—		13,857
U.S. Government-sponsored enterprises		253,536			2,539		442		255,633
States of the United States and political subdivisions of the states		62,229			1,865		1,969		62,125
Foreign governments		105			35		—		140
Corporate		159,610			11,899		429		171,080
Securities not due at a single maturity date		15,248			1,079		30		16,297
Total fixed maturities available-for-sale		501,649			20,353		2,870		519,132
Fixed maturities held-to-maturity:
U.S. Government-sponsored enterprises		127,674			1,231		40		128,865
			��
Total fixed maturities	$	629,323			21,584		2,910		647,997
Total equity securities	$	25,619			8,376		9		33,986

	December 31, 2009
	Cost or		Gross		Gross
	Amortized		Unrealized		Unrealized		Fair
	Cost		Gains		Losses		Value
	(In thousands)
Fixed maturities available-for-sale:
U.S. Treasury securities	$	11,110		1,324		—		12,434
U.S. Government-sponsored enterprises		184,797		96		4,610		180,283
States of the United States and political subdivisions of the states		60,070		321		3,199		57,192
Foreign governments		105		15		—		120
Corporate		114,175		3,726		1,803		116,098
Securities not due at a single maturity date		18,938		556		42		19,452
Total fixed maturities available-for-sale		389,195		6,038		9,654		385,579
Fixed maturities held-to-maturity:
U.S. Government-sponsored enterprises		206,909		18		7,251		199,676
Total fixed maturities	$	596,104		6,056		16,905		585,255
Total equity securities	$	25,899		7,578		—		33,477

Almost 90% of the Company’s mortgage-backed securities are residential. Mortgage-backed securities are also referred to as securities not due at a single maturity date throughout this report. The majority of the Company’s equity securities are held within diversified mutual funds.

17

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

Valuation of Investments in Fixed Maturity and Equity Securities

The Company monitors all debt and equity securities on an on-going basis relative to changes in credit ratings, market prices, earnings trends and financial performance, in addition to specific region or industry reviews. The assessment of whether impairments have occurred is based on a case-by-case evaluation of underlying reasons for the decline in fair value. The Company determines other-than-temporary impairment by reviewing all relevant evidence related to the specific security issuer as well as the Company’s intent to sell the security, or if it is more likely than not that the Company would be required to sell a security before recovery of its amortized cost.

When an other-than-temporary impairment has occurred, the amount of the other-than-temporary impairment recognized in earnings depends on whether the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis. If the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is recognized in earnings equal to the entire difference between the investment’s cost and its fair value at the balance sheet date. If the Company does not intend to sell the security and it is not more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is separated into the following: a) the amount representing the credit loss, and b) the amount related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings. The amount of the total other-than-temporary impairment related to other factors is recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the other-than-temporary impairment recognized in earnings becomes the new amortized cost basis of the investment. The new amortized cost basis is not adjusted for subsequent recoveries in fair value.

The Company evaluates whether a credit impairment exists for debt securities by considering primarily the following factors: (a) changes in the financial condition of the security’s underlying collateral, (b) whether the issuer is current on contractually obligated interest and principal payments, (c) changes in the financial condition, credit rating and near-term prospects of the issuer, (d) the extent to which the fair value has been less than the amortized cost of the security and (e) the payment structure of the security. The Company’s best estimate of expected future cash flows used to determine the credit loss amount is a quantitative and qualitative process. Quantitative review includes information received from third party sources such as financial statements, pricing and rating changes, liquidity and other statistical information. Qualitative factors include judgments related to business strategies, economic impacts on the issuers and overall judgment related to estimates and industry factors. The Company’s best estimate of future cash flows involves assumptions including, but not limited to, various performance indicators, such as historical and projected default and recovery rates, credit ratings, and current delinquency rates. These assumptions require the use of significant management judgment and include the probability of issuer default and estimates regarding timing and amount of expected recoveries, which may include estimating the underlying collateral value. In addition, projections of expected future debt security cash flows may change based upon new information regarding the performance of the issuer.

The primary factors considered in evaluating whether an impairment exists for an equity security include, but are not limited to: (a) the length of time and the extent to which the fair value has been less than the cost of the security, (b) changes in the financial condition, credit rating and near-term prospects of the issuer, (c) whether the issuer is current on contractually obligated payments, and (d) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery.

The Company recognized $27,000 of other-than-temporary impairments (“OTTI”) in the three months ended September 30, 2010. OTTI items were recognized in the first quarter of 2009 relating to credit losses totaling $111,000.

18

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

The tables below present the fair values and gross unrealized losses of fixed maturities and equity securities that have remained in a continuous unrealized loss position for the periods indicated.

	September 30, 2010
	Less than 12 months						Greater than 12 months						Total
	Fair		Unrealized		# of		Fair		Unrealized		# of		Fair		Unrealized		# of
	Value		Losses		Securities		Value		Losses		Securities		Value		Losses		Securities
	(In thousands, except for # of securities)
Available-for-sale securities:
U.S. Government-sponsored enterprises	$	61,870		442		42		—		—		—		61,870		442		42
Securities issued by states and political subdivisions		—		—		—		10,782		1,969		9		10,782		1,969		9
Corporate		8,655		290		7		4,599		139		9		13,254		429		16
Securities not due at a single maturity date		1,403		11		3		206		19		5		1,609		30		8
Total available-for-sale		71,928		743		52		15,587		2,127		23		87,515		2,870		75
Held-to-maturity securities:
U.S. Government-sponsored enterprises		5,357		40		3		—		—		—		5,357		40		3
Total fixed maturities	$	77,285		783		55		15,587		2,127		23		92,872		2,910		78
Total equity securities	$	30		9		2		—		—		—		30		9		2

	December 31, 2009
	Less than 12 months						Greater than 12 months						Total
	Fair		Unrealized		# of		Fair		Unrealized		# of		Fair		Unrealized		# of
	Value		Losses		Securities		Value		Losses		Securities		Value		Losses		Securities
	(In thousands, except for # of securities)
Available-for-sale securities:
U.S. Government-sponsored enterprises	$	169,514		4,610		213		—		—		—		169,514		4,610		213
Securities issued by states and political subdivisions		19,055		343		19		14,995		2,856		15		34,050		3,199		34
Corporate		36,342		541		21		12,857		1,261		12		49,199		1,802		33
Securities not due at a single maturity date		179		1		1		637		42		8		816		43		9
Total available-for-sale		225,090		5,495		254		28,489		4,159		35		253,579		9,654		289
Held-to-maturity securities:
U.S. Government-sponsored enterprises		185,659		7,251		81		—		—		—		185,659		7,251		81
Total fixed maturities	$	410,749		12,746		335		28,489		4,159		35		439,238		16,905		370

As of September 30, 2010, the Company had 23 available-for-sale securities in an unrealized loss position for greater than 12 months, which were municipal, corporate and mortgage-backed securities. The Company has reviewed these securities and determined that no other-than-temporary impairment exists based on our evaluations of the credit worthiness of the issuers and due to the fact that we do not intend to sell the investments, nor is it likely that we would be required to sell these investments before recovery of their amortized cost bases, which may be maturity.

19

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

The amortized cost and fair value of fixed maturity securities at September 30, 2010 by contractual maturity are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. The Company has experienced significant issuer calls over the past two years as a result of the declining interest rate environment.

	September 30, 2010
	Amortized		Fair
	Cost		Value
	(In thousands)
Available-for-sale securities:
Due in one year or less	$	13,463		13,575
Due after one year through five years		32,387		34,264
Due after five years through ten years		185,486		192,650
Due after ten years		255,065		262,346
Total available-for-sale securities		486,401		502,835
Held-to-maturity securities:
Due after ten years		127,674		128,865
Securities not due at a single maturity date		15,248		16,297
Total fixed maturities	$	629,323		647,997

The securities not due at a single maturity date are primarily mortgage-backed obligations of U.S. Government-sponsored enterprises and corporate securities.

The Company uses the specific identification method to determine the cost basis used in the calculation of realized gains and losses related to security sales. Proceeds and gross realized gains from sales of securities for the three and nine months ended September 30, 2010 and 2009 are summarized as follows:

	Fixed Maturities Available-for-Sale								Equity Securities
	Three Months				Nine Months				Three Months				Nine Months
	Ended September 30,				Ended September 30,				Ended September 30,				Ended September 30,
	2010		2009		2010		2009		2010		2009		2010		2009
	(In thousands)								(In thousands)
Proceeds	$	208		33,478		7,074		72,148	$	—		9		591		1,184
Gross realized gains	$	69		1,167		811		2,720	$	—		—		166		219

No securities were sold for realized losses for the periods reported and there were no securities sold from the held-to-maturity portfolio during the three and nine months ended September 30, 2010.

20

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

(7) Fair Value Measurements

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 at the measurement date. We hold available-for-sale fixed maturity securities and equity securities, which are carried at fair value.

Fair value measurements are generally based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our view of market assumptions in the absence of observable market information. We utilize valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. All assets and liabilities carried at fair value are required to be classified and disclosed in one of the following three categories:

• Level 1 — Quoted prices for identical instruments in active markets.

• Level 2 — Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs or whose significant value drivers are observable.

• Level 3 — Instruments whose significant value drivers are unobservable.

Level 1 primarily consists of financial instruments whose value is based on quoted market prices such as U.S. Treasury securities and actively traded stock and mutual fund investments.

Level 2 includes those financial instruments that are valued by independent pricing services or broker quotes. These models are primarily industry-standard models that consider various inputs, such as interest rates, credit spreads and foreign exchange rates for the underlying financial instruments. All significant inputs are observable, or derived from observable information in the marketplace or are supported by observable levels at which transactions are executed in the marketplace. Financial instruments in this category primarily include corporate fixed maturity securities, U.S. Government-sponsored enterprise securities, municipal securities and certain mortgage and asset-backed securities.

Level 3 is comprised of financial instruments whose fair value is estimated based on non-binding broker prices utilizing significant inputs not based on or corroborated by readily available market information. This category consists of two private placement mortgage-backed securities where we cannot corroborate the significant valuation inputs with market observable data.

The following table sets forth our assets and liabilities that are measured at fair value on a recurring basis as of the date indicated.

	Fair Value Measurements
	September 30, 2010
							Total
	Level 1		Level 2		Level 3		Fair Value
	(In thousands)
Financial assets:
Fixed maturities available-for-sale:
U.S. Treasury and U.S. Government- sponsored enterprises	$	13,749		255,741		—		269,490
Corporate		—		171,080		—		171,080
Municipal bonds		—		62,125		—		62,125
Mortgage-backed		—		15,759		538		16,297
Foreign governments		—		140		—		140
Total fixed maturities, available-for-sale		13,749		504,845		538		519,132
Total equity securities, available-for-sale		33,986		—		—		33,986
Total financial assets	$	47,735		504,845		538		553,118
Financial liabilities:
Warrants outstanding	$	—		1,439		—		1,439

21

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

The following table sets forth our assets and liabilities that are measured at fair value on a recurring basis as of the date indicated.

	Fair Value Measurements
	December 31, 2009
							Total
	Level 1		Level 2		Level 3		Fair Value
	(In thousands)
Financial assets:
Fixed maturities available-for-sale:
U.S. Treasury and U.S. Government- sponsored enterprises	$	12,434		180,283		—		192,717
Corporate		—		116,098		—		116,098
Municipal bonds		—		57,192		—		57,192
Mortgage-backed		—		18,875		577		19,452
Foreign governments		—		120		—		120
Short term investments		—		2,510		—		2,510
Total fixed maturities, available-for-sale		12,434		375,078		577		388,089
Total equity securities, available-for-sale		33,477		—		—		33,477
Total financial assets	$	45,911		375,078		577		421,566
Financial liabilities:
Warrants outstanding	$	—		1,819		—		1,819

Financial Instruments Valuation

Fixed maturity securities, available-for-sale. At September 30, 2010, the fixed maturities, valued using a third-party pricing source, totaled $504.8 million for Level 2 assets and comprised 97.2% of total reported fair value. Fair values for Level 3 assets are based upon unadjusted broker quotes that are non-binding. The valuations are reviewed and validated quarterly through random testing by comparisons to separate pricing models, other third party pricing services, and back tested to recent trades. For the nine months ended September 30, 2010, 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.

Equity securities, available-for-sale. Fair values of these securities are based upon quoted market price and are classified as Level 1 assets.

Short-term investments. The fair values for short-term investments are determined using a third-party pricing source. These assets are classified as Level 2.

Warrants outstanding.Fair value of our warrants are based upon industry standard models that consider various observable inputs and are classified as Level 2.

22

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

The following table presents additional information about fixed maturity securities measured at fair value on a recurring basis and for which we have utilized significant unobservable (Level 3) inputs to determine fair value:

	September 30, 2010
	(In thousands)
Beginning balance at December 31, 2009	$	577
Total realized and unrealized losses:
Included in net income		—
Included in other comprehensive income		3
Principal paydowns		(42	)
Transfer in and (out) of Level 3		—
Ending balance at September 30, 2010	$	538

We review the fair value hierarchy classifications each reporting period. Changes in the observability of the valuation attributes may result in a reclassification of certain financial assets. Such reclassifications are reported as transfers in and out of Level 3 at the beginning fair value for the reporting period in which the changes occur.

Financial Instruments not Carried at Fair Value

Estimates of fair values are made at a specific point in time, based on relevant market prices and information about the financial instruments. The estimated fair values of financial instruments presented below are not necessarily indicative of the amounts the Company might realize in actual market transactions.

The carrying amount and fair value for the financial assets and liabilities on the consolidated balance sheets for the periods indicated are as follows:

	September 30, 2010				December 31, 2009
	Carrying		Fair		Carrying		Fair
	Value		Value		Value		Value
	(In thousands)
Financial assets:
Fixed maturities, held-to-maturity	$	127,674		128,865		206,909		199,676
Mortgage loans		1,501		1,447		1,533		1,484
Policy loans		34,970		34,970		32,096		32,096
Short-term investments		—		—		2,510		2,512
Cash and cash equivalents		65,366		65,366		48,625		48,625
Financial liabilities:
Annuities		40,692		40,742		37,882		33,980

Fair values for fixed income securities are based on an independent pricing source.

Mortgage loans are secured principally by residential properties and commercial properties. Weighted average interest rates for these loans were approximately 6.7% per year as of September 30, 2010 and December 31, 2009, with maturities ranging from one to thirty years. Management estimated the fair value using an annual interest rate of 6.25% at September 30, 2010 and December 31, 2009.

Policy loans have a weighted average annual interest rate of 7.7% and 7.6% as of September 30, 2010 and December 31, 2009, respectively, and have no specified maturity dates. The aggregate fair value of policy loans approximates the carrying value reflected on the consolidated balance sheet. These loans typically carry an interest rate that is tied to the crediting rate applied to the related policy and contract reserves. Policy loans are an integral part of the life insurance policies that we have in force and cannot be valued separately and are not marketable; therefore, the fair value of policy loans approximates the carrying value.

23

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

For cash and cash equivalents, accrued investment income, reinsurance recoverable, other assets, federal income tax payable and receivable, dividend accumulations, commissions payable, amounts held on deposit, and other liabilities, the carrying amounts approximate fair value because of the short maturity of such financial instruments.

The fair value of the Company’s liabilities under annuity contract policies was estimated at September 30, 2010 using December 31, 2009 discounted cash flows using a risk free rate plus a component for non-performance risk and interest rate risk. The fair value of liabilities under all insurance contracts are taken into consideration in the overall management of interest rate risk, which seeks to minimize exposure to changing interest rates through the matching of investment maturities with amounts due under insurance contracts.

(8) Legal Proceedings

We are a defendant in a lawsuit filed on August 6, 1999 in the Texas District Court, Austin, Texas, now styledCitizens Insurance Company of America, Citizens, Inc., Harold E. Riley and Mark A. Oliver, Petitioners v. Fernando Hakim Daccach,Respondent, in which a class was originally certified by the trial court and reversed by the Texas Supreme Court in 2007 with an order to the trial court to conduct further proceedings consistent with its ruling. The underlying lawsuit alleged that certain life insurance policies CICA made available to non-U.S. residents, when combined with a policy feature that allowed certain cash benefits to be assigned to two non-U.S. trusts for the purpose of accumulating ownership of our Class A common stock, along with allowing the policyholders to make additional contributions to the trusts, were actually offers and sales of securities that occurred in Texas by unregistered dealers in violation of the Texas securities laws. The remedy sought was rescission and return of the insurance premium payments. On December 9, 2009, the trial court denied the recertification of the class after conducting additional proceedings in accordance with the Texas Supreme Court’s ruling. The remaining plaintiffs must now proceed individually, and not as a class, if they intend to pursue their cases against us. We intend to maintain a vigorous defense in any remaining proceedings.

In addition to the legal proceeding described above, we may from time to time be subject to a variety of legal and regulatory actions relating to our future, current and past business operations, including, but not limited to:

• disputes over insurance coverage or claims adjudication;

• regulatory compliance with insurance and securities laws in the United States and in foreign countries;

• disputes with our marketing firms, consultants and employee agents over compensation and termination of contracts and related claims;

• disputes regarding our tax liabilities;

• disputes relative to reinsurance and coinsurance agreements; and

• disputes relating to businesses acquired and operated by us.

In the absence of countervailing considerations, we would expect to defend any such claims vigorously. However, in doing so, we could incur significant defense costs, including not only attorneys’ fees and other direct litigation costs, but also the expenditure of substantial amounts of management time that otherwise would be devoted to our business. If we suffer an adverse judgment as a result of any claim, it could have a material adverse effect on our business, results of operations and financial condition.

24

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
September 30, 2010
(Unaudited)

(9) Convertible Preferred Stock

In July 2004, the Company completed a private placement of Series A-1 Convertible Preferred Stock (“Series A-1 Preferred”) to four unaffiliated institutional investors. We also issued to the investors warrants to purchase shares of our Class A common stock at various exercise prices that range from $6.72 to $7.93, with most of them striking at $6.95. The conversion, exercise and redemption prices, along with the number of shares and warrants, were adjusted for stock dividends paid on December 31, 2004 and 2005.

On July 13, 2009, the Company converted all of its outstanding Series A-1 and Series A-2 Convertible Preferred Stock into Class A common shares in accordance with the mandatory redemption provision of the preferred shareholder agreement dated July 12, 2004. The total amount of Class A common shares issued as part of the conversion was 1,706,682, inclusive of pro rata dividends due through the conversion date. Warrants to purchase shares of Class A common stock are still outstanding until July 2011 and 2012.

(10) Income Taxes

The effective tax rate was 44% and 34% for the third quarter of 2010 and 2009, respectively, and 34% and 22% for the nine months ended September 30, 2010 and 2009, respectively. The 2010 and 2009 rates were lower than the statutory rate of 35%, except for the third quarter of 2010, primarily due to gains from the change in fair value of outstanding warrants for purchase of Class A common stock of $128,000 and a minimal amount that was not taxable for the three months ended September 30, 2010 and 2009, respectively. The revenue increased from the decrease in fair value of outstanding warrants were $380,000 and $3.1 million for the nine months ended September 30, 2010 and 2009, respectively. Also causing a reduction in the effective tax rate are tax benefits from the release of tax valuation allowances. The increase above the statutory tax rate in the current quarter of 2010 relates to Citizens’ redemption of its stock that was held by subsidiaries, generating taxable transactions resulting in $0.9 million and $1.4 million of tax expense during the three and nine months ended September 30, 2010. This tax increased the effective tax rate as the gain was eliminated in consolidation.

The table below details the changes in the Company’s tax valuation allowance.

	Three Months Ended September 30,					Nine Months Ended September 30,
	2010		2009			2010		2009
	(In thousands)
Tax benefit (expense) in tax provision	$	554		(213	)		1,225		236
Tax benefit in other comprehensive income		1,250		2,258			408		3,681
Adjustment to goodwill		—		—			—		(254	)
Decrease in valuation allowance	$	1,804		2,045			1,633		3,663

(11) Related Party Transactions

Citizens Inc. purchased Class A common shares during 2010 that were held by subsidiaries at market value as of the transaction dates, which approximated $4.3 million. These transactions were eliminated for financial reporting purposes in accordance with consolidation accounting, but generated a tax expense in the three months ended September 30, 2010 totaling approximately $1.4 million.

25

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

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

FORWARD-LOOKING STATEMENTS

Certain statements contained in this Quarterly Report on Form 10-Q are not statements of historical fact and constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act (the“Act”), including, without limitation, statements specifically identified as forward-looking statements within this document. Many of these statements contain risk factors as well. In addition, certain statements in future filings by the Company with the Securities and Exchange Commission, in press releases, and in oral and written statements made by us or with the approval of the Company, which are not statements of historical fact constitute forward-looking statements within the meaning of the Act. Examples of forward-looking statements, include, but are not limited to: (i) projections of revenues, income or loss, earnings or loss per share, the payment or non-payment of dividends, capital structure, and other financial items, (ii) statements of our plans and objectives by our management or Board of Directors including those relating to products or services, (iii) statements of future economic performance and (iv) statements of assumptions underlying such statements. Words such as“believes,” “anticipates,”“assumes,” “estimates,” “plans,” “projects,” “could,”“expects,” “intends,” “targeted,” “may,” “will”and similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements.

Forward-looking statements are subject to known and unknown risks, uncertainties and other factors that may cause actual results to differ materially from those contemplated by the forward-looking statements. Factors that could cause the Company’s future results to differ materially from expected results include, but are not limited to:

• Changes in foreign and U.S. general economic, market, and political conditions, including the performance of financial markets and interest rates, particularly in light of the severe economic conditions and the severe stress experienced by the global financial markets in recent years;

• Changes in consumer behavior, which may affect the Company’s ability to sell its products and retain business;

• The timely development of and acceptance of new products of the Company and perceived overall value of these products and services by existing potential customers;

• Fluctuations in experience regarding current mortality, morbidity, persistency and interest rates relative to expected amounts used in pricing the Company’s products;

• The performance of our investment portfolio, which may be adversely affected by changes in interest rates, adverse developments and ratings of issuers whose debt securities we may hold, and other adverse macroeconomic events;

• Results of litigation we may be involved in;

• Changes in assumptions related to deferred acquisition costs and the value of any businesses we may acquire;

• Regulatory, accounting or tax changes that may affect the cost of, or the demand for, the Company’s products or services;

• Our concentration of business from persons residing in Latin America and the Pacific Rim;

• Our success at managing risks involved in the foregoing;

• Changes in tax laws;

• Effects of acquisitions and restructuring, including possible difficulties in integrating and realizing the projected results of acquisitions; and

• Changes in statutory or U.S. GAAP accounting principles, policies or practices.

Such forward-looking statements speak only as of the date on which such statements are made, and the Company undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made to reflect the occurrence of unanticipated events.

We make available, free of charge, through our Internet website (http://www.citizensinc.com), our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, Section 16 reports filed by officers and directors, news releases, and, if applicable, amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as soon as reasonably practicable after we electronically file such reports with, or furnish such reports to, the Securities and Exchange Commission. We are not including any of the information contained on our website as part of, or incorporating it by reference into, this Quarterly Report on Form 10-Q.

26

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Overview

We conduct operations as an insurance holding company emphasizing ordinary life insurance products in niche markets where we believe we can achieve competitive advantages. As an insurance provider, we collect premiums in the current period to pay future benefits to our policy and contract holders. Our core operations include issuing and servicing:

• U.S. Dollar-denominated ordinary whole life insurance and endowment policies predominantly to high net worth, high income foreign residents, located principally in Latin America and the Pacific Rim, through independent marketing consultants;

• ordinary whole life insurance policies to middle income households in the midwest and the southern United States through independent marketing consultants; and

• final expense and limited liability property policies to middle and lower income households in Louisiana, Mississippi and Arkansas through employee and independent agents in our home service distribution channel.

Life Insurance. For over the past 30 years, CICA and its predecessors have accepted policy applications from foreign nationals for U.S. Dollar-denominated ordinary whole life insurance and endowment policies. Traditionally, this market has been concentrated in the top 3-5% of the population of a country in terms of income and net worth. In recent years, however, there has been a shift to encompass a broader spectrum of the population, as upper middle classes develop in Latin America and the Pacific Rim. We make our insurance products available using third-party marketing organizations and independent marketing consultants. Historically, the majority of our international business has come from Latin America; however, the Pacific Rim has represented a meaningful source of new business for several years.

Through the domestic market of our Life Insurance segment, we provide ordinary whole life, credit life insurance, and final expense policies to middle income families and individuals in certain markets in the midwest and southern U.S. The majority of our revenues from this market are the result of acquisitions of domestic life insurance companies since 1987.

Home Service Insurance. We provide final expense ordinary life insurance to middle and lower income individuals in Louisiana, Mississippi and Arkansas. Our policies in this segment are sold and serviced through a home service marketing distribution system utilizing employee-agents who work on a route system to collect premiums and service policyholders and through networks of funeral homes who collect premiums and provide personal policyholder service.

The Company has been striving to reach a goal set by our founder and CEO, Harold E. Riley, approximately ten years ago to reach $1.0 billion in assets by 2010. This quarter ended September 30, 2010, with positive earnings and market value increases on our invested assets, the Company has moved over the one billion dollar mark to reach its goal. With steady operations under our founder’s leadership, we have grown from total assets of $267.8 million at December 31, 2000 to slightly over $1.0 billion today.

The Company has traditionally grown through domestic acquisitions and we continue to search for opportunities that will enhance our strategic objectives and add value for our shareholders.

Acquisition

In the first quarter of 2009, the Company completed its acquisition of Integrity Capital Corporation (“ICC”) in exchange for 1,294,000 shares of Citizens, Inc. Class A common stock. ICC is the parent of Integrity Capital Insurance Company (“ICIC”), an Indiana life insurance company that is included in the Life Insurance segment. The transaction was valued at $9.0 million when the transaction closed on February 27, 2009.

27

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Consolidated Results of Operations

Note: All discussion below compares or states 2010 results for the three and nine months ended September 30, 2010 compared to 2009 results.

Revenues

Revenues are generated primarily by insurance premiums and investment income on invested asset holdings.

	Three Months Ended					Nine Months Ended
	September 30,					September 30,
	2010			2009		2010			2009
	(In thousands)
Revenues:
Premiums:
Life insurance	$	36,433			34,589		105,114			101,858
Accident and health insurance		392			371		1,215			1,135
Property insurance		1,230			1,192		3,592			3,501
Net investment income		7,272			7,413		23,896			21,733
Realized gains (losses), net		(103	)		1,006		648			2,827
Decrease in fair value of warrants		128			—		380			3,081
Other income		103			273		602			796
Total revenues		45,455			44,844		135,447			134,931
Exclude decrease in fair value of warrants		(128	)		—		(380	)		(3,081	)
Total revenues, excluding fair value adjustments	$	45,327			44,844		135,067			131,850

Premium Income. All premium revenue lines grew from 2009 levels comparing quarter to quarter and year to year. Life insurance premium income increased during the three and nine months ended September 30, 2010 compared to the same periods in 2009, primarily related to renewal premiums indicating favorable persistency.

Net Investment Income. Net investment income increased for the nine months ended September 30, 2010 compared to the same period in 2009. The increase was due to higher invested assets held in the current year compared to 2009 as a result of investing new premium income, and income earned on the Company’s portfolio. Net investment income for the three months ended September 30, 2010 was lower, partially because of large call volumes on the fixed maturity portfolio, which began in the second quarter of this year, and due to overall decline in portfolio yield. Investment portfolio yield decreased approximately sixteen basis points at September 30, 2010 compared to the same period in 2009.

Net investment income performance is summarized as follows.

	Nine Months Ended			Year Ended			Nine Months Ended
	September 30,			December 31,			September 30,
	2010			2009			2009
	(In thousands, except for %)
Net investment income	$	23,896			29,602			21,733
Average invested assets, at amortized cost	$	684,074			622,699			601,802
Annualized yield on average invested assets		4.66	%		4.75	%		4.82	%

The Company has traditionally invested in fixed maturity securities with a large percent held in callable issues. The Company experienced significant call activity related to fixed maturity security holdings due to the historically low interest rate environment over the past few years. This call activity was significant in 2009 and 2010, and the proceeds from these calls were invested in lower yielding securities.

28

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Investment income from debt securities accounted for approximately 84.2% of total investment income for the nine months ended September 30, 2010. We continue to invest primarily in bonds of U.S. Government-sponsored enterprises, such as FNMA and FHLMC, which comprised 64.5% of the total fixed maturity portfolio based on amortized cost at September 30, 2010.

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2010			2009			2010			2009
	(In thousands)
Gross investment income:
Fixed maturity securities	$	6,325			6,461			20,974			18,591
Equity securities		162			254			494			803
Mortgage loans		17			5			53			18
Policy loans		683			628			1,996			1,813
Real estate investments		252			357			832			1,071
Other investment income		173			120			550			641
Total investment income		7,612			7,825			24,899			22,937
Investment expenses		(340	)		(412	)		(1,003	)		(1,204	)
Net investment income	$	7,272			7,413			23,896			21,733

The decrease in investment income in 2010 from equity securities resulted from the disposal of securities throughout 2009, primarily related to an acquired portfolio with a book value of $1.3 million and the disposal of certain of SPLIC’s mutual funds totaling $16.1 million in the fourth quarter of 2009. Policy loans have increased primarily from policyholders using the cash value accumulated on their policies to pay premiums and continue their insurance coverage. The increase in the asset balance of policy loans has resulted in a correlating increase in investment income. Other investment income for the nine months ended September 30, 2009 resulted from a legal settlement of $0.2 million in 2009 in connection with a defaulted bond investment.

Realized Gains (Losses), Net. The Company recorded net realized losses of $0.1 million, related to bond holdings in the third quarter of 2010. The net realized gains of $0.6 million during the nine months of 2010 were primarily the result of sales of several available-for-sale debt and equity securities, including some securities that had previously been impaired. The Company recorded a valuation allowance of $45,000 during the first quarter of 2010 on a non-performing mortgage loan. The net realized gains in 2009 were primarily due to sales of fixed maturity securities for the three and nine months ended September 30, 2009. An other-than-temporary impairment of $27,000 was recorded during the current quarter of 2010 related to one bond in default. In the first quarter of 2009, the Company recorded realized losses of $111,000 relating to other-than-temporary impairments.

Change in Fair Value of Warrants. The Company adjusts the liability related to its outstanding warrants to purchase shares of Class A common stock at each reporting date to reflect the current fair value of warrants computed based upon the Class A common stock value calculated using the Black-Scholes option pricing model. As the stock value increases and decreases, the change in the warrant liability also increases and decreases in inverse order. The adjustment to fair value is recorded as an increase or decrease in fair value of warrants on the consolidated statement of operations.

29

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Benefits and Expenses

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2010			2009			2010			2009
	(In thousands)
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders	$	15,739			14,494			46,410			44,254
Increase in future policy benefit reserves		11,398			10,305			30,726			28,021
Policyholders’ dividends		1,977			1,827			5,324			4,742
Total insurance benefits paid or provided		29,114			26,626			82,460			77,017
Commissions		9,229			8,435			26,385			25,462
Other underwriting, acquisition and insurance expense		6,580			6,772			20,541			21,889
Capitalization of deferred policy acquisition costs		(6,148	)		(5,306	)		(17,406	)		(16,257	)
Amortization of deferred policy acquisition costs		2,975			4,303			11,422			11,715
Amortization of cost of customer relationships acquired and other intangibles		726			946			2,332			2,630
Total benefits and expenses	$	42,476			41,776			125,734			122,456

Claims and Surrenders.

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2010		2009		2010		2009
	(In thousands)
Death claims	$	5,977		5,454		17,912		17,236
Surrender benefits		5,126		4,530		14,863		14,158
Endowment benefits		3,616		3,455		10,446		10,049
Property claims		469		514		1,340		1,264
Accident and health benefits		98		113		485		323
Other policy benefits		453		428		1,364		1,224
Total claims and surrenders	$	15,739		14,494		46,410		44,254

• Death claims remained consistent for the three and nine months ended September 30, 2010 compared to the same periods in 2009. These amounts will vary from period to period but were within Company expectation for all periods presented in this report.

• Surrender benefits represent payments to contract holders upon termination of a contract. The Company monitors surrenders on an ongoing basis. Surrenders as a percent of ordinary whole life insurance in force were unchanged at 0.4% in the first nine months of 2010 and 2009.

• Endowment benefit expense has increased as this product has become more popular with policyholders, and will likely continue to increase.

30

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Increase in Future Policy Benefit Reserves. Reserving assumptions are reviewed to ensure that our original assumptions at the time of policy issuance related to interest, mortality, withdrawals, and settlement expenses are based upon management’s best judgment. The Company modified these assumptions during the current year with respect to new policies issued, which resulted in an increase to reserves of $0.5 million. In addition, the Company recognized adjustments to reserves related to two valuation database discrepancies that resulted in a decrease to reserves of $0.6 million. There was a value per unit error related to fully paid up policies under one plan in duration twenty-one and another plan where surrender charges were not properly recorded. The net impact of these reserve items during the quarter ended September 30, 2010 was a reduction in reserves of $0.1 million.

Policyholder Dividends. Policyholder dividends increased during the three and nine months ended September 30, 2010 compared to the same periods in 2009, due to continued sales and persistency of participating ordinary whole life products in the international market. All of our international policies are participating, and the dividends are factored into the premiums and therefore do not impact profitability. As dividend rates increase each year that a policy is in force, dividend expense is expected to increase as this block of insurance becomes more seasoned.

Commissions. Commission expense is directly related to new and renewal insurance premium fluctuations and production levels by agents and associates. Commission expense was consistent with prior year amounts as premium revenues stayed relatively consistent.

Other Underwriting, Acquisition and Insurance Expenses. The decrease in these expenses was due to a decrease of $0.2 million in legal fees, which were associated with the 2009 acquisition of ICC. Additionally, auditing fees were lower by $0.3 million in the current year, reflecting efficiencies in the financial reporting process area.

Amortization of Deferred Policy Acquisition Costs. Amortization decreased for the three and nine months ended September 30, 2010 to $3.0 million and $11.4 million compared to the same periods in 2009 as our persistency has improved. Persistency was impacted in 2009 by one newly-recruited consultant, which resulted in higher amortization expense in 2009 as policies sold by this former consultant lapsed.

Federal Income Tax. The effective tax rate for the three and nine months ended September 30, 2010 was 44.1% and 33.5% versus 33.7% and 22.1% for the same periods in 2009. Tax differences impact the enacted tax rate when they result in differences between taxable income and expense that do not affect both the financial reporting and tax bases of accounting. The rate variance from the statutory rate of 35% occurred because changes in fair value of our Class A common stock warrants are not taxable items. In addition, intercompany transactions related to CIA shares held by subsidiaries that were redeemed by Citizens, Inc. during the current year were eliminated under current consolidation rules for financial reporting purposes, but result in taxable transactions and increased the current year effective tax rate. The additional tax expense related to these transactions totaled $0.9 million and $1.4 million for the three and nine months ended September 30, 2010, respectively.

Segment Operations

The Company has three reportable segments: Life Insurance, Home Service Insurance and Other Non-Insurance Enterprises. These segments are reported in accordance with U.S. GAAP. The Company evaluates profit and loss performance based on net income before income taxes.

			Home		Other
	Life		Service		Non-Insurance
	Insurance		Insurance		Enterprises			Total
	(In thousands)
Income (loss) before income tax expense:
Three months ended:
September 30, 2010	$	1,894		1,270		(185	)		2,979
September 30, 2009		2,522		967		(421	)		3,068
Nine months ended:
September 30, 2010		5,774		4,518		(579	)		9,713
September 30, 2009		7,938		3,232		1,305			12,475

31

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Life Insurance

Our Life Insurance segment consists of issuing primarily ordinary whole life insurance and endowments in U.S. Dollar-denominated amounts to foreign residents, and domestically through independent marketing firms and consultants.

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2010			2009			2010			2009
	(In thousands)
Revenue:
Premiums	$	27,514			25,795			78,364			75,570
Net investment income		3,893			4,232			13,239			12,196
Realized gains, net		1			650			116			1,068
Other income		78			108			487			267
Total revenue		31,486			30,785			92,206			89,101
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		10,498			10,035			30,644			30,259
Increase in future policy benefit reserves		10,688			8,850			28,123			24,258
Policyholders’ dividends		1,965			1,809			5,267			4,687
Total insurance benefits paid or provided		23,151			20,694			64,034			59,204
Commissions		5,572			4,827			15,316			14,531
Other underwriting, acquisition and insurance expenses		2,596			2,563			8,213			7,873
Capitalization of deferred policy acquisition costs		(4,579	)		(3,975	)		(12,741	)		(12,227	)
Amortization of deferred policy acquisition costs		2,613			3,757			10,752			10,677
Amortization of cost of customer relationships acquired and other intangibles		239			397			858			1,105
Total benefits and expenses		29,592			28,263			86,432			81,163
Income before income tax expense	$	1,894			2,522			5,774			7,938

Premiums. Premium revenues increased for the three and nine months ended September 30, 2010 compared to the same three and nine months in 2009 due primarily to international renewal business, which experienced strong persistency as this block of insurance matures. Renewals accounted for approximately 85% of total premium for the nine months ended in 2009 and 2010.

Life Insurance premium breakout is detailed below.

	Three Months Ended September 30,								Nine Months Ended September 30,
	2010				2009				2010				2009
	(In thousands, except for %)
Premiums:
First year	$	4,172	15.2	%		3,667	14.2	%		11,396	14.5	%		10,821	14.3	%
Renewal		23,342	84.8	%		22,128	85.8	%		66,968	85.5	%		64,749	85.7	%
Total premiums	$	27,514	100.0	%		25,795	100.0	%		78,364	100.0	%		75,570	100.0	%

Net Investment Income. Net investment income increased comparing the nine months ended September 30, 2010 to the same period of 2009. The increase in the current year resulted from increased income on bonds as our investment portfolio grew due to new investments added from premium growth. Due to the declining interest rate environment, the Company experienced significant call activity related to fixed income debt securities during 2009 and beginning in the latter part of the second quarter in 2010. This activity has resulted in lower yields due to a lag in reinvesting proceeds and reinvestment into lower yielding investments related to these calls. The current quarter of 2010 reflects this yield decline compared to the 2009 portfolio yield, which was approximately 40 basis points higher.

32

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Claims and Surrenders. Claims and surrenders increased for the three and nine months ended September 30, 2010 compared to the same periods in 2009. These amounts fluctuate from period to period but were within anticipated ranges based upon management’s expectations.

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2010		2009		2010		2009
	(In thousands)
Death claims	$	1,987		2,115		5,771		6,269
Surrender benefits		4,477		4,062		13,083		12,811
Endowment benefits		3,611		3,446		10,427		10,030
Accident and health benefits		65		77		348		193
Other policy benefits		358		335		1,015		956
Total claims and surrenders	$	10,498		10,035		30,644		30,259

• Death claims were favorable in the three and nine months for September 30, 2010 compared to the same periods in 2009, with a decrease of approximately 6.0% and 8.0%, respectively.

• Surrender benefits increased for the three and nine months ended September 30, 2010 compared to the same periods in 2009. The majority of policy surrender benefits paid is attributable to our international business and related to policies that have been in force over fifteen years, and no longer have surrender charges associated with them.

• Endowment benefit expense has increased as this product has become more popular with policyholders, and will likely continue to increase.

Increase in Future Policy Benefit Reserves. Policy benefit reserves increased for the three and nine months ended September 30, 2010 compared to the same periods in 2009, primarily due to increased sales of endowment products, which build up reserve balances more quickly compared to other life product sales. Endowment sales have become more popular relative to our international sales in the past few years, representing approximately 57%, 60% and 48% of total in force of new policies issued for 2010 (through nine months), 2009 and 2008, respectively.

Reserving assumptions are reviewed to ensure that our original assumptions at the time of policy issuance related to interest, mortality, withdrawals, and settlement expenses are based upon management’s best judgment. The Company modified these assumptions during the current year with respect to new policies issued, which resulted in an increase to reserves of $0.5 million. In addition, the Company recognized adjustments to reserves related to system database issues that were discovered, which resulted in a decrease to reserves of $0.6 million. The net impact of these reserve items during the quarter ended September 30, 2010 was a reduction in reserves of $0.1 million.

Commissions. Commission expense increased for the three and nine months ended September 30, 2010 compared to the same periods in 2009, as premium revenues increased between periods. This expense fluctuates directly with premium revenues.

Amortization of Deferred Policy Acquisition Costs (“DAC”). Amortization costs decreased in 2010 for the three months ended September 30, 2010 compared to 2009 resulting from improved persistency. The Company canceled its contract with a newly-recruited consultant in the second quarter of 2009, due to poor experience. Policies sold by this consultant lapsed at high rates during the first and second quarter of 2010, which resulted in higher DAC amortization in those periods compared to the third quarter of 2010, which was not impacted by similar lapses. DAC amortization increased due to the higher percentage of endowment product sales, which have a shorter amortization period than a whole life policy. As mentioned relative to the increase in reserves, the Company’s sales of endowment products have increased over the past few years.

33

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Home Service Insurance

We provide final expense ordinary life insurance to middle and lower income individuals in Louisiana, Mississippi and Arkansas. Our policies in this segment are sold and serviced through a home service marketing distribution system utilizing employee-agents.

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2010			2009			2010			2009
			(In thousands)
Revenue:
Premiums	$	10,541			10,357			31,557			30,924
Net investment income		3,244			3,126			10,251			9,396
Realized gains (losses), net		(96	)		356			585			1,682
Other income		10			20			63			84
Total revenue		13,699			13,859			42,456			42,086
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders		5,241			4,459			15,766			13,995
Increase in future policy benefit reserves		710			1,455			2,603			3,763
Policyholders’ dividends		12			18			57			55
Total insurance benefits paid or provided		5,963			5,932			18,426			17,813
Commissions		3,657			3,608			11,069			10,931
Other underwriting, acquisition and insurance expenses		3,529			3,588			10,964			11,577
Capitalization of deferred policy acquisition costs		(1,569	)		(1,331	)		(4,665	)		(4,030	)
Amortization of deferred policy acquisition costs		362			546			670			1,038
Amortization of cost of customer relationships acquired and other intangibles		487			549			1,474			1,525
Total benefits and expenses		12,429			12,892			37,938			38,854
Income before income tax expense	$	1,270			967			4,518			3,232

Premiums. The premium increases were due to enhanced marketing efforts to promote the Home Service segment, as well as a SPFIC rate increase that was effective in the latter part of 2009. The Company has received approval for a rate increase of approximately 5.7% that will be effective January 1, 2011.

Net Investment Income. Net investment income increased for the three and nine months ended September 30, 2010 compared to the same periods in 2009. The current year increase was due to an increased size of the asset portfolio from new business sales and income earned on the portfolio. The Company experienced significant call activity in the second quarter of 2009, which depressed our investment income for that period and lowered portfolio yields. Call activity was again significant in the latter part of the second quarter of 2010, which continues to result in lower investment income. The 2009 results included a one-time positive adjustment from a legal settlement of $240,000 related to a defaulted bond.

Realized Gains, Net. The net realized losses of $0.1 million in the third quarter of 2010 were primarily related to bonds that were purchased at a premium. Net realized gains of $0.6 million for the nine months ended September 30, 2010 were mostly due to sales of several available-for-sale debt and equity securities, some of which were previously impaired. Net realized gains for the nine months ended September 2009 were due primarily to bond sales.

34

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Claims and Surrenders. Claims and surrenders increased for the three and nine month periods ended September 30, 2010 compared to the same periods in 2009.

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2010		2009		2010		2009
	(In thousands)
Death claims	$	3,990		3,339	$	12,141		10,967
Surrender benefits		649		468		1,780		1,347
Endowment benefits		5		9		19		19
Property claims		469		514		1,340		1,264
Accident and health benefits		33		36		137		130
Other policy benefits		95		93		349		268
Total claims and surrenders	$	5,241		4,459	$	15,766		13,995

• Death claims increased 19.5% and 10.7% for the three and nine months ended September 30, 2010 compared to the same periods in 2009. Mortality experience is closely monitored by the Company as a key performance indicator and these amounts were within expected levels.

• Surrender benefits have increased in the three and nine months ended for the current year compared to the same periods in 2009, which is believed to be the result of negative economic issues impacting policyholders.

Other Underwriting, Acquisition and Insurance Expenses. Other underwriting, acquisition and insurance expenses decreased for the three and nine months ended at September 30, 2010 compared to the same periods in 2009, due to a decrease in accounting and consulting fees in the current year.

Other Non-Insurance Enterprises

Overall, other non-insurance operations are relatively immaterial to the consolidated results, except for the fair value adjustment related to the Company’s warrants to purchase Class A common stock. These amounts fluctuate due to the movement in the stock price and fair value calculation using the Black-Scholes valuation model.

Investments

The administration of our investment portfolios is handled by our management, pursuant to board-approved investment guidelines, with all trading activity approved by a committee of the respective boards of directors of our insurance company subsidiaries. The guidelines used require that fixed maturities, both government and corporate, are of high quality and comprise a majority of the investment portfolio. State insurance statutes prescribe the quality and percentage of the various types of investments that may be made by insurance companies and generally permit investment in qualified state, municipal, federal and foreign government obligations, high quality corporate bonds, preferred and common stock, mortgage loans and real estate within certain specified percentages. The assets are intended to mature in accordance with the average maturity of the insurance products and to provide the cash flow for our insurance company subsidiaries to meet their respective policyholder obligations.

35

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

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.

	September 30, 2010					December 31, 2009
	Carrying		% of Total			Carrying		% of Total
	Value		Carrying Value			Value		Carrying Value
	(In thousands)					(In thousands)
Fixed maturity securities:
U.S. Treasury and U.S. Government-sponsored enterprises	$	397,164		50.2	%	$	399,626		55.6	%
Corporate		171,080		21.6			116,098		16.1
Municipal bonds		62,125		7.8			57,192		7.9
Mortgage-backed (1)		16,297		2.1			19,452		2.7
Foreign governments		140		—			120		—
Total fixed maturity securities		646,806		81.7			592,488		82.3
Cash and cash equivalents		65,366		8.2			48,625		6.8
Short-term investments		—		—			2,510		0.3
Policy loans		34,970		4.4			32,096		4.5
Equity securities		33,986		4.3			33,477		4.6
Mortgage loans		1,501		0.2			1,533		0.2
Real estate and other long-term investments		9,376		1.2			9,216		1.3
Total cash, cash equivalents and investments	$	792,005		100.0	%	$	719,945		100.0	%

(1) Includes $14.5 million and $16.2 million of U.S. Government-sponsored enterprises at September 30, 2010 and December 31, 2009, respectively.

The Company increased holdings in corporate securities during the first nine months of 2010, investing in shorter duration investment grade securities. Cash and cash equivalents increased as of September 30, 2010 due to issuer call activity related to fixed maturity securities that occurred toward the end of the second quarter and continued throughout the third quarter. Short-term investments held at December 31, 2009 matured in the first quarter and those funds were reinvested into fixed maturity securities.

The held-to-maturity portfolio as of September 30, 2010 represented 19.7% of the total fixed maturity securities owned based upon carrying values, with the remaining 80.3% classified as available-for-sale. Held-to-maturity securities are reported in the financial statements at amortized cost and available-for-sale securities are reported at fair value.

36

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

The following table sets forth the distribution of the credit ratings of our portfolio of fixed maturity securities by carrying value as of September 30, 2010 and December 31, 2009.

	September 30, 2010					December 31, 2009
	Carrying Value		%			Carrying Value		%
	(In thousands)					(In thousands)
AAA and U.S. Government	$	481,307		74.4	%	$	442,160		74.6	%
AA		24,627		3.8			26,613		4.5
A		70,671		10.9			69,934		11.8
BBB		55,324		8.6			48,311		8.2
BB and other		14,877		2.3			5,470		0.9
Totals	$	646,806		100.0	%	$	592,488		100.0	%

The increase in fixed maturities with credit ratings of BBB as of September 30, 2010 compared to December 31, 2009 is a result of new investments in corporate bonds, primarily public utility issuers, with an average maturity of seven years. The increase in non-investment grade securities was due to down-grades of issuers in the current period, as the Company does not purchase below investment grade securities.

Valuation of Investments

We evaluate the carrying value of our fixed maturity and equity securities at least quarterly. The Company monitors all debt and equity securities on an on-going basis relative to changes in credit ratings, market prices, earnings trends and financial performance, in addition to specific region or industry reviews. The assessment of whether impairments have occurred is based on a case-by-case evaluation of underlying reasons for the decline in fair value. The Company determines other-than-temporary impairment by reviewing all relevant evidence related to the specific security issuer as well as the Company’s intent to sell the security, or if it is more likely than not that the Company would be required to sell a security before recovery of its amortized cost.

When an other-than-temporary impairment has occurred, the amount of the other-than-temporary impairment recognized in earnings depends on whether the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis. If the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is recognized in earnings equal to the entire difference between the investment’s cost and its fair value at the balance sheet date. If the Company does not intend to sell the security and it is not more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is separated into the following: a) the amount representing the credit loss; and b) the amount related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings. The amount of the total other-than-temporary impairment related to other factors is recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the other-than-temporary impairment recognized in earnings becomes the new amortized cost basis of the investment. The new amortized cost basis is not adjusted for subsequent recoveries in fair value.

The Company recognized $27,000 of other-than-temporary impairments related to one fixed maturity security recorded in the third quarter of 2010. The Company recognized a valuation allowance on one mortgage loan totaling $45,000 during the first quarter of 2010. Impairments recorded during the first nine months of 2009 totaled $111,000.

37

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Liquidity and Capital Resources

Liquidity refers to a company’s ability to generate sufficient cash flows to meet the needs of its operations. Liquidity is managed on insurance operations and seeks to ensure stable and reliable sources of cash flows to meet obligations provided by a variety of sources. Liquidity requirements of Citizens are met primarily by funds provided from operations. Premium deposits and revenues, investment income and investment maturities are the primary sources of funds, while investment purchases, policy benefits, and operating expenses are the primary uses of funds. We historically have not had to liquidate investments to provide cash flow and did not do so during the first nine months of 2010. Our investments as of September 30, 2010 consist of 71.4% of marketable debt securities classified as available-for-sale that could be readily converted to cash for liquidity needs.

A primary liquidity concern is the risk of an extraordinary level of early policyholder withdrawals. We include provisions within our insurance policies, such as surrender charges, that help limit and discourage early withdrawals. Since these contractual withdrawals, as well as the level of surrenders experienced, were largely consistent with our assumptions in asset liability management, our associated cash outflows have, to date, not had an adverse impact on our overall liquidity. Individual life insurance policies are less susceptible to withdrawal than annuity reserves and deposit liabilities because policyholders may incur surrender charges and undergo a new underwriting process in order to obtain a new insurance policy. Cash flow projections and cash flow tests under various market interest rate scenarios are also performed annually to assist in evaluating liquidity needs and adequacy. We currently anticipate that available liquidity sources and future cash flows will be adequate to meet our needs for funds.

Cash flows from our insurance operations have been sufficient to meet current needs. Cash flows from operating activities were $39.5 million and $36.3 million for the nine months ended September 30, 2010 and 2009, respectively. We have traditionally also had significant cash flows from both scheduled and unscheduled investment security maturities, redemptions, and prepayments. These cash flows, for the most part, are reinvested in fixed income securities. Net cash outflows from investment activity totaled $24.4 million and $23.7 million for the nine months ended September 30, 2010 and 2009, respectively.

The National Association of Insurance Commissioners (“NAIC”) has established minimum capital requirements in the form of Risk-Based Capital (“RBC”). Risk-based capital 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 risk-based capital fall below 200%, a series of actions by the affected company would begin.

Two of our subsidiaries fell below the minimum RBC threshold at December 31, 2008. A capital contribution of $1.0 million was made to SPFIC during the first quarter of 2009. An additional $1.0 million capital contribution was made to SPFIC in the third quarter of 2009. A capital contribution of $1.0 million was also made to Ozark National Life Insurance Company (“ONLIC”) during the first quarter of 2009 due to its RBC ratio falling below 200% at December 31, 2008. The decline in SPFIC’s capital balance mainly resulted from hurricane losses in 2008 and an increase in operating expenses. The reduction in ONLIC’s capital balance resulted from declines in asset values of preferred and common stock holdings. These capital contributions increased the RBC ratios and RBC action plans were submitted to the relevant insurance departments. The capital balance of ONLIC was determined to be at company action level at March 31, 2009 due to continued declines relative to its investment holdings. The capital contributions made in 2009 increased the ratios as anticipated in action plans submitted to the appropriate state insurance departments. The Company received approval from the respective state insurance departments to merge ONLIC into SPLIC as of October 1, 2009. The capital contributions did not impact the overall consolidated financial position or results of operations of the Company. All insurance subsidiaries were above the RBC minimums at September 30, 2010.

Due to a decline in statutory surplus, CNLIC no longer met minimum capital and surplus requirements as of June 30, 2010 in two states it is licensed in, Florida, deficient by approximately $0.4 million, and Mississippi, deficient by approximately $0.5 million. CNLIC currently maintains its Certificate of Authority, but voluntarily suspended sales in these states and its licenses were suspended. Life premiums collected in 2009 were $2,000 and $9,800 relating exclusively to policy renewals in Florida and Mississippi, respectively.

Effective September 1, 2010, CICA contributed 150,000 shares of Citizens, Inc. Class A common stock to CNLIC as a capital contribution. The shares had a fair market contributed value of $1,032,000. These shares were subsequently purchased by Citizens, Inc., the ultimate parent, on September 13, 2010 for $1,041,000 cash. The transaction has been eliminated under consolidation accounting rules. Management is currently evaluating CNLIC’s operations and strategy for the future, but does not anticipate any material change relative to the consolidated financial condition of the Company.

38

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Contractual Obligations and Off-balance Sheet Arrangements

There have been no material changes in contractual obligations from those reported at December 31, 2009 in the Company’s Form 10-K. The Company does not have off-balance sheet arrangements at September 30, 2010 and does not expect any future effects on the Company’s financial condition related to any such arrangements. We do not utilize special purpose entities as investment vehicles, nor are there any such entities in which we have an investment that engages in speculative activities of any nature, and we do not use such investments to hedge our investment positions.

Parent Company Liquidity and Capital Resources

We are a holding company and have had minimal operations of our own. Our assets consist primarily of the capital stock of our subsidiaries. Accordingly, our cash flows depend upon the availability of statutorily permissible payments, primarily payments under management agreements from our two primary life insurance subsidiaries, CICA and SPLIC. The ability to make payments is limited by applicable laws and regulations of Colorado, CICA’s state of domicile, and Louisiana, SPLIC’s state of domicile, which subject insurance operations to significant regulatory restrictions. These laws and regulations require, among other things, that these insurance subsidiaries maintain minimum solvency requirements and limit the amount of dividends these subsidiaries can pay to the holding company. We historically have not relied upon dividends from subsidiaries for our cash flow needs.

Critical Accounting Policies

Our critical accounting policies are as follows:

Policy Liabilities

Future policy benefit reserves have been computed by the net level premium method with assumptions as to investment yields, dividends on participating business, mortality and withdrawals based upon our experience. The preparation of financial statements requires management to make estimates and assumptions that affect the reported amount of policy liabilities and the increase in future policy benefit reserves. Management’s judgments and estimates for future policy benefit reserves provide for possible unfavorable deviation.

We continue to use the original assumptions (including a provision for the risk of adverse deviation) in subsequent periods to determine the changes in the liability for future policy benefits (the “lock-in concept”) unless a premium deficiency exists. Management monitors these assumptions and has determined that a premium deficiency did not exist as of September 30, 2010. Management believes that our policy liabilities and increase in future policy benefit reserves as of the nine months ended September 30, 2010 and 2009 are based upon assumptions, including a provision for the risk of adverse deviation, that do not warrant revision.

Reserving assumptions are reviewed to ensure that our original assumptions at the time of policy issuance related to interest, mortality, withdrawals, and settlement expenses are based upon management’s best judgment. The Company modified these assumptions during the current year with respect to new policies issued, which resulted in an increase to reserves of $0.5 million, due primarily from a decrease in interest rate assumptions on investments.

Deferred Policy Acquisition Costs

Acquisition costs, consisting of commissions and policy issuance, underwriting and agency expenses that relate to and vary with the production of new business, are deferred. These deferred policy acquisition costs are amortized primarily over the estimated premium paying period of the related policies in proportion to the ratio of the annual premium recognized to the total premium revenue anticipated, using the same assumptions as were used in computing liabilities for future policy benefits.

39

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

We utilize the factor method to determine the amount of costs to be capitalized and the ending asset balance. The factor method is based on the ratio of premium revenue recognized for the policies in force at the end of each reporting period compared to the premium revenue recognized for policies in force at the beginning of the reporting period. The factor method ensures that policies that lapsed or surrendered during the reporting period are no longer included in the deferred policy acquisition costs calculation. The factor method limits the amount of deferred costs to its estimated realizable value, provided actual experience is comparable to that contemplated in the factors.

Inherent in the capitalization and amortization of deferred policy acquisition costs are certain management judgments about what acquisition costs are deferred, the ending asset balance and the annual amortization. Approximately 80% of our capitalized deferred acquisition costs are attributed to first year excess commissions. The remaining 20% are attributed to costs that vary with and are directly related to the acquisition of new insurance business. Those costs generally include costs related to the production, underwriting and issuance of new business.

A recoverability test that considers, among other things, actual experience and projected future experience is performed at least annually. These annual recoverability tests initially calculate the available premium (gross premium less benefit and expense portion of premium) for the next 30 years. The available premium per policy and the deferred policy acquisition costs per policy are then calculated. The deferred policy acquisition costs are then evaluated over two methods utilizing reasonable assumptions and two other methods using pessimistic assumptions. The two methods using reasonable assumptions illustrate an early-deferred policy acquisition recoverability period. The two methods utilizing pessimistic assumptions still support early recoverability of our aggregate deferred policy acquisition costs. Management believes that our deferred policy acquisition costs and related amortization for the nine months ended September 30, 2010 and 2009 limits the amount of deferred costs to its estimated realizable value. This belief is based upon the analysis performed on capitalized expenses that vary with and are primarily related to the acquisition of new and renewal insurance business, utilization of the factor method and annual recoverability testing.

Cost of Customer Relationships Acquired

Cost of Customer Relationships Acquired (“CCRA”) is established when we purchase a block of insurance. CCRA is amortized primarily over the emerging profit of the related policies using the same assumptions as were used in computing liabilities for future policy benefits. We utilize various methods to determine the amount of the ending asset balance, including a static model and a dynamic model. Inherent in the amortization of CCRA are certain management judgments about the ending asset balance and the annual amortization. The assumptions used are based upon interest, mortality and lapses at the time of purchase.

A recoverability test that considers, among other things, actual experience and projected future experience is performed at least annually. These annual recoverability tests initially calculate the available premium (gross premium less benefit and expense portion of premium) for the next thirty years. The CCRA is then evaluated utilizing reasonable assumptions. Management believes that our CCRA and related amortization is recoverable for the nine months ended September 30, 2010 and 2009. This belief is based upon the analysis performed on estimated future results of the block and our annual recoverability testing.

Goodwill

Current accounting guidance requires that goodwill balances be reviewed for impairment at least annually or more frequently if events occur or circumstances change that would indicate that a triggering event has occurred. A reporting unit is defined as an operating segment on one level below an operating segment. Most of the Company’s reporting units, for which goodwill has been allocated, are equivalent to the Company’s operating segment, as there is no discrete financial information available for the separate components of the segment or all of the components of the segment have similar economic characteristics.

The goodwill impairment test follows a two step process as defined under current accounting guidance. In the first step, the fair value of a reporting unit is compared to its carrying value. If the carrying value of a reporting unit exceeds its fair value, the second step of the impairment test is performed for purposes of measuring the impairment. In the second step, the fair value of the reporting unit is allocated to all of the assets and liabilities of the reporting unit to determine an implied goodwill value. If the carrying amount of the reporting unit goodwill exceeds the implied goodwill value, an impairment loss is recognized in an amount equal to that excess.

Management’s determination of the fair value of each reporting unit incorporates multiple inputs including discounted cash flow calculations, peer company price to earnings multiples, the level of the Company’s Class A common stock price and assumptions that market participants would make in valuing the reporting unit. Other assumptions can include levels of economic capital, future business growth, and earnings projections.

40

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Valuation of Investments in Fixed Maturity and Equity Securities

The evaluation of securities for impairments is a quantitative and qualitative process, which is subject to risks and uncertainties and is intended to determine whether declines in the fair value of investments should be recognized in current period earnings. The risks and uncertainties include changes in general economic conditions, the issuer’s financial condition or future prospects, the effects of changes in interest rates or credit spreads and the expected recovery period.

Based upon current accounting guidance, investment securities must be classified as held-to-maturity, available-for-sale or trading. Management determines the appropriate classification at the time of purchase. The classification of securities is significant since it directly impacts the accounting for unrealized gains and losses on securities. Fixed maturity securities are classified as held-to-maturity and carried at amortized cost when management has the positive intent and the Company has the ability to hold the securities to maturity. Securities not classified as held-to-maturity are classified as available-for-sale and are carried at fair value, with the unrealized holding gains and losses, net of tax, reported in other comprehensive income and do not affect earnings until realized.

The Company evaluates all securities on a quarterly basis, and more frequently when economic conditions warrant additional evaluations, for determining if an OTTI exists pursuant to the accounting guidelines. In evaluating the possible impairment of securities, consideration is given to the length of time and the extent to which the fair value has been less than cost, the financial conditions and near-term prospects of the issuer, and the ability and intent of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing an issuer’s financial condition, the Company may consider whether the securities are issued by the Federal government or its agencies, by government-sponsored agencies, or whether downgrades by bond rating agencies have occurred, and reviews of the issuer’s financial condition.

If management determines that an investment experienced an OTTI, management must then determine the amount of OTTI to be recognized in earnings. If management does not intend to sell the security and it is more likely than not that the Company will not be required to sell the security before recovery of its amortized cost basis less any current period loss, the OTTI will be separated into the amount representing the credit loss and the amount related to all other factors. The amount of OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of OTTI related to other factors will be recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings will become the new amortized cost basis of the investment. If management intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis less any current period credit loss, the OTTI will be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. The new amortized cost basis is not adjusted for subsequent recoveries in fair value.

The Company from time to time may dispose of an impaired security in response to asset/liability management decisions, future market movements, business plan changes, or if the net proceeds can be reinvested at a rate of return that is expected to recover the loss within a reasonable period of time.

Premium Revenue and Related Expenses

Premiums on life and accident and health policies are reported as earned when due or, for short duration contracts, over the contract period on a pro rata basis. Benefits and expenses are associated with earned premiums so as to result in recognition of profits over the estimated life of the contracts. This matching is accomplished by means of provisions for future benefits and the capitalization and amortization of deferred policy acquisition costs.

Annuities are accounted for in a manner consistent with accounting for interest bearing financial instruments. Our primary annuity products do not include fees or other such charges.

41

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Tax Accounting

A deferred tax asset or deferred tax liability is recorded only if a determination is made that is more likely than not that the tax treatment on which the deferred tax item depends will be sustained in the event of an audit. These determinations inherently involve management’s judgment. In addition, the Company must record a tax valuation allowance with respect to deferred tax assets if it is more likely than not that the tax benefit will not be realized. This valuation allowance is in essence a contra account to the deferred tax asset. Management must determine the portion of the deferred tax asset and resulting tax benefit that may not be realized based upon judgment of expected outcomes. Due to significant estimates utilized in establishing the valuation allowance and the potential for changes in facts and circumstances, it is reasonably possible that we will be required to record adjustments to the valuation allowance in future reporting periods. Such a charge could have a material adverse effect on our results of operations, financial condition and capital position.

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

General

The nature of our business exposes us to investment market risk. Market risk is the risk of loss that may occur when changes in interest rates and public equity prices adversely affect the value of our invested assets. Interest rate risk is our primary market risk exposure. Substantial and sustained increases and decreases in market interest rates can affect the fair value of our investments. The fair value of our fixed maturity portfolio generally increases when interest rates decrease and decreases when interest rates increase.

The following table summarizes net unrealized gains and losses for the periods indicated.

	September 30, 2010						December 31, 2009
					Net						Net
					Unrealized						Unrealized
	Amortized		Fair		Gains		Amortized		Fair		Gains
	Cost		Value		(Losses)		Cost		Value		(Losses)
	(In thousands)
Fixed maturities, available-for-sale	$	501,649		519,132		17,483		389,195		385,579		(3,616	)
Fixed maturities, held-to-maturity		127,674		128,865		1,191		206,909		199,676		(7,233	)
Total fixed maturities	$	629,323		647,997		18,674		596,104		585,255		(10,849	)
Total equity securities	$	25,619		33,986		8,367		25,899		33,477		7,578

Market Risk Related to Interest Rates

Our exposure to interest rate changes results from our significant holdings of fixed maturity investments, which comprised 89% of our investment portfolio as of September 30, 2010. These investments are mainly exposed to changes in U.S. Treasury rates. Our fixed maturities investments include U.S. Government-sponsored enterprises, U.S. Government bonds, securities issued by government agencies, and corporate bonds. Approximately 63.6% of the fixed maturities at fair value as of September 30, 2010 were invested in U.S. Government-sponsored enterprises, or were backed by U.S. Government agencies.

To manage interest rate risk, we perform periodic projections of asset and liability cash flows to evaluate the potential sensitivity of our investments and liabilities. We assess interest rate sensitivity with respect to our available-for-sale fixed maturities investments using hypothetical test scenarios that assume either upward or downward 100 basis point shifts in the prevailing interest rates. We performed a sensitivity analysis as of December 31, 2009 for our interest rate sensitive assets. The change in fair values of our debt and equity securities as of September 30, 2010 were within the expected range of this analysis.

Changes in interest rates typically have a sizable effect on the fair values of our debt and equity securities. The interest rate of the ten-year U.S. Treasury bond decreased significantly to 2.5% during the quarter ended September 30, 2010 from 3.8% at December 31, 2009. Net unrealized gains on fixed maturity securities totaled $18.7 million at September 30, 2010 compared to losses of $10.8 million at December 31, 2009.

42

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

The fixed maturity portfolio is exposed to call risk as a significant portion of the current bond holdings are callable. A decreasing interest rate environment can result in increased call activity.

There are no fixed maturities or other investments that we classify as trading instruments. Approximately 80.1% of fixed maturities were held in available-for-sale and 19.9% in held-to-maturity based upon fair value at September 30, 2010. At September 30, 2010 and December 31, 2009, we had no investments in derivative instruments, nor did we have any subprime or collateralized debt obligation risk.

Market Risk Related to Equity Prices

Changes in the level or volatility of equity prices affect the value of equity securities we hold as investments. Our equity investments portfolio represented 4.7% of our total investments at September 30, 2010. We believe that significant decreases in the equity markets would not have a material adverse impact on our total investment portfolio.

Item 4. CONTROLS AND PROCEDURES

We have established disclosure controls and procedures to ensure, among other things, that material information relating to our Company, including its consolidated subsidiaries, 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.

Our Chief Executive Officer and Chief Financial Officer are responsible for establishing and maintaining 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”)). Based upon an evaluation at the end of the period, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this quarterly report.

During the quarter ended September 30, 2010, there were no changes in the Company’s internal controls over financial reporting that materially affect or are reasonably likely to affect the Company’s internal controls over financial reporting (as defined in rules 13a-15(f) and 15d-15(f) under the Exchange Act).

PART II. OTHER INFORMATION

Item 1. LEGAL PROCEEDINGS

We are a defendant in a lawsuit filed on August 6, 1999 in the Texas District Court, Austin, Texas, now styledCitizens Insurance Company of America, Citizens, Inc., Harold E. Riley and Mark A. Oliver, Petitioners v. Fernando Hakim Daccach,Respondent, in which a class was originally certified by the trial court and reversed by the Texas Supreme Court in 2007 with an order to the trial court to conduct further proceedings consistent with its ruling. The underlying lawsuit alleged that certain life insurance policies CICA made available to non-U.S. residents, when combined with a policy feature that allowed certain cash benefits to be assigned to two non-U.S. trusts for the purpose of accumulating ownership of our Class A common stock, along with allowing the policyholders to make additional contributions to the trusts, were actually offers and sales of securities that occurred in Texas by unregistered dealers in violation of the Texas securities laws. The remedy sought was rescission and return of the insurance premium payments. On December 9, 2009, the trial court denied the recertification of the class after conducting additional proceedings in accordance with the Texas Supreme Court’s ruling. The remaining plaintiffs must now proceed individually, and not as a class, if they intend to pursue their cases against us. We intend to maintain a vigorous defense in any remaining proceedings.

In addition to the legal proceeding described above, we may from time to time be subject to a variety of legal and regulatory actions relating to our future, current and past business operations, including, but not limited to:

• disputes over insurance coverage or claims adjudication;

• regulatory compliance with insurance and securities laws in the United States and in foreign countries;

• disputes with our marketing firms, consultants and employee agents over compensation and termination of contracts and related claims;

• disputes regarding our tax liabilities;

• disputes relative to reinsurance and coinsurance agreements; and

• disputes relating to businesses acquired and operated by us.

43

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

In the absence of countervailing considerations, we would expect to defend any such claims vigorously. However, in doing so, we could incur significant defense costs, including not only attorneys’ fees and other direct litigation costs, but also the expenditure of substantial amounts of management time that otherwise would be devoted to our business. If we suffer an adverse judgment as a result of any claim, it could have a material adverse effect on our business, results of operations and financial condition.

Item 1A. RISK FACTORS

There are no updates to our risk factors as disclosed in our Annual Report on Form 10-K for the year ended December 31, 2009, except as noted below.

Control of our Company, through the ownership of our Class B Common Stock, may one day be held by a 501(c)(3) charitable foundation and we cannot determine whether any change in our management or operations will occur as a result of the ownership change.

Harold E. Riley, our Founder, Chairman and CEO, is deemed by the New York Stock Exchange to be our ultimate controlling party. Mr. Riley owns 100% of Citizens Class B Common Stock through the Harold E. Riley Trust (“Trust”). Citizens’ Class A and Class B Common Stock are identical in all respects, except the Class B Common Stock elects a simple majority of the Board and receives one-half of the cash dividends paid on a per share basis as the Class A shares. The Class A Common Stock elects the remainder of the Board. Upon Mr. Riley’s death, the Class B Common Stock will be transferred from the Trust to the Harold E. Riley Foundation, a charitable organization established under 501(c)(3) of the Internal Revenue Code (“Foundation”). However, it is unclear what, if any changes, would occur to our board or management structure as a result of different ownership of the control position of our Company. Mr. Riley may at any time prior to his death deem it appropriate to transfer the Class B Common Stock, currently held by the Trust, to the Foundation.

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

None.

Item 3. DEFAULTS UPON SENIOR SECURITIES

None.

Item 4. (RESERVED)

Item 5. OTHER INFORMATION

On November 5, 2010, the Company issued a news release (the “Release”) reporting, among other things, results for its third quarter 2010 earnings. A copy of the Release is furnished as Exhibit 99.1 to this Quarterly Report on Form 10-Q. Citizens also announced that it would hold a conference call to discuss its financial results at 10:00 a.m. Central Standard Time on Monday, November 8, 2010.

44

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Item 6. EXHIBITS

Exhibit Number			The following exhibits are filed herewith:
	3.1		Restated and Amended Articles of Incorporation (a)
	3.2		Bylaws (b)
	4.1		Amendment to State Series A-1 and A-2 Senior Convertible Preferred Stock (c)
	10.1		Self-Administered Automatic Reinsurance Agreement — Citizens Insurance Company of America and Riunione Adriatica di Sicurta, S.p.A. (d)
	10.2		Bulk Accidental Death Benefit Reinsurance Agreement between Connecticut General Life Insurance Company and Citizens Insurance Company of America, as amended (e)
	10.3		Coinsurance Reinsurance Agreement, Assumption Reinsurance Agreement, Administrative Services Agreement dated March 9, 2004, between Citizens Insurance Company of America and Texas International Life Insurance Company, Reinsurance Trust Agreement dated March 9, 2004, by and among Citizens Insurance Company of America, Texas International Life Insurance Company and Wells Fargo Bank, N.A. (f)
	10.4		Coinsurance Reinsurance Agreement, Assumption Reinsurance Agreement, Administrative Services Agreement dated March 9, 2004, between Combined Underwriters Life Insurance Company and Texas International Life Insurance Company, Reinsurance Trust Agreement dated March 9, 2004, by and among Combined Underwriters Life Insurance Company, Texas International Life Insurance Company and Wells Fargo Bank, N.A. (g)
	10.5	(a)	Securities Purchase Agreement dated July 12, 2004 among Citizens, Inc., Mainfield Enterprises, Inc., Steelhead Investments Ltd., Portside Growth and Opportunity Fund, and Smithfield Fiduciary LLC (h)
	10.5	(b)	Registration Rights Agreement dated July 12, 2004 among Citizens, Inc., Mainfield Enterprises, Inc., Steelhead Investments Ltd., Portside Growth and Opportunity Fund, and Smithfield Fiduciary LLC (h)
	10.5	(c)	Unit Warrant dated July 12, 2004, to Mainfield Enterprises, Inc. (h)
	10.5	(d)	Unit Warrant dated July 12, 2004, to Steelhead Investments Ltd. (h)
	10.5	(e)	Unit Warrant dated July 12, 2004, to Portside Growth and Opportunity Fund (h)
	10.5	(f)	Unit Warrant dated July 12, 2004, to Smithfield Fiduciary LLC (h)
	10.5	(g)	Warrant to Purchase Class A Common Stock to Mainfield Enterprises, Inc. (h)
	10.5	(h)	Warrant to Purchase Class A Common Stock to Steelhead Investments Ltd. (h)
	10.5	(i)	Warrant to Purchase Class A Common Stock to Portside Growth and Opportunity Fund (h)
	10.5	(j)	Warrant to Purchase Class A Common Stock to Smithfield Fiduciary LLC (h)
	10.5	(k)	Subordination Agreement among Regions Bank, the Purchasers and Citizens, Inc. dated July 12, 2004 (h)
	10.5	(l)	Non-Exclusive Finder’s Agreement dated September 29, 2003, between Citizens, Inc. and the Shemano Group, Inc. (h)
	10.6		Self-Administered Automatic Reinsurance Agreement between Citizens Insurance Company of America and Converium Reinsurance (Germany) Ltd. (i)
	10.7		Self-Administered Automatic Reinsurance Agreement between Citizens Insurance Company of America and Scottish Re Worldwide (England) (j)
	10.8		Self-Administered Automatic Reinsurance Agreement — CICA Life Insurance Company of America and Scor Global Life U.S. Re Insurance Company (k)

45

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES
September 30, 2010

Exhibit Number		The following exhibits are filed herewith:
	10.9	Self-Administered Automatic Reinsurance Agreement — CICA Life Insurance Company of America and Mapfre Re Compania de Reaseguros, S.A. (l)
	11	Statement re: Computation of per share earnings (see financial statements)
	21	Subsidiaries of the Registrant*
	31.1	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act*
	31.2	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act*
	32.1	Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act*
	32.2	Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act*
	99.1	News Release reporting third quarter results issued on November 5, 2010 (furnished herewith).

*	Filed herewith.
(a)	Filed on March 15, 2004 with the Registrant’s Annual Report on Form 10-K for the Year Ended December 31, 2003 as Exhibit 3.1, and incorporated herein by reference.
(b)	Filed on March 31, 1999 with the Registrant’s Annual Report on Form 10-K for the Year Ended December 31, 1998, as Exhibit 3.2, and incorporated herein by reference.
(c)	Filed on July 15, 2004, with the Registrant’s Current Report on Form 8-K as Exhibit 4.1, and incorporated herein by reference.
(d)	Filed as Exhibit 10.8 with the Registration Statement on Form S-4, SEC File No. 333-16163, on November 14, 1996 and incorporated herein by reference.
(e)	Filed on April 9, 1997 as Exhibit 10.9 with the Registrant’s Annual Report on Form 10-K for the Year Ended December 31, 1996, Amendment No. 1, and incorporated herein by reference.
(f)	Filed on March 22, 2004 as Exhibit 10.8 of the Registrant’s Current Report on Form 8-K, and incorporated herein by reference.
(g)	Filed on March 22, 2004 as Exhibit 10.9 of the Registrant’s Current Report on Form 8-K, and incorporated herein by reference.
(h)	Filed on July 15, 2004 as part of Exhibit 10.12 with the Registrant’s Current Report on Form 8-K, and incorporated herein by reference.
(i)	Filed on March 31, 2005, with the Registrant’s Annual Report on Form 10-K for the Year Ended December 31, 2004, as Exhibit 10.10(m), and incorporated herein by reference.
(j)	Filed on March 31, 2005, with the Registrant’s Annual Report on Form 10-K for the Year Ended December 31, 2004, as Exhibit 10.10(n), and incorporated herein by reference.
(k)	Filed on November 6, 2009, with the Registrant’s Quarterly Report on Form 10-Q for the Quarter Ended September 30, 2009, as Exhibit 10.8(k), and incorporated herein by reference.
(l)	Filed on November 6, 2009, with the Registrant’s Quarterly Report on Form 10-Q for the Quarter Ended September 30, 2009, as Exhibit 10.9(l), and incorporated herein by reference.

46

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.

CITIZENS, INC.
By:	/s/ Harold E. Riley
	Harold E. Riley
	Chairman and Chief Executive Officer
By:	/s/ Kay E. Osbourn
	Kay E. Osbourn
	Executive Vice President, Chief Financial Officer and Treasurer

Date: November 5, 2010

47