UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the fiscal year ended December 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________to ________
Commission file number 333-65080
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
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(Exact name of registrant as specified in its charter)
Indiana 94-2786905
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(State or other jurisdiction of incorporation or (I.R.S. Employer
organization) Identification No.)
829 AXP Financial Center, Minneapolis, Minnesota 55474
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (612) 671-3131
--------------
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [Not Applicable]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the act).
Yes [ ] No [X]
THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTIONS I(1) (a)
and (b) OF FORM 10-K AND IS THEREFORE FILING THIS FORM WITH THE REDUCED
DISCLOSURE FORMAT.
TABLE OF CONTENTS
Form 10-K
Item Number
PART I Page
1. Business.................................................................................... 1
Introduction................................................................................ 1
Asset Accumulation and Investments: Product Features and Risks............................. 1
Insurance: Product Features and Risks...................................................... 2
General and Variable Account Assets......................................................... 3
Competitive Environment..................................................................... 4
Regulation.................................................................................. 5
Ratings..................................................................................... 5
Risk-Based Capital.......................................................................... 6
Liabilities for Future Policy Benefits...................................................... 6
Deferred Policy Acquisition Costs........................................................... 6
2. Properties.................................................................................. 6
3. Legal Proceedings........................................................................... 7
4. Submission of Matters to a Vote of Security Holders......................................... 7
PART II
5. Market for Registrant's Common Equity and Related Stockholder Matters...................... 7
6. Selected Financial Data..................................................................... 7
7. Management's Discussion and Analysis of Consolidated Financial Condition and Results of
Operations.................................................................................. 7
7A. Quantitative and Qualitative Disclosures About Market Risk.................................. 16
8. Financial Statements and Supplementary Data................................................. 16
9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure.................................................................................. 16
9A. Controls and Procedures..................................................................... 16
PART III
14. Principal Accountant Fees and Services...................................................... 17
PART IV
15. Exhibits, Financial Statement Schedules and Reports on Form 8-K............................. 17
Signatures.................................................................................. 19
Index to Financial Statements............................................................... F-1
Exhibit Index............................................................................... E-1
PART I
ITEM 1. BUSINESS
Introduction
American Enterprise Life Insurance Company is a stock life insurance company
organized under the laws of the State of Indiana. American Enterprise Life
Insurance Company is a wholly owned subsidiary of IDS Life Insurance Company
(IDS Life), a Minnesota Corporation. IDS Life is a wholly owned subsidiary of
American Express Financial Corporation (AEFC). AEFC is a wholly-owned subsidiary
of American Express Company. American Enterprise Life Insurance Company provides
financial institution clients American Express branded financial products and
wholesaling services to support its retail insurance and annuity operations.
American Enterprise Life principally underwrites fixed and variable annuity
contracts primarily through regional and national financial institutions and
regional and/or independent broker-dealers, in all states except New York and
New Hampshire. Effective in December 2004, American Enterprise Life Insurance
Company received a Certificate of Authority to transact business in the State of
New Hampshire. American Enterprise Life Insurance Company also owns American
Enterprise REO 1, LLC which holds real estate investments. American Enterprise
Life Insurance Company and its subsidiary are referred to collectively as
"American Enterprise Life" in this form 10-K.
On February 1, 2005, the American Express Company announced plans to pursue a
tax-free spin-off of the common stock of American Express Company's AEFC unit
through a special dividend to American Express common shareholders. The final
transaction, which is subject to certain conditions including receipt of a
favorable tax ruling and approval by American Express Company's Board of
Directors, is expected to close in the third quarter of 2005. In connection with
the spin-off, American Express Company intends to provide additional capital to
American Enterprise Life to confirm its current financial strength ratings.
Asset Accumulation and Investments: Product Features and Risks
American Enterprise Life's principal products are fixed and variable deferred
annuities, which are issued to a broad range of consumers through third party
distribution channels. American Enterprise Life offers single premium and
flexible premium deferred fixed annuities as well as flexible premium immediate
annuities. American Express Financial Advisors Inc.'s (AEFAI) retail sales force
(an American Enterprise Life affiliate) can offer American Enterprise Life's
variable annuities only in limited circumstances. Annuities may be deferred,
where assets accumulate until the contract is surrendered, the contract owner
dies, or the contract owner begins receiving benefits under an annuity payout
option; or immediate, where payments begin within one year of issue and continue
for life or for a fixed period of time.
Variable Annuities
A variable annuity provides a contract owner with investment returns linked to
the underlying investment accounts of the contract owner's choice. Variable
annuity products also offer a fixed account investment option with a guaranteed
minimum interest crediting rate ranging from 0% to 4% at December 31, 2004.
Contract owners can also choose among various contract provisions, including
guaranteed minimum death benefit (GMDB) and guaranteed minimum income benefit
(GMIB) riders. The GMDB rider protects contract beneficiaries from a drop in
death benefits due to performance of the underlying subaccounts. The GMIB rider
guarantees, after a stipulated waiting period from contract issuance, a minimum
lifetime annuity based on a specified rate of contract accumulation value growth
and predetermined annuity purchase rates. American Enterprise Life also offers
variable annuities with death benefit provisions that gross up the amount
payable by a certain percentage of contract earnings; these are referred to as
gain gross-up (GGU) benefits. In addition, American Enterprise Life offers
contracts containing guaranteed minimum withdrawal benefit (GMWB) provisions.
1
Fixed Annuities
American Enterprise Life's fixed annuity products provide cash value that
increases by a fixed interest rate. The rate is periodically reset at the
discretion of the issuing company subject to certain policy terms relative to
minimum interest crediting rates. American Enterprise Life resets interest rates
based on a number of factors, including interest rate scenario models and
risk/return measures. The annuity contracts issued by American Enterprise Life
provide a guaranteed minimum interest crediting rate ranging from 1.5% to 5% at
December 31, 2004. In 2003 and in response to a declining interest rate
environment, several states adopted an interim regulation allowing for a
guaranteed minimum interest crediting rate of 1.5% and/or a model regulation
providing for a guaranteed rate that was indexed. A number of states now follow
the model regulation. In response, American Enterprise Life filed a number of
contract changes in 2003 and 2004 to begin taking advantage of lower minimum
guarantees. American Enterprise Life will continue to implement contract changes
as states continue to adopt the new model regulation or as the interim
regulation sunsets.
Annuity Risks
The relative proportion between fixed and variable annuities sales is generally
driven by the relative performance of the equity and fixed income markets. In
times of lackluster performance in equity markets, fixed annuity sales are
generally stronger. In times of superior performance in equity markets, variable
annuity sales are generally stronger. In addition, investment management
performance is critical to the profitability of an annuity business.
Innovative features for annuity products have continued to evolve. These
features include GMDBs. The majority of the variable annuity contracts offered
by American Enterprise Life contain GMDB provisions. American Enterprise Life's
standard guaranteed minimum death benefit for annuities provides that the
beneficiary receives the greater of 1) contract value; or 2) purchase payments
minus adjusted partial surrenders. For additional protection, contract owners
may purchase optional benefits including a maximum anniversary value death
benefit and enhanced earnings death benefits. These are optional benefits
available for an additional charge. The maximum anniversary value death benefit
guarantees the death benefit will not be less than the highest contract value
achieved on a contract anniversary before the contract owner reaches the age of
81, adjusted for partial withdrawals. The enhanced earnings death benefit riders
are intended to provide additional benefits to a beneficiary to offset expenses
after the contract owner's death. American Enterprise Life bears the risk that
protracted under-performance of the financial markets could result in GMDB
benefits being higher than what accumulated contract owner account balances
would support.
American Enterprise Life issues certain variable annuity contracts that contain
a guaranteed minimum income benefit (GMIB) feature which, if elected by the
contract owner and after a stipulated waiting period from contract issuance,
guarantees a minimum lifetime annuity based on predetermined annuity purchase
rates that may be in excess of what the contract account value can purchase at
then-current annuity purchase rates.
The general account assets of American Enterprise Life support these GMDBs, GGUs
and GMIBs (see "General and Variable Account Assets - The General Account"
section below). American Enterprise Life bears the risk that protracted
under-performance of the financial markets could result in GMDBs, GGUs and GMIBs
being higher than what current account values would support. Actual experience
may differ from American Enterprise Life's estimates. American Enterprise Life's
exposure to risk from these guarantees generally will increase when equity
markets decline.
Insurance: Product Features and Risks
American Enterprise Life issues a variable life insurance product for sale
through non-affiliated representatives and agents of third party distributors.
American Enterprise Life issues only non-participating life insurance policies,
which do not pay dividends to policyholders from the insurers' earnings.
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Variable Life Insurance
Variable life insurance provides life insurance coverage along with investment
returns linked to underlying investment accounts of the policyholder's choice.
These products also offer a fixed account investment option with a guaranteed
minimum interest crediting rate ranging from 4.0% to 4.5% at December 31, 2004.
American Enterprise Life's variable life insurance product is American Express
Signature Variable Universal Life(R), an individual flexible premium policy.
Insurance Risks
Competitive factors applicable to the insurance business include product
features, the interest rates credited to products, the charges deducted from the
cash values of such products, investment performance, the financial strength of
the organization, distribution and management expenses, claims paying ratings
and the services provided to policyholders.
General and Variable Account Assets
Depending on the annuity purchased, the assets of American Enterprise Life
contractholders may be placed in either the general account of American
Enterprise Life (the "general account") or, in the case of variable annuity
products, in a separate account that invests in underlying investment options
(the "variable account").
The General Account
Assets supporting contract values associated with fixed account annuity
products, as well as those associated with fixed account options under variable
insurance and annuity products (collectively, the "fixed accounts"), are part of
American Enterprise Life's general account. Under fixed accounts, American
Enterprise Life bears the investment risk. In investing their general account
assets, American Enterprise Life seeks to maintain a dependable and targeted
difference or "spread" between the interest rate earned on general account
assets and the interest rate American Enterprise Life credits to contract
owners' fixed accounts. Historically, this spread has been a major component
driver of American Enterprise Life's net income.
In the general account, American Enterprise Life through its investment manager,
AEFC, primarily invest in fixed maturity securities over a broad range of
maturities for the purpose of providing a targeted rate of return on their
investments while controlling risk. The majority of these fixed maturity
securities are interest-bearing investments such as government obligations,
mortgage backed obligations and various corporate debt instruments. American
Enterprise Life does not invest in securities to generate trading profits.
American Enterprise Life through its Board of Directors' investment committees
or staff functions, review models projecting different interest rate scenarios,
risk/return measures, and their effect on profitability. They also review the
distribution of assets in the portfolio by type and credit risk sector. The
objective is to structure the investment security portfolio based upon the type
and expected behavior of products in the liability portfolio to meet contractual
obligations and achieve targeted levels of profitability within defined risk
parameters.
American Enterprise Life has the discretion to set the rate of interest credited
to contract owners' accounts subject to each contract's guaranteed minimum
interest crediting rate. As of December 31, 2004, this rate varied among fixed
accounts and was as low as 0% and as high as 6.4%. To the extent the yield on
American Enterprise Life's invested general account asset portfolio declines
below its target spread plus the minimum guarantee, American Enterprise Life's
profitability would be negatively affected.
The interest rates credited to contract owners' fixed accounts generally reset
towards new business rates; therefore, margins may be negatively impacted by
increases in the general level of interest rates. Part of American Enterprise
Life's strategy includes the use of derivatives, such as interest rate caps,
swaps and floors for risk management purposes. These derivatives help protect
margins by increasing investment returns if there is a sudden and severe rise in
interest rates, thereby lessening the impact of an increase in rates credited to
contract owners' fixed accounts. Conversely, in a low interest rate environment,
such as that experienced recently, margins may be negatively
3
impacted as the interest rates available on American Enterprise Life's invested
assets approach guaranteed minimum interest rates on annuity contracts inforce.
This negative impact may be compounded by the fact that many of these
interest-bearing investments are callable or pre-payable by the issuer and calls
and prepayments are more likely to occur in a low interest rate environment. In
light of the present environment in which interest rates are at historic lows,
American Enterprise Life imposed fixed account allocation and transfer
requirements for new variable annuity sales in 2003. These requirements were
relaxed slightly in 2004 with the introduction of lower guaranteed minimum
interest rates.
The Variable Accounts
Annuity products also offer variable account investment options in addition to
fixed account options. Under the variable account option, contract owners bear
the investment risk. The variable accounts are registered as unit investment
trusts under the Investment Company Act of 1940.
Generally, the variable accounts consist of a number of subaccounts, each of
which invests in shares of a particular fund. Contract owners can allocate their
payments among these variable subaccounts. The underlying funds are managed both
by internal and unaffiliated third-party money managers. These funds invest in
portfolios containing a variety of securities including common stocks, bonds,
managed assets and/or short-term securities. The value of the subaccounts
fluctuates with the investment return of the funds in which the subaccounts
invest. The underlying funds are managed both by internal and third-party money
managers.
American Enterprise Life's major source of revenue from variable annuities it
sells are the fees it receives, including mortality and expense risk and other
fees. During the fourth quarter of 2003, AEFC replaced IDS Life Insurance
Company as the investment manager and assumed these duties for the mutual funds
and retained IDS Life and its non-New York subsidiaries to provide underlying
administrative services. Concurrent with the investment manager change, American
Enterprise Life entered into an agreement with AEFC to receive fees for the
services, other than investment management, that American Enterprise Life
continues to provide the underlying proprietary mutual funds. American
Enterprise Life's administrative service fees will vary with the market values
of these proprietary mutual funds.
Variable insurance and annuities are "separate account" rather than general
account products. State insurance law prescribes that separate accounts
constitute a separate operation from the general account and as such are only
available to fund the liabilities of the separate accounts. Under the
subaccounts of each variable account, American Enterprise Life credits or
charges income, capital gains and losses only to that subaccount.
Competitive Environment
The insurance and annuity business is highly competitive, and American
Enterprise Life competes with numerous other insurance companies, as well as
certain banks, securities brokerage firms, independent financial advisors and
other financial intermediaries that market annuities, mutual funds and other
retirement-oriented products.
Competitive factors affecting the sale of insurance and annuity products
include:
o cost of insurance and other contract charges;
o mortality, expense and other contract charges;
o the level of premiums;
o investment performance;
o the level of interest rates;
o financial strength ratings from third party agencies such as A. M. Best;
o the breadth, quality and design of products and services offered;
o the quality of underwriting;
o the effectiveness of advertising and promotion campaigns;
o reputation and recognition in the marketplace;
4
o distribution capabilities and compensation; and
o the quality of customer service.
With respect to variable annuities, customers also focus on guaranteed payment
features that help to insulate them from equity market risk.
Regulation
The Indiana Department of Insurance regulates American Enterprise Life Insurance
Company. In addition, American Enterprise Life is also regulated by each of the
insurance regulators in the states where it is authorized to transact the
business of insurance. These other states regulate such matters as the licensing
of sales personnel and, in some cases, the marketing and contents of insurance
policies and annuity contracts. The primary purpose of such regulation and
supervision is to protect the interests of policyholders and contractholders.
Financial regulation of American Enterprise Life is extensive. American
Enterprise Life's financial and intercompany transactions (such as intercompany
dividends and investment activity) are often subject to pre-notification and
continuing evaluation by the Indiana Department of Insurance. Virtually all
states require participation in insurance guaranty associations, which assess
insurance companies in order to fund claims of policyholders and contractholders
of insolvent insurance companies.
Insurance companies have recently been the subject of increasing regulatory,
legislative and judicial scrutiny. Numerous state and federal regulatory
agencies have commenced investigations regarding sales and marketing practices,
compensation arrangements and anticompetitive activities, and market timing and
late trading in connection with insurance, annuity and mutual fund products.
American Enterprise Life has been contacted by regulatory agencies for
information relating to some of these investigations and is cooperating with
those inquiries. American Enterprise Life is reviewing its compensation
arrangements and other operations that may be affected by these regulatory
investigations, and the legal precedents and new industry-wide legislation,
rules and regulations that may arise from these investigations.
At the federal level, there is periodic interest in enacting new regulations
relating to various aspects of the insurance industry, including taxation of
annuities and life insurance policies, accounting procedures, as well as the
treatment of persons differently because of gender, with respect to terms,
conditions, rates or benefits of an insurance policy. New federal regulation in
any of these areas could potentially have an adverse effect upon American
Enterprise Life. More specifically, recent federal legislative proposals aimed
at the promotion of tax-advantaged savings through Lifetime Savings Accounts and
Retirement Savings Accounts may adversely impact American Enterprise Life's
sales of annuity and life insurance products if enacted.
Ratings
American Enterprise Life receives ratings from independent rating agencies.
Generally, American Enterprise Life does not receive an individual rating, but
receives the same rating as IDS Life. These agencies evaluate the financial
soundness and claims-paying ability of insurance companies based on a number of
different factors. The ratings reflect each agency's estimation of American
Enterprise Life's ability to meet its contractual obligations such as making
annuity payouts and paying death benefits and other distributions from the
contracts. As such, the ratings relate to American Enterprise Life's general
account and not to the management or performance of the variable accounts of the
contracts.
Ratings are important to maintaining public confidence in American Enterprise
Life. Lowering of American Enterprise Life's ratings could have a material
adverse effect on American Enterprise Life's ability to market its products and
could lead to increased surrenders of its products. Rating agencies continually
review the financial performance and condition of insurers. As of the end of
2004, American Enterprise Life was rated "A+" (Superior) by A.M. Best Company,
Inc. and its claims-paying ability/financial strength was rated "Aa3"
(Excellent) by Moody's Investors Service, Inc. (Moody's), and "AA" (Very Strong)
by Fitch. On February 1, 2005, A.M. Best placed American Enterprise Life's
financial strength rating of "A+" under review with negative implications,
Moody's affirmed American Enterprise Life's
5
financial strength rating at "Aa3" and Fitch lowered American Enterprise Life's
financial strength rating to "AA-" and placed them on "Rating Watch Negative"
following American Express Company's announcement that it intends to pursue a
spin-off of its full ownership of AEFC, the holding company for American
Enterprise Life. In connection with the spin-off, American Express Company
intends to provide additional capital to American Enterprise Life to confirm its
current financial strength ratings.
The foregoing ratings reflect each rating agency's opinion of American
Enterprise Life's financial strength, operating performance and ability to meet
its obligations to contract owners.
Risk-Based Capital
The National Association of Insurance Commissioners (NAIC) defines Risk-Based
Capital (RBC) requirements for life insurance companies. The RBC requirements
are to be used as minimum capital requirements by the NAIC and states to
identify companies that merit further regulatory action. At December 31, 2004,
American Enterprise Life had total adjusted capital of approximately $585
million on a statutory accounting basis. The Insurance Department of the State
of Indiana, American Enterprise Life's primary insurance regulator, requires
insurance companies to maintain a minimum RBC called the "authorized control
level RBC." If total adjusted capital fell below the authorized control level
RBC, the Insurance Department of the State of Indiana would be authorized to
exercise management control over American Enterprise Life. For American
Enterprise Life, the authorized control level RBC was $69.4 million at December
31, 2004.
In addition, American Enterprise Life, like other life insurance companies, is
expected to maintain capital at a level above which would require it to file an
action plan with the Insurance Department of the State of Indiana. This is
referred to as the "company action level RBC." For American Enterprise Life, the
company action level RBC was $138.8 million at December 31, 2004.
As described above, American Enterprise Life maintains levels of RBC far in
excess of the authorized control and company action levels required by the
Insurance Department of the State of Indiana. The level of capital maintained in
American Enterprise Life is thought to be appropriate by management and is more
commensurate with standards necessary to maintain American Enterprise Life's
ratings with the various credit and claims-paying rating agencies.
Liabilities for Future Policy Benefits
American Enterprise must maintain adequate financial reserves to cover the
insurance risks associated with the insurance products it issues. Generally,
reserves represent estimated assets that American Enterprise Life needs to
provide adequately for future benefits and expenses. Actual experience may
differ from estimates. See "Critical Accounting Policies" within management's
discussion and analysis below for further discussion regarding liabilities for
future policy benefits, which portions of such are incorporated herein by
reference.
Deferred Policy Acquisition Costs
Deferred policy acquisition costs (DAC) represent the costs of acquiring new
business, principally direct sales commissions and other distribution and
underwriting costs that have been deferred on the sale of annuity products.
These costs are deferred to the extent they are recoverable from future profits.
DAC for certain annuities are amortized as a percentage of estimated gross
profits associated with the products. DAC for other annuities are amortized
using the interest method. See "Critical Accounting Policies" within
management's discussion and analysis below for further discussion of DAC.
ITEM 2. PROPERTIES
American Enterprise Life has no employees and is charged by IDS Life for the use
of joint facilities in Minneapolis, Minnesota, which are owned or leased by
AEFC. These facilities are believed to be adequate for the purposes for which
they are used and are well maintained.
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ITEM 3. LEGAL PROCEEDINGS
The Securities and Exchange Commission (SEC), the National Association of
Securities Dealers (NASD) and several state attorneys general have brought
proceedings challenging several mutual fund and variable account financial
practices, including suitability generally, late trading, market timing,
disclosure of revenue sharing arrangements and inappropriate sales. American
Enterprise Life has received requests for information and has been contacted by
regulatory authorities concerning its practices and is cooperating fully with
these inquiries.
American Enterprise Life and its affiliates are involved in a number of other
legal and arbitration proceedings concerning matters arising in connection with
the conduct of their respective business activities. American Enterprise Life
believes it has meritorious defenses to each of these actions and intends to
defend them vigorously. American Enterprise Life believes that it is not a party
to, nor are any of its properties the subject of, any pending legal or
arbitration proceedings that would have a material adverse effect on American
Enterprise Life's consolidated financial condition, results of operations or
liquidity. However, it is possible that the outcome of any such proceedings
could have a material impact on results of operations in any particular
reporting period as the proceedings are resolved.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Item omitted pursuant to General Instructions I(2) (c) of Form 10-K.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Not applicable.
ITEM 6. SELECTED FINANCIAL DATA
Item omitted pursuant to General Instructions I(2) (a) of Form 10-K.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
American Enterprise Life follows United States generally accepted accounting
principles (GAAP), and the following discussion is presented on a consolidated
basis consistent with GAAP.
Certain of the statements below are forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1995. See the
Forward-Looking Statements section below.
Management's narrative analysis of the results of operations is presented in
lieu of management's discussion and analysis of financial condition and results
of operations, pursuant to General Instructions I(2) (a) of Form 10-K.
Results of Operations for the Year Ended December 31, 2004 and 2003
Income before accounting change was $25.2 million for the year ended December
31, 2004 compared to $37.6 million for the year ended December 31, 2003. The
decrease primarily reflects reduced net realized gains on investments, higher
other insurance and operating expenses, higher amortization of deferred policy
acquisition costs (DAC), and higher benefit costs on investment contracts,
partially offset by lower interest credited on investment contracts.
7
Net income for the year ended December 31, 2004 reflects the $3.6 million ($5.5
million pretax) impact of American Enterprise Life's January 1, 2004 adoption of
the American Institute of Certified Public Accountants Statement of Position
03-1, "Accounting and Reporting by Insurance Enterprises for Certain
Nontraditional Long-Duration Contracts and for Separate Accounts" (SOP 03-1).
SOP 03-1 requires insurance enterprises to establish liabilities for benefits
that may become payable under variable annuity death benefit guarantees or other
insurance or annuity contract provisions. See "Application of Recent Accounting
Standards" section in Note 1 to the Consolidated Financial Statements regarding
the impact of adoption of SOP 03-1.
Revenues
Net investment income increased $4.3 million or 1 percent reflecting higher
average assets.
Mortality and expense risk and other fees increased $11.1 million or 80 percent,
reflecting higher average values of separate account assets compared to 2003.
Net realized gain on investments was $5.2 million in 2004 compared to $25.1
million in 2003. For the year ended December 31, 2004, $9.8 million of total
investment gains were partially offset by $4.6 million of impairments and
losses. Included in these total net investment gains and losses are $9.5 million
of gross realized gains and $4.0 million of gross realized losses from sales of
securities, classified as Available-for-Sale.
For the year ended December 31, 2003, $65.8 million of total investment gains
were partially offset by $40.7 million of impairments and losses. Included in
these total net investment gains and losses are $65.7 million of gross realized
gains and $30.3 million of gross realized losses from sales of securities, as
well as $9.3 million of other-than-temporary impairment losses on investments,
classified as Available-for-Sale.
Benefits and Expenses
Interest credited on investment contracts decreased $36.4 million or 14 percent,
reflecting lower interest crediting rates, partially offset by higher average
accumulation values of annuities.
DAC amortization increased $22.4 million or 59 percent. See the DAC section
below for further discussion of DAC and related third quarter 2004 and 2003
adjustments.
Other insurance and operating expense increased $17.4 million or 32 percent,
primarily reflecting less favorable mark-to-market adjustments on interest rate
swaps during 2004 compared to 2003. American Enterprise Life enters into
pay-fixed, receive-variable interest rate swaps with IDS Life to protect the
spread between yields earned on investments and interest rates credited to fixed
annuity products. The interest rate swaps are economic hedges that are not
designated for hedge accounting treatment under SFAS No. 133.
American Enterprise Life's increase in the effective income tax rate primarily
reflecting the true-up of prior year current and deferred tax estimates based on
the finalization of the 2003 tax return.
Results of Operations for the Years Ended December 31, 2003 and 2002:
Net income was $37.6 million for the year ended December 31, 2003, compared to a
net loss of $33.7 million for the year ended December 31, 2002. The favorable
change in net income primarily reflects increased net investment income and net
realized gains on investments, as well as decreased other insurance and
operating expense, partially offset by increased interest credited on investment
contracts.
Revenues
Net investment income increased $80.1 million or 27 percent reflecting a higher
average level of investments partially offset by lower average yields on the
investment portfolio.
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Net realized gain on investments was $25.1 million in 2003 compared to nil in
2002. For the year ended December 31, 2003, $65.8 million of total investment
gains were partially offset by $40.7 million of impairments and losses. Included
in these total net investment gains and losses are $65.7 million of gross
realized gains and $30.3 million of gross realized losses from sales of
securities, as well as $9.3 million of other-than-temporary impairment losses on
investments, classified as Available-for-Sale.
For the year ended December 31, 2002, $38.2 million of total investment gains
were offset by $38.2 million of impairments and losses. Included in these total
net investment gains and losses are $38.2 million of gross realized gains and
$17.6 million of gross realized losses from sales of securities, as well as
$14.6 million of other-than-temporary impairment losses on investments,
classified as Available-for-Sale.
Benefits and Expenses
Interest credited on investment contracts increased $44.9 million or 21 percent,
reflecting higher average accumulation values of annuities, partially offset by
lower interest crediting rates as a result of a relatively low interest rate
environment that began in 2002.
DAC amortization decreased $5.8 million or 13 percent, reflecting a $3.2 million
decrease in DAC amortization expense in 2003 compared to a $4.6 million increase
in DAC amortization in 2002 as a result of management's third quarter reviews of
various DAC assumptions and practices. DAC amortization expense was otherwise
higher in 2003 than in 2002, reflecting higher business volumes and the ongoing
impact of 2002 changes in customer asset value growth rate assumptions.
Other insurance and operating expense decreased $37.7 million or 41 percent,
reflecting favorable mark-to-market adjustments on interest rate swaps during
2003 compared to unfavorable mark-to-market adjustments the same period a year
ago. The relatively low and stable interest rate environment during 2003
compared to declining interest rates during 2002 is the primary driver behind
the favorable market value changes to the interest rate swaps. American
Enterprise Life enters into pay-fixed, receive-variable interest rate swaps with
IDS Life to protect the spread between yields earned on investments and interest
rates credited to fixed annuity products. The interest rate swaps are economic
hedges that are not designated for hedge accounting treatment under SFAS No.
133.
American Enterprise Life's increase in the effective income tax rate reflects
pretax income of $56.7 million in 2003 compared to a pretax loss of $52.2
million in 2002.
Deferred Policy Acquisition Costs
Deferred policy acquisition costs (DAC) represent the costs of acquiring new
business, principally direct sales commissions and other distribution and
underwriting costs that have been deferred on the sale of annuity products.
These costs are deferred to the extent they are recoverable from future profits.
DAC for certain annuities are amortized as a percentage of estimated gross
profits or as a portion of product interest margins depending on the product's
characteristics. DAC for other annuities are amortized using the interest
method.
For American Enterprise Life's annuity products, the projections underlying the
amortization of DAC require the use of certain assumptions, including interest
margins, persistency rates, maintenance expense levels and customer asset value
growth rates for variable products. Management routinely monitors a wide variety
of trends in the business, including comparisons of actual and assumed
experience. The customer asset value growth rate is the rate at which contract
values are assumed to appreciate in the future. The rate is net of asset fees
and anticipates a blend of equity and fixed income investments. Management
reviews and, where appropriate, adjusts its assumptions with respect to customer
asset value growth rates on a quarterly basis.
Management monitors other principal DAC assumptions, such as persistency,
mortality rates, interest margin and maintenance expense level assumptions, each
quarter. Unless management identifies a material deviation over the course of
the quarterly monitoring, management reviews and updates these DAC assumptions
annually in the third quarter of each year. When assumptions are changed, the
percentage of estimated gross profits or portion of interest
9
margins used to amortize DAC might also change. A change in the required
amortization percentage is applied retrospectively; an increase in amortization
percentage will result in an increase in DAC amortization expense while a
decrease in amortization percentage will result in a decrease in DAC
amortization expense. The impact on results of operations of changing
assumptions with respect to the amortization of DAC can be either positive or
negative in any particular period and is reflected in the period in which such
changes are made. As a result of these reviews, American Enterprise Life took
actions in both 2004 and 2003 that impacted DAC balance and expenses.
In the third quarter 2004, these actions resulted in a net $1.1 million DAC
amortization expense reduction reflecting higher than previously assumed
interest rate spreads and lower than previously assumed mortality rates on
variable annuity products.
In the third quarter 2003, American Enterprise Life improved its modeling of
certain variable annuity contract revenues and unlocked estimated gross profits
retrospectively to reflect actual interest margins and death and other benefits.
American Enterprise Life also adjusted its assumptions to reflect lower than
previously assumed spreads on fixed account values and adjusted the near-term
rate and period used in projecting growth in customer asset values on variable
annuities. These actions resulted in a $3.2 million reduction in DAC
amortization expense.
DAC of $299.7 million and $296.7 million related to annuities was included in
American Enterprise Life's consolidated balance sheet at December 31, 2004 and
2003, respectively. In addition to the DAC balances shown above and in
conjunction with American Enterprise Life's adoption of SOP 03-1, sales
inducement costs previously included in DAC were reclassified from DAC and
presented as a separate line item in the Consolidated Balance Sheets. Deferred
sales inducement costs were $49.8 million and $49.2 million at December 31, 2004
and 2003, respectively. Sales inducement costs consist of bonus interest credits
and deposit credits added to certain annuity contract values. These benefits are
capitalized to the extent they are incremental to amounts that would be credited
on similar contracts without the applicable feature. The amounts capitalized are
amortized using the same methodology and assumptions used to amortize DAC.
Certain Critical Accounting Policies
American Enterprise Life's significant accounting policies are described in Note
1 to the Consolidated Financial Statements. The following provides information
about certain critical accounting policies that are important to the
Consolidated Financial Statements and that involve estimates requiring
significant management assumptions and judgments about the effect of matters
that are uncertain. These policies relate to investment securities valuation,
deferred policy acquisition costs and liabilities for future policy benefits.
Investment Securities Valuation
Generally, investment securities are carried at fair value on the balance sheet
with unrealized gains (losses) recorded in other accumulated comprehensive
income (loss) within equity, net of income tax provisions (benefits) and net of
adjustments in assets and liability balances, such as deferred policy
acquisition costs (DAC), to reflect the expected impact on their carrying values
had the unrealized gains (losses) been realized immediately. At December 31,
2004, American Enterprise Life had net unrealized pretax gains on
Available-for-Sale securities of $111.6 million. Gains and losses are recognized
in results of operations upon disposition of the securities. Losses are also
recognized when management determines that a decline in value is
other-than-temporary, which requires judgment regarding the amount and timing of
recovery. Indicators of other-than-temporary impairment for debt securities
include issuer downgrade, default or bankruptcy. American Enterprise Life also
considers the extent to which cost exceeds fair value, the duration and size of
that gap, and management's judgment about the issuer's current and prospective
financial condition. Approximately 90% of the investment portfolio classified as
Available-for-Sale is determined by quoted market prices. As of December 31,
2004, there were $31.7 million in gross unrealized losses that related to $2.2
billion of securities, of which $534 million has been in a continuous unrealized
loss position for 12 months or more. As part of American Enterprise Life's
ongoing monitoring process, management has determined that substantially all of
the gross unrealized losses on these securities are attributable to changes in
interest rates. Additionally, American Enterprise Life has the ability and
intent to hold these securities for a time sufficient to
10
recover its amortized cost and has, therefore, concluded that none of these
securities are other-than-temporarily impaired at December 31, 2004.
Included in American Enterprise Life's investment portfolio discussed above are
structured investments of various asset quality, including collateralized debt
obligations (CDOs) (backed by high-yield bonds), which are not readily
marketable. The carrying values of these structured investments are based on
future cash flow projections that require managements judgment as to the amount
and timing of cash payments, defaults and recovery rates of the underlying
investments and, as such, are subject to change. The carrying value will vary if
the actual cash flows differ from projected due to actual defaults or changes in
estimated default or recovery rates. As an example, an increase in the near-term
default rate by 100 basis points, in and of itself, would reduce the cash flow
projections by approximately $5 million based on underlying investments as of
December 31, 2004. The level of change in near-term default rates would have to
be significantly higher than 100 basis points to cause a change in carrying
value of American Enterprise Life's structured investments due to previously
recognized impairment losses coupled with subsequent improvement in actual
default rates.
See "Application of Recent Accounting Standards" section of Note 1 to the
Consolidated Financial Statements for a discussion of Emerging Issues Task Force
(EITF) Issue 03-1, "The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments (EITF 03-1)" which when finalized by the FASB
may affect IDS Life's investment securities valuation policy.
Deferred Policy Acquisition Costs
Deferred policy acquisition costs (DAC) represent the costs of acquiring new
annuity business, principally direct sales commissions and other distribution
and underwriting costs that have been deferred on the sale of annuity products.
These costs are deferred to the extent they are recoverable from future profits.
DAC for certain annuities are amortized as a percentage of estimated gross
profits or as a portion of product interest margins depending on the product's
characteristics.
For American Enterprise Life's annuity products, the DAC balances at any
reporting date are supported by projections that show management expects there
to be adequate estimated gross profits or interest margins after that date to
amortize the remaining DAC balances. These projections are inherently uncertain
because they require management to make assumptions about financial markets,
anticipated mortality and morbidity levels, and policyholder behavior over
periods extending well into the future. Projection periods used for American
Enterprise Life's annuity business are typically 10 to 25 years. Management
regularly monitors financial market conditions and actual policyholder behavior
experience and compares them to its assumptions. For annuity products, the
assumptions made in projecting future results and calculating the DAC balance
and DAC amortization expense are management's best estimates. Management is
required to update these assumptions whenever it appears that, based on actual
experience or other evidence, earlier estimates should be revised. When
assumptions are changed, the percentage of estimated gross profits or portion of
interest margins used to amortize DAC might also change. A change in the
required amortization percentage is applied retrospectively; an increase in
amortization percentage will result in a decrease in DAC balance and an increase
in DAC amortization expense while a decrease in amortization percentage will
result in an increase in DAC balance and a decrease in DAC amortization expense.
The impact on results of operations of changing assumptions can be either
positive or negative in any particular period and is reflected in the period in
which such changes are made.
For American Enterprise Life's annuity products, key assumptions underlying
these long-term projections include interest rates (both earning rates on
invested assets and rates credited to policyholder accounts), equity market
performance, mortality and morbidity rates and the rates at which policyholders
are expected to surrender their contracts, make withdrawals from their contracts
and make additional deposits to their contracts. Assumptions about interest
rates drive projected interest margins, while assumptions about rates credited
to policy holder accounts and equity market performance drive projected customer
asset value growth rates, and assumptions about surrenders, withdrawals and
deposits comprise projected persistency rates. Management must also make
assumptions to project
11
maintenance expenses associated with servicing its annuity and insurance
business during the DAC amortization period.
The customer asset value growth rate is the rate at which contract values are
assumed to appreciate in the future. The rate is net of asset fees and
anticipates a blend of equity and fixed income investments. Management reviews
and, where appropriate, adjusts its assumptions with respect to customer asset
value growth rates on a quarterly basis. American Enterprise Life uses a mean
reversion method as a monthly guideline in setting near-term customer asset
value growth rates based on a long-term view of financial market performance as
well as actual historical performance. In periods when market performance
results in actual contract value growth at a rate that is different than that
assumed, American Enterprise Life will reassess the near-term rate in order to
continue to project its best estimate of long-term growth. The near-term growth
rate is reviewed to ensure consistency with management's assessment of
anticipated equity market performance. Management is currently assuming a 7
percent long-term customer asset value growth rate. If American Enterprise Life
increased or decreased its assumption related to this growth rate by 100 basis
points, the impact on the DAC amortization would be a decrease or increase of
approximately $2 million pretax. Additionally, if American Enterprise Life
extended or reduced the amortization periods one year for variable annuities to
reflect changes in premium paying persistency and/or surrender assumptions, the
impact on DAC amortization expense would be a decrease or increase of
approximately $0.5 million. The amortization impact of extending or reducing the
amortization period any additional years is not linear.
The analysis of DAC balances and the corresponding amortization is a dynamic
process that considers all relevant factors and assumptions discussed above.
Unless management identifies a material deviation over the course of the
quarterly monitoring, management reviews and updates these DAC assumptions
annually in the third quarter of each year. An assessment of sensitivity
associated with changes in any single assumption would not necessarily be an
indicator of future results.
Liabilities for Future Policy Benefits
Fixed Annuities and Variable Annuity Guarantees
Liabilities for fixed and variable deferred annuities are equal to accumulation
values which are the cumulative gross deposits, credited interest and fund
performance less withdrawals and mortality and expense risk charges.
The majority of the variable annuity contracts offered by American Enterprise
Life contain guaranteed minimum death benefit (GMDB) provisions. When market
values of the customer's accounts decline, the death benefit payable on a
contract with a GMDB may exceed the contract accumulation value. American
Enterprise Life also offers variable annuities with death benefit provisions
that gross up the amount payable by a certain percentage of contract earnings;
these are referred to as gain gross-up (GGU) benefits. In addition, American
Enterprise Life offers contracts containing guaranteed minimum income benefit
(GMIB) and guaranteed minimum withdrawal benefit (GMWB) provisions.
Effective January 1, 2004, liabilities for these variable annuity death and GMIB
benefits have been established under SOP 03-1. Actuarial models to simulate
various equity market scenarios are used to project these benefits and contract
assessments and include making significant assumptions related to customer asset
value growth rates, mortality, persistency and investment margins. These
assumptions, as well as their periodic review by management, are consistent with
those used for DAC purposes. Prior to the adoption of SOP 03-1, amounts paid in
excess of contract value were expensed. See "Application of Recent Accounting
Standards" section in Note 1 to the Consolidated Financial Statements regarding
the impact of the adoption of SOP 03-1.
Liabilities for fixed annuities in a benefit or payout status are based on
future estimated payments using established industry mortality tables and
interest rates, ranging from 4.6% to 9.5% at December 31, 2004, depending on
year of issue, with an average rate of approximately 6.1% at December 31, 2004.
12
Variable Life Insurance
Liabilities for variable life insurance are equal to accumulation values which
are the cumulative gross premiums, credited interest, and fund performance less
withdrawals and mortality and expense risk charges.
Liquidity and Capital Resources
Capital Strategy
The liquidity requirements of American Enterprise Life are generally met by
funds provided by annuity sales, investment income, proceeds from sales of
investments as well as maturities and periodic repayments of investments capital
contributions from IDS Life. The primary uses of funds are annuity benefits,
commissions, other product-related acquisition and sales inducement costs,
operating expenses, policy loans, dividends to IDS Life and investment
purchases. American Enterprise Life routinely reviews its sources and uses of
funds in order to meet its ongoing obligations.
Funding Strategy
American Enterprise Life, on a consolidated basis, has available lines of credit
with AEFC aggregating $50 million. There were no line of credit borrowings
outstanding with AEFC at December 31, 2004 and 2003. At December 31, 2004
American Enterprise Life had no outstanding reverse repurchase agreements. At
December 31, 2003, American Enterprise Life had outstanding reverse repurchase
agreements totaling $67.5 million. Both the line of credit and the reverse
repurchase agreements are used strictly as short-term sources of funds.
American Enterprise Life's total assets and liabilities increased in 2004
primarily due to higher separate account assets and liabilities, which increased
as a result of market appreciation. Investments primarily include corporate debt
and mortgage and other asset-backed securities. American Enterprise Life's
corporate debt securities comprise a diverse portfolio with the largest
concentrations, accounting for approximately 65 percent of the portfolio, in the
following industries: banking and finance, utilities, and communications and
media. Investments also include $0.4 billion and $0.5 billion of mortgage loans
on real estate and other investments at December 31, 2004 and 2003,
respectively. Investments are principally funded by sales of annuities and by
reinvested income. Maturities of these investment securities are largely matched
with the expected future payments of annuity obligations.
Investments include $0.5 billion and $0.5 billion of below investment grade
securities (excluding net unrealized appreciation and depreciation) at December
31, 2004 and 2003, respectively. These investments represent 8 percent and 7
percent of American Enterprise Life's investment portfolio at December 31, 2004
and 2003, respectively.
Separate account assets represent funds held for the exclusive benefit of
variable annuity contractholders and variable life insurance policyholders.
These assets are generally carried at market value, and separate account
liabilities are equal to separate account assets. American Enterprise Life earns
fees from the related accounts.
Contractual Obligations
The contractual obligations identified in the table below include on balance
sheet transactions that represent material expected or contractually committed
future obligations of American Enterprise Life.
Payments due by year
- ---------------------------------------------------------------------------------------------------------------------------------
(Millions) Total 2005 2006- 2008- 2010 and
2007 2009 thereafter
- ---------------------------------------------------------------------------------------------------------------------------------
Annuities (1) $ 8,017 $ 730 $ 1,655 $ 1,618 $ 4,014
- ---------------------------------------------------------------------------------------------------------------------------------
Total $ 8,017 $ 730 $ 1,655 $ 1,618 $ 4,014
- ---------------------------------------------------------------------------------------------------------------------------------
(1) These scheduled payments are represented by reserves of $6.3 billion at
December 31, 2004 and are based on interest credited, mortality, morbidity,
lapse, surrender and premium payment assumptions. Actual payment obligations
may differ if experience varies from these assumptions. Separate account
liabilities have been excluded as associated contractual obligations would
be met by separate account assets.
13
Retained Interest in Assets Transferred to Unconsolidated Entities
During 2001, American Enterprise Life placed a majority of its rated CDO
securities and related accrued interest, as well as a relatively minor amount of
other liquid securities (collectively referred to as transferred assets), having
an aggregate book value of $53.6 million, into a securitization trust. In
return, American Enterprise Life received $7.1 million in cash (excluding
transaction expenses) relating to sales to unaffiliated investors and retained
interests in the trust with allocated book amounts aggregating $46.5 million. As
of December 31, 2004, the retained interests had a carrying value of $41.8
million, of which $31.0 million is considered investment grade. American
Enterprise Life has no obligations, contingent or otherwise, to such
unaffiliated investors. One of the results of this transaction is that increases
and decreases in future cash flows of the individual CDOs are combined into one
overall cash flow for purposes of determining the carrying value of the retained
interests and related impact on results of operations.
Contingent Liquidity Planning
AEFC has developed a contingent funding plan that enables American Enterprise
Life to meet daily customer obligations during periods in which its customers
elect to withdraw funds from their annuity contracts. This plan is designed to
ensure that American Enterprise Life could meet these customer withdrawals by
selling or obtaining financing, through reverse repurchase agreements, of
portions of its investment securities portfolio.
Risk Management
American Enterprise Life through its Board of Directors' investment committees
or staff functions, review models projecting different interest rate scenarios,
risk/return measures, and their effect on profitability. They also review the
distribution of assets in the portfolio by type and credit risk sector. The
objective is to structure the investments security portfolio based upon the type
and expected behavior or products in the liability portfolio to meet contractual
obligations and achieve targeted levels of profitability within defined risk
parameters.
American Enterprise Life has developed an asset/liability management approach
with separate investment objectives to support specific product liabilities,
such as insurance and annuity. As part of this approach, American Enterprise
Life develops specific investment guidelines outlining the minimum required
investment return and liquidity requirements to support future benefit payments
under its insurance and annuity obligations. These same objectives must be
consistent with management's overall investment objectives for the general
account investment portfolio.
American Enterprise Life's owned investment securities are primarily invested in
long-term and intermediate-term fixed maturity securities to provide clients
with a competitive rate of return on their investments while controlling risk.
Investment in fixed maturity securities is designed to provide American
Enterprise Life with a targeted margin between the yield earned on investments
and the interest rate credited to clients' accounts. American Enterprise Life
does not trade in securities to generate short-term profits for its own account.
As part of American Enterprise Life's investment process, management, with the
assistance of its investment advisors, conducts a quarterly review of investment
performance. The review process conducted by American Enterprise Life's
Investment Committee involves the review of certain invested assets which the
committee evaluates to determine whether or not any investments are other than
temporarily impaired and/or which specific interest earning investments should
be put on an interest non-accrual basis.
Interest Rate Risk
At American Enterprise Life, interest rate exposures arise primarily within the
fixed account portion of its annuity products. Rates credited to customers'
accounts generally reset at shorter intervals than the yield on underlying
investments. Therefore, American Enterprise Life's interest spread margins are
affected by changes in the general level of interest rates. The extent to which
the level of interest rates affects spread margins is managed primarily by a
combination of modifying the maturity structure of the investment portfolio and
entering into swaps or other derivative instruments that effectively lengthen
the rate reset interval on customer liabilities. American Enterprise Life has
entered into interest rate swaps and floors with notional amounts totaling $2
billion economically hedge the
14
impact of increasing interest rates on forecasted fixed annuity sales. The
interest rate swaps and floors are exclusively held with IDS Life.
The negative effect on American Enterprise Life's pretax earnings of a 100 basis
point increase in interest rates, which assumes repricings and customer behavior
based on the application of proprietary models, to the book as of December 31,
2004 and December 31, 2003 would be approximately $0.8 million and $3.6 million,
respectively.
Equity Market Risk
American Enterprise Life has an exposure to the general level of equity markets
due to the fact that American Enterprise Life earns fees from variable annuity
and variable life insurance products. The amount of such fees is generally based
on the value of the portfolios, and thus is subject to fluctuation with the
general level of equity market values. To reduce the sensitivity of American
Enterprise Life's fee revenues to the general performance of equity markets,
American Enterprise Life has from time to time entered into various combinations
of financial instruments that mitigate the negative effect on fees that would
result from a decline in the equity markets.
The negative effect on American Enterprise Life's pretax earnings of a 10
percent decline in equity markets would be approximately $2.6 million and $1.5
million based on annuity business inforce as of December 31, 2004 and 2003,
respectively.
Impact of Market-Volatility on Results of Operations
As discussed above, various aspects of American Enterprise Life's business are
impacted by equity market levels and other market-based events. Several areas in
particular involve DAC and deferred sales inducements, recognition of guaranteed
minimum death benefits (GMDB) and certain other variable annuity benefits,
mortality and expense risk and other fees and structured investments. The
direction and magnitude of the changes in equity markets can increase or
decrease amortization of DAC and deferred sales inducement benefits, incurred
amounts under GMDB and other variable annuity benefit provisions and mortality
and expense risk and other fees and correspondingly affect results of operations
in any particular period. Similarly, the value of American Enterprise Life's
structured investment portfolios is impacted by various market factors.
Persistency of, or increases in, bond and loan default rates, among other
factors, could result in negative adjustments to the market values of these
investments in the future, which would adversely impact results of operations.
Forward-Looking Statements
This report includes forward-looking statements, which are subject to risks and
uncertainties. The words "believe," "expect," "anticipate," "optimistic,"
"intend," "plan," "aim," "will," "may," "should," "could," "would," "likely,"
and similar expressions are intended to identify forward-looking statements.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date on which they are made. American
Enterprise Life undertakes no obligation to update or revise any forward-looking
statements. Factors that could cause actual results to differ materially from
these forward-looking statements include, but are not limited to: fluctuation in
the equity and fixed income markets, which can affect the amount and types of
investment products sold by American Enterprise Life, and other fees received
based on the value of those assets; American Enterprise Life's ability to
recover Deferred Policy Acquisition Costs (DAC), as well as the timing of such
DAC amortization, in connection with the sale of annuity products; changes in
assumptions relating to DAC, which could impact the amount of DAC amortization;
the ability to improve investment performance in American Enterprise Life's
businesses, including attracting and retaining high-quality personnel; the
success, timeliness and financial impact, including costs, cost savings and
other benefits including increased revenues, of reengineering initiatives being
implemented or considered by American Enterprise Life, including cost
management, structural and strategic measures such as vendor, process,
facilities and operations consolidation, outsourcing (including, among others,
technologies operations), relocating certain functions to lower-cost overseas
locations, moving internal and external functions to the Internet to save costs,
and planned staff reductions relating to certain of such reengineering actions;
the ability to control and manage operating, infrastructure, advertising and
promotion and other expenses as business expands or changes, including balancing
the need for longer-term investment spending; the potential negative effect on
American Enterprise Life's businesses and infrastructure, including information
technology, of terrorist attacks,
15
disasters or other catastrophic events in the future; American Enterprise Life's
ability to develop and roll out new and attractive products to clients in a
timely manner; successfully cross-selling annuity products and services to
AEFC's customer base; fluctuations in interest rates, which impacts American
Enterprise Life's spreads in the insurance and annuity businesses; credit trends
and the rate of bankruptcies which can affect returns on American Enterprise
Life's investment portfolios; lower than anticipated spreads in the insurance
and annuity business; the types and the value of certain death benefit features
on variable annuity contracts; the affect of assessments and other surcharges
for guaranty funds; the response of reinsurance companies under reinsurance
contracts; the impact of reinsurance rates and the availability and adequacy of
reinsurance to protect American Enterprise Life against losses; negative changes
in American Enterprise Life's credit ratings; increasing competition in all
American Enterprise Life's annuity business, which could affect both American
Enterprise Life's financial condition and results of operations; changes in laws
or government regulations; outcomes associated with litigation and compliance
and regulatory matters.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Items required under this section are included in the management's discussion
and analysis of financial condition and results of operations under the section
risk management.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
1. Financial Statements.
See Index to Financial Statements at page F-1 hereof.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not Applicable.
ITEM 9A. CONTROLS AND PROCEDURES
(a) Disclosure Controls and Procedures.
American Enterprise Life's management, with the participation of American
Enterprise Life's Chief Executive Officer and Chief Financial Officer, has
evaluated the effectiveness of American Enterprise Life's disclosure controls
and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under
the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of the
end of the period covered by this report. Based on such evaluation, American
Enterprise Life's Chief Executive Officer and Chief Financial Officer have
concluded that, as of the end of such period, American Enterprise Life's
disclosure controls and procedures are effective. There have not been any
changes in American Enterprise Life's internal control over financial reporting
(as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange
Act) during American Enterprise Life's fourth fiscal quarter that have
materially affected, or are reasonably likely to materially affect, American
Enterprise Life's internal control over financial reporting.
16
PART III
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The Audit Committee of the Board of Directors of American Express Company has
appointed Ernst & Young LLP (Ernst & Young) as independent auditors to audit the
Consolidated Financial Statements of American Enterprise Life for the years
ended December 31, 2004 and 2005.
Fees Paid to the Registrant's Independent Auditor
The following table presents fees for professional services rendered by Ernst &
Young, LLP for the audit of American Enterprise Life's financial statements for
the years ended December 31, 2004 and 2003 and other fees billed for other
services rendered by Ernst & Young, LLP during those periods.
(Thousands) 2004 2003
- --------------------------------------------------------------------------------
Audit (1) $ 509 $ 714
Tax (2) - -
All Other (3) - -
- --------------------------------------------------------------------------------
Total $ 509 $ 714
================================================================================
(1) Audit fees include audit work performed in the review and preparation of
the financial statements, as well as, services that generally only the
independent auditor can be expected to provide, such as comfort letters,
statutory audits, attest services, consents and assistance with and review
of documents filed with the Securities and Exchange Commission.
(2) Tax fees included all services performed by the independent auditor's tax
personnel.
(3) All other fees included miscellaneous out-of-pocket expenses.
Policy on Pre-Approval of Services Provided by Independent Auditor
Pursuant to the requirements of the Sarbanes-Oxley Act of 2002, the terms of the
engagement of Ernst & Young are subject to the specific pre-approval of the
Audit Committee of American Express Company. All audit and permitted non-audit
services to be performed by Ernst & Young for American Enterprise Life required
pre-approval by the Audit Committee of American Express Company in accordance
with pre-approval procedures established by the Audit Committee of American
Express Company. The procedures require all proposed engagements of Ernst &
Young for services to American Enterprise Life of any kind to be directed to the
General Auditor of American Express Company and then submitted for approval to
the Audit Committee of American Express Company prior to the beginning of any
services.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) Financial Statements
See Index to Financial Statements and Financial Statement Schedules on
page F-1 hereof.
(2) Financial Statement Schedules
See Index to Financial Statements and Financial Statement Schedules on
page F-1 hereof.
All information on schedules to the Consolidated Financial Statements
required by Rule 7-05 in Article 7 of Regulation S-X is included in the
Consolidated Financial Statements or is not required. Therefore, all
schedules have been omitted.
(3) Exhibits
17
See Exhibit Index on pages E-1 through E-4 hereof.
(b) Reports on Form 8-K filed.
Form 8-K, filed November 24, 2004 (as amended by form 8-K/A
filed on December 9, 2004), items 4.01 and 9.01, reporting on
American Enterprise Life Insurance Company's decision to
dismiss the firm of Ernst & Young LLP as American Enterprise
Life Insurance Company's independent registered public
accountants and approve the future engagement of
PricewaterhouseCoopers LLP as American Enterprise Life
Insurance Company's independent registered public accountants
for the fiscal year ending December 31, 2005.
In addition, American Enterprise Life Insurance Company filed
a Form 8-K on February 24, 2005, item 4.01, reporting on the
American Express Company's spin-off of AEFC. In view of the
spin-off, the Audit Committee of the Board of Directors of
American Express Company determined to hire Ernst & Young LLP
to be the independent registered public accountants for AEFC
and its subsidiaries, including American Enterprise Life
Insurance Company, for the 2005 audit.
..
18
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
Registrant
March 14, 2005 By /s/ Mark E. Schwarzmann
- -------------- ------------------------
Date Mark E. Schwarzmann, Director,
Chairman of the Board and Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been duly signed below by the following persons on behalf of the registrant
and in the capacities and on the dates indicated.
March 14, 2005 By /s/ Gumer C. Alvero
- -------------- ---------------------------------
Date Gumer C. Alvero, Director and
President
March 14, 2005 By /s/ Timothy V. Bechtold
- -------------- ---------------------------------
Date Timothy V. Bechtold, Director
March 14, 2005 By /s/ Arthur H. Berman
- -------------- ----------------------------------
Date Arthur H. Berman, Director and
Executive Vice President -
Finance and Chief Financial Officer
March 14, 2005 By /s/ David K. Stewart
- -------------- ----------------------------------
Date David K. Stewart, Vice President
and Controller
March 14, 2005 By /s/ Roger Natarajan
- -------------- ----------------------------------
Date Roger Natarajan, Director
March 14, 2005 By /s/ Mark E. Schwarzmann
- -------------- ----------------------------------
Date Mark E. Schwarzmann, Director,
Chairman of the Board and Chief
Executive Officer
19
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
INDEX TO FINANCIAL STATEMENTS
COVERED BY REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
(Item 14 (a))
Page Number
Consolidated Financial Statements:
Report of Management F-2
Report of Independent Registered Public Accounting Firm F-3
Consolidated Balance Sheets at December 31, 2004 and 2003 F-4 to F-5
Consolidated Statements of Income for each of the three
years ended December 31, 2004, 2003 and 2002 F-6
Consolidated Statements of Cash Flows for each of the three
years ended December 31, 2004, 2003 and 2002 F-7 to F-8
Consolidated Statements of Stockholder's Equity for each of
the three years ended December 31, 2004, 2003 and 2002 F-9 to F-11
Notes to Consolidated Financial Statements F-12 to F-31
Schedules:
All information on schedules to the Consolidated Financial Statements required
by Rule 7-05 in Article 7 of Regulation S-X is included in the Consolidated
Financial Statements and notes thereto or is not required. Therefore, all
schedules have been omitted.
F-1
Report of Management
The management of American Enterprise Life Insurance Company is responsible for
the preparation and fair presentation of its Consolidated Financial Statements,
which have been prepared in conformity with U.S. generally accepted accounting
principles, and include amounts based on the best judgment of management.
American Enterprise Life Insurance Company's management is also responsible for
the accuracy and consistency of other financial information included in this
annual report.
In recognition of its responsibility for the integrity and objectivity of data
in the financial statements, American Enterprise Life Insurance Company
maintains a system of internal control over financial reporting which is
designed to provide reasonable, but not absolute, assurance with respect to the
reliability of American Enterprise Life Insurance Company's financial
statements. The concept of reasonable assurance is based on the notion that the
cost of the internal control system should not exceed the benefits derived.
The internal control system is founded on an ethical climate and includes: (i)
an organizational structure with clearly defined lines of responsibility,
policies and procedures; (ii) a Code of Conduct; and (iii) a careful selection
and training of employees. Internal auditors monitor and assess the
effectiveness of the internal control system and report their findings to
management and the Board of Directors throughout the year. American Enterprise
Life Insurance Company's independent auditors are engaged to express an opinion
on the year-end financial statements and, with the coordinated support of the
internal auditors, review the financial records and related data and test the
internal control system over financial reporting to the extent they believed
necessary to support their report.
F-2
Report of Independent Registered Public Accounting Firm
The Board of Directors
American Enterprise Life Insurance Company
We have audited the accompanying consolidated balance sheets of American
Enterprise Life Insurance Company (a wholly owned subsidiary of American Express
Financial Corporation) as of December 31, 2004 and 2003, and the related
consolidated statements of income, stockholder's equity and cash flows for each
of the three years in the period ended December 31, 2004. These financial
statements are the responsibility of American Enterprise Life Insurance
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not
for the purpose of expressing an opinion on the effectiveness of the Company's
internal control over financial reporting. Accordingly, we express no such
opinion. An audit also includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of American Enterprise Life
Insurance Company as of December 31, 2004 and 2003, and the results of its
operations and its cash flows for each of the years in the period ended December
31, 2004, in conformity with U.S. generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, in 2004
American Enterprise Life Insurance Company adopted the provision of the American
Institute of Certified Public Accountants Statement of Position 03-1,
"Accounting and Reporting by Insurance Enterprises for Certain Nontraditional
Long-Duration Contracts and for Separate Accounts."
/s/ Ernst & Young LLP
Minneapolis, Minnesota
February 18, 2005
F-3
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED BALANCE SHEETS
December 31,
(Thousands, except share data)
2004 2003
--------------------- --------------------
ASSETS
Investments: (Note 2)
Available-for-Sale:
Fixed maturities, at fair value (amortized cost: 2004, $6,257,483;
2003, $6,539,561) $ 6,368,833 $ 6,644,721
Preferred and common stocks, at fair value (cost: 2004, $6,000;
2003, $6,000) 6,246 6,191
Mortgage loans on real estate, at cost (less reserves: 2004, $6,862;
2003, $7,362) 420,899 534,812
Other investments 2,150 6,069
--------------------- --------------------
Total investments 6,798,128 7,191,793
Cash and cash equivalents 47,356 9,065
Amounts due from brokers 71 161
Other accounts receivable 4,299 3,572
Accrued investment income 67,655 70,591
Deferred policy acquisition costs (Note 3) 299,708 296,722
Deferred sales inducement costs (Note 4) 49,822 49,244
Other assets 3,530 6,335
Separate account assets 1,878,620 1,108,160
--------------------- --------------------
Total assets $ 9,149,189 $ 8,735,643
===================== ====================
See Notes to Consolidated Financial Statements.
F-4
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED BALANCE SHEETS (continued)
December 31,
(Thousands, except share data)
2004 2003
--------------------- ------------------
LIABILITIES AND STOCKHOLDER'S EQUITY
Liabilities:
Future policy benefits:
Fixed annuities $ 6,325,427 $ 6,645,315
Variable annuity guarantees (Note 4) 5,505 -
Policy claims and other policyholders' funds 4,150 3,100
Amounts due to brokers 6,962 75,070
Deferred income taxes, net 34,984 11,618
Other liabilities 41,826 68,701
Separate account liabilities 1,878,620 1,108,160
--------------------- ------------------
Total liabilities 8,297,474 7,911,964
--------------------- ------------------
Commitments and contingencies
Stockholder's equity:
Capital stock, $150 par value;
100,000 shares authorized, 20,000 shares issued and outstanding 3,000 3,000
Additional paid-in capital 591,872 591,872
Retained earnings 199,175 177,545
Accumulated other comprehensive income, net of tax:
Net unrealized securities gains 62,082 60,078
Net unrealized derivative losses (4,414) (8,816)
--------------------- ------------------
Total accumulated other comprehensive income 57,668 51,262
--------------------- ------------------
Total stockholder's equity 851,715 823,679
--------------------- ------------------
Total liabilities and stockholder's equity $ 9,149,189 $ 8,735,643
===================== ==================
See Notes to Consolidated Financial Statements.
F-5
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31,
(Thousands)
2004 2003 2002
------------------- ------------------ ------------------
Revenues
Net investment income $ 376,487 $ 372,194 $ 292,067
Contractholder charges 11,211 7,528 6,505
Mortality and expense risk and other fees 24,801 13,749 12,452
Net realized gain on investments 5,193 25,105 3
------------------- ------------------ ------------------
Total 417,692 418,576 311,027
------------------- ------------------ ------------------
Benefits and expenses
Death and other benefits for investment contracts 15,438 6,342 8,970
Interest credited on investment contracts 226,033 262,399 217,545
Amortization of deferred policy acquisition costs 60,836 38,392 44,228
Other insurance and operating expenses 72,185 54,739 92,461
------------------- ------------------ ------------------
Total 374,492 361,872 363,204
------------------- ------------------ ------------------
Income (loss) before income tax provision (benefit)
and accounting change 43,200 56,704 (52,177)
Income tax provision (benefit) 18,008 19,075 (18,487)
------------------- ------------------ ------------------
Income (loss) before accounting change 25,192 37,629 (33,690)
Cumulative effect of accounting change, net of tax
benefit (Note 1) (3,562) - -
------------------- ------------------ ------------------
Net income (loss) $ 21,630 $ 37,629 $ (33,690)
=================== ================== ==================
See Notes to Consolidated Financial Statements.
F-6
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31,
(Thousands)
2004 2003 2002
---------------- ----------------- -----------------
Cash flows from operating activities
Net income (loss) $ 21,630 $ 37,629 $ (33,690)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Change in other accounts receivable (727) (1,988) 228
Change in accrued investment income 2,936 (14,143) (11,026)
Change in deferred policy acquisition costs, net (5,027) (60,608) (60,120)
Change in policy claims and other policyholder's funds 1,050 (5,950) 6,764
Deferred income tax provision (benefit) 21,835 15,420 (3,725)
Change in other assets and liabilities, net (18,785) (16,338) 16,173
Amortization of premium (accretion of discount), net 26,459 23,699 167
Net realized gain on investments (5,193) (25,105) (3)
Cumulative effect of accounting change, net of tax benefit
(Note 1) 3,562 - -
---------------- ----------------- -----------------
Net cash provided by (used in) operating activities $ 47,740 $ (47,384) $ (85,232)
---------------- ----------------- -----------------
See Notes to Consolidated Financial Statements.
F-7
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Years ended December 31,
(Thousands)
2004 2003 2002
------------------- -------------------- --------------------
Cash flows from investing activities
Available-for-Sale securities:
Sales $ 341,077 $ 3,365,402 $ 1,092,923
Maturities, sinking fund payments and calls 400,057 875,785 500,348
Purchases (480,031) (5,678,854) (3,409,718)
Other investments:
Sales, maturities, sinking fund payments and calls 126,676 72,281 64,988
Purchases (9,338) (25,287) (4,391)
Change in amounts due to and from brokers, net (68,018) (910,172) 801,659
------------------- -------------------- --------------------
Net cash provided by (used in) investing
activities 310,423 (2,300,845) (954,191)
------------------- -------------------- --------------------
Cash flows from financing activities
Activities related to investment contracts:
Considerations received 202,999 1,733,030 2,052,002
Interest credited to account values 226,033 262,399 217,545
Surrenders and other benefits (748,904) (756,827) (621,646)
Capital contribution - - 250,000
------------------- -------------------- --------------------
Net cash (used in) provided by financing
activities (319,872) 1,238,602 1,897,901
------------------- -------------------- --------------------
Net increase (decrease) in cash and cash equivalents 38,291 (1,109,627) 858,478
Cash and cash equivalents at beginning of year 9,065 1,118,692 260,214
------------------- -------------------- --------------------
Cash and cash equivalents at end of year $ 47,356 $ 9,065 $ 1,118,692
=================== ==================== ====================
Supplemental disclosures:
Income taxes (refunded) paid $ (6,812) $ 3,266 $ 12,761
Interest on borrowings $ 378 $ 373 $ -
See Notes to Consolidated Financial Statements.
F-8
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
For the three years ended December 31, 2004
(Thousands)
Accumulated
Other
Additional Comprehensive Total
Capital Paid-in Income (Loss), Retained Stockholder's
Stock Capital Net of Tax Earnings Equity
- ------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2001 $ 3,000 $ 341,872 $ (8,649) $ 173,606 $ 509,829
Comprehensive income:
Net loss (33,690) (33,690)
Net unrealized holding gains on
Available-for-Sale securities
arising during the year, net of
deferred policy acquisition costs
of ($23,026) and income tax
provision of ($51,599) 95,827 95,827
Reclassification adjustment for gains
on Available-for-Sale
securities included in net loss,
net of income tax provision of
($2,471) (4,589) (4,589)
Reclassification adjustment for
losses on derivatives included in
net income, net of income tax
benefit of $4,542 8,436 8,436
-------------
Total comprehensive income 65,984
Capital contribution 250,000 250,000
- ------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2002 $ 3,000 $ 591,872 $ 91,025 $ 139,916 $ 825,813
==============================================================================================================================
See Notes to Consolidated Financial Statements.
F-9
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY (continued)
For the three years ended December 31, 2004
(Thousands)
Accumulated
Other
Additional Comprehensive Total
Capital Paid-in Income (Loss), Retained Stockholder's
Stock Capital Net of Tax Earnings Equity
- -----------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2002 $ 3,000 $ 591,872 $ 91,025 $ 139,916 $ 825,813
Comprehensive income:
Net income 37,629 37,629
Net unrealized holding losses on
Available-for-Sale securities
arising during the year, net of
deferred policy acquisition costs
of $10,104 and income tax
benefit of $14,632 (27,174) (27,174)
Reclassification adjustment for
gains on Available-for-Sale
securities included in net
income, net of income tax
provision of ($9,157) (17,006) (17,006)
Reclassification adjustment for
losses on derivatives included
in net income, net of income
tax benefit of $2,378 4,417 4,417
-------------
Total comprehensive loss (2,134)
- -----------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2003 $ 3,000 $ 591,872 $ 51,262 $ 177,545 $ 823,679
=============================================================================================================================
See Notes to Consolidated Financial Statements.
F-10
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY (continued)
For the three years ended December 31, 2004
(Thousands)
Accumulated
Other
Additional Comprehensive Total
Capital Paid-in Income (Loss), Retained Stockholder's
Stock Capital Net of Tax Earnings Equity
- ------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2003 $ 3,000 $ 591,872 $ 51,262 $ 177,545 $ 823,679
Comprehensive income:
Net income 21,630 21,630
Net unrealized holding losses on
Available-for-Sale securities
arising during the year, net of
deferred policy acquisition
costs of ($838), deferred sales
inducement costs of ($2,325)
and income tax provision of
($2,998) 5,569 5,569
Reclassification adjustment for
gains on Available-for-Sale
securities included in net
income, net of income tax
provision of ($1,920) (3,565) (3,565)
Reclassification adjustment for
losses on derivatives included
in net income, net of income
tax benefit of $2,370 4,402 4,402
-------------
Total comprehensive income 28,036
- -----------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2004 $ 3,000 $ 591,872 $ 57,668 $ 199,175 $ 851,715
=============================================================================================================================
See Notes to Consolidated Financial Statements.
F-11
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of significant accounting policies
Nature of business
American Enterprise Life Insurance Company is a stock life insurance
company organized under the laws of the State of Indiana. American
Enterprise Life Insurance Company is a wholly owned subsidiary of IDS Life
Insurance Company (IDS Life), a Minnesota Corporation. IDS Life is a wholly
owned subsidiary of American Express Financial Corporation (AEFC). AEFC is
a wholly-owned subsidiary of American Express Company. American Enterprise
Life Insurance Company provides financial institution clients American
Express branded financial products and wholesaling services to support its
retail insurance and annuity operations. American Enterprise Life
underwrites fixed and variable annuity contracts primarily through regional
and national financial institutions and regional and/or independent
broker-dealers, in all states except New York and New Hampshire. Effective
in December 2004, American Enterprise Life Insurance Company received a
Certificate of Authority to transact business in the State of New
Hampshire. American Enterprise Life Insurance Company also owns American
Enterprise REO 1, LLC which holds real estate investments. American
Enterprise Life Insurance Company and its subsidiary are referred to
collectively as "American Enterprise Life" in these Consolidated Financial
Statements and notes thereto.
American Enterprise Life's principal products are deferred annuities which
are issued primarily to individuals. It offers single premium and flexible
premium deferred annuities on both a fixed and variable dollar basis.
American Enterprise Life's fixed deferred annuities guarantee a relatively
low annual interest rate during the accumulation period (the time before
annuity payments begin). However, American Enterprise Life has the option
of paying a higher rate set at its discretion. In addition, persons owning
one type of annuity may have their interest calculated based on any
increase in a broad-based stock market index.
Under American Enterprise Life's fixed and variable annuity products
described above, the purchaser may choose among investment options that
include American Enterprise Life's "general account" as well as from a
variety of portfolios including common stocks, bonds, managed assets and/or
short-term securities.
Basis of presentation
The accompanying Consolidated Financial Statements include the accounts of
American Enterprise Life and its wholly owned subsidiary. All significant
intercompany accounts and transactions have been eliminated in
consolidation.
The accompanying Consolidated Financial Statements have been prepared in
conformity with U.S. generally accepted accounting principles (GAAP) which
vary in certain respects from reporting practices prescribed or permitted
by the Indiana Department of Insurance as included in Note 6. Certain prior
year amounts have been reclassified to conform to the current year's
presentation.
The preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and 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.
F-12
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Principles of Consolidation
American Enterprise Life consolidates all entities, in which it holds a
greater than 50 percent voting interest. Entities in which American
Enterprise Life holds a greater than 20 percent but less than 50 percent
voting interest are accounted for under the equity method. All other
investments are accounted for under the cost method unless American
Enterprise Life determines that it exercises significant influence over the
entity by means other than voting rights, in which case, these entities are
either accounted for under the equity method or are consolidated, as
appropriate.
Qualifying Special Purpose Entities (QSPEs) under Statement of Financial
Accounting Standards (SFAS) No. 140, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities," are not
consolidated. Such QSPEs include a securitization trust containing American
Enterprise Life's collateralized debt obligations (CDOs) described in Note
2.
Revenues
Net investment income
Net investment income predominantly consists of interest income earned on
fixed maturity securities classified as Available-for-Sale, mortgage loans
on real estate and other investments. Interest income is accrued as earned
using the effective interest method, which makes an adjustment of the yield
for security premiums and discounts on all performing fixed maturity
securities classified as Available-for-Sale, excluding structured
securities, and mortgage loans on real estate so that the related security
or loan recognizes a constant rate of return on the outstanding balance
throughout its term. Interest income on structured securities is recognized
according to Emerging Issues Task Force (EITF) Issue No. 99-20,
"Recognition of Interest Income and Impairment on Purchased and Retained
Beneficial Interests in Securitized Financial Assets."
Contractholder charges
Contractholder charges include administrative charges and surrender charges
on annuities and are recognized as revenue when collected.
Mortality and expense risk and other fees
Mortality and expense risk and other fees include risk fees and
administration fees, which are generated directly and indirectly from
American Enterprise Life's separate account assets. American Enterprise
Life's mortality and expense risk and other fees are generally computed as
a contractual rate generally based on the underlying asset values and are
generally received monthly.
Net realized gain (loss) on investments
Realized gains and losses are recognized using the specific identification
method, on a trade date basis, and charges are recorded when securities are
determined to be other-than-temporarily impaired.
F-13
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Balance Sheet
Investments
Available for sale fixed maturity and equity securities
Available-for-Sale investment securities are carried at fair value on the
balance sheet with unrealized gains (losses) recorded in other accumulated
comprehensive income (loss) within equity, net of income tax provisions
(benefits) and net of adjustments in asset balances, such as deferred
policy acquisition costs (DAC), to reflect the expected impact on their
carrying values had the unrealized gains (losses) been realized
immediately. Gains and losses are recognized in results of operations upon
disposition of the securities. In addition, losses are also recognized when
management determines that a decline in value is other-than-temporary,
which requires judgment regarding the amount and timing of recovery.
Indicators of other-than-temporary impairment for debt securities include
significant issuer downgrade, default or bankruptcy. American Enterprise
Life also considers the extent to which cost exceeds fair value, the
duration and size of that gap, and management's judgment about the issuer's
current and prospective financial condition. Other than temporary
impairment charges are recorded in net realized gains (losses) on
investments within the Consolidated Statements of Income. Fair value is
generally based on quoted market prices. However, American Enterprise
Life's investment portfolio also contains structured investments of various
asset quality, including collateralized debt obligations (CDOs) (backed by
high-yield bonds), which are not readily marketable. As a result, the
carrying values of these structured investments are based on future cash
flow projections that require a significant degree of management judgment
as to the amount and timing of cash payments, defaults and recovery rates
of the underlying investments and, as such, are subject to change.
Mortgage loans on real estate
Mortgage loans on real estate reflect principal amounts outstanding less
reserves for losses. The estimated fair value of the mortgage loans is
determined by discounted cash flow analyses using mortgage interest rates
currently offered for mortgages of similar maturities.
The reserve for losses is measured as the excess of the loan's recorded
investment over its present value of expected principal and interest
payments discounted at the loan's effective interest rate or the fair value
of collateral. Additionally, the level of the reserve for losses considers
other factors, including historical experience and current economic and
political conditions. Management regularly evaluates the adequacy of the
reserve for mortgage loan losses and believes it is adequate to absorb
estimated losses in the portfolio.
American Enterprise Life generally stops accruing interest on mortgage
loans for which interest payments are delinquent more than three months.
Based on management's judgment as to the ultimate collectibility of
principal, interest payments received are either recognized as income or
applied to the recorded investment in the loan.
Other investments
Other investments principally include real estate, which is carried at
amortized costs, which approximates estimated fair values.
Cash and cash equivalents
American Enterprise Life has defined cash equivalents to include other
highly liquid investments with original maturities of 90 days or less.
F-14
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Deferred policy acquisition costs
Deferred policy acquisition costs (DAC) represent the costs of acquiring
new annuity business, principally direct sales commissions and other
distribution and underwriting costs that have been deferred on the sale of
annuity products. These costs are deferred to the extent they are
recoverable from future profits. DAC for certain annuities are amortized as
a percentage of estimated gross profits or as a portion of product interest
margins depending on the products characteristics.
For American Enterprise Life's annuity products, the DAC balances at any
reporting date are supported by projections that show management expects
there to be adequate estimated gross profits or interest margins after that
date to amortize the remaining DAC balances. These projections are
inherently uncertain because they require management to make assumptions
about financial markets, anticipated mortality and morbidity levels, and
policyholder behavior over periods extending well into the future.
Projection periods used for American Enterprise Life's annuity business are
typically 10 to 25 years. Management regularly monitors financial market
conditions and actual policyholder behavior experience and compares them to
its assumptions. For annuity products, the assumptions made in projecting
future results and calculating the DAC balance and DAC amortization expense
are management's best estimates. Management is required to update these
assumptions whenever it appears that, based on actual experience or other
evidence, earlier estimates should be revised. When assumptions are
changed, the percentage of estimated gross profits or portion of interest
margins used to amortize DAC might also change. A change in the required
amortization percentage is applied retrospectively; an increase in
amortization percentage will result in a decrease in DAC balance and an
increase in DAC amortization expense while a decrease in amortization
percentage will result in an increase in DAC balance and a decrease in DAC
amortization expense. The impact on results of operations of changing
assumptions can be either positive or negative in any particular period and
is reflected in the period in which such changes are made.
Deferred sales inducement costs
Sales inducement costs consist of bonus interest credits and deposit
credits added to certain annuity contract values. These benefits are
capitalized to the extent they are incremental to amounts that would be
credited on similar contracts without the applicable feature. These costs
were previously included in DAC and were reclassified as part of the
adoption of the American Institute of Certified Public Accountants
Statement of Position 03-1, "Accounting and Reporting by Insurance
Enterprises for Certain Nontraditional Long-Duration Contracts and for
Separate Accounts" (SOP 03-1). The amounts capitalized are amortized using
the same methodology and assumptions used to amortize DAC.
Separate account assets and liabilities
Separate account assets and liabilities are funds held for exclusive
benefit of variable annuity contractholders. American Enterprise Life
receives fund administrative fees, mortality and expense risk fees, and
minimum death benefit guarantee fees from the related accounts. American
Enterprise Life's major source of revenue from variable annuities it sells
are mortality and expense risk and other fees. In the fourth quarter of
2003, AEFC replaced IDS Life Insurance Company as the investment manager
and assumed these duties for the mutual funds and retained IDS Life and its
non-New York subsidiaries to provide underlying administrative services.
Concurrent with the investment manager change, American Enterprise Life
entered into an agreement with AEFC to receive fees for the services, other
than investment management, that American Enterprise Life continues to
provide the underlying proprietary mutual funds. American Enterprise Life's
administrative service fees will vary with the market values of these
proprietary mutual funds.
F-15
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
American Enterprise Life provides contractual mortality assurances to
variable annuity contractholders that the net assets of separate accounts
will not be affected by future variations in the actual life expectancy
experience of the annuitants and beneficiaries from the mortality
assumptions implicit in the annuity contracts. American Enterprise Life
makes periodic fund transfers to, or withdrawals from, the separate account
assets for such actuarial adjustments for variable annuities that are in
the benefit payment period. American Enterprise Life also guarantees that
the rates at which administrative charges are deducted from contract funds
will not exceed contractual maximums.
Derivative financial instruments and hedging activities
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities", as amended, (SFAS 133) establishes accounting and reporting
requirements for derivative financial instruments, including hedging
activities. SFAS 133 requires that all derivatives are recognized on
balance sheet at fair value as either assets or liabilities in American
Enterprise Life's Consolidated Balance Sheets. The fair value of American
Enterprise Life's derivative financial instruments are determined using
either market quotes or valuation models that are based upon the net
present value of estimated future cash flows and incorporate current market
data inputs. American Enterprise Life reports its derivative assets and
liabilities in other assets and other liabilities, respectively. The
accounting for the change in the fair value of a derivative instrument
depends on its intended use and the resulting hedge designation, if any.
American Enterprise Life may, from time to time, have economic hedges that
either do not qualify or are not designated for hedge accounting treatment
under SFAS 133.
Liabilities for future policy benefits
Fixed annuities and variable annuity guarantees
Liabilities for fixed and variable deferred annuities are equal to
accumulation values which are the cumulative gross deposits, credited
interest and fund performance less withdrawals and mortality and expense
risk charges.
The majority of the variable annuity contracts offered by American
Enterprise Life contain guaranteed minimum death benefit (GMDB) provisions.
When market values of the customer's accounts decline, the death benefit
payable on a contract with a GMDB may exceed the contract accumulation
value. American Enterprise Life also offers variable annuities with death
benefit provisions that gross up the amount payable by a certain percentage
of contract earnings; these are referred to as gain gross-up (GGU)
benefits. In addition, American Enterprise Life offers contracts containing
guaranteed minimum income benefit (GMIB) and guaranteed minimum withdrawal
benefit (GMWB) provisions.
Effective January 1, 2004, liabilities for these variable annuity death and
GMIB benefits have been established under the American Institute of
Certified Public Accountants Statement of Position 03-1, "Accounting and
Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration
Contracts and for Separate Accounts" (SOP 03-1). Actuarial models to
simulate various equity market scenarios are used to project these benefits
and contract assessments and include making significant assumptions related
to customer asset value growth rates, mortality, persistency and investment
margins. These assumptions, as well as their periodic review by management,
are consistent with those used for DAC purposes. Prior to the adoption of
SOP 03-1, amounts paid in excess of contract value were expensed. See
"Application of Recent Accounting Standards" section below for further
discussion regarding the impact of the adoption of SOP 03-1.
F-16
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Liabilities for fixed annuities in a benefit or payout status are based on
future estimated payments using established industry mortality tables and
interest rates, ranging from 4.6% to 9.5% at December 31, 2004, depending
on year of issue, with an average rate of approximately 6.1% at December
31, 2004.
Income taxes
American Enterprise Life's taxable income is included in the consolidated
federal income tax return of American Express Company. American Enterprise
Life provides for income taxes on a separate return basis, except that,
under an agreement between AEFC and American Express Company, tax benefit
is recognized for losses to the extent they can be used on the consolidated
tax return. It is the policy of AEFC and its subsidiaries that AEFC will
reimburse subsidiaries for all tax benefits.
Application of recent accounting standards
In June 2004, the Financial Accounting Standards Board (FASB) issued FASB
Staff Position (FSP) FAS No. 97-1, "Situations in Which Paragraphs 17(b)
and 20 of FASB Statement No. 97, Accounting and Reporting by Insurance
Enterprises for Certain Long-Duration Contracts and for Realized Gains and
Losses from the Sale of Investments (SFAS No. 97), Permit or Require
Accrual of an Unearned Revenue Liability" (FSP 97-1). The implementation of
Statement of Position 03-1, "Accounting and Reporting by Insurance
Enterprises for Certain Nontraditional Long-Duration Contracts and for
Separate Accounts" (SOP 03-1), raised a question regarding the
interpretation of the requirements of SFAS No. 97 concerning when it is
appropriate to record an unearned revenue liability. FSP 97-1 clarifies
that SFAS No. 97 is clear in its intent and language, and requires the
recognition of an unearned revenue liability for amounts that have been
assessed to compensate insurers for services to be performed over future
periods. SOP 03-1 describes one situation, when assessments result in
profits followed by losses, where an unearned revenue liability is
required. SOP 03-1 does not amend SFAS No. 97 or limit the recognition of
an unearned revenue liability to the situation described in SOP 03-1. The
guidance in FSP 97-1 is effective for financial statements for fiscal
periods beginning after June 18, 2004. The adoption of FSP 97-1 did not
have a material impact on American Enterprise Life's consolidated financial
condition or results of operations. See Note 4 and below for further
discussion of SOP 03-1.
In July 2003, the American Institute of Certified Public Accountants issued
SOP 03-1 effective for fiscal years beginning after December 15, 2003. SOP
03-1 provides guidance on separate account presentation and accounting for
interests in separate accounts. Additionally, SOP 03-1 provides clarifying
guidance as to the recognition of bonus interest and other sales inducement
benefits and the presentation of any deferred amounts in the financial
statements. Lastly, SOP 03-1 requires insurance enterprises to establish
additional liabilities for benefits that may become payable under variable
annuity death benefit guarantees or other insurance or annuity contract
provisions. Where an additional liability is established, the recognition
of this liability will then be considered in amortizing deferred policy
acquisition costs (DAC) and any deferred sales inducement costs associated
with those insurance or annuity contracts.
The adoption of SOP 03-1 as of January 1, 2004, resulted in a cumulative
effect of accounting change that reduced first quarter of 2004 results by
$3.6 million ($5.5 million pretax). The cumulative effect of accounting
change related to establishing additional liabilities for certain variable
annuity guaranteed benefits ($3.4 million) and from considering these
liabilities in valuing. Prior to the
F-17
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
adoption of SOP 03-1, amounts paid in excess of contract value were
expensed when payable. Amounts expensed in 2004 which include the
establishment of these additional liabilities were $7.6 million (of which
$3.4 million was part of the adoption change discussed above) as compared
to amounts expensed in 2003 and 2002 of $2.9 million and $6.4 million,
respectively. American Enterprise Life's accounting for separate accounts
was already consistent with the provisions of SOP 03-1 and, therefore,
there was no impact related to this requirement.
The AICPA released a series of technical practice aids (TPAs) in September
2004 which provide additional guidance related to, among other things, the
definition of an insurance benefit feature and the definition of policy
assessments in determining benefit liabilities, as described within SOP
03-1. The TPAs did not have a material effect on American Enterprise Life's
calculation of liabilities that were recorded in the first quarter of 2004
upon adoption of SOP 03-1.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." The Statement amends and
clarifies accounting for derivative instruments embedded in other contracts
and for hedging activities under SFAS 133. The adoption of this Statement
did not have a material impact on the IDS Life's financial statements.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" (FIN 46), which addresses consolidation by
business enterprises of variable interest entities (VIEs) and was
subsequently revised in December 2003. FIN 46 was effective for American
Enterprise Life as of December 31, 2003. FIN 46 does not impact the
accounting for qualifying special purpose entities as defined by Statement
of Financial Accounting Standards (SFAS) No. 140, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities," such
as American Enterprise Life's CDO-related securitization trust established
in 2001. That trust contains a majority of American Enterprise Life's rated
CDOs whose retained interest in the trust had a carrying value of $41.1
million at December 31, 2003, of which $30.3 million is considered
investment grade. Additionally, there were no other impacts on the
financial statements as of December 31, 2003.
In November 2003, the FASB ratified a consensus on the disclosure
provisions of Emerging Issues Task Force Issue 03-1, "The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Investments"
(EITF 03-1). American Enterprise Life complied with the disclosure
provisions of this rule in Note 1 to the Consolidated Financial Statements
included in its Annual Report on Form 10-K for the year ended December 31,
2003. In March 2004, the FASB reached a consensus regarding the application
of a three-step impairment model to determine whether investments accounted
for in accordance with SFAS No. 115, "Accounting for Certain Investments in
Debt and Equity Securities," and other cost method investments are
other-than-temporary impaired. However, with the issuance of FSP EITF
03-1-1, "Effective Date of Paragraphs 10-20 of EITF 03-1," on September 30,
2004, the provisions of the consensus relating to the measurement and
recognition of other-than temporary impairments will be deferred pending
further clarification from the FASB. The remaining provisions of this rule,
which primarily relate to disclosure requirements, are required to be
applied prospectively to all current and future investments accounted for
in accordance with SFAS No. 115 and other cost method investments. American
Enterprise Life will evaluate the potential impact of EITF 03-1 after the
FASB completes its reassessment.
F-18
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. Investments
Available for Sale Investments
Investments classified as Available-for-Sale at December 31, 2004 are
distributed by type as presented below:
December 31, 2004
-----------------------------------------------------------------------------------------------------------------
(Thousands) Cost Gross Gross
Unrealized Unrealized Fair
Gains Losses Value
-----------------------------------------------------------------------------------------------------------------
Fixed maturities:
Mortgage and other asset-backed
securities $ 2,719,323 $ 31,234 $ (11,301) $ 2,739,256
Corporate debt securities 2,715,114 88,129 (9,854) 2,793,389
Foreign corporate bonds and
obligations 638,653 22,603 (3,419) 657,837
U.S. Government and agencies
obligations 102,245 310 (71) 102,484
Structured investments(a) 47,968 - (6,194) 41,774
State and municipal obligations 30,239 302 (878) 29,663
Foreign government bonds and
obligations 3,941 489 - 4,430
-----------------------------------------------------------------------------------------------------------------
Total fixed maturities 6,257,483 143,067 (31,717) 6,368,833
Preferred and common stocks 6,000 246 - 6,246
-----------------------------------------------------------------------------------------------------------------
Total $ 6,263,483 $ 143,313 $ (31,717) $ 6,375,079
-----------------------------------------------------------------------------------------------------------------
(a) Includes unconsolidated CDOs.
Investments classified as Available-for-Sale at December 31, 2003 are
distributed by type as presented below: December 31, 2003
-----------------------------------------------------------------------------------------------------------------
(Thousands) Cost Gross Gross
Unrealized Unrealized Fair
Gains Losses Value
-----------------------------------------------------------------------------------------------------------------
Fixed maturities:
Mortgage and other asset-backed
securities $ 3,066,446 $ 37,207 $ (22,106) $ 3,081,547
Corporate debt securities 2,731,449 98,784 (18,067) 2,812,166
Foreign corporate bonds and
obligations 570,645 23,247 (6,055) 587,837
U.S. Government and agencies
obligations 87,614 741 (19) 88,336
Structured investments(a) 49,232 - (8,106) 41,126
State and municipal obligations 30,238 322 (1,062) 29,498
Foreign government bonds and
obligations 3,937 274 - 4,211
-----------------------------------------------------------------------------------------------------------------
Total fixed maturities 6,539,561 160,575 (55,415) 6,644,721
Preferred and common stocks 6,000 191 - 6,191
-----------------------------------------------------------------------------------------------------------------
Total $ 6,545,561 $ 160,766 $ (55,415) $ 6,650,912
-----------------------------------------------------------------------------------------------------------------
(a) Includes unconsolidated CDOs.
F-19
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table provides information about Available-for-Sale
investments with gross unrealized losses and the length of time that
individual securities have been in a continuous unrealized loss position as
of December 31, 2004:
----------------------------- -------------------------------- ---------------------------- --------------------------------
(Thousands) Less than 12 months 12 months or more Total
----------------------------- -------------------------------- ---------------------------- --------------------------------
Description of securities: Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
----------------------------- ---------------- --------------- -------------- ------------- --------------- ----------------
Mortgage and other
asset-backed securities $ 963,075 $ (5,848) $ 151,475 $ (5,453) $ 1,114,550 $ (11,301)
Corporate debt securities 489,190 (3,892) 214,895 (5,962) 704,085 (9,854)
Foreign corporate bonds and
obligations 120,722 (1,157) 103,192 (2,262) 223,914 (3,419)
U.S. Government and
agencies obligations 71,002 (56) 533 (15) 71,535 (71)
Structured investments - - 41,774 (6,194) 41,774 (6,194)
State and municipal
obligations
- - 22,126 (878) 22,126 (878)
----------------------------- ---------------- --------------- -------------- ------------- --------------- ----------------
Total $ 1,643,989 $ (10,953) $ 533,995 $ (20,764) $ 2,177,984 $ (31,717)
----------------------------- ---------------- --------------- -------------- ------------- --------------- ----------------
In evaluating potential other-than-temporary impairments, American
Enterprise Life considers the extent to which amortized costs exceeds fair
value and the duration and size of that difference. A key metric in
performing this evaluation is the ratio of fair value to amortized cost.
The following table summarizes the unrealized losses by ratio of fair value
to cost as of December 31, 2004:
(Millions,
except number
of securities) Less than 12 months 12 months or more Total
------------------------------------------------------------------------------------------------------------------------------
Ratio of Fair Gross Gross Gross
Value to Number of Unrealized Number of Unrealized Number of Unrealized
Amortized Cost Securities Fair Value Losses Securities Fair Value Losses Securities Fair Value Losses
------------------------------------------------------------------------------------------------------------------------------
95% - 100% 176 $ 1,644 $ (11) 58 $ 473 $ (14) 234 $ 2,117 $ (25)
90% - 95% - - - 1 19 (1) 1 19 (1)
80% - 90% - - - 2 42 (6) 2 42 (6)
Less than 80% - - - - - - - - -
------------------------------------------------------------------------------------------------------------------------------
Total 176 $ 1,644 $ (11) 61 $ 534 $ (21) 237 $ 2,178 $ (32)
------------------------------------------------------------------------------------------------------------------------------
Substantially all of the gross unrealized losses on the securities are
attributable to changes in interest rates. Credit spreads and specific
credit events associated with individual issuers can also cause unrealized
losses although these impacts are not significant as of December 31, 2004.
As noted in the table above, a significant portion of the unrealized loss
relates to securities that have a fair value to cost ratio of 95% or above
resulting in an overall 99% ratio of fair value to cost for all securities
with an unrealized loss. The holding with the largest unrealized loss
relates to the retained interest in a CDO securitization trust which
accounts for all of the unrealized losses for securities with an unrealized
loss for twelve months or more and a fair value to cost ratio in the 80-90%
category. With regard to this security, American Enterprise Life estimates
future cash flows through maturity (2014) on a quarterly basis using
judgment as to the amount and timing of cash payments and defaults and
recovery rates of the underlying investments. These cash flows support full
recovery of American Enterprise Life's carrying value related to the
retained interest in the CDO securitization trust as of December 31, 2004.
All of the unrealized losses for securities with an unrealized loss for
twelve months or more and a fair value to cost ratio in the 80-90% category
primarily relates to a foreign government bond obligation for which
American Enterprise Life expects that all contractual principal and
interest will be received. The unrealized losses in the other categories
are not concentrated in any individual industries or with any individual
securities.
F-20
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
American Enterprise Life monitors the investments and metrics discussed
above on a quarterly basis to identify and evaluate investments that have
indications of possible other-than-temporary impairment. See the
Investments section of Note 1 for information regarding American Enterprise
Life's policy for determining when an investment's decline in value is
other-than-temporary. Additionally, American Enterprise Life has the
ability and intent to hold these securities for a time sufficient to
recover its amortized cost and has, therefore, concluded that none are
other-than-temporarily impaired at December 31, 2004.
The change in net unrealized securities gains (losses) recognized in
accumulated other comprehensive income includes three components: (i)
unrealized gains (losses) that arose from changes in market value of
securities that were held during the period (holding gains (losses)), (ii)
gains (losses) that were previously unrealized, but have been recognized in
current period net income due to sales and other-than-temporary impairments
of Available-for-Sale securities (reclassification for realized (gains)
losses) and (iii) other items primarily consisting of adjustments in asset
balances, such as deferred policy acquisition costs (DAC), to reflect the
expected impact on their carrying values had the unrealized gains (losses)
been realized immediately.
The following is a distribution of investments classified as
Available-for-Sale by maturity at December 31, 2004:
Amortized Fair
(Thousands) Cost Value
---------------------------------------------------------------------------
Due within 1 year $ 161,971 $ 165,007
Due after 1 through 5 years 866,473 893,440
Due after 5 through 10 years 2,289,375 2,356,475
Due after 10 years 172,373 172,881
---------------------------------------------------------------------------
3,490,192 3,587,803
Mortgage and other asset-backed securities 2,719,323 2,739,256
Structured investments 47,968 41,774
Preferred and common stocks 6,000 6,246
---------------------------------------------------------------------------
Total $ 6,263,483 $ 6,375,079
---------------------------------------------------------------------------
The expected payments on mortgage and other asset-backed securities and
structured investments may not coincide with their contractual maturities.
As such, these securities, as well as preferred and common stocks, were not
included in the maturities distribution.
At December 31, 2004 and 2003, fixed maturity securities comprised
approximately 94 and 92 percent of American Enterprise Life's total
investments. These securities are rated by Moody's and Standard & Poor's
(S&P), except for approximately $139.3 million and $132.6 million of
securities at December 31, 2004 and 2003, which are rated by American
Enterprise Life's internal analysts using criteria similar to Moody's and
S&P. Ratings on investment grade securities (excluding net unrealized
appreciation and depreciation) are presented using S&P's convention and, if
the two agencies' ratings differ, the lower rating is used. A summary, by
rating on December 31, is as follows:
F-21
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Rating 2004 2003
-------------------------------------------------------------------------
AAA 47% 50%
AA 2 2
A 19 18
BBB 24 23
Below investment grade 8 7
-------------------------------------------------------------------------
Total 100% 100%
-------------------------------------------------------------------------
At December 31, 2004 and 2003, approximately 63 percent and 92 percent of
the securities rated AAA are GNMA, FNMA and FHLMC mortgage-backed
securities. No holdings of any other issuer were greater than ten percent
of stockholder's equity.
The table below includes sales, maturities, and purchases of investments
classified as Available-for-Sale for the years ended December 31:
(Thousands) 2004 2003 2002
------------------------------------------------------------------------------------------------------
Sales $ 341,077 $ 3,365,402 $ 1,092,923
Maturities, sinking fund payments
and calls $ 400,057 $ 875,785 $ 500,348
Purchases $ 480,031 $ 5,678,854 $ 3,409,718
------------------------------------------------------------------------------------------------------
Included in net realized gains and losses are gross realized gains and
losses on sales of securities, as well as other-than-temporary losses on
investments, classified as Available-for-Sale as noted in the following
table for years ended December 31:
(Thousands) 2004 2003 2002
------------------------------------------------------------------------------------------------------
Gross realized gains from sales $ 9,464 $ 65,739 $ 38,205
Gross realized losses from
sales $ (3,980) $ (30,254) $ (17,579)
Other-than-temporary
impairments $ - $ (9,323) $ (14,558)
------------------------------------------------------------------------------------------------------
As of December 31, 2004, American Enterprise Life's structured investments,
which are classified as Available-for-Sale, include interests in CDOs. CDOs
are investments backed by high-yield bonds or loans and are not readily
marketable. American Enterprise Life invested in CDOs as part of its
overall investment strategy in order to offer competitive rates to
insurance and annuity contractholders.
During 2001 American Enterprise Life placed a majority of its rated CDO
securities and related accrued interest (collectively referred to as
transferred assets), having an aggregate book value of $53.6 million, into
a securitization trust. In return, American Enterprise Life received $7.1
million in cash (excluding transaction expenses) relating to sales to
unaffiliated investors and retained interests with allocated book amounts
aggregating $46.5 million. As of December 31, 2004, the retained interests
had a carrying value of $41.8 million, of which $31.0 million is considered
investment grade and are accounted for in accordance with EITF Issue 99-20,
"Recognition of Interest Income and Impairment on Purchased and Retained
Beneficial Interests in Securitized Financial Assets." One of the results
of this transaction is that increases and decreases in future cash flows of
the individual CDOs are combined into one overall cash flow for purposes of
determining the carrying value of the retained interests and related impact
on results of operations.
F-22
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
At December 31, 2004 and 2003, bonds carried at $4.2 million and $3.5
million, respectively, were on deposit with various states as required by
law.
Mortgage loans on real estate loans
Mortgage loans are first mortgages on real estate. American Enterprise Life
holds the mortgage document, which gives it the right to take possession of
the property if the borrower fails to perform according to the terms of the
agreements. Mortgage loan fundings are restricted by state insurance
regulatory authorities to 80 percent or less of the market value of the
real estate at the time of origination of the loan. Commitments to fund
mortgages are made in the ordinary course of business. The estimated fair
value of the mortgage commitments as of December 31, 2004 and 2003 was not
material.
The following is a summary of mortgage loans on real estate loans at
December 31:
(Thousands) 2004 2003
-----------------------------------------------------------------------------------------------
Mortgage loans on real estate $ 427,761 $ 542,174
Mortgage loans on real estate reserves (6,862) (7,362)
-----------------------------------------------------------------------------------------------
Net mortgage loans $ 420,899 $ 534,812
-----------------------------------------------------------------------------------------------
At December 31, 2004 and 2003, American Enterprise Life's recorded
investment in impaired mortgage loans on real estate was nil and $2.8
million, with a reserve of nil and $1.0 million, respectively. During 2004
and 2003, the average recorded investment in impaired mortgage loans on
real estate was $1.5 million and $6.6 million, respectively. American
Enterprise Life recognized $0.1 million, $0.2 million and $0.3 million of
interest income related to impaired mortgage loans on real estate for the
years ended December 31, 2004, 2003 and 2002, respectively.
The balances of and changes in the total reserve for mortgage loan losses
as of and for the years ended December 31, are as follows:
(Thousands) 2004 2003 2002
-----------------------------------------------------------------------------------------------------------------
Balance, January 1 $ 7,362 $ 10,812 $ 5,067
Provision for mortgage loan losses 661 281 6,079
Foreclosures, write-offs and other (1,161) (3,731) (334)
-----------------------------------------------------------------------------------------------------------------
Balance, December 31 $ 6,862 $ 7,362 $ 10,812
-----------------------------------------------------------------------------------------------------------------
F-23
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Concentration of credit risk of mortgage loans on real estate by region at
December 31 were:
December 31, 2004 December 31, 2003
-------------------------------- -------------------------------------------- ----------------------------------------------
(Thousands) On Balance Funding On Balance Funding
Region Sheet Commitments Sheet Commitments
-------------------------------- -------------------------------------------- ----------------------------------------------
East North Central $ 81,737 $ - $ 99,371 $ 1,000
West North Central 74,452 - 88,961 -
South Atlantic 96,011 240 118,183 -
Middle Atlantic 51,082 - 75,056 -
New England 16,483 - 25,229 -
Pacific 20,073 - 24,607 -
West South Central 24,585 - 25,724 -
East South Central 10,112 - 10,696 -
Mountain 53,226 - 74,347 -
-------------------------------- -------------------------------------------- ----------------------------------------------
427,761 240 542,174 1,000
Less reserves for losses (6,862) - (7,362) -
-------------------------------- -------------------------------------------- ----------------------------------------------
Total $ 420,899 $ 240 $ 534,812 $ 1,000
-------------------------------- -------------------------------------------- ----------------------------------------------
Concentration of credit risk of mortgage loans on real estate by property
type at December 31 were:
December 31, 2004 December 31, 2003
-------------------------------- -------------------------------------------- ----------------------------------------------
(Thousands) On Balance Funding On Balance Funding
Property type Sheet Commitments Sheet Commitments
-------------------------------- -------------------------------------------- ----------------------------------------------
Department/retail stores $ 94,284 $ - $ 139,417 $ -
Apartments 89,977 - 113,746 -
Office buildings 154,259 240 169,904 1,000
Industrial buildings 48,087 - 60,275 -
Hotels/motels 25,802 - 33,091 -
Medical buildings 10,890 - 18,694 -
Nursing/retirement homes - - 2,413 -
Mixed use 4,462 - 4,634 -
-------------------------------- ------------------------------------------- -----------------------------------------------
427,761 240 542,174 1,000
Less reserves for losses (6,862) - (7,362) -
-------------------------------- ------------------------------------------- -----------------------------------------------
Total $ 420,899 $ 240 $ 534,812 $ 1,000
-------------------------------- ------------------------------------------- -----------------------------------------------
Sources of investment income and realized gains (losses) on investments
Net investment income for the years ended December 31 is summarized as
follows:
(Thousands) 2004 2003 2002
-----------------------------------------------------------------------------------------------------------------
Income on fixed maturities $ 328,164 $ 321,420 $ 239,084
Income on mortgage loans on real estate 36,329 42,482 47,697
Other investments 12,236 11,600 8,874
-----------------------------------------------------------------------------------------------------------------
376,729 375,502 295,655
Less investment expenses 242 3,308 3,588
-----------------------------------------------------------------------------------------------------------------
Total $ 376,487 $ 372,194 $ 292,067
-----------------------------------------------------------------------------------------------------------------
F-24
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Net realized gains (losses) on investments for the years ended December 31
is summarized as follows:
(Thousands) 2004 2003 2002
-----------------------------------------------------------------------------------------------------------------
Fixed maturities $ 5,484 $ 26,162 $ 6,068
Mortgage loans on real estate (288) (1,082) (6,076)
Other investments (3) 25 11
-----------------------------------------------------------------------------------------------------------------
Total $ 5,193 $ 25,105 $ 3
-----------------------------------------------------------------------------------------------------------------
3. Deferred policy acquisition costs
The balances of and changes in deferred policy acquisition costs as of and
for the years ended December 31, were:
(Thousands) 2004 2003 2002
-----------------------------------------------------------------------------------------------------------------
Balance, January 1, $ 296,722 $ 226,010 $ 188,915
SOP 03-1 adoption impact 1,204 - -
Capitalization of expenses 76,378 99,000 104,349
Amortization (60,836) (38,392) (44,228)
Change in unrealized investment (losses) gains (13,760) 10,104 (23,026)
-----------------------------------------------------------------------------------------------------------------
Balance, December 31, $ 299,708 $ 296,722 $ 226,010
-----------------------------------------------------------------------------------------------------------------
4. Variable annuity guarantees and sales inducement costs
The majority of the variable annuity contracts offered by American
Enterprise Life contain guaranteed minimum death benefit (GMDB) provisions.
When market values of the customer's accounts decline, the death benefit
payable on a contract with a GMDB may exceed the contract accumulation
value. American Enterprise Life also offers variable annuities with death
benefit provisions that gross up the amount payable by a certain percentage
of contract earnings; these are referred to as gain gross-up (GGU)
benefits. In addition, American Enterprise Life offers contracts containing
guaranteed minimum income benefit (GMIB) provisions. If elected by the
contract owner and after a stipulated waiting period from contract
issuance, a GMIB guarantees a minimum lifetime annuity based on a specified
rate of contract accumulation value growth and predetermined annuity
purchase rates. American Enterprise Life has established additional
liabilities for these variable annuity death and GMIB benefits under SOP
03-1. American Enterprise Life has not established additional liabilities
for other insurance or annuitization guarantees for which the risk is
currently immaterial.
The variable annuity death benefit liability is determined each period by
estimating the expected value of death benefits in excess of the projected
contract accumulation value and recognizing the excess over the estimated
meaningful life based on expected assessments (e.g., mortality and expense
fees, contractual administrative charges and similar fees). Similarly, the
GMIB liability is determined each period by estimating the expected value
of annuitization benefits in excess of the projected contract accumulation
value at the date of annuitization and recognizing the excess over the
estimated meaningful life based on expected assessments.
In determining the additional liabilities for variable annuity death
benefits and GMIB, American Enterprise Life projects these benefits and
contract assessments using actuarial models to simulate various equity
market scenarios. Significant assumptions made in projecting future
benefits and assessments relate to customer asset value growth rates,
mortality, persistency and investment margins and are consistent with those
used for DAC asset valuation for the same contracts. As with
F-25
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DAC, management will review, and where appropriate, adjust its assumptions
each quarter. Unless management identifies a material deviation over the
course of quarterly monitoring, management will review and update these
assumptions annually in the third quarter of each year.
The following provides summary information related to variable annuity
contracts for which American Enterprise Life has established additional
liabilities for death benefits and guaranteed minimum income benefits as of
December 31:
--------------------------------------------------------------------- ------------------- --------------------
Variable Annuity GMDB and GMIB by Benefit Type 2004 2003
--------------------------------------------------------------------- ------------------- --------------------
(Dollar amounts in millions)
--------------------------------------------------------------------- ------------------- --------------------
Contracts with GMDB Total Contract Value $ 1,205.8 $ 1,066.7
Providing for Return of Contract Value in Separate Accounts $ 334.0 $ 142.0
Premium Net Amount at Risk* $ 4.4 $ 7.4
Weighted Average Attained Age 64 66
------------------------- ------------------------------------------- --- --------------- ---- ---------------
Contracts with Total Contract Value $ 1,941.9 $ 1,467.7
GMDB Providing for Contract Value in Separate Accounts $ 1,287.2 $ 791.3
One Year Ratchet Net Amount at Risk* $ 52.4 $ 79.1
Weighted Average Attained Age 64 62
------------------------- ------------------------------------------- --- --------------- ---- ---------------
Contracts with Other Total Contract Value $ 305.5 $ 244.6
GMDB Contract Value in Separate Accounts $ 236.3 $ 169.2
Net Amount at Risk* $ 11.7 $ 20.3
Weighted Average Attained Age 64 62
------------------------- ------------------------------------------- ------------------- --------------------
Contracts with GGU Total Contract Value $ 103.3 $ 77.1
Death Benefit Contract Value in Separate Accounts $ 66.0 $ 38.7
Net Amount at Risk* $ 3.8 $ 1.1
Weighted Average Attained Age 64 63
------------------------- ------------------------------------------- --- --------------- ---- ---------------
Contracts with GMIB Total Contract Value $ 579.5 $ 349.9
Contract Value in Separate Accounts $ 497.6 $ 263.0
Net Amount at Risk* $ 11.9 $ 23.0
Weighted Average Attained Age 59 59
------------------------- ------------------------------------------- ------------------- --------------------
* Represents current death benefit less total contract value for
GMDB, amount of gross up for GGU and accumulated guaranteed minimum benefit
base less total contract value for GMIB and assumes the actuarially remote
scenario that all claims become payable on the same day.
------------------------- ------------------------------------------- ------------------- --------------------
Additional Liabilities and Incurred Benefits GMDB & GGU GMIB
------------------------- ------------------------------------------- ------------------- --------------------
For the year ended Liability balance at January 1 $ 1.2 $ 2.2
December 31, 2004 Reported claims $ 2.1 $ -
Liability balance at December 31 $ 2.5 $ 3.0
Incurred claims (reported + change in $ 3.4 $ 0.8
liability)
------------------------- ------------------------------------------- ------------------- --------------------
The additional liabilities for guaranteed benefits established under SOP
03-1 are supported by general account assets. Changes in these liabilities
are included in death and other benefits in the Consolidated Statements of
Income.
Contract values in separate accounts were invested in various equity, bond
and other funds as directed by the contractholder. No gains or losses were
recognized on assets transferred to separate accounts for the periods
presented.
Sales inducement costs consist of bonus interest credits and deposit
credits added to certain annuity contract values. These benefits are
capitalized to the extent they are incremental to amounts that would be
credited on similar contracts without the applicable feature. These costs
were previously included in DAC and were reclassified as part of the
adoption of SOP 03-1. The amounts capitalized
F-26
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
are amortized using the same methodology and assumptions used to amortize
DAC. American Enterprise Life capitalized $13.5 million and $21.9 million
for the years ended December 31, 2004 and 2003, respectively. American
Enterprise Life amortized $9.7 million and $7.2 million for the years ended
December 31, 2004 and 2003, respectively.
5. Income taxes
American Enterprise Life qualifies as a life insurance company for federal
income tax purposes. As such, American Enterprise Life is subject to the
Internal Revenue Code provisions applicable to life insurance companies.
The components of income tax provision (benefit) included in the
Consolidated Statements of Income for the years ended December 31 were as
follows:
(Thousands) 2004 2003 2002
---------------------------------------------------------------------------------------------------------------
Federal income taxes
Current $ (2,895) $ 3,371 $ (15,096)
Deferred 21,835 15,420 (3,725)
---------------------------------------------------------------------------------------------------------------
18,940 18,791 (18,821)
State income taxes-current (932) 284 334
---------------------------------------------------------------------------------------------------------------
Income tax provision (benefit) before
accounting change $ 18,008 $ 19,075 $ (18,487)
---------------------------------------------------------------------------------------------------------------
A reconciliation of the expected federal income tax provision using the
U.S. federal statutory rate of 35% to American Enterprise Life's actual
income tax provision for the years ended December 31 were as follows:
(Thousands) 2004 2003 2002
---------------------------------------------------------------------------------------------------------------
Combined tax at U.S. statutory rate $ 15,120 35.0% $ 19,846 35.0% $ (18,262) (35.0)%
Changes in taxes resulting from:
Tax-preferred investments,
including municipal bonds (732) (1.9) (485) (0.8) (62) (0.1)
Tax-exempt element of dividend
income
State and local income taxes (605) (1.6) 184 0.3 217 0.4
All other 4,225 11.2 (470) (0.9) (380) (0.7)
---------------------------------------------------------------------------------------------------------------
Income tax provision before
accounting change $ 18,008 42.7% $ 19,075 33.6% $ (18,487) (35.4)%
===============================================================================================================
F-27
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Deferred income tax provision (benefit) results from differences between
assets and liabilities measured for financial reporting and for income tax
return purposes. The significant components of American Enterprise Life's
deferred tax assets and liabilities as of December 31, 2004 and 2003 are
reflected in the following table:
(Thousands) 2004 2003
--------------------------------------------------------------------------------------------------------------
Deferred tax assets:
Policy reserves $ 112,410 $ 64,080
Other investments 894 41,543
Other 5,630 412
--------------------------------------------------------------------------------------------------------------
Total 118,934 106,035
--------------------------------------------------------------------------------------------------------------
Deferred tax liabilities:
Deferred policy acquisition costs 86,547 90,050
Deferred taxes related to net unrealized securities gains 36,682 27,603
Other 30,689 -
--------------------------------------------------------------------------------------------------------------
Total 153,918 117,653
--------------------------------------------------------------------------------------------------------------
Net deferred tax liability $ 34,984 $ 11,618
--------------------------------------------------------------------------------------------------------------
American Enterprise Life is required to establish a valuation allowance for
any portion of the deferred income tax assets that management believes will
not be realized. In the opinion of management, it is more likely than not
that American Enterprise Life will realize the benefit of the deferred
income tax assets and, therefore, no such valuation allowance has been
established.
6. Statutory capital and surplus
Statutory capital and surplus available for distribution or dividends to
IDS Life are limited to American Enterprise Life's surplus as determined in
accordance with accounting practices prescribed by state insurance
regulatory authorities. American Enterprise Life's statutory unassigned
deficit aggregated $69.0 million and $99.1 million as of December 31, 2004
and 2003, respectively; therefore, any dividend or distribution in 2005
would require approval of the Department of Insurance of the State of
Indiana.
Statutory net income (loss) for the years ended December 31 and capital and
surplus as of December 31 are summarized as follows:
(Thousands) 2004 2003 2002
----------------------------------------------------------------------------------------------------------
Statutory net income (loss) $ 47,380 $ 6,483 $ (85,113)
Statutory capital and surplus 525,885 495,816 493,339
7. Related party transactions
American Enterprise has no employees. Charges by IDS Life for use of joint
facilities, technology support, marketing services and other services
aggregated $64.9 million, $56.3 million, and $44.5 million for 2004, 2003
and 2002, respectively. Certain of these costs are included in DAC.
Expenses allocated to American Enterprise Life may not be reflective of
expenses that would have been incurred by American Enterprise Life on a
stand-alone basis.
In connection with AEFC being named the investment manager for the
proprietary mutual funds used as investment options by American Enterprise
Life's variable annuity and variable life insurance
F-28
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
contract owners in the fourth quarter of 2003, and, as discussed in
"Separate account assets and liabilities" section of Note 1 herein, AEFC
receives management fees from these funds. American Enterprise Life
continues to provide all fund management services, other than investment
management, and has entered into an administrative services agreement with
AEFC to be compensated for the services American Enterprise Life provides.
For the years ended December 31, 2004 and 2003 American Enterprise Life
received under this arrangement, $1.1 million and $0.1 million,
respectively.
Included in other liabilities at December 31, 2004 and 2003 are $6.3
million and $2.4 million, respectively, payable to AEFC for federal income
taxes.
8. Lines of credit
American Enterprise Life has an available line of credit with AEFC
aggregating $50 million. The interest rate for any borrowings is
established by reference to various indices plus 20 to 45 basis points,
depending on the term. There were no borrowings outstanding under these
line of credit arrangements at December 31, 2004 and 2003.
9. Derivatives financial instruments and hedging activities
American Enterprise Life maintains an overall risk management strategy that
incorporates the use of derivative instruments to minimize significant
unplanned fluctuations in earnings that are caused by interest rate and
equity market volatility. American Enterprise Life does not enter into
derivative instruments for speculative purposes. As prescribed by SFAS No.
133, derivative instruments that are designated and qualify as hedging
instruments are classified as cash flow hedges, fair value hedges, or
hedges of a net investment in a foreign operation, based upon the exposure
being hedged. American Enterprise Life currently has economic hedges that
either do not qualify or are not designated for hedge accounting treatment
under SFAS No. 133.
From time to time American Enterprise Life enters into interest rate swaps,
floors and caps to manage American Enterprise Life's interest rate risk.
Specifically, American Enterprise Life uses the instruments to protect the
margin between interest rates earned on investments and the interest rates
credited to related annuity contract holders. The interest rate swaps and
floors are exclusively with IDS Life. The values of derivative financial
instruments are based on market values, dealer quotes or pricing models.
The interest rate swaps had carrying amounts of ($17.6 million) and ($42.7
million) at December 31, 2004 and 2003, respectively, and are included in
other liabilities on the Consolidated Balance Sheets. The interest rate
floors had carrying amounts of $1.7 million and $6.1 million at December
31, 2004 and 2003, respectively, and are included in other assets on the
Consolidated Balance Sheets. American Enterprise Life incurred ($18.2
million) and ($11.6 million) in derivative losses in 2004 and 2003,
respectively, which are included in other insurance and operating expenses
on the Consolidated Statements of Income. The decrease in derivative losses
in 2004 is primarily due to the impact that increasing interest rates had
on the market value of American Enterprise Life's interest rate swaps. The
derivatives expire at various dates through 2006.
10. Fair values of financial instruments
The following table discloses fair value information for financial
instruments. Certain items, such as life insurance obligations, employee
benefit obligations, investments accounted for under the equity method,
deferred policy acquisition costs and deferred sales inducement costs are
specifically excluded by SFAS No. 107, "Disclosure about Fair Value of
Financial Instruments." The fair values of financial instruments are
estimates based upon market conditions and perceived risks at December
F-29
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
31, 2004 and 2003 and require management judgment. These figures may not be
indicative of their future fair values. Additionally, management believes
the value of excluded assets and liabilities is significant. The fair value
of American Enterprise Life, therefore, cannot be estimated by aggregating
the amounts presented. The following table discloses fair value information
for financial instruments as of December 31:
2004 2003
-------------------------------------------------------------------------------------------------------------------
Carrying Fair Carrying Fair
(Thousands) Value Value Value Value
-------------------------------------------------------------------------------------------------------------------
Financial Assets
Available-for-Sale and other
investments $ 6,377,229 $ 6,377,229 $ 6,656,981 $ 6,656,981
Mortgage loans on real estate, net $ 420,899 $ 456,174 $ 534,812 $ 585,295
Separate account assets $ 1,878,620 $ 1,878,620 $ 1,108,160 $ 1,108,160
Other financial assets $ 122,911 $ 122,911 $ 89,724 $ 89,724
Financial Liabilities
Fixed annuities $ 6,302,362 $ 6,112,324 $ 6,623,247 $ 6,385,595
Separate account liabilities $ 1,877,294 $ 1,809,392 $ 1,107,211 $ 1,064,419
Other financial liabilities $ 48,788 $ 48,788 $ 143,771 $ 143,771
-------------------------------------------------------------------------------------------------------------------
The following methods were used to estimate the fair values of financial
assets and financial liabilities.
Financial Assets
Generally, investments are carried at fair value on the consolidated
balance sheets. Gains and losses are recognized in the results of
operations upon disposition of the securities. In addition, losses are
recognized when management determines that a decline in value is
other-than-temporary. See Note 2 for carrying value and fair value
information regarding investments.
The fair values of mortgage loans on real estate, except those with
significant credit deterioration, are estimated using discounted cash flow
analysis, based on current interest rates for loans with similar terms to
borrowers of similar credit quality. For loans with significant credit
deterioration, fair values are based on estimates of future cash flows
discounted at rates commensurate with the risk inherent in the revised cash
flow projections, or for collateral dependent loans on collateral values.
Separate account assets are carried at fair value on the consolidated
balance sheets.
Other financial assets for which carrying values approximate fair values,
include cash and cash equivalents, other accounts receivable and accrued
interest, derivative financial instruments and certain other assets. The
carrying values approximate fair value due to the short term nature of
these investments.
Financial Liabilities
The fair values of fixed annuities in deferral status are estimated as the
accumulated value less applicable surrender charges and loans. For
annuities in payout status, fair value is estimated using discounted cash
flows, based on current interest rates. The fair value of these reserves
excludes life insurance related elements of $23.1 million and $22.1 million
at December 31, 2004 and 2003, respectively.
F-30
AMERICAN ENTERPRISE LIFE INSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The fair values of separate account liabilities, after excluding life
insurance-related elements of $1.3 million and $0.9 million at December 31,
2004 and 2003, respectively, are estimated as the accumulated value less
applicable surrender charges.
Other financial liabilities for which carrying values approximate fair
values include derivative financial instruments and certain other
liabilities. The carrying value approximates fair value due to the
short-term nature of these instruments.
11. Commitments and contingencies
The Securities and Exchange Commission (SEC), the National Association of
Securities Dealers (NASD) and several state attorneys general have brought
proceedings challenging several mutual fund and variable account financial
practices, including suitability generally, late trading, market timing,
disclosure of revenue sharing arrangements and inappropriate sales.
American Enterprise Life Insurance Company has received requests for
information and has been contacted by regulatory authorities concerning its
practices and is cooperating fully with these inquiries.
At December 31, 2004 and 2003, American Enterprise Life had no commitments
to purchase investments other than mortgage loan fundings (see Note 2).
The IRS routinely examines American Enterprise Life's federal income tax
returns and is currently conducting an audit for the 1993 through 1996 tax
years and in February of 2005 began the examinations of the 1997 through
2002 tax years. Management does not believe there will be a material
adverse effect on American Enterprise Life's consolidated financial
position as a result of these audits.
12. Subsequent events
On February 1, 2005, the American Express Company announced plans to pursue
a tax-free spin-off of the common stock of the AEFC's unit through a
special dividend to American Express common shareholders. The final
transaction, which is subject to certain conditions including receipt of a
favorable tax ruling and approval by American Express Company's Board of
Directors, is expected to close in the third quarter of 2005.
Also, on February 1, 2005, A.M. Best placed American Enterprise Life's
financial strength rating of "A+" under review with negative implications,
Moody's affirmed American Enterprise Life's financial strength rating at
"Aa3" and Fitch lowered American Enterprise Life's financial strength
rating to "AA-" and placed them on "Rating Watch Negative" following
American Express Company's announcement that it intends to spin-off its
full ownership of AEFC, the holding company for American Enterprise Life.
In connection with the spin-off, American Express Company intends to
provide additional capital to American Enterprise Life to confirm its
current financial strength ratings.
F-31
EXHIBIT INDEX
The following exhibits are filed as part of this Annual Report or, where
indicated, were already filed and are hereby incorporated by reference.
3.1 Amendment and Restatement of Articles of Incorporation of American
Enterprise Life dated July 29, 1986, filed electronically as Exhibit 6.1
to American Enterprise Life Personal Portfolio Plus 2's Initial
Registration Statement No. 33-54471, filed on or about July 5, 1994, is
incorporated by reference.
3.2 Amended By-laws of American Enterprise Life, filed electronically as
Exhibit 6.2 to American Enterprise Life Personal Portfolio Plus 2's
Initial Registration Statement No. 33-54471, filed on or about July 5,
1994, is incorporated by reference.
3.3 Consent in writing in lieu of a meeting of the Board of Directors of
American Enterprise Life Insurance Company establishing the American
Enterprise MVA Account dated Aug. 18, 1999, filed electronically as
Exhibit 3.3 to Registrant's Initial Registration Statement No. 333-86297,
filed on or about Aug. 31, 1999, is incorporated by reference.
3.4 Amended By-Laws of American Enterprise Life, dated September 11, 2002
filed electronically as Exhibit 6.3 to Post-Effective Amendment No. 10 to
the Registration Statement No. 333-92297, is incorporated by reference.
4.1 Form of Deferred Annuity Contract for the American Express(R) Signature
One Variable Annuity (form 240180), filed electronically as Exhibit 4.1 to
American Enterprise Variable Annuity Account's Post-Effective Amendment
No. 1 to Registration Statement No. 333-85567 on form N-4, filed on or
about Dec. 7, 1999, is incorporated by reference.
4.2 Form of Deferred Annuity Contract for the Wells Fargo Advantage(SM)
Variable Annuity (form 44209), filed electronically as Exhibit 4.1 to
American Enterprise Variable Annuity Account's Pre-Effective Amendment No.
1 to Registration Statement No. 333-85567 on form N-4, filed on or about
Nov. 4, 1999, is incorporated by reference.
4.3 Form of Deferred Annuity Contract for the Wells Fargo Advantage(SM)
Builder Variable Annuity (form 44210), filed electronically as Exhibit 4.2
to American Enterprise Variable Annuity Account's Pre-Effective Amendment
No. 1 to Registration Statement No. 333-85567 on form N-4, filed on or
about Nov. 4, 1999, is incorporated by reference.
4.4 Form of Deferred Annuity Contract for the American Express New
Solutions(SM) Variable Annuity (form 240343) filed electronically as
Exhibit 4.1 to American Enterprise Variable Annuity Account's
Pre-Effective Amendment No. 1 to Registration Statement No. 333-92297 on
Form N-4, filed on or about Feb. 11, 2000, is incorporated by reference.
4.4(a)Form of Deferred Annuity Contract Data Pages (240343) filed as Exhibit
4.1(a) to Post-Effective Amendment No. 10 to Registration Statement No.
333-92297, is incorporated by reference.
4.5 Form of Deferred Annuity Contract for American Express Signature
Variable Annuity (R) (form 43431) filed electronically as Exhibit 4.1 to
American Enterprise Variable Annuity Account's Pre-Effective Amendment
No. 1 to Registration Statement No. 333-74865 on form N-4, filed on or
about Aug. 4, 1999, is incorporated by reference.
E-1
4.6 Form of Deferred Annuity Contract for the American Express(R) Galaxy
Premier Variable Annuity and the American Express Pinnacle Variable
Annuity(SM) (form 44170) filed electronically as Exhibit 4.1 to American
Enterprise Variable Annuity Account's Pre-Effective Amendment No. 1 to
Registration Statement No. 333-82149, filed on or about Sept. 21, 1999,
is incorporated by reference.
4.7 Form of Deferred Annuity Contract for American Express FlexChoice(SM)
Variable Annuity contract Option L (form 271496) filed electronically
as Exhibit 4.1 to American Enterprise Variable Annuity Account's
Pre-Effective Amendment No. 1 to Registration Statement No. 333-73958 on
form N-4, filed on or about Feb. 20, 2002, is incorporated by reference.
4.8 Form of Deferred Annuity Contract for American Express FlexChoice(SM)
Variable Annuity contract Option C (form 271491) filed electronically as
Exhibit 4.2 to American Enterprise Variable Annuity Account's
Pre-Effective Amendment No. 1 to Registration Statement No. 333-73958 on
form N-4, filed on or about Feb. 20, 2002, is incorporated by reference.
4.9 Form of Enhanced Death Benefit Rider for the Wells Fargo Advantage(SM)
Variable Annuity, the Wells Fargo Advantage(SM) Builder Variable Annuity
and the American Express FlexChoice(SM) Variable Annuity contracts (form
44213), filed electronically as Exhibit 4.3 to American Enterprise
Variable Annuity Account's Pre-Effective Amendment No. 1 to Registration
Statement No. 333-85567 on form N-4, filed on or about Nov.4, 1999, is
incorporated by reference.
4.10 Form of Guaranteed Minimum Income Benefit Rider for the American Express
Signature Variable Annuity (R) and the American Express(R) Signature One
Variable Annuity (6% Accumulation Benefit Base) (form 240186), filed
electronically as Exhibit 4.2 to American Enterprise Variable Annuity
Account's Post-Effective Amendment No. 3 to Registration Statement No.
333-85567 on form N-4, filed on or about Feb. 11, 2000, is incorporated by
reference.
4.11 Form of Guaranteed Minimum Income Benefit Rider for the American Express
New Solutions(SM) Variable Annuity (form 240350), filed electronically
as Exhibit 4.4 to American Enterprise Variable Annuity Account's
Pre-Effective Amendment No. 1 to Registration Statement No. 333-92297 on
Form N-4, filed on or about Feb. 11, 2000, is incorporated by reference.
4.12 Form of Guaranteed Minimum Income Benefit Rider for the Wells Fargo
Advantage(SM) Variable Annuity, the Wells Fargo Advantage(SM) Builder
Variable Annuity and the American Express FlexChoice(SM) Variable Annuity
contracts (form 44214), filed electronically as Exhibit 4.4 to American
Enterprise Variable Annuity Account's Pre-Effective Amendment No. 1 to
Registration Statement No. 333-85567 on form N-4, filed on or about Nov.
4, 1999, is incorporated by reference.
4.13 Form of 5% Accumulation Death Benefit Rider for the American Express
Signature Variable Annuity(R) and the American Express Signature One
Variable Annuity(SM) (form 240183), filed electronically as Exhibit 4.3
to American Enterprise Variable Annuity Account's Post-Effective
Amendment No. 1 to Registration Statement No. 333-85567 on form N-4,
filed on or about Dec. 8, 1999, is incorporated by reference.
4.14 Form of Value Option Return of Purchase Payment Death Benefit Rider for
the American Express (R) Signature One Variable Annuity (form 240182),
filed electronically as Exhibit 4.11 to Registrant's Post-Effective
Amendment No. 6 to Registration Statement No. 333-86297 on form S-1,
filed on or about May 1, 2000, is incorporated by reference.
E-2
4.15 Form of 8% Performance Credit Rider for the American Express Signature
Variable Annuity(R) and the American Express(R) Signature One Variable
Annuity (form 240187), filed electronically as Exhibit 4.4 to American
Enterprise Variable Annuity Account's Post-Effective Amendment No. 2 to
Registration Statement No. 333-85567 on form N-4, filed on or about Dec.
30, 1999, is incorporated by reference.
4.16 Form of Performance Credit Rider for the American Express New
Solutions(SM) Variable Annuity (form 240349), filed electronically as
Exhibit 4.2 to American Enterprise Variable Annuity Account's
Pre-Effective Amendment No. 1 to Registration Statement No. 333-92297 on
Form N-4, filed on or about Feb. 11, 2000, is incorporated by reference.
4.17 Form of Benefit Protector(SM) Death Benefit Rider for the Wells Fargo
Advantage(SM) Variable Annuity, the Wells Fargo Advantage(SM) Builder
Variable Annuity, the American Express New Solutions (SM) Variable
Annuity, the American Express(R) Galaxy Premier Variable Annuity, the
American Express Pinnacle Variable Annuity(SM), the American Express(R)
Signature One Variable Annuity and the American Express FlexChoice(SM)
Variable Annuity contracts (form 271155), filed electronically as Exhibit
4.15 to American Enterprise Variable Annuity Account's Post-Effective
Amendment No. 6 to Registration Statement No. 333-85567 on form N-4, filed
on or about March 1, 2001, is incorporated by reference.
4.18 Form of Benefit Protector(SM) Plus Death Benefit Rider for the Wells Fargo
Advantage(SM) Variable Annuity, the Wells Fargo Advantage(SM) Builder
Variable Annuity, the American Express New Solutions (SM) Variable
Annuity, the American Express(R) Galaxy Premier Variable Annuity, the
American Express Pinnacle Variable Annuity(SM), the American Express(R)
Signature One Variable Annuity and the American Express FlexChoice(SM)
Variable Annuity contracts (form 271156), filed electronically as Exhibit
4.16 to American Enterprise Variable Annuity Account's Post-Effective
Amendment No. 6 to Registration Statement No. 333-85567 on form N-4, filed
on or about March 1, 2001, is incorporated by reference.
4.19 Form of Maximum Anniversary Value Death Benefit Rider for the American
Express New Solutions (SM) Variable Annuity (form 240346), filed
electronically as Exhibit 4.3 to American Enterprise Variable Annuity
Account's Pre-Effective Amendment No. 1 to Registration Statement No.
333-92297, filed on or about February 11, 2000, is incorporated by
reference.
4.20 Form of Roth IRA Endorsement for the Wells Fargo Advantage(SM) Variable
Annuity, the Wells Fargo Advantage(SM) Builder Variable Annuity, the
American Express Signature Variable Annuity(R), the American Express(R)
Signature One Variable Annuity, the American Express New Solutions (SM)
Variable Annuity, the American Express(R) Galaxy Premier Variable Annuity,
the American Express Pinnacle Variable Annuity(SM) and the American
Express FlexChoice(SM) Variable Annuity contracts (form 43094), filed
electronically as Exhibit 4.2 to American Enterprise Variable Annuity
Account's Pre-Effective Amendment No. 1 to Registration Statement No.
333-74865 on form N-4, filed on or about Aug. 4, 1999, incorporated by
reference.
4.21 Form of SEP-IRA for the Wells Fargo Advantage(SM) Variable Annuity, the
Wells Fargo Advantage(SM) Builder Variable Annuity, the American Express
(R) Signature One Variable Annuity, the American Express(R) Galaxy Premier
Variable Annuity, and the American Express Pinnacle Variable Annuity(SM)
(form 43412), filed electronically as Exhibit 4.3 to American Enterprise
Variable Annuity Account's Pre-Effective Amendment No. 1 to Registration
Statement No. 333-72777 on form N-4, filed on or about July 8, 1999, is
incorporated by reference.
E-3
4.22 Form of SEP-IRA for the American Express Signature Variable Annuity(R),
the American Express New Solutions(SM) Variable Annuity and the American
Express FlexChoice(SM) Variable Annuity contracts (form 43433) filed
electronically as Exhibit 4.3 to American Enterprise Variable Annuity
Account's Pre-Effective Amendment No. 1 to Registration Statement No.
333-74865 on form N-4, filed on or about Aug. 4, 1999, is incorporated by
reference.
4.23 Form of Disability Waiver of Withdrawal Charges Rider for the Wells Fargo
Advantage(SM) Variable Annuity, the Wells Fargo Advantage(SM) Builder
Variable Annuity and the American Express FlexChoice(SM) Variable Annuity
contracts (form 44215), filed electronically as Exhibit 4.5 to American
Enterprise Variable Annuity Account's Pre-Effective Amendment No. 1 to
Registration Statement No. 333-85567 on form N-4, filed on or about Nov.
4, 1999, is incorporated by reference.
4.24 Form of Unemployment Waiver of Withdrawal Charges Rider for the Wells
Fargo Advantage(SM) Variable Annuity and the Wells Fargo Advantage(SM)
Builder Variable Annuity (form 44216), to American Enterprise Variable
Annuity Account's Pre-Effective Amendment No. 1 to Registration
Statement No. 333-85567 on form N-4, filed on or about Nov. 4, 1999, is
incorporated by reference.
4.25 Form of TSA Endorsement for the Wells Fargo Advantage(SM) Variable
Annuity, the Wells Fargo Advantage(SM) Builder Variable Annuity, the
American Express Signature Variable Annuity(R) and the American Express
FlexChoice(SM) Variable Annuity contracts (form 43413), filed
electronically as Exhibit 4.4 to American Enterprise Variable Annuity
Account's Pre-Effective Amendment No. 1 to Registration Statement No.1 to
Registration Statement No. 333-72777 on form N-4, filed on or about July
8, 1999, is incorporated by reference.
4.26 Form of Traditional IRA or SEP-IRA Endorsement (form 272108), filed
electronically as Exhibit 4.11 to Post-Effective Amendment No. 10 to
Registration Statement No. 333-92297, is incorporated by reference.
4.27 Form of Roth IRA Endorsement (form 272109), filed electronically as
Exhibit 4.12 to Post-Effective Amendment No. 10 to Registration
Statement No. 333-92297, is incorporated by reference.
4.28 Form of Variable Annuity Unisex Endorsement (form 272110), filed
electronically as Exhibit 4.13 to the Post-Effective Amendment No. 10 to
Registration Statement No. 333-92297, is incorporated by reference.
*31.1 Certification of Mark E. Schwarzmann, Chief Executive Officer, pursuant to
Rule 13a-14(a) promulgated under the Securities Exchange Act of 1934, as
amended.
*31.2 Certification of Arthur H. Berman, Chief Financial Officer, pursuant to
Rule 13a-14(a) promulgated under the Securities Exchange Act of 1934, as
amended.
*32.1 Certification of Mark E. Schwarzmann, Chief Executive Officer, and Arthur
H. Berman, Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
* Filed electronically herewith.
E-4