AS FILED WITH SECURITIES AND EXCHANGE COMMISSION ON APRIL 27, 2005.
FILE NO. 333-65953
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
POST-EFFECTIVE AMENDMENT
NO. 18 ON FORM S-1 TO FORM S-3
UNDER THE SECURITIES ACT OF 1933
--------------------------------
AIG SUNAMERICA LIFE ASSURANCE COMPANY
("AIG SunAmerica Life")
(Exact Name of Registrant as specified in its Charter)
California 6311 86-0198983
(State or other (Primary Standard I.R.S. Employer
jurisdiction of incorporation or Industrial Classification Identification No.
organization) Number)
1 SUNAMERICA CENTER
LOS ANGELES, CALIFORNIA 90067-6022
(800) 871-2000
(Address, including zip code, and telephone number,
including area code, or registrant's principal executive offices)
CHRISTINE A. NIXON, ESQ.
AIG SUNAMERICA LIFE ASSURANCE COMPANY
1 SUNAMERICA CENTER
LOS ANGELES, CALIFORNIA 90067-6022
(800) 871-2000
(Name, address, including zip code, and telephone number,
including area code of agent for service)
--------------------------------
Approximate date of commencement of proposed sale to the public: As soon
after the effective date of this Registration Statement as is practicable.
If the only securities being registered on this form are being offered
pursuant to dividend or interest reinvestment plans, please check the following
box. [ ]
If any of the securities being registered on this form are to be offered
on a delayed or continuous basis pursuant to Rule 415 under the Securities Act
of 1933, other than securities offered only in connection with dividend or
interest reinvestment plans, check the following box. [X]
If this form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ] _____________
If this form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ] _____________
--------------------------------
The Registrant hereby amends this Registration Statement on such date or dates
as may be necessary to delay its effective date until the Registrant shall file
a further amendment which specifically states that this Registration Statement
shall thereafter become effective in accordance with Section 8(a) of the
Securities Act of 1933 or until the Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
shall determine.
AIG SUNAMERICA LIFE ASSURANCE COMPANY
- --------------------------------------------------------------------------------
VARIABLE ANNUITY ACCOUNT SEVEN
SUPPLEMENT TO THE POLARIS II A-CLASS PROSPECTUS (R-3476-PRO)
DATED AUGUST 30, 2004
================================================================================
THE DATE OF THE PROSPECTUS IS HEREBY CHANGED TO APRIL 29, 2005.
ALL REFERENCES IN THE PROSPECTUS TO THE DATE OF THE STATEMENT OF ADDITIONAL
INFORMATION ARE HEREBY CHANGED TO APRIL 29, 2005.
THE FOLLOWING IS ADDED TO THE GLOSSARY ON PAGE 3 OF THE PROSPECTUS:
Fixed Account - An account that we may offer in which you may invest money and
earn a fixed rate of return.
Market Close - The close of the New York Stock Exchange, usually 1:00 p.m.
Pacific Time.
Trust - Collectively refers to the American Funds Insurance Series, Anchor
Series Trust, Lord Abbett Series Fund, Inc., SunAmerica Series Trust and Van
Kampen Life Investment Trust.
Underlying Funds - The underlying investment portfolios of the Trusts in which
the Variable Portfolios invest.
THE FOLLOWING REPLACES THE PORTFOLIO EXPENSES IN THE FEE TABLES ON PAGE 5 OF THE
PROSPECTUS:
PORTFOLIO EXPENSES
TOTAL ANNUAL TRUST OPERATING EXPENSES MINIMUM MAXIMUM
(expenses that are deducted from the underlying
portfolios of the Trusts, including management
fees, other expenses and service (12b-1) fees,
if applicable).................................... 0.55% 1.60%
THE FOLLOWING REPLACES THE EXPENSE EXAMPLES ON PAGE 6 OF THE PROSPECTUS:
MAXIMUM AND MINIMUM EXPENSE EXAMPLES
MAXIMUM EXPENSE EXAMPLES
(assuming maximum separate account annual expenses of 1.10% (including Estate
Plus) and investment in an underlying portfolio with total expenses of 1.60%.).
(1) If you surrender your contract at the end of the applicable time period:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$832 $1,365 $1,923 $3,432
(2) If you annuitize your contract at the end of the applicable time period:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$234 $720 $1,230 $2,626
(3) If you do not surrender your contract:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$832 $1,365 $1,923 $3,432
MINIMUM EXPENSE EXAMPLES
(assuming minimum separate account annual expenses of 0.85% and investment in an
underlying portfolio with total expenses of 0.55%.)
(1) If you surrender your contract at the end of the applicable time period and
you do not elect any optional features:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$709 $993 $1,297 $2,158
(2) If you annuitize your contract at the end of the applicable time period:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$134 $418 $722 $1,583
1
(3) If you do not surrender your contract and you do not elect any optional
features:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$709 $993 $1,297 $2,158
THE FOLLOWING IS ADDED AS THE SECOND PARAGRAPH TO THE ASSET ALLOCATION PROGRAM -
REBALANCING SECTION ON PAGE 11 OF THE PROSPECTUS:
Over time, the asset allocation model you select may no longer align with its
original investment objective due to the effects of Variable Portfolio
performance and the ever-changing investment markets. In addition, your
investment needs may change. You should speak with your financial representative
about how to keep you Variable Portfolio allocations in line with your
investment goals.
THE ASSET ALLOCATION PROGRAM - ANNUAL RE-EVALUATION PARAGRAPH ON PAGE 11 OF THE
PROSPECTUS IS DELETED IN ITS ENTIRETY.
THE FOLLOWING REPLACES THE SECTION ENTITLED TRANSFERS DURING THE ACCUMULATION
PHASE ON PAGE 12 OF THE PROSPECTUS:
TRANSFERS DURING THE ACCUMULATION PHASE
Subject to our rules, restrictions and policies, during the Accumulation Phase
you may transfer funds between the Variable Portfolios and/or any available
Fixed Account options by telephone or through the Company's website
(http://www.aigsunamerica.com) or in writing by mail or facsimile. All transfer
instructions submitted via facsimile must be sent to (818) 615-1543, otherwise
they will not be considered received by us. We may accept transfers by telephone
or the Internet unless you tell us not to on your contract application. When
receiving instructions over the telephone or the Internet, we follow procedures
we have adopted to provide reasonable assurance that the transactions executed
are genuine. Thus, we are not responsible for any claim, loss or expense from
any error resulting from instructions received over the telephone or the
Internet. If we fail to follow our procedures, we may be liable for any losses
due to unauthorized or fraudulent instructions.
Any transfer request will be priced as of the day it is confirmed in good order
by us if the request is processed before Market Close. If the transfer request
is processed after Market Close, the request will be priced as of the next
business day.
Funds already in your contract cannot be transferred into the DCA Fixed
Accounts. You must transfer at least $100 per transfer. If less than $100
remains in any Variable Portfolio after a transfer, that amount must be
transferred as well.
TRANSFER POLICIES
We do not want to issue this variable annuity contract to contract owners
engaged in trading strategies that seek to benefit from short-term price
fluctuations or price inefficiencies in the Variable Portfolios of this product
("Short-Term Trading") and we discourage Short-Term Trading as more fully
described below. However, we cannot always anticipate if a potential contract
owner intends to engage in Short-Term Trading. Short-Term Trading may create
risks that may result in adverse effects on investment return of an underlying
fund. Such risks may include, but are not limited to: (1) interference with the
management and planned investment strategies of an Underlying Fund and/or (2)
increased brokerage and administrative costs due to forced and unplanned fund
turnover; both of which may dilute the value of the shares in the Underlying
Fund and reduce value for all investors in the Variable Portfolio. In addition
to negatively impacting the contract owner, a reduction in contract value may
also be harmful to annuitants and/or beneficiaries.
We have adopted the following administrative procedures to discourage Short-Term
Trading.
2
We charge for transfers in excess of 15 in any contract year. Currently, the fee
is $25 for each transfer exceeding this limit. Transfers resulting from your
participation in the DCA or Asset Rebalancing programs are not counted towards
the number of free transfers per contract year.
In addition to charging a fee when you exceed 15 transfers as described in the
preceding paragraph, all transfer request in excess of 15 transfers per contract
year must be submitted in writing by United States Postal Service first-class
mail ("U.S. Mail") until your next contract anniversary ("Standard U. S. Mail
Policy"). We will not accept transfer requests sent by any other medium except
U.S. Mail until your next contract anniversary. Transfer requests required to be
submitted by U.S. Mail can only be cancelled by a written request sent by U.S.
Mail with the appropriate paperwork received prior to the execution of the
transfer. All transfers made on the same day prior to Market Close are
considered one transfer request. Transfers resulting from your participation in
the DCA or Asset Rebalancing programs are not included for the purposes of
determining the number of transfers before applying the Standard U.S. Mail
Policy. We apply the Standard U.S. Mail Policy uniformly and consistently to all
contract owners except for omnibus group contracts and contracts utilizing third
party asset allocation services as described below.
We believe that the Standard U. S. Mail Policy is a sufficient deterrent to
Short-Term Trading and we do not conduct any additional routine monitoring.
However, we may become aware of transfer patterns among the Variable Portfolios
and/or available Fixed Accounts which reflect what we consider to be Short-Term
Trading or otherwise detrimental to the Variable Portfolios but have not
triggered the limitations of the Standard U.S. Mail Policy described above. If
such transfer activity cannot be controlled by the Standard U.S. Mail Policy, we
may require you to adhere to our Standard U.S. Mail Policy prior to reaching the
specified number of transfers ("Accelerated U.S. Mail Policy"). To the extent we
become aware of Short-Term Trading activities which cannot be reasonably
controlled by the Standard U.S. Mail Policy or the Accelerated U.S. Mail Policy,
we also reserve the right to evaluate, in our sole discretion, whether to impose
further limits on the number and frequency of transfers you can make, impose
minimum holding periods and/or reject any transfer request or terminate your
transfer privileges. We will notify you in writing if your transfer privileges
are terminated. In addition, we reserve the right to not accept transfers from a
third party acting for you and not to accept preauthorized transfer forms. Some
of the factors we may consider when determining whether to accelerate the
Standard U.S. Mail Policy, reject or impose other conditions on transfer
privileges include:
(1) the number of transfers made in a defined period;
(2) the dollar amount of the transfer;
(3) the total assets of the Variable Portfolio involved in the transfer
and/or transfer requests that represent a significant portion of the
total assets of the Variable Portfolio;
(4) the investment objectives and/or asset classes of the particular Variable
Portfolio involved in your transfers;
(5) whether the transfer appears to be part of a pattern of transfers to take
advantage of short-term market fluctuations or market inefficiencies;
and/or
(6) other activity, as determined by us, that creates an appearance, real or
perceived, of Short-Term Trading.
Notwithstanding the administrative procedures above, there are limitations on
the effectiveness of these procedures. Our ability to detect and/or deter
Short-Term Trading is limited by operational systems and technological
limitations. We cannot guarantee that we will detect and/or deter all Short-Term
Trading. To the extent that we are unable to detect and/or deter Short-Term
Trading, the Variable Portfolios may be negatively impacted as described above.
Additionally, the Variable Portfolios may be harmed by transfer activity related
to other insurance companies and/or retirement plans or other investors that
invest in shares of the Underlying Fund. You should be aware that the design of
our administrative procedures involves inherently subjective decisions, which we
attempt to make in a fair and reasonable manner consistent with the interests of
all owners of this contract. We do not enter into agreements with contract
owners whereby we permit or intentionally disregard Short-Term Trading.
The Standard and Accelerated U.S. Mail Policies are applied uniformly and
consistently to contract owners utilizing third party trading services
performing asset allocation services for a number of contract owners at the same
time
3
except for purposes of calculating the number of transfers for the Standard
U.S. Mail Policy. A calendar year will be used (instead of a contract year) for
these contracts. You should be aware that such third party trading services may
engage in transfer activities that can also be detrimental to the Variable
Portfolios. These transfer activities may not be intended to take advantage of
short-term price fluctuations or price inefficiencies. However, such activities
can create the same or similar risks to Short-Term Trading and negatively impact
the Variable Portfolios as described above.
Omnibus group contracts may invest in the same Underlying Funds available in
your contract but on an aggregate, not individual basis. Thus, we have limited
ability to detect Short-Term Trading in omnibus group contracts and the Standard
U.S. Mail Policy does not apply to these contracts. Our inability to detect
Short-Term Trading may negatively impact the Variable Portfolios as described
above.
WE RESERVE THE RIGHT TO MODIFY THE POLICIES AND PROCEDURES DESCRIBED IN THIS
SECTION AT ANY TIME. To the extent that we exercise this reservation of rights,
we will do so uniformly and consistently unless we disclose otherwise.
For information regarding transfers during the Income Phase, SEE INCOME OPTIONS
BELOW.
THE FOLLOWING IS ADDED TO THE RIGHTS OF ACCUMULATION SECTION ON PAGE 19 OF THE
PROSPECTUS:
Qualifying investments must be held in an account at your financial
representative's firm and for which such firm is the broker of record.
THE FOLLOWING IS ADDED AS THE LAST PARAGRAPH OF THE GENERAL ACCOUNT SECTION ON
PAGE 26 OF THE PROSPECTUS:
The Company has a support agreement in effect between the Company and its
ultimate parent company, American International Group, Inc. ("AIG"), and the
Company's insurance policy obligations are guaranteed by American Home Assurance
Company, a subsidiary of AIG. See the Statement of Additional Information for
more information regarding these arrangements.
THE FOLLOWING REPLACES THE SECTION ENTITLED PAYMENTS IN CONNECTION WITH
DISTRIBUTION OF THE CONTRACT ON PAGE 26 OF THE PROSPECTUS:
PAYMENTS IN CONNECTION WITH DISTRIBUTION OF THE CONTRACT
PAYMENTS TO BROKER-DEALERS
Registered representatives of broker-dealers sell the contract. We pay
commissions to the broker-dealers for the sale of your contract ("Contract
Commissions"). There are different structures by which a broker-dealer can
choose to have their Contract Commissions paid. For example, as one option, we
may pay upfront Contract Commission only, that may be up to a maximum 5.0% of
each Purchase Payment you invest (which may include promotional amounts).
Another option may be a lower upfront Contract Commission on each Purchase
Payment, with a trail commission of up to a maximum 1.0% of contract value
annually. Generally, the higher the upfront commissions, the lower the trail and
vice versa. We pay Contract Commissions directly to the broker-dealer with whom
your registered representative is affiliated. Registered representatives may
receive a portion of these amounts we pay in accordance with any agreement in
place between the registered representative and his/her broker-dealer firm.
We may pay broker-dealers support fees in the form of additional cash or
non-cash compensation. These payments may be intended to reimburse for specific
expenses incurred or may be based on sales, certain assets under management,
longevity of assets invested with us or a flat fee. These payments may be
consideration for, among other things, product placement/preference, greater
access to train and educate the firm's registered representatives about our
products, our participation in sales conferences and educational seminars and
allowing broker-dealers to perform due diligence on our products. The amount of
these fees may be tied to the anticipated level of our access in that firm. We
enter into such arrangements in our discretion and we may negotiate customized
arrangements with firms, including affiliated and non-affiliated broker-dealers
based on various factors. We do not deduct these amounts directly from your
Purchase Payments. We anticipate recovering these amounts from the fees and
charges collected under the contract.
4
Contract commissions and other support fees may influence the way that a
broker-dealer and its registered representatives market the contracts and
service customers who purchase the contracts and may influence the broker-
dealer and its registered representatives to present this contract over others
available in the market place. You should discuss with your broker-dealer and/or
registered representative how they are compensated for sales of a contract
and/or any resulting real or perceived conflicts of interest.
AIG SunAmerica Capital Services, Inc., Harborside Financial Center, 3200 Plaza
5, Jersey City, NJ 07311-4992, distributes the contracts. AIG SunAmerica Capital
Services, an affiliate of AIG SunAmerica Life, is a registered broker-dealer
under the Exchange Act of 1934 and is a member of the National Association of
Securities Dealers, Inc. No underwriting fees are paid in connection with the
distribution of the contracts.
PAYMENTS WE RECEIVE
In addition to amounts received pursuant to established 12b-1 Plans from the
Underlying Funds, we receive compensation of up to 0.50% annually based on
assets under management from certain Trusts' investment advisers or their
affiliates for services related to the availability of the Underlying Funds in
the contract. We receive such payments in connection with each of the Trusts
available in this Contract with the exception of AFIS. Such amounts received
from our affiliate, AIG SAAMCo, are paid pursuant to a profit sharing agreement
and is not expected to exceed 0.50%. Furthermore, certain investment advisers
and/or subadvisers may help offset the costs we incur for training to support
sales of the Underlying Funds in the contract.
THE FOLLOWING REPLACES THE LEGAL PROCEEDINGS SECTION IN ITS ENTIRETY ON PAGE 27
OF PROSPECTUS:
There are no pending legal proceedings affecting the Separate Account. The
Company and its subsidiaries are parties to various kinds of litigation
incidental to their respective business operations. In management's opinion,
these matters are not material in relation to the financial position of the
Company with the exception of the matter disclosed below.
A purported class action captioned Nitika Mehta, as Trustee of the N.D. Mehta
Living Trust vs. AIG SunAmerica Life Assurance Company, Case 04L0199, was filed
on April 5, 2004 in the Circuit Court, Twentieth Judicial District in St. Clair
County, Illinois. The action has been transferred to and is currently pending in
the United States District Court for the District of Maryland, Case No.
04-md-15863, as part of a Multi-District Litigation proceeding. The lawsuit
alleges certain improprieties in conjunction with alleged market timing
activities. The probability of any particular outcome cannot be reasonably
estimated at this time.
AIG has announced that it has delayed filing its Annual Report on Form 10-K for
the year ended December 31, 2004 to allow AIG's Board of Directors and new
management adequate time to complete an extensive review of AIG's books and
records. The review includes issues arising from pending investigations into
non-traditional insurance products and certain assumed reinsurance transactions
by the Office of the Attorney General for the State of New York and the
Securities and Exchange Commission and from AIG's decision to review the
accounting treatment of certain additional items. Circumstances affecting AIG
can have an impact on the Company. For example, the recent downgrades and
ratings actions taken by the major rating agencies with respect to AIG resulted
in corresponding downgrades and ratings actions being taken with respect to the
Company's ratings. Accordingly, we can give no assurance that any further
changes in circumstances for AIG will not impact us.
Date: April 29, 2005
Please keep this Supplement with your Prospectus.
5
[POLARIS(II) A - CLASS LOGO]
PROSPECTUS
AUGUST 30, 2004
<Table>
Please read this prospectus carefully FLEXIBLE PAYMENT DEFERRED ANNUITY CONTRACTS
before investing and keep it for issued by
future reference. It contains AIG SUNAMERICA LIFE ASSURANCE COMPANY
important information about the in connection with
Polaris(II) A-Class Variable Annuity. VARIABLE ANNUITY ACCOUNT SEVEN
The annuity has several investment choices -- fixed account options and
To learn more about the annuity Variable Portfolios listed below. The fixed account options include
offered by this prospectus, you can different specified periods and DCA accounts. The Variable Portfolios are
obtain a copy of the Statement of part of the American Funds Insurance Series ("AFIS"), the Anchor Series
Additional Information ("SAI") dated Trust ("AST"), the Lord Abbett Series Fund, Inc. ("LASF"), the SunAmerica
August 30, 2004. The SAI is on file Series Trust ("SAST") and the Van Kampen Life Investment Trust ("VKT").
with the Securities and Exchange
Commission ("SEC") and is STOCKS:
incorporated by reference into this MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
prospectus. The Table of Contents of - Aggressive Growth Portfolio SAST
the SAI appears below in this - Blue Chip Growth Portfolio SAST
prospectus. For a free copy of the - "Dogs" of Wall Street Portfolio* SAST
SAI, call us at (800) 445-SUN2 or - Growth Opportunities Portfolio SAST
write to us at our Annuity Service MANAGED BY ALLIANCE CAPITAL MANAGEMENT L.P.
Center, P.O. Box 54299, Los Angeles, - Alliance Growth Portfolio SAST
California 90054-0299. - Global Equities Portfolio SAST
- Growth-Income Portfolio SAST
In addition, the SEC maintains a MANAGED BY CAPITAL RESEARCH AND MANAGEMENT COMPANY
website (http://www.sec.gov) that - American Funds Global Growth Portfolio AFIS
contains the SAI, materials - American Funds Growth Portfolio AFIS
incorporated by reference and other - American Funds Growth-Income Portfolio AFIS
information filed electronically with MANAGED BY DAVIS ADVISORS
the SEC by AIG SunAmerica Life - Davis Venture Value Portfolio SAST
Assurance Company. - Real Estate Portfolio SAST
MANAGED BY FEDERATED EQUITY MANAGEMENT COMPANY
Annuities involve risks, including - Federated American Leaders Portfolio* SAST
possible loss of principal. Annuities - Telecom Utility Portfolio SAST
are not a deposit or obligation of, MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT
or guaranteed or endorsed by, any - Goldman Sachs Research Portfolio SAST
bank. They are not Federally insured MANAGED BY LORD, ABBETT & CO.
by the Federal Deposit Insurance - Lord Abbett Series Fund, Inc. -- Growth and Income Portfolio LASF
Corporation, the Federal Reserve - Lord Abbett Series Fund, Inc. -- Mid-Cap Value Portfolio LASF
Board or any other agency. MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Massachusetts Investors Trust Portfolio SAST
- MFS Mid-Cap Growth Portfolio SAST
MANAGED BY PUTNAM INVESTMENT MANAGEMENT LLC
- Emerging Markets Portfolio SAST
- International Growth and Income Portfolio SAST
- Putnam Growth: Voyager Portfolio SAST
MANAGED BY VAN KAMPEN/VAN KAMPEN ASSET MANAGEMENT
- International Diversified Equities Portfolio SAST
- Technology Portfolio SAST
- Van Kampen LIT Comstock Portfolio,
Class II Shares* VKT
- Van Kampen LIT Emerging Growth Portfolio,
Class II Shares VKT
- Van Kampen LIT Growth and Income Portfolio,
Class II Shares VKT
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Capital Appreciation Portfolio AST
- Growth Portfolio AST
BALANCED:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- SunAmerica Balanced Portfolio SAST
MANAGED BY CAPITAL RESEARCH AND MANAGEMENT COMPANY
- American Funds Asset Allocation Portfolio AFIS
MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Total Return Portfolio SAST
MANAGED BY WM ADVISORS, INC.
- Asset Allocation Portfolio AST
BONDS:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- High-Yield Bond Portfolio SAST
MANAGED BY FEDERATED INVESTMENT MANAGEMENT
- Corporate Bond Portfolio SAST
MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT INT'L.
- Global Bond Portfolio SAST
MANAGED BY VAN KAMPEN
- Worldwide High Income Portfolio SAST
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Government & Quality Bond Portfolio AST
CASH:
MANAGED BY BANC OF AMERICA CAPITAL MANAGEMENT, LLC
- Cash Management Portfolio SAST
* "Dogs" of Wall Street is an equity fund seeking total return. Federated
American Leaders is an equity fund seeking growth of capital and income.
Van Kampen LIT Comstock is an equity fund seeking capital growth and
income.
</Table>
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION, NOR HAS THE COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY
OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<Table>
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TABLE OF CONTENTS
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GLOSSARY....................................................... 2
HIGHLIGHTS..................................................... 3
FEE TABLES..................................................... 4
Maximum Owner Transaction Expenses....................... 4
Maximum Sales Charge..................................... 4
Contract Maintenance Fee................................. 4
Separate Account Annual Expenses......................... 4
Portfolio Expenses....................................... 4
EXAMPLES....................................................... 5
THE POLARIS(II) A-CLASS VARIABLE ANNUITY....................... 6
PURCHASING A POLARIS(II) A-CLASS VARIABLE ANNUITY.............. 6
Allocation of Purchase Payments.......................... 7
Accumulation Units....................................... 7
Right to Examine......................................... 7
Exchange Offers.......................................... 7
INVESTMENT OPTIONS............................................. 8
Variable Portfolios...................................... 8
Anchor Series Trust.................................. 8
SunAmerica Series Trust.............................. 8
Lord Abbett Series Fund, Inc. ....................... 8
Van Kampen Life Investment Trust..................... 8
American Funds Insurance Series...................... 8
Fixed Account Options.................................... 9
Dollar Cost Averaging Fixed Accounts..................... 9
Asset Allocation Program................................. 10
Transfers During the Accumulation Phase.................. 11
Dollar Cost Averaging Program............................ 11
Automatic Asset Rebalancing Program...................... 12
Return Plus Program...................................... 12
Voting Rights............................................ 13
Substitution............................................. 13
ACCESS TO YOUR MONEY........................................... 13
Systematic Withdrawal Program............................ 13
Minimum Contract Value................................... 13
DEATH BENEFIT.................................................. 13
General Information About Death Benefits................. 13
Death Benefit Options.................................... 15
EstatePlus............................................... 15
Spousal Continuation..................................... 16
EXPENSES....................................................... 16
Separate Account Charges................................. 17
Sales Charge............................................. 17
Reducing Your Sales Charges.............................. 17
Rights of Accumulation................................... 18
Purchase Payments Subject to a Withdrawal Charge......... 18
Investment Charges....................................... 19
Transfer Fee............................................. 19
Optional EstatePlus Fee.................................. 19
Premium Tax.............................................. 19
Income Taxes............................................. 19
Reduction or Elimination of Charges and Expenses,
and Additional Amounts Credited......................... 19
INCOME OPTIONS................................................. 19
Annuity Date............................................. 19
Income Options........................................... 20
Fixed or Variable Income Payments........................ 20
Income Payments.......................................... 20
Transfers During the Income Phase........................ 21
Deferment of Payments.................................... 21
The Income Protector Feature............................. 21
TAXES.......................................................... 22
Annuity Contracts in General............................. 22
Tax Treatment of Distributions - Non-Qualified
Contracts............................................... 22
Tax Treatment of Distributions - Qualified Contracts..... 22
Minimum Distributions.................................... 23
Tax Treatment of Death Benefits.......................... 23
Contracts Owned by a Trust or Corporation................ 24
Gifts, Pledges and/or Assignments of a Contract.......... 24
Diversification and Investor Control..................... 24
PERFORMANCE.................................................... 24
OTHER INFORMATION.............................................. 25
The Separate Account..................................... 25
The General Account...................................... 25
Payments in Connection with Distribution of the
Contract................................................ 25
Administration........................................... 25
Legal Proceedings........................................ 26
TABLE OF CONTENTS OF STATEMENT OF ADDITIONAL
INFORMATION.................................................. F-56
APPENDIX A -- CONDENSED FINANCIAL INFORMATION.................. A-1
APPENDIX B -- DEATH BENEFITS FOLLOWING SPOUSAL CONTINUATION.... B-1
APPENDIX C -- HYPOTHETICAL EXAMPLE OF THE OPERATION OF THE
INCOME PROTECTOR FEATURE..................................... C-1
APPENDIX D -- DEATH BENEFIT OPTIONS FOR CONTRACTS ISSUED BEFORE
JUNE 1, 2004 OR PURCHASED IN CERTAIN STATES.................. D-1
APPENDIX E -- MARKET VALUE ADJUSTMENT ("MVA").................. E-1
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GLOSSARY
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We have capitalized some of the technical terms used in this
prospectus. To help you understand these terms, we have defined them
in this glossary.
ACCUMULATION PHASE - The period during which you invest money in your
contract.
ACCUMULATION UNITS - A measurement we use to calculate the value of
the variable portion of your contract during the Accumulation Phase.
ANNUITANT(S) - The person(s) on whose life (lives) we base income
payments.
ANNUITY DATE - The date on which income payments are to begin, as
selected by you.
ANNUITY UNITS - A measurement we use to calculate the amount of income
payments you receive from the variable portion of your contract during
the Income Phase.
BENEFICIARY - The person designated to receive any benefits under the
contract if you or the Annuitant dies.
COMPANY - AIG SunAmerica Life Assurance Company, AIG SunAmerica Life,
we, us, the issuer of this annuity contract. Only "AIG SunAmerica
Life" is a capitalized term in the prospectus.
GROSS PURCHASE PAYMENTS - The money you give us to buy the contract,
as well as any additional money you give us to invest in the contract
after you own it. Gross Purchase Payments do not reflect the reduction
of the sales charge.
INCOME PHASE - The period during which we make income payments to you.
IRS - The Internal Revenue Service.
LATEST ANNUITY DATE - Your 95th birthday or tenth contract
anniversary, whichever is later.
NON-QUALIFIED (CONTRACT) - A contract purchased with after-tax
dollars. In general, these contracts are not under any pension plan,
specially sponsored program or individual retirement account ("IRA").
PURCHASE PAYMENTS - The portion of your Gross Purchase Payments which
we invest in your contract. We calculate this amount by deducting the
applicable sales charge from your Gross Purchase Payments.
QUALIFIED (CONTRACT) - A contract purchased with pre-tax dollars.
These contracts are generally purchased under a pension plan,
specially sponsored program or IRA.
TRUSTS - Refers to the American Funds Insurance Series, the Anchor
Series Trust, the Lord Abbett Series Fund, Inc., the SunAmerica Series
Trust and the Van Kampen Life Investment Trust collectively.
VARIABLE PORTFOLIO(S) - The variable investment options available
under the contract. Each Variable Portfolio has its own investment
objective and is invested in the underlying investments of the
American Funds Insurance Series, the Anchor Series Trust, the Lord
Abbett Series Fund, Inc., the SunAmerica Series Trust and the Van
Kampen Life Investment Trust. The underlying investment portfolio may
be referred to as Underlying Funds.
</Table>
2
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
HIGHLIGHTS
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
The Polaris(II) A-Class Variable Annuity is a contract between you and AIG
SunAmerica Life Assurance Company ("AIG SunAmerica Life"). It is designed to
help you invest on a tax-deferred basis and meet long-term financial goals.
There are minimum Purchase Payment amounts required to purchase a contract.
Purchase Payments may be invested in a variety of variable and fixed account
options. Like all deferred annuities, the contract has an Accumulation Phase and
an Income Phase. During the Accumulation Phase, you invest money in your
contract. The Income Phase begins when you start receiving income payments from
your annuity to provide for your retirement.
RIGHT TO EXAMINE: You may cancel your contract within 10 days after receiving it
(or whatever period is required in your state). You will receive whatever your
contract is worth on the day that we receive your request plus any sales charge
we deducted. The amount refunded may be more or less than your original Purchase
Payment. We will return your original Purchase Payment if required by law.
Please see PURCHASING A POLARIS(II) A-CLASS VARIABLE ANNUITY in the prospectus.
EXPENSES: There are fees and charges associated with the contract. We deduct
separate account charges which equal 0.85% annually of the average daily value
of your contract allocated to the Variable Portfolios. There are investment
charges on amounts invested in the Variable Portfolios. If you elect optional
features available under the contract we may charge additional fees for those
features. We apply an up-front sales charge against Gross Purchase Payments you
make to your contract. The sales charge equals a percentage of each Gross
Purchase Payment and varies with your investment amount. Please see the FEE
TABLE, PURCHASING A POLARIS(II) A-CLASS VARIABLE ANNUITY and EXPENSES in the
prospectus.
ACCESS TO YOUR MONEY: You may withdraw money from your contract during the
Accumulation Phase. If you do so, earnings are deemed to be withdrawn first. You
will pay income taxes on earnings and untaxed contributions when you withdraw
them. Payments received during the Income Phase are considered partly a return
of your original investment. A federal tax penalty may apply if you make
withdrawals before age 59 1/2. Please see ACCESS TO YOUR MONEY and TAXES in the
prospectus.
DEATH BENEFIT: A death benefit feature is available under the contract to
protect your Beneficiaries in the event of your death during the Accumulation
Phase. Please see DEATH BENEFITS in the prospectus.
INCOME OPTIONS: When you are ready to begin taking income, you can choose to
receive income payments on a variable basis, fixed basis or a combination of
both. You may also chose from five different income options, including an option
for income that you cannot outlive. Please see INCOME OPTIONS in the prospectus.
INQUIRIES: If you have questions about your contract call your financial
representative or contact us at AIG SunAmerica Life Assurance Company Annuity
Service Center P.O. Box 54299 Los Angeles, California 90054-0299. Telephone
Number: (800) 445-SUN2.
AIG SUNAMERICA LIFE OFFERS SEVERAL VARIABLE ANNUITY PRODUCTS TO MEET THE DIVERSE
NEEDS OF OUR INVESTORS. EACH PRODUCT MAY PROVIDE DIFFERENT FEATURES AND BENEFITS
OFFERED AT DIFFERENT FEES, CHARGES AND EXPENSES. WHEN WORKING WITH YOUR
FINANCIAL REPRESENTATIVE TO DETERMINE THE BEST PRODUCT TO MEET YOUR NEEDS, YOU
SHOULD CONSIDER, AMONG OTHER THINGS, WHETHER THE FEATURES OF THIS CONTRACT AND
THE RELATED FEES PROVIDE THE MOST APPROPRIATE PACKAGE TO HELP YOU MEET YOUR
LONG-TERM RETIREMENT SAVINGS GOALS.
PLEASE READ THE PROSPECTUS CAREFULLY FOR MORE DETAILED INFORMATION REGARDING
THESE AND OTHER FEATURES AND BENEFITS OF THE CONTRACT, AS WELL AS THE RISKS OF
INVESTING.
3
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
FEE TABLES
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
THE FOLLOWING DESCRIBES THE FEES AND EXPENSES THAT YOU WILL PAY AT THE TIME THAT
YOU BUY THE CONTRACT, TRANSFER CASH VALUE BETWEEN INVESTMENT OPTIONS OR
SURRENDER THE CONTRACT. IF APPLICABLE, YOU MAY ALSO BE SUBJECT TO STATE PREMIUM
TAXES.
MAXIMUM OWNER TRANSACTION EXPENSES
MAXIMUM SALES CHARGE
<Table>
(AS A PERCENTAGE OF EACH GROSS PURCHASE PAYMENT)(1)....... 5.75%
</Table>
<Table>
TRANSFER FEE......................... No charge for the first 15 transfers
each contract year; thereafter,
the fee is $25 ($10 in
Pennsylvania and Texas) per
transfer
</Table>
THE FOLLOWING DESCRIBES THE FEES AND EXPENSES THAT YOU WILL PAY PERIODICALLY
DURING THE TIME THAT YOU OWN THE CONTRACT, NOT INCLUDING UNDERLYING PORTFOLIO
FEES AND EXPENSES WHICH ARE OUTLINED IN THE NEXT SECTION.
CONTRACT MAINTENANCE FEE.................................................. None
SEPARATE ACCOUNT ANNUAL EXPENSES
(DEDUCTED DAILY AS A PERCENTAGE OF YOUR AVERAGE DAILY NET ASSET VALUE)
<Table>
Mortality and Expense Risk Fees....................... 0.70%
Distribution Expense Charge........................... 0.15%
Optional EstatePlus Fee(2)............................ 0.25%
-----
TOTAL SEPARATE ACCOUNT ANNUAL EXPENSES.............. 1.10%
=====
</Table>
FOOTNOTES TO THE FEE TABLES
(1) Your Gross Purchase Payment may qualify for a reduced sales charge. SEE
EXPENSES SECTION.
<Table>
<Caption>
SALES CHARGE AS A
INVESTMENT AMOUNT (AS DEFINED IN SALES PERCENTAGE OF GROSS
CHARGE SECTION) PURCHASE PAYMENT INVESTMENT
----------------------------- ---------------------------
Less than $50,000...................... 5.75%
$50,000 but less than $100,000......... 4.75%
$100,000 but less than $250,000........ 3.50%
$250,000 but less than $500,000........ 2.50%
$500,000 but less than $1,000,000...... 2.00%
$1,000,000 or more..................... 0.50%(2)
</Table>
A withdrawal charge of 0.50% applies to Gross Purchase Payments subject to a
0.50% sales charge if invested less than 12 months at the time of withdrawal.
(2) EstatePlus, an earnings enhancement death benefit feature is optional. If
you do not elect the EstatePlus feature, your total separate account annual
expenses would be 0.85%.
THE FOLLOWING SHOWS THE MINIMUM AND MAXIMUM TOTAL OPERATING EXPENSES CHARGED BY
THE UNDERLYING PORTFOLIOS OF THE TRUSTS BEFORE ANY WAIVERS OR REIMBURSEMENTS
THAT YOU MAY PAY PERIODICALLY DURING THE TIME THAT YOU OWN THE CONTRACT. MORE
DETAIL CONCERNING TRUSTS' FEES AND EXPENSES IS CONTAINED IN THE PROSPECTUS FOR
EACH THE TRUSTS. PLEASE READ THEM CAREFULLY BEFORE INVESTING.
PORTFOLIO EXPENSES
<Table>
<Caption>
TOTAL ANNUAL TRUST OPERATING EXPENSES MINIMUM MAXIMUM
- ------------------------------------- ------- -------
(expenses that are deducted from Trust assets, including
management fees, 12b-1 fees, and other expenses)............ 0.54% 1.66%
</Table>
4
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- --------------------------------------------------------------------------------
MAXIMUM AND MINIMUM EXPENSE EXAMPLES
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
These Examples are intended to help you compare the cost of investing in the
contract with the cost of investing in other variable annuity contracts. These
costs include owner transaction expenses, separate account annual expenses, fees
for optional features and fees and expenses of the underlying portfolios of the
Trusts.
The Examples assume that you invest $10,000 in the contract for the time periods
indicated; that your investment has a 5% return each year; and that the maximum
and minimum fees and expenses of the underlying portfolios of the Trusts are
reflected. Although your actual costs may be higher or lower, based on these
assumptions, your costs at the end of the stated period would be:
MAXIMUM EXPENSE EXAMPLES
(ASSUMING MAXIMUM SEPARATE ACCOUNT ANNUAL EXPENSES OF 1.10% (INCLUDING ESTATE
PLUS) AND INVESTMENT IN AN UNDERLYING PORTFOLIO WITH TOTAL EXPENSES OF 1.66%)
(1) If you surrender your contract at the end of the applicable time period and
you elect the optional Estate Plus (0.25%) feature:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$838 $1,382 $1,950 $3,487
- ---------------------------------------------
- ---------------------------------------------
</Table>
(2) If you annuitize your contract at the end of the applicable time period:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$240 $737 $1,259 $2,682
- ---------------------------------------------
- ---------------------------------------------
</Table>
(3) If you do not surrender your contract and you elect the optional Estate Plus
(0.25%) feature:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$838 $1,382 $1,950 $3,487
- ---------------------------------------------
- ---------------------------------------------
</Table>
MINIMUM EXPENSE EXAMPLES
(ASSUMING MINIMUM SEPARATE ACCOUNT ANNUAL EXPENSES OF 0.85% AND INVESTMENT IN AN
UNDERLYING PORTFOLIO WITH TOTAL EXPENSES OF 0.54%)
(1) If you surrender your contract at the end of the applicable time period and
you do not elect any optional features:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$708 $990 $1,292 $2,148
- ---------------------------------------------
- ---------------------------------------------
</Table>
(2) If you annuitize your contract at the end of the applicable time period:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$133 $415 $717 $1,573
- ---------------------------------------------
- ---------------------------------------------
</Table>
(3) If you do not surrender your contract and you do not elect any optional
features:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$708 $990 $1,292 $2,148
- ---------------------------------------------
- ---------------------------------------------
</Table>
EXPLANATION OF FEE TABLES AND EXAMPLES
1. The purpose of the Fee Tables is to show you the various expenses you would
incur directly and indirectly by investing in the contract. The tables
represented both fees at the separate account level as well as underlying
portfolio fees. Additional information on the underlying portfolio fees can
be found in the Trust prospectuses.
2. In addition to the stated assumptions, the Examples also assume separate
account charges as indicated and that no transfer fees were imposed. A
maximum sales charge of 5.75% is used in both the maximum and minimum
examples because of the $10,000 investment amount. Your expenses may be
lower if you are subject to a lower sales charge. Although premium taxes may
apply in certain states, they are not reflected in the Examples.
3. THESE EXAMPLES SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN.
THE HISTORICAL ACCUMULATION VALUES ARE CONTAINED IN APPENDIX A -- CONDENSED
FINANCIAL INFORMATION.
5
- ----------------------------------------------------------------
- ----------------------------------------------------------------
THE POLARIS(II) A-CLASS VARIABLE ANNUITY
- ----------------------------------------------------------------
- ----------------------------------------------------------------
An annuity is a contract between you and an insurance company. You are the owner
of the contract. The contract provides three main benefits:
- Tax Deferral: This means that you do not pay taxes on your earnings from
the annuity until you withdraw them.
- Death Benefit: If you die during the Accumulation Phase, the insurance
company pays a death benefit to your Beneficiary.
- Guaranteed Income: If elected, you receive a stream of income for your
lifetime, or another available period you select.
Tax-qualified retirement plans (e.g., IRAs, 401(k) or 403(b) plans) defer
payment of taxes on earnings until withdrawal. If you are considering funding a
tax-qualified retirement plan with an annuity, you should know that an annuity
does not provide any additional tax deferral treatment of earnings beyond the
treatment provided by the tax-qualified retirement plan itself. However,
annuities do provide other features and benefits which may be valuable to you.
You should fully discuss your purchase decision with your financial
representative.
This annuity was developed to help you contribute to your retirement savings.
This annuity works in two stages, the Accumulation Phase and the Income Phase.
Your contract is in the Accumulation Phase during the period when you make
payments into the contract. The Income Phase begins when you request us to start
making income payments to you out of the money accumulated in your contract.
The contract is called a "variable" annuity because it allows you to invest in
portfolios which, like mutual funds, vary with market conditions. You can gain
or lose money if you invest in these Variable Portfolios. The amount of money
you accumulate in your contract depends on the performance of the Variable
Portfolios in which you invest.
The contract may offer fixed account options, if available, earn interest at a
rate set and guaranteed by AIG SunAmerica Life. If you allocate money to the
fixed account options, the amount of money that accumulates in the contract
depends on the total interest credited to the particular fixed account option(s)
in which you invest.
For more information on investment options available under this contract SEE
INVESTMENT OPTIONS BELOW.
This annuity is designed to assist in contributing to retirement savings of
investors whose personal circumstances allow for a long-term investment time
horizon. As a function of the Internal Revenue Code ("IRC"), you may be assessed
a 10% federal tax penalty on the taxable portion of any withdrawal made prior to
your reaching age 59 1/2.
AIG SunAmerica Life Assurance Company (AIG SunAmerica Life, The Company, us, we)
issues the Polaris(II) A-Class Variable Annuity. When you purchase a Polaris(II)
A-Class Variable Annuity, a contract exists between you and AIG SunAmerica Life.
The Company is a stock life insurance company organized under the laws of the
state of Arizona. Its principal place of business is 1 SunAmerica Center, Los
Angeles, California 90067. The Company conducts life insurance and annuity
business in the District of Columbia and all states except New York. AIG
SunAmerica Life is an indirect, wholly owned subsidiary of American
International Group, Inc. ("AIG"), a Delaware corporation.
- ----------------------------------------------------------------
- ----------------------------------------------------------------
PURCHASING A POLARIS(II) A-CLASS
VARIABLE ANNUITY
- ----------------------------------------------------------------
- ----------------------------------------------------------------
An initial Gross Purchase Payment is the money you give us to buy a contract.
Any additional money you give us to invest in the contract after purchase is a
subsequent Gross Purchase Payment.
The following chart shows the minimum initial and subsequent Gross Purchase
Payments permitted under your contract. These amounts depend upon whether a
contract is Qualified or Non-qualified for tax purposes. FOR FURTHER
EXPLANATION, SEE TAXES BELOW.
<Table>
<Caption>
- -----------------------------------------------------------
Minimum Initial Minimum
Gross Purchase Subsequent Gross
Payment Purchase Payment
- -----------------------------------------------------------
Qualified $2,000 $250
- -----------------------------------------------------------
Non-Qualified $5,000 $500
- -----------------------------------------------------------
</Table>
We reserve the right to require company approval prior to accepting Purchase
Payments greater than $1,000,000. For contracts owned by a non-natural owner, we
reserve the right to require prior Company approval to accept Purchase Payments
greater than $250,000. Subsequent Purchase Payments that would cause total
Purchase Payments in all contracts issued by AIG SunAmerica Life and First
SunAmerica Life Insurance Company, an affiliate of the Company, to the same
owner to exceed these limits may also be subject to company pre-approval. For
any contracts subject to these dollar amount reservations, we further reserve
the right to limit the death benefit amount payable in excess of contract value
at the time we receive all required paperwork and satisfactory proof of death.
Any limit on the maximum death benefit payable would be mutually agreed upon by
you and the Company prior to purchasing the contract. We reserve the right to
change the amount at which pre-approval is required at any time.
Once you have contributed at least the minimum initial Purchase Payment, you can
establish an optional automatic payment plan that allows you to make subsequent
Purchase Payments of as little as $100.00.
We may refuse any Gross Purchase Payment. In addition, we may not issue a
contract to anyone age 86 or older. In general, we will not issue a Qualified
contract to anyone who
6
is age 70 1/2 or older, unless it is shown that the minimum distribution
required by the IRS is being made.
We allow spouses to jointly own this contract. However, the age of the older
spouse is used to determine the availability of any age driven benefits. The
addition of a joint owner after the contract has been issued is contingent upon
prior review and approval by the Company. If we learn of a misstatement of age,
we reserve the right to fully pursue our remedies including termination of the
contract and/or revocation of any age-driven benefit.
You may assign this contract before beginning the Income Phase by sending us a
written request for an assignment. Your rights and those of any other person
with rights under this contract will be subject to the assignment. WE RESERVE
THE RIGHT TO NOT RECOGNIZE ASSIGNMENTS IF IT CHANGES THE RISK PROFILE OF THE
OWNER OF THE CONTRACT, AS DETERMINED IN OUR SOLE DISCRETION. Please see the
Statement of Additional Information for details on the tax consequences of an
assignment.
ALLOCATION OF PURCHASE PAYMENTS
A Purchase Payment is the portion of your Gross Purchase Payment which we invest
in your contract after we deduct the sales charge.
We invest your Purchase Payments in the fixed and variable investment options
according to your instructions. If we receive a Purchase Payment without
allocation instructions, we invest the money according to your last allocation
instructions. SEE INVESTMENT OPTIONS BELOW.
In order to issue your contract, we must receive your completed application,
Purchase Payment allocation instructions and any other required paperwork at our
Annuity Service Center. We allocate your initial Purchase Payment within two
days of receiving it. If we do not have complete information necessary to issue
your contract, we will contact you. If we do not have the information necessary
to issue your contract within 5 business days we will send your money back to
you, or ask your permission to keep your money until we get the information
necessary to issue the contract.
ACCUMULATION UNITS
When you allocate a Purchase Payment to the Variable Portfolios, we credit your
contract with Accumulation Units of the separate account funding the Polaris(II)
A-Class variable annuity. We base the number of Accumulation Units you receive
on the value of the Variable Portfolio as of the day we receive your money, if
we receive it before 1 p.m. Pacific Standard Time, or on the next business day's
unit value if we receive your money after 1 p.m. Pacific Standard Time. The
value of an Accumulation Unit goes up and down based on the performance of the
Variable Portfolios.
We calculate the value of an Accumulation Unit each day that the New York Stock
Exchange ("NYSE") is open as follows:
1. Determining the total value of money invested in a particular Variable
Portfolio;
2. Subtracting from that amount all applicable insurance charges; and
3. Dividing this amount by the number of outstanding Accumulation Units at
the end of the given NYSE business day.
We determine the number of Accumulation Units credited to your contract by
dividing the Purchase Payment by the Accumulation Unit value for the specific
Variable Portfolio.
EXAMPLE:
We receive a $25,000 Gross Purchase Payment from you on Wednesday which you
allocate to the Global Bond Portfolio. After we deduct the sales charge,
the net amount to be invested of your Gross Purchase Payment is $23,562.50.
We determine that the value of an Accumulation Unit for the Global Bond
Portfolio is $11.10 when the NYSE closes on Wednesday. We then divide
$23,562.50 by $11.10 and credit your contract on Wednesday night with
2,122.747748 Accumulation Units for the Global Bond Portfolio.
Performance of the Variable Portfolios and the insurance charges under your
contract affect Accumulation Unit values. These factors cause the value of your
contract to go up and down.
RIGHT TO EXAMINE
You may cancel your contract within ten days after receiving it (or longer if
required by state law). We call this a "free look." To cancel, you must mail the
contract along with your free look request to our Annuity Service Center at P.O.
Box 54299, Los Angeles, California 90054-0299. Generally, we will refund the
value of your contract on the day we receive your request, plus the sales charge
we deducted. The amount refunded may be more or less than the amount you
originally invested.
Certain states require us to return your Gross Purchase Payments upon a free
look request. Additionally, all contracts issued as an IRA require the full
return of Gross Purchase Payments upon a free look. With respect to those
contracts, we reserve the right to put your money in the Cash Management
Portfolio during the free look period. If you cancel your contract during the
free look period, we return the greater of (1) your Gross Purchase Payment; or
(2) the value of your contract plus the sales charge we deducted.
EXCHANGE OFFERS
From time to time, we may offer to allow you to exchange an older variable
annuity issued by AIG SunAmerica Life or one of its affiliates, for a newer
product with more current features and benefits, also issued by AIG SunAmerica
Life or one of its affiliates. Such an exchange offer will be made in accordance
with applicable state and federal securities and
7
insurance rules and regulations. We will explain the specific terms and
conditions of any such exchange offer at the time the offer is made.
- ----------------------------------------------------------------
- ----------------------------------------------------------------
INVESTMENT OPTIONS
- ----------------------------------------------------------------
- ----------------------------------------------------------------
VARIABLE PORTFOLIOS
The Variable Portfolios invest in shares of the American Funds Insurance Series,
the Anchor Series Trust, the SunAmerica Series Trust, Lord Abbett Series Fund,
Inc. and the Van Kampen Life Investment Trust (the "Trusts"). Additional
Variable Portfolios may be available in the future. The Variable Portfolios are
only available through the purchase of certain insurance contracts.
AIG SunAmerica Asset Management Corp. ("AIG SAAMCo"), an indirect wholly-owned
subsidiary of AIG, is the investment adviser to the Trusts. The Trusts serve as
the underlying investment vehicles for other variable annuity contracts issued
by AIG SunAmerica Life, and other affiliated/unaffiliated insurance companies.
Neither AIG SunAmerica Life nor the Trusts believe that offering shares of the
Trusts in this manner disadvantages you. AIG SAAMCo monitors the Trusts for
potential conflicts.
The Variable Portfolios along with their respective subadvisers are listed
below:
ANCHOR SERIES TRUST -- CLASS 1
Wellington Management Company, LLP serves as subadviser to the Anchor Series
Trust portfolios. Anchor Series Trust ("AST") has investment portfolios in
addition to those listed below which are not available for investment under the
contract.
SUNAMERICA SERIES TRUST -- CLASS 1
Various subadvisers provide investment advice for the SunAmerica Series Trust
portfolios. SunAmerica Series Trust ("SAST") has investment portfolios in
addition to those listed below which are not available for investment under the
contract.
LORD ABBETT SERIES FUND, INC. -- CLASS VC
Lord Abbett & Co. provides investment advice for the Lord Abbett Series Fund,
Inc. portfolios. Lord Abbett Series Fund, Inc. ("LASF") has investment
portfolios in addition to those listed below that are not available for
investment under the contract.
VAN KAMPEN LIFE INVESTMENT TRUST -- CLASS II
Van Kampen Asset Management Inc. provides investment advice for the Van Kampen
Life Investment Trust ("VKT") portfolios. Van Kampen Life Investment Trust has
investment portfolios in addition to those listed here which are not available
for investment under the contract.
AMERICAN FUNDS INSURANCE SERIES -- CLASS 2
Capital Research and Management Company provides investment advice for the
American Funds Insurance Series ("AFIS") portfolios. American Funds Insurance
Series has investment portfolios in addition to those listed here that are not
available for investment under the contract.
STOCKS:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- Aggressive Growth Portfolio SAST
- Blue Chip Growth Portfolio SAST
- "Dogs" of Wall Street Portfolio* SAST
- Growth Opportunities Portfolio SAST
MANAGED BY ALLIANCE CAPITAL MANAGEMENT L.P.
- Alliance Growth Portfolio SAST
- Global Equities Portfolio SAST
- Growth-Income Portfolio SAST
MANAGED BY CAPITAL RESEARCH AND MANAGEMENT COMPANY
- American Funds Global Growth Portfolio AFIS
- American Funds Growth Portfolio AFIS
- American Funds Growth-Income Portfolio AFIS
MANAGED BY DAVIS ADVISORS
- Davis Venture Value Portfolio SAST
- Real Estate Portfolio SAST
MANAGED BY FEDERATED EQUITY MANAGEMENT
- Federated American Leaders Portfolio* SAST
- Telecom Utility Portfolio SAST
MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT
- Goldman Sachs Research Portfolio SAST
MANAGED BY LORD ABBETT & CO.
- LASF Growth and Income Portfolio LASF
- LASF Mid-Cap Value LASF
MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Massachusetts Investors Trust Portfolio SAST
- MFS Mid-Cap Growth Portfolio SAST
MANAGED BY PUTNAM INVESTMENT MANAGEMENT LLC
- Emerging Markets Portfolio SAST
- International Growth & Income Portfolio SAST
- Putnam Growth: Voyager Portfolio SAST
MANAGED BY VAN KAMPEN/VAN KAMPEN ASSET MANAGEMENT
- International Diversified Equities Portfolio+ SAST
- Technology Portfolio+ SAST
- Van Kampen LIT Comstock Portfolio, Class II Shares* VKT
- Van Kampen LIT Emerging Growth Portfolio, Class II Shares VKT
- Van Kampen LIT Growth and Income Portfolio, Class II Shares VKT
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Capital Appreciation Portfolio AST
- Growth Portfolio AST
BALANCED:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- SunAmerica Balanced Portfolio SAST
MANAGED BY CAPITAL RESEARCH AND MANAGEMENT COMPANY
- American Funds Asset Allocation Portfolio AFIS
MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Total Return Portfolio SAST
MANAGED BY WM ADVISORS, INC.
- Asset Allocation Portfolio AST
8
BONDS:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- High-Yield Bond Portfolio SAST
MANAGED BY FEDERATED INVESTMENT MANAGEMENT
- Corporate Bond Portfolio SAST
MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT INT'L.
- Global Bond Portfolio SAST
MANAGED BY VAN KAMPEN
- Worldwide High Income Portfolio SAST
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Government & Quality Bond Portfolio AST
CASH:
MANAGED BY BANC OF AMERICA CAPITAL MANAGEMENT, LLC
- Cash Management Portfolio SAST
* "Dogs" of Wall Street is an equity fund seeking total return. Federated
American Leaders is an equity fund seeking growth of capital and income. Van
Kampen LIT Comstock is an equity fund seeking capital growth and income.
+ Morgan Stanley Investment Management, Inc., the subadviser for these
portfolios, does business in certain instances using the name Van Kampen.
YOU SHOULD READ THE PROSPECTUSES FOR THE TRUSTS CAREFULLY. THESE PROSPECTUSES
CONTAIN DETAILED INFORMATION ABOUT THE VARIABLE PORTFOLIOS, INCLUDING EACH
VARIABLE PORTFOLIO'S INVESTMENT OBJECTIVE AND RISK FACTORS.
FIXED ACCOUNT OPTIONS
Your contract may offer Fixed Account Guarantee Periods ("FAGP") to which you
may allocate certain Purchase Payments or contract value. Available guarantee
periods may be for different lengths of time (such as 1, 3 or 5 years) and may
have different guaranteed interest rates, as noted below. We guarantee the
interest rate credited to amounts allocated to any available FAGP and that the
rate will never be less than the minimum guaranteed interest rate as specified
in your contract. Once established, the rates for specified payments do not
change during the guarantee period. We determine the FAGPs offered at any time
in our sole discretion and we reserve the right to change the FAGPs that we make
available at any time, unless state law requires us to do otherwise. Please
check with your financial representative to learn if any FAGPs are currently
offered.
There are three interest rate scenarios for money allocated to the FAGPs. Each
of these rates may differ from one another. Once declared, the applicable rate
is guaranteed until the corresponding guarantee period expires. Under each
scenario your money may be credited a different rate of interest as follows:
Initial Rate: The rate credited to any portion of the initial Purchase
Payment allocated to a FAGP.
Current Rate: The rate credited to any portion of the subsequent Purchase
Payments allocated to a FAGP.
Renewal Rate: The rate credited to money transferred from a FAGP or a
Variable Portfolio into a FAGP and to money remaining in a FAGP after
expiration of a guarantee period.
When a FAGP ends, you may leave your money in the same FAGP or you may
reallocate your money to another FAGP or to the Variable Portfolios. If you want
to reallocate your money, you must contact us within 30 days after the end of
the current interest guarantee period and instruct us as to where you would like
the money invested. WE DO NOT CONTACT YOU. IF WE DO NOT HEAR FROM YOU, YOUR
MONEY WILL REMAIN IN THE SAME FAGP WHERE IT WILL EARN INTEREST AT THE RENEWAL
RATE THEN IN EFFECT FOR THAT FAGP.
If you take money out of any available multi-year FAGP before the end of the
guarantee period, we make an adjustment to your contract. We refer to the
adjustment as a market value adjustment ("MVA"). The MVA reflects any difference
in the interest rate environment between the time you place your money in the
FAGP and the time when you withdraw or transfer that money. This adjustment can
increase or decrease your contract value. Generally, if interest rates drop
between the time you put your money into a FAGP and the time you take it out, we
credit a positive adjustment to your contract. Conversely, if interest rates
increase during the same period, we post a negative adjustment to your contract.
You have 30 days after the end of each guarantee period to reallocate your funds
without incurring any MVA. APPENDIX B SHOWS HOW WE CALCULATE AND APPLY THE MVA.
If available, you may systematically transfer interest in available FAGPs into
any of the Variable Portfolios on certain periodic schedules offered by us.
Systematic transfers may be started, changed or terminated at any time by
contacting our Annuity Service Center. Check with you financial representative
about the current availability of this service.
All FAGPs may not be available in all states. At any time we are crediting the
guaranteed minimum interest rate specified in your contract to the fixed
accounts, we reserve the right to restrict transfers and Purchase Payments into
the FAGPs. We may also offer Dollar Cost Averaging Fixed Accounts ("DCAFA"). The
rules, restrictions and operation of DCAFAs may differ from the standard FAGPs
described above, please see DOLLAR COST AVERAGING below for more details.
DOLLAR COST AVERAGING FIXED ACCOUNTS
You may invest initial and/or subsequent Purchase Payments in DCAFAs, if
available. The minimum Purchase Payment that you must invest for the 6-month
DCAFA is $600 and $1,200 for the 12-month DCAFA, if such accounts are available.
Purchase Payments less than these minimum amounts will automatically be
allocated to the Variable Portfolios ("target account(s)") according to your
instructions to us or your current allocation on file. DCAFAs
9
also credit a fixed rate of interest but are specifically designed to facilitate
a dollar cost averaging program. Interest is credited to amounts allocated to
the DCAFAs while your investment is transferred to the Variable Portfolios over
certain specified time frames. The interest rates applicable to the DCAFA may
differ from those applicable to any available FAGPs but will never be less than
the minimum annual guaranteed interest rate as specified in your contract.
However, when using a DCAFA the annual interest rate is paid on a declining
balance as you systematically transfer your investment to the Variable
Portfolios. Therefore, the actual effective yield will be less than the annual
crediting rate. We determine the DCAFAs offered at any time in our sole
discretion and we reserve the right to change to DCAFAs that we make available
at any time, unless state law requires us to do otherwise. See DOLLAR COST
AVERAGING below for more information.
ASSET ALLOCATION PROGRAM
PROGRAM DESCRIPTION
The asset allocation program is offered to help you diversify your investment
across various asset classes. Each of the models is comprised of a carefully
selected combination of Variable Portfolios with allocation amongst the various
asset classes based on historical asset class performance to meet stated
investment time horizons and risk tolerances.
ENROLLING IN THE PROGRAM
You may enroll in the program by selecting the model as well as any program
options on the product application form. If you already own a policy, you must
complete and submit a program election form. You and your financial
representative determine the model most appropriate for you. You may discontinue
investment in the program at any time with a written request, telephone or
internet instructions, subject to our rules.
You may also choose to invest gradually into a model through the dollar cost
averaging program. You may only invest in one model at a time. You may invest in
investment options outside your selected model but only in those Variable
Portfolios that are not utilized in the model you selected. A transfer into or
out of one of the Variable Portfolios in your model, outside of the
specifications in the model will effectively terminate your participation in the
program. There is no fee for participating in this program.
WITHDRAWALS
You may request withdrawals, as permitted by your contract, which will be taken
proportionately from each of the allocations in the selected model unless
otherwise instructed by you. If you choose to make a non-proportional withdrawal
from the Variable Portfolio in the model, your investment may no longer be
consistent with the model's intended objectives.
Withdrawals may be subject to a withdrawal charge. Withdrawals may be taxable
and a 10% IRS penalty may apply if you are under age 59 1/2.
KEEPING YOUR PROGRAM ON TARGET
REBALANCING
You can elect to have your contract rebalanced quarterly, semi-annually, or
annually to maintain the target asset allocation among the Variable Portfolios
of the model you selected. Only those investment options within each model will
be rebalanced. An investment not included in the model can not be rebalanced.
ANNUAL RE-EVALUATION
Each year, on or about March 31, the allocations in every model are re-evaluated
and updated to assure that the investment objectives remain consistent. The
percentage allocations within each model may change and investment options may
be added to or deleted from a model as a result of the annual re-evaluation. We
will automatically rebalance your investment according to the reevaluation
allocations each year at or around March 31. If you choose not to participate in
the re-evaluation part of this program, you must contact the Annuity Service
Center. Some broker-dealers require that you consent to the re-evaluation each
year and will not allow us to automatically rebalance your contract in
accordance with the re-evaluated models. Please check with your financial
representative to determine the protocol for his/her firm.
IMPORTANT INFORMATION
Using an asset allocation methodology does not guarantee greater or more
consistent returns. Historical market and asset class performance may differ in
the future from the historical performance upon which the models are built.
Also, allocation to a single asset class may outperform a model, so that you
could have been better off in an investment option or options representing a
single asset class than in a model. However, such a strategy involves a greater
degree of risk because of the concentration of like securities in a single asset
class.
The models represent suggested allocations which are provided as general
guidance. You should work with your financial representative to assist you in
determining if one of the models meets your financial needs, investment time
horizon, and is consistent with your risk comfort level. Information concerning
availability of the program and the specific models can be obtained from your
financial representative.
We have the right to modify, suspend or terminate the Asset Allocation Program
at any time.
10
TRANSFERS DURING THE ACCUMULATION PHASE
During the Accumulation Phase you may transfer funds between the Variable
Portfolios and/or any available fixed account options. Funds already in your
contract cannot be transferred into the DCA fixed accounts. You must transfer at
least $100 per transfer. If less than $100 remains in any Variable Portfolio
after a transfer, that amount must be transferred as well. We will process any
transfer request as of the day we receive it in good order if the request is
received before the New York Stock Exchange ("NYSE") closes, generally at 1:00
p.m. Pacific Time. If the transfer request is received after the NYSE closes,
the request will be processed on the next business day.
This product is not designed for professional organizations or individuals
engaged in trading strategies that seek to benefit from short term price
fluctuations or price irregularities by making programmed transfers, frequent
transfers or transfers that are large in relation to the total assets of the
underlying portfolio in which the Variable Portfolios invest. These types of
trading strategies can be disruptive to the underlying portfolios in which the
Variable Portfolios invest and thereby potentially harmful to investors.
In connection with our efforts to control harmful trading, we may monitor your
trading activity. If we determine, in our sole discretion, that your transfer
patterns among the Variable Portfolios and/or available fixed accounts reflect a
potentially harmful trading strategy, we reserve the right to take action to
protect other investors. Such action may include, but may not be limited to,
restricting the way you can request transfers among the Variable Portfolios,
imposing penalty fees on such trading activity, and/or otherwise restricting
transfer capability in accordance with state and federal rules and regulations.
We will notify you, in writing, if we determine in our sole discretion that we
must terminate your transfer privileges. Some of the factors we may consider
when determining our transfer policies and/or other transfer restrictions may
include, but are not limited to:
- the number of transfers made in a defined period;
- the dollar amount of the transfer;
- the total assets of the Variable Portfolio involved in the transfer;
- the investment objectives of the particular Variable Portfolios involved
in your transfers; and/or
- whether the transfer appears to be part of a pattern of transfers to take
advantage of short-term market fluctuations or market inefficiencies.
Subject to our rules, restrictions and policies, you may request transfers of
your account value between the Variable Portfolios and/or the available fixed
account options by telephone or through AIG SunAmerica's website
(http://www.aigsunamerica.com) or in writing by mail or facsimile. We allow 15
free transfers per contract per year. We charge $25 ($10 in Pennsylvania and
Texas) for each additional transfer in any contract year.
Transfers resulting from your participation in the DCA or Asset Rebalancing
programs do not count against your 15 free transfers per contract year.
All transfer request in excess of 15 transfers per contract year must be
submitted in writing by United States Postal Service first-class mail ("U.S.
Mail") until your next contract anniversary. Transfer requests sent by same day
mail, overnight mail or courier services will not be accepted. Transfer requests
required to be submitted by U.S. Mail can only be cancelled by a written request
sent by U.S. Mail. Transfers resulting from your participation in the DCA or
Asset Rebalancing programs are not included for the purposes of determining the
number of transfers for the U.S. Mail requirement.
We may accept transfers by telephone or the Internet unless you tell us not to
on your contract application. When receiving instructions over the telephone or
the Internet, we follow appropriate procedures to provide reasonable assurance
that the transactions executed are genuine. Thus, we are not responsible for any
claim, loss or expense from any error resulting from instructions received over
the telephone or the Internet. If we fail to follow our procedures, we may be
liable for any losses due to unauthorized or fraudulent instructions.
For information regarding transfers during the Income Phase, see INCOME OPTIONS
below.
We reserve the right to modify, suspend, waive or terminate these transfer
provisions at any time.
DOLLAR COST AVERAGING PROGRAM
The DCA program allows you to invest gradually in the Variable Portfolios. Under
the program you systematically transfer a set dollar amount or percentage from
one Variable Portfolio (source accounts) to any other Variable Portfolio (target
account). If available, you may systematically transfer interest earned in
available fixed account guarantee periods ("FAGPs") into any of the Variable
Portfolios on certain periodic schedules offered by us. You may change or
terminate these systematic transfers by contacting our Annuity Service Center.
Check with your financial representative about the current availability of this
service. Transfers may occur on certain periodic schedules, such as monthly or
weekly and count against your 15 free transfers per contract year. You may
change the frequency to other available options at any time by notifying us in
writing. The minimum transfer amount under the DCA program is $100, regardless
of the source account. FAGPs are not available as target accounts for the DCA
program. There is no fee for participating in the DCA program.
We may also offer the DCAFAs exclusively to facilitate this program for a
specified period. The DCAFAs only accept new
11
Purchase Payments. You cannot transfer money already in your contract into these
options. When you allocate a Purchase Payment into a DCAFA, your money is
transferred into the Variable Portfolios over the selected time period at an
offered frequency of your choosing. You cannot change the option or the
frequency of transfers once selected.
The minimum Purchase Payment that you must invest for the 6-month DCAFA is $600
and $1,200 for the 12-month DCAFA, if such accounts are available. Purchase
Payments less than these minimum amounts will automatically be allocated to the
Variable Portfolios ("target account(s)") according to your instructions to us
or your current allocation on file.
You may terminate your DCA program at any time. If money remains in the DCAFAs,
we transfer the remaining money according to your instructions or to your
current allocation on file. Transfers resulting from a termination of this
program do not count towards your 15 free transfers.
The DCA program is designed to lessen the impact of market fluctuations on your
investment. However, we cannot ensure that you will make a profit nor guarantee
against a loss. When you elect the DCA program, you are continuously investing
in securities regardless of fluctuating price levels. You should consider your
tolerance for investing through periods of fluctuating price levels.
We reserve the right to modify, suspend or terminate this program at any time.
EXAMPLE:
Assume that you want to gradually move $750 each quarter from the Cash
Management Portfolio to the Aggressive Growth Portfolio over six months.
You set up dollar cost averaging and purchase Accumulation Units at the
following values:
<Table>
<Caption>
- -------------------------------------------
ACCUMULATION UNITS
MONTH UNIT PURCHASED
- -------------------------------------------
1 $ 7.50 100
2 $ 5.00 150
3 $10.00 75
4 $ 7.50 100
5 $ 5.00 150
6 $ 7.50 100
- -------------------------------------------
</Table>
You paid an average price of only $6.67 per Accumulation Unit over six
months, while the average market price actually was $7.08. By investing an
equal amount of money each month, you automatically buy more Accumulation
Units when the market price is low and fewer Accumulation Units when the
market price is high. This example is for illustrative purposes only.
AUTOMATIC ASSET REBALANCING PROGRAM
Earnings in your contract may cause the percentage of your investment in each
investment option to differ from your original allocations. The Automatic Asset
Rebalancing Program addresses this situation. At your election, we periodically
rebalance your investments in the Variable Portfolios to return your allocations
to their original percentages. Asset rebalancing typically involves shifting a
portion of your money out of an investment option with a higher return into an
investment option with a lower return.
At your request, rebalancing occurs on a quarterly, semiannual or annual basis.
Transfers made as a result of rebalancing do not count against your 15 free
transfers for the contract year. There is no charge to participate in this
program.
We reserve the right to modify, suspend or terminate this program at any time.
EXAMPLE:
Assume that you want your initial Purchase Payment split between two
Variable Portfolios. You want 50% in the Corporate Bond Portfolio and 50%
in the Growth Portfolio. Over the next calendar quarter, the bond market
does very well while the stock market performs poorly. At the end of the
calendar quarter, the Corporate Bond Portfolio now represents 60% of your
holdings because it has increased in value and the Growth Portfolio
represents 40% of your holdings. If you had chosen quarterly rebalancing,
on the last day of that quarter, we would sell some of your units in the
Corporate Bond Portfolio to bring its holdings back to 50% and use the
money to buy more units in the Growth Portfolio to increase those holdings
to 50%.
RETURN PLUS PROGRAM
The Return Plus Program, available if we are offering multi-year FAGPs, allows
you to invest in one or more Variable Portfolios without putting your principal
at direct risk. The program accomplishes this by allocating your investment
strategically between the fixed account options and Variable Portfolios. You
decide how much you want to invest and approximately when you want a return of
principal. We calculate how much of your Purchase Payment to allocate to the
particular fixed account option to ensure that it grows to an amount equal to
your total principal invested under this program. We invest the rest of your
principal in the Variable Portfolio(s) of your choice. There is no charge to
participate in this program.
We reserve the right to modify, suspend or terminate this program at any time.
EXAMPLE:
Assume that you want to allocate a portion of your initial Purchase Payment
of $100,000 to the fixed account option after we deduct sales charges. You
want the amount allocated to the fixed account option to grow to $100,000
in 7 years. If the 7-year fixed account option is offering a 5% interest
rate, we will allocate $71,069 to
12
the 7-year fixed account option to ensure that this amount will grow to
$100,000 at the end of the 7-year period. The remaining $28,931 may be
allocated among the Variable Portfolios, as determined by you, to provide
opportunity for greater growth.
VOTING RIGHTS
AIG SunAmerica Life is the legal owner of the Trusts' shares. However, when a
Variable Portfolio solicits proxies in conjunction with a vote of shareholders,
we must obtain your instructions on how to vote those shares. We vote all of the
shares we own in proportion to your instructions. This includes any shares we
own on our own behalf. Should we determine that we are no longer required to
comply with these rules, we will vote the shares in our own right.
SUBSTITUTION
We may amend your contract due to changes to the Variable Portfolios offered
under your contract. For example, we may offer new Variable Portfolios, delete
Variable Portfolios, or stop accepting allocations and/or investments in a
particular Variable Portfolio. We may move assets and re-direct future premium
allocations from one Variable Portfolio to another if we receive investor
approval through a proxy vote or SEC approval for a fund substitution. This
would occur if a Variable Portfolio is no longer an appropriate investment for
the contract, for reasons such as continuing substandard performance, or for
changes to the portfolio manager, investment objectives, risks and strategies,
or federal or state laws. The new Variable Portfolio offered may have different
fees and expenses. You will be notified of any upcoming proxies or substitutions
that affect your Variable Portfolio choices.
- ----------------------------------------------------------------
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ACCESS TO YOUR MONEY
- ----------------------------------------------------------------
- ----------------------------------------------------------------
You can access money in your contract by making a partial or total withdrawal;
and/or by receiving income payments during the Income Phase. SEE INCOME OPTIONS
BELOW.
Under certain Qualified plans, access to the money in your contract may be
restricted. Additionally, withdrawals made prior to age 59 1/2 may result in a
10% IRS penalty tax. SEE TAXES BELOW. If you withdraw your entire contract
value, we also deduct premium taxes if applicable. SEE EXPENSES BELOW.
Under most circumstances, the partial withdrawal minimum is $1,000. We require
that the value left in your contract is at least $500 after the withdrawal. You
must send a written withdrawal request to our Annuity Service Center. Unless you
provide us with different instructions, partial withdrawals will be made pro
rata from each Variable Portfolio and the fixed account option(s) in which your
contract is invested. IN THE EVENT THAT A PRO RATA PARTIAL WITHDRAWAL WOULD
CAUSE THE VALUE OF ANY VARIABLE PORTFOLIO OR FIXED ACCOUNT INVESTMENT TO BE LESS
THAN $100, WE WILL CONTACT YOU TO OBTAIN ALTERNATE INSTRUCTIONS ON HOW TO
STRUCTURE THE WITHDRAWAL.
We may be required to suspend or postpone the payment of a withdrawal for any
period of time when: (1) the NYSE is closed (other than a customary weekend and
holiday closings); (2) trading with the NYSE is restricted; (3) an emergency
exists such that disposal of or determination of the value of shares of the
Variable Portfolios is not reasonably practicable; (4) the SEC, by order, so
permits for the protection of contract owners.
Additionally, we reserve the right to defer payments for a withdrawal from a
fixed account option. Such deferrals are limited to no longer than six months.
SYSTEMATIC WITHDRAWAL PROGRAM
During the Accumulation Phase, you may elect to receive periodic income payments
under the systematic withdrawal program. Under the program you may choose to
take monthly, quarterly, semiannual or annual payments from your contract.
Electronic transfer of these funds to your bank account is available. The
minimum amount of each withdrawal is $250. There must be at least $500 remaining
in your contract at all times. Withdrawals may be taxable and a 10% IRS penalty
tax may apply if you are under age 59 1/2. There is no additional charge for
participating in this program, although a withdrawal charge and a MVA may apply.
We reserve the right to modify, suspend or terminate this program at any time.
MINIMUM CONTRACT VALUE
Where permitted by state law, we may terminate your contract if both of the
following occur: (1) your contract is $500 or less; and (2) you have not made
any Purchase Payments during the past three years. We will provide you with
sixty days written notice. At the end of the notice period, we will distribute
the contract value to you.
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DEATH BENEFIT
- ----------------------------------------------------------------
- ----------------------------------------------------------------
GENERAL INFORMATION ABOUT DEATH BENEFITS
If you die during the Accumulation Phase of your contract, we pay a death
benefit to your Beneficiary. At the time you purchase your contract, you must
select one of the two death benefit options described below. Once selected, you
cannot change your death benefit option. You should discuss the available
options with your financial representative to determine which option is best for
you.
We do not pay the death benefit if you die after you switch to the Income Phase.
However, if you die during the Income Phase, your Beneficiary receives any
remaining guaranteed income payments in accordance with the income option you
selected. SEE INCOME OPTIONS BELOW.
13
You designate your Beneficiary. You may change the Beneficiary at any time,
unless you previously made an irrevocable Beneficiary designation. If the
Beneficiary is the spouse of the deceased original owner, he or she can elect to
continue the contract. SEE SPOUSAL CONTINUATION BELOW.
We calculate and pay the death benefit when we receive all required paperwork
and satisfactory proof of death. We consider the following satisfactory proof of
death:
1. a certified copy of the death certificate; or
2. a certified copy of a decree of a court of competent jurisdiction as to
the finding of death; or
3. a written statement by a medical doctor who attended the deceased at the
time of death; or
4. any other proof satisfactory to us.
If a Beneficiary does not elect a specific form of a payout within 60 days of
our receipt of all required paperwork and satisfactory proof of death, we pay a
lump sum death benefit to the Beneficiary.
The death benefit may be paid immediately in the form of a lump sum payment or
paid under one of the available Income Options. PLEASE SEE INCOME OPTIONS BELOW.
A Beneficiary may also elect to continue the contract and take the death benefit
amount in a series of payments based upon the Beneficiary's life expectancy
under the Extended Legacy program described below, subject to the applicable
Internal Revenue Code distribution requirements. Payments must begin under the
selected Income Option or the Extended Legacy program no later than the first
anniversary of your death for non-qualified contracts or December 31st of the
year following the year of your death for IRAs. Your Beneficiary cannot
participate in the Extended Legacy program if your Beneficiary has already
elected another settlement option. Beneficiaries who do not begin taking
payments within these specified time periods will not be eligible to elect an
Income Option or participate in the Extended Legacy program.
EXTENDED LEGACY PROGRAM AND BENEFICIARY CONTINUATION OPTIONS
The Extended Legacy program can allow a Beneficiary to take the death benefit
amount in the form of income payments over a longer period of time with the
flexibility to withdraw more than the IRS required minimum distribution if they
wish. The contract continues in the original owner's name for the benefit of the
Beneficiary. The Extended Legacy program allows the Beneficiary to take
distributions in the form of a series of payments similar to the required
minimum distributions under an IRA. Generally, IRS required minimum
distributions must be made at least annually over a period not to exceed the
Beneficiary's life expectancy as determined in the calendar year after your
death. A Beneficiary may withdraw all or a portion of the contract value at any
time, name their own beneficiary to receive any remaining unpaid interest in the
contract in the event of their death and make transfers among investment
options. If the contract value is less than the death benefit amount as of the
date we receive satisfactory proof of death and all required paperwork, we will
increase the contract value by the amount which the death benefit exceeds
contract value. Participation in the program may impact certain features of the
contract that are detailed in the Death Claim Form. Please see your financial
representative for additional information.
Alternatively to the Extended Legacy program, the Beneficiary may also elect to
receive the death benefit under a 5-year option. The Beneficiary may take
withdrawals as desired, but the entire contract value must be distributed by the
fifth anniversary of your death for Non-qualified contracts or by December 31st
of the year containing the fifth anniversary of your death for IRAs. For IRAs,
the five-year option is not available if the date of death is after the required
beginning date for distributions (April 1 of the year following the year the
owner reaches the age of 70 1/2).
Please consult your tax advisor regarding tax implications and your particular
circumstances.
DEFINITION OF DEATH BENEFIT TERMS
The term Net Purchase Payment is used frequently in explaining these death
benefit options. Net Purchase Payments is an on-going calculation. It does not
represent a contract value.
We define Net Purchase Payments as Purchase Payments less an Adjustment for each
withdrawal. If you have not taken any withdrawals from your contract, Net
Purchase Payments equals total purchase payments into your contract. To
calculate the Adjustment amount for the first withdrawal made under the
contract, we determine the percentage by which the withdrawal reduced the
contract value. For example, a $10,000 withdrawal from a $100,000 contract is a
10% reduction in value. This percentage is calculated by dividing the amount of
each withdrawal (and any applicable fees and charges) by the contract value
immediately before taking the withdrawal. The resulting percentage is then
multiplied by the amount of the total Purchase Payments and subtracted from the
amount of the total Purchase Payments on deposit at the time of the withdrawal.
The resulting amount is the initial Net Purchase Payment.
To arrive at the Net Purchase Payment calculation for subsequent withdrawals, we
determine the percentage by which the contract value is reduced by taking the
amount of the withdrawal in relation to the contract value immediately before
taking the withdrawal. We then multiply the Net Purchase Payment calculation as
determined prior to the withdrawal, by this percentage. We subtract that result
from the Net Purchase Payment calculation as determined prior to the withdrawal
to arrive at all subsequent Net Purchase Payment calculations.
14
The term "withdrawals" as used in describing the death benefit option below is
defined as withdrawals and the fees and charges applicable to those withdrawals.
DEATH BENEFIT OPTIONS
This contract provides two death benefit options: the Purchase Payment
Accumulation Option and the Maximum Anniversary Option. In addition, you may
also elect the optional EstatePlus feature, described below. These elections
must be made at the time you purchase your contract and once made, cannot be
changed or terminated.
OPTION 1 -- PURCHASE PAYMENT ACCUMULATION OPTION
If the contract is issued prior to your 75th birthday, the death benefit is the
greatest of:
1. Contract value; or
2. Net Purchase Payments, compounded at 3% annual growth rate to the
earlier of the 75th birthday or the date of death plus Net Purchase
Payments received after the 75th birthday but prior to the 86th
birthday; or
3. Contract value on the seventh contract anniversary, reduced for
withdrawals since the seventh contract anniversary in the same
proportion that the contract value was reduced on the date of such
withdrawal, plus Net Purchase Payments received between the seventh
contract anniversary but prior to the 86th birthday.
4. Gross Purchase Payments received prior to your 86th birthday, reduced
for any withdrawals in the same proportion that the contract value was
reduced on the date of the withdrawal.
The Purchase Payment Accumulation Option can only be elected prior to your 75th
birthday.
OPTION 2 -- MAXIMUM ANNIVERSARY OPTION
If the contract is issued prior to your 83rd birthday, the death benefit is the
greatest of:
1. Contract value; or
2. Gross Purchase Payments received prior to your 86th birthday, reduced
for any withdrawals in the same proportion that the contract value was
reduced on the date of the withdrawal; or
3. Maximum anniversary value on any contract anniversary prior to your
83rd birthday. The anniversary values equal the contract value on a
contract anniversary plus any Purchase Payments since that anniversary
but prior to your 86th birthday; and reduced for any withdrawals since
that contract anniversary in the same proportion that the withdrawal
reduced the contract value on the date of the withdrawal.
If the contract is issued on or after your 83rd birthday but prior to your 86th
birthday, the death benefit is greater of:
1. Contract value; or
2. The lesser of:
a. Gross Purchase Payments received prior to your 86th birthday,
reduced for any withdrawals in the same proportion that the
contract value was reduced on the date of the withdrawal; or
b. 125% of Contract Value.
If you are age 90 or older at the time of death and selected the Maximum
Anniversary death benefit, the death benefit will be equal to the contract
value. Accordingly, you will not get any benefit from this option if you are age
90 or older at the time of contract issue.
For contracts in which the aggregate of all Purchase Payments in contracts
issued by AIG SunAmerica Life and/or First SunAmerica Life Insurance Company to
the same owner are in excess of $1,000,000, we reserve the right to limit the
death benefit amount that is in excess of contract value at the time we receive
all paperwork and satisfactory proof of death. Any limit on the maximum death
benefit payable would be mutually agreed upon by you and the Company prior to
purchasing the contract.
IF YOU PURCHASED YOUR CONTRACT BEFORE JUNE 1, 2004, OR IN STATES WHERE THE DEATH
BENEFITS THAT APPEAR HERE ARE NOT CURRENTLY AVAILABLE, PLEASE SEE APPENDIX E FOR
A DESCRIPTION OF THE DEATH BENEFIT PROVISIONS. CHECK WITH YOUR FINANCIAL
REPRESENTATIVE ABOUT STATE AVAILABILITY.
ESTATEPLUS
EstatePlus is an optional benefit that, if selected, may increase your death
benefit amount. If you have earnings in your contract at the time of death, we
will add a percentage of those earnings (the "EstatePlus Percentage"), subject
to a maximum dollar amount (the "Maximum EstatePlus Percentage"), to the death
benefit payable. The EstatePlus benefit, if any, is added to the death benefit
payable under the Purchase Payment Accumulation or Maximum Anniversary options.
The contract year of your death will determine the EstatePlus Percentage and the
Maximum EstatePlus Percentage.
The table below provides the details if you were age 69 or younger at the time
we issue your contract:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
Years 0-4 25% of earnings 40% of Net Purchase
Payments
- -------------------------------------------------------------
Years 5-9 40% of earnings 65% of Net Purchase
Payments*
- -------------------------------------------------------------
Years 10+ 50% of earnings 75% of Net Purchase
Payments*
- -------------------------------------------------------------
</Table>
15
If you are between your 70th and 81st birthday at the time we issue your
contract the table below shows the available EstatePlus benefit:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
All Contract 25% of earnings 40% of Net
Years Purchase Payments*
- -------------------------------------------------------------
</Table>
* Purchase Payments received after the 5(th) contract anniversary must remain in
the contract for at least 6 full months to be included as part of Net Purchase
Payments for the purpose of the Maximum EstatePlus calculation.
What is the Contract Year of Death?
Contract Year of Death is the number of full 12 month periods beginning with the
date your contract is issued and ending on the date of death.
What is the EstatePlus Percentage Amount?
We determine the amount of the EstatePlus benefit, based on a percentage of the
earnings in your contract at the time of your death. For the purpose of this
calculation, earnings equals contract value minus Net Purchase Payments as of
the date of death. If the earnings amount is negative, no EstatePlus amount will
be added.
What is the Maximum EstatePlus Amount?
The EstatePlus benefit is subject to a maximum dollar amount. The maximum
EstatePlus amount is equal to a percentage of your Net Purchase Payments.
You must elect EstatePlus at the time of contract application. Once elected, you
may not terminate or change this election.
We assess a 0.25% fee for EstatePlus. On a daily basis we deduct this annual
charge from the average daily ending value of the assets you have allocated to
the Variable Portfolios.
EstatePlus is not available if you are age 81 or older at the time we issue your
contract. Furthermore, a Continuing Spouse cannot benefit from EstatePlus if
he/she is age 81 or older on the Continuation Date. SEE SPOUSAL CONTINUATION
BELOW. The EstatePlus benefit is not available after the latest Annuity Date.
You may pay for the EstatePlus benefit and your beneficiary may never receive
the benefit if you live past the latest Annuity Date. SEE INCOME OPTIONS BELOW.
EstatePlus may not be available in your state or through the broker-dealer with
which your financial representative is affiliated. See your financial
representative for information regarding availability.
WE RESERVE THE RIGHT TO MODIFY, SUSPEND OR TERMINATE THE ESTATEPLUS BENEFIT (IN
ITS ENTIRETY OR ANY COMPONENT AT ANY TIME) AT ANY TIME FOR PROSPECTIVELY ISSUED
CONTRACTS.
SPOUSAL CONTINUATION
If you are the original owner of the contract and the Beneficiary is your
spouse, your spouse may elect to continue the contract after your death. The
spouse becomes the new owner ("Continuing Spouse"). Generally, the contract and
its elected features if any, remain the same. The Continuing Spouse is subject
to the same fees, charges and expenses applicable to the original owner of the
contract. A spousal continuation can only take place upon the death of the
original owner of the contract.
To the extent that the Continuing Spouse invests in the Variable Portfolios or
available FAGPs, they will be subject to investment risk as was the original
owner.
Upon the spouse's continuation of the contract, we will contribute to the
contract value an amount by which the death benefit that would have been paid to
the beneficiary upon the death of the original owner exceeds the contract value
("Continuation Contribution"), if any. We calculate the Continuation
Contribution as of the date of the original owner's death. We will add the
Continuation Contribution as of the date we receive both the Continuing Spouse's
written request to continue the contract and proof of death of the original
owner in a form satisfactory to us ("Continuation Date"). The Continuation
Contribution is not considered a Purchase Payment for the purposes of any other
calculations, except as explained in Appendix C.
Generally, the Continuing Spouse cannot change any contract provisions as the
new owner. However, on the Continuation Date, the Continuing Spouse may
terminate the original owner's election of EstatePlus. We will terminate
EstatePlus if the Continuing Spouse is age 81 or older on the Continuation Date.
If EstatePlus is terminated or if the Continuing Spouse dies after the Latest
Annuity Date, no EstatePlus benefit will be payable. The age of the Continuing
Spouse on the Continuation Date and on the date of the Continuing Spouse's death
will be used in determining any future death benefits under the Contract. SEE
APPENDIX C FOR FURTHER EXPLANATION OF THE DEATH BENEFIT CALCULATIONS FOLLOWING A
SPOUSAL CONTINUATION.
WE RESERVE THE RIGHT TO MODIFY, SUSPEND OR TERMINATE THE SPOUSAL CONTINUATION
PROVISION (IN ITS ENTIRETY OR ANY COMPONENT) AT ANY TIME FOR PROSPECTIVELY
ISSUED CONTRACTS.
- ----------------------------------------------------------------
- ----------------------------------------------------------------
EXPENSES
- ----------------------------------------------------------------
- ----------------------------------------------------------------
There are charges and expenses associated with your contract. These charges and
expenses reduce your investment return. We will not increase the sales,
insurance or withdrawal charges under your contract. However, the investment
charges under your contract may increase or
16
decrease. Some states may require that we charge less than the amounts described
below.
SEPARATE ACCOUNT CHARGES
The amount of this charge is 0.85% annually, of the value of your contract
invested in the Variable Portfolios. We deduct the charge daily. There is no
separate account charge deducted from amounts allocated to the fixed account
options.
The separate account charge compensates us for the mortality and expense risks
and the costs of contract distribution assumed by AIG SunAmerica Life.
If these charges do not cover all of our expenses, we will pay the difference.
Likewise, if these charges exceed our expenses, we will keep the difference. The
separate account charge is expected to result in a profit. Profit may be used
for any legitimate cost/expense including distribution, depending upon market
conditions.
SALES CHARGE
We may apply an up-front sales charge against the Gross Purchase Payments you
make to your contract. The sales charge equals a percentage of each Gross
Purchase Payment and varies with your investment amount.
Your investment amount is determined on the day we receive a Gross Purchase
Payment and is the greater of:
1. The sum of:
(a) the Gross Purchase Payment amount;
(b) the current contract value of this contract; and
(c) the current contract value of any eligible related contracts as
defined under the Rights of Accumulation section below; or
2. The amount, if any, you agree to contribute to this contract.
<Table>
<Caption>
- ------------------------------------------------------------
SALES CHARGE AS A
PERCENTAGE OF GROSS PURCHASE
INVESTMENT AMOUNT PAYMENT INVESTED
- ------------------------------------------------------------
Less than $ 50,000 5.75%
$ 50,000 - $ 99,999 4.75%
$100,000 - $249,999 3.50%
$250,000 - $499,999 2.50%
$500,000 - $999,999 2.00%
$1,000,000 or more 0.50%*
- ------------------------------------------------------------
</Table>
* Additionally, a withdrawal charge of 0.50% applies to gross purchase payments
subject to a 0.50% sales charge if invested less than 12 months at the time of
withdrawal. SEE PURCHASE PAYMENTS SUBJECT TO A WITHDRAWAL CHARGE BELOW.
We call the above investment levels "breakpoints." You can reduce your sales
charge by increasing your investment amount to reach the next breakpoint. For
example, an investment amount of $50,000 brings you to the first breakpoint and
entitles you to a reduced sales charge of 4.75%.
REDUCING YOUR SALES CHARGES
Our Rights of Accumulation feature allows you to combine your current Gross
Purchase Payment with other Gross Purchase Payments and/or contract values so
that you may take advantage of the breakpoints in the sales charge schedule.
Other sales charge reductions may be available to clients of financial planners,
institutions, broker-dealer representatives or registered investment advisors
utilizing fee based services. SEE REDUCTION OR ELIMINATION OF CHARGES AND
EXPENSES AND ADDITIONAL AMOUNTS CREDITED BELOW.
LETTER OF INTENT
The Letter of Intent feature lets you establish an investment goal up-front so
that all Gross Purchase Payments you make during a designated 13-month period
receive the sales charge corresponding to your stated investment goal. When you
submit a signed Letter of Intent, we use the amount of your stated investment
goal to determine the sales charge on any Gross Purchase Payment you make during
the 13-month period as though the total amount of Gross Purchase Payments (your
investment goal) is invested as one lump-sum.
Gross Purchase Payments made to your Polaris(II) A-Class contract and Purchase
Payments made to any eligible related contract count towards your investment
goal. Additionally, Gross Purchase Payments made to your Polaris(II) A-Class
contract and Purchase Payments made to any eligible related contract within 90
days prior to our receipt of your Letter of Intent (but not prior to the issue
date of your Polaris(II) A-Class contract) may count towards meeting your
investment goal. If you use prior Purchase Payments towards satisfying your
investment goal, the Letter of Intent start date will be backdated to the
receipt date of the earliest prior Purchase Payment. If you wish to use prior
Purchase Payments towards meeting your investment goal, you or your financial
representative must inform us of such prior Purchase Payments at the time you
submit your Letter of Intent.
EXAMPLE:
Assume as part of your contract application you sign a Letter of Intent
indicating an investment goal of $50,000 over a 13-month period. The sales
charge corresponding to your investment goal is 4.75%. You make an initial
Gross Purchase Payment of $20,000. We deduct a reduced sales charge of
4.75% from your initial Gross Purchase Payment. Ten months later you make a
subsequent Gross Purchase Payment of $30,000. We again deduct a reduced
sales charge of 4.75% from your Gross Purchase Payment. Without a Letter of
Intent the sales charge for each Gross Purchase Payment would have been
5.75%.
You may submit a Letter of Intent at any time. If you choose to submit a Letter
of Intent when you apply for the contract,
17
you must check the corresponding box on the application and complete the
appropriate form. If you elect to submit a Letter of Intent after your contract
is issued, you must complete the appropriate form, which is available from your
financial representative or our Annuity Service Center.
You are not obligated to reach your investment goal. If you do not achieve your
investment goal by the end of the 13-month period or if you surrender or
annuitize your contract without having reached your investment goal, we will
deduct from your contract the difference between: (1) the sales charge
corresponding to the amount of Gross Purchase Payments made to your Polaris(II)
A-Class contract and purchase payments made to any eligible related contract
during the 13-month period; and (2) the sales charge you actually paid,
regardless of whether the original sales charge was based on your Letter of
Intent investment goal or Rights of Accumulation privileges. The charges are
deducted from your investment options in the same proportion as their values are
to your then current contract value. We will not deduct this amount if a death
benefit is paid on the contract prior to the end of the 13-month period.
You may increase your investment goal by sending us a written request at any
time during the 13-month period. Gross Purchase Payments made from the date of
such notice through the end of the original 13-month period will receive any
applicable reduction in sales charges. Sales charges on Gross Purchase Payments
received prior to the notice to increase your investment goal will not be
retroactively reduced.
The Letter of Intent feature may not be available in all states. Please contact
your investment representative regarding the availability of this feature in
your state.
We reserve the right to modify, suspend or terminate this program at any time.
RIGHTS OF ACCUMULATION
You may qualify for a reduced sales charge through Rights of Accumulation.
Rights of Accumulation involves combining your current Gross Purchase Payment
with the current contract values of this contract and eligible related contracts
and mutual funds so that you may reduce the sales charge on your current Gross
Purchase Payment(s) into this contract. A list of eligible contracts and mutual
funds may be obtained from your financial representative. The sales charge
corresponding to this combined investment amount is deducted from your current
Gross Purchase Payment.
In order to use Rights of Accumulation to reduce your sales charge using
contracts other than your Polaris(II) A-Class contract, you or your financial
representative must inform us of the related contracts and mutual funds each
time you make a Gross Purchase Payment. The sales charge for Gross Purchase
Payments submitted using Rights of Accumulation privileges will be based on the
breakpoint corresponding to the sum of (1) your current Gross Purchase Payment;
(2) your current contract value; and (3) the current values of your eligible
related contracts and mutual funds.
For purposes of calculating your investment amount, the current contract value
is the value of your contract and any eligible related contracts as of the close
of the market on the last previous NYSE business day less any current day
withdrawals, adjusted for any current day transactions.
EXAMPLE:
Assume your contract has a current value of $20,000. You have a second
contract with us which qualifies for Rights of Accumulation that has a
current value of $25,000. You make a $5,000 Gross Purchase Payment and
inform us of your eligible related contracts at the time you make your
payment. The sales charge applicable to the current Gross Purchase Payment
is based on the sales charge corresponding to the sum of: (1) your current
Gross Purchase Payment ($5,000); (2) the current contract value of this
contract ($20,000); and (3) the current contract value of your related
contract ($25,000). The sum of these values is $50,000. We deduct the sales
charge corresponding to an investment amount of $50,000, or 4.75%, from
your $5,000 Gross Purchase Payment. Without the benefit of Rights of
Accumulation your sales charge would have been 5.75%.
Certain Rights of Accumulation privileges may not be available in your state.
Please contact your financial representative regarding the availability of this
feature in your state.
We reserve the right to modify, suspend or terminate this program at any time.
PURCHASE PAYMENTS SUBJECT TO A WITHDRAWAL CHARGE
Each Gross Purchase Payment qualifying for a sales charge of 0.50% (that is,
your investment amount is $1,000,000 or more) remains subject to a withdrawal
charge of 0.50%. The withdrawal charge applies to such Gross Purchase Payment or
any portion of it withdrawn if invested less than 12 months prior to such
withdrawal.
When calculating the withdrawal charge, we treat withdrawals as coming first
from the Purchase Payments that have been in your contract the longest. However,
for tax purposes, your withdrawals are considered earnings first, then Purchase
Payments.
Whenever possible, we deduct the withdrawal charge from the money remaining in
your contract. If you fully surrender your contract, we deduct any applicable
sales charge from the amount withdrawn.
We will not assess a withdrawal charge for money withdrawn to pay a death
benefit or to pay contract fees or charges. We will not assess a withdrawal
charge when you switch to the Income Phase, except when you elect to receive
income payments using the Income Protector program. If you elect to receive
income payments using the Income Protector program, we assess any applicable
withdrawal charge when
18
calculating your Income Benefit Base. SEE INCOME OPTIONS BELOW.
Withdrawals made prior to age 59 1/2 may result in a 10% IRS penalty tax. SEE
TAXES BELOW.
INVESTMENT CHARGES
INVESTMENT MANAGEMENT FEES
Charges are deducted from your Variable Portfolios for the advisory and other
expenses of the Variable Portfolios. For more detailed information on these
investment charges, refer to the prospectuses for the Trusts.
SERVICE FEES
Shares of certain trusts may be subject to fees imposed under a distribution
and/or servicing plan adopted pursuant to Rule 12b-1 under the Investment
Company Act of 1940. For SunAmerica Series Trust ("SAST"), under the
distribution plan which is applicable to all classes of shares, recaptured
brokerage commissions will be used to make payments to AIG SunAmerica Capital
Services, Inc., SAST's Distributor, to pay for various distribution activities
on behalf of the SAST Portfolios. These distribution fees will not increase the
cost of your investment or affect your return.
In addition, the 0.25% fee applicable to Class II shares of the Van Kampen Life
Investment Trust and Class 2 shares of the American Funds Insurance Series is
generally used to pay financial intermediaries for services provided over the
life of your contract.
For more detailed information on these Investment Management Charges, refer to
the prospectuses for the American Funds Insurance Series, Anchor Series Trust,
SunAmerica Series Trust, Lord Abbett Series Fund, Inc. and/or Van Kampen Life
Investment Trust.
TRANSFER FEE
We currently permit 15 free transfers between investment options each contract
year. We charge you $25 for each additional transfer that contract year ($10 in
Pennsylvania and Texas). SEE INVESTMENT OPTIONS ABOVE.
OPTIONAL ESTATEPLUS FEE
We charge 0.25% for the EstatePlus feature. On a daily basis, we deduct this
charge from the average daily ending value of the assets you have allocated to
the Variable Portfolios.
PREMIUM TAX
Certain states charge the Company a tax on the premiums you pay into the
contract ranging from 0% to 3.5%. We deduct from your contract these premium tax
charges. Currently we deduct the charge for premium taxes when you take a full
withdrawal or begin the Income Phase of the contract. In the future, we may
assess this deduction at the time you put Purchase Payment(s) into the contract
or upon payment of a death benefit.
INCOME TAXES
We do not currently deduct income taxes from your contract. We reserve the right
to do so in the future.
REDUCTION OR ELIMINATION OF CHARGES AND EXPENSES, AND ADDITIONAL AMOUNTS
CREDITED
Sometimes sales of the contracts to groups of similarly situated individuals may
lower our administrative and/or sales expenses. We reserve the right to reduce
or waive certain charges and expenses when this type of sale occurs. In
addition, we may also credit additional interest to policies sold to such
groups. We determine which groups are eligible for such treatment. Some of the
criteria we evaluate to make a determination are: size of the group; amount of
expected Purchase Payments; relationship existing between us and prospective
purchaser; nature of the purchase; length of time a group of contracts is
expected to remain active; purpose of the purchase and whether that purpose
increases the likelihood that our expenses will be reduced; and/or any other
factors that we believe indicate that administrative and/or sales expenses may
be reduced.
In addition, financial planners, institutions, broker-dealer representatives or
registered investment advisors utilizing the contract in fee-based investment
products pursuant to an agreement with the Distributor, may purchase a version
of Polaris(II) A-Class without incurring a front-end and/or contingent deferred
sales load.
AIG SunAmerica Life may make such a determination regarding sales to its
employees, it affiliates' employees and employees of currently contracted
broker-dealers; its registered representatives and immediate family members of
all of those described.
We reserve the right to change or modify any such determination or the treatment
applied to a particular group, at any time.
- ----------------------------------------------------------------
- ----------------------------------------------------------------
INCOME OPTIONS
- ----------------------------------------------------------------
- ----------------------------------------------------------------
ANNUITY DATE
During the Income Phase, we use the money accumulated in your contract to make
regular income payments to you. You may switch to the Income Phase any time
after your second contract anniversary. You select the month and year in which
you want income payments to begin. The first day of that month is the Annuity
Date. You may change your Annuity Date, so long as you do so at least seven days
before the income payments are scheduled to begin. Once you begin receiving
income payments, you cannot change your income option. Except as indicated under
Option 5 below, once you begin receiving income payments, you cannot access your
money through a withdrawal or surrender.
Income payments must begin on or before your 95th birthday or on your tenth
contract anniversary, whichever occurs later (latest Annuity Date). If you do
not choose an Annuity Date, your income payments will automatically begin on
this date.
19
Certain states may require your income payments to start earlier.
If the Annuity Date is past your 85th birthday, your contract could lose its
status as an annuity under Federal tax laws. This may cause you to incur adverse
tax consequences.
In addition, most Qualified contracts require you to take minimum distributions
after you reach age 70 1/2. SEE TAXES BELOW.
INCOME OPTIONS
Currently, this contract offers five standard income options. Other payout
options may be available. Contact the Annuity Service Center for more
information. If you elect to receive income payments but do not select an
option, your income payments will be made in accordance with Option 4 for a
period of 10 years. For income payments based on joint lives, we pay according
to Option 3, for a period of 10 years.
We base our calculation of income payments on the life of the Annuitant and the
annuity rates set forth in your contract. As the contract owner, you may change
the Annuitant at any time prior to the Annuity Date. You must notify us if the
Annuitant dies before the Annuity Date and designate a new Annuitant.
OPTION 1 - LIFE INCOME ANNUITY
This option provides income payments for the life of the Annuitant. Income
payments stop when the Annuitant dies.
OPTION 2 - JOINT AND SURVIVOR LIFE ANNUITY
This option provides income payments for the life of the Annuitant and for the
life of another designated person. Upon the death of either person, we will
continue to make income payments during the lifetime of the survivor. Income
payments stop when the survivor dies.
OPTION 3 - JOINT AND SURVIVOR LIFE ANNUITY WITH 10 OR 20 YEARS GUARANTEED
This option is similar to Option 2 above, with an additional guarantee of
payments for at least 10 years or 20 years. If the Annuitant and the survivor
die before all of the guaranteed income payments have been made, the remaining
payments are made to the Beneficiary under your contract.
OPTION 4 - LIFE ANNUITY WITH 10 OR 20 YEARS GUARANTEED
This option is similar to Option 1 above. In addition, this option provides a
guarantee that income payments will be made for at least 10 or 20 years. You
select the number of years. If the Annuitant dies before all guaranteed income
payments are made, the remaining income payments go to the Beneficiary under
your contract.
OPTION 5 - INCOME FOR A SPECIFIED PERIOD
This option provides income payments for a guaranteed period, ranging from 5 to
30 years. If the Annuitant dies before all of the guaranteed income payments are
made, the remaining income payments are made to the Beneficiary under your
contract. Additionally, if variable income payments are elected under this
option, you (or the Beneficiary under the contract if the Annuitant dies prior
to all guaranteed payments being made) may redeem the contract value after the
Annuity Date. The amount available upon such redemption would be the discounted
present value of any remaining guaranteed variable income payments. Any
applicable withdrawal charges will be deducted from the discounted value as if
you fully surrendered your contract.
The value of an Annuity Unit, regardless of the option chosen, takes into
account the mortality and expense risk charge. Since Option 5 does not contain
an element of mortality risk, no benefit is derived from this charge.
Please read the Statement of Additional Information ("SAI") for a more detailed
discussion of the income options.
For more information regarding Income Options using the Income Protector
feature, please see below.
FIXED OR VARIABLE INCOME PAYMENTS
You can choose income payments that are fixed, variable or both. Unless
otherwise elected, at the date when income payments begin you are invested in
the Variable Portfolios only, your income payments will be variable and if your
money is only in fixed accounts at that time, your income payments will be fixed
in amount. Further, if you are invested in both fixed and variable investment
options when income payments begin, your payments will be fixed and variable
unless otherwise elected. If income payments are fixed, AIG SunAmerica Life
guarantees the amount of each payment. If the income payments are variable the
amount is not guaranteed.
INCOME PAYMENTS
We make income payments on a monthly, quarterly, semi-annual or annual basis.
You instruct us to send you a check or to have the payments directly deposited
into your bank account. If state law allows, we distribute annuities with a
contract value of $5,000 or less in a lump sum. Also, if the selected income
option results in income payments of less than $50 per payment, we may decrease
the frequency of the payments, state law allowing.
If you are invested in the Variable Portfolios after the Annuity Date your
income payments vary depending on four things:
- for life options, your age when payments begin and in most states, if a
Non-qualified contract, your gender; and
- the value of your contract in the Variable Portfolios on the Annuity
Date; and
- the 3.5% assumed investment rate used in the annuity table for the
contract; and
20
- the performance of the Variable Portfolios in which you are invested
during the time you receive income payments.
If you are invested in both the fixed account options and the Variable
Portfolios after the Annuity Date, the allocation of funds between the fixed and
variable options also impacts the amount of your income payments.
The value of variable income payments, if elected, is based on an assumed
interest rate ("AIR") of 3.5% compounded annually. Variable income payments
generally increase or decrease from one income payment date to the next based
upon the performance of the applicable Variable Portfolios. If the performance
of the Variable Portfolios selected is equal to the AIR, the income payments
will remain constant. If performance of Variable Portfolios is greater than the
AIR, the income payments will increase and if it is less than the AIR, the
income payments will decline.
TRANSFERS DURING THE INCOME PHASE
During the Income Phase, one transfer per month is permitted between the
Variable Portfolios. No other transfers are allowed during the Income Phase.
DEFERMENT OF PAYMENTS
We may defer making fixed payments for up to six months, or less if required by
law. Interest is credited to you during the deferral period. See also ACCESS TO
YOUR MONEY above.
THE INCOME PROTECTOR FEATURE
The Income Protector feature is a future "safety net" which offers you the
ability to receive a guaranteed fixed minimum retirement income when you switch
to the Income Phase. With the Income Protector feature you know the level of
minimum income that will be available to you upon annuitization, regardless of
fluctuating market conditions.
The Income Protector is a standard feature of your contract. There is no
additional charge associated with this feature. This feature may not be
available in your state. Check with your financial representative regarding
availability.
We reserve the right to modify, suspend or terminate the Income Protector
feature at any time.
HOW WE DETERMINE THE AMOUNT OF YOUR MINIMUM GUARANTEED INCOME
We base the amount of minimum income available to you if you elect to receive
income payments using the Income Protector feature upon a calculation we call
the income benefit base.
The income benefit base is only a calculation. It does not represent a contract
value, nor does it guarantee performance of the Variable Portfolios in which you
invest.
Your income benefit base increases if you make subsequent Purchase Payments and
decreases if you withdraw money from your contract. The exact income benefit
base calculation is equal to (a) plus (b) minus (c) where:
(a) is equal to, for the first year of calculation, your initial Purchase
Payment, or for each subsequent year of calculation, the income benefit
base on the prior contract anniversary, and;
(b) is equal to the sum of all subsequent Purchase Payments made into the
contract since the last contract anniversary, and;
(c) is equal to all withdrawals and applicable fees and charges since the
last contract anniversary, in an amount proportionate to the amount by
which such withdrawals decreased your contract value.
ELECTING TO RECEIVE INCOME PAYMENTS
You may elect to begin the Income Phase of your contract using the Income
Protector feature ONLY within the 30 days after the seventh or later contract
anniversary.
The contract anniversary prior to your election to begin receiving income
payments is your income benefit date. This is the date as of which we calculate
your income benefit base to use in determining your guaranteed minimum fixed
retirement income. Your final income benefit base is equal to (a) minus (b)
where:
(a) is equal to your income benefit base as of your income benefit date,
and;
(b) is equal to any partial withdrawals of contract value and any charges
applicable to those withdrawals and any withdrawal charges otherwise
applicable, calculated as if you fully surrender your contract as the
income benefit date, and any applicable premium taxes.
To arrive at the minimum guaranteed retirement income available to you we apply
to your final income benefit base the annuity rates stated in your Income
Protector endorsement for the income option you select. You then choose if you
would like to receive that income annually, semi-annually quarterly or monthly
for the time guaranteed under your selected income option. The income options
available when using the income protector feature to receive your retirement
income are:
- Life Annuity with 10 Years Guaranteed, or
- Joint and Survivor Life Annuity with 20 Years Guaranteed
At the time you elect to begin receiving income payments, we will calculate your
income payments using both your income benefit base and your contract value. We
will use the same income option for each calculation, however, the annuity
factors used to calculate your income under the Income Protector feature will be
different. You will receive whichever provides a greater stream of income. If
you elect to receive
21
income payments using the Income Protector feature your income payments will be
fixed in amount. You are not required to use the Income Protector feature to
receive income payments.
If a Spousal Beneficiary elects to continue the contract upon the death of the
original owner, the Income Protector feature will continue. The Continuation
Contribution is not a purchase payment and therefore will not impact the income
benefit base calculation. The waiting period before electing to use the Income
Protector feature will be counted from the original issue date of the contract.
NOTE TO QUALIFIED CONTRACT HOLDERS
Qualified contracts generally require that you select an income option which
does not exceed your life expectancy. That restriction, if it applies to you,
may limit your ability to use the Income Protector feature.
You may wish to consult your tax advisor for information concerning your
particular circumstances. SEE APPENDIX D FOR AN EXAMPLE OF THE OPERATION OF THE
INCOME PROTECTOR FEATURE.
- ----------------------------------------------------------------
- ----------------------------------------------------------------
TAXES
- ----------------------------------------------------------------
- ----------------------------------------------------------------
NOTE: THE BASIC SUMMARY BELOW ADDRESSES BROAD FEDERAL TAXATION MATTERS, AND
GENERALLY DOES NOT ADDRESS STATE TAXATION ISSUES OR QUESTIONS. IT IS NOT TAX
ADVICE. WE CAUTION YOU TO SEEK COMPETENT TAX ADVICE ABOUT YOUR OWN
CIRCUMSTANCES. WE DO NOT GUARANTEE THE TAX STATUS OF YOUR ANNUITY. TAX LAWS
CONSTANTLY CHANGE; THEREFORE, WE CANNOT GUARANTEE THAT THE INFORMATION CONTAINED
HEREIN IS COMPLETE AND/OR ACCURATE. WE HAVE INCLUDED AN ADDITIONAL DISCUSSION
REGARDING TAXES IN THE SAI.
ANNUITY CONTRACTS IN GENERAL
The Internal Revenue Code ("IRC") provides for special rules regarding the tax
treatment of annuity contracts. Generally, taxes on the earnings in your annuity
contract are deferred until you take the money out. Qualified retirement
investments that satisfy specific tax and ERISA requirements automatically
provide tax deferral regardless of whether the underlying contract is an
annuity, a trust, or a custodial account. Different rules apply depending on how
you take the money out and whether your contract is Qualified or Non-Qualified.
If you do not purchase your contract under a pension plan, a specially sponsored
employer program or an individual retirement account, your contract is referred
to as a Non-Qualified contract. A Non-Qualified contract receives different tax
treatment than a Qualified contract. In general, your cost in a Non-Qualified
contract is equal to the Purchase Payments you put into the contract. You have
already been taxed on the cost basis in your contract.
If you purchase your contract under a pension plan, a specially sponsored
employer program or as an individual retirement account, your contract is
referred to as a Qualified contract. Examples of qualified plans or arrangements
are: Individual Retirement Accounts ("IRAs"), Roth IRAs, Tax-Sheltered Annuities
(referred to as 403(b) contracts), plans of self-employed individuals (often
referred to as H.R. 10 Plans or Keogh Plans) and pension and profit sharing
plans, including 401(k) plans. Typically, for employer plans and tax-deductible
IRA contributions, you have not paid any tax on the Purchase Payments used to
buy your contract and therefore, you have no cost basis in your contract.
However, you normally will have cost basis in a Roth IRA, and you may have cost
basis in a traditional IRA or in another Qualified Contract.
TAX TREATMENT OF DISTRIBUTIONS--NON-QUALIFIED CONTRACTS
If you make a partial or total withdrawal from a Non-Qualified contract, the IRC
treats such a withdrawal as first coming from the earnings and then as coming
from your Purchase Payments. Purchase payments made prior to August 14, 1982,
however, are an important exception to this general rule, and for tax purposes
are treated as being distributed before the earnings on those contributions. If
you annuitize your contract, a portion of each income payment will be
considered, for tax purposes, to be a return of a portion of your Purchase
Payment(s). Any portion of each income payment that is considered a return of
your Purchase Payment will not be taxed. Withdrawn earnings are treated as
income to you and are taxable. The IRC provides for a 10% penalty tax on any
earnings that are withdrawn other than in conjunction with the following
circumstances: (1) after reaching age 59 1/2; (2) when paid to your Beneficiary
after you die; (3) after you become disabled (as defined in the IRC); (4) when
paid in a series of substantially equal installments made for your life or for
the joint lives of you and your Beneficiary; (5) under an immediate annuity; or
(6) which are attributable to Purchase Payments made prior to August 14, 1982.
TAX TREATMENT OF DISTRIBUTIONS--QUALIFIED CONTRACTS (INCLUDING GOVERNMENTAL
457(b) ELIGIBLE DEFERRED COMPENSATION PLANS)
Generally, you have not paid any taxes on the Purchase Payments used to buy a
Qualified contract. As a result, with certain limited exceptions, any amount of
money you take out as a withdrawal or as income payments is taxable income. In
the case of certain Qualified contracts, the IRC further provides for a 10%
penalty tax on any taxable withdrawal or income payment paid to you other than
in conjunction with the following circumstances: (1) after reaching age 59 1/2;
(2) when paid to your Beneficiary after you die; (3) after you become disabled
(as defined in the IRC); (4) in a series
22
of substantially equal installments, made for your life or for the joint lives
of you and your Beneficiary, that begins after separation from service with the
employer sponsoring the plan; (5) to the extent such withdrawals do not exceed
limitations set by the IRC for deductible amounts paid during the taxable year
for medical care; (6) to fund higher education expenses (as defined in the IRC;
only from an IRA); (7) to fund certain first-time home purchase expenses (only
from an IRA); (8) when you separate from service after attaining age 55 (does
not apply to an IRA); (9) when paid for health insurance, if you are unemployed
and meet certain requirements; and (10) when paid to an alternate payee pursuant
to a qualified domestic relations order. This 10% penalty tax does not apply to
withdrawals or income payments from governmental 457(b) eligible deferred
compensation plans, except to the extent that such withdrawals or income
payments are attributable to a prior rollover to the plan (or earnings thereon)
from another plan or arrangement that was subject to the 10% penalty tax.
The IRC limits the withdrawal of an employee's voluntary Purchase Payments from
a Tax-Sheltered Annuity (TSA). Withdrawals can only be made when an owner: (1)
reaches age 59 1/2; (2) severs employment with the employer; (3) dies; (4)
becomes disabled (as defined in the IRC); or (5) experiences a financial
hardship (as defined in the IRC). In the case of hardship, the owner can only
withdraw Purchase Payments. Additional plan limitations may also apply. Amounts
held in a TSA annuity contract as of December 31, 1988 are not subject to these
restrictions. Qualifying transfers of amounts from one TSA contract to another
TSA contract under section 403(b) or to a custodial account under section
403(b)(7), and qualifying transfers to a state defined benefit plan to purchase
service credits, are not considered distributions, and thus are not subject to
these withdrawal limitations. If amounts are transferred from a custodial
account described in Code section 403(b)(7) to this contract the transferred
amount will retain the custodial account withdrawal restrictions.
Withdrawals from other Qualified Contracts are often limited by the IRC and by
the employer's plan.
MINIMUM DISTRIBUTIONS
Generally, the IRC requires that you begin taking annual distributions from
qualified annuity contracts by April 1 of the calendar year following the later
of (1) the calendar year in which you attain age 70 1/2 or (2) the calendar year
in which you separate from service from the employer sponsoring the plan. If you
own an IRA, you must begin taking distributions when you attain age 70 1/2
regardless of when you separate from service from the employer sponsoring the
plan. If you own more than one TSA, you may be permitted to take your annual
distributions in any combination from your TSAs. A similar rule applies if you
own more than one IRA. However, you cannot satisfy this distribution requirement
for your TSA contract by taking a distribution from an IRA, and you cannot
satisfy the requirement for your IRA by taking a distribution from a TSA.
You may be subject to a surrender charge on withdrawals taken to meet minimum
distribution requirements, if the withdrawals exceed the contract's maximum
penalty free amount.
Failure to satisfy the minimum distribution requirements may result in a tax
penalty. You should consult your tax advisor for more information.
You may elect to have the required minimum distribution amount on your contract
calculated and withdrawn each year under the automatic withdrawal option. You
may select monthly, quarterly, semiannual, or annual withdrawals for this
purpose. This service is provided as a courtesy and we do not guarantee the
accuracy of our calculations. Accordingly, we recommend you consult your tax
advisor concerning your required minimum distribution. You may terminate your
election for automated minimum distribution at any time by sending a written
request to our Annuity Service Center. We reserve the right to change or
discontinue this service at any time.
The IRS issued new regulations, effective January 1, 2003, regarding required
minimum distributions from qualified annuity contracts. One of the regulations
requires that the annuity contract value used to determine required minimum
distributions include the actuarial value of other benefits under the contract,
such as optional death benefits. This regulation does not apply to required
minimum distributions made under an irrevocable annuity income option. We are
currently awaiting further clarification from the IRS on this regulation,
including how the value of such benefits is determined. You should discuss the
effect of these new regulations with your tax advisor.
TAX TREATMENT OF DEATH BENEFITS
Any death benefits paid under the contract are taxable to the Beneficiary. The
rules governing the taxation of payments from an annuity contract, as discussed
above, generally apply whether the death benefits are paid as lump sum or
annuity payments. Estate taxes may also apply.
Certain enhanced death benefits may be purchased under your contract. Although
these types of benefits are used as investment protection and should not give
rise to any adverse tax effects, the IRS could take the position that some or
all of the charges for these death benefits should be treated as a partial
withdrawal from the contract. In that case, the amount of the partial withdrawal
may be includible in taxable income and subject to the 10% penalty if the owner
is under 59 1/2.
If you own a Qualified contract and purchase these enhanced death benefits, the
IRS may consider these benefits
23
"incidental death benefits." The IRC imposes limits on the amount of the
incidental death benefits allowable for Qualified contracts. If the death
benefit(s) selected by you are considered to exceed these limits, the
benefit(s)could result in taxable income to the owner of the Qualified contract.
Furthermore, the IRC provides that the assets of an IRA (including a Roth IRA)
may not be invested in life insurance, but may provide, in the case of death
during the Accumulation Phase, for a death benefit payment equal to the greater
of Purchase Payments or Contract Value. This contract offers death benefits,
which may exceed the greater of Purchase Payments or Contract Value. If the IRS
determines that these benefits are providing life insurance, the contract may
not qualify as an IRA (including Roth IRAs). You should consult your tax advisor
regarding these features and benefits prior to purchasing a contract.
CONTRACTS OWNED BY A TRUST OR CORPORATION
A Trust or Corporation ("Non-Natural Owner") that is considering purchasing this
contract should consult a tax advisor. Generally, the IRC does not treat a
Non-Qualified contract owned by a non-natural owner as an annuity contract for
Federal income tax purposes. The non-natural owner pays tax currently on the
contract's value in excess of the owner's cost basis. However, this treatment is
not applied to a contract held by a trust or other entity as an agent for a
natural person nor to contracts held by Qualified Plans. See the SAI for a more
detailed discussion of the potential adverse tax consequences associated with
non-natural ownership of a non-qualified annuity contract.
GIFTS, PLEDGES AND/OR ASSIGNMENTS OF A CONTRACT
If you transfer ownership of your Non-Qualified contract to a person other than
your spouse (or former spouse incident to divorce) as a gift you will pay
federal income tax on the contract's cash value to the extent it exceeds your
cost basis. The recipient's cost basis will be increased by the amount on which
you will pay federal taxes. In addition, the IRC treats any assignment or pledge
(or agreement to assign or pledge) of any portion of a Non- Qualified contract
as a withdrawal. See the SAI for a more detailed discussion regarding potential
tax consequences of gifting, assigning, or pledging a Non-Qualified contract.
The IRC prohibits Qualified annuity contracts including IRAs from being
transferred, assigned or pledged as security for a loan. This prohibition,
however, generally does not apply to loans under an employer-sponsored plan
(including loans from the annuity contract) that satisfy certain requirements,
provided that: (a) the plan is not an unfunded deferred compensation plan; and
(b) the plan funding vehicle is not an IRA.
DIVERSIFICATION AND INVESTOR CONTROL
The IRC imposes certain diversification requirements on the underlying
investments for a variable annuity. We believe that the management of the
Underlying Funds monitors the Funds so as to comply with these requirements. To
be treated as a variable annuity for tax purposes, the underlying investments
must meet these requirements.
The diversification regulations do not provide guidance as to the circumstances
under which you, and not the Company, would be considered the owner of the
shares of the Variable Portfolios under your Non-Qualified Contract, because of
the degree of control you exercise over the underlying investments. This
diversification requirement is sometimes referred to as "investor control." It
is unknown to what extent owners are permitted to select investments, to make
transfers among Variable Portfolios or the number and type of Variable
Portfolios owners may select from. If any guidance is provided which is
considered a new position, then the guidance should generally be applied
prospectively. However, if such guidance is considered not to be a new position,
it may be applied retroactively. This would mean that you, as the owner of the
Non-qualified Contract, could be treated as the owner of the underlying Variable
Portfolios. Due to the uncertainty in this area, we reserve the right to modify
the contract in an attempt to maintain favorable tax treatment.
These investor control limitations generally do not apply to Qualified
Contracts, which are referred to as "Pension Plan Contracts" for purposes of
this rule, although the limitations could be applied to Qualified Contracts in
the future.
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PERFORMANCE
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We advertise the Cash Management Portfolio's yield and effective yield. In
addition, the other Variable Portfolios advertise total return, gross yield and
yield-to-maturity. These figures represent past performance of the Variable
Portfolios. These performance numbers do not indicate future results.
When we advertise performance for periods prior to the date the particular
variable portfolio was incepted through the separate account, we derive the
figures from the performance of the corresponding portfolios for the Trusts, if
available. We modify these numbers to reflect charges and expenses as if the
contract was in existence during the period stated in the advertisement. Figures
calculated in this manner do not represent actual historic performance of the
particular Variable Portfolio.
24
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OTHER INFORMATION
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THE SEPARATE ACCOUNT
AIG SunAmerica Life originally established a separate account, Variable Annuity
Account Seven ("separate account"), under Arizona law on August 28, 1998. The
separate account is registered with the SEC as a unit investment trust under the
Investment Company Act of 1940, as amended.
AIG SunAmerica Life owns the assets in the separate account. However, the assets
in the separate account are not chargeable with liabilities arising out of any
other business conducted by AIG SunAmerica Life. Income gains and losses
(realized and unrealized) resulting from assets in the separate account are
credited to or charged against the separate account without regard to other
income gains or losses of AIG SunAmerica Life. Assets in the separate account
are not guaranteed by AIG SunAmerica Life.
THE GENERAL ACCOUNT
Money allocated to the fixed account options goes into AIG SunAmerica Life's
general account. The general account consists of all of AIG SunAmerica Life's
assets other than assets attributable to a separate account. All of the assets
in the general account are chargeable with the claims of any AIG SunAmerica Life
contract holders as well as all of its creditors. The general account funds are
invested as permitted under state insurance laws.
PAYMENTS IN CONNECTION WITH DISTRIBUTION OF THE CONTRACT
PAYMENTS TO BROKER-DEALERS
Registered representatives of broker-dealers sell the contract. We pay
commissions to the broker-dealers for the sale of your contract ("Contract
Commissions"). We pay upfront Contract Commissions that may be up to a maximum
5% of each Gross Purchase Payment you invest and a trail commission of up to a
maximum 0.25% of contract value, annually. We pay Contract Commissions directly
to the broker-dealer with whom your registered representative is affiliated.
Registered representatives may receive a portion of these amounts we pay in
accordance with any agreement in place between the registered representative and
his/her broker-dealer firm.
We (or our affiliates) may pay broker-dealers or permitted third parties cash or
non-cash compensation, including reimbursement of expenses incurred in
connection with the sale of these contracts. These payments may be intended to
reimburse for specific expenses incurred or may be based on sales, certain
assets under management or longevity of assets invested with Us. For example, we
may pay additional amounts in connection with contracts that remain invested
with us for a particular period of time. We enter into such arrangements in our
discretion and we may negotiate customized arrangements with firms, including
affiliated and non-affiliated broker-dealers based on various factors.
Promotional incentives may change at any time.
The sales charges on your contract cover the cost of the Contract Commission.
Other amounts that we may pay are not deducted from your Purchase Payments. We
anticipate recovering these amounts from the fees and charges collected under
the contract. Certain compensation payments may increase our cost of doing
business in a particular firm and may result in higher contractual fees and
charges if you purchase your contract through such a firm. See EXPENSES, above.
AIG SunAmerica Capital Services, Inc., Harborside Financial Center, 3200 Plaza
5, Jersey City, NJ 07311-4992, distributes the contracts. AIG SunAmerica Capital
Services, an affiliate of AIG SunAmerica Life, is a registered broker-dealer
under the Exchange Act of 1934 and is a member of the National Association of
Securities Dealers, Inc. No underwriting fees are paid in connection with the
distribution of the contracts.
PAYMENTS WE RECEIVE
In addition to amounts received pursuant to established 12b-1 Plans, we may
receive compensation of up to 0.50% from the investment advisers, subadvisers or
their affiliates of certain of the underlying Trusts and/or portfolios for
services related to the availability of the underlying portfolios in the
contract. Furthermore, certain advisers and/or subadvisers may offset the costs
we incur for training to support sales of the underlying funds in the contract.
ADMINISTRATION
We are responsible for the administrative servicing of your contract. Please
contact our Annuity Service Center at 1-800-445-SUN2, if you have any comment,
question or service request.
During the Accumulation Phase, you will receive confirmation of transactions
within your contract. Transactions made pursuant to contractual or systematic
agreements, such as deduction of the annual maintenance fee and dollar cost
averaging, may be confirmed quarterly. Purchase Payments received through the
automatic payment plan or a salary reduction arrangement, may also be confirmed
quarterly. For other transactions, we send confirmations immediately.
During the Accumulation and Income Phases, you will receive a statement of your
transactions over the past quarter and a summary of your account values.
It is your responsibility to review these documents carefully and notify us of
any inaccuracies immediately. We investigate all inquiries. To the extent that
we believe we made an error, we retroactively adjust your contract, provided you
notify us within 30 days of receiving the transaction confirmation or quarterly
statement. Any other adjustments we deem warranted are made as of the time we
receive notice of the error.
25
LEGAL PROCEEDINGS
There are no pending legal proceedings affecting the separate account. AIG
SunAmerica Life engages in various kinds of routine litigation. In management's
opinion, these matters are not material in relation to the financial position of
the Company. A purported class action captioned NIKITA Mehta, as Trustee of the
N.D. Mehta Living Trust vs. AIG SunAmerica Life Assurance Company, Case 04L0199,
was filed on April 5, 2004 in the Circuit Court, Twentieth Judicial District in
St. Clair County, Illinois. The lawsuit alleges certain improprieties in
conjunction with alleged market timing activities. The probability of any
particular outcome cannot be reasonably estimated at this time.
26
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AIG SUNAMERICA LIFE ASSURANCE COMPANY
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AIG SunAmerica Life Assurance Company (the "Company") was incorporated as
Anchor National Life Insurance Company under the laws of the State of Arizona on
April 12, 1965 while the Company changed its name to AIG SunAmerica Life
Assurance Company on January 24, 2002. The Company continued to do business as
Anchor National Life Insurance Company until February 28, 2003, after which time
it began doing business under its new name, AIG SunAmerica Life Assurance
Company.
The Company is a direct wholly owned subsidiary of SunAmerica Life
Insurance Company (the "Parent"), which is a wholly owned subsidiary of AIG
Retirement Services, Inc. ("AIGRS") (formerly AIG SunAmerica Inc.), a wholly
owned subsidiary of American International Group, Inc. ("AIG"). AIG is a holding
company, which through its subsidiaries is engaged in a broad range of insurance
and insurance-related activities, financial services and retirement services and
asset management.
The Company has no employees; however, employees of AIGRS and other
affiliates of the Company perform various services for the Company. AIGRS had
approximately 1,900 employees at December 31, 2004, approximately 1,100 of whom
perform services for the Company as well as for certain of its affiliates.
The Company's primary activities are retirement services, herein discussed
as annuity operations and asset management operations. The annuity operations
consist of the sale and administration of deposit-type insurance contracts, such
as variable and fixed annuity contracts, universal life insurance contracts and
guaranteed investment contracts ("GICs"). The asset management operations are
conducted by the Company's registered investment advisor subsidiary, AIG
SunAmerica Asset Management Corp ("SAAMCo"), and its wholly owned distributor,
AIG SunAmerica Capital Services, Inc. ("SACS"), and its wholly owned servicing
administrator, AIG SunAmerica Fund Services, Inc. ("SFS"). See Note 13 of Notes
to the Consolidated Financial Statements for operating results by segment.
The Company ranks among the largest U.S. issuers of variable annuity
contracts. The Company distributes its products and services through an
extensive network of independent broker-dealers, full-service securities firms
and financial institutions. In prior years, GICs were marketed directly to
banks, municipalities, asset management firms and direct plan sponsors and
through intermediaries, such as managers or consultants servicing these groups.
In addition to distributing its variable annuity products through its nine
affiliated broker-dealers, the Company distributes its products through a vast
network of independent broker-dealers, full-service securities firms and
financial institutions. In total, more than 84,000 independent sales
representatives are appointed to sell the Company's annuity products. The
Company's nine affiliated broker-dealers are among the largest networks of
registered representatives in the nation. Sales through affiliated
broker-dealers accounted for approximately a quarter of the Company's total
annuity sales in 2004.
The Company believes that demographic trends have produced strong consumer
demand for long-term, investment-oriented products. According to U.S. Census
Bureau projections, the number of individuals between the ages of 45 to 64 grew
from 51 million to 69 million from 1994 to 2003, making this age group the
fastest-growing segment of the U.S. population. Between 1994 and 2003, annual
industry premiums from fixed and variable annuities increased from $155 billion
to $267 billion.
Benefiting from continued strong growth of the retirement savings market,
industry sales of tax-deferred savings products have represented, for a number
of years, a significantly larger source of new premiums for the U.S. life
insurance industry than have traditional life insurance products. Recognizing
the growth potential of this market, the Company focuses its life operations on
the sale of variable annuity contracts. In recent years, the Company has
enhanced its marketing efforts and expanded its offerings of fee-based variable
annuity contracts. Variable accounts within the Company's variable annuity
business entail no portfolio credit risk and requires significantly less capital
support than the fixed accounts of variable annuity contracts ("Fixed Options"),
which generate net investment income.
F-1
The following table shows the Company's investment income, net realized
investment losses and fee income for the year ended December 31, 2004 by primary
product line or service:
NET INVESTMENT AND FEE INCOME
<Table>
<Caption>
AMOUNT PERCENT PRIMARY PRODUCT OR SERVICE
--------- -------- -----------------------------------------
(IN THOUSANDS, EXCEPT
FOR PERCENTAGES)
Fee income:
Variable annuity policy fees, net of reinsurance.......... $369,141 42.2% Variable annuity contracts
Asset management fees..................................... 89,569 10.2 Asset management
Universal life policy fees, net of reinsurance............ 33,899 3.9 Universal life products
Surrender charges......................................... 26,219 3.0 Fixed and variable annuity contracts
Other fees................................................ 15,753 1.8 Asset management
-------- -----
Total fee income.......................................... 534,581 61.1
Investment income........................................... 363,594 41.6 Fixed annuity contracts and Fixed Options
Net realized investment losses.............................. (23,807) (2.7) Fixed annuity contracts and Fixed Options
-------- -----
Total net investment and fee income......................... $874,368 100.0%
======== =====
</Table>
ANNUITY OPERATIONS - SEPARATE ACCOUNT
The annuity operations principally engaged in the business of issuing
variable annuity contracts directed to the market for tax-deferred, long-term
savings products. It also administers closed blocks of fixed annuity contracts,
universal life insurance contracts and GICs directed to the institutional
marketplace.
The Company's variable annuity products offer investors a broad spectrum of
fund alternatives, with a choice of investment managers, as well as Fixed
Options. The Company earns fees on the amounts earned in variable account
options of its variable annuity products held in separate accounts and net
investment income on the Fixed Options held in the general account. Variable
annuity contracts offer retirement planning features similar to those offered by
fixed annuity contracts, but differ in that the contract holder's rate of return
is generally dependent upon the investment performance of the particular equity,
fixed-income, money market or asset allocation fund selected by the contract
holder. Because the investment risk is generally borne by the customer in all
but the Fixed Options, these products require significantly less capital support
than fixed annuity contracts.
At December 31, 2004, variable product liabilities were $26.04 billion, of
which $22.61 billion were held in separate accounts and $3.43 billion were the
liabilities of the Fixed Options, held in the Company's general account. The
Company's variable annuity products incorporate incentives, surrender charges
and/or other restrictions to encourage persistency. At December 31, 2004, 71% of
the Company's variable annuity liabilities held in separate accounts were
subject to surrender penalties or other restrictions. The Company's variable
annuity products also generally limit the number of transfers made in a
specified period between account options without the assessment of a fee. The
average size of a new variable annuity contract sold by the Company in 2004 was
approximately $74,000.
ANNUITY OPERATIONS - GENERAL ACCOUNT
The Company's general account obligations are fixed-rate products,
principally Fixed Options, but also including fixed annuity contracts, GICs and
universal life insurance contracts ("Fixed-Rate Products") issued in prior
years. The Fixed Options provide interest rate guarantees of certain periods
ranging up to ten years. Although the Company's annuity contracts remain in
force an average of seven to ten years, approximately 77% of the reserves for
fixed annuity contracts and Fixed Options, as well as the universal life
insurance contracts, reprice annually at discretionary rates determined by the
Company subject to a minimum rate guarantee ranging from 1.5% to 4.0%, depending
on the contract. In repricing, the Company takes into account yield
characteristics of its investment portfolio, surrender assumptions and
competitive industry pricing, among other factors.
In prior years, the Company augmented its retail annuity business with the
sale of institutional products. At December 31, 2004, the Company had $211.4
million of fixed-maturity, variable-rate GIC obligations that reprice
periodically based upon certain defined indices and $3.9 million of
fixed-maturity, fixed-rate GICs.
The Company designs its Fixed-Rate Products and conducts its investment
operations in order to closely match the duration and cash flows of the assets
in its investment portfolio to its fixed-rate obligations. The Company seeks to
achieve a predictable spread between what it earns on its assets and what it
pays on its liabilities by investing principally in fixed-rate securities. The
Company's Fixed-Rate Products incorporate incentives, surrender charges and
other restrictions in order to encourage
F-2
persistency. Approximately 77% of the Company's reserves for Fixed-Rate Products
had incentives, surrender penalties and/or other restrictions at December 31,
2004.
INVESTMENT OPERATIONS
The Company believes a portfolio principally composed of fixed-rate
investments that generate predictable rates of return should back its
liabilities for Fixed-Rate Products. The Company does not have a specific target
rate of return. Instead, its rates of return vary over time depending on the
current interest rate environment, the slope of the yield curve, the spread at
which fixed-rate investments are priced over the yield curve, default rates and
general economic conditions. The majority of the Company's invested assets are
managed by an affiliate of AIG. Its portfolio strategy is constructed with a
view to achieve adequate risk-adjusted returns consistent with its investment
objectives of effective asset-liability matching, liquidity and safety.
For more information concerning the Company's investments, including the
risks inherent in such investments, see Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Capital Resources
and Liquidity."
ASSET MANAGEMENT OPERATIONS
Effective January 1, 2004, the Parent contributed to the Company 100% of
the outstanding capital stock of its consolidated subsidiary, SAAMCo, which in
turn has two wholly owned subsidiaries: SACS and SFS. Pursuant to this
contribution, SAAMCo became a direct wholly owned subsidiary of the Company.
This contribution increased the Company's shareholder's equity by $150,653,000.
Assets, liabilities and shareholder's equity at December 31, 2003 were restated
to include $190,605,000, $39,952,000 and $150,653,000, respectively, of SAAMCo
balances. Similarly, the results of operations and cash flows have been restated
for the years ended December 31, 2003 and 2002 for the addition and subtraction
to pretax income of $16,345,000 and $4,464,000, respectively, to reflect the
SAAMCo activity.
The asset management operations are conducted by the Company's registered
investment advisor subsidiary, SAAMCo, and its wholly owned distributor, SACS,
and its wholly owned servicing administrator, SFS. These companies earn fee
income by managing, distributing and administering a diversified family of
mutual funds, serving as investment advisor to certain variable investment
portfolios offered within the Company's variable annuity products and providing
professional management of individual, corporate and pension plan portfolios.
REGULATION
The Company, in common with other insurers, is subject to regulation and
supervision by the states and jurisdictions in which it does business. Within
the United States, the method of such regulation varies but generally has its
source in statutes that delegate regulatory and supervisory powers to an
insurance official. The regulation and supervision relate primarily to approval
of policy forms and rates, the standards of solvency that must be met and
maintained, including risk based capital measurements, the licensing of insurers
and their agents, the nature of and limitations on investments, restrictions on
the size of risks which may be insured under a single contract, deposits of
securities for the benefit of contract holders, methods of accounting, periodic
examinations of the affairs of insurance companies, the form and content of
reports of financial condition required to be filed, and reserves for unearned
premiums, losses and other purposes. In general, such regulation is for the
protection of contract holders rather than security holders.
Risk-based capital ("RBC") standards are designed to measure the adequacy
of an insurer's statutory capital and surplus in relation to the risks inherent
in its business. The standards are intended to help identify inadequately
capitalized companies and require specific regulatory actions in the event an
insurer's RBC is deficient. The RBC formula develops a risk-adjusted target
level of adjusted statutory capital and surplus by applying certain factors to
various asset, premium and reserve items. Higher factors are applied to more
risky items and lower factors are applied to less risky items. Thus, the target
level of statutory surplus varies not only as a result of the insurer's size,
but also on the risk profile of the insurer's operations. The RBC Model Law
provides four incremental levels of regulatory attention for insurers whose
surplus is below the calculated RBC target. These levels of attention range in
severity from requiring the insurer to submit a plan for corrective action to
actually placing the insurer under regulatory control. The statutory capital and
surplus of the Company exceeded its RBC requirements as of December 31, 2004.
The federal government does not directly regulate the business of
insurance, however, the Company, its subsidiaries and its products are governed
by federal agencies, including the Securities and Exchange Commission ("SEC"),
the Internal Revenue Service and the self-regulatory organization, National
Association of Securities Dealers, Inc. ("NASD"). Federal legislation and
administrative policies in several areas, including financial services
regulation, pension regulation and federal taxation, can significantly and
adversely affect the insurance industry. The federal government has from time to
time considered legislation relating to the deferral of taxation on the
accretion of value within certain annuities and life insurance products, changes
in the
F-3
Employee Retirement Income Security Act regulations, the alteration of the
federal income tax structure and the availability of Section 401(k) and
individual retirement accounts. Although the ultimate effect of any such
changes, if implemented, is uncertain, both the persistency of our existing
products and our ability to sell products may be materially impacted in the
future.
Recently there has been a significant increase in federal and state
regulatory activity relating to financial services companies, particularly
mutual fund companies and life insurers issuing variable annuity products. These
inquiries have focused on a number of issues including, among other items,
after-hours trading, short-term trading (sometimes referred to as market
timing), suitability, revenue sharing arrangements and greater transparency
regarding compensation arrangements. There are several rule proposals pending at
the SEC, the NASD and on a federal level, which, if passed, could have an impact
on the business of the Company and/or its subsidiaries.
COMPETITION
The businesses conducted by the Company are highly competitive. The Company
competes with other life insurers, and also competes for customers' funds with a
variety of investment products offered by financial services companies other
than life insurance companies, such as banks, investment advisors, mutual fund
companies and other financial institutions. In 2003, net annuity premiums
written among the top 100 companies ranged from approximately $79 million to
approximately $20 billion annually. The Company together with its affiliates
ranked third largest of this group. The Company believes the primary competitive
factors among life insurance companies for investment-oriented insurance
products, such as annuities include product flexibility, net return after fees,
innovation in product design, the insurer financial strength rating and the name
recognition of the issuing company, the availability of distribution channels
and service rendered to the customer before and after a contract is issued.
Other factors affecting the annuity business include the benefits (including
before-tax and after-tax investment returns) and guarantees provided to the
customer and the commissions paid.
AVAILABLE INFORMATION
AIG SunAmerica Life Assurance Company (the "Company") files annual,
quarterly, and current reports and other information with the Securities and
Exchange Commission (the "SEC"). The SEC maintains a website that contains
annual, quarterly, and current reports and other information that issuers
(including the Company) file electronically with the SEC. The SEC's website is
http://www.sec.gov. Additionally, any materials the Company files with the SEC
may be read and copied at the SEC's Public Reference Room at 450 Fifth Street,
NW, Washington, DC 20549. The public may obtain information on the operation of
the Public Reference Room by calling the SEC at 1-800-SEC-0330. The Company does
not maintain a website.
The Company makes available free of charge, Annual Reports on Form 10-K,
Quarterly Reports of Form 10-Q and Current Reports of Form 8-K and amendments to
those reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Securities Exchange Act of 1934 as soon as reasonably practicable after such
materials are electronically filed with, or furnished to the SEC.
SECURITIES AND EXCHANGE COMMISSION POSITION ON INDEMNIFICATION
Indemnification for liabilities arising under the 1933 Act is provided to
the Company's officers, directors and controlling persons. The SEC has advised
that it believes such indemnification is against public policy under the
Securities Act and unenforceable. If a claim for indemnification against such
liabilities (other than for payment of expenses incurred or paid by its
directors, officers or controlling persons in the successful defense of any
legal action) is asserted by a director, officer or controlling person of the
Company in connection with the securities registered under this prospectus, the
Company will submit to a court with jurisdiction to determine whether the
indemnification is against public policy under the Act. The Company will be
governed by final judgment of the issue. However, if in the opinion of the
Company's counsel this issue has been determined by controlling precedent, the
Company will not submit the issue to a court for determination.
DESCRIPTION OF PROPERTY
The Company's executive offices and its principal office are in leased
premises at 1 SunAmerica Center, Los Angeles, California 90067. The Company,
through an affiliate, also leases office space in Woodland Hills, California and
Jersey City, New Jersey.
The Company believes that such properties, including the equipment located
therein, are suitable and adequate to meet the requirements of its businesses.
F-4
SELECTED FINANCIAL DATA
The following selected financial data of the Company should be read in
conjunction with the consolidated financial statements and notes thereto and
Management's Discussion and Analysis of Financial Condition and Results of
Operations, both of which are included elsewhere herein.
The following selected financial date of the Company for years prior to
December 31, 2004 have been restated as if the contribution of SAAMCo and its
related subsidiaries were effective as of the earliest period reported below.
The following amounts include only the subsidiaries of SAAMCo as of December 31,
2004.
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
----------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
(IN THOUSANDS)
Results of Operations
Revenues:
Fee income, net of reinsurance.............................. $534,581 $427,091 $444,002 $481,945 $549,970
Investment income........................................... 363,594 402,923 387,355 370,198 398,168
Net realized investment losses.............................. (23,807) (30,354) (65,811) (59,784) (15,177)
-------- -------- -------- -------- --------
Total revenues............................................ 874,368 799,660 765,546 792,359 932,961
Benefits and Expenses:
Interest expense............................................ 222,749 240,213 238,129 244,614 264,493
Amortization of bonus interest.............................. 10,357 19,776 16,277 11,938 3,824
General and administrative expenses......................... 131,612 119,093 115,210 99,232 138,955
Amortization of deferred acquisition costs and other
deferred expenses......................................... 157,650 160,106 222,484 208,378 154,183
Annual commissions.......................................... 64,323 55,661 58,389 58,278 56,473
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,420 17,766 15,716 17,566 19,914
Guaranteed minimum death benefits, net of reinsurance
recoveries................................................ 58,756 63,268 67,492 17,839 614
-------- -------- -------- -------- --------
Total benefits & expenses................................. 662,867 675,883 733,697 657,845 638,456
-------- -------- -------- -------- --------
Pretax income before cumulative effect of accounting
change.................................................... 211,501 123,777 31,849 134,514 294,505
Income tax expense.......................................... 6,410 30,247 160 21,824 94,400
-------- -------- -------- -------- --------
Net income before cumulative effect of accounting change.... 205,091 93,530 31,689 112,690 200,105
-------- -------- -------- -------- --------
Cumulative effect of accounting change, net of tax.......... (62,589) -- -- (10,342) --
-------- -------- -------- -------- --------
Net Income.................................................. $142,502 $ 93,530 $ 31,689 $102,348 $200,105
======== ======== ======== ======== ========
</Table>
In 2004, the Company adopted AICPA Statement of Position 03-1, "Accounting
and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration
Contracts and for Separate Accounts ("SOP 03-1"), which was recorded as a
cumulative effect of accounting change. (See Note 2 of Notes to Consolidated
Financial Statements).
F-5
In 2001, the Company adopted EITF 99-20 "Recognition of Interest Income and
Impairment on Purchased and Retained Beneficial Interests in Securitized
Financial Assets" and Statement of Financial Accounting Standard 133,
"Accounting for Derivative Instruments and Hedging Activities" (FAS 133), which
were recorded as a cumulative effect of accounting change.
<Table>
<Caption>
DECEMBER 31,
-------------------------------------------------------------------
2004 2003 2002 2001 2000
----------- ----------- ----------- ----------- -----------
(IN THOUSANDS)
Financial Position
Investments and cash.................................. $ 7,125,986 $ 7,124,633 $ 7,248,324 $ 6,294,148 $ 5,249,827
Variable annuity assets held in separate accounts..... 22,612,451 19,178,796 14,758,642 18,526,413 20,393,820
Deferred acquisition costs and other deferred
expenses............................................ 1,606,870 1,505,328 1,436,802 1,419,498 1,286,456
Other assets.......................................... 150,708 162,970 309,221 258,446 177,468
----------- ----------- ----------- ----------- -----------
Total Assets.......................................... $31,496,015 $27,971,727 $23,752,989 $26,498,505 $27,107,571
=========== =========== =========== =========== ===========
Reserves for fixed annuity and fixed accounts of
variable annuity contracts.......................... $ 3,948,158 $ 4,274,329 $ 4,285,098 $ 3,498,917 $ 2,778,229
Reserves for universal life insurance contracts....... 1,535,905 1,609,233 1,676,073 1,738,493 1,832,667
Reserves for guaranteed investment contracts.......... 215,331 218,032 359,561 483,861 610,672
Variable annuity liabilities related to separate
accounts............................................ 22,612,451 19,178,796 14,758,642 18,526,413 20,393,820
Other payables and accrued liabilities................ 1,172,594 794,031 831,138 839,032 268,201
Subordinated notes payable to affiliates.............. -- 40,960 40,960 47,960 55,119
Deferred income taxes................................. 257,532 242,556 341,935 211,242 81,989
Shareholder's equity.................................. 1,754,044 1,613,790 1,459,582 1,152,587 1,086,874
----------- ----------- ----------- ----------- -----------
Total Liabilities and Shareholder's Equity............ $31,496,015 $27,971,727 $23,752,989 $26,498,505 $27,107,571
=========== =========== =========== =========== ===========
</Table>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Management's discussion and analysis of financial condition and results of
operations of AIG SunAmerica Life Assurance Company (the "Company") for the
years ended December 31, 2004 ("2004"), 2003 ("2003") and 2002 ("2002") follows.
Certain prior period amounts have been reclassified to conform to the current
period's presentation.
In connection with the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995, the Company cautions readers regarding certain
forward-looking statements contained in this report and in any other statements
made by, or on behalf of, the Company, whether or not in future filings with the
Securities and Exchange Commission (the "SEC"). Forward-looking statements are
statements not based on historical information and which relate to future
operations, strategies, financial results, or other developments. Statements
using verbs such as "expect," "anticipate," "believe" or words of similar import
generally involve forward-looking statements. Without limiting the foregoing,
forward-looking statements include statements which represent the Company's
beliefs concerning future levels of sales and redemptions of the Company's
products, investment spreads and yields, or the earnings and profitability of
the Company's activities.
Forward-looking statements are necessarily based on estimates and
assumptions that are inherently subject to significant business, economic and
competitive uncertainties and contingencies, many of which are beyond the
Company's control and many of which are subject to change. These uncertainties
and contingencies could cause actual results to differ materially from those
expressed in any forward-looking statements made by, or on behalf of, the
Company. Whether or not actual results differ materially from forward-looking
statements may depend on numerous foreseeable and unforeseeable developments.
Some may be national in scope, such as general economic conditions, changes in
tax law and changes in interest rates. Some may be related to the insurance
industry generally, such as pricing, competition, regulatory developments and
industry consolidation. Others may relate to the Company specifically, such as
credit, volatility and other risks associated with the Company's investment
portfolio. Investors are also directed to consider other risks and uncertainties
discussed in documents filed by the Company with the SEC. The Company disclaims
any obligation to update forward-looking information.
CRITICAL ACCOUNTING POLICIES
The Company considers its most critical accounting policies those policies
with respect to valuation of certain financial instruments, amortization of
deferred acquisition costs ("DAC") and other deferred expenses and the reserve
for guaranteed benefits. In the implementation of each of the aforementioned
policies, management is required to exercise its judgment on both a quantitative
and qualitative basis. Further explanation of how management exercises that
judgment follows.
F-6
Valuation of Certain Financial Instruments: Gross unrealized losses on debt
and equity securities available for sale amounted to $27.1 million at December
31, 2004. In determining if and when a decline in fair value below amortized
cost is other than temporary, the Company evaluates at each reporting period the
market conditions, offering prices, trends of earnings, price multiples, and
other key measures for investments in debt and equity securities. In particular,
for debt securities, the Company assesses the probability that all amounts due
are collectible according to the contractual terms of the obligation. When such
a decline in value is deemed to be other than temporary, the Company recognizes
an impairment loss in the current period operating results to the extent of the
decline (See also discussion within "Capital Resources and Liquidity" herein).
Securities in the Company's portfolio with a carrying value of
approximately $813.0 million at December 31, 2004 do not have readily
determinable market prices. For these securities, the Company estimates the fair
value with internally prepared valuations (including those based on estimates of
future profitability). Otherwise, the Company uses its most recent purchases and
sales of similar unquoted securities, independent broker quotes or comparison to
similar securities with quoted prices when possible to estimate the fair value
of those securities. All such securities are classified as available for sale.
The Company's ability to liquidate its positions in these securities will be
impacted to a significant degree by the lack of an actively traded market, and
the Company may not be able to dispose of these investments in a timely manner.
Although the Company believes its estimates reasonably reflect the fair value of
those securities, the key assumptions about the risk-free interest rates, risk
premiums, performance of underlying collateral, if any, and other factors may
not reflect those of an active market.
Amortization of Deferred Acquisition Costs and Other Deferred Expenses:
Policy acquisition costs include commissions and other costs that vary with, and
are primarily related to, the production or acquisition of new business. Such
costs are deferred and amortized over the estimated lives of the annuity
contracts. Approximately 81% of the amortization of DAC and other deferred
expenses was attributed to policy acquisition costs deferred by the annuity
operations and 19% was attributed to the distribution costs deferred by the
asset management operations. For the annuity operations, the Company amortizes
DAC and other deferred expenses based on a percentage of expected gross profits
("EGPs") over the life of the underlying policies. EGPs are computed based on
assumptions related to the underlying policies written, including their
anticipated duration, the growth rate of the separate account assets (with
respect to variable options of the variable annuity contracts) or general
account assets (with respect to fixed annuity contracts, Fixed Options and
universal life insurance contracts) supporting these obligations, costs of
providing contract guarantees and the level of expenses necessary to administer
the policies. The Company adjusts amortization of DAC and other deferred
expenses (a "DAC unlocking") when current or estimates of future gross profits
to be realized from its annuity contracts are revised as more fully described
below. Substantially all of the DAC balance attributed to annuity operations at
December 31, 2004 related to variable annuity contracts.
DAC amortization on annuities is impacted by surrender rates, claims costs,
and the actual and assumed future growth rate of the assets supporting the
Company's obligations under annuity policies. With respect to Fixed Options, the
growth rate depends on the yield on the general account assets supporting those
annuity contracts. With respect to the variable options of the variable annuity
contracts, the growth rate depends on the performance of the investment options
available under the annuity contract and the allocation of assets among these
various investment options.
The assumption the Company uses for the long-term annual net growth rate of
the separate account assets in the determination of DAC amortization with
respect to its variable annuity contracts is 10% (the "long-term growth rate
assumption"). The Company uses a "reversion to the mean" methodology that allows
it to maintain this 10% long-term growth rate assumption, while also giving
consideration to the effect of short-term swings in the equity markets. For
example, if performance was 15% during the first year following the introduction
of a product, the DAC model would assume that market returns for the following
five years (the "short-term growth rate assumption") would be approximately 9%,
resulting in an average annual growth rate of 10% during the life of the
product. Similarly, following periods of below 10% performance, the model will
assume a short-term growth rate higher than 10%. A DAC unlocking will occur if
management deems the short-term growth rate assumption (i.e., the growth rate
required to revert to the mean 10% growth rate over a five-year period) to be
unreasonable. The use of a reversion to the mean assumption is common within the
industry; however, the parameters used in the methodology are subject to
judgment and vary within the industry.
For the asset management operations, the Company defers distribution costs
that are directly related to the sale of mutual funds that have a 12b-1
distribution plan and/or a contingent deferred sales charge feature
(collectively, "Distribution Fee Revenue"). These costs are amortized on a
straight-line basis, adjusted for redemptions, over a period ranging from one
year to eight years depending on share class. The carrying value of the deferred
asset is subject to continuous review based on projected Distribution Fee
Revenue. Amortization of deferred distribution costs is increased if at any
reporting period the value of the deferred amount exceeds the projected
Distribution Fee Revenue. The projected Distribution Fee Revenue is impacted by
estimated future withdrawal rates and the rates of market return. Management
uses historical activity to estimate future withdrawal rates and average annual
performance of the equity markets to estimate the rates of market return.
F-7
Reserve for Guaranteed Benefits: Pursuant to the adoption 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")
which was adopted on January 1, 2004, the Company is required to recognize a
liability for guaranteed minimum death benefits and other guaranteed benefits.
In calculating the projected liability, five thousand stochastically generated
investment performance scenarios were developed using the Company's best
estimates. These assumptions included, among others, mean equity return and
volatility, mortality rates and lapse rates. The estimation of cash flow and the
determination of the assumptions used require judgment, which can, at times, be
subjective.
Several of the guaranteed benefits are sensitive to equity market
conditions. The Company uses the purchase of reinsurance and capital market
hedging strategies to mitigate the risk of paying benefits in excess of account
values as a result of significant downturns in equity markets. Risk mitigation
may or may not reduce the volatility of net income resulting from equity market
volatility. Reinsurance or hedges are secured when the cost is less than the
risk reduction. The Company expects to use either additional reinsurance or
capital market hedges for risk mitigation on an opportunistic basis. Despite the
purchase of reinsurance or hedges, the reinsurance or hedge secured may be
inadequate to completely offset the effects of changes in equity markets.
BUSINESS SEGMENTS
Effective January 1, 2004, SunAmerica Life Insurance Company (the
"Parent"), the parent of the Company, contributed to the Company 100% of the
outstanding capital stock of its consolidated subsidiary, AIG SunAmerica Asset
Management Corp. ("SAAMCo"), which in turn has two wholly owned subsidiaries:
AIG SunAmerica Capital Services, Inc. ("SACS") and AIG SunAmerica Fund Services,
Inc. ("SFS"). This contribution increased the Company's shareholder's equity by
approximately $150.7 million (see Note 1 of Notes to Consolidated Financial
Statements). Effective January 1, 2004, the Company's earnings include the asset
management operations of SAAMCo, SACS and SFS. Prior year results have been
restated to account for this contribution as if it had occurred at the beginning
of the earliest period presented.
The Company has two business segments: annuity operations and asset
management operations. The annuity operations consist of the sale and
administration of deposit-type insurance contracts, such as variable and fixed
annuity contracts, universal life insurance contracts and guaranteed investment
contracts. The Company focuses primarily on the marketing of variable annuity
products. The variable annuity products offer investors a broad spectrum of fund
alternatives, with a choice of investment managers, as well as Fixed Options.
The Company earns fee income on amounts invested in the variable account options
and net investment spread on the Fixed Options.
The asset management operations are conducted by the Company's registered
investment advisor subsidiary, SAAMCo, and its wholly owned distributor, SACS,
and its wholly owned servicing administrator, SFS. These companies earn fee
income by managing, distributing and administering a diversified family of
mutual funds, servicing as investment advisor to certain variable investment
portfolios offered within the Company's variable annuity products and providing
professional management of individual, corporate and pension plan portfolios.
RESULTS OF OPERATIONS
NET INCOME totaled $142.5 million in 2004, compared with $93.5 million in
2003 and $31.7 million in 2002.
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX reflected the adoption
of SOP 03-1 on January 1, 2004. The Company recorded a loss of $62.6 million,
net of tax, which is recognized in the consolidated statement of income and
comprehensive income as a cumulative effect of accounting change for the year
ended December 31, 2004.
PRETAX INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE totaled $211.5
million in 2004, compared with $123.8 million in 2003 and $31.8 million in 2002.
The increase in 2004 compared to 2003 was primarily due to higher variable
annuity policy fee and asset management fee income, partially offset by lower
investment income and higher general and administrative and other expenses. The
increase in 2003 compared to 2002 was primarily due to reductions in net
realized investment losses and amortization of DAC and other expenses.
INCOME TAX EXPENSE totaled $6.4 million in 2004, $30.2 million in 2003 and
$0.2 million in 2002 representing effective tax rates of 3%, 24% and 1%,
respectively. The tax expense in 2004 included the benefit of $39.7 million
resulting from the reduction of the prior year tax liability based on additional
information becoming available. Excluding this benefit the effective tax rate is
22% in 2004. The unusually low effective tax rate for 2002 is due primarily to
the lower relative pretax income without corresponding reductions in permanent
tax differences. See Note 11 of the Notes to Consolidated Financial Statements
for a reconciliation of income tax expense to the federal statutory rate.
F-8
ANNUITY OPERATIONS
PRETAX INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE totaled $176.9
million in 2004, compared with $98.7 million in 2003 and $27.7 million in 2002.
The increase in 2004 compared to 2003 was primarily due to higher variable
annuity policy fee income and lower amortization of deferred acquisition costs
and other deferred expenses partially offset by higher general and
administrative and other expenses. The increase in 2003 compared to 2002 was
primarily due to lower net realized investment losses and improved net
investment income as customers allocated more dollars to the fixed rate portion
of variable annuity contracts.
NET INVESTMENT SPREAD, a non-GAAP measure, represents investment income
less interest credited to Fixed-Rate Products is a key measurement used by the
Company in evaluating the profitability of its annuity business. Investment
income includes income earned on invested assets, as well as the mark-to-market
on both purchased derivatives and embedded derivatives inherent in certain
product guarantees. Accordingly, the Company presents an analysis of net
investment spread because the Company has determined this measure to be useful
and meaningful.
In evaluating its investment yield and net investment spread, the Company
calculates average invested assets using the amortized cost of bonds, notes and
redeemable preferred stocks. This basis does not include unrealized gains and
losses, which are reflected in the carrying value (i.e., fair value) of those
investments pursuant to Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities". In the
calculation of average invested assets, the Company excludes collateral received
from a securities lending program, which is offset by a securities lending
payable in the same amount. The Company participates in a securities lending
program with an affiliated agent, pursuant to which it lends its securities and
primarily takes cash as collateral with respect to the securities lent.
Participation in securities lending agreements provides additional net
investment income for the Company, resulting from investment income earned on
the collateral, less interest paid on the securities lending agreements and the
related management fees paid to an affiliate to administer the program.
An analysis of net investment spread and a reconciliation to pretax income
before cumulative effect of accounting change is presented in the following
table:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
---------------------------------
2004 2003 2002
--------- --------- ---------
(IN THOUSANDS)
Investment income........................................... $ 362,631 $ 398,304 $ 377,556
Interest credited to fixed annuity contracts and Fixed
Options................................................... (140,889) (153,636) (142,973)
Interest credited to universal life insurance contracts..... (73,745) (76,415) (80,021)
Interest credited to guaranteed investment contracts........ (6,034) (7,534) (11,267)
--------- --------- ---------
Net investment spread....................................... 141,963 160,719 143,295
Net realized investment losses.............................. (24,100) (30,354) (65,811)
Fee income, net of reinsurance.............................. 429,259 344,908 358,983
Amortization of bonus interest.............................. (10,357) (19,776) (16,277)
General and administrative expenses......................... (93,188) (83,013) (79,287)
Amortization of DAC and other deferred expenses............. (126,142) (137,130) (171,583)
Annual commissions.......................................... (64,323) (55,661) (58,389)
Claims on UL contracts, net of reinsurance recoveries....... (17,420) (17,766) (15,716)
Guaranteed benefits, net of reinsurance recoveries.......... (58,756) (63,268) (67,492)
--------- --------- ---------
Pretax income before cumulative effect of accounting
change.................................................... $ 176,936 $ 98,659 $ 27,723
========= ========= =========
</Table>
Net investment spread totaled $142.0 million in 2004, compared to $160.7
million in 2003 and $143.3 million in 2002. These amounts equal 2.28% on average
invested assets (computed on a daily basis) of $6.22 billion in 2004, 2.37% on
average invested assets of $6.66 billion in 2003 and 2.41% on average invested
assets of $6.09 billion in 2002. The decrease in net investment spread in 2004
from 2003 reflected results from lower average invested assets as discussed
below and reinvesting in the historically low prevailing interest rate
environment that has persisted throughout 2003 and 2004. The increase in net
investment spread in 2003 from 2002 resulted from substantial growth in average
invested assets and effective management of interest crediting rates to offset
lower yields available on invested assets.
F-9
The components of net investment spread were as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
---------------------------------------
2004 2003 2002
----------- ----------- -----------
(DOLLARS IN THOUSANDS)
Net investment spread....................................... $ 141,963 $ 160,719 $ 143,295
Average invested assets..................................... 6,216,792 6,656,360 6,086,517
Average interest-bearing liabilities........................ (5,942,627) (6,407,102) (5,962,521)
Yield on average invested assets............................ 5.83% 5.98% 6.20%
Rate paid on average interest-bearing liabilities........... 3.71 3.71 3.93
----------- ----------- -----------
Difference between yield and interest rate paid............. 2.12% 2.27% 2.27%
=========== =========== ===========
Net investment spread as a percentage of average invested
assets.................................................... 2.28% 2.41% 2.35%
=========== =========== ===========
</Table>
The decline in average invested assets resulted primarily from net
exchanges from Fixed Options into the separate accounts of variable annuity
contracts, partially offset by new deposits of Fixed Options. Deposits of Fixed
Options and renewal deposits on its universal life insurance contracts totaled
$1.41 billion 2004, $1.58 billion in 2003 and $1.78 billion in 2002, and are
primarily deposits for the Fixed Options. Deposits of Fixed Options represent
24% in 2004, 27% in 2003 and 34% in 2002, of the related reserve balances at the
beginning of the respective periods.
Net investment spread includes the effect of income earned or interest paid
on the difference between average invested assets and average interest-bearing
liabilities. Average invested assets exceeded average interest-bearing
liabilities by $274.2 million in 2004, compared with $249.3 million in 2003 and
$124.0 million in 2002. The difference between the Company's yield on average
invested assets and the rate paid on average interest-bearing liabilities was
2.12% in 2004 and 2.27% in 2003 and 2.27% in 2002.
Investment income (and the related yields on average invested assets)
totaled $362.6 million (5.83%) in 2004, compared with $398.3 million (5.98%) in
2003 and $377.6 million (6.20%) in 2002. The decrease in the investment yield
primarily reflects the reinvesting in the historically low prevailing interest
rate environment that has persisted throughout 2002, 2003 and 2004, as well as a
$4.3 million reduction in income from the mark to market of the S&P 500 put
options and the guaranteed minimum account value and guaranteed minimum
withdrawal benefit embedded derivatives in 2004. Excluding the impact of the put
options and embedded derivatives, investment income would have been $361.6
million (5.82%) and $393.0 million (5.90%) in 2004 and 2003, respectively.
Expenses incurred to manage the investment portfolio amounted to $2.5 million in
2004, $2.3 million in 2003 and $2.4 million in 2002. These expenses are included
as a reduction of investment income in the consolidated statement of income and
comprehensive income.
Interest expense (and the related rate paid on average interest-bearing
liabilities) totaled $220.7 million (3.71%) in 2004, $237.6 million (3.71%) in
2003 and $234.3 million (3.93%) in 2002. Interest-bearing liabilities averaged
$5.94 billion during 2004, $6.41 billion during 2003 and $5.96 billion during
2002.
NET REALIZED INVESTMENT LOSSES totaled $24.1 million in 2004, $30.4 million
in 2003 and $65.8 million in 2002 and include impairment writedowns of $21.1
million, $54.1 million and $57.3 million, respectively. Thus, net realized
losses from sales and redemptions of investments totaled $3.0 million in 2004,
compared with net realized gains of $23.7 million in 2003 and net realized
losses of $8.5 million in 2002.
The Company sold or redeemed invested assets, principally bonds and notes,
aggregating $1.97 billion in 2004, $2.21 billion in 2003 and $1.60 billion in
2002. Sales of investments result from the active management of the Company's
investment portfolio. Because redemptions of investments are generally
involuntary and sales of investments are made in both rising and falling
interest rate environments, net gains and losses from sales and redemptions of
investments fluctuate from period to period, and represent 0.05%, 0.36% and
0.14% of average invested assets for 2004, 2003 and 2002, respectively. Active
portfolio management involves the ongoing evaluation of asset sectors,
individual securities within the investment portfolio and the reallocation of
investments from sectors that are perceived to be relatively overvalued to
sectors that are perceived to be relatively undervalued. The intent of the
Company's active portfolio management is to maximize total returns on the
investment portfolio, taking into account credit, option, liquidity and
interest-rate risk.
Impairment writedowns include $21.1 million, $54.1 million and $57.3
million of provisions principally applied to bonds in 2004, 2003 and 2002,
respectively. Impairment writedowns represent 0.34%, 0.81% and 0.96% of average
invested assets in the respective periods. For the five years ended December 31,
2004, impairment writedowns as a percentage of average invested assets have
ranged from 0.34% to 1.27% and have averaged 0.75%. Such writedowns are based
upon estimates of the fair value of invested assets and recorded when declines
in the value of such assets are considered to be other than temporary. Actual
realization will be dependent upon future events.
F-10
VARIABLE ANNUITY POLICY FEES, NET OF REINSURANCE are generally based on the
market value of assets in the separate accounts supporting variable annuity
contracts. Such fees totaled $369.1 million in 2004, $281.4 million in 2003 and
$286.9 million in 2002 and are net of reinsurance premiums of $28.6 million,
$30.8 million and $22.5 million, respectively. The increased fees in 2004
compared to 2003 primarily reflect the improved equity market conditions in 2004
and the latter part of 2003, and the resulting favorable impact on market values
of the assets in the separate accounts. The decreased fees in 2003 as compared
to 2002 reflected increased reinsurance premiums. Variable annuity policy fees
represent 1.8%, 1.7% and 1.7% of average variable annuity assets in 2004, 2003
and 2002, respectively. Variable annuity assets averaged $20.41 billion, $16.32
billion and $16.45 billion during the respective periods. Variable annuity
deposits, which exclude deposits allocated to the Fixed Options, totaled $2.65
billion in 2004, $1.73 billion in 2003 and $1.18 billion in 2002. These amounts
represent 14%, 12% and 6% of variable annuity reserves at the beginning of the
respective periods. The increase in variable annuity deposits in 2004 and 2003
reflected increased demand for variable annuity products due to the improved
equity market conditions in 2004 and the latter part of 2003. Transfers from the
Fixed Options to the separate accounts are not classified as variable annuity
deposits. Accordingly, changes in variable annuity deposits are not necessarily
indicative of the ultimate allocation by customers among fixed and variable
account options of the Company's variable annuity products.
Sales of variable annuity products (which include deposits allocated to the
Fixed Options) ("Variable Annuity Product Sales") amounted to $4.01 billion,
$3.27 billion and $2.92 billion in 2004, 2003 and 2002, respectively. Such sales
primarily reflect those of the Company's Polaris and Seasons families of
variable annuity products. The Company's variable annuity products are primarily
multi-manager variable annuities that offer investors a choice of several
variable funds as well as up to seven fixed funds, depending on the product. The
increase in Variable Annuity Product Sales in 2004 and 2003 reflects the
generally improved equity market conditions in 2004 and the latter part of 2003.
The Company has encountered increased competition in the variable annuity
marketplace during recent years and anticipates that the market will remain
highly competitive for the foreseeable future. Also, from time to time, federal
initiatives are proposed that could affect the taxation of annuities (see
"Regulation").
With respect to all reinsurance agreements, the Company could become liable
for all obligations of the reinsured policies if the reinsurers were to become
unable to meet the obligations assumed under the respective reinsurance
agreements. The Company monitors its credit exposure with respect to these
agreements. Due to the high credit ratings and periodic monitoring of these
ratings of the reinsurers, such risks are considered to be minimal.
UNIVERSAL LIFE INSURANCE POLICY FEES, NET OF REINSURANCE amounted to $33.9
million in 2004, $35.8 million in 2003 and $36.3 million in 2002 and are net of
reinsurance premiums of $34.3 million, $33.7 million and $34.1 million,
respectively. Universal life insurance policy fees consist of mortality charges,
up-front fees earned on deposits received and administrative fees, net of
reinsurance premiums. The administrative fees are assessed based on the number
of policies in force as of the end of each month. The Company acquired its
universal life insurance contracts as part of the acquisition of business from
MBL Life Assurance Corporation on December 31, 1998 and does not actively market
such contracts. Such fees represent 2.20%, 2.23% and 2.17% of average reserves
for universal life insurance contracts in the respective periods.
SURRENDER CHARGES on variable annuity and universal life insurance
contracts totaled $26.2 million in 2004, $27.7 million in 2003 and $32.5 million
in 2002. Surrender charge periods range from zero to nine years from the date a
deposit is received. Surrender charges generally are assessed on withdrawals at
declining rates.
GENERAL AND ADMINISTRATIVE EXPENSES totaled $93.2 million in 2004, $83.0
million in 2003 and $79.3 million in 2002. The increase in 2004 results from
higher information technology costs and payroll related expenses resulting from
the servicing of a larger block of annuity contracts. General and administrative
expenses remain closely controlled through a company-wide cost containment
program and continue to represent less than 1% of average total assets.
AMORTIZATION OF DEFERRED ACQUISITION COSTS AND OTHER DEFERRED EXPENSES
totaled $126.1 million in 2004, compared with $137.1 million in 2003 and $171.6
million in 2002. DAC amortization in 2003 reflected a declining market which led
to higher DAC amortization (i.e. impairments on specific products) during the
first nine months of 2003 and is partially offset by an $18.0 million DAC
unlocking. The higher amortization in 2002 was primarily related to lower
estimates of future gross profits on variable annuity contracts compared to the
prior years in light of the downturn in the equity markets in 2002, and
additional variable annuity product sales over the last twelve months and the
subsequent amortization of related deferred commissions and other direct selling
costs.
ANNUAL COMMISSIONS totaled $64.3 million in 2004, compared with $55.7
million in 2003 and $58.4 million in 2002. Annual commissions generally
represent renewal commissions paid quarterly in arrears to maintain the
persistency of certain of the Company's variable annuity contracts.
Substantially all of the Company's currently available variable annuity products
allow for an annual commission payment option in return for a lower immediate
commission. The vast majority of the Company's average balances of its variable
annuity products are currently subject to such annual commissions.
F-11
CLAIMS ON UNIVERSAL LIFE CONTRACTS, NET OF REINSURANCE RECOVERIES totaled
$17.4 million in 2004, compared with $17.8 million in 2003 and $15.7 million in
2002 (net of reinsurance recoveries of $34.2 million in 2004, $34.0 million in
2003 and $29.2 million in 2002). The change in such claims resulted principally
from changes in mortality experience and the reinsurance recoveries there on.
GUARANTEED BENEFITS, NET OF REINSURANCE RECOVERIES on variable annuity
contracts totaled $58.8 million in 2004, compared with $63.3 million in 2003 and
$67.5 million in 2002 and are net of reinsurance recoveries of $2.7 million,
$8.0 million and $8.4 million, respectively. These guaranteed benefits consist
primarily of guaranteed minimum death benefits as well as immaterial amounts of
earnings enhancement benefits and guaranteed minimum income benefits. These
guarantees are described in more detail in the following paragraphs. The
decrease during 2004 reflects the generally improved equity market conditions in
2004 and the latter part of 2003. Downturns in the equity markets could increase
these expenses.
Guaranteed minimum death benefits ("GMDB") are issued on a majority of the
Company's variable annuity products. GMDB provides that, upon the death of a
contract holder, the contract holder's beneficiary will receive the greater of
(1) the contract holder's account value, or (2) a guaranteed minimum death
benefit that varies by product and election by the contract holder. The Company
bears the risk that death claims following a decline in the debt and equity
markets may exceed contract holder account balances and that the fees collected
under the contract are insufficient to cover the costs of the benefit to be
provided. On January 1, 2004, the Company recorded a liability for guaranteed
benefits including GMDB (see Note 2 of Notes to Consolidated Financial
Statements) pursuant to adoption of a new accounting standard, SOP 03-1.
Earnings enhancement benefit ("EEB") is a feature the Company offers on
certain variable annuity products. For contract holders who elect the feature,
the EEB provides an additional death benefit amount equal to a fixed percentage
of earnings in the contract, subject to certain maximums. The Company bears the
risk that account values following favorable performance of the financial
markets will result in greater EEB death claims and that the fees collected
under the contract are insufficient to cover the costs of the benefit to be
provided.
Guaranteed minimum income benefit ("GMIB") is a feature the Company offers
on certain variable annuity products. This feature provides a minimum fixed
annuity payment guarantee for those contract holders who choose to receive fixed
lifetime annuity payments after a seven, nine, or ten-year waiting period in
their deferred annuity contracts. The Company bears the risk that the
performance of the financial markets will not be sufficient for accumulated
contract holder account balances to support GMIB benefits and that the fees
collected under the contract are insufficient to cover the costs of the benefit
to be provided. As there is a waiting period to annuitize using the GMIB, there
are no policies eligible to receive this benefit at December 31, 2004. The
Company has eliminated offering a GMIB feature that guarantees a return in
excess of the amount to be annuitized in order to mitigate its exposure.
Guaranteed minimum account value ("GMAV") is a feature the Company offers
on certain variable annuity products in the third quarter of 2002. If available
and elected by the contract holder at the time of contract issuance, this
feature guarantees that the account value under the contract will at least equal
the amount of the deposits invested during the first ninety days of the
contract, adjusted for any subsequent withdrawals, at the end of a ten-year
waiting period. The Company bears the risk that protracted under-performance of
the financial markets could result in GMAV benefits being higher than the
underlying contract holder account balance and that the fees collected under the
contract are insufficient to cover the costs of the benefit to be provided. The
Company purchased put options on the S&P 500 index to partially offset this
risk. Changes in the market value of both the GMAV benefit and the put options
are recorded in investment income in the accompanying consolidated statement of
income and comprehensive income.
Guaranteed minimum withdrawal benefit ("GMWB") is a feature the Company
began offering on certain variable annuity products in May of 2004. If available
and elected by the contract holder at the time of contract issuance, this
feature provides a guaranteed annual withdrawal stream, regardless of market
performance, equal to deposits invested during the first ninety days adjusted
for any subsequent withdrawals ("Eligible Premium"). These guaranteed annual
withdrawals of up to 10% of Eligible Premium are available after either a
three-year or a five-year waiting period, as elected by the contract holder at
the time of contract issuance, without reducing the future amounts guaranteed.
If no withdrawals have been made during the waiting period of 3 or 5 years, the
contract holder will realize an additional 10% or 20%, respectively, of Eligible
Premium after all other amounts guaranteed under this benefit have been paid.
The Company bears the risk that protracted under-performance of the financial
markets could result in GMWB benefits being higher than the underlying contract
holder account balance and that the fees collected under the contract are
insufficient to cover the costs of the benefit to be provided. The Company
purchased put options on the S&P 500 index to partially offset this risk.
Changes in the market value of both the GMWB benefit and the put options are
recorded in investment income in the accompanying consolidated statement of
income and comprehensive income.
F-12
Management expects substantially all of the Company's near-term exposure to
guaranteed benefits will relate to GMDB and EEB. As sales of products with other
guaranteed benefits increase, the Company expects these other guarantees to have
an increasing impact on operating results, under current hedging strategies.
ASSET MANAGEMENT OPERATIONS
PRETAX INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE totaled $34.6
million in 2004, compared to $25.1 million in 2003 and $4.1 million in 2002. The
increases in 2004 from 2003 resulted from the impact of higher average asset
base and higher margin on account servicing fees, partially offset by increased
amortization of DAC and other deferred expenses. The increase in 2003 from 2002
resulted from decreased amortization of DAC and other deferred expenses.
ASSET MANAGEMENT FEES, which include investment advisory fees and 12b-1
distribution fees, are based on the market value of assets managed by SAAMCo in
its mutual funds and certain variable annuity portfolios. Such fees totaled
$89.6 million on average assets managed of $9.65 billion in 2004, $66.7 million
on average assets managed of $8.15 billion in 2003 and $66.4 million on average
assets managed of $7.64 billion in 2002. The increase in asset management fees
is primarily the result of a higher average asset base and higher margin on
account servicing fees. Mutual fund sales, excluding sales of money market
accounts and private accounts, totaled $2.14 billion in 2004, compared to $2.23
billion in 2003 and $1.67 billion in 2002. Redemptions of mutual funds,
excluding redemptions of money market accounts, amounted to $1.56 billion in
2004, $1.55 billion in 2003 and $1.55 billion in 2002, which represent 20%, 25%
and 25%, respectively, of average related mutual fund assets. The 4% decrease in
mutual fund sales in 2004 compared to 2003 primarily reflects generally
difficult equity market conditions in the second and third quarters of 2004. The
increase in sales in 2003 principally reflects increasing demand for equity
products, due to generally improved equity market conditions in the latter part
of 2003.
GENERAL AND ADMINISTRATIVE EXPENSES totaled $38.4 million in 2004, $36.1
million in 2003 and $35.9 million in 2002. General and administrative expenses
increased in 2004 due primarily to higher employee-related costs.
AMORTIZATION OF DEFERRED ACQUISITION COSTS AND OTHER DEFERRED EXPENSES
includes amortization of distribution costs that totaled $31.5 million in 2004,
compared with $23.0 million in 2003 and $35.9 million in 2002. The increased
amortization in 2004 was primarily due to additional mutual fund sales and
amortization of the deferred commissions thereon. In 2002, amortization of
deferred acquisition costs and other deferred expenses included additional
amortization of $24.2 million, resulting from certain distribution costs whose
carrying value exceeded projected revenue.
CAPITAL RESOURCES AND LIQUIDITY
SHAREHOLDER'S EQUITY increased to $1.75 billion at December 31, 2004 from
$1.61 billion at December 31, 2003 due to $142.5 million of net income and $49.1
million of capital contribution from Parent partially offset by a $49.1 million
tax effect on a distribution of investment and a $2.5 million dividend to the
Parent.
F-13
INVESTMENTS AND CASH at December 31, 2004 totaled $7.13 billion, compared
with $7.14 billion at December 31, 2003. The Company's invested assets are
managed by an affiliate. The following table summarizes the Company's portfolio
of bonds, notes and redeemable preferred stocks (the "Bond Portfolio") and other
investments and cash at December 31, 2004 and 2003:
<Table>
<Caption>
DECEMBER 31, 2004 DECEMBER 31, 2003
----------------------- -----------------------
FAIR PERCENT OF FAIR PERCENT OF
VALUE PORTFOLIO VALUE PORTFOLIO
---------- ---------- ---------- ----------
BOND PORTFOLIO: (IN THOUSANDS, EXCEPT FOR PERCENTAGES)
U.S. government securities.................................. $ 30,300 0.4% $ 24,292 0.3%
Mortgage-backed securities.................................. 956,567 13.4 1,191,817 16.7
Securities of public utilities.............................. 332,038 4.7 365,150 5.1
Corporate bonds and notes................................... 2,902,829 40.8 2,697,142 37.9
Redeemable preferred stocks................................. 21,550 0.3 22,175 0.3
Other debt securities....................................... 917,743 12.9 1,205,224 16.9
---------- ----- ---------- -----
Total Bond Portfolio........................................ 5,161,027 72.5 5,505,800 77.2
Mortgage loans.............................................. 624,179 8.7 716,846 10.1
Common stocks............................................... 4,902 0.1 727 0.0
Cash and short-term investments............................. 201,117 2.8 133,105 1.9
Securities lending collateral............................... 883,792 12.4 514,145 7.2
Other invested assets....................................... 250,969 3.5 254,010 3.6
---------- ----- ---------- -----
Total investments and cash.................................. $7,125,986 100.0% $7,124,633 100.0%
========== ===== ========== =====
</Table>
The Company's general investment philosophy is to hold fixed-rate assets
for long-term investment. Thus, it does not have a trading portfolio. However,
the Company has determined that all of the Bond Portfolio is available to be
sold in response to changes in market interest rates, changes in relative value
of asset sectors and individual securities, changes in prepayment risk, changes
in the credit quality outlook for certain securities, the Company's need for
liquidity and other similar factors.
THE BOND PORTFOLIO, which constituted 72% of the Company's total investment
portfolio at December 31, 2004, had an aggregate fair value that was $153.2
million greater than its amortized cost at December 31, 2004, compared with
$154.6 million at December 31, 2003.
At December 31, 2004, the Bond Portfolio had an aggregate fair value of
$5.16 billion and an aggregate amortized cost of $5.01 billion. At December 31,
2004, the Bond Portfolio (excluding $21.6 million of redeemable preferred
stocks) included $4.50 billion of bonds rated by Standard & Poor's ("S&P"),
Moody's Investors Service ("Moody's") or Fitch ("Fitch") and $638.1 million of
bonds rated by the National Association of Insurance Commissioners ("NAIC") or
the Company pursuant to statutory ratings guidelines established by the NAIC. At
December 31, 2004, approximately $4.75 billion of the Bond Portfolio was
investment grade, including $986.8 million of mortgage-backed securities ("MBS")
and U.S. government/agency securities.
At December 31, 2004, the Bond Portfolio included $386.4 million of bonds
that were not investment grade. These non-investment-grade bonds accounted for
approximately 1% of the Company's total assets and approximately 5% of its
invested assets. Non-investment-grade securities generally provide higher yields
and involve greater risks than investment-grade securities because their issuers
typically are more highly leveraged and more vulnerable to adverse economic
conditions than investment-grade issuers. In addition, the trading market for
these securities is usually more limited than for investment-grade securities.
An economic downturn could produce higher than average issuer defaults on the
non-investment-grade securities, which could cause the Company's investment
returns and net income to decline. At December 31, 2004, the Company's
non-investment-grade bond portfolio consisted of 171 issues with no single
issuer representing more than 10% of the total non-investment-grade portfolio.
These non-investment-grade securities are comprised of bonds spanning 10
industries with 19%, 16%, 16% and 10% concentrated in telecommunications,
utilities, financial services and noncyclical consumer products industries,
respectively. No other industry concentration constituted more than 10% of these
assets.
F-14
The table below summarizes the Company's rated bonds by rating
classification as of December 31, 2004.
RATED BONDS BY RATING CLASSIFICATION
<Table>
<Caption>
ISSUES RATED BY ISSUES NOT RATED BY
S&P/MOODY'S/FITCH S&P/MOODY'S/FITCH, BY NAIC CATEGORY TOTAL
- ------------------------------------------ ------------------------------------- ------------------------------------------
S&P/MOODY'S/FITCH AMORTIZED ESTIMATED NAIC AMORTIZED ESTIMATED AMORTIZED ESTIMATED PERCENT OF TOTAL
CATEGORY(1) COST FAIR VALUE CATEGORY(2) COST FAIR VALUE COST FAIR VALUE INVESTED ASSETS
- ----------------- ---------- ---------- ------------ --------- ---------- ---------- ---------- ----------------
(DOLLARS IN THOUSANDS)
AAA+ to A-
(Aaa to A3)
[AAA to A-] $2,888,647 $2,964,803 1 $266,034 $270,334 $3,154,681 $3,235,137 45.40%
BBB+ to BBB-
(Baa to Baa3)
[BBB+ to BBB-] 1,203,109 1,233,692 2 276,973 284,221 1,480,082 1,517,913 21.30%
BB+ to BB-
(Bal to Ba3)
[BB+ to BB-] 133,070 138,091 3 36,371 36,462 169,441 174,553 2.45%
B+ to B-
(Bl to B3)
[B+ to B-] 129,347 140,699 4 11,600 11,524 140,947 152,223 2.14%
CCC+ to CCC-
(Caal to Caa3)
[CCC+ to CCC-] 18,954 19,353 5 7,305 6,695 26,259 26,048 0.37%
CC to D
(Ca to C)
[CC to D] 1,842 4,722 6 14,476 28,880 16,318 33,602 0.47%
---------- ---------- -------- -------- ---------- ----------
TOTAL RATED
ISSUES $4,374,969 $4,501,360 $612,759 $638,116 $4,987,728 $5,139,476
========== ========== ======== ======== ========== ==========
</Table>
Footnotes to the table of Rated Bonds by Rating Classification
(1) S&P and Fitch rate debt securities in rating categories ranging from AAA
(the highest) to D (in payment default). A plus (+) or minus (-) indicates
the debt's relative standing within the rating category. A security rated
BBB- or higher is considered investment grade. Moody's rates debt securities
in rating categories ranging from Aaa (the highest) to C (extremely poor
prospects of ever attaining any real investment standing). The number 1, 2
or 3 (with 1 the highest and 3 the lowest) indicates the debt's relative
standing within the rating category. A security rated Baa3 or higher is
considered investment grade. Issues are categorized based on the highest of
the S&P, Moody's and Fitch ratings if rated by multiple agencies.
(2) Bonds and short-term promissory instruments are divided into six quality
categories for NAIC rating purposes, ranging from 1 (highest) to 5 (lowest)
for non-defaulted bonds plus one category 6, for bonds in or near default.
These six categories correspond with the S&P/ Moody's/Fitch rating groups
listed above, with categories 1 and 2 considered investment grade. The NAIC
categories include $131.5 million of assets that were rated by the Company
pursuant to applicable NAIC rating guidelines.
The valuation of invested assets involves obtaining a fair value for each
security. The source for the fair value is generally from market exchanges, with
the exception of non-traded securities.
Another aspect of valuation pertains to impairment. As a matter of policy,
the determination that a security has incurred an other-than-temporary decline
in value and the amount of any loss recognition requires the judgment of the
Company's management and a continual review of its investments. In general, a
security is considered a candidate for impairment if it meets any of the
following criteria:
- Trading at a significant discount to par, amortized cost (if lower) or
cost for an extended period of time;
- The occurrence of a discrete credit event resulting in: (i) the issuer
defaulting on a material outstanding obligation; (ii) the issuer
seeking protection from creditors under the bankruptcy laws or similar
laws intended for the court supervised reorganization of insolvent
enterprises; or (iii) the issuer proposing a voluntary reorganization
pursuant to which creditors are asked to exchange their claims for cash
or securities having a fair value substantially lower than the par
value of their claims; or
- In the opinion of the Company's management, it is unlikely the Company
will realize a full recovery on its investment, irrespective of the
occurrence of one of the foregoing events.
F-15
Once a security has been identified as potentially impaired, the amount of
such impairment is determined by reference to that security's contemporaneous
market price.
The Company has the ability to hold any security to its stated maturity.
Therefore, the decision to sell reflects the judgment of the Company's
management that the security sold is unlikely to provide, on a relative value
basis, as attractive a return in the future as alternative securities entailing
comparable risks. With respect to distressed securities, the sale decision
reflects management's judgment that the risk-discounted anticipated ultimate
recovery is less than the value achieved on sale.
As a result of these policies, the Company recorded pretax impairment
writedowns of $21.1 million, $54.1 million and $57.3 million in 2004, 2003 and
2002, respectively. No individual impairment loss, net of DAC and taxes, during
the year exceeded 10% of the Company's net income for the year ended December
31, 2004.
Excluding the impairments noted above, the changes in fair value for the
Company's Bond Portfolio, which constitutes the vast majority of the Company's
investments, were recorded as a component of other comprehensive income in
shareholder's equity as unrealized gains or losses.
At December 31, 2004, the fair value of the Company's Bond Portfolio
aggregated $5.16 billion. Of this aggregate fair value, approximately 0.03%
represented securities trading at or below 75% of amortized cost. The impact of
unrealized losses on net income will be further mitigated upon realization,
because realization will result in current decreases in the amortization of DAC
and decreases in income taxes.
At December 31, 2004, approximately $3.91 billion, at amortized cost, of
the Bond Portfolio had a fair value of $4.09 billion resulting in an aggregate
unrealized gain of $180.3 million. At December 31, 2004, approximately $1.10
billion, at amortized cost, of the Bond Portfolio had a fair value of $1.07
billion resulting in an aggregate unrealized loss of $27.1 million. No single
issuer accounted for more than 10% of unrealized losses. Approximately 36%, 15%
and 11% of unrealized losses were from the financial services, transportation
and noncyclical consumer products industries, respectively. No other industry
accounted for more than 10% of unrealized losses.
The amortized cost of the Bond Portfolio in an unrealized loss position at
December 31, 2004, by contractual maturity, is shown below.
<Table>
<Caption>
AMORTIZED COST
--------------
(IN THOUSANDS)
Due in one year or less..................................... $ 46,250
Due after one year through five years....................... 422,237
Due after five years through ten years...................... 389,073
Due after ten years......................................... 243,973
----------
Total....................................................... $1,101,533
==========
</Table>
F-16
The aging of the Bond Portfolio in an unrealized loss position at December
31, 2004 is shown below:
<Table>
<Caption>
LESS THAN OR EQUAL TO 20% GREATER THAN 20% TO 50% GREATER THAN 50%
OF AMORTIZED COST OF AMORTIZED COST OF AMORTIZED COST
------------------------------- ------------------------------ ------------------------------
AMORTIZED UNREALIZED AMORTIZED UNREALIZED AMORTIZED UNREALIZED
MONTHS COST LOSS ITEMS COST LOSS ITEMS COST LOSS ITEMS
- ------ ---------- ---------- ----- --------- ---------- ----- --------- ---------- -----
(DOLLARS IN THOUSANDS)
Investment Grade
Bonds
0-6 $ 455,818 $ (4,128) 73 $ -- $ -- -- $ -- $ -- --
7-12 387,123 (6,808) 57 -- -- -- -- -- --
>12 171,695 (7,108) 22 17,477 (4,046) 3 -- -- --
---------- -------- --- ------- ------- ---- ---- ----- ----
Total $1,014,636 $(18,044) 152 $17,477 $(4,046) 3 $ -- $ -- --
========== ======== === ======= ======= ==== ==== ===== ====
Below Investment
Grade Bonds
0-6 $ 28,496 $ (1,806) 13 $ -- $ -- -- $452 $(292) 3
7-12 8,773 (489) 8 -- -- -- -- -- --
>12 31,699 (2,467) 11 -- -- -- -- -- --
---------- -------- --- ------- ------- ---- ---- ----- ----
Total $ 68,968 $ (4,762) 32 $ -- $ -- -- $452 $(292) 3
========== ======== === ======= ======= ==== ==== ===== ====
Total Bonds
0-6 $ 484,314 $ (5,934) 86 $ -- $ -- -- $452 $(292) 3
7-12 395,896 (7,297) 65 -- -- -- -- -- --
>12 203,394 (9,575) 33 17,477 (4,046) 3 -- -- --
---------- -------- --- ------- ------- ---- ---- ----- ----
Total $1,083,604 $(22,806) 184 $17,477 $(4,046) 3 $452 $(292) 3
========== ======== === ======= ======= ==== ==== ===== ====
<Caption>
TOTAL
-------------------------------
AMORTIZED UNREALIZED
MONTHS COST LOSS ITEMS
- ------ ---------- ---------- -----
(DOLLARS IN THOUSANDS)
Investment Grade
Bonds
0-6 $ 455,818 $ (4,128) 73
7-12 387,123 (6,808) 57
>12 189,172 (11,154) 25
---------- -------- ---
Total $1,032,113 $(22,090) 155
========== ======== ===
Below Investment
Grade Bonds
0-6 $ 28,948 $ (2,098) 16
7-12 8,773 (489) 8
>12 31,699 (2,467) 11
---------- -------- ---
Total $ 69,420 $ (5,054) 35
========== ======== ===
Total Bonds
0-6 $ 484,766 $ (6,226) 89
7-12 395,896 (7,297) 65
>12 220,871 (13,621) 36
---------- -------- ---
Total $1,101,533 $(27,144) 190
========== ======== ===
</Table>
In 2004, the pretax realized losses incurred with respect to the sale of
fixed-rate securities in the Bond Portfolio was $12.6 million. The aggregate
fair value of securities sold was $140.3 million, which was approximately 92% of
amortized cost. The average period of time that securities sold at a loss during
2004 were trading continuously at a price below amortized cost was approximately
21 months.
The valuation for the Company's Bond Portfolio comes from market exchanges
or dealer quotations, with the exception of non-traded securities. The Company
considers non-traded securities to mean certain fixed income investments and
certain structured securities. The aggregate fair value of these securities at
December 31, 2004 was approximately $813.0 million. The Company estimates the
fair value with internally prepared valuations (including those based on
estimates of future profitability). Otherwise, the Company uses its most recent
purchases and sales of similar unquoted securities, independent broker quotes or
comparison to similar securities with quoted prices when possible to estimate
the fair value of those securities. All such securities are classified as
available for sale.
For certain structured securities, the carrying value is based on an
estimate of the security's future cash flows pursuant to the requirements of
Emerging Issues Task Force Issue No. 99-20, "Recognition of Interest Income and
Impairment on Purchased and Retained Beneficial Interests in Securitized
Financial Assets." The change in carrying value is recognized in income.
Each of these investment categories is regularly tested to determine if
impairment in value exists. Various valuation techniques are used with respect
to each category in this determination.
Senior secured loans ("Secured Loans") are included in the Bond Portfolio
and aggregated $277.2 million at December 31, 2004. Secured Loans are senior to
subordinated debt and equity and are secured by assets of the issuer. At
December 31, 2004, Secured Loans consisted of $190.1 million of privately traded
securities and $87.1 million of publicly traded securities. These Secured Loans
are composed of loans to 59 borrowers spanning 10 industries, with 26%, 18%,
15%, 12% and 11% from the utilities, telecommunications, transportation,
noncyclical consumer products and cyclical consumer products industries,
respectively. No other industry constituted more than 10% of these assets.
While the trading market for the Company's privately traded Secured Loans
is more limited than for publicly traded issues, participation in these
transactions has enabled the Company to improve its investment yield. As a
result of restrictive financial covenants, these Secured Loans involve greater
risk of technical default than do publicly traded investment-grade securities.
However, management believes that the risk of loss upon default for these
Secured Loans is mitigated by such financial covenants and the collateral values
underlying the Secured Loans.
F-17
MORTGAGE LOANS aggregated $624.2 million at December 31, 2004 and consisted
of 100 commercial first mortgage loans with an average loan balance of
approximately $6.2 million, collateralized by properties located in 30 states.
Approximately 32% of this portfolio was office, 17% was manufactured housing,
17% was multifamily residential, 11% was industrial, 11% was hotels, and 12% was
other types. At December 31, 2004, approximately 27%, 11% and 10% of this
portfolio were secured by properties located in California, Michigan and
Massachusetts, respectively. No more than 10% of this portfolio was secured by
properties located in any other single state. At December 31, 2004, 13 mortgage
loans have an outstanding balance of $10 million or more, which collectively
aggregated approximately 45% of this portfolio. At December 31, 2004,
approximately 42% of the mortgage loan portfolio consisted of loans with balloon
payments due before January 1, 2008. During 2004 and 2003, loans delinquent by
more than 90 days, foreclosed loans and structured loans have not been
significant in relation to the total mortgage loan portfolio.
Substantially all of the mortgage loan portfolio has been originated by the
Company under its underwriting standards. Commercial mortgage loans on
properties such as offices, hotels and shopping centers generally represent a
higher level of risk than do mortgage loans secured by multifamily residences.
This greater risk is due to several factors, including the larger size of such
loans and the more immediate effects of general economic conditions on these
commercial property types. However, due to the Company's underwriting standards,
the Company believes that it has prudently managed the risk attributable to its
mortgage loan portfolio while maintaining attractive yields.
SECURITIES LENDING COLLATERAL totaled $883.8 million at December 31, 2004,
compared to $514.1 million at December 31, 2003, and consisted of cash
collateral invested in highly rated short-term securities received in connection
with the Company's securities lending program. The increase in securities
lending collateral in 2004 results from increased demand for securities in the
Company's portfolio. Although the cash collateral is currently invested in
highly rated short-term securities, the applicable collateral agreements permit
the cash collateral to be invested in highly liquid short and long-term
investment portfolios. At least 75% of the portfolio's short-term investments
must have external issue ratings of A-1/P-1, one of the highest ratings for
short-term credit quality. Long-term investments include corporate notes with
maturities of five years or less and a credit rating by at least two nationally
recognized statistical rating organizations ("NRSRO"), with no less than a S&P
rating of A or equivalent by any other NRSRO.
ASSET-LIABILITY MATCHING is utilized by the Company in an effort to
minimize the risks of interest rate fluctuations and disintermediation (i.e. the
risk of being forced to sell investments during unfavorable market conditions).
The Company believes that its fixed-rate liabilities should be backed by a
portfolio principally composed of fixed-rate investments that generate
predictable rates of return. The Company does not have a specific target rate of
return. Instead, its rates of return vary over time depending on the current
interest rate environment, the slope of the yield curve, the spread at which
fixed-rate investments are priced over the yield curve, default rates and
general economic conditions. Its portfolio strategy is constructed with a view
to achieve adequate risk-adjusted returns consistent with its investment
objectives of effective asset-liability matching, liquidity and safety. The
Company's Fixed-Rate Products incorporate incentives, surrender charges and/or
other restrictions in order to encourage persistency. Approximately 77% of the
Company's reserves for Fixed-Rate Products had surrender penalties or other
restrictions at December 31, 2004.
As part of its asset-liability matching discipline, the Company conducts
detailed computer simulations that model its fixed-rate assets and liabilities
under commonly used interest rate scenarios. With the results of these computer
simulations, the Company can measure the potential gain or loss in fair value of
its interest-rate sensitive instruments and seek to protect its economic value
and achieve a predictable spread between what it earns on its invested assets
and what it pays on its liabilities by designing its Fixed-Rate Products and
conducting its investment operations to closely match the duration and cash
flows of the fixed-rate assets to that of its fixed-rate liabilities. The
fixed-rate assets in the Company's asset-liability modeling include: cash and
short-term investments; bonds, notes and redeemable preferred stocks; mortgage
loans; policy loans; and investments in limited partnerships that invest
primarily in fixed-rate securities. At December 31, 2004, these assets had an
aggregate fair value of $6.17 billion with an option-adjusted duration of 3.2
years. The Company's fixed-rate liabilities include Fixed Options, as well as
universal life insurance, fixed annuity and GIC contracts. At December 31, 2004,
these liabilities had an aggregate fair value (determined by discounting future
contractual cash flows by related market rates of interest) of $5.54 billion
with an option-adjusted duration of 3.6 years. The Company's potential exposure
due to a relative 10% decrease in prevailing interest rates from its December
31, 2004 levels is a loss of approximately $0.3 million, representing an
increase in fair value of its fixed-rate liabilities that is not offset by an
increase in fair value of its fixed-rate assets. Because the Company actively
manages its assets and liabilities and has strategies in place to minimize its
exposure to loss as interest rate changes occur, it expects that actual losses
would be less than the estimated potential loss.
Option-adjusted duration is a common measure for the price sensitivity of a
fixed-maturity portfolio to changes in interest rates. For example, if interest
rates increase 1%, the fair value of an asset with a duration of 5.0 years is
expected to decrease in value by approximately 5%. The Company estimates the
option-adjusted duration of its assets and liabilities using a number of
F-18
different interest rate scenarios, assuming continuation of existing investment
and interest crediting strategies, including maintaining an appropriate level of
liquidity. Actual company and contract owner behaviors may be different than was
assumed in the estimate of option-adjusted duration and these differences may be
material.
A significant portion of the Company's fixed annuity contracts (including
the Fixed Options) has reached or is near the minimum contractual guaranteed
rate (generally 3%). Continual declines in interest rates could cause the spread
between the yield on the portfolio and the interest rate credited to
policyholders to deteriorate.
The Company has had the ability, limited by minimum interest rate
guarantees, to respond to the generally declining interest rate environment in
the last five years by lowering crediting rates in response to lower investment
returns. See the earlier discussion under "Management's Discussion and Analysis
of Financial Condition and Results of Operations" for additional information on
the calculation of investment yield and net investment spread used by the
Company's management as a key component in evaluating the profitability of its
annuity business. The trends experienced during 2004, 2003 and 2002 in the
Company's yield on average invested assets and rate of interest credited on
average interest-bearing liabilities, compared to the market trend in long-term
interest rates as illustrated by the average ten-year U.S. Treasury bond rate,
are presented in the following table:
<Table>
<Caption>
2004 2003 2002
---- ---- ----
AVERAGE 10-YEAR U.S. TREASURY BOND RATE:.................... 4.26% 4.01% 4.61%
AIG SunAmerica Life Assurance Company:
Average yield on Bond Portfolio........................... 5.66 5.75 6.23
Rate paid on average interest-bearing liabilities......... 3.71 3.71 3.93
</Table>
Since the Company's investing strategy is to hold fixed-rate assets for
long-term investment, the Company's average yield tends to trail movements in
the average U.S. treasury yield. For further discussion on average yield on the
bond portfolio and the rate paid on average interest-bearing liabilities, see
discussion on "Investment Spread."
As a component of its asset-liability management strategy, the Company may
utilize interest rate swap agreements ("Swap Agreements") to match assets more
closely to liabilities. Swap Agreements exchange interest rate payments of
differing character (for example, variable-rate payments exchanged for
fixed-rate payments) with a counterparty, based on an underlying principal
balance (notional principal) to hedge against interest rate changes.
The Company seeks to enhance its spread income with dollar roll repurchase
agreements ("Dollar Roll Repos"). Dollar Roll Repos involve a sale of MBS by the
Company and an agreement to repurchase substantially similar MBS at a later date
at an agreed upon price. No Dollar Roll Repos were outstanding at December 31,
2004. The Company also seeks to provide liquidity by investing in MBS. MBS are
generally investment-grade securities collateralized by large pools of mortgage
loans. MBS generally pay principal and interest monthly. The amount of principal
and interest payments may fluctuate as a result of prepayments of the underlying
mortgage loans.
There are risks associated with some of the techniques the Company uses to
provide liquidity, enhance its spread income and match its assets and
liabilities. The primary risk associated with the Company's Dollar Roll Repos
and Swap Agreements is counterparty risk. The Company believes, however, that
the counterparties to its Dollar Roll Repos and Swap Agreements are financially
responsible and that the counterparty risk associated with those transactions is
minimal. It is the Company's policy that these agreements are entered into with
counterparties who have a debt rating of A/A2 or better from both S&P and
Moody's. The Company continually monitors its credit exposure with respect to
these agreements. In addition to counterparty risk, Swap Agreements also have
interest rate risk. However, the Company's Swap Agreements are intended to hedge
variable-rate assets or liabilities. The primary risk associated with MBS is
that a changing interest rate environment might cause prepayment of the
underlying obligations at speeds slower or faster than anticipated at the time
of their purchase. As part of its decision to purchase such a security, the
Company assesses the risk of prepayment by analyzing the security's projected
performance over an array of interest-rate scenarios. Once such a security is
purchased, the Company monitors its actual prepayment experience monthly to
reassess the relative attractiveness of the security with the intent to maximize
total return.
INVESTED ASSETS EVALUATION is routinely conducted by the Company.
Management identifies monthly those investments that require additional
monitoring and carefully reviews the carrying values of such investments at
least quarterly to determine whether specific investments should be placed on a
nonaccrual basis and to determine declines in value that may be other than
temporary. In conducting these reviews for bonds, management principally
considers the adequacy of any collateral, compliance with contractual covenants,
the borrower's recent financial performance, news reports and other externally
generated information concerning the creditor's affairs. In the case of publicly
traded bonds, management also considers market value quotations, if available.
For mortgage loans, management generally considers information concerning the
mortgaged property and, among other things, factors impacting the current and
expected payment status of the loan and, if available, the current fair
F-19
value of the underlying collateral. For investments in partnerships, management
reviews the financial statements and other information provided by the general
partners.
The carrying values of investments that are determined to have declines in
value that are other than temporary are reduced to net realizable value and, in
the case of bonds, no further accruals of interest are made. The provisions for
impairment on mortgage loans are based on losses expected by management to be
realized on transfers of mortgage loans to real estate, on the disposition and
settlement of mortgage loans and on mortgage loans that management believes may
not be collectible in full. Accrual of interest is suspended when principal and
interest payments on mortgage loans are past due more than 90 days. Impairment
losses on securitized assets are recognized if the fair value of the security is
less than its book value, and the net present value of expected future cash
flows is less than the net present value of expected future cash flows at the
most recent (prior) estimation date.
DEFAULTED INVESTMENTS, comprising all investments that are in default as to
the payment of principal or interest, totaled $40.1 million of bonds at December
31, 2004, and constituted approximately 0.6% of total invested assets. At
December 31, 2003, defaulted investments totaled $49.6 million of bonds, which
constituted approximately 0.7% of total invested assets.
SOURCES OF LIQUIDITY are readily available to the Company in the form of
the Company's existing portfolio of cash and short-term investments, reverse
repurchase agreement capacity on invested assets and, if required, proceeds from
invested asset sales. The Company's liquidity is primarily derived from
operating cash flows from annuity operations. At December 31, 2004,
approximately $4.09 billion of the Bond Portfolio had an aggregate unrealized
gain of $180.3 million, while approximately $1.07 billion of the Bond Portfolio
had an aggregate unrealized loss of $27.1 million. In addition, the Company's
investment portfolio currently provides approximately $44.0 million of monthly
cash flow from scheduled principal and interest payments. Historically, cash
flows from operations and from the sale of the Company's annuity products have
been more than sufficient in amount to satisfy the Company's liquidity needs.
Management is aware that prevailing market interest rates may shift
significantly and has strategies in place to manage either an increase or
decrease in prevailing rates. In a rising interest rate environment, the
Company's average cost of funds would increase over time as it prices its new
and renewing Fixed-Rate Products to maintain a generally competitive market
rate. Management would seek to place new funds in investments that were matched
in duration to, and higher yielding than, the liabilities assumed. The Company
believes that liquidity to fund withdrawals would be available through incoming
cash flow, the sale of short-term or floating-rate instruments or Dollar Roll
Repos on the Company's substantial MBS segment of the Bond Portfolio, thereby
avoiding the sale of fixed-rate assets in an unfavorable bond market.
In a declining interest rate environment, the Company's cost of funds would
decrease over time, reflecting lower interest crediting rates on its Fixed-Rate
Products. Should increased liquidity be required for withdrawals, the Company
believes that a significant portion of its investments could be sold without
adverse consequences in light of the general strengthening that would be
expected in the bond market.
If a substantial portion of the Company's Bond Portfolio diminished
significantly in value and/or defaulted, the Company would need to liquidate
other portions of its investment portfolio and/or arrange financing. Such events
that may cause such a liquidity strain could be the result of economic collapse
or terrorist acts.
Management believes that the Company's liquid assets and its net cash
provided by operations will enable the Company to meet any foreseeable cash
requirements for at least the next twelve months.
GUARANTEES AND OTHER COMMITMENTS
The Company has six agreements outstanding in which it has provided
liquidity support for certain short-term securities of municipalities and
non-profit organizations by agreeing to purchase such securities in the event
there is no other buyer in the short-term marketplace. In return the Company
receives a fee. In addition, the Company guarantees the payment of these
securities upon redemption. The maximum liability under these guarantees at
December 31, 2004 is $195.4 million. These commitments have contractual maturity
dates in 2005. Related to each of these agreements are participation agreements
with the Parent, under which the Parent will share in $62.6 million of these
liabilities in exchange for a proportionate percentage of the fees received
under these agreements. The Internal Revenue Service examined the transactions
underlying these commitments, including the Company's role in the transactions.
The examination did not result in a material loss to the Company.
At December 31, 2004, the Company held reserves for GICs with maturity
dates as follows: $186.5 million in 2005 and $28.8 million in 2024.
F-20
RECENTLY ISSUED ACCOUNTING STANDARDS
In July 2003, the American Institute of Certified Public Accountants issued
Statement of Position 03-1, "Accounting and Reporting by Insurance Enterprises
for Certain Nontraditional Long-Duration Contracts and for Separate Accounts."
(For further discussion see Note 2 of Notes to Consolidated Financial
Statements.)
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
QUANTITATIVE AND QUALITATIVE DISCLOSURES
The quantitative and qualitative disclosures about market risk are
contained in the Asset-Liability Matching section of Management's Discussion and
Analysis of Financial Condition and Results of Operations.
DIRECTORS AND OFFICERS
Directors are elected for one year terms at the annual meeting of the
shareholder. They receive no additional compensation for serving as directors.
The board of directors elects executive officers to one year terms subject to
removal at the board's discretion. The directors and principal officers of AIG
SunAmerica Life Assurance Company (the "Company") as of March 31, 2005 are
listed below, together with information as to their ages, dates of election and
principal business occupations during the last five years (if other than their
present business occupations).
<Table>
<Caption>
YEAR
ASSUMED OTHER POSITIONS AND OTHER BUSINESS EXPERIENCE
NAME AGE PRESENT POSITION POSITION WITHIN LAST FIVE YEARS FROM-TO
- ---- --- ---------------------- -------- --------------------------------------------- ---------
Jay S. Wintrob*.......... 48 Chairman and Chief 2001 Chief Executive Officer, AIGRS, SunAmerica 2001-
Executive Officer Life Insurance Company ("SALIC") and First 2001-
SunAmerica Life Insurance Company ("FSA")
President, FSA 2001-
President, AIGRS 2000-
Chief Operating Officer, AIGRS 1998-2000
Vice Chairman, AIGRS (Joined AIGRS in 1987) 1995-2000
James R. Belardi*........ 48 Senior Vice President 1994 President, SALIC 2002-
Executive Vice President, AIGRS (Joined AIGRS 1995-
in 1986)
Marc H. Gamsin*.......... 49 Senior Vice President 1999 Executive Vice President, AIGRS 2001-
Senior Vice President, SALIC and FSA 1999-
Executive Vice President SunAmerica 1998-
Investments, Inc.
N. Scott Gillis*......... 51 Senior Vice President 2003 Chief Financial Officer, AIGRS, SALIC and FSA 2003-
and Chief Financial Senior Vice President, AIGRS 2002-
Officer Controller, AIGRS 2000-
Vice President, AIGRS (Joined AIGRS in 1985) 1998-2002
Jana W. Greer*........... 53 President 2002 Executive Vice President, AIGRS 2001-
President, SunAmerica Retirement Markets, 1996-
Inc. 1994-
Senior Vice President, SALIC and FSA 1992-2000
Senior Vice President, AIGRS (Joined AIGRS in
1974)
Michael J. Akers......... 55 Senior Vice President 2003 Chief Actuary, AIGRS 2003-
Senior Vice President, SALIC and FSA 2003-
Senior Vice President, AIGRS 2002-
Senior Vice President and Chief Actuary, The 1999-2002
Variable Annuity Life Insurance Company
Christine A. Nixon....... 40 Senior Vice President, 2003 Senior Vice President, General Counsel and 2003-
General Counsel and Secretary, SALIC and FSA
Secretary Chief Compliance Officer, AIGRS 2003
Secretary and Deputy Chief Legal Counsel, 2002-
AIGRS 2000-
Vice President, AIGRS (Joined AIGRS in 1993) 1997-2000
Associate General Counsel, AIGRS
Gregory M. Outcalt....... 42 Senior Vice President 2000 Vice President, SunAmerica Investments, Inc. 2002-
Senior Vice President, SALIC and FSA (Joined 2000-
AIGRS in 1986)
<Caption>
DIRECTOR
NAME SINCE
- ---- --------
Jay S. Wintrob*.......... 1990
James R. Belardi*........ 1990
Marc H. Gamsin*.......... 2000
N. Scott Gillis*......... 2000
Jana W. Greer*........... 1993
Michael J. Akers......... --
Christine A. Nixon....... --
Gregory M. Outcalt....... --
</Table>
F-21
<Table>
<Caption>
YEAR
ASSUMED OTHER POSITIONS AND OTHER BUSINESS EXPERIENCE
NAME AGE PRESENT POSITION POSITION WITHIN LAST FIVE YEARS FROM-TO
- ---- --- ---------------------- -------- --------------------------------------------- ---------
Stewart Polakov.......... 45 Senior Vice President 2003 Senior Vice President and Controller, FSA and 2003-
and Controller SALIC
Vice President, SALIC and FSA (Joined AIGRS 1997-2003
in 1991)
Edwin R. Raquel.......... 47 Senior Vice President 1995 Senior Vice President and Chief Actuary, 1995-
and Chief Actuary SALIC and FSA (Joined AIGRS in 1990)
Mallary L. Reznik........ 36 Vice President 2005 Vice President, FSA 2005-
Associate General Counsel, AIGRS 1998-
Stephen J. Stone......... 46 Vice President 2005 Vice President, FSA 2005-
Senior Portfolio Manager, Allstate Insurance 1989-2004
Company
Edward T. Texeria........ 40 Vice President 2003 Vice President, SALIC and FSA 2003-
Assistant Controller, AIGRS 2003-
Assistant Controller, SALIC and FSA 2000-2003
Senior Manager, Assurance and Advisory 1994-2000
Business Services, Ernst & Young LLP
<Caption>
DIRECTOR
NAME SINCE
- ---- --------
Stewart Polakov.......... --
Edwin R. Raquel.......... --
Mallary L. Reznik........ --
Stephen J. Stone......... --
Edward T. Texeria........ --
</Table>
- ---------------
* Also serves as a director
The Company does not have an audit committee and relies on the Audit
Committee of the Board of Directors of AIG.
EXECUTIVE COMPENSATION
The Company's executive officers provide services for the Company, its
subsidiaries and, for certain officers, its affiliates. Allocations have been
made to the Company and its subsidiaries based upon each individual's time
devoted to his or her duties for the Company and its subsidiaries. All
compensation information provided under this Item 11 is based on these
allocations.
The following table sets forth allocable compensation awarded to, earned by
or paid to the Company's chief executive officer and four other most highly
compensated executive officers for the years ended December 31, 2004, 2003 and
2002:
SUMMARY COMPENSATION TABLE
<Table>
<Caption>
LONG TERM COMPENSATION
ANNUAL COMPENSATION ---------------------------
---------------------------------- SECURITIES
NAME AND OTHER ANNUAL UNDERLYING LTIP ALL OTHER SICO LTIP
PRINCIPAL POSITION YEAR SALARY BONUS(1) COMPENSATION OPTIONS (#)(2) PAYOUTS(3) COMPENSATION(4) AWARDS(5)
- ------------------ ---- -------- -------- ------------ -------------- ---------- --------------- ---------
Jay S. Wintrob............ 2004 $ 84,500 $104,000 $21,580 6,500 $194,526 $ 5,068 $341,484
Chief Executive Officer 2003 86,125 71,500 18,330 10,400 183,365 3,041 --
2002 316,050 215,600 56,840 19,600 719,992 2,467,413 907,088
Jana W. Greer............. 2004 329,648 517,634 -- 6,762 417,973 18,109 695,051
President 2003 318,000 371,353 -- 10,560 327,366 17,208 --
2002 220,789 111,250 -- 4,005 363,902 2,014,889 556,054
Peter A. Harbeck.......... 2004 254,567 442,500 -- 7,500 364,920 14,475 531,927
President & Chief
Executive 2003 331,250 390,000 -- 13,000 389,782 18,950 --
Officer, Asset
Management 2002 223,269 160,000 50,000 6,500 444,581 1,512,950 590,070
N. Scott Gillis........... 2004 69,863 65,138 -- 1,782 36,437 5,360 170,217
Senior Vice President
and 2003 69,317 58,050 -- 3,240 24,726 6,448 --
Chief Financial Officer 2002 61,027 71,750 -- 2,460 49,230 169,465 104,361
Christine A. Nixon........ 2004 92,250 50,840 -- 2,009 20,997 7,558 64,619
Senior Vice President,
General 2003 89,038 39,600 -- 3,600 15,860 7,889 --
Counsel and Secretary 2002 46,142 27,900 -- 1,395 14,839 65,863 57,387
</Table>
- ---------------
(1) Amounts represent year-end and bonuses paid quarterly pursuant to a
quarterly bonus program sponsored by AIG and marketing incentives.
(2) Amounts represent the number of shares of common stock of AIG subject to
options granted during the year indicated.
(3) Amounts shown represent payments under the Company's 2000 and 2001 Five-Year
Deferred Bonus Plans. Awards were granted under these plans in 2000 and 2001
and additional grants are not anticipated. Each award pays out in 20%
installments over five years of continued employment. The last installment
is to be paid in 2006.
(4) Amounts shown primarily represent Company matching contributions under the
401(k) Plan and the Executive Savings Plan. Additionally, the 2002 amounts
shown for Mr. Wintrob, Ms. Greer, Mr. Harbeck, Mr. Gillis and Ms. Nixon
include allocated retention bonuses awarded in connection with the
acquisition of SunAmerica Inc. by AIG consummated on January 1, 1999.
F-22
(5) The SICO LTIP awards were granted by Starr International Company, Inc.
pursuant to its Deferred Compensation Profit Participation Plan (the "SICO
Plan").
The following table summarizes certain information with respect to the
allocable portion of grants of options to purchase AIG common stock which were
granted during 2004 to the individuals named in the Summary Compensation Table.
OPTION GRANTS IN 2004
<Table>
<Caption>
POTENTIAL REALIZABLE VALUE*
PERCENTAGE OF AT ASSUMED ANNUAL RATES OF
NUMBER OF TOTAL OPTIONS STOCK APPRECIATION FOR
SECURITIES GRANTED TO AIG EXERCISE OPTION TERM
DATE OF UNDERLYING EMPLOYEES PRICE PER EXPIRATION ----------------------------
NAME GRANT OPTIONS(1) DURING 2004(2) SHARE DATE 5 PERCENT(3) 10 PERCENT(4)
- ---- ---------- ---------- -------------- --------- ---------- ------------ -------------
Jay S. Wintrob................. 12/16/2004 6,500 0.19% $64.47 12/16/14 $263,510 $667,875
Jana W. Greer.................. 12/16/2004 6,762 0.20% 64.47 12/16/14 274,131 694,795
Peter A. Harbeck............... 12/16/2004 7,500 0.22% 64.47 12/16/14 304,050 770,625
N. Scott Gillis................ 12/16/2004 1,782 0.05% 64.47 12/16/14 72,242 183,101
Christine A. Nixon............. 12/16/2004 2,009 0.06% 64.47 12/16/14 81,445 206,425
</Table>
- ---------------
* Options would have no realizable value if there were no appreciation or if
there were depreciation from the price at which options were granted.
(1) All options relate to shares of common stock of AIG and were granted
pursuant to AIG's Amended and Restated 1999 Stock Option Plan at an exercise
price equal to the fair market value of such stock at the date of grant. The
option grants in 2004 provide that 25 percent of the options granted on any
date become exercisable on each anniversary date in each of the successive
four years and expire ten years from the date of grant.
(2) It is impractical to determine the percent the grant represents of total
options granted to the Company's employees, since the Company has no
employees. The percentage is provided with regard to options granted to
employees of AIG and its subsidiaries.
(3) The appreciated price per share at 5 percent is $105.01 per share.
(4) The appreciated price per share at 10 percent is $167.22 per share.
The following table summarizes certain information with respect to the
allocable exercise of options to purchase AIG common stock during 2004 by the
individuals named in the Summary Compensation Table and the allocable
unexercised options to purchase AIG common stock held by such individuals at
December 31, 2004 based on the allocations described above.
AGGREGATED OPTION EXERCISES DURING THE YEAR ENDED DECEMBER 31, 2004
AND DECEMBER 31, 2004 OPTION VALUES
<Table>
<Caption>
NUMBER OF
SECURITIES UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS AT
SHARES DECEMBER 31, 2004 DECEMBER 31, 2004(2)
ACQUIRED ON VALUE --------------------------- ---------------------------
NAME EXERCISE REALIZED(1) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ----------- ----------- ------------- ----------- -------------
Jay S. Wintrob............................ 21,101 $1,368,055 95,143 21,288 $ 4,474,328 $98,683
Jana W. Greer............................. 53,023 3,315,702 259,354 61,642 11,565,498 87,719
Peter A. Harbeck.......................... 14,428 710,616 57,373 45,471 1,464,499 94,203
N. Scott Gillis........................... 1,144 50,969 12,170 8,937 275,270 30,452
Christine A. Nixon........................ 3,549 203,628 12,983 9,364 377,754 34,657
</Table>
- ---------------
(1) Aggregate market value on date of exercise (closing sale price as reported
in the New York Stock Exchange Composite Transactions Report) less aggregate
exercise price.
(2) Aggregate market value on December 31, 2004 (closing sale price as reported
in the New York Stock Exchange Composite Transactions Report) less aggregate
exercise price.
F-23
The following table summarizes certain information with respect to benefits
granted under the SICO Plan which were granted during 2002 (with respect to the
2003-2004 period) to the individuals named in the Summary Compensation Table.
SICO LONG-TERM INCENTIVE PLANS(1)
<Table>
<Caption>
NUMBER UNIT AWARD ESTIMATED
NAME OF UNITS PERIOD FUTURE PAYOUTS
- ---- -------- ---------- ----------------
Jay S. Wintrob.............................................. 325 Two years 5,200 shares
Jana W. Greer............................................... 882 Two years 10,584 shares
Peter A. Harbeck............................................ 675 Two years 8,100 shares
N. Scott Gillis............................................. 216 Two years 2,592 shares
Christine A. Nixon.......................................... 123 Two years 984 shares
</Table>
- ---------------
(1) Awards represent grants of units under the SICO Plan with respect to the
two-year period from January 1, 2003 through December 31, 2004. The SICO
Plan contains neither threshold amounts nor maximum payout limitations. The
number of shares of AIG common stock, if any, allocated to a unit for the
benefit of a participant in the SICO Plan is primarily dependent upon two
factors: the growth in future earnings of AIG during the unit award period
and the book value of AIG at the end of the award period. Prior to earning
the right to payout, the participant is not entitled to any equity interest
with respect to such shares, and the shares are subject to forfeiture under
certain conditions, including but not limited to the participant's voluntary
termination of employment with AIG or its subsidiaries prior to normal
retirement age other than by death or disability.
EMPLOYEE BENEFIT PLANS
The Company participates in several employee benefit plans sponsored by
AIG.
RETIREMENT PLANS: The American International Group, Inc. Retirement Plan
(the "AIG Plan") is a non-contributory, qualified, defined benefit plan. For
employees of AIGRS and its subsidiaries, the formula equals .925% times Average
Final Compensation (defined as the average annual compensation, which includes
base pay and sales commissions, subject to limitations for certain highly
compensated employees imposed by law, during the three consecutive years in the
last ten years of credited service affording the highest such average) up to
150% of the employee's "covered compensation" (the average of the Social
Security Wage Bases during the 35 years preceding the Social Security retirement
age), plus 1.425% times Average Final Compensation in excess of 150% of the
employee's "covered compensation" times years of credited service up to 35
years; plus 1.425% times Average Final Compensation times years of credited
service in excess of 35 years but limited to 44 years.
AIG also has in place the AIG Excess Retirement Income Plan ("AIG Excess
Plan") for employees participating in the AIG Plan whose benefits under the AIG
Plan are limited by applicable tax laws. The AIG Excess Plan provides benefits
in excess of the AIG Plan benefits determined as if the benefit under the AIG
Plan has been calculated without the limitations imposed by applicable tax laws.
The AIG Excess Plan is a nonqualified, unfunded plan.
AIG also has approved a Supplemental Executive Retirement Plan ("AIG SERP")
which provides annual benefits to certain employees of AIGRS and its
subsidiaries, not to exceed 60% of Average Final Compensation, that accrue at a
rate of 2.4% of Average Final Compensation for each year of service or fraction
thereof for each full month of active employment. The benefit payable under the
AIG SERP is reduced by payments from the AIG Plan, the AIG Excess Plan, Social
Security and any payments from a qualified pension plan of a prior employer.
F-24
Annual amounts of normal retirement pension commencing at normal retirement
age of 65 based upon Average Final Compensation and credited service under the
AIG Plan and the AIG Excess Plan are illustrated in the following table:
ESTIMATED ANNUAL PENSION AT AGE 65
<Table>
<Caption>
AVERAGE FINAL
COMPENSATION 10 YEARS 15 YEARS 20 YEARS 25 YEARS 30 YEARS 35 YEARS 40 YEARS
- ------------- -------- -------- -------- -------- -------- -------- ----------
$ 125,000 $ 14,341 $ 21,512 $ 28,682 $ 35,853 $ 43,024 $ 50,194 $ 59,100
$ 150,000 17,904 26,856 35,807 44,759 53,711 62,663 73,350
$ 175,000 21,466 32,199 42,932 53,666 64,399 75,132 87,600
$ 200,000 25,029 37,543 50,057 62,572 75,086 87,600 101,850
$ 225,000 28,591 42,887 57,182 71,478 85,774 100,069 116,100
$ 250,000 32,154 48,231 64,307 80,384 96,461 112,538 130,350
$ 300,000 39,279 58,918 78,557 98,197 117,836 137,475 158,850
$ 375,000 49,966 74,949 99,932 124,916 149,899 174,882 201,600
$ 400,000 53,529 80,293 107,057 133,822 160,586 187,350 215,850
$ 500,000 67,779 101,668 135,557 169,447 203,336 237,225 272,850
$ 750,000 103,404 155,106 206,807 258,509 310,211 361,913 415,350
$1,000,000 139,029 208,543 278,057 347,572 417,086 486,600 557,850
$1,200,000 167,529 251,293 335,057 418,822 502,586 586,350 671,850
$1,400,000 196,029 294,043 392,057 490,072 588,086 686,100 785,850
$1,600,000 224,529 336,793 449,057 561,322 673,586 785,850 899,850
$1,800,000 253,029 379,543 506,057 632,572 759,086 885,600 1,013,850
$2,000,000 281,529 422,293 563,057 703,822 844,586 985,350 1,127,850
</Table>
Each of the individuals named in the Summary Compensation Table have 2.0
years of credited service (under both plans) through December 31, 2004.
Pensionable salary includes the regular salary paid by AIG and its subsidiaries
and does not include amounts attributable to supplementary bonuses or overtime
pay. For such named individuals, pensionable salary allocable to the Company
during 2004 was as follows: Mr. Wintrob - $84,500; Ms. Greer - $329,648; Mr.
Harbeck - $339,423; Mr. Gillis - $69,863; and Ms. Nixon - $92,250.
Employees of AIGRS and its subsidiaries participate in the American
International Group, Inc. Incentive Savings Plan (the "Incentive Savings Plan"),
a 401(k) plan established by AIG which includes salary reduction contributions
by employees and matching contributions. Matching contributions vary based on
the number of years the employee has been employed.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors of the Company does not have a Compensation
Committee. Compensation decisions regarding the Chief Executive Officer are made
by AIG. Compensation decisions regarding other executive officers are made by
the Chief Executive Officer.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The Company is an indirect wholly owned subsidiary of American
International Group, Inc.
The number of shares of AIG common stock beneficially owned as of January
31, 2005, by directors, executive officers named in the Summary Compensation
Table (as set forth in Item 11) and directors and executive officers as a group
were as follows:
<Table>
<Caption>
AIG COMMON STOCK
--------------------
AMOUNT AND NATURE OF
BENEFICIAL OWNERSHIP
DIRECTOR OR EXECUTIVE OFFICER (1)(2)(3)(5)
- ----------------------------- --------------------
Jay S. Wintrob(4)........................................... 2,087,506
James R. Belardi............................................ 861,222
Marc H. Gamsin.............................................. 140,616
N. Scott Gillis............................................. 47,439
Jana W. Greer............................................... 304,877
Peter A. Harbeck............................................ 132,846
Christine A. Nixon.......................................... 33,003
All Directors and Executive Officers as a Group............. 3,607,509
</Table>
F-25
- ---------------
(1) The number of shares of AIG common stock owned by each individual and by all
directors and executive officers as a group represents less than 1% of the
outstanding shares of AIG common stock.
(2) The number of shares of AIG common stock shown includes shares with respect
to which the individual shares voting and investment power as follows: Mr.
Belardi - 237 shares with his spouse; Ms. Greer - 39,105 shares with
co-trustee.
(3) The number of shares of AIG common stock shown includes shares subject to
options which may be exercised within 60 days as follows: Mr.
Wintrob - 741,870; Mr. Belardi - 305,397; Ms. Greer - 265,772; Mr.
Gillis - 46,575; Mr. Gamsin - 140,216; Mr. Harbeck - 78,122; Ms.
Nixon - 32,790; and all directors and executive officers as a
group - 1,610,742.
(4) Mr. Wintrob holds equity securities of C.V. Starr & Co., Inc. of 750 shares
of Common Stock and 3,750 shares of various series of Preferred Stock.
(5) The number of shares of AIG common stock shown excludes the following shares
owned by members of the named individual's immediate family as to which such
individual has disclaimed beneficial ownership: Mr. Wintrob - 4,009 shares
held by various family members.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
During 2004, the Company paid cash dividends to its shareholder aggregating
$2.5 million and received a capital contribution of 100% of the outstanding
capital stock of its consolidated subsidiary, AIG SunAmerica Asset Management
Corp. ("SAAMCo") (formerly SunAmerica Asset Management Corp.) which in turn has
two wholly owned subsidiaries: AIG SunAmerica Capital Services, Inc. ("SACS")
(formerly SunAmerica Capital Services, Inc.) and AIG SunAmerica Fund Services,
Inc. ("SFS") (formerly SunAmerica Fund Services, Inc.). This capital
contribution increased the Company's equity by $150,653,000.
Beginning in 2004, the Company and its subsidiaries are included in the
consolidated federal income tax return of its ultimate parent, AIG. The Company
is a party to a written agreement (the "Tax Sharing Agreement") with AIG setting
forth the manner in which the total consolidated U.S. Federal income tax is
allocated to each entity that joins in the consolidated return. The Tax Sharing
Agreement provides that AIG agrees not to charge us a greater portion of the
consolidated tax liability than would have been paid by us had the Company filed
a separate federal income tax return. Additionally, AIG agrees to reimburse the
Company for any tax benefits arising out of net losses or tax credits, if any,
within ninety days after the filing of the consolidated federal income tax
return for the year in which such losses or tax credits are utilized by AIG.
The Company paid commissions totaling $60,674,000 in 2004 to nine
affiliated broker-dealers: Royal Alliance Associates, Inc.; SunAmerica
Securities, Inc.; Advantage Capital Corporation; FSC Services Corporation;
Sentra Securities Corporation; Spelman & Co., Inc.; VALIC Financial Advisors;
American General Equity Securities Corporation and American General Securities
Inc. These affiliated broker-dealers distribute a significant portion of the
Company's variable annuity products amounting to approximately 23% of deposits
in 2004. Of the Company's mutual fund sales, approximately 25% were distributed
by these affiliated broker-dealers in 2004.
On February 1, 2004, SAAMCo entered into an administrative services
agreement with FSA whereby SAAMCo will pay to FSA a fee based on a percentage of
all assets invested through FSA's variable annuity products in exchange for
services performed. SAAMCo is the investment advisor for certain trusts that
serve as investment options for FSA's variable annuity products. Amounts
incurred by the Company under this agreement totaled $1,537,000 in 2004.
On October 1, 2001, SAAMCo entered into two administrative services
agreements with business trusts established by its affiliate, The Variable
Annuity Life Insurance Company ("VALIC"), whereby the trust pays to SAAMCo a fee
based on a percentage of average daily net assets invested through VALIC's
annuity products in exchange for services performed. Amounts earned by SAAMCo
under this agreement totaled $9,074,000 in 2004 and are net of certain
administrative costs incurred by VALIC of $2,593,000.
Pursuant to a cost allocation agreement, the Company purchases
administrative, investment management, accounting, legal, marketing and data
processing services from the Parent, AIGRS and AIG. The allocation of such costs
for investment management services is based on the level of assets under
management. The allocation of costs for other services is based on estimated
levels of usage, transactions or time incurred in providing the respective
services. Amounts paid for such services totaled $148,554,000 in 2004.
The majority of the Company's invested assets are managed by an affiliate
of the Company. The investment management fees incurred were $3,712,000 in 2004.
Additionally, the Company incurred $1,113,000 of management fees to an affiliate
of the Company to administer its securities lending program for 2004.
F-26
FINANCIAL STATEMENTS
The consolidated financial statements of AIG SunAmerica Life Assurance
Company which are included in this prospectus should be considered only as
bearing on the ability AIG SunAmerica Life to meet its obligations with respect
to amounts allocated to the fixed investment options and with respect to the
death and other living benefits and our assumption of the mortality and expense
risks and the risks that withdrawal charge will not be sufficient to cover the
cost of distributing the contracts. They should not be considered as bearing on
the investment performance of the variable Portfolios. The value of the variable
Portfolios is affected primarily by the performance of the underlying
investments.
F-27
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholder of
AIG SunAmerica Life Assurance Company:
In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of income and comprehensive income and of cash flows, in
all material respects, the financial position of AIG SunAmerica Life Assurance
Company (the "Company"), an indirect wholly owned subsidiary of American
International Group, Inc., at December 31, 2004 and 2003, and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 2004 in conformity with accounting principles generally
accepted in the United States of America. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit 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.
As discussed in Note 2 to the consolidated financial statements, the
Company changed its method of accounting and reporting for certain
nontraditional long-duration contracts in 2004.
PricewaterhouseCoopers LLP
Los Angeles, California
April 15, 2005
F-28
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED BALANCE SHEET
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Assets
Investments and cash:
Cash and short-term investments........................... $ 201,117 $ 133,105
Bonds, notes and redeemable preferred stocks available for
sale, at fair value (amortized cost: December 31, 2004,
$5,007,868; December 31, 2003, $5,351,183).............. 5,161,027 5,505,800
Mortgage loans............................................ 624,179 716,846
Policy loans.............................................. 185,958 200,232
Mutual funds.............................................. 6,131 21,159
Common stocks available for sale, at fair value (cost:
December 31, 2004, $4,876; December 31, 2003, $635)..... 4,902 727
Real estate............................................... 20,091 22,166
Securities lending collateral............................. 883,792 514,145
Other invested assets..................................... 38,789 10,453
----------- -----------
Total investments and cash................................ 7,125,986 7,124,633
Variable annuity assets held in separate accounts........... 22,612,451 19,178,796
Accrued investment income................................... 73,769 74,647
Deferred acquisition costs.................................. 1,349,089 1,268,621
Other deferred expenses..................................... 257,781 236,707
Income taxes currently receivable from Parent............... 9,945 15,455
Receivable from brokers for sales of securities............. 161 --
Goodwill.................................................... 14,038 14,038
Other assets................................................ 52,795 58,830
----------- -----------
Total Assets................................................ $31,496,015 $27,971,727
=========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-29
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED BALANCE SHEET (Continued)
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Liabilities and Shareholder's Equity
Reserves, payables and accrued liabilities:
Reserves for fixed annuity and fixed accounts of variable
annuity contracts....................................... $ 3,948,158 $ 4,274,329
Reserves for universal life insurance contracts........... 1,535,905 1,609,233
Reserves for guaranteed investment contracts.............. 215,331 218,032
Reserves for guaranteed benefits.......................... 76,949 12,022
Securities lending payable................................ 883,792 514,145
Due to affiliates......................................... 21,655 19,289
Payable to brokers........................................ -- 1,140
Other liabilities......................................... 190,198 247,435
----------- -----------
Total reserves, payables and accrued liabilities.......... 6,871,988 6,895,625
Variable annuity liabilities related to separate accounts... 22,612,451 19,178,796
Subordinated notes payable to affiliates.................... -- 40,960
Deferred income taxes....................................... 257,532 242,556
----------- -----------
Total liabilities........................................... 29,741,971 26,357,937
----------- -----------
Shareholder's equity:
Common stock.............................................. 3,511 3,511
Additional paid-in capital................................ 758,346 709,246
Retained earnings......................................... 919,612 828,423
Accumulated other comprehensive income.................... 72,575 72,610
----------- -----------
Total shareholder's equity................................ 1,754,044 1,613,790
----------- -----------
Total Liabilities and Shareholder's Equity.................. $31,496,015 $27,971,727
=========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-30
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED STATEMENT OF INCOME AND COMPREHENSIVE INCOME
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance........ $369,141 $281,359 $286,919
Asset management fees................................... 89,569 66,663 66,423
Universal life insurance fees, net of reinsurance....... 33,899 35,816 36,253
Surrender charges....................................... 26,219 27,733 32,507
Other fees.............................................. 15,753 15,520 21,900
-------- -------- --------
Total fee income...................................... 534,581 427,091 444,002
Investment income........................................... 363,594 402,923 387,355
Net realized investment losses.............................. (23,807) (30,354) (65,811)
-------- -------- --------
Total revenues.............................................. 874,368 799,660 765,546
======== ======== ========
Benefits and Expenses:
Interest expense:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... 140,889 153,636 142,973
Universal life insurance contracts........................ 73,745 76,415 80,021
Guaranteed investment contracts........................... 6,034 7,534 11,267
Subordinated notes payable to affiliates.................. 2,081 2,628 3,868
-------- -------- --------
Total interest expense...................................... 222,749 240,213 238,129
Amortization of bonus interest.............................. 10,357 19,776 16,277
General and administrative expenses......................... 131,612 119,093 115,210
Amortization of deferred acquisition costs and other
deferred expenses......................................... 157,650 160,106 222,484
Annual commissions.......................................... 64,323 55,661 58,389
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,420 17,766 15,716
Guaranteed minimum death benefits, net of reinsurance
recoveries................................................ 58,756 63,268 67,492
-------- -------- --------
Total benefits and expenses................................. 662,867 675,883 733,697
======== ======== ========
Pretax Income Before Cumulative Effect of Accounting
Change.................................................... 211,501 123,777 31,849
Income tax expense.......................................... 6,410 30,247 160
-------- -------- --------
Net Income Before Cumulative Effect of Accounting Change.... 205,091 93,530 31,689
Cumulative effect of accounting change, net of tax.......... (62,589) -- --
-------- -------- --------
Net Income.................................................. $142,502 $ 93,530 $ 31,689
======== ======== ========
Other Comprehensive Income (Loss),
Net of Tax:
Net unrealized gains (losses) on debt and equity
securities available for sale identified in the current
period less related amortization of deferred acquisition
costs and other deferred expenses....................... $(20,487) $ 67,125 $ 20,358
Less reclassification adjustment for net realized losses
included in net income.................................. 19,263 19,194 52,285
Net unrealized gains (losses) on foreign currency......... 1,170 -- --
Change related to cash flow hedges........................ -- -- (2,218)
Income tax (benefit) expense.............................. 19 (30,213) (24,649)
-------- -------- --------
Other Comprehensive Income (Loss)........................... (35) 56,106 45,776
-------- -------- --------
Comprehensive Income........................................ $142,467 $149,636 $ 77,465
======== ======== ========
</Table>
See accompanying notes to consolidated financial statements.
F-31
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED STATEMENT OF CASH FLOWS
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
-------------------------------------
2004 2003 2002
--------- ----------- -----------
(IN THOUSANDS)
Cash Flow from Operating Activities:
Net income.................................................. $ 142,502 $ 93,530 $ 31,689
Adjustments to reconcile net income to net cash provided by
operating activities:
Cumulative effect of accounting change, net of tax........ 62,589 -- --
Interest credited to:
Fixed annuity and fixed accounts of variable annuity
contracts.............................................. 140,889 153,636 142,973
Universal life insurance contracts...................... 73,745 76,415 80,021
Guaranteed investment contracts......................... 6,034 7,534 11,267
Net realized investment losses............................ 23,807 30,354 65,811
Accretion of net discounts on investments................. (1,277) (9,378) (2,412)
Loss on other invested assets............................. 572 2,859 3,932
Amortization of deferred acquisition costs and other
expenses................................................ 168,007 179,882 238,761
Acquisition costs deferred................................ (246,033) (212,251) (204,833)
Other expenses deferred................................... (62,906) (70,158) (77,602)
Depreciation of fixed assets.............................. 1,619 1,718 860
Provision for deferred income taxes....................... 49,337 (129,591) 106,044
Change in:
Accrued investment income............................... 878 679 13,907
Other assets............................................ 4,416 (12,349) 4,736
Income taxes currently payable to/receivable from
Parent................................................. 5,157 148,898 (43,629)
Due from/to affiliates.................................. 2,366 (36,841) (7,743)
Other liabilities....................................... 7,485 10,697 (7,143)
Other, net................................................ 2,284 14,885 10,877
--------- ----------- -----------
Net Cash Provided by Operating Activities................... 381,471 250,519 367,516
--------- ----------- -----------
Cash Flows from Investing Activities:
Purchases of:
Bonds, notes and redeemable preferred stocks.............. (964,705) (2,078,310) (2,403,362)
Mortgage loans............................................ (31,502) (44,247) (128,764)
Other investments, excluding short-term investments....... (33,235) (20,266) (65,184)
Sales of:
Bonds, notes and redeemable preferred stocks.............. 383,695 1,190,299 849,022
Other investments, excluding short-term investments....... 22,283 12,835 825
Redemptions and maturities of:
Bonds, notes and redeemable preferred stocks.............. 898,682 994,014 615,798
Mortgage loans............................................ 125,475 67,506 82,825
Other investments, excluding short-term investments....... 10,915 72,970 114,347
--------- ----------- -----------
Net Cash Provided By (Used in) Investing Activities......... $ 411,608 $ 194,801 $ (934,493)
========= =========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-32
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED STATEMENT OF CASH FLOWS (Continued)
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
--------------------------------------
2004 2003 2002
----------- ----------- ----------
(IN THOUSANDS)
Cash Flow from Financing Activities:
Deposits received on:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... $ 1,360,319 $ 1,553,000 $1,731,597
Universal life insurance contracts........................ 45,183 45,657 49,402
Net exchanges from the fixed accounts of variable annuity
contracts................................................. (1,332,240) (1,108,030) (503,221)
Withdrawal payments on:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... (458,052) (464,332) (529,466)
Universal life insurance contracts........................ (69,185) (61,039) (68,444)
Guaranteed investment contracts........................... (8,614) (148,719) (135,084)
Claims and annuity payments, net of reinsurance, on:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... (108,691) (109,412) (98,570)
Universal life insurance contracts........................ (105,489) (111,380) (100,995)
Net receipt from (repayments of) other short-term
financings................................................ (41,060) 14,000 --
Net payment related to a modified coinsurance transaction... (4,738) (26,655) (30,282)
Capital contribution received from Parent................... -- -- 200,000
Dividends paid to Parent.................................... (2,500) (12,187) (10,000)
----------- ----------- ----------
Net Cash (Used in) Provided by Financing Activities......... (725,067) (429,097) 504,937
----------- ----------- ----------
Net Increase (Decrease) in Cash and Short-term
Investments............................................... 68,012 16,223 (62,040)
Cash and Short-term Investments at Beginning of Period...... 133,105 116,882 178,922
----------- ----------- ----------
Cash and Short-term Investments at End of Period............ $ 201,117 $ 133,105 $ 116,882
=========== =========== ==========
Supplemental Cash Flow Formation:
Interest paid on indebtedness............................... $ 2,081 $ 2,628 $ 3,868
=========== =========== ==========
Net income taxes (received) paid to Parent.................. $ (47,749) $ 10,989 $ 5,856
=========== =========== ==========
</Table>
See accompanying notes to consolidated financial statements.
F-33
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
AIG SunAmerica Life Assurance Company (formerly Anchor National Life
Insurance Company) (the "Company") is a direct wholly owned subsidiary of
SunAmerica Life Insurance Company (the "Parent"), which is a wholly owned
subsidiary of AIG Retirement Services, Inc. ("AIGRS") (formerly AIG
SunAmerica Inc.), a wholly owned subsidiary of American International Group,
Inc. ("AIG"). AIG is a holding company which through its subsidiaries is
engaged in a broad range of insurance and insurance-related activities,
financial services, retirement services and asset management. The Company is
an Arizona-domiciled life insurance company principally engaged in the
business of writing variable annuity contracts directed to the market for
tax-deferred, long-term savings products.
The Company changed its name to AIG SunAmerica Life Assurance Company on
January 24, 2002. The Company continued to do business as Anchor National
Life Insurance Company until February 28, 2003, at which time it began doing
business under its new name.
Effective January 1, 2004, the Parent contributed to the Company 100% of the
outstanding capital stock of its consolidated subsidiary, AIG SunAmerica
Asset Management Corp. ("SAAMCo") (formerly SunAmerica Asset Management
Corp.) which in turn has two wholly owned subsidiaries: AIG SunAmerica
Capital Services, Inc. ("SACS") (formerly SunAmerica Capital Services, Inc.)
and AIG SunAmerica Fund Services, Inc. ("SFS") (formerly SunAmerica Fund
Services, Inc.). Pursuant to this contribution, SAAMCo became a direct
wholly owned subsidiary of the Company. Assets, liabilities and
shareholder's equity at December 31, 2003 were restated to include
$190,605,000, $39,952,000 and $150,653,000, respectively, of SAAMCo
balances. Similarly, the results of operations and cash flows for the years
ended December 31, 2003 and 2002 have been restated for the addition and
subtraction to pretax income of $16,345,000 and $4,464,000 to reflect the
SAAMCo activity. Prior to this capital contribution to the Company, SAAMCo
distributed certain investments with a tax effect of $49,100,000 which was
indemnified by its then parent, SALIC. See Note 10 of the Notes to
Consolidated Financial Statements.
SAAMCo and its wholly owned distributor, SACS, and its wholly owned
servicing administrator, SFS, are included in the Company's asset management
segment (see Note 13). These companies earn fee income by managing,
distributing and administering a diversified family of mutual funds,
managing certain subaccounts offered within the Company's variable annuity
products and providing professional management of individual, corporate and
pension plan portfolios.
The operations of the Company are influenced by many factors, including
general economic conditions, monetary and fiscal policies of the federal
government, and policies of state and other regulatory authorities. The
level of sales of the Company's financial products is influenced by many
factors, including general market rates of interest, the strength, weakness
and volatility of equity markets, and terms and conditions of competing
financial products. The Company is exposed to the typical risks normally
associated with a portfolio of fixed-income securities, namely interest
rate, option, liquidity and credit risk. The Company controls its exposure
to these risks by, among other things, closely monitoring and matching the
duration of its assets and liabilities, monitoring and limiting prepayment
and extension risk in its portfolio, maintaining a large percentage of its
portfolio in highly liquid securities, and engaging in a disciplined process
of underwriting, reviewing and monitoring credit risk. The Company also is
exposed to market risk, as market volatility may result in reduced fee
income in the case of assets held in separate accounts.
Products for the annuity operations and asset management operations are
marketed through affiliated and independent broker-dealers, full-service
securities firms and financial institutions. One independent selling
organization in the annuity operations represented 24.8% of deposits in the
year ended December 31, 2004, 14.6% of deposits in the year ended December
31, 2003 and 11.9% of deposits in the year ended December 31, 2002. No other
independent selling organization was responsible for 10% or more of deposits
for any such period. One independent selling organization in the asset
management operations represented 16.0% of deposits in the year ended
December 31, 2004 and 10.8% of deposits in the year ended December 31, 2003.
No other independent selling organization was responsible for 10% or more of
deposits for any such period.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION: The accompanying financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America ("GAAP"). The preparation of financial statements
in conformity with GAAP requires the use of estimates and assumptions that
affect the amounts reported in the financial
F-34
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
statements and the accompanying notes. Actual results could differ from
those estimates. Certain prior period items have been reclassified to
conform to the current period's presentation.
INVESTMENTS: Cash and short-term investments primarily include cash,
commercial paper, money market investments and short-term bank
participations. All such investments are carried at cost plus accrued
interest, which approximates fair value, have maturities of three months or
less and are considered cash equivalents for purposes of reporting cash
flows.
Bonds, notes and redeemable preferred stocks available for sale and common
stocks are carried at aggregate fair value and changes in unrealized gains
or losses, net of deferred acquisition costs, deferred other expenses and
income tax, are credited or charged directly to the accumulated other
comprehensive income or loss component of shareholder's equity. Bonds,
notes, redeemable preferred stocks and common stocks are reduced to
estimated net fair value when declines in such values are considered to be
other than temporary. Estimates of net fair value are subjective and actual
realization will be dependent upon future events.
Mortgage loans are carried at amortized unpaid balances, net of provisions
for estimated losses. Policy loans are carried at unpaid balances. Mutual
funds consist of seed money for mutual funds used as investment vehicles for
the Company's variable annuity separate accounts and is carried at market
value. Real estate is carried at the lower of cost or net realizable value.
Securities lending collateral consist of securities provided as collateral
with respect to the Company's securities lending program. The Company has
entered into a securities lending agreement with an affiliated lending
agent, which authorizes the agent to lend securities held in the Company's
portfolio to a list of authorized borrowers. The fair value of securities
pledged under the securities lending agreement were $862,481,000 and
$502,885,000 as of December 31, 2004 and 2003, respectively, and represents
securities included in bonds, notes and redeemable preferred stocks
available for sale caption in the consolidated balance sheet as of December
31, 2004 and 2003, respectively. The Company receives primarily cash
collateral in an amount in excess of the market value of the securities
loaned. The affiliated lending agent monitors the daily market value of
securities loaned with respect to the collateral value and obtains
additional collateral when necessary to ensure that collateral is maintained
at a minimum of 102% of the value of the loaned securities. Such collateral
is not available for the general use of the Company. Income earned on the
collateral, net of interest paid on the securities lending agreements and
the related management fees paid to administer the program, is recorded as
investment income in the consolidated statement of income and comprehensive
income.
Other invested assets consist principally of investments in limited
partnerships and put options on the S&P 500 index purchased to partially
offset the risk of Guaranteed Minimum Account Value ("GMAV") benefits and
Guaranteed Minimum Withdrawal ("GMWB") benefits (see Note 7). Limited
partnerships are carried at cost. The put options do not qualify for hedge
accounting and accordingly are marked to market and changes in market value
are recorded through investment income.
Realized gains and losses on the sale of investments are recognized in
operations at the date of sale and are determined by using the specific cost
identification method. Premiums and discounts on investments are amortized
to investment income by using the interest method over the contractual lives
of the investments.
The Company regularly reviews its investments for possible impairment based
on criteria including economic conditions, market prices, past experience
and other issuer-specific developments among other factors. If there is a
decline in a security's net realizable value, a determination is made as to
whether that decline is temporary or "other than temporary". If it is
believed that a decline in the value of a particular investment is
temporary, the decline is recorded as an unrealized loss in accumulated
other comprehensive income. If it is believed that the decline is "other
than temporary", the Company writes down the carrying value of the
investment and records a realized loss in the consolidated statement of
income and comprehensive income. Impairments writedowns totaled $21,050,000,
$54,092,000 and $57,273,000 in the years ending December 31, 2004, 2003 and
2002.
DERIVATIVE FINANCIAL INSTRUMENTS: Derivative financial instruments primarily
used by the Company include interest rate swap agreements and put options on
the S&P 500 index entered into to partially offset the risk of certain
guarantees of annuity contract values. The Company is neither a dealer nor a
trader in derivative financial instruments.
F-35
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
The Company recognizes all derivatives in the consolidated balance sheet at
fair value. Hedge accounting requires a high correlation between changes in
fair values or cash flows of the derivative financial instrument and the
specific item being hedged, both at inception and throughout the life of the
hedge. For fair value hedges, gains and losses in the fair value of both the
derivative and the hedged item attributable to the risk being hedged are
recognized in earnings. For cash flow hedges, to the extent the hedge is
effective, gains and losses in the fair value of both the derivative and the
hedged item attributable to the risk being hedged are recognized as
component of accumulated other comprehensive income in shareholder's equity.
Any ineffective portion of cash flow hedges is reported in investment
income. On the date a derivative contract is entered into, the Company
formally documents all relationships between hedging instruments and hedged
items, as well as its risk management objective and strategy for undertaking
various hedge transactions. This process includes linking all derivatives
designated as fair value or cash flow hedges to specific assets and
liabilities on the balance sheet.
Interest rate swap agreements convert specific investment securities from a
floating-rate to a fixed-rate basis, or vice versa, and hedge against the
risk of declining rates on anticipated security purchases. Interest rate
swaps in which the Company agrees to pay a fixed rate and receive a floating
rate are accounted for as fair value hedges. Interest rate swaps in which
the Company agrees to pay a floating rate and receive a fixed rate are
accounted for as cash flow hedges. The difference between amounts paid and
received on swap agreements is recorded as an adjustment to investment
income or interest expense, as appropriate, on an accrual basis over the
periods covered by the agreements. The related amount payable to or
receivable from counterparties is included in other liabilities or other
assets.
The Company issues certain variable annuity products that offer an optional
GMAV and GMWB living benefit. If elected by the contract holder at the time
of contract issuance, the GMAV feature guarantees that the account value
under the contract will equal or exceed the amount of the initial principal
invested, adjusted for withdrawals, at the end of a ten-year waiting period.
If elected by the contract holder at the time of contract issuance, the GMWB
feature guarantees an annual withdrawal stream, regardless of market
performance, equal to deposits invested during the first ninety days,
adjusted for any subsequent withdrawals. There is a separate charge to the
contract holder for these features. The Company bears the risk that
protracted under-performance of the financial markets could result in GMAV
and GMWB benefits being higher than the underlying contract holder account
balance and that the fees collected under the contract are insufficient to
cover the costs of the benefit to be provided.
Under Financial Accounting Standards Board Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities"("FAS 133"), the GMAV and GMWB benefits are considered embedded
derivatives that are bifurcated and marked to market and recorded in other
liabilities in the consolidated balance sheet. Changes in the market value
of the estimated GMAV and GMWB benefits are recorded through investment
income.
DEFERRED ACQUISITION COSTS ("DAC"): Policy acquisition costs are deferred
and amortized over the estimated lives of the annuity and universal life
insurance contracts. Policy acquisition costs include commissions and other
costs that vary with, and are primarily related to, the production or
acquisition of new business.
DAC is amortized based on a percentage of expected gross profits ("EGPs")
over the life of the underlying contracts. EGPs are computed based on
assumptions related to the underlying contracts, including their anticipated
duration, the growth rate of the separate account assets (with respect to
variable options of the variable annuity contracts) or general account
assets (with respect to fixed options of variable annuity contracts ("Fixed
Options") and universal life insurance contracts) supporting the annuity
obligations, costs of providing for contract guarantees and the level of
expenses necessary to maintain the contracts. The Company adjusts
amortization of DAC and other deferred expenses (a "DAC unlocking") when
estimates of future gross profits to be realized from its annuity contracts
are revised.
The assumption for the long-term annual net growth of the separate account
assets used by the Company in the determination of DAC amortization with
respect to its variable annuity contracts is 10% (the "long-term growth rate
assumption"). The Company uses a "reversion to the mean" methodology that
allows the Company to maintain this 10% long-term growth rate assumption,
while also giving consideration to the effect of short-term swings in the
equity markets. For example, if performance were 15% during the first year
following the introduction of a product, the DAC model would assume that
market returns for the following five years (the "short-term growth rate
assumption") would approximate 9%, resulting in an average annual growth
rate of 10% during the life of the product. Similarly, following periods of
below 10%
F-36
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
performance, the model will assume a short-term growth rate higher than 10%.
A DAC unlocking will occur if management deems the short-term growth rate
(i.e., the growth rate required to revert to the mean 10% growth rate over a
five-year period) to be unreasonable. The use of a reversion to the mean
assumption is common within the industry; however, the parameters used in
the methodology are subject to judgment and vary within the industry.
As debt and equity securities available for sale are carried at aggregate
fair value, an adjustment is made to DAC equal to the change in amortization
that would have been recorded if such securities had been sold at their
stated aggregate fair value and the proceeds reinvested at current yields.
The change in this adjustment, net of tax, is included with the change in
net unrealized gains or losses on debt and equity securities available for
sale which is a component of accumulated other comprehensive income (loss)
and is credited or charged directly to shareholder's equity.
The Company reviews the carrying value of DAC on at least an annual basis.
Management considers estimated future gross profit margins as well as
expected mortality, interest earned and credited rates, persistency and
expenses in determining whether the carrying amount is recoverable. Any
amounts deemed unrecoverable are charged to amortization expense on the
consolidated statement of income and comprehensive income.
OTHER DEFERRED EXPENSES: The annuity operations currently offers enhanced
crediting rates or bonus payments to contract holders on certain of its
products. Such amounts are deferred and amortized over the life of the
contract using the same methodology and assumptions used to amortize DAC.
The Company previously deferred these expenses as part of DAC and reported
the amortization of such amounts as part of DAC amortization. Upon
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"), the Company reclassified $155,695,000
of these expenses from DAC to other deferred expenses, which is reported on
the consolidated balance sheet. The prior period consolidated balance sheet
and consolidated statements of income and comprehensive income presentation
has been reclassified to conform to the new presentation. See Recently
Issued Accounting Standards below.
The asset management operations defer distribution costs that are directly
related to the sale of mutual funds that have a 12b-1 distribution plan
and/or contingent deferred sales charge feature (collectively, "Distribution
Fee Revenue"). The Company amortizes these deferred distribution costs on a
straight-line basis, adjusted for redemptions, over a period ranging from
one year to eight years depending on share class. Amortization of these
deferred distribution costs is increased if at any reporting period the
value of the deferred amount exceeds the projected Distribution Fee Revenue.
The projected Distribution Fee Revenue is impacted by estimated future
withdrawal rates and the rates of market return. Management uses historical
activity to estimate future withdrawal rates and average annual performance
of the equity markets to estimate the rates of market return.
The Company reviews the carrying value of other deferred expenses on at
least an annual basis. Management considers estimated future gross profit
margins as well as expected mortality, interest earned, credited rates,
persistency, withdrawal rates, rates of market return and expenses in
determining whether the carrying amount is recoverable. Any amounts deemed
unrecoverable are charged to expense.
VARIABLE ANNUITY ASSETS AND LIABILITIES RELATED TO SEPARATE ACCOUNTS: The
assets and liabilities resulting from the receipt of variable annuity
deposits are segregated in separate accounts. The Company receives
administrative fees for managing the funds and other fees for assuming
mortality and certain expense risks. Such fees are included in variable
annuity policy fees in the consolidated statement of income and
comprehensive income.
GOODWILL: Goodwill amounted to $14,038,000 (net of accumulated amortization
of $18,838,000) at December 31, 2004 and 2003. In accordance with Statement
of Financial Accounting Standard No. 142, "Goodwill and Other Intangible
Assets" ("SFAS 142"), the Company assesses goodwill for impairment on an
annual basis, or more frequently if circumstances indicate that a possible
impairment has occurred. The assessment of impairment involves a two-step
process whereby an initial assessment for potential impairment is performed,
followed by a measurement of the amount of the impairment, if any. The
Company has evaluated goodwill for impairment as of December 31, 2004 and
2003, and has determined that no impairment provision is necessary.
RESERVES FOR FIXED ANNUITY CONTRACTS, FIXED ACCOUNTS OF VARIABLE ANNUITY
CONTRACTS, UNIVERSAL LIFE INSURANCE CONTRACTS AND GICS: Reserves for fixed
annuity, Fixed Options, universal life insurance and GIC contracts are
accounted for in accordance with Statement of Financial Accounting Standards
No. 97,
F-37
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
"Accounting and Reporting by Insurance Enterprises for Certain Long-Duration
Contracts and for Realized Gains and Losses from the Sale of Investments,"
and are recorded at accumulated value (deposits received, plus accrued
interest, less withdrawals and assessed fees). Under GAAP, deposits
collected on non-traditional life and annuity insurance products, such as
those sold by the Company, are not reflected as revenues in the Company's
consolidated statement of income and comprehensive income, as they are
recorded directly to contract holders' liabilities upon receipt.
RESERVES FOR GUARANTEED BENEFITS: Reserves for guaranteed minimum death
benefits ("GMDB"), earnings enhancement benefit and guaranteed minimum
income benefits are accounted for in accordance with SOP 03-1. See Recently
Issued Accounting Standards below.
FEE INCOME: Fee income includes variable annuity policy fees, asset
management fees, universal life insurance fees, commissions and surrender
charges. Variable annuity policy fees are generally based on the market
value of assets in the separate accounts supporting the variable annuity
contracts. Asset management fees include investment advisory fees and 12b-1
distribution fees and are based on the market value of assets managed in
mutual funds and certain variable annuity portfolios by SAAMCo. Universal
life insurance policy fees consist of mortality charges, up-front fees
earned on deposits received and administrative fees, net of reinsurance
premiums. Surrender charges are assessed on withdrawals occurring during the
surrender charge period. All fee income is recorded as income when earned
with net retained commissions are recognized as income on a trade date
basis.
INCOME TAXES: Prior to the 2004, the Company was included in a consolidated
federal income tax return with its Parent. Also, prior to 2004, SAAMCO, SFS
and SACS were included in a separate consolidated federal income tax return
with their parent, Saamsun Holdings Corporation. Beginning in 2004, all of
these companies are included in the consolidated federal income tax return
of their ultimate parent, AIG. Income taxes have been calculated as if each
entity files a separate return. Deferred income tax assets and liabilities
are recognized based on the difference between financial statement carrying
amounts and income tax basis of assets and liabilities using enacted income
tax rates and laws.
RECENTLY ISSUED ACCOUNTING STANDARDS: In July 2003, the American Institute
of Certified Public Accountants issued SOP 03-1. This statement was
effective as of January 1, 2004, and requires the Company to recognize a
liability for GMDB and certain living benefits related to its variable
annuity contracts, account for enhanced crediting rates or bonus payments to
contract holders and modifies certain disclosures and financial statement
presentations for these products. In addition, SOP 03-1 addresses the
presentation and reporting of separate accounts and the capitalization and
amortization of certain other expenses. The Company reported for the first
quarter of 2004 a one-time cumulative accounting charge upon adoption of
$62,589,000 ($96,291,000 pre-tax) to reflect the liability and the related
impact of DAC and reinsurance as of January 1, 2004.
3. INVESTMENTS
The amortized cost and estimated fair value of bonds, notes and redeemable
preferred stocks by major category follow:
<Table>
<Caption>
AMORTIZED ESTIMATED
COST FAIR VALUE
---------- ----------
(IN THOUSANDS)
At December 31, 2004:
U.S. government securities.................................. $ 28,443 $ 30,300
Mortgage-backed securities.................................. 926,274 956,567
Securities of public utilities.............................. 321,381 332,038
Corporate bonds and notes................................... 2,797,943 2,902,829
Redeemable preferred stocks................................. 20,140 21,550
Other debt securities....................................... 913,687 917,743
---------- ----------
Total..................................................... $5,007,868 $5,161,027
========== ==========
</Table>
F-38
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. INVESTMENTS (Continued)
<Table>
<Caption>
AMORTIZED ESTIMATED
COST FAIR VALUE
---------- ----------
(IN THOUSANDS)
At December 31, 2003:
U.S. government securities.................................. $ 22,393 $ 24,292
Mortgage-backed securities.................................. 1,148,452 1,191,817
Securities of public utilities.............................. 352,998 365,150
Corporate bonds and notes................................... 2,590,254 2,697,142
Redeemable preferred stocks................................. 21,515 22,175
Other debt securities....................................... 1,215,571 1,205,224
---------- ----------
Total..................................................... $5,351,183 $5,505,800
========== ==========
</Table>
At December 31, 2004, bonds, notes and redeemable preferred stocks included
$386,426,000 that were not rated investment grade. These
non-investment-grade securities are comprised of bonds spanning 10
industries with 19%, 16%, 16% and 10% concentrated in telecommunications,
utilities, financial institutions and noncyclical consumer products
industries, respectively. No other industry concentration constituted more
than 10% of these assets.
At December 31, 2004, mortgage loans were collateralized by properties
located in 30 states, with loans totaling approximately 27%, 11% and 10% of
the aggregate carrying value of the portfolio secured by properties located
in California, Michigan and Massachusetts, respectively. No more than 10% of
the portfolio was secured by properties in any other single state.
At December 31, 2004, the carrying value, which approximates its estimated
fair value, of all investments in default as to the payment of principal or
interest totaled $40,051,000 of bonds.
As a component of its asset and liability management strategy, the Company
utilizes interest rate swap agreements to match assets more closely to
liabilities. Interest rate swap agreements exchange interest rate payments
of differing character (for example, variable-rate payments exchanged for
fixed-rate payments) with a counterparty, based on an underlying principal
balance (notional principal) to hedge against interest rate changes.
The Company typically utilizes swap agreements to create a hedge that
effectively converts floating-rate assets and liabilities to fixed-rate
instruments.
At December 31, 2004, $10,505,000 of bonds, at amortized cost, were on
deposit with regulatory authorities in accordance with statutory
requirements.
At December 31, 2004, no investments in any one entity or its affiliates
exceeded 10% of the Company's shareholder's equity.
The amortized cost and estimated fair value of bonds, notes and redeemable
preferred stocks by contractual maturity, as of December 31, 2004, follow:
<Table>
<Caption>
AMORTIZED ESTIMATED
COST FAIR VALUE
---------- ----------
(IN THOUSANDS)
Due in one year or less..................................... $ 278,939 $ 281,954
Due after one year through five years....................... 2,076,145 2,138,574
Due after five years through ten years...................... 1,299,345 1,339,499
Due after ten years......................................... 427,165 444,433
Mortgage-backed securities.................................. 926,274 956,567
---------- ----------
Total..................................................... $5,007,868 $5,161,027
========== ==========
</Table>
Actual maturities of bonds, notes and redeemable preferred stocks may differ
from those shown above due to prepayments and redemptions.
F-39
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. INVESTMENTS (Continued)
Gross unrealized gains and losses on bonds, notes and redeemable preferred
stocks by major category follow:
<Table>
<Caption>
GROSS GROSS
UNREALIZED UNREALIZED
GAINS LOSSES
---------- ----------
(IN THOUSANDS)
At December 31, 2004:
U.S. government securities.................................. $ 1,857 $ --
Mortgage-backed securities.................................. 32,678 (2,385)
Securities of public utilities.............................. 11,418 (761)
Corporate bonds and notes................................... 118,069 (13,183)
Redeemable preferred stocks................................. 1,410 --
Other debt securities....................................... 14,871 (10,815)
-------- --------
Total..................................................... $180,303 $(27,144)
======== ========
</Table>
<Table>
<Caption>
GROSS GROSS
UNREALIZED UNREALIZED
GAINS LOSSES
---------- ----------
(IN THOUSANDS)
At December 31, 2003:
U.S. government securities.................................. $ 1,898 $ --
Mortgage-backed securities.................................. 46,346 (2,980)
Securities of public utilities.............................. 13,467 (1,315)
Corporate bonds and notes................................... 127,996 (21,108)
Redeemable preferred stocks................................. 660 --
Other debt securities....................................... 24,366 (34,713)
-------- --------
Total..................................................... $214,733 $(60,116)
======== ========
</Table>
Gross unrealized gains on equity securities aggregated $26,000 at December
31, 2004 and $112,000 at December 31, 2003. There were no unrealized losses
on equity securities at December 31, 2004 and gross unrealized losses on
equity securities aggregated $20,000 at December 31, 2003.
The following tables summarize the Company's gross unrealized losses and
estimated fair values on investments, aggregated by investment category and
length of time that individual securities have been in a continuous
unrealized loss position at December 31, 2004 and 2003.
<Table>
<Caption>
LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL
----------------------------- ----------------------------- -------------------------------
FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED
VALUE LOSS ITEMS VALUE LOSS ITEMS VALUE LOSS ITEMS
-------- ---------- ----- -------- ---------- ----- ---------- ---------- -----
(DOLLARS IN THOUSANDS)
December 31, 2004
Mortgage-backed
securities............... $125,589 $ (1,282) 23 $ 40,275 $ (1,103) 9 $ 165,864 $ (2,385) 32
Securities of public
utilities................ 46,249 (761) 9 0 0 0 46,249 (761) 9
Corporate bonds and
notes.................... 487,923 (7,418) 86 87,194 (5,765) 15 575,117 (13,183) 101
Other debt securities...... 207,378 (4,062) 36 79,782 (6,753) 12 287,160 (10,815) 48
-------- -------- --- -------- -------- -- ---------- -------- ---
Total.................... $867,139 $(13,523) 154 $207,251 $(13,621) 36 $1,074,390 $(27,144) 190
======== ======== === ======== ======== == ========== ======== ===
</Table>
F-40
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. INVESTMENTS (Continued)
<Table>
<Caption>
LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL
----------------------------- ---------------------------- -----------------------------
FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED
VALUE LOSS ITEMS VALUE LOSS ITEMS VALUE LOSS ITEMS
-------- ---------- ----- ------- ---------- ----- -------- ---------- -----
December 31, 2003
Mortgage-backed securities..... $180,559 $ (2,882) 49 $13,080 $ (98) 6 $193,639 $ (2,980) 55
Securities of public
utilities.................... 67,626 (1,315) 8 -- -- -- 67,626 (1,315) 8
Corporate bonds and notes...... 276,373 (17,086) 54 30,383 (4,022) 5 306,756 (21,108) 59
Other debt securities.......... 302,230 (33,951) 54 41,523 (762) 5 343,753 (34,713) 59
-------- -------- --- ------- ------- -- -------- -------- ---
Total........................ $826,788 $(55,234) 165 $84,986 $(4,882) 16 $911,774 $(60,116) 181
======== ======== === ======= ======= == ======== ======== ===
</Table>
Realized investment gains and losses on sales of investments are as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Bonds, Notes and Redeemable Preferred Stocks:
Realized gains............................................ $ 12,240 $ 30,896 $ 25,013
Realized losses........................................... (12,623) (11,818) (32,865)
Common Stocks:
Realized gains............................................ 5 561 --
Realized losses........................................... (247) (117) (169)
</Table>
The sources and related amounts of investment income are as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Short-term investments...................................... $ 2,483 $ 1,363 $ 5,447
Bonds, notes and redeemable preferred stocks................ 293,258 321,493 305,480
Mortgage loans.............................................. 50,825 53,951 55,417
Partnerships................................................ 417 (478) 12,344
Policy loans................................................ 17,130 15,925 18,796
Real estate................................................. (202) (331) (276)
Other invested assets....................................... 2,149 13,308 (7,496)
Less: investment expenses................................... (2,466) (2,308) (2,357)
-------- -------- --------
Total investment income................................... $363,594 $402,923 $387,355
======== ======== ========
</Table>
Investment income was attributable to the following products:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Fixed annuity contracts..................................... $ 34,135 $ 37,762 $ 41,856
Variable annuity contracts.................................. 222,660 239,863 201,766
Guaranteed investment contracts............................. 13,191 20,660 28,056
Universal life insurance contracts.......................... 92,645 100,019 105,878
Asset management............................................ 963 4,619 9,799
-------- -------- --------
Total..................................................... $363,594 $402,923 $387,355
======== ======== ========
</Table>
4. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following estimated fair value disclosures are limited to reasonable
estimates of the fair value of only the Company's financial instruments. The
disclosures do not address the value of the Company's recognized and
unrecognized non-financial
F-41
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
4. FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)
assets (including its real estate investments and other invested assets
except for partnerships) and liabilities or the value of anticipated future
business. The Company does not plan to sell most of its assets or settle
most of its liabilities at these estimated fair values.
The fair value of a financial instrument is the amount at which the
instrument could be exchanged in a current transaction between willing
parties, other than in a forced or liquidation sale. Selling expenses and
potential taxes are not included. The estimated fair value amounts were
determined using available market information, current pricing information
and various valuation methodologies. If quoted market prices were not
readily available for a financial instrument, management determined an
estimated fair value. Accordingly, the estimates may not be indicative of
the amounts the financial instruments could be exchanged for in a current or
future market transaction.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to
estimate that value:
CASH AND SHORT-TERM INSTRUMENTS: Carrying value is considered to be a
reasonable estimate of fair value.
BONDS, NOTES AND REDEEMABLE PREFERRED STOCKS: Fair value is based
principally on independent pricing services, broker quotes and other
independent information. For securities that do not have readily
determinable market prices, the fair value is estimated with internally
prepared valuations (including those based on estimates of future
profitability). Otherwise, the most recent purchases and sales of similar
unquoted securities, independent broker quotes or comparison to similar
securities with quoted prices when possible is used to estimate the fair
value of those securities.
MORTGAGE LOANS: Fair values are primarily determined by discounting future
cash flows to the present at current market rates, using expected prepayment
rates.
POLICY LOANS: Carrying value is considered a reasonable estimate of fair
value.
MUTUAL FUNDS: Fair value is considered to be the market value of the
underlying securities.
COMMON STOCKS: Fair value is based principally on independent pricing
services, broker quotes and other independent information.
PARTNERSHIPS: Fair value of partnerships that invest in debt and equity
securities is based upon the fair value of the net assets of the
partnerships as determined by the general partners.
VARIABLE ANNUITY ASSETS HELD IN SEPARATE ACCOUNTS: Variable annuity assets
are carried at the market value of the underlying securities.
RESERVES FOR FIXED ANNUITY AND FIXED ACCOUNTS OF VARIABLE ANNUITY
CONTRACTS: Deferred annuity contracts are assigned a fair value equal to
current net surrender value. Annuitized contracts are valued based on the
present value of future cash flows at current pricing rates.
RESERVES FOR GUARANTEED INVESTMENT CONTRACTS: Fair value is based on the
present value of future cash flows at current pricing rates.
SECURITIES LENDING COLLATERAL/PAYABLE: Carrying value is considered to be a
reasonable estimate of fair value.
VARIABLE ANNUITY LIABILITIES RELATED TO SEPARATE ACCOUNTS: Variable annuity
liabilities are carried at the market value of the underlying securities of
the variable annuity assets held in separate accounts.
SUBORDINATED NOTES TO/FROM AFFILIATES: Fair value is estimated based on the
quoted market prices for similar issues.
F-42
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
4. FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)
The estimated fair values of the Company's financial instruments at December
31, 2004 and 2003 compared with their respective carrying values, are as
follows:
<Table>
<Caption>
CARRYING FAIR
VALUE VALUE
----------- -----------
(IN THOUSANDS)
December 31, 2004:
Assets:
Cash and short-term investments........................... $ 201,117 $ 201,117
Bonds, notes and redeemable preferred stocks.............. 5,161,027 5,161,027
Mortgage loans............................................ 624,179 657,828
Policy loans.............................................. 185,958 185,958
Mutual funds.............................................. 6,131 6,131
Common stocks............................................. 4,902 4,902
Partnerships.............................................. 1,084 1,084
Securities lending collateral............................. 883,792 883,792
Put options hedging guaranteed benefits................... 37,705 37,705
Variable annuity assets held in separate accounts......... 22,612,451 22,612,451
Liabilities:
Reserves for fixed annuity and fixed accounts of variable
annuity contracts....................................... $ 3,948,158 $ 3,943,265
Reserves for guaranteed investment contracts.............. 215,331 219,230
Securities lending payable................................ 883,792 883,792
Variable annuity liabilities related to separate
accounts................................................ 22,612,451 22,612,451
</Table>
<Table>
<Caption>
CARRYING FAIR
VALUE VALUE
----------- -----------
(IN THOUSANDS)
December 31, 2003:
Assets:
Cash and short-term investments........................... $ 133,105 $ 133,105
Bonds, notes and redeemable preferred stocks.............. 5,505,800 5,505,800
Mortgage loans............................................ 716,846 774,758
Policy loans.............................................. 200,232 200,232
Mutual funds.............................................. 21,159 21,159
Common stocks............................................. 727 727
Partnerships.............................................. 1,312 1,685
Securities lending collateral............................. 514,145 514,145
Put options hedging guaranteed benefits................... 9,141 9,141
Variable annuity assets held in separate accounts......... 19,178,796 19,178,796
Liabilities:
Reserves for fixed annuity and fixed accounts of variable
annuity contracts....................................... $ 4,274,329 $ 4,225,329
Reserves for guaranteed investment contracts.............. 218,032 223,553
Securities lending payable................................ 514,145 514,145
Variable annuity liabilities related to separate
accounts................................................ 19,178,796 19,178,796
Subordinated note payable to affiliate.................... 40,960 40,960
</Table>
F-43
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
5. DEFERRED ACQUISITION COSTS
The following table summarizes the activity in deferred acquisition costs:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
-------------------------
2004 2003
----------- -----------
(IN THOUSANDS)
Balance at beginning of year................................ $1,268,621 $1,224,101
Acquisition costs deferred.................................. 246,033 212,250
Effect of net unrealized gains (losses) on securities....... 267 (30,600)
Amortization charged to income.............................. (126,142) (137,130)
Cumulative effect of SOP 03-1............................... (39,690) --
---------- ----------
Balance at end of year...................................... $1,349,089 $1,268,621
========== ==========
</Table>
6. OTHER DEFERRED EXPENSES
The annuity operations defer enhanced crediting rates or bonus payments to
contract holders on certain of its products ("Bonus Payments"). The asset
management operations defer distribution costs that are directly related to
the sale of mutual funds that have a 12b-1 distribution plan and/or
contingent deferred sales charge feature. The following table summarizes the
activity in these deferred expenses:
<Table>
<Caption>
BONUS DISTRIBUTION
PAYMENTS COSTS TOTAL
-------- ------------ --------
(IN THOUSANDS)
Year Ended December 31, 2004
Balance at beginning of year................................ $155,695 $ 81,012 $236,707
Expenses deferred........................................... 36,732 26,174 62,906
Effect of net unrealized gains (losses) on securities....... 33 -- 33
Amortization charged in income.............................. (10,357) (31,508) (41,865)
-------- -------- --------
Balance at end of year...................................... $182,103 $ 75,678 $257,781
======== ======== ========
Year Ended December 31, 2003
Balance at beginning of year................................ $140,647 $ 72,054 $212,701
Expenses deferred........................................... 38,224 31,934 70,158
Effect of net unrealized gains (losses) on securities....... (3,400) -- (3,400)
Amortization charged in income.............................. (19,776) (22,976) (42,752)
-------- -------- --------
Balance at end of year...................................... $155,695 $ 81,012 $236,707
======== ======== ========
</Table>
7. GUARANTEED BENEFITS
The Company issues variable annuity contracts for which the investment risk
is generally borne by the contract holder, except with respect to amounts
invested in the Fixed Options. For many of the Company's variable annuity
contracts, the Company offers contractual guarantees in the event of death,
at specified dates during the accumulation period, upon certain withdrawals
or at annuitization. Such benefits are referred to as GMDB, GMAV, GMWB and
guaranteed minimum income benefits ("GMIB"), respectively. The Company also
issues certain variable annuity products that offer an optional earnings
enhancement benefit ("EEB") feature that provides an additional death
benefit amount equal to a fixed percentage of earnings in the contract,
subject to certain maximums.
The assets supporting the variable portion of variable annuity contracts are
carried at fair value and reported as summary total "variable annuity assets
held in separate accounts" with an equivalent summary total reported for
liabilities. Amounts assessed against the contract holders for mortality,
administrative, other services and certain features are included in variable
annuity policy fees, net of reinsurance, in the consolidated statement of
income and comprehensive income. Changes in liabilities for minimum
guarantees are included in guaranteed benefits, net of reinsurance, in the
consolidated statement of income and comprehensive income. Separate account
net investment income, net investment gains and losses and the related
liability charges are offset within the same line item in the consolidated
statement of income and comprehensive income.
F-44
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. GUARANTEED BENEFITS (Continued)
The Company offers GMDB options that guarantee for virtually all contract
holders, that upon death, the contract holder's beneficiary will receive the
greater of (1) the contract holder's account value, or (2) a guaranteed
minimum death benefit that varies by product and election by policy owner.
The GMDB liability is determined each period end by estimating the expected
value of death benefits in excess of the projected account balance and
recognizing the excess ratably over the accumulation period based on total
expected assessments. The Company regularly evaluates estimates used and
adjusts the additional liability balance, with a related charge or credit to
guaranteed benefits, net of reinsurance recoveries, if actual experience or
other evidence suggests that earlier assumptions should be revised.
EEB is a feature the Company offers on certain variable annuity products.
For contract holders who elect the feature, the EEB provides an additional
death benefit amount equal to a fixed percentage of earnings in the
contract, subject to certain maximums. The Company bears the risk that
account values following favorable performance of the financial markets will
result in greater EEB death claims and that the fees collected under the
contract are insufficient to cover the costs of the benefit to be provided.
If available and elected by the contract holder, GMIB provides a minimum
fixed annuity payment guarantee after a seven, nine or ten-year waiting
period. As there is a waiting period to annuitize using the GMIB, there are
no policies eligible to receive this benefit at December 31, 2004. The GMIB
liability is determined each period end by estimating the expected value of
the annuitization benefits in excess of the projected account balance at the
date of annuitization and recognizing the excess ratably over the
accumulation period based on total expected assessments. The Company
regularly evaluates estimates used and adjusts the additional liability
balance, with a related charge or credit to guaranteed benefits, net of
reinsurance recoveries, if actual experience or other evidence suggests that
earlier assumptions should be revised.
GMAV is a feature offered on certain variable annuity products. If available
and elected by the contract holder at the time of contract issuance, GMAV
guarantees that the account value under the contract will at least equal the
amount of deposits invested during the first ninety days, adjusted for any
subsequent withdrawals, at the end of a ten-year waiting period. The Company
purchases put options on the S&P 500 index to partially offset this risk.
GMAVs are considered to be derivatives under FAS 133, and are recognized at
fair value in the consolidated balance sheet and through investment income
in the consolidated statement of income and comprehensive income.
GMWB is a feature offered on certain variable annuity products. If available
and elected by the contract holder at the time of contract issuance, this
feature provides a guaranteed annual withdrawal stream, regardless of market
performance, equal to deposits invested during the first ninety days
adjusted for any subsequent withdrawals ("Eligible Premium"). These
guaranteed annual withdrawals of up to 10% of Eligible Premium are available
after either a three-year or a five-year waiting period as elected by the
contract holder at time of contract issuance, without reducing the future
amounts guaranteed. If no withdrawals have been made during the waiting
period of three or five years, the contract holder will realize an
additional 10% or 20%, respectively, of Eligible Premium after all other
amounts guaranteed under this benefit have been paid. GMWBs are considered
to be derivatives under FAS 133 and are recognized at fair value in the
consolidated balance sheet and through investment income in the consolidated
statement of income and comprehensive income.
F-45
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. GUARANTEED BENEFITS (Continued)
Details concerning the Company's guaranteed benefit exposures as of December
31, 2004 are as follows:
<Table>
<Caption>
HIGHEST SPECIFIED
RETURN OF NET ANNIVERSARY ACCOUNT
DEPOSITS PLUS A VALUE MINUS
MINIMUM WITHDRAWALS POST
RETURN ANNIVERSARY
--------------- -------------------
(DOLLARS IN MILLIONS)
In the event of death (GMDB and EEB):
Account value............................................. $ 12,883 $12,890
Net amount at risk(a)..................................... $ 933 $ 1,137
Average attained age of contract holders.................. 67 64
Range of guaranteed minimum return rates.................. 0%-5% 0%
At annuitization (GMIB):
Account value............................................. $ 6,942
Net amount at risk(b)..................................... $ 3
Weighted average period remaining until earliest 3.8 Years
annuitization...........................................
Range of guaranteed minimum return rates.................. 0%-6.5%
Accumulation at specified date (GMAV):
Account value............................................. $ 1,533
Net amount at risk(c)..................................... $ --
Weighted average period remaining until guaranteed 9.0 Years
payment.................................................
Annual withdrawals at specified date (GMWB):
Account value............................................. $ 294
Net amount at risk(d)..................................... $ --
Weighted average period remaining until expected payout... 13.9 Years
</Table>
-------------------
(a) Net amount at risk represents the guaranteed benefit exposure in excess
of the current account value, net of reinsurance, if all contract
holders died at the same balance sheet date. The net amount at risk does
not take into account the effect of caps and deductibles from the
various reinsurance treaties.
(b) Net amount at risk represents the present value of the expected
annuitization payments at the expected annuitization dates in excess of
the present value of the expected account value at the expected
annuitization dates, net of reinsurance.
(c) Net amount at risk represents the guaranteed benefit exposure in excess
of the current account value, if all contract holders reached the
specified date at the same balance sheet date.
(d) Net amount at risk represents the guaranteed benefit exposure in excess
of the current account value if all contract holders exercise the
maximum withdrawal benefits at the same balance sheet date. If no
withdrawals have been made during the waiting period of 3 or 5 years,
the contract holder will realize an additional 10% or 20% of Eligible
Premium, respectively, after all other amounts guaranteed under this
benefit have been paid. The additional 10% or 20% enhancement increases
the net amount at risk by $26.3 million and is payable no sooner than 13
or 15 years from contract issuance for the 3 or 5 year waiting periods,
respectively.
The following summarizes the reserve for guaranteed benefits, net of
reinsurance, on variable contracts reflected in the general account:
<Table>
<Caption>
(IN THOUSANDS)
Balance at January 1, 2004 before reinsurance(e)............ $ 92,873
Guaranteed benefits incurred................................ 61,472
Guaranteed benefits paid.................................... (49,947)
--------
Balance at December 31, 2004 before reinsurance............. 104,398
Less reinsurance.......................................... (27,449)
--------
Balance at December 31, 2004, net of reinsurance............ $ 76,949
========
</Table>
(e) Includes amounts from the one-time cumulative accounting change
resulting from the adoption of SOP 03-1.
F-46
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. GUARANTEED BENEFITS (Continued)
The following assumptions and methodology were used to determine the reserve
for guaranteed benefits at December 31, 2004:
- Data used was 5,000 stochastically generated investment performance
scenarios.
- Mean investment performance assumption was 10%.
- Volatility assumption was 16%.
- Mortality was assumed to be 64% of the 75-80 ALB table.
- Lapse rates vary by contract type and duration and range from 0% to
40%.
- The discount rate was approximately 8%.
8. REINSURANCE
Reinsurance contracts do not relieve the Company from its obligations to
contract holders. The Company could become liable for all obligations of the
reinsured policies if the reinsurers were to become unable to meet the
obligations assumed under the respective reinsurance agreements. The Company
monitors its credit exposure with respect to these agreements. However, due
to the high credit ratings of the reinsurers, such risks are considered to
be minimal. The Company has no reinsurance recoverable or related
concentration of credit risk greater than 10% of shareholder's equity.
Variable policy fees are net of reinsurance premiums of $28,604,000,
$30,795,000 and $22,500,000 in 2004, 2003 and 2002, respectively. Universal
life insurance fees are net of reinsurance premiums of $34,311,000,
$33,710,000 and $34,098,000 in 2004, 2003 and 2002, respectively.
The Company has a reinsurance treaty under which the Company retains no more
than $100,000 of risk on any one insured life in order to limit the exposure
to loss on any single insured. Reinsurance recoveries recognized as a
reduction of claims on universal life insurance contracts amounted to
$34,163,000, $34,036,000 and $29,171,000 in 2004, 2003 and 2002,
respectively. Guaranteed benefits were reduced by reinsurance recoveries of
$2,716,000, $8,042,000 and $8,362,000 in 2004, 2003 and 2002, respectively.
9. COMMITMENTS AND CONTINGENT LIABILITIES
The Company has six agreements outstanding in which it has provided
liquidity support for certain short-term securities of municipalities and
non-profit organizations by agreeing to purchase such securities in the
event there is no other buyer in the short-term marketplace. In return the
Company receives a fee. In addition, the Company guarantees the payment of
these securities upon redemption. The maximum liability under these
guarantees at December 31, 2004 is $195,442,000. These commitments have
contractual maturity dates in 2005. Related to each of these agreements are
participation agreements with the Parent under which the Parent will share
in $62,590,000 of these liabilities in exchange for a proportionate
percentage of the fees received under these agreements. The Internal Revenue
Service has completed its examinations into the transactions underlying
these commitments, including the Company's role in the transactions. The
examination did not result in a material loss to the Company.
At December 31, 2004, the Company has commitments to purchase a total of
approximately $10,000,000 of asset- backed securities in the ordinary course
of business. The expiration dates of these commitments are as follows:
$2,000,000 in 2005 and $8,000,000 in 2007.
Various federal, state and other regulatory agencies are reviewing certain
transactions and practices of the Company and its subsidiaries in connection
with industry-wide and other inquiries. In the opinion of the Company's
management, based on the current status of these inquiries, it is not likely
that any of these inquiries will have a material adverse effect on the
Company's consolidated financial position, results of operations or cash
flows of the Company.
Various lawsuits against the Company and its subsidiaries have arisen in the
ordinary course of business. Contingent liabilities arising from litigation,
income taxes and regulatory and other matters are not considered material in
relation to the consolidated financial position, results of operations or
cash flows of the Company.
F-47
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
9. COMMITMENTS AND CONTINGENT LIABILITIES (Continued)
On April 5, 2004, a purported class action captioned Nitika Mehta, as
Trustee of the N.D. Mehta Living Trust vs. AIG SunAmerica Life Assurance
Company, Case 04L0199, was filed in the Circuit Court, Twentieth Judicial
District in St. Clair County, Illinois. The lawsuit alleges certain
improprieties in conjunction with alleged market timing activities. The
probability of any particular outcome cannot be reasonably estimated at this
time. The Company cannot estimate a range because the litigation has not
progressed beyond the preliminary stage.
10. SHAREHOLDER'S EQUITY
The Company is authorized to issue 4,000 shares of its $1,000 par value
Common Stock. At December 31, 2004 and 2003, 3,511 shares were outstanding.
Changes in shareholder's equity are as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Additional Paid-in Capital:
Beginning balances........................................ $709,246 $709,246 $509,246
Capital contributions by Parent........................... 49,100 -- 200,000
-------- -------- --------
Ending balances........................................... $758,346 $709,246 $709,246
======== ======== ========
Retained Earnings:
Beginning balances........................................ $828,423 $730,321 $669,103
Net income................................................ 142,502 93,530 31,689
Dividends paid to Parent.................................. (2,500) (12,187) (10,000)
Adjustment for tax benefit of distributed subsidiary...... 287 16,759 39,529
Tax effect on a distribution of investment................ (49,100) -- --
-------- -------- --------
Ending balances........................................... $919,612 $828,423 $730,321
======== ======== ========
Accumulated Other Comprehensive Income (Loss):
Beginning balances........................................ $ 72,610 $ 16,504 $(29,272)
Change in net unrealized gains (losses) on debt securities
available for sale...................................... (1,459) 118,725 98,718
Change in net unrealized gains (losses) on equity
securities available for sale........................... (65) 1,594 (1,075)
Change in net unrealized gains on foreign currency........ 1,170 -- --
Change in adjustment to deferred acquisition costs and
other deferred expenses................................. 300 (34,000) (25,000)
Net change related to cash flow hedges.................... -- -- (2,218)
Tax effects of net changes................................ 19 (30,213) (24,649)
-------- -------- --------
Ending balances........................................... $ 72,575 $ 72,610 $ 16,504
======== ======== ========
</Table>
Gross unrealized gains (losses) on fixed maturity and equity securities
included in accumulated other comprehensive income are as follows:
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Gross unrealized gains...................................... $180,329 $214,845
Gross unrealized losses..................................... (27,144) (60,136)
Unrealized gain on foreign currency......................... 1,170 --
Adjustment to DAC and other deferred expenses............... (42,700) (43,000)
Deferred income taxes....................................... (39,080) (39,099)
-------- --------
Accumulated other comprehensive income...................... $ 72,575 $ 72,610
======== ========
</Table>
On October 30, 2002, the Company received a capital contribution of
$200,000,000 in cash from the Parent.
F-48
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. SHAREHOLDER'S EQUITY (Continued)
Dividends that the Company may pay to its shareholder in any year without
prior approval of the Arizona Department of Insurance are limited by
statute. The maximum amount of dividends which can be paid to shareholders
of insurance companies domiciled in the state of Arizona without obtaining
the prior approval of the Insurance Commissioner is limited to the lesser of
either 10% of the preceding year's statutory surplus or the preceding year's
statutory net gain from operations if, after paying the dividend, the
Company's capital and surplus would be adequate in the opinion of the
Arizona Department of Insurance. Accordingly, the maximum amount of
dividends that can be paid to stockholder in the year 2005 without obtaining
prior approval is $83,649,000. Dividends of $2,500,000 were paid in 2004.
Prior to the capital contribution of SAAMCo to the Company, SAAMCo paid
dividends to its parent, SunAmerica Life Insurance Company, of $12,187,000
and $10,000,000 in 2003 and 2002, respectively.
Under statutory accounting principles utilized in filings with insurance
regulatory authorities, the Company's net income totaled $99,288,000 for the
year ended December 31, 2004, net income of $89,071,000 and net loss of
$180,737,000 for the years ended December 31, 2003 and 2002, respectively.
The Company's statutory capital and surplus totaled $840,001,000 at December
31, 2004 and $602,348,000 at December 31, 2003.
11. INCOME TAXES
The components of the provisions for income taxes on pretax income consist
of the following:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
-------------------------------
2004 2003 2002
-------- -------- ---------
(IN THOUSANDS)
Current expense (benefit)................................... $(42,927) $127,655 $(105,369)
Deferred expense (benefit).................................. 49,337 (97,408) 105,529
-------- -------- ---------
Total income tax expense.................................... $ 6,410 $ 30,247 $ 160
======== ======== =========
</Table>
Income taxes computed at the United States federal income tax rate of 35%
and income tax expenses reflected in statement of income and comprehensive
income provided differ as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Amount computed at statutory rate........................... $ 74,025 $ 43,322 $ 11,147
Increases (decreases) resulting from:
State income taxes, net of federal tax benefit............ 4,020 2,273 (567)
Dividends received deduction.............................. (19,058) (15,920) (10,117)
Tax credits............................................... (4,000) -- --
Adjustment to prior year tax liability(a)................. (39,730) -- --
Other, net................................................ (8,847) 572 (303)
-------- -------- --------
Total income tax expense.................................. $ 6,410 $ 30,247 $ 160
======== ======== ========
</Table>
------------------
(a) In 2004, the Company revised its estimate of tax contingency amount for
prior year based on additional information that became available.
Under prior federal income tax law, one-half of the excess of a life
insurance company's income from operations over its taxable investment
income was not taxed, but was set aside in a special tax account designated
as "policyholders' surplus". At December 31, 2004, the Company had
approximately $14,300,000 of policyholders' surplus on which no deferred tax
liability has been recognized, as federal income taxes are not required
unless this amount is distributed as a dividend or recognized under other
specified conditions. The American Jobs Creation Act of 2004 modified
federal income tax law to allow life insurance companies to distribute
amounts from policyholders' surplus during 2005 and 2006 without incurring
federal income tax on the distributions. The Company eliminated its
policyholders' surplus balance in January 2005.
At December 31, 2004, the Company had net operating carryforwards, capital
loss carryforwards and tax credit carryforwards for Federal income tax
purposes of $15,515,000, $63,774,000 and $44,604,000, respectively, arising
from
F-49
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
11. INCOME TAXES (Continued)
affordable housing investments no longer owned by SAAMCo. Such carryforwards
expire in 2018, 2006 to 2008 and 2018, respectively.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax reporting purposes.
The significant components of the liability for deferred income taxes are as
follows:
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Deferred Tax Liabilities:
Deferred acquisition costs and other deferred expenses...... $ 432,868 $ 473,387
State income taxes.......................................... 10,283 5,744
Other liabilities........................................... 15,629 350
Net unrealized gains on debt and equity securities available
for sale.................................................. 39,080 39,098
--------- ---------
Total deferred tax liabilities.............................. 497,860 518,579
--------- ---------
Deferred Tax Assets:
Investments................................................. (28,915) (25,213)
Contract holder reserves.................................... (122,691) (158,112)
Guaranty fund assessments................................... (3,402) (3,408)
Deferred income............................................. (5,604) (3,801)
Other assets................................................ (1,068) (7,446)
Net operating loss carryforward............................. (5,430) --
Capital loss carryforward................................... (22,321) (20,565)
Low income housing credit carryforward...................... (44,604) (36,600)
Partnership income/loss..................................... (6,293) (20,878)
--------- ---------
Total deferred tax assets................................... (240,328) (276,023)
--------- ---------
Deferred income taxes....................................... $ 257,532 $ 242,556
========= =========
</Table>
The Company has concluded that the deferred tax asset will be fully realized
and no valuation allowance is necessary.
12. RELATED-PARTY MATTERS
As of December 31, 2004, subordinated notes payable to affiliates were paid
off except for accrued interest totaling $460,000 which is included in other
liabilities on the consolidated balance sheet.
On February 15, 2004, the Company entered into a short-term financing
arrangement with the Parent whereby the Company has the right to borrow up
to $500,000,000 from the Parent and vice versa. Any advances made under this
arrangement must be repaid within 30 days. There were no balances
outstanding under this agreement at December 31, 2004.
On February 15, 2004, the Company entered into a short-term financing
arrangement with its affiliate, First SunAmerica Life Insurance Company
("FSA"), whereby the Company has the right to borrow up to $15,000,000 from
FSA and vice versa. Any advances made under this arrangement must be repaid
within 30 days. There were no balances outstanding under this agreement at
December 31, 2004.
On December 19, 2001, the Company entered into a short-term financing
arrangement with AIGRS whereby AIGRS has the right to borrow up to
$500,000,000. Any advances made under this arrangement must be repaid within
30 days. There were no balances outstanding under this agreement at December
31, 2004.
On December 19, 2001, the Company entered into a short-term financing
arrangement with SunAmerica Investments, Inc. ("SAII"), whereby SAII has the
right to borrow up to $500,000,000 from the Company. Any advances made under
this agreement must be repaid within 30 days. There were no balances
outstanding under this agreement at December 31, 2004.
F-50
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
12. RELATED-PARTY MATTERS (Continued)
On September 26, 2001, the Company entered into a short-term financing
arrangement with AIGRS. Under the terms of this agreement, the Company has
immediate access of up to $500,000,000. Any advances made under this
arrangement must be repaid within 30 days. There were no balances
outstanding under this agreement at December 31, 2004.
On September 26, 2001, the Company entered into a short-term financing
arrangement with SAII, whereby the Company has the right to borrow up to
$500,000,000. Any advances made under this agreement must be repaid within
30 days. At December 31, 2004 and 2003, the Company owed $0 and $14,000,000,
respectively, under this agreement, which was included in due to affiliates.
On October 31, 2003, the Company became a party to an existing credit
agreement under which the Company agreed to make loans to AIG in an
aggregate amount of up to $60,000,000. This commitment expires on October
28, 2005. There were no balances outstanding under this agreement at
December 31, 2004.
For the years ended December 31, 2004, 2003 and 2002, the Company paid
commissions totaling $60,674,000, $51,716,000 and $59,058,000, respectively,
to nine affiliated broker-dealers: Royal Alliance Associates, Inc.;
SunAmerica Securities, Inc.; Advantage Capital Corporation; FSC Services
Corporation; Sentra Securities Corporation; Spelman & Co., Inc.; VALIC
Financial Advisors; American General Equity Securities Corporation and
American General Securities Inc. These affiliated broker-dealers distribute
a significant portion of the Company's variable annuity products amounting
to approximately 23%, 24% and 31% of deposits for each of the respective
years. Of the Company's mutual fund sales, approximately 25%, 23% and 28%
were distributed by these affiliated broker-dealers for the years ended
December 31, 2004, 2003 and 2002, respectively.
On February 1, 2004, SAAMCo entered into an administrative services
agreement with FSA whereby SAAMCo will pay to FSA a fee based on a
percentage of all assets invested through FSA's variable annuity products in
exchange for services performed. SAAMCo is the investment advisor for
certain trusts that serve as investment options for FSA's variable annuity
products. Amounts incurred by the Company under this agreement totaled
$1,537,000 in 2004 and are included in the Company's consolidated statement
of income and comprehensive income. A fee of $150,000, $1,620,000 and
$1,777,000 was paid under a different agreement in 2004, 2003 and 2002,
respectively.
On October 1, 2001, SAAMCo entered into two administrative services
agreements with business trusts established by its affiliate, The Variable
Annuity Life Insurance Company ("VALIC"), whereby the trust pays to SAAMCo a
fee based on a percentage of average daily net assets invested through
VALIC's annuity products in exchange for services performed. Amounts earned
by SAAMCo under this agreement totaled $9,074,000, $7,587,000 and $7,614,000
in 2004, 2003 and 2002, respectively, and are net of certain administrative
costs incurred by VALIC of $2,593,000, $2,168,000 and $2,175,000,
respectively. The net amounts earned by SAAMCo are included in other fees in
the consolidated statement of income and comprehensive income.
The Company has a support agreement in effect between the Company and AIG
(the "Support Agreement"), pursuant to which AIG has agreed that AIG will
cause the Company to maintain a policyholder's surplus of not less than
$1,000,000 or such greater amount as shall be sufficient to enable the
Company to perform its obligations under any policy issued by it. The
Support Agreement also provides that if the Company needs funds not
otherwise available to it to make timely payment of its obligations under
policies issued by it, AIG will provide such funds at the request of the
Company. The Support Agreement is not a direct or indirect guarantee by AIG
to any person of any obligations of the Company. AIG may terminate the
Support Agreement with respect to outstanding obligations of the Company
only under circumstances where the Company attains, without the benefit of
the Support Agreement, a financial strength rating equivalent to that held
by the Company with the benefit of the Support Agreement. Contract holders
have the right to cause the Company to enforce its rights against AIG and,
if the Company fails or refuses to take timely action to enforce the Support
Agreement or if the Company defaults in any claim or payment owed to such
contract holder when due, have the right to enforce the Support Agreement
directly against AIG.
The Company's insurance policy obligations are guaranteed by American Home
Assurance Company ("American Home"), a subsidiary of AIG, and a member of an
AIG intercompany pool. This guarantee is unconditional and irrevocable, and
the Company's contract holders have the right to enforce the guarantee
directly against American Home. While American Home does not publish
financial statements, it does file statutory annual and quarterly reports
with the New York State Insurance Department, where such reports are
available to the public. AIG is a reporting company under the Securities
Exchange Act of
F-51
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
12. RELATED-PARTY MATTERS (Continued)
1934, and publishes annual reports on Form 10-K and quarterly reports on
Form 10-Q, which are available from the Securities and Exchange Commission.
The Company's ultimate parent, AIG, has announced that it has delayed filing
its Annual Report on Form 10-K for the year ended December 31, 2004 to allow
AIG's Board of Directors and new management adequate time to complete an
extensive review of AIG's books and records. The review includes issues
arising from pending investigations into non-traditional insurance products
and certain assumed reinsurance transactions by the Office of the Attorney
General for the State of New York and the SEC and from AIG's decision to
review the accounting treatment of certain additional items. Circumstances
affecting AIG can have an impact on the Company. For example, the recent
downgrades and ratings actions taken by the major rating agencies with
respect to AIG, resulted in corresponding downgrades and ratings actions
being taken with respect to the Company's ratings. Accordingly, we can give
no assurance that any further changes in circumstances for AIG will not
impact us. While the outcome of this investigation is not determinable at
this time, management believes that the ultimate outcome will not have a
material adverse effect on Company operating results, cash flows or
financial position.
Pursuant to a cost allocation agreement, the Company purchases
administrative, investment management, accounting, legal, marketing and data
processing services from its Parent, AIGRS and AIG. The allocation of such
costs for investment management services is based on the level of assets
under management. The allocation of costs for other services is based on
estimated levels of usage, transactions or time incurred in providing the
respective services. Amounts paid for such services totaled $148,554,000 for
the year ended December 31, 2004, $126,531,000 for the year ended December
31, 2003 and $119,981,000 for the year ended December 31, 2002. The
component of such costs that relate to the production or acquisition of new
business during these periods amounted to $60,183,000, $48,733,000 and
$49,004,000 respectively, and is deferred and amortized as part of deferred
acquisition costs. The other components of such costs are included in
general and administrative expenses in the consolidated statement of income
and comprehensive income.
The majority of the Company's invested assets are managed by an affiliate of
the Company. The investment management fees incurred were $3,712,000,
$3,838,000 and $3,408,000 for the years ended December 31, 2004, 2003 and
2002, respectively.
The Company incurred $1,113,000, $500,000 and $790,000 of management fees to
an affiliate of the Company to administer its securities lending program for
the years ended December 31, 2004, 2003 and 2002, respectively (see Note 2).
In December 2003, the Company purchased an affiliated bond with a carrying
value of $37,129,000. At December 31, 2004, the affiliated bond has a market
value of $34,630,000.
F-52
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. BUSINESS SEGMENTS
The Company conducts its business through two business segments, annuity
operations and asset management operations. Annuity operations consists of
the sale and administration of deposit-type insurance contracts, including
fixed and variable annuity contracts, universal life insurance contracts and
GICs. Asset management operations, which includes the managing, distributing
and administering a diversified family of mutual funds, managing certain
subaccounts offered within the Company's variable annuity products and
providing professional management of individual, corporate and pension plan
portfolios, is conducted by SAAMCo and its subsidiary and distributor, SACS,
and its subsidiary and servicing administrator, SFS. Following is selected
information pertaining to the Company's business segments.
<Table>
<Caption>
ASSET
ANNUITY MANAGEMENT
OPERATIONS OPERATIONS TOTAL
----------- ---------- -----------
(IN THOUSANDS)
Year Ended December 31, 2004:
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance.......... $ 369,141 $ -- $ 369,141
Asset management fees..................................... -- 89,569 89,569
Universal life insurance policy fees, net of
reinsurance............................................. 33,899 -- 33,899
Surrender charges......................................... 26,219 -- 26,219
Other fees................................................ -- 15,753 15,753
----------- -------- -----------
Total fee income............................................ 429,259 105,322 534,581
Investment income........................................... 362,631 963 363,594
Net realized investment gains (losses)...................... (24,100) 293 (23,807)
----------- -------- -----------
Total revenues.............................................. 767,790 106,578 874,368
----------- -------- -----------
Benefits and Expenses:
Interest expense............................................ 220,668 2,081 222,749
Amortization of bonus interest.............................. 10,357 -- 10,357
General and administrative expenses......................... 93,188 38,424 131,612
Amortization of deferred acquisition costs and other
deferred expenses......................................... 126,142 31,508 157,650
Annual commissions.......................................... 64,323 -- 64,323
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,420 -- 17,420
Guaranteed benefits, net of reinsurance recoveries.......... 58,756 -- 58,756
----------- -------- -----------
Total benefits and expenses................................. 590,854 72,013 662,867
----------- -------- -----------
Pretax income before cumulative effect of accounting
change.................................................... $ 176,936 $ 34,565 $ 211,501
=========== ======== ===========
Total assets................................................ $31,323,462 $217,155 $31,540,617
=========== ======== ===========
Expenditures for long-lived assets.......................... $ -- $ 132 $ 132
=========== ======== ===========
</Table>
F-53
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. BUSINESS SEGMENTS (Continued)
<Table>
<Caption>
ASSET
ANNUITY MANAGEMENT
OPERATIONS OPERATIONS TOTAL
----------- ---------- -----------
(IN THOUSANDS)
Year Ended December 31, 2003:
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance.......... $ 281,359 $ -- $ 281,359
Asset management fees..................................... -- 66,663 66,663
Universal life insurance policy fees, net of
reinsurance............................................. 35,816 -- 35,816
Surrender charges......................................... 27,733 -- 27,733
Other fees................................................ -- 15,520 15,520
----------- -------- -----------
Total fee income............................................ 344,908 82,183 427,091
Investment income........................................... 398,304 4,619 402,923
Net realized investment losses.............................. (30,354) -- (30,354)
----------- -------- -----------
Total revenues.............................................. 712,858 86,802 799,660
----------- -------- -----------
Benefits and Expenses:
Interest expense............................................ 237,585 2,628 240,213
Amortization of bonus interest.............................. 19,776 -- 19,776
General and administrative expenses......................... 83,013 36,080 119,093
Amortization of deferred acquisition costs and other
deferred expenses......................................... 137,130 22,976 160,106
Annual commissions.......................................... 55,661 -- 55,661
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,766 -- 17,766
Guaranteed benefits, net of reinsurance recoveries.......... 63,268 -- 63,268
----------- -------- -----------
Total benefits and expenses................................. 614,199 61,684 675,883
----------- -------- -----------
Pretax income before cumulative effect of accounting
change.................................................... $ 98,659 $ 25,118 $ 123,777
=========== ======== ===========
Total assets................................................ $27,781,457 $190,270 $27,971,727
=========== ======== ===========
Expenditures for long-lived assets.......................... $ -- $ 2,977 $ 2,977
=========== ======== ===========
</Table>
F-54
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. BUSINESS SEGMENTS (Continued)
<Table>
<Caption>
ASSET
ANNUITY MANAGEMENT
OPERATIONS OPERATIONS TOTAL
----------- ---------- -----------
(IN THOUSANDS)
Year Ended December 31, 2002:
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance.......... $ 286,919 $ -- $ 286,919
Asset management fees..................................... -- 66,423 66,423
Universal life insurance policy fees, net of
reinsurance............................................. 36,253 -- 36,253
Surrender charges......................................... 32,507 -- 32,507
Other fees................................................ 3,304 18,596 21,900
----------- -------- -----------
Total fee income............................................ 358,983 85,019 444,002
Investment income........................................... 377,556 9,799 387,355
Net realized investment losses.............................. (65,811) -- (65,811)
----------- -------- -----------
Total revenues.............................................. 670,728 94,818 765,546
----------- -------- -----------
Benefits and Expenses:
Interest expense............................................ 234,261 3,868 238,129
Amortization of bonus interest.............................. 16,277 -- 16,277
General and administrative expenses......................... 79,287 35,923 115,210
Amortization of deferred acquisition costs and other
deferred expenses......................................... 171,583 50,901 222,484
Annual commissions.......................................... 58,389 -- 58,389
Claims on universal life contracts, net of reinsurance
recoveries................................................ 15,716 -- 15,716
Guaranteed benefits, net of reinsurance recoveries.......... 67,492 -- 67,492
----------- -------- -----------
Total benefits and expenses................................. 643,005 90,692 733,697
----------- -------- -----------
Pretax income before cumulative effect of accounting
change.................................................... $ 27,723 $ 4,126 $ 31,849
=========== ======== ===========
Total assets................................................ $23,538,832 $214,157 $23,752,989
=========== ======== ===========
Expenditures for long-lived assets.......................... $ -- $ 7,297 $ 7,297
=========== ======== ===========
</Table>
F-55
- ----------------------------------------------------------------
- ----------------------------------------------------------------
TABLE OF CONTENTS OF
STATEMENT OF ADDITIONAL INFORMATION
- ----------------------------------------------------------------
- ----------------------------------------------------------------
Additional information concerning the operations of the separate account is
contained in a Statement of Additional Information ("SAI"), which is available
upon written request addressed to our Annuity Service Center, P.O. Box 54299,
Los Angeles, California 90054-0299 or by calling (800) 445-SUN2. The contents of
the SAI are listed below.
<Table>
Separate Account.............................. 3
General Account............................... 3
Support Agreement Between the Company and
AIG......................................... 4
Performance Data.............................. 4
Income Payments............................... 7
Death Benefit Options for Contracts Issued
Between October 21, 2001 and June 1, 2004... 8
Death Benefit Options for Contracts Issued
Before October 24, 2001..................... 8
Death Benefit Options Upon the Continuing
Spouse's Death for Contracts Issued Between
October 24, 2001 and June 1, 2005........... 9
Annuity Unit Values........................... 10
Taxes......................................... 13
Distribution of Contracts..................... 19
Financial Statements.......................... 19
</Table>
F-56
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
APPENDIX A - CONDENSED FINANCIAL INFORMATION
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<Table>
<Caption>
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II A-CLASS PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
Capital Appreciation (Inception Date
- 10/28/99)
Beginning AUV..................... 10.00 (a) 14.03 (a) 11.590 (a) 9.861 (a) 8.681
(b) 12.97 (b) 11.585 (b) 9.822 (b) 8.625
Ending AUV........................ 14.03 (a) 11.59 (a) 9.861 (a) 8.681 (a) 10.676
(b) 11.59 (b) 9.822 (b) 8.625 (b) 10.581
Ending Number of AUs.............. 226,697 (a) 1,301,826 (a) 2,010,220 (a) 2,242,839 (a) 3,348,839
(b) 11,589 (b) 112,490 (b) 193,637 (b) 339,695
- ---------------------------------------------------------------------------------------------------------------------------------
Government and Quality Bond
(Inception Date - 12/16/99)
Beginning AUV..................... 10.00 (a) 10.13 (a) 11.181 (a) 11.876 (a) 12.783
(b) 11.09 (b) 11.175 (b) 11.840 (b) 12.713
Ending AUV........................ 10.13 (a) 11.18 (a) 11.876 (a) 12.783 (a) 12.811
(b) 11.18 (b) 11.840 (b) 12.713 (b) 12.709
Ending Number of AUs.............. 10,743 (a) 142,268 (a) 429,130 (a) 1,104,627 (a) 1,717,250
(b) 2,041 (b) 22,384 (b) 71,303 (b) 138,314
- ---------------------------------------------------------------------------------------------------------------------------------
Growth (Inception Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 11.95 (a) 10.256 (a) 9.065 (a) 7.685
(b) 11.29 (b) 10.251 (b) 9.037 (b) 7.643
Ending AUV........................ 11.95 (a) 10.26 (a) 9.065 (a) 7.685 (a) 9.573
(b) 10.25 (b) 9.037 (b) 7.643 (b) 9.495
Ending Number of AUs.............. 93,965 (a) 563,506 (a) 1,102,754 (a) 1,319,642 (a) 2,235,693
(b) 6,206 (b) 55,407 (b) 97,032 (b) 198,143
- ---------------------------------------------------------------------------------------------------------------------------------
Aggressive Growth (Inception Date -
11/1/99)
Beginning AUV..................... 10.00 (a) 14.14 (a) 10.166 (a) 7.753 (a) 6.307
(b) 11.78 (b) 10.162 (b) 7.740 (b) 6.281
Ending AUV........................ 14.14 (a) 10.17 (a) 7.753 (a) 6.307 (a) 7.730
(b) 10.16 (b) 7.740 (b) 6.281 (b) 7.678
Ending Number of AUs.............. 49,324 (a) 207,783 (a) 207,493 (a) 142,222 (a) 180,321
(b) 365 (b) 1,492 (b) 6,373 (b) 12,138
- ---------------------------------------------------------------------------------------------------------------------------------
Alliance Growth (Inception Date -
10/28/99)
Beginning AUV..................... 10.00 (a) 11.75 (a) 8.502 (a) 6.812 (a) 5.728
(b) 9.76 (b) 8.498 (b) 6.791 (b) 5.697
Ending AUV........................ 11.75 (a) 8.50 (a) 6.812 (a) 5.728 (a) 6.430
(b) 8.50 (b) 6.791 (b) 5.697 (b) 6.379
Ending Number of AUs.............. 423,804 (a) 2,004,620 (a) 2,695,963 (a) 2,297,444 (a) 1,944,993
(b) 10,150 (b) 111,553 (b) 133,969 (b) 138,351
- ---------------------------------------------------------------------------------------------------------------------------------
Asset Allocation (Inception Date -
11/12/99)
Beginning AUV..................... 10.00 (a) 10.34 (a) 9.975 (a) 9.613 (a) 9.320
(b) 10.35 (b) 9.975 (b) 9.590 (b) 9.274
Ending AUV........................ 10.34 (a) 9.97 (a) 9.613 (a) 9.320 (a) 11.082
(b) 9.97 (b) 9.590 (b) 9.274 (b) 10.999
Ending Number of AUs.............. 14,781 (a) 112,976 (a) 245,567 (a) 246,399 (a) 324,870
(b) -- (b) 23,126 (b) 24,587 (b) 12,280
- ---------------------------------------------------------------------------------------------------------------------------------
Blue Chip Growth (Inception Date -
9/5/00)
Beginning AUV..................... N/A (a) 10.00 (a) 7.109 (a) 5.642 (a) 4.604
(b) 8.03 (b) 7.105 (b) 5.625 (b) 4.578
Ending AUV........................ N/A (a) 7.11 (a) 5.642 (a) 4.604 (a) 5.371
(b) 7.10 (b) 5.625 (b) 4.578 (b) 5.327
Ending Number of AUs.............. N/A (a) 30,980 (a) 109,746 (a) 155,299 (a) 177,965
(b) 335 (b) 10,661 (b) 9,776 (b) 23,464
- ---------------------------------------------------------------------------------------------------------------------------------
Cash Management (Inception Date -
11/29/99)
Beginning AUV..................... 10.00 (a) 10.20 (a) 10.707 (a) 10.891 (a) 10.923
(b) 10.60 (b) 10.710 (b) 10.886 (b) 10.891
Ending AUV........................ 10.20 (a) 10.71 (a) 10.891 (a) 10.923 (a) 10.891
(b) 10.71 (b) 10.886 (b) 10.891 (b) 10.832
Ending Number of AUs.............. 3,737 (a) 58,423 (a) 171,876 (a) 321,915 (a) 375,789
(b) 495 (b) 5,858 (b) 43,742 (b) 44,481
- ---------------------------------------------------------------------------------------------------------------------------------
Corporate Bond (Inception Date -
12/27/99)
Beginning AUV..................... 10.00 (a) 10.01 (a) 10.740 (a) 11.343 (a) 12.402
(b) 10.64 (b) 10.734 (b) 11.305 (b) 12.330
Ending AUV........................ 10.01 (a) 10.74 (a) 11.343 (a) 12.402 (a) 13.215
(b) 10.73 (b) 11.305 (b) 12.330 (b) 13.105
Ending Number of AUs.............. 3,500 (a) 87,233 (a) 208,179 (a) 428,783 (a) 1,216,579
(b) 90 (b) 40,808 (b) 62,702 (b) 142,952
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of optional EstatePlus feature.
(b) With election of optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-1
<Table>
<Caption>
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II A-CLASS PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
Davis Venture Value (Inception Date
- 10/28/99)
Beginning AUV..................... 10.00 (a) 11.61 (a) 10.816 (a) 9.889 (a) 8.635
(b) 11.59 (b) 10.807 (b) 9.857 (b) 8.585
Ending AUV........................ 11.61 (a) 10.82 (a) 9.889 (a) 8.635 (a) 11.288
(b) 10.81 (b) 9.857 (b) 8.585 (b) 11.195
Ending Number of AUs.............. 353,493 (a) 1,957,911 (a) 3,277,861 (a) 3,552,389 (a) 4,219,824
(b) 16,912 (b) 167,991 (b) 274,799 (b) 431,379
- ---------------------------------------------------------------------------------------------------------------------------------
"Dogs" of Wall Street (Inception
Date - 1/3/00)
Beginning AUV..................... 10.00 (a) 9.51 (a) 10.714 (a) 11.602 (a) 10.025
(b) 10.18 (b) 10.714 (b) 11.592 (b) 9.991
Ending AUV........................ 9.51 (a) 10.71 (a) 11.602 (a) 10.025 (a) 12.541
(b) 10.71 (b) 11.592 (b) 9.991 (b) 12.467
Ending Number of AUs.............. 3,381 (a) 30,007 (a) 69,011 (a) 74,185 (a) 60,730
(b) -- (b) 1,004 (b) 11,035 (b) 8,220
- ---------------------------------------------------------------------------------------------------------------------------------
Emerging Markets (Inception Date -
11/10/99)
Beginning AUV..................... 10.00 (a) 11.53 (a) 8.062 (a) 8.844 (a) 7.355
(b) 9.07 (b) 8.072 (b) 8.832 (b) 7.327
Ending AUV........................ 11.53 (a) 8.06 (a) 8.844 (a) 7.355 (a) 11.021
(b) 8.07 (b) 8.832 (b) 7.327 (b) 10.952
Ending Number of AUs.............. 16,356 (a) 152,174 (a) 132,773 (a) 102,396 (a) 81,009
(b) 2,733 (b) 6,718 (b) 10,925 (b) 6,243
- ---------------------------------------------------------------------------------------------------------------------------------
Federated American Leaders
(Inception Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 10.03 (a) 10.676 (a) 9.858 (a) 8.200
(b) 10.78 (b) 10.674 (b) 9.829 (b) 8.156
Ending AUV........................ 10.03 (a) 10.68 (a) 9.858 (a) 8.200 (a) 10.153
(b) 10.67 (b) 9.829 (b) 8.156 (b) 10.073
Ending Number of AUs.............. 49,962 (a) 227,673 (a) 469,139 (a) 560,019 (a) 833,201
(b) 206 (b) 21,853 (b) 24,706 (b) 44,202
- ---------------------------------------------------------------------------------------------------------------------------------
Global Bond (Inception Date -
11/29/99)
Beginning AUV..................... 10.00 (a) 10.20 (a) 11.015 (a) 11.307 (a) 12.105
(b) 10.92 (b) 11.012 (b) 11.275 (b) 12.040
Ending AUV........................ 10.20 (a) 11.01 (a) 11.307 (a) 12.105 (a) 12.246
(b) 11.01 (b) 11.275 (b) 12.040 (b) 12.149
Ending Number of AUs.............. 1,149 (a) 17,170 (a) 45,752 (a) 74,019 (a) 141,130
(b) 44 (b) 4,201 (b) 6,954 (b) 11,858
- ---------------------------------------------------------------------------------------------------------------------------------
Global Equities (Inception Date -
11/8/99)
Beginning AUV..................... 10.00 (a) 11.70 (a) 8.651 (a) 7.071 (a) 5.740
(b) 9.90 (b) 8.647 (b) 7.051 (b) 5.710
Ending AUV........................ 11.70 (a) 8.65 (a) 7.071 (a) 5.740 (a) 6.936
(b) 8.65 (b) 7.051 (b) 5.710 (b) 6.882
Ending Number of AUs.............. 81,597 (a) 506,012 (a) 628,393 (a) 477,240 (a) 388,668
(b) 2,756 (b) 9,687 (b) 9,781 (b) 7,971
- ---------------------------------------------------------------------------------------------------------------------------------
Goldman Sachs Research (Inception
Date - 8/1/00)
Beginning AUV..................... N/A (a) 10.00 (a) 8.715 (a) 6.088 (a) 5.244
(b) 9.76 (b) 8.716 (b) 6.072 (b) 5.216
Ending AUV........................ N/A (a) 8.72 (a) 6.088 (a) 5.244 (a) 6.436
(b) 8.72 (b) 6.072 (b) 5.216 (b) 6.386
Ending Number of AUs.............. N/A (a) 31,175 (a) 80,348 (a) 76,812 (a) 117,350
(b) 326 (b) 7,463 (b) 10,045 (b) 10,208
- ---------------------------------------------------------------------------------------------------------------------------------
Growth-Income (Inception Date -
11/1/99)
Beginning AUV..................... 10.00 (a) 11.39 (a) 9.513 (a) 8.093 (a) 6.979
(b) 10.42 (b) 9.507 (b) 8.069 (b) 6.941
Ending AUV........................ 11.39 (a) 9.51 (a) 8.093 (a) 6.979 (a) 8.348
(b) 9.51 (b) 8.069 (b) 6.941 (b) 8.282
Ending Number of AUs.............. 335,543 (a) 1,673,087 (a) 2,296,734 (a) 1,743,668 (a) 1,520,053
(b) 8,279 (b) 107,132 (b) 109,068 (b) 97,758
- ---------------------------------------------------------------------------------------------------------------------------------
Growth Opportunities (Inception Date
- 8/22/00)
Beginning AUV..................... N/A (a) 10.00 (a) 6.857 (a) 5.010 (a) 3.637
(b) 8.60 (b) 6.857 (b) 5.241 (b) 3.833
Ending AUV........................ N/A (a) 6.86 (a) 5.010 (a) 3.637 (a) 4.409
(b) 6.86 (b) 5.241 (b) 3.833 (b) 4.634
Ending Number of AUs.............. N/A (a) 54,857 (a) 75,693 (a) 48,013 (a) 54,926
(b) -- (b) 5 (b) 317 (b) 3,556
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of optional EstatePlus feature.
(b) With election of optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-2
<Table>
<Caption>
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II A-CLASS PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
High-Yield Bond (Inception Date -
11/29/99)
Beginning AUV..................... 10.00 (a) 10.06 (a) 9.299 (a) 8.744 (a) 9.005
(b) 9.71 (b) 9.299 (b) 8.728 (b) 8.965
Ending AUV........................ 10.06 (a) 9.30 (a) 8.744 (a) 9.005 (a) 10.682
(b) 9.30 (b) 8.728 (b) 8.965 (b) 10.608
Ending Number of AUs.............. 13,058 (a) 91,018 (a) 182,420 (a) 267,960 (a) 587,922
(b) -- (b) 5,112 (b) 18,202 (b) 46,284
- ---------------------------------------------------------------------------------------------------------------------------------
International Diversified Equities
(Inception Date - 11/23/99)
Beginning AUV..................... 10.00 (a) 9.87 (a) 7.958 (a) 6.634 (a) 4.641
(b) 8.63 (b) 7.953 (b) 6.614 (b) 4.616
Ending AUV........................ 9.87 (a) 7.96 (a) 6.634 (a) 4.641 (a) 6.156
(b) 7.95 (b) 6.614 (b) 4.616 (b) 6.111
Ending Number of AUs.............. 30,627 (a) 139,489 (a) 216,629 (a) 204,331 (a) 259,738
(b) 656 (b) 1,943 (b) 1,550 (b) 11,443
- ---------------------------------------------------------------------------------------------------------------------------------
International Growth and Income
(Inception Date - 10/28/99)
Beginning AUV..................... 10.00 (a) 10.82 (a) 9.717 (a) 8.498 (a) 6.648
(b) 10.46 (b) 9.715 (b) 8.476 (b) 6.614
Ending AUV........................ 10.82 (a) 9.72 (a) 8.498 (a) 6.648 (a) 9.079
(b) 9.72 (b) 8.476 (b) 6.614 (b) 9.011
Ending Number of AUs.............. 132,522 (a) 663,722 (a) 907,962 (a) 837,785 (a) 748,220
(b) 1,472 (b) 20,303 (b) 32,278 (b) 35,769
- ---------------------------------------------------------------------------------------------------------------------------------
MFS Massachusetts Investors Trust
(Inception Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 10.49 (a) 9.736 (a) 8.225 (a) 7.039
(b) 10.34 (b) 9.735 (b) 8.203 (b) 7.003
Ending AUV........................ 10.49 (a) 9.74 (a) 8.225 (a) 7.039 (a) 8.136
(b) 9.74 (b) 8.203 (b) 7.003 (b) 8.074
Ending Number of AUs.............. 114,191 (a) 581,736 (a) 972,320 (a) 902,075 (a) 805,399
(b) 5,570 (b) 66,103 (b) 90,251 (b) 91,094
- ---------------------------------------------------------------------------------------------------------------------------------
MFS Mid-Cap Growth (Inception Date -
11/1/99)
Beginning AUV..................... 10.00 (a) 13.69 (a) 13.193 (a) 8.269 (a) 5.884
(b) 14.87 (b) 13.188 (b) 8.244 (b) 5.852
Ending AUV........................ 13.69 (a) 13.19 (a) 8.269 (a) 5.884 (a) 7.834
(b) 13.19 (b) 8.244 (b) 5.852 (b) 7.772
Ending Number of AUs.............. 30,505 (a) 344,347 (a) 442,836 (a) 449,234 (a) 441,724
(b) 306 (b) 25,484 (b) 33,748 (b) 35,097
- ---------------------------------------------------------------------------------------------------------------------------------
MFS Total Return (Inception Date -
10/28/99)
Beginning AUV..................... 10.00 (a) 10.22 (a) 11.789 (a) 11.859 (a) 11.289
(b) 11.64 (b) 11.782 (b) 11.821 (b) 11.226
Ending AUV........................ 10.22 (a) 11.79 (a) 11.859 (a) 11.289 (a) 12.842
(b) 11.78 (b) 11.821 (b) 11.226 (b) 12.738
Ending Number of AUs.............. 50,264 (a) 355,139 (a) 1,374,837 (a) 2,391,121 (a) 3,949,893
(b) 4,588 (b) 94,278 (b) 218,848 (b) 432,049
- ---------------------------------------------------------------------------------------------------------------------------------
Putnam Growth: Voyager (Inception
Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 11.33 (a) 8.383 (a) 6.571 (a) 5.480
(b) 9.55 (b) 8.380 (b) 6.553 (b) 5.451
Ending AUV........................ 11.33 (a) 8.38 (a) 6.571 (a) 5.480 (a) 6.333
(b) 8.38 (b) 6.553 (b) 5.451 (b) 6.284
Ending Number of AUs.............. 177,965 (a) 820,691 (a) 953,847 (a) 817,468 (a) 1,063,200
(b) 3,244 (b) 25,257 (b) 22,523 (b) 93,442
- ---------------------------------------------------------------------------------------------------------------------------------
Real Estate (Inception Date -
2/7/00)
Beginning AUV..................... 10.00 (a) 10.77 (a) 12.621 (a) 14.317 (a) 14.880
(b) 12.42 (b) 12.623 (b) 14.279 (b) 14.804
Ending AUV........................ 10.77 (a) 12.62 (a) 14.317 (a) 14.880 (a) 18.683
(b) 12.62 (b) 14.279 (b) 14.804 (b) 18.540
Ending Number of AUs.............. 2,461 (a) 15,795 (a) 69,705 (a) 88,262 (a) 108,473
(b) 39 (b) 928 (b) 3,919 (b) 5,621
- ---------------------------------------------------------------------------------------------------------------------------------
SunAmerica Balanced (Inception Date
- 10/28/99)
Beginning AUV..................... 10.00 (a) 11.01 (a) 9.336 (a) 8.175 (a) 7.437
(b) 10.08 (b) 9.333 (b) 8.152 (b) 7.398
Ending AUV........................ 11.01 (a) 9.34 (a) 8.175 (a) 7.437 (a) 8.207
(b) 9.33 (b) 8.152 (b) 7.398 (b) 8.143
Ending Number of AUs.............. 93,619 (a) 431,856 (a) 632,064 (a) 550,347 (a) 530,846
(b) 265 (b) 19,591 (b) 24,362 (b) 27,544
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of the optional EstatePlus feature.
(b) With election of the optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-3
<Table>
<Caption>
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II A-CLASS PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
Technology (Inception Date -
8/21/00)
Beginning AUV..................... N/A (a) 10.00 (a) 4.375 (a) 2.507 (a) 1.815
(b) 6.68 (b) 4.375 (b) 2.499 (b) 1.805
Ending AUV........................ N/A (a) 4.38 (a) 2.507 (a) 1.815 (a) 2.174
(b) 4.38 (b) 2.499 (b) 1.805 (b) 2.157
Ending Number of AUs.............. N/A (a) 23,583 (a) 46,009 (a) 58,799 (a) 108,335
(b) -- (b) 3,185 (b) 7,962 (b) 13,639
- ---------------------------------------------------------------------------------------------------------------------------------
Telecom Utility (Inception Date -
12/16/99)
Beginning AUV..................... 10.00 (a) 9.91 (a) 9.278 (a) 7.325 (a) 6.050
(b) 9.12 (b) 9.277 (b) 7.311 (b) 6.023
Ending AUV........................ 9.91 (a) 9.28 (a) 7.325 (a) 6.050 (a) 6.962
(b) 9.28 (b) 7.311 (b) 6.023 (b) 6.914
Ending Number of AUs.............. 9,175 (a) 69,692 (a) 77,161 (a) 61,703 (a) 40,778
(b) 104 (b) 3,437 (b) 3,965 (b) 4,149
- ---------------------------------------------------------------------------------------------------------------------------------
Worldwide High Income (Inception
Date - 11/10/99)
Beginning AUV..................... 10.00 (a) 10.42 (a) 9.735 (a) 9.735 (a) 10.471
(b) 10.54 (b) 9.735 (b) 9.711 (b) 10.420
Ending AUV........................ 10.42 (a) 9.74 (a) 9.735 (a) 10.471 (a) 11.563
(b) 9.74 (b) 9.711 (b) 10.420 (b) 11.477
Ending Number of AUs.............. 3,802 (a) 31,309 (a) 42,247 (a) 63,528 (a) 126,343
(b) -- (b) 3,483 (b) 6,051 (b) 14,716
- ---------------------------------------------------------------------------------------------------------------------------------
Van Kampen LIT Comstock, Class II
Shares (Inception Date - 10/15/01)
Beginning AUV..................... N/A N/A (a) 10.000 (a) 10.027 (a) 8.408
(b) 10.000 (b) 10.017 (b) 8.378
Ending AUV........................ N/A N/A (a) 10.027 (a) 8.408 (a) 10.799
(b) 10.017 (b) 8.378 (b) 10.734
Ending Number of AUs.............. N/A N/A (a) 458,910 (a) 1,732,236 (a) 4,509,831
(b) 30,268 (b) 145,026 (b) 462,772
- ---------------------------------------------------------------------------------------------------------------------------------
Van Kampen LIT Emerging Growth,
Class II Shares (Inception Date -
10/15/01)
Beginning AUV..................... N/A N/A (a) 10.000 (a) 9.449 (a) 7.332
(b) 10.000 (b) 9.471 (b) 7.331
Ending AUV........................ N/A N/A (a) 9.449 (a) 7.332 (a) 8.514
(b) 9.471 (b) 7.331 (b) 8.491
Ending Number of AUs.............. N/A N/A (a) 51,578 (a) 221,473 (a) 568,055
(b) 13,454 (b) 39,858 (b) 76,046
- ---------------------------------------------------------------------------------------------------------------------------------
Van Kampen LIT Growth and Income,
Class II Shares (Inception Date -
10/15/01)
Beginning AUV..................... N/A N/A (a) 10.000 (a) 10.807 (a) 9.051
(b) 10.000 (b) 10.776 (b) 9.003
Ending AUV........................ N/A N/A (a) 10.807 (a) 9.051 (a) 11.287
(b) 10.776 (b) 9.003 (b) 11.199
Ending Number of AUs.............. N/A N/A (a) 187,349 (a) 977,264 (a) 2,967,167
(b) 21,215 (b) 124,050 (b) 313,207
- ---------------------------------------------------------------------------------------------------------------------------------
Lord Abbett Series Fund Growth and
Income (Inception Date - 5/1/02)
Beginning AUV..................... N/A N/A N/A (a) 10.000 (a) 8.561
(b) 10.000 (b) 8.540
Ending AUV........................ N/A N/A N/A (a) 8.561 (a) 10.654
(b) 8.540 (b) 10.602
Ending Number of AUs.............. N/A N/A N/A (a) 1,045,100 (a) 4,090,198
(b) 99,187 (b) 472,794
- ---------------------------------------------------------------------------------------------------------------------------------
Lord Abbett Series Fund Mid Cap
Value (Inception Date - 5/1/02)
Beginning AUV..................... N/A N/A N/A (a) 10.000 (a) 8.378
(b) 10.000 (b) 8.358
Ending AUV........................ N/A N/A N/A (a) 8.378 (a) 11.113
(b) 8.358 (b) 11.059
Ending Number of AUs.............. N/A N/A N/A (a) 585,524 (a) 2,311,323
(b) 81,785 (b) 287,550
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of the optional EstatePlus feature.
(b) With election of the optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-4
<Table>
<Caption>
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II A-CLASS PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
American Funds Asset Allocation
(Inception Date - 9/30/02)........ N/A N/A N/A (a) 10.000 (a) 10.763
Beginning AUV....................... N/A N/A N/A (b) 10.000 (b) 10.755
(a) 10.763 (a) 12.438
Ending AUV.......................... N/A N/A N/A (b) 10.755 (b) 12.398
(a) 799,987 (a) 4,341,675
Ending Number of AUs................ N/A N/A N/A (b) 53,140 (b) 457,726
- ---------------------------------------------------------------------------------------------------------------------------------
American Funds Global Growth
(Inception Date - 9/30/02)........ N/A N/A N/A (a) 10.000 (a) 11.274
Beginning AUV....................... N/A N/A N/A (b) 10.000 (b) 11.264
(a) 11.274 (a) 14.832
Ending AUV.......................... N/A N/A N/A (b) 11.264 (b) 14.783
(a) 174,275 (a) 1,616,933
Ending Number of AUs................ N/A N/A N/A (b) 6,326 (b) 189,446
- ---------------------------------------------------------------------------------------------------------------------------------
American Funds Growth (Inception
Date - 9/30/02)................... N/A N/A N/A (a) 10.000 (a) 11.766
Beginning AUV....................... N/A N/A N/A (b) 10.000 (b) 11.753
(a) 11.766 (a) 15.002
Ending AUV.......................... N/A N/A N/A (b) 11.753 (b) 14.949
(a) 464,391 (a) 3,076,002
Ending Number of AUs................ N/A N/A N/A (b) 38,822 (b) 439,457
- ---------------------------------------------------------------------------------------------------------------------------------
American Funds Growth-Income
(Inception Date - 9/30/02)........ N/A N/A N/A (a) 10.000 (a) 11.390
Beginning AUV....................... N/A N/A N/A (b) 10.000 (b) 11.368
(a) 11.390 (a) 14.389
Ending AUV.......................... N/A N/A N/A (b) 11.368 (b) 14.325
(a) 987,417 (a) 6,182,253
Ending Number of AUs................ N/A N/A N/A (b) 88,643 (b) 642,993
</Table>
<Table>
<Caption>
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of the optional EstatePlus feature.
(b) With election of the optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-5
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
APPENDIX B - DEATH BENEFITS FOLLOWING SPOUSAL CONTINUATION
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Capitalized terms used in this Appendix have the same meaning as they have in
the Death Benefit section of the prospectus.
The term Continuation Net Purchase Payments is used frequently to describe the
death benefits payable to the beneficiary of the Continuing Spouse. We define
Continuation Net Purchase Payments as Net Purchase Payments made on and/or after
the Continuation Date. For the purpose of calculating Continuation Net Purchase
Payments, the amount that equals the contract value on the Continuation Date,
including the Continuation Contribution is considered a Purchase Payment. If the
Continuing Spouse makes no additional Purchase Payments or withdrawals,
Continuation Net Purchase Payments equals the contract value on the Continuation
Date, including the Continuation Contribution.
The term "withdrawals" as used in describing the death benefit options below is
defined as withdrawals and the fees and charges applicable to those withdrawals.
A. DEATH BENEFIT PAYABLE UPON CONTINUING SPOUSE'S DEATH:
1. Purchase Payment Accumulation Option
If the original owner of the contract elected Option 1, Purchase
Payment Accumulation Option, and the Continuing Spouse is age 74 or younger
on the Continuation Date, then upon the death of the Continuing Spouse, the
death benefit will be the greatest of:
a. Contract value; or
b. Contract value on the Continuation Date plus Continuation Net
Purchase Payments, compounded at 3% annual growth rate, to the
earlier of the Continuing Spouse's 75th birthday or date of death;
reduced for any withdrawals and increased by any Continuation Net
Purchase Payments received after the Continuing Spouse's 75th
birthday to the earlier of the Continuing Spouse's 86th birthday or
date of death; or
c. Contract value on the seventh contract anniversary (from the issue
date of the original owner), reduced for withdrawals since the
seventh contract anniversary in the same proportion that the
contract value was reduced on the date of such withdrawal, plus any
Net Purchase Payments received between the seventh contract
anniversary date but prior to the Continuing Spouse's 86th
birthday.
d. Contract value on the Continuation Date plus Gross Purchase Payment
reduced for any withdrawals in the same proportion that the
withdrawal reduced contract value on the date of such withdrawal
received prior to the Continuing Spouse's 86th birthday.
If the Continuing Spouse is age 75-82 on the Continuation Date, then
the death benefit will be the greatest of:
a. Contract value; or
b. Contract value on the Continuation Date plus Gross Purchase Payment
reduced for any withdrawals in the same proportion that the
withdrawal reduced contract value on the date of such withdrawal
received prior to the Continuing Spouse's 86th birthday; or
c. Maximum anniversary value on any contract anniversary that occurred
after the Continuation Date, but prior to the Continuing Spouse's
83rd birthday. The anniversary value for any year is equal to the
contract value on the applicable contract anniversary date, plus
any Net Purchase Payments received since that anniversary date but
prior to the Continuing Spouse's 86th birthday, and reduced for any
withdrawals since that contract anniversary in the same proportion
that the withdrawal reduced the contract value on the date of
withdrawal.
If the Continuing Spouse is age 83-85 on the Continuation Date, then
the death benefit will be the greatest of:
a. Contract value; or
b. the lesser of:
(1) Contract value on the Continuation Date plus Gross Purchase
Payment reduced for any withdrawals in the same proportion that
the withdrawal reduced contract value on the date of such
withdrawal received prior to the Continuing Spouse's 86th
birthday; or
(2) 125% of the contract value.
If the Continuing Spouse is age 86 or older as of the Continuation
Date and the original owner of the contract elected the Purchase Payment
Accumulation death benefit, the death benefit will be equal to the contract
value.
2. Maximum Anniversary Value Option
If the original owner of the contract elected Option 2, Maximum
Anniversary Option, and the Continuing Spouse is age 82 or younger on the
Continuation Date, then upon the death of the Continuing Spouse, the death
benefit will be the greatest of:
a. Contract value; or
b. Contract value on the Continuation Date plus Gross Purchase Payment
reduced for any withdrawals in the same proportion that the
withdrawal reduced contract value on the date of such withdrawal
received prior to the Continuing Spouse's 86th birthday; or
c. Maximum anniversary value on any contract anniversary that occurred
after the Continuation Date, but prior to the Continuing Spouse's
B-1
83rd birthday. The anniversary value for any year is equal to the
contract value on the applicable contract anniversary date after
the Continuation Date, plus any Purchase Payments received since
that anniversary date but prior to the Continuing Spouse's 86th
birthday, and reduced for any withdrawals since that contract
anniversary in the same proportion that the withdrawal reduced the
contract value on the date of withdrawal.
If the Continuing Spouse is age 83-85 on the Continuation Date, then
the death benefit will be the greater of:
a. Contract value; or
b. the lesser of:
(3) Contract value on the Continuation Date plus Gross Purchase
Payment reduced for any withdrawals in the same proportion that
the withdrawal reduced contract value on the date of such
withdrawal received prior to the Continuing Spouse's 86th
birthday; or
(4) 125% of the contract value.
If the Continuing Spouse is age 86 or older at the time of death,
under the Maximum Anniversary death benefit, their Beneficiary will receive
only the contract value.
Please see the Statement of Additional Information for a description of the
death benefit calculations following a Spousal Continuation for contracts issued
before May 31, 2004.
B. THE ESTATEPLUS BENEFIT PAYABLE UPON CONTINUING SPOUSE'S DEATH:
The EstatePlus benefit may increase the death benefit amount. The EstatePlus
benefit is only available if the original owner elected EstatePlus and it has
not been discontinued or terminated. If the Continuing Spouse had earnings in
the contract at the time of his/her death, we will add a percentage of those
earnings (the "EstatePlus Percentage"), subject to a maximum dollar amount (the
"Maximum EstatePlus Percentage"), to the death benefit payable, based on the
number of years the Continuing Spouse has held the contract since the
Continuation Date. The EstatePlus benefit, if any, is added to the death benefit
payable under the Purchase Payment Accumulation or the Maximum Anniversary
option.
The term "Continuation Net Purchase Payment" is used frequently to describe the
EstatePlus benefit payable to the beneficiary of the Continuing Spouse. We
define Continuation Net Purchase Payment as Net Purchase Payments made as of the
Continuation Date. For the purpose of calculating Continuation Net Purchase
Payments, the amount that equals the contract value on the Continuation Date,
including the Continuation Contribution is considered a Purchase Payment. If the
Continuing Spouse makes no additional Purchase Payments or withdrawal,
Continuation Net Purchase Payments equals the contract value on the Continuation
Date, including the Continuation Contribution.
The following table identifies the factors we use in determining the percentage
of earnings that will be added to the death benefit at the Continuing Spouse's
date of death, if the Continuing Spouse is age 69 or younger on the Continuation
Date:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
Years 0-4 25% of earnings 40% of Continuation
Net Purchase Payments
- -------------------------------------------------------------
Years 5-9 40% of earnings 65% of Continuation
Net Purchase
Payments*
- -------------------------------------------------------------
Years 10+ 50% of earnings 75% of Continuation
Net Purchase
Payments*
- -------------------------------------------------------------
</Table>
If the Continuing Spouse is between their 70th and 81st birthday on the
Continuation Date, the table below shows the available EstatePlus benefit:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
All Contract 25% of earnings 40% of Continuation
Years Net Purchase
Payments*
- -------------------------------------------------------------
</Table>
* Purchase Payments received after the 5(th) year following the Continuation
Date must remain in the contract for at least six months to be included as
part of Continuation Net Purchase Payments for purpose of the Maximum
EstatePlus calculation.
What is the Contract Year of Death?
Contract Year of Death is the number of full 12 month periods starting on the
Continuation Date and ending on the Continuing Spouse's date of death.
B-2
What is the EstatePlus amount?
We determine the EstatePlus amount based upon a percentage of earnings in the
contract at the time of the Continuing Spouse's death. For the purpose of this
calculation, earnings are defined as (1) minus (2) where
(1) equals the contract value on the Continuing Spouse's date of death;
(2) equals the Continuation Net Purchase Payment(s).
What is the Maximum EstatePlus amount?
The EstatePlus benefit is subject to a maximum dollar amount. The Maximum
EstatePlus amount is a percentage of the Continuation Net Purchase Payments.
WE RESERVE THE RIGHT TO MODIFY, SUSPEND OR TERMINATE THE SPOUSAL CONTINUATION
PROVISION (IN ITS ENTIRETY OR ANY COMPONENT) AT ANY TIME ON PROSPECTIVELY ISSUED
CONTRACTS.
B-3
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
APPENDIX C - HYPOTHETICAL EXAMPLE OF THE OPERATION OF THE INCOME PROTECTOR
FEATURE
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
This table assumes $100,000 initial investment, net of sales charges, in a
Non-qualified contract with no withdrawals, additional Purchase Payments or
premium taxes.
<Table>
<Caption>
- -------------------------------------------------------------------------------------------------
Minimum annual income if you elect to receive income payments
If at issue on contract anniversary . . .
you are . . . 7 10 15 20
- -------------------------------------------------------------------------------------------------
Male age 60* 6,108 6,672 7,716 8,832
- -------------------------------------------------------------------------------------------------
Female age 60* 5,388 5,880 6,900 8,112
- -------------------------------------------------------------------------------------------------
Joint** 4,716 5,028 5,544 5,928
Male-60
Female-60
- -------------------------------------------------------------------------------------------------
</Table>
* Life annuity with 10 years guaranteed
** Joint and survivor life annuity with 20 years guaranteed
C-1
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
APPENDIX D - DEATH BENEFIT OPTIONS FOR CONTRACTS ISSUED BEFORE JUNE 1, 2004
OR PURCHASED IN CERTAIN STATES
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
THE DEATH BENEFITS FOR CONTRACTS ISSUED BEFORE JUNE 1, 2004 OR IN STATES WHERE
THE DEATH BENEFITS THAT APPEAR IN THE PROSPECTUS ARE NOT CURRENTLY AVAILABLE,
ARE AS FOLLOWS:
OPTION 1 -- PURCHASE PAYMENT ACCUMULATION OPTION
The death benefit is the greatest of:
1. the contract value at the time we receive all required paperwork and
satisfactory proof of death; or
2. total Gross Purchase Payments reduced by any withdrawals in the same
proportion that the withdrawal reduced the contract value on the date of
each withdrawal; or
3. Net Purchase Payments compounded at a 4% annual growth rate until the
date of death (3% growth rate if age 70 or older at the time of contract
issue) plus any Purchase Payments recorded after the date of death; and
reduced for any withdrawals in the same proportion that the withdrawal
reduced contract value on the date of the withdrawal; or
4. the contract value on the seventh contract anniversary, plus any
Purchase Payments since the seventh contract anniversary; and reduced
for any withdrawals since the seventh contract anniversary in the same
proportion that each withdrawal reduced the contract value on the date
of the withdrawal, all compounded at a 4% annual growth rate until the
date of death (3% growth rate if age 70 or older at the time of contract
issue) plus any purchase payments recorded after the date of death; and
reduced for each withdrawal recorded after the date of death in the same
proportion that each withdrawal reduced the contract value on the date
of the withdrawal.
The Purchase Payment Accumulation option may not be available to
Washington state policyowners. Please check with your financial
representative for availability.
OPTION 2 -- MAXIMUM ANNIVERSARY OPTION
The death benefit is the greatest of:
1. the contract value at the time we receive all required paperwork and
satisfactory proof of death; or
2. total Gross Purchase Payments reduced by any withdrawal in the same
proportion that the withdrawal reduced the contract value on the date of
each withdrawal; or
3. the maximum anniversary value on any contract anniversary prior to your
81st birthday. The anniversary value equals the contract value on a
contract anniversary plus any Purchase Payments since that contract
anniversary; and reduced for any withdrawals since the contract
anniversary in the same proportion that each withdrawal reduced the
contract value on the date of the withdrawal.
If you are age 90 or older at the time of death and selected the
Option 2 death benefit, the death benefit will be equal to contract value
at the time we receive all required paperwork and satisfactory proof of
death. Accordingly, you do not get the advantage of Option 2 if:
- you are age 81 or older at the time of contract issue; or
- you are age 90 or older at the time of your death.
The death benefit options on contracts issued before October 24, 2001
would be subject to a different calculation. Please see the Statement of
Additions Information for details.
THE FOLLOWING DESCRIBES THE DEATH BENEFIT OPTIONS FOLLOWING SPOUSAL CONTINUATION
FOR CONTRACTS ISSUED BEFORE JUNE 1, 2004:
1. Purchase Payment Accumulation Option
If a Continuation Contribution is added on the Continuation Date, the
death benefit is the greater of:
a. The contract value on the date we receive all required paperwork
and satisfactory proof of the Continuing Spouse's death; or
b. Continuation Net Purchase Payments; or
c. Continuation Net Purchase Payments compounded to the date of death
at a 4% annual growth rate, (3% growth rate if the Continuing
Spouse was age 70 or older on the Continuation Date) plus any
Purchase Payments recorded after the date of death; and reduced by
any Gross Withdrawals recorded after the date of death in the same
proportion that the Gross Withdrawal reduced the contract value on
the date of each withdrawal; or
d. The contract value on the seventh contract anniversary following
the original issue date of the contract, plus any Purchase Payments
since the seventh contract anniversary and reduced for any Gross
Withdrawals recorded after the seventh contract anniversary in the
same proportion that the Gross Withdrawal reduced the contract
value on the date of the Gross Withdrawal, all compounded at a 4%
annual growth rate until the date of death (3% annual growth rate
if the Continuing Spouse is age 70 or older on the Continuation
Date) plus any Purchase Payments; and reduced for any withdrawals
recorded after the date of death in the same proportion that each
withdrawal reduced the contract value on the date of the
withdrawal.
If a Continuation Contribution is not added on the Continuation Date,
the death benefit is the greater of:
a. The contract value on the date we receive all required paperwork
and satisfactory proof of the Continuing Spouse's death; or
b. Total Gross Purchase Payments reduced by any withdrawals in the
same proportions that the withdrawal reduced the contract value on
the date of each withdrawal; or
D-1
c. Net Purchase Payments made from the original contract issue date
compounded to the date of death at a 4% annual growth rate, (3%
growth rate if the Continuing Spouse was age 70 or older on the
original contract issue date) plus any Purchase Payments recorded
after the date of death; and reduced for any Gross Withdrawals
recorded after the date of death in the same proportion that each
Gross Withdrawal reduced the contract value on the date of the
withdrawal; or
d. The contract value on the seventh contract anniversary following
the original issue date of the contract, plus any Purchase Payments
since the seventh contract anniversary; and reduced for any Gross
Withdrawals since the seventh contract anniversary in the same
proportion that each Gross Withdrawal reduced the contract value on
the date of the Gross Withdrawal, all compounded at a 4% annual
growth rate until the date of death (3% annual growth rate if the
Continuing Spouse is age 70 or older on the contract issue date)
plus any Purchase Payments; and reduced for any Gross Withdrawals
recorded after the date of death in the same proportion that each
Gross Withdrawal reduced the contract value on the date of the
Gross Withdrawal.
2. Maximum Anniversary Value Option -- if the continuing spouse is below
age 90 at the time of death, and:
If a Continuation Contribution is added on the Continuation Date, the
death benefit is the greatest of:
a. The contract value on the date we receive all required paperwork
and satisfactory proof of the Continuing Spouse's death; or
b. Continuation Net Purchase Payments; or
c. The maximum anniversary value on any contract anniversary occurring
after the Continuation Date and prior to the Continuing Spouse's
81st birthday. The anniversary value equals the contract value on a
contract anniversary plus any Purchase Payments made since that
contract anniversary; and reduced for any Gross Withdrawals
recorded since the contract anniversary in the same proportion that
each Gross Withdrawal reduced the contract value on the date of the
Gross Withdrawal. Contract anniversary is defined as any
anniversary following the full 12 month period after the original
contract issue date.
If a Continuation Contribution is not added on the Continuation Date,
the death benefit is the greatest of:
a. The contract value on the date we receive all required paperwork
and satisfactory proof of the Continuing Spouse's death; or
b. Total Gross Purchase Payments reduced by withdrawals in the same
proportion that the withdrawal reduced the contract value on the
date of the withdrawal; or
c. The maximum anniversary value on any contract anniversary from the
original contract issue date prior to the Continuing Spouse's 81st
birthday. The anniversary value equals the contract value on a
contract anniversary plus any Purchase Payments since that contract
anniversary; and reduced for any Gross Withdrawals since the
contract anniversary in the same proportion that the Gross
Withdrawal reduced each contract value on the date of the Gross
Withdrawal. Contract anniversary is defined as the full 12 month
period after the original contract issue date.
If the Continuing Spouse is age 90 or older at the time of death,
under the Maximum Anniversary death benefit, their beneficiary will receive
only the contract value at the time we receive all required paperwork and
satisfactory proof of death.
D-2
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- --------------------------------------------------------------------------------
APPENDIX E - MARKET VALUE ADJUSTMENT ("MVA")
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
If you take money out of any available multi-year FAGP before the end of the
guarantee period, we make an adjustment to your contract. We refer to the
adjustment as a market value adjustment ("MVA"). The MVA does not apply to any
available one-year fixed account option. The MVA reflects any difference in the
interest rate environment between the time you place your money in the FAGP and
the time when you withdraw or transfer that money. This adjustment can increase
or decrease your contract value. Generally, if interest rates drop between the
time you put your money into a FAGP and the time you take it out, we credit a
positive adjustment to your contract. Conversely, if interest rates increase
during the same period, we post a negative adjustment to your contract. You have
30 days after the end of each guarantee period to reallocate your funds without
incurring any MVA.
The information in this Appendix applies only if you take money out of a FAGP
(with a duration longer than 1 year) before the end of the guarantee period.
We calculate the MVA by doing a comparison between current rates and the rate
being credited to you in the FAGP. For the current rate we use a rate being
offered by us for a guarantee period that is equal to the time remaining in the
FAGP from which you seek withdrawal. If we are not currently offering a
guarantee period for that period of time, we determine an applicable rate by
using a formula to arrive at a number between the interest rates currently
offered for the two closest periods available.
Where the MVA is negative, we first deduct the adjustment from any money
remaining in the FAGP. If there is not enough money in the FAGP to meet the
negative deduction, we deduct the remainder from your withdrawal. Where the MVA
is positive, we add the adjustment to your withdrawal amount. If a withdrawal
charge applies, it is deducted before the MVA calculation. The MVA is assessed
on the amount withdrawn less any withdrawal charges.
The MVA is computed by multiplying the amount withdrawn, transferred or taken
under an income option by the following factor:
[(1+I/(1+J+L)] to the power of (N/12) - 1
where:
I is the interest rate you are earning on the money invested in the
FAGP;
J is the interest rate then currently available for the period of time
equal to the number of years rounded up to the nearest integer remaining
in the term you initially agreed to leave your money in the FAGP;
N is the number of full months remaining in the term you initially
agreed to leave your money in the FAGP; and
L is 0.005 (Some states require a different value. Please see your
contract.)
We do not assess an MVA against withdrawals under the following circumstances:
- If a withdrawal is made within 30 days after the end of a guarantee
period;
- If a withdrawal is made to pay contract fees and charges;
- To pay a death benefit; and
- Upon beginning an income option, if occurring on the Latest Annuity Date.
EXAMPLES OF THE MVA
The purpose of the examples below is to show how the MVA adjustments are
calculated and may not reflect the Guarantee periods available or Withdrawal
Charges applicable under your contract.
The examples below assume the following:
(1) You made an initial Purchase Payment of $10,000 and allocated it to a
3-year FAGP at a rate of 5%;
(2) You make a partial withdrawal of $4,000 when 1 1/2 years (18 months)
remain in the term you initially agreed to leave your money in the FAGP
(N=18);
(3) You have not made any other transfers, additional Purchase Payments, or
withdrawals; and
(4) Your contract was issued in a state where L=0.005.
POSITIVE ADJUSTMENT, NO WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for a new
Purchase Payments in the 1-year FAGP is 3.5% and the 3-year FAGP is 4.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full year) in the contract is calculated to be 4%. No
withdrawal charge is reflected in this example, assuming that the Purchase
Payment withdrawn falls within the free look amount.
The MVA factor is = [(1+I/(1+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.04+0.005)] to the power of (18/12) - 1
= (1.004785) to the power of (1.5) - 1
= 1.007186 - 1
= + 0.007186
E-1
The requested withdrawal amount is multiplied by the MVA factor to determine the
MVA:
$4,000 X (+0.007186) = +$28.74
$28.74 represents the positive MVA that would be added to the withdrawal.
NEGATIVE ADJUSTMENT, NO WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for new
Purchase Payments in the 1-year FAGP is 5.5% and the 3-year FAGP is 6.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full year) in the contract is calculated to be 6%. No
withdrawal charge is reflected in this example, assuming that the Purchase
Payment withdrawn falls with the free withdrawal amount.
The MVA factor is= [(1+I)/(1+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.06+0.005)] to the power of (18/12) - 1
= (0.985915) to the power of (1.5) - 1
= 0.978948 - 1
= - 0.021052
The requested withdrawal amount is multiplied by the MVA factor to determine the
MVA:
$4,000 X (- 0.021052) = -$84.21
$84.21 represents the negative MVA that will be deducted from the money
remaining in the 3-year FAGP.
POSITIVE ADJUSTMENT, WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for a new
Purchase Payments in the 1-year FAGP is 3.5% and the 3-year FAGP is 4.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full year) in the contract is calculated to be 4%. A
withdrawal charge of 6% is reflected in this example, assuming that the Purchase
Payment withdrawn exceeds the free withdrawal amount.
The MVA factor is= [(1+I)/(I+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.04+0.005)] to the power of (18/12) - 1
= (1.004785) to the power of (1.5) - 1
= 1.007186 - 1
= + 0.007186
The requested withdrawal amount, less the withdrawal charge ($4,000 - (6% X
$4,000) = $3,760) is multiplied by the MVA factor to determine the MVA:
$3,760 X (+0.007186) = +$27.02
$27.02 represents the positive MVA that would be added to the withdrawal.
NEGATIVE ADJUSTMENT, WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for new
Purchase Payments in the 1-year FAGP is 5.5% and the 3-year FAGP is 6.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full year) in the contract is calculated to be 6%. A
withdrawal charge of 6% is reflected in this example, assuming that the Purchase
Payment withdrawn exceeds the free withdrawal amount.
The MVA factor is= [(1+I)/(I+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.06+0.005)] to the power of (18/12) - 1
= (0.985916) to the power of (1.5) - 1
= 0.978949 - 1
= - 0.021051
The requested withdrawal amount, less the withdrawal charge ($4,000 - (6% X
$4,000) = $3,760) is multiplied by the MVA factor to determine the MVA:
$3,760 X (-0.021052) = -$79.16
$79.16 represents the negative MVA that would be deducted from the money
remaining in the 3-year FAGP.
E-2
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Please forward a copy (without charge) of the Polaris(II) A-Class Variable
Annuity Statement of Additional Information to:
(Please print or type and fill in all information.)
------------------------------------------------------------------------
Name
------------------------------------------------------------------------
Address
------------------------------------------------------------------------
City/State/Zip
Date: ----------------------- Signed: ----------------------------------
Return to: AIG SunAmerica Life Assurance Company, Annuity Service Center,
P.O. Box 52499, Los Angeles, California 90054-0299
- --------------------------------------------------------------------------------
AIG SUNAMERICA LIFE ASSURANCE COMPANY
- --------------------------------------------------------------------------------
VARIABLE ANNUITY ACCOUNT SEVEN
SUPPLEMENT TO THE POLARIS II ASSET MANAGER PROSPECTUS
DATED AUGUST 30, 2004
THE DATE OF THE PROSPECTUS IS HEREBY CHANGED TO APRIL 29, 2005. ALL REFERENCES
IN THE PROSPECTUS TO THE DATE OF THE STATEMENT OF ADDITIONAL INFORMATION ARE
HEREBY CHANGED TO APRIL 29, 2005.
THE INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE AND SECURITIES AND EXCHANGE
COMMISSION POSITION ON INDEMNIFICATION SECTIONS ON PAGE 2 OF THE PROSPECTUS ARE
DELETED IN THEIR ENTIRETY.
ALL REFERENCES TO "MARKET VALUE ADJUSTMENT" AND MVA FIXED ACCOUNTS ARE DELETED
THROUGHOUT THE PROSPECTUS. APPENDIX B - MARKET VALUE ADJUSTMENT ON PAGE B-1 OF
THE PROSPECTUS IS DELETED IN ITS ENTIRETY.
THE FOLLOWING IS ADDED TO THE GLOSSARY ON PAGE 3 OF THE PROSPECTUS:
Fixed Account - An account that we may offer in which you may invest money and
earn a fixed rate of return.
Market Close - The close of the New York Stock Exchange, usually 1:00 p.m.
Pacific Time.
Trust - Collectively refers to the Anchor Series Trust and SunAmerica Series
Trust.
Underlying Funds - The underlying investment portfolios of the Trusts in which
the Variable Portfolios invest.
THE FOLLOWING REPLACES THE PORTFOLIO EXPENSES IN THE FEE TABLES ON PAGE 6 OF THE
PROSPECTUS:
PORTFOLIO EXPENSES
TOTAL ANNUAL TRUST OPERATING EXPENSES MINIMUM MAXIMUM
(expenses that are deducted from the underlying
portfolios of the Trusts, including management
fees, other expenses and service (12b-1) fees,
if applicable)......................................... 0.56% 1.60%
---- ----
THE FOLLOWING REPLACES THE EXPENSE EXAMPLES ON PAGE 6 OF THE PROSPECTUS:
MAXIMUM AND MINIMUM EXPENSE EXAMPLES
MAXIMUM EXPENSE
EXAMPLES
(assuming maximum separate account annual expenses of 1.10% (including Estate
Plus) and investment in an underlying portfolio with total expenses of 1.60%.).
(1) If you surrender your contract at the end of the applicable time period:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$273 $838 $1,430 $3,032
(2) If you annuitize your contract at the end of the applicable time period:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$248 $764 $1,306 $2,786
(3) If you do not surrender your contract:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$273 $838 $1,430 $3,032
Page 1 of 6
MINIMUM EXPENSE EXAMPLES
(assuming minimum separate account annual expenses of 0.85% and investment in an
underlying portfolio with total expenses of 0.55%.)
(1) If you surrender your contract at the end of the applicable time period
and you do not elect any optional features:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$144 $446 $771 $1,691
(2) If you annuitize your contract at the end of the applicable time period:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$144 $446 $771 $1,691
(3) If you do not surrender your contract and you do not elect any optional
features:
1 YEAR 3 YEARS 5 YEARS 10 YEARS
$144 $446 $771 $1,691
THE FOLLOWING REPLACES THE SECTION ENTITLED TRANSFERS DURING THE ACCUMULATION
PHASE ON PAGE 10 OF THE PROSPECTUS:
TRANSFERS DURING THE ACCUMULATION PHASE
- --------------------------------------------------------------------------------
Subject to our rules, restrictions and policies, during the Accumulation Phase
you may transfer funds between the Variable Portfolios and/or any available
Fixed Account options by telephone or through the Company's website
(http://www.aigsunamerica.com) or in writing by mail or facsimile. All transfer
instructions submitted via facsimile must be sent to (818) 615-1543, otherwise
they will not be considered received by us. We may accept transfers by telephone
or the Internet unless you tell us not to on your contract application. When
receiving instructions over the telephone or the Internet, we follow procedures
we have adopted to provide reasonable assurance that the transactions executed
are genuine. Thus, we are not responsible for any claim, loss or expense from
any error resulting from instructions received over the telephone or the
Internet. If we fail to follow our procedures, we may be liable for any losses
due to unauthorized or fraudulent instructions.
Any transfer request will be priced as of the day it is confirmed in good order
by us if the request is processed before Market Close. If the transfer request
is processed after Market Close, the request will be priced as of the next
business day.
Funds already in your contract cannot be transferred into the DCA Fixed
Accounts. You must transfer at least $100 per transfer. If less than $100
remains in any Variable Portfolio after a transfer, that amount must be
transferred as well.
TRANSFER POLICIES
We do not want to issue this variable annuity contract to contract owners
engaged in trading strategies that seek to benefit from short-term price
fluctuations or price inefficiencies in the Variable Portfolios of this product
("Short-Term Trading") and we discourage Short-Term Trading as more fully
described below. However, we cannot always anticipate if a potential contract
owner intends to engage in Short-Term Trading. Short-Term Trading may create
risks that may result in adverse effects on investment return of an underlying
fund. Such risks may include, but are not limited to: (1) interference with the
management and planned investment strategies of an Underlying Fund and/or (2)
increased brokerage and administrative costs due to forced and unplanned fund
turnover; both of which may dilute the value of the shares in the Underlying
Fund and reduce value for all investors in the Variable Portfolio. In addition
to negatively impacting the contract owner, a reduction in contract value may
also be harmful to annuitants and/or beneficiaries.
We have adopted the following administrative procedures to discourage Short-Term
Trading.
We charge for transfers in excess of 15 in any contract year. Currently, the fee
is $25 for each transfer exceeding this limit. Transfers resulting from your
participation in the DCA or Asset Rebalancing programs are not counted towards
the number of free transfers per contract year.
Page 2 of 6
In addition to charging a fee when you exceed 15 transfers as described in the
preceding paragraph, all transfer requests in excess of 5 transfers within a
rolling six-month look-back period must be submitted by United States Postal
Service first-class mail ("U.S. Mail") for twelve months from the date of your
5th transfer request ("Standard U.S. Mail Policy"). For example, if you made a
transfer on February 15, 2004 and within the previous six months (from August
15, 2003 forward) you made 5 transfers including the February 15th transfer,
then all transfers made for twelve months after February 15, 2004 must be
submitted by U.S. Mail (from February 16, 2004 through February 15, 2005). We
will not accept transfer requests sent by any other medium except U.S. Mail
during this 12-month period. Transfer requests required to be submitted by U.S.
Mail can only be cancelled by a written request sent by U.S. Mail with the
appropriate paperwork received prior to the execution of the transfer. All
transfers made on the same day prior to Market Close are considered one transfer
request. Transfers resulting from your participation in the DCA or Asset
Rebalancing programs are not included for the purposes of determining the number
of transfers before applying the Standard U.S. Mail Policy. We apply the
Standard U.S. Mail Policy uniformly and consistently to all contract owners
except for omnibus group contracts as described below.
We believe that the Standard U.S. Mail Policy is a sufficient deterrent to
Short-Term Trading and we do not conduct any additional routine monitoring.
However, we may become aware of transfer patterns among the Variable Portfolios
and/or available Fixed Accounts which reflect what we consider to be Short-Term
Trading or otherwise detrimental to the Variable Portfolios but have not yet
triggered the limitations of the Standard U.S. Mail Policy described above. If
such transfer activity cannot be controlled by the Standard U.S. Mail Policy, we
may require you to adhere to our Standard U.S. Mail Policy prior to reaching the
specified number of transfers ("Accelerated U.S. Mail Policy"). To the extent we
become aware of Short-Term Trading activities which cannot be reasonably
controlled by the Standard U.S. Mail Policy or the Accelerated U.S. Mail Policy,
we also reserve the right to evaluate, in our sole discretion, whether to impose
further limits on the number and frequency of transfers you can make, impose
minimum holding periods and/or reject any transfer request or terminate your
transfer privileges. We will notify you in writing if your transfer privileges
are terminated. In addition, we reserve the right to not accept transfers from a
third party acting for you and not to accept preauthorized transfer forms. .
Some of the factors we may consider when determining whether to accelerate the
Standard U.S. Mail Policy, reject or impose other conditions on transfer
privileges include:
(1) the number of transfers made in a defined period;
(2) the dollar amount of the transfer;
(3) the total assets of the Variable Portfolio involved in the
transfer and/or transfer requests that represent a significant
portion of the total assets of the Variable Portfolio;
(4) the investment objectives and/or asset classes of the particular
Variable Portfolio involved in your transfers;
(5) whether the transfer appears to be part of a pattern of
transfers to take advantage of short-term market fluctuations or
market inefficiencies; and/or
(6) other activity, as determined by us, that creates an appearance,
real or perceived, of Short-Term Trading.
Notwithstanding the administrative procedures above, there are limitations on
the effectiveness of these procedures. Our ability to detect and/or deter
Short-Term Trading is limited by operational systems and technological
limitations. We cannot guarantee that we will detect and/or deter all Short-Term
Trading. To the extent that we are unable to detect and/or deter Short-Term
Trading, the Variable Portfolios may be negatively impacted as described above.
Additionally, the Variable Portfolios may be harmed by transfer activity related
to other insurance companies and/or retirement plans or other investors that
invest in shares of the Underlying Fund. You should be aware that the design of
our administrative procedures involves inherently subjective decisions, which we
attempt to make in a fair and reasonable manner consistent with the interests of
all owners of this contract. We do not enter into agreements with contract
owners whereby we permit or intentionally disregard Short-Term Trading.
The Standard and Accelerated U.S. Mail Policies are applied uniformly and
consistently to contract owners utilizing third party trading services
performing asset allocation services for a number of contract owners at the same
time. You should be aware that such third party trading services may engage in
transfer activities that can also be
Page 3 of 6
detrimental to the Variable Portfolios. These transfer activities may not be
intended to take advantage of short-term price fluctuations or price
inefficiencies. However, such activities can create the same or similar risks to
Short-Term Trading and negatively impact the Variable Portfolios as described
above.
Omnibus group contracts may invest in the same Underlying Funds available in
your contract but on an aggregate, not individual basis. Thus, we have limited
ability to detect Short-Term Trading in omnibus group contracts and the Standard
U.S. Mail Policy does not apply to these contracts. Our inability to detect
Short-Term Trading may negatively impact the Variable Portfolios as described
above.
WE RESERVE THE RIGHT TO MODIFY THE POLICIES AND PROCEDURES DESCRIBED IN THIS
SECTION AT ANY TIME. To the extent that we exercise this reservation of rights,
we will do so uniformly and consistently unless we disclose otherwise.
For information regarding transfers during the Income Phase, SEE INCOME OPTIONS
BELOW.
THE FOLLOWING IS ADDED AS THE LAST PARAGRAPH OF THE GENERAL ACCOUNT SECTION ON
PAGE 21 OF THE PROSPECTUS:
The Company has a support agreement in effect between the Company and its
ultimate parent company, American International Group, Inc. ("AIG"), and the
Company's insurance policy obligations are guaranteed by American Home Assurance
Company, a subsidiary of AIG. See the Statement of Additional Information for
more information regarding these arrangements.
THE FOLLOWING REPLACES THE SECTION ENTITLED PAYMENTS IN CONNECTION WITH
DISTRIBUTION OF THE CONTRACT ON PAGE 21 OF THE PROSPECTUS:
PAYMENTS IN CONNECTION WITH DISTRIBUTION OF THE CONTRACT
PAYMENTS TO BROKER-DEALERS
Registered representatives of broker-dealers sell the contract. We pay
commissions to the broker-dealers for the sale of your contract ("Contract
Commissions"). There are different structures by which a broker-dealer can
choose to have their Contract Commissions paid. For example, as one option, we
may pay upfront Contract Commission only, that may be up to a maximum 5.0% of
each Purchase Payment you invest (which may include promotional amounts).
Another option may be a lower upfront Contract Commission on each Purchase
Payment, with a trail commission of up to a maximum 1.0% of contract value
annually. Generally, the higher the upfront commissions, the lower the trail and
vice versa. We pay Contract Commissions directly to the broker-dealer with whom
your registered representative is affiliated. Registered representatives may
receive a portion of these amounts we pay in accordance with any agreement in
place between the registered representative and his/her broker-dealer firm.
We may pay broker-dealers support fees in the form of additional cash or
non-cash compensation. These payments may be intended to reimburse for specific
expenses incurred or may be based on sales, certain assets under management,
longevity of assets invested with us or a flat fee. These payments may be
consideration for, among other things, product placement/preference, greater
access to train and educate the firm's registered representatives about our
products, our participation in sales conferences and educational seminars and
allowing broker-dealers to perform due diligence on our products. The amount of
these fees may be tied to the anticipated level of our access in that firm. We
enter into such arrangements in our discretion and we may negotiate customized
arrangements with firms, including affiliated and non-affiliated broker-dealers
based on various factors. We do not deduct these amounts directly from your
Purchase Payments. We anticipate recovering these amounts from the fees and
charges collected under the contract.
Contract commissions and other support fees may influence the way that a
broker-dealer and its registered representatives market the contracts and
service customers who purchase the contracts and may influence the broker-
dealer and its registered representatives to present this contract over others
available in the market place. You should discuss with your broker-dealer and/or
registered representative how they are compensated for sales of a contract
Page 4 of 6
and/or any resulting real or perceived conflicts of interest.
AIG SunAmerica Capital Services, Inc., Harborside Financial Center, 3200 Plaza
5, Jersey City, NJ 07311-4992, distributes the contracts. AIG SunAmerica Capital
Services, an affiliate of AIG SunAmerica Life, is a registered broker-dealer
under the Exchange Act of 1934 and is a member of the National Association of
Securities Dealers, Inc. No underwriting fees are paid in connection with the
distribution of the contracts.
PAYMENTS WE RECEIVE
In addition to amounts received pursuant to established 12b-1 Plans from the
Underlying Funds, we receive compensation of up to 0.50% annually based on
assets under management from certain Trusts' investment advisers or their
affiliates for services related to the availability of the Underlying Funds in
the contract. We receive such payments in connection with each of the Trusts
available in this Contract with the exception of AFIS. Such amounts received
from our affiliate, AIG SAAMCo, are paid pursuant to a profit sharing agreement
and is not expected to exceed 0.50%. Furthermore, certain investment advisers
and/or subadvisers may help offset the costs we incur for training to support
sales of the Underlying Funds in the contract.
THE FOLLOWING REPLACES THE LEGAL PROCEEDINGS SECTION IN ITS ENTIRETY ON PAGE 22
OF PROSPECTUS:
There are no pending legal proceedings affecting the Separate Account. The
Company and its subsidiaries are parties to various kinds of litigation
incidental to their respective business operations. In management's opinion,
these matters are not material in relation to the financial position of the
Company with the exception of the matter disclosed below.
A purported class action captioned Nitika Mehta, as Trustee of the N.D. Mehta
Living Trust vs. AIG SunAmerica Life Assurance Company, Case 04L0199, was filed
on April 5, 2004 in the Circuit Court, Twentieth Judicial District in St. Clair
County, Illinois. The action has been transferred to and is currently pending in
the United States District Court for the District of Maryland, Case No.
04-md-15863, as part of a Multi-District Litigation proceeding. The lawsuit
alleges certain improprieties in conjunction with alleged market timing
activities. The probability of any particular outcome cannot be reasonably
estimated at this time.
AIG has announced that it has delayed filing its Annual Report on Form 10-K for
the year ended December 31, 2004 to allow AIG's Board of Directors and new
management adequate time to complete an extensive review of AIG's books and
records. The review includes issues arising from pending investigations into
non-traditional insurance products and certain assumed reinsurance transactions
by the Office of the Attorney General for the State of New York and the
Securities and Exchange Commission and from AIG's decision to review the
accounting treatment of certain additional items. Circumstances affecting AIG
can have an impact on the Company. For example, the recent downgrades and
ratings actions taken by the major rating agencies with respect to AIG resulted
in corresponding downgrades and ratings actions being taken with respect to the
Company's ratings. Accordingly, we can give no assurance that any further
changes in circumstances for AIG will not impact us.
Page 5 of 6
Date: April 29, 2005
Please keep this Supplement with your Prospectus.
`
[POLARIS(II) ASSET MANAGER LOGO]
PROSPECTUS
AUGUST 30, 2004
<Table>
Please read this prospectus carefully FLEXIBLE PAYMENT DEFERRED ANNUITY CONTRACTS
before investing and keep it for issued by
future reference. It contains AIG SUNAMERICA LIFE ASSURANCE COMPANY
important information about the in connection with
Polaris(II) Asset Manager Variable VARIABLE ANNUITY ACCOUNT SEVEN
Annuity. The annuity has several investment choices -- fixed account options and
Variable Portfolios listed below. The fixed account options include
To learn more about the annuity different specified periods and DCA accounts. The Variable Portfolios are
offered by this prospectus, you can part of the Anchor Series Trust ("AST") and the SunAmerica Series Trust
obtain a copy of the Statement of ("SST").
Additional Information ("SAI") dated
August 30, 2004. The SAI is on file STOCKS:
with the Securities and Exchange MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
Commission ("SEC") and is - Aggressive Growth Portfolio SST
incorporated by reference into this - Blue Chip Growth Portfolio SST
prospectus. The Table of Contents of - "Dogs" of Wall Street Portfolio* SST
the SAI appears below in this - Growth Opportunities Portfolio SST
prospectus. For a free copy of the MANAGED BY ALLIANCE CAPITAL MANAGEMENT L.P.
SAI, call us at (800) 445-SUN2 or - Alliance Growth Portfolio SST
write to us at our Annuity Service - Global Equities Portfolio SST
Center, P.O. Box 54299, Los Angeles, - Growth-Income Portfolio SST
California 90054-0299. MANAGED BY DAVIS ADVISERS
- Davis Venture Value Portfolio SST
In addition, the SEC maintains a - Real Estate Portfolio SST
website (http://www.sec.gov) that MANAGED BY FEDERATED INVESTMENT COUNSELING
contains the SAI, materials - Federated American Leaders Portfolio* SST
incorporated by reference and other - Telecom Utility Portfolio SST
information filed electronically with MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT
the SEC by AIG SunAmerica Life - Goldman Sachs Research Portfolio SST
Assurance Company. MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Massachusetts Investors Trust Portfolio SST
Annuities involve risks, including - MFS Mid-Cap Growth Portfolio SST
possible loss of principal. Annuities MANAGED BY PUTNAM INVESTMENT MANAGEMENT INC.
are not a deposit or obligation of, - Emerging Markets Portfolio SST
or guaranteed or endorsed by, any - International Growth and Income Portfolio SST
bank. They are not Federally insured - Putnam Growth: Voyager Portfolio SST
by the Federal Deposit Insurance MANAGED BY VAN KAMPEN
Corporation, the Federal Reserve - International Diversified Equities Portfolio SST
Board or any other agency. - Technology Portfolio SST
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Capital Appreciation Portfolio AST
- Growth Portfolio AST
BALANCED:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- SunAmerica Balanced Portfolio SST
MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Total Return Portfolio SST
MANAGED BY WM ADVISORS, INC.
- Asset Allocation Portfolio AST
BONDS:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- High-Yield Bond Portfolio SST
MANAGED BY FEDERATED INVESTMENT COUNSELING
- Corporate Bond Portfolio SST
MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT INT'L.
- Global Bond Portfolio SST
MANAGED BY VAN KAMPEN
- Worldwide High Income Portfolio SST
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Government & Quality Bond Portfolio AST
CASH:
MANAGED BY BANC OF AMERICA CAPITAL MANAGEMENT, LLC
- Cash Management Portfolio SST
* "Dogs" of Wall Street is an equity fund seeking total return. Federated
American Lenders is an equity fund seeking growth of capital and income.
</Table>
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION, NOR HAS THE COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY
OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<Table>
-----------------------------------------------------------------------
-----------------------------------------------------------------------
TABLE OF CONTENTS
-----------------------------------------------------------------------
-----------------------------------------------------------------------
GLOSSARY........................................................ 2
HIGHLIGHTS...................................................... 3
FEE TABLES...................................................... 4
Maximum Owner Transaction Expenses........................ 4
Withdrawal/Sales Charge................................... 4
Transfer Fee.............................................. 4
Contract Maintenance Fee.................................. 4
Separate Account Annual Expenses.......................... 4
Portfolio Expenses........................................ 4
EXAMPLES........................................................ 5
THE POLARIS(II) ASSET MANAGER VARIABLE ANNUITY.................. 6
PURCHASING A POLARIS(II) ASSET MANAGER VARIABLE ANNUITY......... 6
Allocation of Purchase Payments........................... 7
Accumulation Units........................................ 7
Right to Examine.......................................... 7
Exchange Offers........................................... 7
INVESTMENT OPTIONS.............................................. 8
Variable Portfolios....................................... 8
Anchor Series Trust................................... 8
SunAmerica Series Trust............................... 8
Fixed Account Options..................................... 9
Dollar Cost Averaging Fixed Accounts...................... 9
Transfers During the Accumulation Phase................... 9
Dollar Cost Averaging Program............................. 10
Automatic Asset Rebalancing Program....................... 11
Return Plus Program....................................... 11
Voting Rights............................................. 11
Substitution.............................................. 12
ACCESS TO YOUR MONEY............................................ 12
Systematic Withdrawal Program............................. 12
Minimum Contract Value.................................... 12
DEATH BENEFIT................................................... 12
Purchase Payment Accumulation Option...................... 13
Maximum Anniversary Option................................ 13
EstatePlus................................................ 14
Spousal Continuation...................................... 15
EXPENSES........................................................ 15
Separate Account Charges.................................. 15
Investment Charges........................................ 15
Transfer Fee.............................................. 15
Optional EstatePlus Fee................................... 15
Premium Tax............................................... 15
Income Taxes.............................................. 15
Reduction or Elimination of Charges and Expenses, and
Additional Amounts Credited.............................. 15
INCOME OPTIONS.................................................. 16
Annuity Date.............................................. 16
Income Options............................................ 16
Fixed or Variable Income Payments......................... 17
Income Payments........................................... 17
Transfers During the Income Phase......................... 17
Deferment of Payments..................................... 17
TAXES........................................................... 17
Annuity Contracts in General.............................. 17
Tax Treatment of Distributions - Non-Qualified
Contracts................................................ 18
Tax Treatment of Distributions - Qualified Contracts...... 18
Minimum Distributions..................................... 18
Tax Treatment of Death Benefits........................... 19
Contracts Owned by a Trust or Corporation................. 19
Gifts, Pledges and/or Assignments of a Non-Qualified
Contract................................................. 19
Diversification and Investor Control...................... 19
PERFORMANCE..................................................... 20
OTHER INFORMATION............................................... 20
The Separate Account...................................... 20
The General Account....................................... 20
Payments in Connection with Distribution of the
Contract................................................. 20
Administration............................................ 21
Legal Proceedings......................................... 21
TABLE OF CONTENTS OF STATEMENT OF ADDITIONAL
INFORMATION................................................... F-56
APPENDIX A -- CONDENSED FINANCIAL INFORMATION................... A-1
APPENDIX B -- DEATH BENEFITS FOLLOWING SPOUSAL CONTINUATION..... B-1
APPENDIX C -- MARKET VALUE ADJUSTMENT ("MVA")................... C-1
-----------------------------------------------------------------------
-----------------------------------------------------------------------
GLOSSARY
-----------------------------------------------------------------------
-----------------------------------------------------------------------
We have capitalized some of the technical terms used in this
prospectus. To help you understand these terms, we have defined them in
this glossary.
ACCUMULATION PHASE - The period during which you invest money in your
contract.
ACCUMULATION UNITS - A measurement we use to calculate the value of the
variable portion of your contract during the Accumulation Phase.
ANNUITANT(S) - The person(s) on whose life (lives) we base income
payments.
ANNUITY DATE - The date on which income payments are to begin, as
selected by you.
ANNUITY UNITS - A measurement we use to calculate the amount of income
payments you receive from the variable portion of your contract during
the Income Phase.
BENEFICIARY - The person designated to receive any benefits under the
contract if you or the Annuitant dies.
COMPANY - AIG SunAmerica Life Assurance Company, AIG SunAmerica Life,
we, us, our, the issuer of this annuity contract.
PURCHASE PAYMENTS - The money you give us to buy the contract, as well
as any additional money you give us to invest in the contract after you
own it.
INCOME PHASE - The period during which we make income payments to you.
IRS - The Internal Revenue Service.
LATEST ANNUITY DATE - Your 95th birthday or tenth contract anniversary,
whichever is later.
NON-QUALIFIED (CONTRACT) - A contract purchased with after-tax dollars.
In general, these contracts are not under any pension plan, specially
sponsored program or individual retirement account ("IRA").
PURCHASE PAYMENTS - The portion of your Gross Purchase Payments which
we invest in your contract. We calculate this amount by deducting the
applicable sales charge from your Gross Purchase Payments.
QUALIFIED (CONTRACT) - A contract purchased with pre-tax dollars. These
contracts are generally purchased under a pension plan, specially
sponsored program or IRA.
TRUSTS - Refers to the Anchor Series Trust and the SunAmerica Series
Trust collectively.
VARIABLE PORTFOLIO(S) - The variable investment options available under
the contract. Each Variable Portfolio has its own investment objective
and is invested in the underlying investments of the Anchor Series
Trust and the SunAmerica Series Trust. The underlying investment
portfolio may be referred to as Underlying Funds.
</Table>
2
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
HIGHLIGHTS
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
The Polaris(II) Asset Manager Variable Annuity is a contract between you and AIG
SunAmerica Life Assurance Company ("AIG SunAmerica Life"). It is designed to
help you invest on a tax-deferred basis and meet long-term financial goals. This
variable annuity may only be purchased through a Registered Investment Adviser
("RIA") who is providing investment advisory services to you. Purchase Payments
may be invested in a variety of variable and fixed account options. Like all
deferred annuities, the contract has an Accumulation Phase and an Income Phase.
During the Accumulation Phase, you invest money in your contract. The Income
Phase begins when you start receiving income payments from your annuity to
provide for your retirement.
RIGHT TO EXAMINE: You may cancel your contract within 10 days after receiving it
(or whatever period is required in your state). You will receive whatever your
contract is worth on the day that we receive your request plus any sales charge
we deducted. The amount refunded may be more or less than your original Purchase
Payment. We will return your original Purchase Payment if required by law.
Please see PURCHASING A POLARIS(II) ASSET MANAGER VARIABLE ANNUITY in the
prospectus.
EXPENSES: There are fees and charges associated with the contract. We deduct
separate account charges which equal 0.85% annually of the average daily value
of your contract allocated to the Variable Portfolios. There are investment
charges on amounts invested in the Variable Portfolios. If you elect optional
features available under the contract we may charge additional fees for those
features. You may be charged a fee by your RIA for the services he or she
provides to you. That fee is independent of the fees and charges that will be
incurred as a result of your purchase of this variable annuity. Please see the
FEE TABLE, PURCHASING A POLARIS(II) ASSET MANAGER VARIABLE ANNUITY and EXPENSES
in the prospectus.
ACCESS TO YOUR MONEY: You may withdraw money from your contract during the
Accumulation Phase. If you do so, earnings are deemed to be withdrawn first. You
will pay income taxes on earnings and untaxed contributions when you withdraw
them. Payments received during the Income Phase are considered partly a return
of your original investment. A federal tax penalty may apply if you make
withdrawals before age 59 1/2. Please see ACCESS TO YOUR MONEY and TAXES in the
prospectus.
DEATH BENEFIT: A death benefit feature is available under the contract to
protect your Beneficiaries in the event of your death during the Accumulation
Phase. Please see DEATH BENEFITS in the prospectus.
INCOME OPTIONS: When you are ready to begin taking income, you can choose to
receive income payments on a variable basis, fixed basis or a combination of
both. You may also chose from five different income options, including an option
for income that you cannot outlive. Please see INCOME OPTIONS in the prospectus.
INQUIRIES: If you have questions about your contract call your financial advisor
or contact us at AIG SunAmerica Life Assurance Company Annuity Service Center
P.O. Box 54299 Los Angeles, California 90054-0299. Telephone Number: (800)
445-SUN2.
AIG SUNAMERICA LIFE OFFERS SEVERAL VARIABLE ANNUITY PRODUCTS TO MEET THE DIVERSE
NEEDS OF OUR INVESTORS. EACH PRODUCT MAY PROVIDE DIFFERENT FEATURES AND BENEFITS
OFFERED AT DIFFERENT FEES, CHARGES AND EXPENSES. WHEN WORKING WITH YOUR
FINANCIAL ADVISOR TO DETERMINE THE BEST PRODUCT TO MEET YOUR NEEDS, YOU SHOULD
CONSIDER, AMONG OTHER THINGS, WHETHER THE FEATURES OF THIS CONTRACT AND THE
RELATED FEES PROVIDE THE MOST APPROPRIATE PACKAGE TO HELP YOU MEET YOUR
LONG-TERM RETIREMENT SAVINGS GOALS.
PLEASE READ THE PROSPECTUS CAREFULLY FOR MORE DETAILED INFORMATION REGARDING
THESE AND OTHER FEATURES AND BENEFITS OF THE CONTRACT, AS WELL AS THE RISKS OF
INVESTING.
3
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
FEE TABLES
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
THE FOLLOWING DESCRIBES THE FEES AND EXPENSES THAT YOU WILL PAY AT THE TIME THAT
YOU BUY THE CONTRACT, TRANSFER CASH VALUE BETWEEN INVESTMENT OPTIONS OR
SURRENDER THE CONTRACT. IF APPLICABLE, YOU MAY ALSO BE SUBJECT TO STATE PREMIUM
TAXES.
MAXIMUM OWNER TRANSACTION EXPENSES
<Table>
WITHDRAWAL/SALES CHARGE................................... None
</Table>
<Table>
TRANSFER FEE......................... No charge for the first 18 transfers
each contract year; thereafter,
the fee is $25 ($10 in
Pennsylvania and Texas) per
transfer
</Table>
THE FOLLOWING DESCRIBES THE FEES AND EXPENSES THAT YOU WILL PAY PERIODICALLY
DURING THE TIME THAT YOU OWN THE CONTRACT, NOT INCLUDING UNDERLYING PORTFOLIO
FEES AND EXPENSES WHICH ARE OUTLINED IN THE NEXT SECTION.
CONTRACT MAINTENANCE FEE.................................................. None
SEPARATE ACCOUNT ANNUAL EXPENSES
(DEDUCTED DAILY AS A PERCENTAGE OF YOUR AVERAGE DAILY NET ASSET VALUE)
<Table>
Mortality and Expense Risk Fees....................... 0.70%
Distribution Expense Charge........................... 0.15%
Optional EstatePlus Fee(1)............................ 0.25%
-----
TOTAL SEPARATE ACCOUNT ANNUAL EXPENSES.............. 1.10%
=====
</Table>
THE FOLLOWING SHOWS THE MINIMUM AND MAXIMUM TOTAL OPERATING EXPENSES CHARGED BY
THE UNDERLYING PORTFOLIOS OF THE TRUSTS BEFORE ANY WAIVERS OR REIMBURSEMENTS
THAT YOU MAY PAY PERIODICALLY DURING THE TIME THAT YOU OWN THE CONTRACT. MORE
DETAIL CONCERNING TRUSTS' FEES AND EXPENSES IS CONTAINED IN THE PROSPECTUS FOR
EACH THE TRUSTS. PLEASE READ THEM CAREFULLY BEFORE INVESTING.
PORTFOLIO EXPENSES
<Table>
<Caption>
TOTAL ANNUAL TRUST OPERATING EXPENSES MINIMUM MAXIMUM
- ------------------------------------- ------- -------
(expenses that are deducted from Trust assets, including
management fees, 12b-1 fees, and other expenses)............ 0.54% 1.66%
</Table>
FOOTNOTE TO THE FEE TABLES
(1) EstatePlus, an enhanced death benefit feature is optional. If you do not
elect the EstatePlus feature, your total separate account annual expenses
would be 0.85%.
4
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
MAXIMUM AND MINIMUM EXPENSE EXAMPLES
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
These Examples are intended to help you compare the cost of investing in the
contract with the cost of investing in other variable annuity contracts. These
costs include owner transaction expenses, separate account annual expenses, fees
for optional features and expenses of the underlying portfolios of the Trusts.
The Examples assume that you invest $10,000 in the contract for the time periods
indicated; that your investment has a 5% return each year; and that the maximum
and minimum fees and expenses of the underlying portfolios of the Trusts are
reflected. Although your actual costs may be higher or lower, based on these
assumptions, your costs at the end of the stated period would be:
MAXIMUM EXPENSE EXAMPLES
(ASSUMING MAXIMUM SEPARATE ACCOUNT ANNUAL EXPENSES OF 1.10%, (INCLUDING
ESTATEPLUS) AND INVESTMENT IN AN UNDERLYING PORTFOLIO WITH TOTAL EXPENSES OF
1.66%)
(1) If you do not surrender your contract and you elect the optional Estate Plus
(0.25%) feature:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$279 $856 $1,459 $3,090
- ---------------------------------------------
- ---------------------------------------------
</Table>
(2) If you annuitize your contract at the end of the applicable time period:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$254 $782 $1,335 $2,846
- ---------------------------------------------
- ---------------------------------------------
</Table>
(3) If you do not surrender your contract and you elect the optional Estate Plus
(0.25%) feature:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$279 $856 $1,459 $3,090
- ---------------------------------------------
- ---------------------------------------------
</Table>
MINIMUM EXPENSE EXAMPLES
(ASSUMING MINIMUM SEPARATE ACCOUNT ANNUAL EXPENSES OF 0.85% AND INVESTMENT IN AN
UNDERLYING PORTFOLIO WITH TOTAL EXPENSES OF 0.54%)
(1) If you surrender your contract at the end of the applicable time period and
you do not elect any optional features:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$142 $440 $761 $1,669
- ---------------------------------------------
- ---------------------------------------------
</Table>
(2) If you annuitize your contract at the end of the applicable time period:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$142 $440 $761 $1,669
- ---------------------------------------------
- ---------------------------------------------
</Table>
(3) If you do not surrender your contract and you do not elect any optional
features:
<Table>
<Caption>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ---------------------------------------------
- ---------------------------------------------
$142 $440 $761 $1,669
- ---------------------------------------------
- ---------------------------------------------
</Table>
EXPLANATION OF FEE TABLES AND EXAMPLES
1. The purpose of the Fee Tables is to show you the various expenses you would
incur directly and indirectly by investing in the contract. The tables
represented both fees at the separate account level as well as underlying
portfolio fees. Additional information on the underlying portfolio fees can
be found in the Trust prospectuses.
2. In addition to the stated assumptions, the Examples also assume separate
account charges as indicated and that no transfer fees were imposed.
Although premium taxes may apply in certain states, they are not reflected
in the Examples. These examples do not reflect any fees charged by your RIA
for the services he or she provides to you.
3. THESE EXAMPLES SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN.
THE HISTORICAL ACCUMULATION VALUES ARE CONTAINED IN APPENDIX A -- CONDENSED
FINANCIAL INFORMATION.
5
- ----------------------------------------------------------------
- ----------------------------------------------------------------
THE POLARIS(II) ASSET MANAGER
VARIABLE ANNUITY
- ----------------------------------------------------------------
- ----------------------------------------------------------------
An annuity is a contract between you and an insurance company. You are the owner
of the contract. The contract provides three main benefits:
- Tax Deferral: This means that you do not pay taxes on your earnings from
the annuity until you withdraw them.
- Death Benefit: If you die during the Accumulation Phase, the insurance
company pays a death benefit to your Beneficiary.
- Guaranteed Income: If elected, you receive a stream of income for your
lifetime, or another available period you select.
Tax-qualified retirement plans (e.g., IRAs, 401(k) or 403(b) plans) defer
payment of taxes on earnings until withdrawal. If you are considering funding a
tax-qualified retirement plan with an annuity, you should know that an annuity
does not provide any additional tax deferral treatment of earnings beyond the
treatment provided by the tax-qualified retirement plan itself. However,
annuities do provide other features and benefits which may be valuable to you.
You should fully discuss your purchase decision with your financial
representative.
This annuity was developed to help you contribute to your retirement savings.
This annuity works in two stages, the Accumulation Phase and the Income Phase.
Your contract is in the Accumulation Phase during the period when you make
payments into the contract. The Income Phase begins when you request us to start
making income payments to you out of the money accumulated in your contract.
The contract is called a "variable" annuity because it allows you to invest in
portfolios which, like mutual funds, vary with market conditions. You can gain
or lose money if you invest in these Variable Portfolios. The amount of money
you accumulate in your contract depends on the performance of the Variable
Portfolios in which you invest.
The contract may offer fixed account options for varying time periods. If
available, fixed account options earn interest at a rate set and guaranteed by
AIG SunAmerica Life. If you allocate money to the fixed account options, the
amount of money that accumulates in the contract depends on the total interest
credited to the particular fixed account option(s) in which you invest.
For more information on investment options available under this contract SEE
INVESTMENT OPTIONS BELOW.
This annuity is designed to assist in contributing to retirement savings of
investors whose personal circumstances allow for a long-term investment time
horizon. As a function of the Internal Revenue Code ("IRC"), you may be assessed
a 10% federal tax penalty on the taxable portion of any withdrawal made prior to
your reaching age 59 1/2.
AIG SunAmerica Life Assurance Company (AIG SunAmerica Life, the Company, us, we)
issues the Polaris(II) Asset Manager Variable Annuity. When you purchase a
Polaris(II) Asset Manager Variable Annuity, a contract exists between you and
AIG SunAmerica Life. The Company is a stock life insurance company organized
under the laws of the state of Arizona. Its principal place of business is 1
SunAmerica Center, Los Angeles, California 90067. The Company conducts life
insurance and annuity business in the District of Columbia and all states except
New York. AIG SunAmerica Life is an indirect, wholly owned subsidiary of
American International Group, Inc. ("AIG"), a Delaware corporation.
- ----------------------------------------------------------------
- ----------------------------------------------------------------
PURCHASING A POLARIS(II) ASSET MANAGER
VARIABLE ANNUITY
- ----------------------------------------------------------------
- ----------------------------------------------------------------
An initial Purchase Payment is the money you give us to buy a contract. Any
additional money you give us to invest in the contract after purchase is a
subsequent Purchase Payment.
The following chart shows the minimum initial and subsequent Purchase Payments
permitted under your contract. These amounts depend upon whether a contract is
Qualified or Non-qualified for tax purposes. FOR FURTHER EXPLANATION, SEE TAXES
BELOW.
<Table>
<Caption>
- -----------------------------------------------------------
Minimum Minimum
Initial Subsequent
Purchase Payment Purchase Payment
- -----------------------------------------------------------
Qualified $2,000 $250
- -----------------------------------------------------------
Non-Qualified $5,000 $500
- -----------------------------------------------------------
</Table>
We reserve the right to require company approval prior to accepting Purchase
Payments greater than $1,000,000. For contracts owned by a non-natural owner, we
reserve the right to require prior Company approval to accept Purchase Payments
greater than $250,000. Subsequent Purchase Payments that would cause total
Purchase Payments in all contracts issued by AIG SunAmerica Life and First
SunAmerica Life Insurance Company, an affiliate of the Company, to the same
owner to exceed these limits may also be subject to company pre-approval. We
reserve the right to change the amount at which pre-approval is required, at any
time. Also, once you have contributed at least the minimum initial Purchase
Payment, you can establish an optional automatic payment plan allows you to make
subsequent Purchase Payments of as little as $20.00.
We may refuse any Purchase Payment. In general, we will not issue a Qualified
contract to anyone who is age 70 1/2 or older, unless it is shown that the
minimum distribution required by the IRS is being made. In addition, we may not
issue a contract to anyone age 91 or older. You may not elect Estate Plus if you
are age 81 or older at the time of contract issue.
We allow spouses to jointly own this contract. However, the age of the older
spouse is used to determine the availability of
6
any age driven benefits. The addition of a joint owner after the contract has
been issued is contingent upon prior review and approval by the Company. If we
discover a misstatement of age, we reserve the right to fully pursue our
remedies including termination of the contract and/or revocation of any
age-driven benefit.
You may assign this contract before beginning the Income Phase by sending us a
written request for an assignment. Your rights and those of any other person
with rights under this contract will be subject to the assignment. WE RESERVE
THE RIGHT TO NOT RECOGNIZE ASSIGNMENTS IF IT CHANGES THE RISK PROFILE OF THE
OWNER OF THE CONTRACT, AS DETERMINED IN OUR SOLE DISCRETION. Please see the
Statement of Additional Information for details on the tax consequences of an
assignment.
ALLOCATION OF PURCHASE PAYMENTS
A Purchase Payment is the portion of your Purchase Payment which we invest in
your contract after we deduct the sales charge.
We invest your Purchase Payments in the fixed and variable investment options
according to your instructions. If we receive a Purchase Payment without
allocation instructions, we invest the money according to your last allocation
instructions. SEE INVESTMENT OPTIONS BELOW.
In order to issue your contract, we must receive your completed application,
Purchase Payment allocation instructions and any other required paperwork at our
principal place of business. We allocate your initial Purchase Payment within
two days of receiving it. If we do not have complete information necessary to
issue your contract, we will contact you. If we do not have the information
necessary to issue your contract within 5 business days we will send your money
back to you, or ask your permission to keep your money until we get the
information necessary to issue the contract.
ACCUMULATION UNITS
When you allocate a Purchase Payment to the Variable Portfolios, we credit your
contract with Accumulation Units of the separate account funding the Polaris(II)
Asset Manager variable annuity. We base the number of Accumulation Units you
receive on the value of the Variable Portfolio as of the day we receive your
money, if we receive it before 1 p.m. Pacific Time, or on the next business
day's unit value if we receive your money after 1 p.m. Pacific Time. The value
of an Accumulation Unit goes up and down based on the performance of the
Variable Portfolios.
We calculate the value of an Accumulation Unit each day that the New York Stock
Exchange ("NYSE") is open as follows:
1. Determining the total value of money invested in a particular Variable
Portfolio;
2. Subtracting from that amount all applicable insurance charges; and
3. Dividing this amount by the number of outstanding Accumulation Units at
the end of the given NYSE business day.
We determine the number of Accumulation Units credited to your contract by
dividing the Purchase Payment by the Accumulation Unit value for the specific
Variable Portfolio.
EXAMPLE:
We receive a $25,000 Purchase Payment from you on Wednesday which you
allocate to the Global Bond Portfolio. We determine that the value of an
Accumulation Unit for the Global Bond Portfolio is $11.10 when the NYSE
closes on Wednesday. We then divide $25,000 by $11.10 and credit your
contract on Wednesday night with 2252.52 Accumulation Units for the Global
Bond Portfolio.
Performance of the Variable Portfolios and the insurance charges under your
contract affect Accumulation Unit values. These factors cause the value of your
contract to go up and down.
RIGHT TO EXAMINE
You may cancel your contract within ten days after receiving it (or longer if
required by state law). We call this a "free look." To cancel, you must mail the
contract along with your free look request to our Annuity Service Center at P.O.
Box 54299, Los Angeles, California 90054-0299. Generally, we will refund the
value of your contract on the day we receive your request, plus the sales charge
we deducted. The amount refunded may be more or less than the amount you
originally invested.
Certain states require us to return your Purchase Payments upon a free look
request. Additionally, all contracts issued as an IRA require the full return of
Purchase Payments upon a free look. With respect to those contracts, we reserve
the right to put your money in the Cash Management Portfolio during the free
look period. If you cancel your contract during the free look period, we return
the greater of (1) your Purchase Payment; or (2) the value of your contract plus
the sales charge we deducted. At the end of the free look period, we allocate
your money according to your instructions.
EXCHANGE OFFERS
From time to time, we may offer to allow you to exchange an older variable
annuity issued by AIG SunAmerica Life or one of its affiliates, for a newer
product with more current features and benefits, also issued by AIG SunAmerica
Life or one of its affiliates. Such an exchange offer will be made in accordance
with applicable state and federal securities and insurance rules and
regulations. We will explain the specific terms and conditions of any such
exchange offer at the time the offer is made.
7
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INVESTMENT OPTIONS
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VARIABLE PORTFOLIOS
The Variable Portfolios invest in shares of the Anchor Series Trust and the
SunAmerica Series Trust, (the "Trusts"). Additional Variable Portfolios may be
available in the future. The Variable Portfolios are only available through the
purchase of certain insurance contracts.
AIG SunAmerica Asset Management Corp. ("AIG SAAMCo"), an indirect wholly-owned
subsidiary of AIG, is the investment adviser to the Trusts. The Trusts serve as
the underlying investment vehicles for other variable annuity contracts issued
by AIG SunAmerica Life, and other affiliated/unaffiliated insurance companies.
Neither AIG SunAmerica Life nor the Trusts believe that offering shares of the
Trusts in this manner disadvantages you. AIG SAAMCo monitors the Trusts for
potential conflicts.
The Variable Portfolios along with their respective subadvisers are listed
below:
ANCHOR SERIES TRUST -- CLASS 1
Wellington Management Company, LLP serves as subadviser to the Anchor Series
Trust portfolios. Anchor Series Trust ("AST") has investment portfolios in
addition to those listed below which are not available for investment under the
contract.
SUNAMERICA SERIES TRUST -- CLASS 1
Various subadvisers provide investment advice for the SunAmerica Series Trust
portfolios. SunAmerica Series Trust ("SST") has investment portfolios in
addition to those listed below which are not available for investment under the
contract.
STOCKS:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- Aggressive Growth Portfolio SST
- Blue Chip Growth Portfolio SST
- "Dogs" of Wall Street Portfolio* SST
- Growth Opportunities Portfolio SST
MANAGED BY ALLIANCE CAPITAL MANAGEMENT L.P.
- Alliance Growth Portfolio SST
- Global Equities Portfolio SST
- Growth-Income Portfolio SST
MANAGED BY DAVIS ADVISERS
- Davis Venture Value Portfolio SST
- Real Estate Portfolio SST
MANAGED BY FEDERATED INVESTMENT COUNSELING
- Federated American Leaders Portfolio* SST
- Telecom Utility Portfolio SST
MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT
- Goldman Sachs Research Portfolio SST
MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Massachusetts Investors Trust Portfolio SST
- MFS Mid-Cap Growth Portfolio SST
MANAGED BY PUTNAM INVESTMENT MANAGEMENT INC.
- Emerging Markets Portfolio SST
- International Growth & Income Portfolio SST
- Putnam Growth: Voyager Portfolio SST
MANAGED BY VAN KAMPEN
- International Diversified Equities Portfolio SST
- Technology Portfolio SST
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Capital Appreciation Portfolio AST
- Growth Portfolio AST
BALANCED:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- SunAmerica Balanced Portfolio SST
MANAGED BY MASSACHUSETTS FINANCIAL SERVICES COMPANY
- MFS Total Return Portfolio SST
MANAGED BY WM ADVISORS, INC.
- Asset Allocation Portfolio AST
BONDS:
MANAGED BY AIG SUNAMERICA ASSET MANAGEMENT CORP.
- High-Yield Bond Portfolio SST
MANAGED BY FEDERATED INVESTMENT COUNSELING
- Corporate Bond Portfolio SST
MANAGED BY GOLDMAN SACHS ASSET MANAGEMENT INT'L.
- Global Bond Portfolio SST
MANAGED BY VAN KAMPEN
- Worldwide High Income Portfolio SST
MANAGED BY WELLINGTON MANAGEMENT COMPANY LLP
- Government & Quality Bond Portfolio AST
CASH:
MANAGED BY BANC OF AMERICA CAPITAL MANAGEMENT, LLC
- Cash Management Portfolio SST
* "Dogs" of Wall Street is an equity fund seeking total return. Federated
American Lenders is an equity fund seeking growth of capital and income.
YOU SHOULD READ THE PROSPECTUSES FOR THE TRUSTS CAREFULLY. THESE PROSPECTUSES
CONTAIN DETAILED INFORMATION ABOUT THE VARIABLE PORTFOLIOS, INCLUDING EACH
VARIABLE PORTFOLIO'S INVESTMENT OBJECTIVE AND RISK FACTORS.
8
FIXED ACCOUNT OPTIONS
Your contract may offer Fixed Account Guarantee Periods ("FAGP") to which you
may allocate certain Purchase Payments or contract value. Available guarantee
periods may be for different lengths of time (such as 1, 3 or 5 years) and may
have different guaranteed interest rates, as noted below. We guarantee the
interest rate credited to amounts allocated to any available FAGP and that the
rate will never be less than the minimum guaranteed interest rate as specified
in your contract. Once established, the rates for specified payments do not
change during the guarantee period. We determine the FAGPs offered at any time
in our sole discretion and we reserve the right to change the FAGPs that we make
available at any time, unless state law requires us to do otherwise. Please
check with your financial representative to learn if any FAGPs are currently
offered.
There are three interest rate scenarios for money allocated to the FAGPs. Each
of these rates may differ from one another. Once declared, the applicable rate
is guaranteed until the corresponding guarantee period expires. Under each
scenario your money may be credited a different rate of interest as follows:
Initial Rate: The rate credited to any portion of the initial Purchase
Payment allocated to a FAGP.
Current Rate: The rate credited to any portion of the subsequent Purchase
Payments allocated to a FAGP.
Renewal Rate: The rate credited to money transferred from a FAGP or a
Variable Portfolio into a FAGP and to money remaining in a FAGP after
expiration of a guarantee period.
When a FAGP ends, you may leave your money in the same FAGP or you may
reallocate your money to another FAGP or to the Variable Portfolios. If you want
to reallocate your money, you must contact us within 30 days after the end of
the current interest guarantee period and instruct us as to where you would like
the money invested. We do not contact you. If we do not hear from you, your
money will remain in the same FAGP where it will earn interest at the renewal
rate then in effect for that FAGP.
If you take money out of any available multi-year FAGP before the end of the
guarantee period, we will make an adjustment to your contract. We refer to the
adjustment as a market value adjustment ("MVA"). The MVA reflects any difference
in the interest rate environment between the time you place your money in the
FAGP and the time when you withdraw or transfer that money. This adjustment can
increase or decrease your contract value. Generally, if interest rates drop
between the time you put your money into a FAGP and the time you take it out, we
credit a positive adjustment to your contract. Conversely, if interest rates
increase during the same period, we post a negative adjustment to your contract.
You have 30 days after the end of each guarantee period to reallocate your funds
without incurring any MVA. APPENDIX B SHOWS HOW WE CALCULATE AND APPLY THE MVA.
If available, you may systematically transfer interest in available FAGPs into
any of the Variable Portfolios on certain periodic schedules offered by us.
Systematic transfers may be started, changed or terminated at any time by
contacting our Annuity Service Center. Check with you financial representative
about the current availability of this service.
All FAGPs may not be available in all states. We reserve the right to refuse any
Purchase Payment to available FAGPs if we are crediting a rate equal to the
minimum guaranteed interest rate specified in your contract. We may also offer
Dollar Cost Averaging Fixed Accounts ("DCAFA"). The rules, restrictions and
operation of DCAFAs may differ from the standard FAGPs described above, please
see DOLLAR COST AVERAGING below for more details.
DOLLAR COST AVERAGING FIXED ACCOUNTS
You may invest initial and/or subsequent Purchase Payments in DCAFAs, if
available. The minimum Purchase Payment that you must invest for the 6-month
DCAFA is $600 and $1,200 for the 12-month DCAFA, if such accounts are available.
Purchase Payments less than these minimum amounts will automatically be
allocated to the Variable Portfolios ("target account(s)") according to your
instructions to us or your current allocation instruction on file. DCAFAs also
credit a fixed rate of interest but are specifically designed to facilitate a
dollar cost averaging program. Interest is credited to amounts allocated to the
DCAFAs while your investment is transferred to the Variable Portfolios over
certain specified time frames. The interest rates applicable to the DCAFA may
differ from those applicable to any available FAGPs but will never be less than
the minimum annual guaranteed interest rate as specified in your contract.
However, when using a DCAFA the annual interest rate is paid on a declining
balance as you systematically transfer your investment to the Variable
Portfolios. Therefore, the actual effective yield will be less than the annual
crediting rate. We determine the DCAFAs offered at any time in our sole
discretion and we reserve the right to change to DCAFAs that we make available
at any time, unless state law requires us to do otherwise. See DOLLAR COST
AVERAGING PROGRAM below for more information.
TRANSFERS DURING THE ACCUMULATION PHASE
During the Accumulation Phase you may transfer funds between the Variable
Portfolios and/or any available fixed account options. Funds already in your
contract cannot be transferred into the DCA fixed accounts. You must transfer at
least $100 per transfer. If less than $100 remains in any Variable Portfolio
after a transfer, that amount must be transferred as well. We will process any
transfer request as of the day we receive it in good order if the request is
received
9
before the New York Stock Exchange ("NYSE") closes, generally at 1:00 p.m.
Pacific Time. If the transfer request is received after the NYSE closes, the
request will be processed on the next business day.
This product is not designed for professional organizations or individuals
engaged in trading strategies that seek to benefit from short term price
fluctuations or price irregularities by making programmed transfers, frequent
transfers or transfers that are large in relation to the total assets of the
underlying portfolio in which the Variable Portfolios invest. These types of
trading strategies can be disruptive to the underlying portfolios in which the
Variable Portfolios invest and thereby potentially harmful to investors.
In connection with our efforts to control harmful trading, we may monitor your
trading activity. If we determine, in our sole discretion, that your transfer
patterns among the Variable Portfolios and/or available fixed accounts reflect a
potentially harmful trading strategy, we reserve the right to take action to
protect other investors. Such action may include, but may not be limited to,
restricting the way you can request transfers among the Variable Portfolios,
imposing penalty fees on such trading activity, and/or otherwise restricting
transfer capability in accordance with state and federal rules and regulations.
We will notify you, in writing, if we determine in our sole discretion that we
must terminate your transfer privileges. Some of the factors we may consider
when determining our transfer policies and/or other transfer restrictions may
include, but are not limited to:
- The number of transfers made in a defined period;
- the dollar amount of the transfer;
- the total assets of the Variable Portfolio involved in the transfer;
- the investment objectives of the particular Variable Portfolios involved
in your transfers; and/or
- whether the transfer appears to be part of a pattern of transfers to take
advantage of short-term market fluctuations or market inefficiencies.
Subject to our rules, restrictions and policies, you may request transfers of
your account value between the Variable Portfolios and/or the available fixed
account options by telephone or through AIG SunAmerica's website
(http://www.aigsunamerica.com) or in writing by mail or facsimile. We currently
allow 18 free transfers per contract per year. We charge $25 ($10 in
Pennsylvania and Texas) for each additional transfer in any contract year.
Transfers resulting from your participation in the DCA program and Automatic
Asset Rebalancing program do not count against your 18 free transfers per
contract year.
Currently, all transfer requests in excess of 5 transfers within a rolling
six-month look-back period must be submitted by United States Postal Service
first-class mail ("U.S. Mail") for twelve months from the date of your 5th
transfer request. For example, if you made a transfer on February 15, 2004 and
within the previous six months (from August 15, 2003 forward) you made 5
transfers including the February 15th transfer, then all transfers made for
twelve months after February 15, 2004 must be submitted by U.S. Mail (from
February 16, 2004 through February 15, 2005). Transfer requests sent by same day
mail, overnight mail or courier services will not be accepted. Transfer requests
required to be submitted by U.S. Mail can only be cancelled by a written request
sent by U.S. Mail. Transfers resulting from your participation in the DCA or
Asset Rebalancing programs are not included for the purposes of determining the
number of transfers for the U.S. Mail requirement.
We may accept transfers by telephone or the Internet unless you tell us not to
on your contract application. When receiving instructions over the telephone or
the Internet, we follow appropriate procedures to provide reasonable assurance
that the transactions executed are genuine. Thus, we are not responsible for any
claim, loss or expense from any error resulting from instructions received over
the telephone or the Internet. If we fail to follow our procedures, we may be
liable for any losses due to unauthorized or fraudulent instructions.
For information regarding transfers during the Income Phase, see INCOME OPTIONS
in the prospectus.
We reserve the right to modify, suspend, waive or terminate these transfer
provisions at any time.
DOLLAR COST AVERAGING PROGRAM
The DCA program allows you to invest gradually in the Variable Portfolios. Under
the program you systematically transfer a set dollar amount or percentage from
one Variable Portfolio or DCAFAs (source accounts) to any other Variable
Portfolio (target account). Transfers may occur on certain periodic schedules,
such as monthly or weekly and count against your 18 free transfers per contract
year. You may change the frequency to other available options at any time by
notifying us in writing. The minimum transfer amount under the DCA program is
$100, regardless of the source account. FAGPs are not available as target
accounts for the DCA program. There is no fee for participating in the DCA
program.
We may also offer the DCAFAs exclusively to facilitate this program for a
specified period. The DCAFAs only accept new Purchase Payments. You cannot
transfer money already in your contract into these options. When you allocate a
Purchase Payment into a DCAFA, your money is transferred into the Variable
Portfolios over the selected time period at an offered frequency of your
choosing. You cannot change the option or the frequency of transfers once
selected.
The minimum Purchase Payment that you must invest for the 6-month DCAFA is $600
and $1,200 for the 12-month
10
DCAFA, if such accounts are available. Purchase Payments less than these minimum
amounts will automatically be allocated to the target account(s) according to
your instructions to us or your current allocation instruction on file.
You may terminate your DCA program at any time. If money remains in the DCAFAs,
we transfer the remaining money according to your instructions or to your
current allocation on file. Transfers resulting from a termination of this
program do not count towards your 18 free transfers.
The DCA program is designed to lessen the impact of market fluctuations on your
investment. However, we cannot ensure that you will make a profit nor guarantee
against a loss. When you elect the DCA program, you are continuously investing
in securities regardless of fluctuating price levels. You should consider your
tolerance for investing through periods of fluctuating price levels.
We reserve the right to modify, suspend or terminate this program at any time.
EXAMPLE:
Assume that you want to gradually move $750 each quarter from the Cash
Management Portfolio to the Aggressive Growth Portfolio over six months.
You set up dollar cost averaging and purchase Accumulation Units at the
following values:
<Table>
<Caption>
- -------------------------------------------
ACCUMULATION UNITS
MONTH UNIT PURCHASED
- -------------------------------------------
1 $ 7.50 100
2 $ 5.00 150
3 $10.00 75
4 $ 7.50 100
5 $ 5.00 150
6 $ 7.50 100
- -------------------------------------------
</Table>
You paid an average price of only $6.67 per Accumulation Unit over six
months, while the average market price actually was $7.08. By investing an
equal amount of money each month, you automatically buy more Accumulation
Units when the market price is low and fewer Accumulation Units when the
market price is high. This example is for illustrative purposes only.
AUTOMATIC ASSET REBALANCING PROGRAM
Earnings in your contract may cause the percentage of your investment in each
investment option to differ from your original allocations. The Automatic Asset
Rebalancing Program addresses this situation. At your election, we periodically
rebalance your investments in the Variable Portfolios to return your allocations
to their original percentages. Asset rebalancing typically involves shifting a
portion of your money out of an investment option with a higher return into an
investment option with a lower return.
At your request, rebalancing occurs on a quarterly, semiannual or annual basis.
Transfers made as a result of rebalancing do not count against your 18 free
transfers for the contract year. There is no charge to participate in this
program.
We reserve the right to modify, suspend or terminate this program at any time.
EXAMPLE:
Assume that you want your initial Purchase Payment split between two
Variable Portfolios. You want 50% in the Corporate Bond Portfolio and 50%
in the Growth Portfolio. Over the next calendar quarter, the bond market
does very well while the stock market performs poorly. At the end of the
calendar quarter, the Corporate Bond Portfolio now represents 60% of your
holdings because it has increased in value and the Growth Portfolio
represents 40% of your holdings. If you had chosen quarterly rebalancing,
on the last day of that quarter, we would sell some of your units in the
Corporate Bond Portfolio to bring its holdings back to 50% and use the
money to buy more units in the Growth Portfolio to increase those holdings
to 50%.
RETURN PLUS PROGRAM
The Return Plus Program, available if we are offering multi-year FAGPs, allows
you to invest in one or more Variable Portfolios without putting your principal
at direct risk. The program accomplishes this by allocating your investment
strategically between the fixed account options and Variable Portfolios. You
decide how much you want to invest and approximately when you want a return of
principal. We calculate how much of your Purchase Payment to allocate to the
particular fixed account option to ensure that it grows to an amount equal to
your total principal invested under this program. We invest the rest of your
principal in the Variable Portfolio(s) of your choice. There is no charge to
participate in this program.
We reserve the right to modify, suspend or terminate this program at any time.
EXAMPLE:
Assume that you want to allocate a portion of your initial Purchase Payment
of $100,000 to the fixed account option. You want the amount allocated to
the fixed account option to grow to $100,000 in 7 years. If the 7-year
fixed account option is offering a 5% interest rate, we will allocate
$71,069 to the 7-year fixed account option to ensure that this amount will
grow to $100,000 at the end of the 7-year period. The remaining $28,931 may
be allocated among the Variable Portfolios, as determined by you, to
provide opportunity for greater growth.
VOTING RIGHTS
AIG SunAmerica Life is the legal owner of the Trusts' shares. However, when a
Variable Portfolio solicits proxies in
11
conjunction with a vote of shareholders, we must obtain your instructions on how
to vote those shares. We vote all of the shares we own in proportion to your
instructions. This includes any shares we own on our own behalf. Should we
determine that we are no longer required to comply with these rules, we will
vote the shares in our own right.
SUBSTITUTION
We may amend your contract due to changes to the Variable Portfolios offered
under your contract. For example, we may offer new Variable Portfolios, delete
Variable Portfolios, or stop accepting allocations and/or investments in a
particular Variable Portfolio. We may move assets and re-direct future premium
allocations from one Variable Portfolio to another if we receive investor
approval through a proxy vote or SEC approval for a fund substitution. This
would occur if a Variable Portfolio is no longer an appropriate investment for
the contract, for reasons such as continuing substandard performance, or for
changes to the portfolio manager, investment objectives, risks and strategies,
or federal or state laws. The new Variable Portfolio offered may have different
fees and expenses. You will be notified of any upcoming proxies or substitutions
that affect your Variable Portfolio choices.
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ACCESS TO YOUR MONEY
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You can access money in your contract by making a partial or total withdrawal;
and/or by receiving income payments during the Income Phase. SEE INCOME OPTIONS
BELOW.
We deduct a MVA if a partial withdrawal comes from the multi-year fixed
investment options prior to the end of the guarantee period. Additionally, a
withdrawal charge may apply in limited circumstances. If you withdraw your
entire contract value, we also deduct premium taxes if applicable. SEE EXPENSES
BELOW.
Under certain Qualified plans, access to the money in your contract may be
restricted. Additionally, withdrawals made prior to age 59 1/2 may result in a
10% IRS penalty tax. SEE TAXES BELOW.
Under most circumstances, the partial withdrawal minimum is $1,000. We require
that the value left in your contract is at least $500 after the withdrawal. You
must send a written withdrawal request. Unless you provide us with different
instructions, partial withdrawals will be made pro rata from each Variable
Portfolio and the fixed account option(s) in which your contract is invested.
We may be required to suspend or postpone the payment of a withdrawal for any
period of time when: (1) the NYSE is closed (other than a customary weekend and
holiday closings); (2) trading with the NYSE is restricted; (3) an emergency
exists such that disposal of or determination of the value of shares of the
Variable Portfolios is not reasonably practicable; (4) the SEC, by order, so
permits for the protection of contract owners.
Additionally, we reserve the right to defer payments for a withdrawal from a
fixed account option. Such deferrals are limited to no longer than six months.
SYSTEMATIC WITHDRAWAL PROGRAM
During the Accumulation Phase, you may elect to receive periodic income payments
under the systematic withdrawal program. Under the program you may choose to
take monthly, quarterly, semiannual or annual payments from your contract.
Electronic transfer of these funds to your bank account is available. The
minimum amount of each withdrawal is $250. There must be at least $500 remaining
in your contract at all times. Withdrawals may be taxable and a 10% IRS penalty
tax may apply if you are under age 59 1/2. There is no additional charge for
participating in this program, although a withdrawal charge and a MVA may apply.
We reserve the right to modify, suspend or terminate this program at any time.
MINIMUM CONTRACT VALUE
Where permitted by state law, we may terminate your contract if both of the
following occur: (1) your contract is $500 or less; and (2) you have not made
any Purchase Payments during the past three years. We will provide you with
sixty days written notice. At the end of the notice period, we will distribute
the contract value to you.
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DEATH BENEFIT
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GENERAL INFORMATION ABOUT DEATH BENEFITS
If you die during the Accumulation Phase of your contract, we pay a death
benefit to your Beneficiary. At the time you purchase your contract, you must
select one of the two death benefit options described below. Once selected, you
cannot change your death benefit option. You should discuss the available
options with your financial representative to determine which option is best for
you.
We do not pay the death benefit if you die after you switch to the Income Phase.
However, if you die during the Income Phase, your Beneficiary receives any
remaining guaranteed income payments in accordance with the income option you
selected. SEE INCOME OPTIONS BELOW.
You designate your Beneficiary. You may change the Beneficiary at any time,
unless you previously made an irrevocable Beneficiary designation. If the
Beneficiary is the spouse of the deceased original owner, he or she can elect to
continue the contract. SEE SPOUSAL CONTINUATION BELOW.
12
We calculate and pay the death benefit when we receive all required paperwork
and satisfactory proof of death. We consider the following satisfactory proof of
death:
1. a certified copy of the death certificate; or
2. a certified copy of a decree of a court of competent jurisdiction as to
the finding of death; or
3. a written statement by a medical doctor who attended the deceased at the
time of death; or
4. any other proof satisfactory to us.
If a Beneficiary does not elect a specific form of a payout within 60 days of
our receipt of all required paperwork and satisfactory proof of death, we pay a
lump sum death benefit to the Beneficiary.
The death benefit may be paid immediately in the form of a lump sum payment or
paid under one of the available Income Options. PLEASE SEE INCOME OPTIONS BELOW.
A Beneficiary may also elect to continue the contract and take the death benefit
amount in a series of payments based upon the Beneficiary's life expectancy
under the Extended Legacy program described below, subject to the applicable
Internal Revenue Code distribution requirements. Payments must begin under the
selected Income Option or the Extended Legacy program no later than the first
anniversary of your death for non-qualified contracts or December 31st of the
year following the year of your death for IRAs. Your Beneficiary cannot
participate in the Extended Legacy program if your Beneficiary has already
elected another settlement option. Beneficiaries who do not begin taking
payments within these specified time periods will not be eligible to elect an
Income Option or participate in the Extended Legacy program.
DEFINITION OF DEATH BENEFIT TERMS
The term Net Purchase Payment is used frequently in explaining these death
benefit options. Net Purchase Payments is an on-going calculation. It does not
represent a contract value.
We define Net Purchase Payments as Purchase Payments less an Adjustment for each
withdrawal. If you have not taken any withdrawals from your contract, Net
Purchase Payments equals total purchase payments into your contract. To
calculate the Adjustment amount for the first withdrawal made under the
contract, we determine the percentage by which the withdrawal reduced the
contract value. For example, a $10,000 withdrawal from a $100,000 contract is a
10% reduction in value. This percentage is calculated by dividing the amount of
each withdrawal (and any applicable fees and charges) by the contract value
immediately before taking the withdrawal. The resulting percentage is then
multiplied by the amount of the total Purchase Payments and subtracted from the
amount of the total Purchase Payments on deposit at the time of the withdrawal.
The resulting amount is the initial Net Purchase Payment.
To arrive at the Net Purchase Payment calculation for subsequent withdrawals, we
determine the percentage by which the contract value is reduced by taking the
amount of the withdrawal in relation to the contract value immediately before
taking the withdrawal. We then multiply the Net Purchase Payment calculation as
determined prior to the withdrawal, by this percentage. We subtract that result
from the Net Purchase Payment calculation as determined prior to the withdrawal
to arrive at all subsequent Net Purchase Payment calculations.
The term "withdrawals" as used in describing the death benefit option below is
defined as withdrawals and the fees and charges applicable to those withdrawals.
DEATH BENEFIT OPTIONS
This contract provides two death benefit options: the Purchase Payment
Accumulation Option and the Maximum Anniversary Option. In addition, you may
also elect the optional EstatePlus feature, described below. These elections
must be made at the time you purchase your contract and once made, cannot be
changed or terminated.
OPTION 1 -- PURCHASE PAYMENT ACCUMULATION OPTION
The death benefit is the greatest of:
1. Contract value at the time we receive all required paperwork and
satisfactory proof of death; or
2. Net Purchase Payments compounded at a 4% annual growth rate until the
date of death (3% growth rate if age 70 or older at the time of contract
issue) plus any Purchase Payments recorded after the date of death; and
reduced for any withdrawals in the same proportion that the withdrawal
reduced contract value on the date of the withdrawal; or
3. the contract value on the seventh contract anniversary, plus any
Purchase Payments since the seventh contract anniversary; and reduced
for any withdrawals since the seventh contract anniversary in the same
proportion that each withdrawal reduced the contract value on the date
of the withdrawal, all compounded at a 4% annual growth rate until the
date of death (3% growth rate if age 70 or older at the time of contract
issue) plus any purchase payments recorded after the date of death; and
reduced for each withdrawal recorded after the date of death in the same
proportion that each withdrawal reduced the contract value on the date
of the withdrawal.
The Purchase Payment Accumulation option may not be available to Washington
state policyowners. Please check with your financial advisor for availability.
OPTION 2 -- MAXIMUM ANNIVERSARY OPTION
The death benefit is the greatest of:
1. Contract value at the time we receive all required paperwork and
satisfactory proof of death; or
13
2. Purchase Payments reduced by any withdrawal in the same proportion that
the withdrawal reduced the contract value on the date of each
withdrawal; or
3. Maximum anniversary value on any contract anniversary prior to your 81st
birthday. The anniversary value equals the contract value on a contract
anniversary plus any Purchase Payments since that contract anniversary;
and reduced for any withdrawals since the contract anniversary in the
same proportion that each withdrawal reduced the contract value on the
date of the withdrawal.
If you are age 90 or older at the time of death and selected the maximum
anniversary death benefit, the death benefit will be equal to contract value at
the time we receive all required paperwork and satisfactory proof of death.
Accordingly, you do not get the advantage of maximum anniversary option if:
- you are age 81 or older at the time of contract issue; or
- you are age 90 or older at the time of your death.
The death benefit options on contracts issued before October 24, 2001 would be
subject to a different calculation. Please see the Statement of Additional
Information for details.
ESTATEPLUS
EstatePlus is an optional benefit that, if selected, may increase your death
benefit amount. If you have earnings in your contract at the time of death, we
will add a percentage of those earnings (the "EstatePlus Percentage"), subject
to a maximum dollar amount (the "Maximum EstatePlus Percentage"), to the death
benefit payable. The EstatePlus benefit, if any, is added to the death benefit
payable under the Purchase Payment Accumulation or Maximum Anniversary options.
The contract year of your death will determine the EstatePlus Percentage and the
Maximum EstatePlus Percentage.
The table below provides the details if you were age 69 or younger at the time
we issue your contract:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
Years 0-4 25% of earnings 40% of Net Purchase
Payments
- -------------------------------------------------------------
Years 5-9 40% of earnings 65% of Net Purchase
Payments*
- -------------------------------------------------------------
Years 10+ 50% of earnings 75% of Net Purchase
Payments*
- -------------------------------------------------------------
</Table>
If you are between your 70th and 81st birthday at the time we issue your
contract the table below shows the available EstatePlus benefit:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
All Contract 25% of earnings 40% of Net
Years Purchase Payments*
- -------------------------------------------------------------
</Table>
* Purchase Payments received after the 5(th) contract anniversary must remain in
the contract for at least 6 full months to be included as part of Net Purchase
Payments for the purpose of the Maximum EstatePlus calculation.
What is the Contract Year of Death?
Contract Year of Death is the number of full 12 month periods beginning with the
date your contract is issued and ending on the date of death.
What is the EstatePlus Percentage Amount?
We determine the amount of the EstatePlus benefit, based on a percentage of the
earnings in your contract at the time of your death. For the purpose of this
calculation, earnings equals contract value minus Net Purchase Payments as of
the date of death. If the earnings amount is negative, no EstatePlus amount will
be added.
What is the Maximum EstatePlus Amount?
The EstatePlus benefit is subject to a maximum dollar amount. The maximum
EstatePlus amount is equal to a percentage of your Net Purchase Payments.
You must elect EstatePlus at the time of contract application. Once elected, you
may not terminate or change this election.
We assess a 0.25% fee for EstatePlus. On a daily basis we deduct this annual
charge from the average daily ending value of the assets you have allocated to
the Variable Portfolios.
EstatePlus is not available if you are age 81 or older at the time we issue your
contract. Furthermore, a Continuing Spouse cannot benefit from EstatePlus if
he/she is age 81 or older on the Continuation Date. SEE SPOUSAL CONTINUATION
BELOW. The EstatePlus benefit is not available after the latest Annuity Date.
You may pay for the EstatePlus benefit and your beneficiary may never receive
the benefit if you live past the latest Annuity Date. SEE INCOME OPTIONS BELOW.
EstatePlus may not be available in your state or through the broker-dealer with
which your financial advisor is affiliated. See your financial advisor for
information regarding availability.
WE RESERVE THE RIGHT TO MODIFY, SUSPEND OR TERMINATE THE ESTATEPLUS BENEFIT (IN
ITS ENTIRETY OR ANY COMPONENT AT ANY TIME) AT ANY TIME FOR PROSPECTIVELY ISSUED
CONTRACTS.
14
SPOUSAL CONTINUATION
If you are the original owner of the contract and the Beneficiary is your
spouse, your spouse may elect to continue the contract after your death. The
spouse becomes the new owner ("Continuing Spouse"). Generally, the contract and
its elected features if any, remain the same. The Continuing Spouse is subject
to the same fees, charges and expenses applicable to the original owner of the
contract. A spousal continuation can only take place upon the death of the
original owner of the contract.
To the extent that the Continuing Spouse invests in the Variable Portfolios or
MVA fixed accounts, they will be subject to investment risk as was the original
owner.
Upon the spouse's continuation of the contract, we will contribute to the
contract value an amount by which the death benefit that would have been paid to
the beneficiary upon the death of the original owner exceeds the contract value
("Continuation Contribution"), if any. We calculate the Continuation
Contribution as of the date of the original owner's death. We will add the
Continuation Contribution as of the date we receive both the Continuing Spouse's
written request to continue the contract and proof of death of the original
owner in a form satisfactory to us ("Continuation Date"). The Continuation
Contribution is not considered a Purchase Payment for the purposes of any other
calculations, except as explained in Appendix C.
Generally, the Continuing Spouse cannot change any contract provisions as the
new owner. However, on the Continuation Date, the Continuing Spouse may
terminate the original owner's election of EstatePlus. We will terminate
EstatePlus if the Continuing Spouse is age 81 or older on the Continuation Date.
If EstatePlus is terminated or if the Continuing Spouse dies after the Latest
Annuity Date, no EstatePlus benefit will be payable. The age of the Continuing
Spouse on the Continuation Date and on the date of the Continuing Spouse's death
will be used in determining any future death benefits under the Contract. SEE
APPENDIX C FOR FURTHER EXPLANATION OF THE DEATH BENEFIT CALCULATIONS FOLLOWING A
SPOUSAL CONTINUATION.
WE RESERVE THE RIGHT TO MODIFY, SUSPEND OR TERMINATE THE SPOUSAL CONTINUATION
PROVISION (IN ITS ENTIRETY OR ANY COMPONENT) AT ANY TIME FOR PROSPECTIVELY
ISSUED CONTRACTS.
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EXPENSES
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There are charges and expenses associated with your contract. These charges and
expenses reduce your investment return. We will not increase the sales,
insurance or withdrawal charges under your contract. However, the investment
charges under your contract may increase or decrease. Some states may require
that we charge less than the amounts described below.
SEPARATE ACCOUNT CHARGES
The amount of this charge is 0.85% annually, of the value of your contract
invested in the Variable Portfolios. We deduct the charge daily. There is no
separate account charge deducted from amounts allocated to the fixed account
options.
The separate account charge compensates us for the mortality and expense risks
and the costs of contract distribution assumed by AIG SunAmerica Life.
If these charges do not cover all of our expenses, we will pay the difference.
Likewise, if these charges exceed our expenses, we will keep the difference. The
separate account charge is expected to result in a profit. Profit may be used
for any legitimate cost/expense including distribution, depending upon market
conditions.
INVESTMENT CHARGES
INVESTMENT MANAGEMENT FEES
Charges are deducted from your Variable Portfolios for the advisory and other
expenses of the Variable Portfolios. For more detailed information on these
investment charges, refer to the prospectuses for the Trusts which are attached.
TRANSFER FEE
We currently permit 18 free transfers between investment options each contract
year. We charge you $25 for each additional transfer that contract year ($10 in
Pennsylvania and Texas). SEE INVESTMENT OPTIONS ABOVE.
OPTIONAL ESTATEPLUS FEE
We charge 0.25% for the EstatePlus feature. On a daily basis, we deduct this
charge from the average daily ending value of the assets you have allocated to
the Variable Portfolios.
PREMIUM TAX
Certain states charge the Company a tax on the premiums you pay into the
contract ranging from 0% to 3.5%. We deduct from your contract these premium tax
charges. Currently we deduct the charge for premium taxes when you take a full
withdrawal or begin the Income Phase of the contract. In the future, we may
assess this deduction at the time you put Purchase Payment(s) into the contract
or upon payment of a death benefit.
INCOME TAXES
We do not currently deduct income taxes from your contract. We reserve the right
to do so in the future.
REDUCTION OR ELIMINATION OF CHARGES AND EXPENSES, AND ADDITIONAL AMOUNTS
CREDITED
Sometimes sales of the contracts to groups of similarly situated individuals may
lower our administrative and/or sales expenses. We reserve the right to reduce
or waive certain charges and expenses when this type of sale occurs. In
15
addition, we may also credit additional interest to policies sold to such
groups. We determine which groups are eligible for such treatment. Some of the
criteria we evaluate to make a determination are: size of the group; amount of
expected Purchase Payments; relationship existing between us and prospective
purchaser; nature of the purchase; length of time a group of contracts is
expected to remain active; purpose of the purchase and whether that purpose
increases the likelihood that our expenses will be reduced; and/or any other
factors that we believe indicate that administrative and/or sales expenses may
be reduced.
AIG SunAmerica Life may make such a determination regarding sales to its
employees, it affiliates' employees and employees of currently contracted
broker-dealers; its registered representatives and immediate family members of
all of those described.
We reserve the right to change or modify any such determination or the treatment
applied to a particular group, at any time.
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INCOME OPTIONS
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ANNUITY DATE
During the Income Phase, we use the money accumulated in your contract to make
regular income payments to you. You may switch to the Income Phase any time
after your second contract anniversary. You select the month and year in which
you want income payments to begin. The first day of that month is the Annuity
Date. You may change your Annuity Date, so long as you do so at least seven days
before the income payments are scheduled to begin. Once you begin receiving
income payments, you cannot change your income option. Except as indicated under
Option 5 below, once you begin receiving income payments, you cannot access your
money through a withdrawal or surrender.
Income payments must begin on or before your 95th birthday or on your tenth
contract anniversary, whichever occurs later (latest Annuity Date). If you do
not choose an Annuity Date, your income payments will automatically begin on
this date. Certain states may require your income payments to start earlier.
If the Annuity Date is past your 85th birthday, your contract could lose its
status as an annuity under Federal tax laws. This may cause you to incur adverse
tax consequences.
In addition, most Qualified contracts require you to take minimum distributions
after you reach age 70 1/2. SEE TAXES BELOW.
INCOME OPTIONS
Currently, this contract offers five standard income options. Other payout
options may be available. Contact the Annuity Service Center for more
information. If you elect to receive income payments but do not select an
option, your income payments will be made in accordance with Option 4 for a
period of 10 years. For income payments based on joint lives, we pay according
to Option 3, for a period of 10 years.
We base our calculation of income payments on the life of the Annuitant and the
annuity rates set forth in your contract. As the contract owner, you may change
the Annuitant at any time prior to the Annuity Date. You must notify us if the
Annuitant dies before the Annuity Date and designate a new Annuitant.
OPTION 1 - LIFE INCOME ANNUITY
This option provides income payments for the life of the Annuitant. Income
payments stop when the Annuitant dies.
OPTION 2 - JOINT AND SURVIVOR LIFE ANNUITY
This option provides income payments for the life of the Annuitant and for the
life of another designated person. Upon the death of either person, we will
continue to make income payments during the lifetime of the survivor. Income
payments stop when the survivor dies.
OPTION 3 - JOINT AND SURVIVOR LIFE ANNUITY WITH 10 OR 20 YEARS GUARANTEED
This option is similar to Option 2 above, with an additional guarantee of
payments for at least 10 years or 20 years. If the Annuitant and the survivor
die before all of the guaranteed income payments have been made, the remaining
payments are made to the Beneficiary under your contract.
OPTION 4 - LIFE ANNUITY WITH 10 OR 20 YEARS GUARANTEED
This option is similar to Option 1 above. In addition, this option provides a
guarantee that income payments will be made for at least 10 or 20 years. You
select the number of years. If the Annuitant dies before all guaranteed income
payments are made, the remaining income payments go to the Beneficiary under
your contract.
OPTION 5 - INCOME FOR A SPECIFIED PERIOD
This option provides income payments for a guaranteed period, ranging from 5 to
30 years. If the Annuitant dies before all of the guaranteed income payments are
made, the remaining income payments are made to the Beneficiary under your
contract. Additionally, if variable income payments are elected under this
option, you (or the Beneficiary under the contract if the Annuitant dies prior
to all guaranteed payments being made) may redeem the contract value after the
Annuity Date. The amount available upon such redemption would be the discounted
present value of any remaining guaranteed variable income payments. Any
applicable withdrawal charges will be deducted from the discounted value as if
you fully surrendered your contract.
The value of an Annuity Unit, regardless of the option chosen, takes into
account the mortality and expense risk charge. Since Option 5 does not contain
an element of mortality risk, no benefit is derived from this charge.
16
Please read the Statement of Additional Information ("SAI") for a more detailed
discussion of the income options.
For more information regarding Income Options using the Income Protector
feature, please see below.
FIXED OR VARIABLE INCOME PAYMENTS
You can choose income payments that are fixed, variable or both. Unless
otherwise elected, at the date when income payments begin you are invested in
the Variable Portfolios only, your income payments will be variable and if your
money is only in fixed accounts at that time, your income payments will be fixed
in amount. Further, if you are invested in both fixed and variable investment
options when income payments begin, your payments will be fixed and variable
unless otherwise elected. If income payments are fixed, AIG SunAmerica Life
guarantees the amount of each payment. If the income payments are variable the
amount is not guaranteed.
INCOME PAYMENTS
We make income payments on a monthly, quarterly, semi-annual or annual basis.
You instruct us to send you a check or to have the payments directly deposited
into your bank account. If state law allows, we distribute annuities with a
contract value of $5,000 or less in a lump sum. Also, if the selected income
option results in income payments of less than $50 per payment, we may decrease
the frequency of the payments, state law allowing.
If you are invested in the Variable Portfolios after the Annuity Date your
income payments vary depending on four things:
- for life options, your age when payments begin and in most states, if a
Non-qualified contract, your gender; and
- the value of your contract in the Variable Portfolios on the Annuity
Date; and
- the 3.5% assumed investment rate used in the annuity table for the
contract; and
- the performance of the Variable Portfolios in which you are invested
during the time you receive income payments.
If you are invested in both the fixed account options and the Variable
Portfolios after the Annuity Date, the allocation of funds between the fixed and
variable options also impacts the amount of your income payments.
The value of variable income payments, if elected, is based on an assumed
interest rate ("AIR") of 3.5% compounded annually. Variable income payments
generally increase or decrease from one income payment date to the next based
upon the performance of the applicable Variable Portfolios. If the performance
of the Variable Portfolios selected is equal to the AIR, the income payments
will remain constant. If performance of Variable Portfolios is greater than the
AIR, the income payments will increase and if it is less than the AIR, the
income payments will decline.
TRANSFERS DURING THE INCOME PHASE
During the Income Phase, one transfer per month is permitted between the
Variable Portfolios. No other transfers are allowed during the Income Phase.
DEFERMENT OF PAYMENTS
We may defer making fixed payments for up to six months, or less if required by
law. Interest is credited to you during the deferral period. See also ACCESS TO
YOUR MONEY above.
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TAXES
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NOTE: THE BASIC SUMMARY BELOW ADDRESSES BROAD FEDERAL TAXATION MATTERS, AND
GENERALLY DOES NOT ADDRESS STATE TAXATION ISSUES OR QUESTIONS. IT IS NOT TAX
ADVICE. WE CAUTION YOU TO SEEK COMPETENT TAX ADVICE ABOUT YOUR OWN
CIRCUMSTANCES. WE DO NOT GUARANTEE THE TAX STATUS OF YOUR ANNUITY. TAX LAWS
CONSTANTLY CHANGE; THEREFORE, WE CANNOT GUARANTEE THAT THE INFORMATION CONTAINED
HEREIN IS COMPLETE AND/OR ACCURATE. WE HAVE INCLUDED AN ADDITIONAL DISCUSSION
REGARDING TAXES IN THE SAI.
ANNUITY CONTRACTS IN GENERAL
The Internal Revenue Code ("IRC") provides for special rules regarding the tax
treatment of annuity contracts. Generally, taxes on the earnings in your annuity
contract are deferred until you take the money out. Qualified retirement
investments that satisfy specific tax and ERISA requirements automatically
provide tax deferral regardless of whether the underlying contract is an
annuity, a trust, or a custodial account. Different rules apply depending on how
you take the money out and whether your contract is Qualified or Non-Qualified.
If you do not purchase your contract under a pension plan, a specially sponsored
employer program or an individual retirement account, your contract is referred
to as a Non-Qualified contract. A Non-Qualified contract receives different tax
treatment than a Qualified contract. In general, your cost in a Non-Qualified
contract is equal to the Purchase Payments you put into the contract. You have
already been taxed on the cost basis in your contract.
If you purchase your contract under a pension plan, a specially sponsored
employer program or as an individual retirement account, your contract is
referred to as a Qualified contract. Examples of qualified plans or arrangements
are: Individual Retirement Accounts ("IRAs"), Roth IRAs, Tax-Sheltered Annuities
(referred to as 403(b) contracts), plans of self-employed individuals (often
referred to as H.R.10 Plans or Keogh Plans) and pension and profit sharing
plans, including 401(k) plans. Typically, for employer plans
17
and tax-deductible IRA contributions, you have not paid any tax on the Purchase
Payments used to buy your contract and therefore, you have no cost basis in your
contract. However, you normally will have cost basis in a Roth IRA, and you may
have cost basis in a traditional IRA or in another Qualified Contract.
TAX TREATMENT OF DISTRIBUTIONS--NON-QUALIFIED CONTRACTS
If you make a partial or total withdrawal from a Non-Qualified contract, the IRC
treats such a withdrawal as first coming from the earnings and then as coming
from your Purchase Payments. Purchase payments made prior to August 14, 1982,
however, are an important exception to this general rule, and for tax purposes
are treated as being distributed before the earnings on those contributions. If
you annuitize your contract, a portion of each income payment will be
considered, for tax purposes, to be a return of a portion of your Purchase
Payment(s). Any portion of each income payment that is considered a return of
your Purchase Payment will not be taxed. Withdrawn earnings are treated as
income to you and are taxable. The IRC provides for a 10% penalty tax on any
earnings that are withdrawn other than in conjunction with the following
circumstances: (1) after reaching age 59 1/2; (2) when paid to your Beneficiary
after you die; (3) after you become disabled (as defined in the IRC); (4) when
paid in a series of substantially equal installments made for your life or for
the joint lives of you and your Beneficiary; (5) under an immediate annuity; or
(6) which are attributable to Purchase Payments made prior to August 14, 1982.
TAX TREATMENT OF DISTRIBUTIONS--
QUALIFIED CONTRACTS (INCLUDING GOVERNMENTAL 457(b) ELIGIBLE DEFERRED
COMPENSATION PLANS)
Generally, you have not paid any taxes on the Purchase Payments used to buy a
Qualified contract. As a result, with certain limited exceptions, any amount of
money you take out as a withdrawal or as income payments is taxable income. In
the case of certain Qualified contracts, the IRC further provides for a 10%
penalty tax on any taxable withdrawal or income payment paid to you other than
in conjunction with the following circumstances: (1) after reaching age 59 1/2;
(2) when paid to your Beneficiary after you die; (3) after you become disabled
(as defined in the IRC); (4) in a series of substantially equal installments,
made for your life or for the joint lives of you and your Beneficiary, that
begins after separation from service with the employer sponsoring the plan; (5)
to the extent such withdrawals do not exceed limitations set by the IRC for
deductible amounts paid during the taxable year for medical care; (6) to fund
higher education expenses (as defined in the IRC; only from an IRA); (7) to fund
certain first-time home purchase expenses (only from an IRA); (8) when you
separate from service after attaining age 55 (does not apply to an IRA); (9)
when paid for health insurance, if you are unemployed and meet certain
requirements; and (10) when paid to an alternate payee pursuant to a qualified
domestic relations order. This 10% penalty tax does not apply to withdrawals or
income payments from governmental 457(b) eligible deferred compensation plans,
except to the extent that such withdrawals or income payments are attributable
to a prior rollover to the plan (or earnings thereon) from another plan or
arrangement that was subject to the 10% penalty tax.
The IRC limits the withdrawal of an employee's voluntary Purchase Payments from
a Tax-Sheltered Annuity (TSA). Withdrawals can only be made when an owner: (1)
reaches age 59 1/2; (2) severs employment with the employer; (3) dies; (4)
becomes disabled (as defined in the IRC); or (5) experiences a financial
hardship (as defined in the IRC). In the case of hardship, the owner can only
withdraw Purchase Payments. Additional plan limitations may also apply. Amounts
held in a TSA annuity contract as of December 31, 1988 are not subject to these
restrictions. Qualifying transfers of amounts from one TSA contract to another
TSA contract under section 403(b) or to a custodial account under section
403(b)(7), and qualifying transfers to a state defined benefit plan to purchase
service credits, are not considered distributions, and thus are not subject to
these withdrawal limitations. If amounts are transferred from a custodial
account described in Code section 403(b)(7) to this contract the transferred
amount will retain the custodial account withdrawal restrictions.
Withdrawals from other Qualified Contracts are often limited by the IRC and by
the employer's plan.
MINIMUM DISTRIBUTIONS
Generally, the IRC requires that you begin taking annual distributions from
qualified annuity contracts by April 1 of the calendar year following the later
of (1) the calendar year in which you attain age 70 1/2 or (2) the calendar year
in which you separate from service from the employer sponsoring the plan. If you
own an IRA, you must begin taking distributions when you attain age 70 1/2
regardless of when you separate from service from the employer sponsoring the
plan. If you own more than one TSA, you may be permitted to take your annual
distributions in any combination from your TSAs. A similar rule applies if you
own more than one IRA. However, you cannot satisfy this distribution requirement
for your TSA contract by taking a distribution from an IRA, and you cannot
satisfy the requirement for your IRA by taking a distribution from a TSA.
You may be subject to a surrender charge on withdrawals taken to meet minimum
distribution requirements, if the withdrawals exceed the contract's maximum
penalty free amount.
18
Failure to satisfy the minimum distribution requirements may result in a tax
penalty. You should consult your tax advisor for more information.
You may elect to have the required minimum distribution amount on your contract
calculated and withdrawn each year under the automatic withdrawal option. You
may select monthly, quarterly, semiannual, or annual withdrawals for this
purpose. This service is provided as a courtesy and we do not guarantee the
accuracy of our calculations. Accordingly, we recommend you consult your tax
advisor concerning your required minimum distribution. You may terminate your
election for automated minimum distribution at any time by sending a written
request to our Annuity Service Center. We reserve the right to change or
discontinue this service at any time.
The IRS issued new regulations, effective January 1, 2003, regarding required
minimum distributions from qualified annuity contracts. One of the regulations
requires that the annuity contract value used to determine required minimum
distributions include the actuarial value of other benefits under the contract,
such as optional death benefits. This regulation does not apply to required
minimum distributions made under an irrevocable annuity income option. We are
currently awaiting further clarification from the IRS on this regulation,
including how the value of such benefits is determined. You should discuss the
effect of these new regulations with your tax advisor.
TAX TREATMENT OF DEATH BENEFITS
Any death benefits paid under the contract are taxable to the Beneficiary. The
rules governing the taxation of payments from an annuity contract, as discussed
above, generally apply whether the death benefits are paid as lump sum or
annuity payments. Estate taxes may also apply.
Certain enhanced death benefits may be purchased under your contract. Although
these types of benefits are used as investment protection and should not give
rise to any adverse tax effects, the IRS could take the position that some or
all of the charges for these death benefits should be treated as a partial
withdrawal from the contract. In that case, the amount of the partial withdrawal
may be includible in taxable income and subject to the 10% penalty if the owner
is under 59 1/2.
If you own a Qualified contract and purchase these enhanced death benefits, the
IRS may consider these benefits "incidental death benefits." The IRC imposes
limits on the amount of the incidental death benefits allowable for Qualified
contracts. If the death benefit(s) selected by you are considered to exceed
these limits, the benefit(s)could result in taxable income to the owner of the
Qualified contract. Furthermore, the IRC provides that the assets of an IRA
(including a Roth IRA) may not be invested in life insurance, but may provide,
in the case of death during the Accumulation Phase, for a death benefit payment
equal to the greater of Purchase Payments or Contract Value. This contract
offers death benefits, which may exceed the greater of Purchase Payments or
Contract Value. If the IRS determines that these benefits are providing life
insurance, the contract may not qualify as an IRA (including Roth IRAs). You
should consult your tax advisor regarding these features and benefits prior to
purchasing a contract.
CONTRACTS OWNED BY A TRUST OR CORPORATION
A Trust or Corporation ("Non-Natural Owner") that is considering purchasing this
contract should consult a tax advisor. Generally, the IRC does not treat a
Non-Qualified contract owned by a non-natural owner as an annuity contract for
Federal income tax purposes. The non-natural owner pays tax currently on the
contract's value in excess of the owner's cost basis. However, this treatment is
not applied to a contract held by a trust or other entity as an agent for a
natural person nor to contracts held by Qualified Plans. See the SAI for a more
detailed discussion of the potential adverse tax consequences associated with
non-natural ownership of a non-qualified annuity contract.
GIFTS, PLEDGES AND/OR ASSIGNMENTS OF A CONTRACT
If you transfer ownership of your Non-Qualified contract to a person other than
your spouse (or former spouse incident to divorce) as a gift you will pay
federal income tax on the contract's cash value to the extent it exceeds your
cost basis. The recipient's cost basis will be increased by the amount on which
you will pay federal taxes. In addition, the IRC treats any assignment or pledge
(or agreement to assign or pledge) of any portion of a Non- Qualified contract
as a withdrawal. See the SAI for a more detailed discussion regarding potential
tax consequences of gifting, assigning, or pledging a Non-Qualified contract.
The IRC prohibits Qualified annuity contracts including IRAs from being
transferred, assigned or pledged as security for a loan. This prohibition,
however, generally does not apply to loans under an employer-sponsored plan
(including loans from the annuity contract) that satisfy certain requirements,
provided that: (a) the plan is not an unfunded deferred compensation plan; and
(b) the plan funding vehicle is not an IRA.
DIVERSIFICATION AND INVESTOR CONTROL
The IRC imposes certain diversification requirements on the underlying
investments for a variable annuity. We believe that the management of the
Underlying Funds monitors the Funds so as to comply with these requirements. To
be treated as a variable annuity for tax purposes, the underlying investments
must meet these requirements.
The diversification regulations do not provide guidance as to the circumstances
under which you, and not the Company,
19
would be considered the owner of the shares of the Variable Portfolios under
your Non-Qualified Contract, because of the degree of control you exercise over
the underlying investments. This diversification requirement is sometimes
referred to as "investor control." It is unknown to what extent owners are
permitted to select investments, to make transfers among Variable Portfolios or
the number and type of Variable Portfolios owners may select from. If any
guidance is provided which is considered a new position, then the guidance
should generally be applied prospectively. However, if such guidance is
considered not to be a new position, it may be applied retroactively. This would
mean that you, as the owner of the Non-qualified Contract, could be treated as
the owner of the underlying Variable Portfolios. Due to the uncertainty in this
area, we reserve the right to modify the contract in an attempt to maintain
favorable tax treatment.
These investor control limitations generally do not apply to Qualified
Contracts, which are referred to as "Pension Plan Contracts" for purposes of
this rule, although the limitations could be applied to Qualified Contracts in
the future.
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PERFORMANCE
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We advertise the Cash Management Portfolio's yield and effective yield. In
addition, the other Variable Portfolios advertise total return, gross yield and
yield-to-maturity. These figures represent past performance of the Variable
Portfolios. These performance numbers do not indicate future results.
When we advertise performance for periods prior to the date the particular
variable portfolio was incepted through the separate account, we derive the
figures from the performance of the corresponding portfolios for the Trusts, if
available. We modify these numbers to reflect charges and expenses as if the
contract was in existence during the period stated in the advertisement. Figures
calculated in this manner do not represent actual historic performance of the
particular Variable Portfolio.
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OTHER INFORMATION
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THE SEPARATE ACCOUNT
AIG SunAmerica Life originally established a separate account, Variable Annuity
Account Seven ("separate account"), under Arizona law on August 28, 1998. The
separate account is registered with the SEC as a unit investment trust under the
Investment Company Act of 1940, as amended.
AIG SunAmerica Life owns the assets in the separate account. However, the assets
in the separate account are not chargeable with liabilities arising out of any
other business conducted by AIG SunAmerica Life. Income gains and losses
(realized and unrealized) resulting from assets in the separate account are
credited to or charged against the separate account without regard to other
income gains or losses of AIG SunAmerica Life. Assets in the separate account
are not guaranteed by AIG SunAmerica Life.
THE GENERAL ACCOUNT
Money allocated to the fixed account options goes into AIG SunAmerica Life's
general account. The general account consists of all of AIG SunAmerica Life's
assets other than assets attributable to a separate account. All of the assets
in the general account are chargeable with the claims of any AIG SunAmerica Life
contract holders as well as all of its creditors. The general account funds are
invested as permitted under state insurance laws.
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PAYMENTS IN CONNECTION
WITH DISTRIBUTION OF THE CONTRACT
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PAYMENTS TO BROKER-DEALERS
Registered representatives of broker-dealers sell the contract. We pay
commissions to the broker-dealers for the sale of your contract ("Contract
Commissions"). There are different structures by which a broker-dealer can
choose to have their Contract Commissions paid. For example, as one option, we
may pay upfront Contract Commission, only, that may be up to a maximum 5% of
each Purchase Payment you invest (which may include promotional amounts).
Another option may be a lower upfront Contract Commission on each Purchase
Payment, with a trail commission of up to a maximum 0.25% of contract value,
annually. We pay Contract Commissions directly to the broker-dealer with whom
your registered representative is affiliated. Registered representatives may
receive a portion of these amounts we pay in accordance with any agreement in
place between the registered representative and his/her broker-dealer firm.
We (or our affiliates) may pay broker-dealers or permitted third parties cash or
non-cash compensation, including reimbursement of expenses incurred in
connection with the sale of these contracts. These payments may be intended to
reimburse for specific expenses incurred or may be based on sales, certain
assets under management or longevity of assets invested with us. For example, we
may pay additional amounts in connection with contracts that remain invested
with us for a particular period of time. We enter into such arrangements in our
discretion and we may negotiate customized arrangements with firms, including
affiliated and non-affiliated broker-dealers based on various factors.
Promotional incentives may change at any time.
We do not deduct these amounts directly from your Purchase Payments. We
anticipate recovering these amounts from the fees and charges collected under
the contract. Certain compensation payments may increase our cost of doing
business in a particular firm and may result in higher
20
contractual fees and charges if you purchase your contract through such a firm.
See EXPENSES, above.
AIG SunAmerica Capital Services, Inc., Harborside Financial Center, 3200 Plaza
5, Jersey City, NJ 07311-4992, distributes the contracts. AIG SunAmerica Capital
Services, an affiliate of AIG SunAmerica Life, is a registered broker-dealer
under the Exchange Act of 1934 and is a member of the National Association of
Securities Dealers, Inc. No underwriting fees are paid in connection with the
distribution of the contracts.
PAYMENTS WE RECEIVE
In addition to amounts received pursuant to established 12b-1 Plans, we may
receive compensation of up to 0.50% from the investment advisers, subadvisers or
their affiliates of certain of the underlying Trusts and/or portfolios for
services related to the availability of the underlying portfolios in the
contract. Furthermore, certain advisers and/or subadvisers may offset the costs
we incur for training to support sales of the underlying funds in the contract.
ADMINISTRATION
We are responsible for the administrative servicing of your contract. Please
contact our Annuity Service Center at 1-800-445-SUN2, if you have any comment,
question or service request.
During the Accumulation Phase, you will receive confirmation of transactions
within your contract. Transactions made pursuant to contractual or systematic
agreements, such as deduction of the annual maintenance fee and dollar cost
averaging, may be confirmed quarterly. Purchase Payments received through the
automatic payment plan or a salary reduction arrangement, may also be confirmed
quarterly. For other transactions, we send confirmations immediately.
During the Accumulation and Income Phases, you will receive a statement of your
transactions over the past quarter and a summary of your account values.
It is your responsibility to review these documents carefully and notify us of
any inaccuracies immediately. We investigate all inquiries. To the extent that
we believe we made an error, we retroactively adjust your contract, provided you
notify us within 30 days of receiving the transaction confirmation or quarterly
statement. Any other adjustments we deem warranted are made as of the time we
receive notice of the error.
LEGAL PROCEEDINGS
There are no pending legal proceedings affecting the separate account. AIG
SunAmerica Life engages in various kinds of routine litigation. In management's
opinion, these matters are not material in relation to the financial position of
the Company. A purported class action captioned NIKITA Mehta, as Trustee of the
N.D. Mehta Living Trust vs. AIG SunAmerica Life Assurance Company, Case 04L0199,
was filed on April 5, 2004 in the Circuit Court, Twentieth Judicial District in
St. Clair County, Illinois. The lawsuit alleges certain improprieties in
conjunction with alleged market timing activities. The probability of any
particular outcome cannot be reasonably estimated at this time.
21
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
AIG SUNAMERICA LIFE ASSURANCE COMPANY
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
AIG SunAmerica Life Assurance Company (the "Company") was incorporated as
Anchor National Life Insurance Company under the laws of the State of Arizona on
April 12, 1965 while the Company changed its name to AIG SunAmerica Life
Assurance Company on January 24, 2002. The Company continued to do business as
Anchor National Life Insurance Company until February 28, 2003, after which time
it began doing business under its new name, AIG SunAmerica Life Assurance
Company.
The Company is a direct wholly owned subsidiary of SunAmerica Life
Insurance Company (the "Parent"), which is a wholly owned subsidiary of AIG
Retirement Services, Inc. ("AIGRS") (formerly AIG SunAmerica Inc.), a wholly
owned subsidiary of American International Group, Inc. ("AIG"). AIG is a holding
company, which through its subsidiaries is engaged in a broad range of insurance
and insurance-related activities, financial services and retirement services and
asset management.
The Company has no employees; however, employees of AIGRS and other
affiliates of the Company perform various services for the Company. AIGRS had
approximately 1,900 employees at December 31, 2004, approximately 1,100 of whom
perform services for the Company as well as for certain of its affiliates.
The Company's primary activities are retirement services, herein discussed
as annuity operations and asset management operations. The annuity operations
consist of the sale and administration of deposit-type insurance contracts, such
as variable and fixed annuity contracts, universal life insurance contracts and
guaranteed investment contracts ("GICs"). The asset management operations are
conducted by the Company's registered investment advisor subsidiary, AIG
SunAmerica Asset Management Corp ("SAAMCo"), and its wholly owned distributor,
AIG SunAmerica Capital Services, Inc. ("SACS"), and its wholly owned servicing
administrator, AIG SunAmerica Fund Services, Inc. ("SFS"). See Note 13 of Notes
to the Consolidated Financial Statements for operating results by segment.
The Company ranks among the largest U.S. issuers of variable annuity
contracts. The Company distributes its products and services through an
extensive network of independent broker-dealers, full-service securities firms
and financial institutions. In prior years, GICs were marketed directly to
banks, municipalities, asset management firms and direct plan sponsors and
through intermediaries, such as managers or consultants servicing these groups.
In addition to distributing its variable annuity products through its nine
affiliated broker-dealers, the Company distributes its products through a vast
network of independent broker-dealers, full-service securities firms and
financial institutions. In total, more than 84,000 independent sales
representatives are appointed to sell the Company's annuity products. The
Company's nine affiliated broker-dealers are among the largest networks of
registered representatives in the nation. Sales through affiliated
broker-dealers accounted for approximately a quarter of the Company's total
annuity sales in 2004.
The Company believes that demographic trends have produced strong consumer
demand for long-term, investment-oriented products. According to U.S. Census
Bureau projections, the number of individuals between the ages of 45 to 64 grew
from 51 million to 69 million from 1994 to 2003, making this age group the
fastest-growing segment of the U.S. population. Between 1994 and 2003, annual
industry premiums from fixed and variable annuities increased from $155 billion
to $267 billion.
Benefiting from continued strong growth of the retirement savings market,
industry sales of tax-deferred savings products have represented, for a number
of years, a significantly larger source of new premiums for the U.S. life
insurance industry than have traditional life insurance products. Recognizing
the growth potential of this market, the Company focuses its life operations on
the sale of variable annuity contracts. In recent years, the Company has
enhanced its marketing efforts and expanded its offerings of fee-based variable
annuity contracts. Variable accounts within the Company's variable annuity
business entail no portfolio credit risk and requires significantly less capital
support than the fixed accounts of variable annuity contracts ("Fixed Options"),
which generate net investment income.
F-1
The following table shows the Company's investment income, net realized
investment losses and fee income for the year ended December 31, 2004 by primary
product line or service:
NET INVESTMENT AND FEE INCOME
<Table>
<Caption>
AMOUNT PERCENT PRIMARY PRODUCT OR SERVICE
--------- -------- -----------------------------------------
(IN THOUSANDS, EXCEPT
FOR PERCENTAGES)
Fee income:
Variable annuity policy fees, net of reinsurance.......... $369,141 42.2% Variable annuity contracts
Asset management fees..................................... 89,569 10.2 Asset management
Universal life policy fees, net of reinsurance............ 33,899 3.9 Universal life products
Surrender charges......................................... 26,219 3.0 Fixed and variable annuity contracts
Other fees................................................ 15,753 1.8 Asset management
-------- -----
Total fee income.......................................... 534,581 61.1
Investment income........................................... 363,594 41.6 Fixed annuity contracts and Fixed Options
Net realized investment losses.............................. (23,807) (2.7) Fixed annuity contracts and Fixed Options
-------- -----
Total net investment and fee income......................... $874,368 100.0%
======== =====
</Table>
ANNUITY OPERATIONS - SEPARATE ACCOUNT
The annuity operations principally engaged in the business of issuing
variable annuity contracts directed to the market for tax-deferred, long-term
savings products. It also administers closed blocks of fixed annuity contracts,
universal life insurance contracts and GICs directed to the institutional
marketplace.
The Company's variable annuity products offer investors a broad spectrum of
fund alternatives, with a choice of investment managers, as well as Fixed
Options. The Company earns fees on the amounts earned in variable account
options of its variable annuity products held in separate accounts and net
investment income on the Fixed Options held in the general account. Variable
annuity contracts offer retirement planning features similar to those offered by
fixed annuity contracts, but differ in that the contract holder's rate of return
is generally dependent upon the investment performance of the particular equity,
fixed-income, money market or asset allocation fund selected by the contract
holder. Because the investment risk is generally borne by the customer in all
but the Fixed Options, these products require significantly less capital support
than fixed annuity contracts.
At December 31, 2004, variable product liabilities were $26.04 billion, of
which $22.61 billion were held in separate accounts and $3.43 billion were the
liabilities of the Fixed Options, held in the Company's general account. The
Company's variable annuity products incorporate incentives, surrender charges
and/or other restrictions to encourage persistency. At December 31, 2004, 71% of
the Company's variable annuity liabilities held in separate accounts were
subject to surrender penalties or other restrictions. The Company's variable
annuity products also generally limit the number of transfers made in a
specified period between account options without the assessment of a fee. The
average size of a new variable annuity contract sold by the Company in 2004 was
approximately $74,000.
ANNUITY OPERATIONS - GENERAL ACCOUNT
The Company's general account obligations are fixed-rate products,
principally Fixed Options, but also including fixed annuity contracts, GICs and
universal life insurance contracts ("Fixed-Rate Products") issued in prior
years. The Fixed Options provide interest rate guarantees of certain periods
ranging up to ten years. Although the Company's annuity contracts remain in
force an average of seven to ten years, approximately 77% of the reserves for
fixed annuity contracts and Fixed Options, as well as the universal life
insurance contracts, reprice annually at discretionary rates determined by the
Company subject to a minimum rate guarantee ranging from 1.5% to 4.0%, depending
on the contract. In repricing, the Company takes into account yield
characteristics of its investment portfolio, surrender assumptions and
competitive industry pricing, among other factors.
In prior years, the Company augmented its retail annuity business with the
sale of institutional products. At December 31, 2004, the Company had $211.4
million of fixed-maturity, variable-rate GIC obligations that reprice
periodically based upon certain defined indices and $3.9 million of
fixed-maturity, fixed-rate GICs.
The Company designs its Fixed-Rate Products and conducts its investment
operations in order to closely match the duration and cash flows of the assets
in its investment portfolio to its fixed-rate obligations. The Company seeks to
achieve a predictable spread between what it earns on its assets and what it
pays on its liabilities by investing principally in fixed-rate securities. The
Company's Fixed-Rate Products incorporate incentives, surrender charges and
other restrictions in order to encourage
F-2
persistency. Approximately 77% of the Company's reserves for Fixed-Rate Products
had incentives, surrender penalties and/or other restrictions at December 31,
2004.
INVESTMENT OPERATIONS
The Company believes a portfolio principally composed of fixed-rate
investments that generate predictable rates of return should back its
liabilities for Fixed-Rate Products. The Company does not have a specific target
rate of return. Instead, its rates of return vary over time depending on the
current interest rate environment, the slope of the yield curve, the spread at
which fixed-rate investments are priced over the yield curve, default rates and
general economic conditions. The majority of the Company's invested assets are
managed by an affiliate of AIG. Its portfolio strategy is constructed with a
view to achieve adequate risk-adjusted returns consistent with its investment
objectives of effective asset-liability matching, liquidity and safety.
For more information concerning the Company's investments, including the
risks inherent in such investments, see Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Capital Resources
and Liquidity."
ASSET MANAGEMENT OPERATIONS
Effective January 1, 2004, the Parent contributed to the Company 100% of
the outstanding capital stock of its consolidated subsidiary, SAAMCo, which in
turn has two wholly owned subsidiaries: SACS and SFS. Pursuant to this
contribution, SAAMCo became a direct wholly owned subsidiary of the Company.
This contribution increased the Company's shareholder's equity by $150,653,000.
Assets, liabilities and shareholder's equity at December 31, 2003 were restated
to include $190,605,000, $39,952,000 and $150,653,000, respectively, of SAAMCo
balances. Similarly, the results of operations and cash flows have been restated
for the years ended December 31, 2003 and 2002 for the addition and subtraction
to pretax income of $16,345,000 and $4,464,000, respectively, to reflect the
SAAMCo activity.
The asset management operations are conducted by the Company's registered
investment advisor subsidiary, SAAMCo, and its wholly owned distributor, SACS,
and its wholly owned servicing administrator, SFS. These companies earn fee
income by managing, distributing and administering a diversified family of
mutual funds, serving as investment advisor to certain variable investment
portfolios offered within the Company's variable annuity products and providing
professional management of individual, corporate and pension plan portfolios.
REGULATION
The Company, in common with other insurers, is subject to regulation and
supervision by the states and jurisdictions in which it does business. Within
the United States, the method of such regulation varies but generally has its
source in statutes that delegate regulatory and supervisory powers to an
insurance official. The regulation and supervision relate primarily to approval
of policy forms and rates, the standards of solvency that must be met and
maintained, including risk based capital measurements, the licensing of insurers
and their agents, the nature of and limitations on investments, restrictions on
the size of risks which may be insured under a single contract, deposits of
securities for the benefit of contract holders, methods of accounting, periodic
examinations of the affairs of insurance companies, the form and content of
reports of financial condition required to be filed, and reserves for unearned
premiums, losses and other purposes. In general, such regulation is for the
protection of contract holders rather than security holders.
Risk-based capital ("RBC") standards are designed to measure the adequacy
of an insurer's statutory capital and surplus in relation to the risks inherent
in its business. The standards are intended to help identify inadequately
capitalized companies and require specific regulatory actions in the event an
insurer's RBC is deficient. The RBC formula develops a risk-adjusted target
level of adjusted statutory capital and surplus by applying certain factors to
various asset, premium and reserve items. Higher factors are applied to more
risky items and lower factors are applied to less risky items. Thus, the target
level of statutory surplus varies not only as a result of the insurer's size,
but also on the risk profile of the insurer's operations. The RBC Model Law
provides four incremental levels of regulatory attention for insurers whose
surplus is below the calculated RBC target. These levels of attention range in
severity from requiring the insurer to submit a plan for corrective action to
actually placing the insurer under regulatory control. The statutory capital and
surplus of the Company exceeded its RBC requirements as of December 31, 2004.
The federal government does not directly regulate the business of
insurance, however, the Company, its subsidiaries and its products are governed
by federal agencies, including the Securities and Exchange Commission ("SEC"),
the Internal Revenue Service and the self-regulatory organization, National
Association of Securities Dealers, Inc. ("NASD"). Federal legislation and
administrative policies in several areas, including financial services
regulation, pension regulation and federal taxation, can significantly and
adversely affect the insurance industry. The federal government has from time to
time considered legislation relating to the deferral of taxation on the
accretion of value within certain annuities and life insurance products, changes
in the
F-3
Employee Retirement Income Security Act regulations, the alteration of the
federal income tax structure and the availability of Section 401(k) and
individual retirement accounts. Although the ultimate effect of any such
changes, if implemented, is uncertain, both the persistency of our existing
products and our ability to sell products may be materially impacted in the
future.
Recently there has been a significant increase in federal and state
regulatory activity relating to financial services companies, particularly
mutual fund companies and life insurers issuing variable annuity products. These
inquiries have focused on a number of issues including, among other items,
after-hours trading, short-term trading (sometimes referred to as market
timing), suitability, revenue sharing arrangements and greater transparency
regarding compensation arrangements. There are several rule proposals pending at
the SEC, the NASD and on a federal level, which, if passed, could have an impact
on the business of the Company and/or its subsidiaries.
COMPETITION
The businesses conducted by the Company are highly competitive. The Company
competes with other life insurers, and also competes for customers' funds with a
variety of investment products offered by financial services companies other
than life insurance companies, such as banks, investment advisors, mutual fund
companies and other financial institutions. In 2003, net annuity premiums
written among the top 100 companies ranged from approximately $79 million to
approximately $20 billion annually. The Company together with its affiliates
ranked third largest of this group. The Company believes the primary competitive
factors among life insurance companies for investment-oriented insurance
products, such as annuities include product flexibility, net return after fees,
innovation in product design, the insurer financial strength rating and the name
recognition of the issuing company, the availability of distribution channels
and service rendered to the customer before and after a contract is issued.
Other factors affecting the annuity business include the benefits (including
before-tax and after-tax investment returns) and guarantees provided to the
customer and the commissions paid.
AVAILABLE INFORMATION
AIG SunAmerica Life Assurance Company (the "Company") files annual,
quarterly, and current reports and other information with the Securities and
Exchange Commission (the "SEC"). The SEC maintains a website that contains
annual, quarterly, and current reports and other information that issuers
(including the Company) file electronically with the SEC. The SEC's website is
http://www.sec.gov. Additionally, any materials the Company files with the SEC
may be read and copied at the SEC's Public Reference Room at 450 Fifth Street,
NW, Washington, DC 20549. The public may obtain information on the operation of
the Public Reference Room by calling the SEC at 1-800-SEC-0330. The Company does
not maintain a website.
The Company makes available free of charge, Annual Reports on Form 10-K,
Quarterly Reports of Form 10-Q and Current Reports of Form 8-K and amendments to
those reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Securities Exchange Act of 1934 as soon as reasonably practicable after such
materials are electronically filed with, or furnished to the SEC.
SECURITIES AND EXCHANGE COMMISSION POSITION ON INDEMNIFICATION
Indemnification for liabilities arising under the 1933 Act is provided to
the Company's officers, directors and controlling persons. The SEC has advised
that it believes such indemnification is against public policy under the
Securities Act and unenforceable. If a claim for indemnification against such
liabilities (other than for payment of expenses incurred or paid by its
directors, officers or controlling persons in the successful defense of any
legal action) is asserted by a director, officer or controlling person of the
Company in connection with the securities registered under this prospectus, the
Company will submit to a court with jurisdiction to determine whether the
indemnification is against public policy under the Act. The Company will be
governed by final judgment of the issue. However, if in the opinion of the
Company's counsel this issue has been determined by controlling precedent, the
Company will not submit the issue to a court for determination.
DESCRIPTION OF PROPERTY
The Company's executive offices and its principal office are in leased
premises at 1 SunAmerica Center, Los Angeles, California 90067. The Company,
through an affiliate, also leases office space in Woodland Hills, California and
Jersey City, New Jersey.
The Company believes that such properties, including the equipment located
therein, are suitable and adequate to meet the requirements of its businesses.
F-4
SELECTED FINANCIAL DATA
The following selected financial data of the Company should be read in
conjunction with the consolidated financial statements and notes thereto and
Management's Discussion and Analysis of Financial Condition and Results of
Operations, both of which are included elsewhere herein.
The following selected financial date of the Company for years prior to
December 31, 2004 have been restated as if the contribution of SAAMCo and its
related subsidiaries were effective as of the earliest period reported below.
The following amounts include only the subsidiaries of SAAMCo as of December 31,
2004.
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
----------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
(IN THOUSANDS)
Results of Operations
Revenues:
Fee income, net of reinsurance.............................. $534,581 $427,091 $444,002 $481,945 $549,970
Investment income........................................... 363,594 402,923 387,355 370,198 398,168
Net realized investment losses.............................. (23,807) (30,354) (65,811) (59,784) (15,177)
-------- -------- -------- -------- --------
Total revenues............................................ 874,368 799,660 765,546 792,359 932,961
Benefits and Expenses:
Interest expense............................................ 222,749 240,213 238,129 244,614 264,493
Amortization of bonus interest.............................. 10,357 19,776 16,277 11,938 3,824
General and administrative expenses......................... 131,612 119,093 115,210 99,232 138,955
Amortization of deferred acquisition costs and other
deferred expenses......................................... 157,650 160,106 222,484 208,378 154,183
Annual commissions.......................................... 64,323 55,661 58,389 58,278 56,473
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,420 17,766 15,716 17,566 19,914
Guaranteed minimum death benefits, net of reinsurance
recoveries................................................ 58,756 63,268 67,492 17,839 614
-------- -------- -------- -------- --------
Total benefits & expenses................................. 662,867 675,883 733,697 657,845 638,456
-------- -------- -------- -------- --------
Pretax income before cumulative effect of accounting
change.................................................... 211,501 123,777 31,849 134,514 294,505
Income tax expense.......................................... 6,410 30,247 160 21,824 94,400
-------- -------- -------- -------- --------
Net income before cumulative effect of accounting change.... 205,091 93,530 31,689 112,690 200,105
-------- -------- -------- -------- --------
Cumulative effect of accounting change, net of tax.......... (62,589) -- -- (10,342) --
-------- -------- -------- -------- --------
Net Income.................................................. $142,502 $ 93,530 $ 31,689 $102,348 $200,105
======== ======== ======== ======== ========
</Table>
In 2004, the Company adopted AICPA Statement of Position 03-1, "Accounting
and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration
Contracts and for Separate Accounts ("SOP 03-1"), which was recorded as a
cumulative effect of accounting change. (See Note 2 of Notes to Consolidated
Financial Statements).
F-5
In 2001, the Company adopted EITF 99-20 "Recognition of Interest Income and
Impairment on Purchased and Retained Beneficial Interests in Securitized
Financial Assets" and Statement of Financial Accounting Standard 133,
"Accounting for Derivative Instruments and Hedging Activities" (FAS 133), which
were recorded as a cumulative effect of accounting change.
<Table>
<Caption>
DECEMBER 31,
-------------------------------------------------------------------
2004 2003 2002 2001 2000
----------- ----------- ----------- ----------- -----------
(IN THOUSANDS)
Financial Position
Investments and cash.................................. $ 7,125,986 $ 7,124,633 $ 7,248,324 $ 6,294,148 $ 5,249,827
Variable annuity assets held in separate accounts..... 22,612,451 19,178,796 14,758,642 18,526,413 20,393,820
Deferred acquisition costs and other deferred
expenses............................................ 1,606,870 1,505,328 1,436,802 1,419,498 1,286,456
Other assets.......................................... 150,708 162,970 309,221 258,446 177,468
----------- ----------- ----------- ----------- -----------
Total Assets.......................................... $31,496,015 $27,971,727 $23,752,989 $26,498,505 $27,107,571
=========== =========== =========== =========== ===========
Reserves for fixed annuity and fixed accounts of
variable annuity contracts.......................... $ 3,948,158 $ 4,274,329 $ 4,285,098 $ 3,498,917 $ 2,778,229
Reserves for universal life insurance contracts....... 1,535,905 1,609,233 1,676,073 1,738,493 1,832,667
Reserves for guaranteed investment contracts.......... 215,331 218,032 359,561 483,861 610,672
Variable annuity liabilities related to separate
accounts............................................ 22,612,451 19,178,796 14,758,642 18,526,413 20,393,820
Other payables and accrued liabilities................ 1,172,594 794,031 831,138 839,032 268,201
Subordinated notes payable to affiliates.............. -- 40,960 40,960 47,960 55,119
Deferred income taxes................................. 257,532 242,556 341,935 211,242 81,989
Shareholder's equity.................................. 1,754,044 1,613,790 1,459,582 1,152,587 1,086,874
----------- ----------- ----------- ----------- -----------
Total Liabilities and Shareholder's Equity............ $31,496,015 $27,971,727 $23,752,989 $26,498,505 $27,107,571
=========== =========== =========== =========== ===========
</Table>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Management's discussion and analysis of financial condition and results of
operations of AIG SunAmerica Life Assurance Company (the "Company") for the
years ended December 31, 2004 ("2004"), 2003 ("2003") and 2002 ("2002") follows.
Certain prior period amounts have been reclassified to conform to the current
period's presentation.
In connection with the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995, the Company cautions readers regarding certain
forward-looking statements contained in this report and in any other statements
made by, or on behalf of, the Company, whether or not in future filings with the
Securities and Exchange Commission (the "SEC"). Forward-looking statements are
statements not based on historical information and which relate to future
operations, strategies, financial results, or other developments. Statements
using verbs such as "expect," "anticipate," "believe" or words of similar import
generally involve forward-looking statements. Without limiting the foregoing,
forward-looking statements include statements which represent the Company's
beliefs concerning future levels of sales and redemptions of the Company's
products, investment spreads and yields, or the earnings and profitability of
the Company's activities.
Forward-looking statements are necessarily based on estimates and
assumptions that are inherently subject to significant business, economic and
competitive uncertainties and contingencies, many of which are beyond the
Company's control and many of which are subject to change. These uncertainties
and contingencies could cause actual results to differ materially from those
expressed in any forward-looking statements made by, or on behalf of, the
Company. Whether or not actual results differ materially from forward-looking
statements may depend on numerous foreseeable and unforeseeable developments.
Some may be national in scope, such as general economic conditions, changes in
tax law and changes in interest rates. Some may be related to the insurance
industry generally, such as pricing, competition, regulatory developments and
industry consolidation. Others may relate to the Company specifically, such as
credit, volatility and other risks associated with the Company's investment
portfolio. Investors are also directed to consider other risks and uncertainties
discussed in documents filed by the Company with the SEC. The Company disclaims
any obligation to update forward-looking information.
CRITICAL ACCOUNTING POLICIES
The Company considers its most critical accounting policies those policies
with respect to valuation of certain financial instruments, amortization of
deferred acquisition costs ("DAC") and other deferred expenses and the reserve
for guaranteed benefits. In the implementation of each of the aforementioned
policies, management is required to exercise its judgment on both a quantitative
and qualitative basis. Further explanation of how management exercises that
judgment follows.
F-6
Valuation of Certain Financial Instruments: Gross unrealized losses on debt
and equity securities available for sale amounted to $27.1 million at December
31, 2004. In determining if and when a decline in fair value below amortized
cost is other than temporary, the Company evaluates at each reporting period the
market conditions, offering prices, trends of earnings, price multiples, and
other key measures for investments in debt and equity securities. In particular,
for debt securities, the Company assesses the probability that all amounts due
are collectible according to the contractual terms of the obligation. When such
a decline in value is deemed to be other than temporary, the Company recognizes
an impairment loss in the current period operating results to the extent of the
decline (See also discussion within "Capital Resources and Liquidity" herein).
Securities in the Company's portfolio with a carrying value of
approximately $813.0 million at December 31, 2004 do not have readily
determinable market prices. For these securities, the Company estimates the fair
value with internally prepared valuations (including those based on estimates of
future profitability). Otherwise, the Company uses its most recent purchases and
sales of similar unquoted securities, independent broker quotes or comparison to
similar securities with quoted prices when possible to estimate the fair value
of those securities. All such securities are classified as available for sale.
The Company's ability to liquidate its positions in these securities will be
impacted to a significant degree by the lack of an actively traded market, and
the Company may not be able to dispose of these investments in a timely manner.
Although the Company believes its estimates reasonably reflect the fair value of
those securities, the key assumptions about the risk-free interest rates, risk
premiums, performance of underlying collateral, if any, and other factors may
not reflect those of an active market.
Amortization of Deferred Acquisition Costs and Other Deferred Expenses:
Policy acquisition costs include commissions and other costs that vary with, and
are primarily related to, the production or acquisition of new business. Such
costs are deferred and amortized over the estimated lives of the annuity
contracts. Approximately 81% of the amortization of DAC and other deferred
expenses was attributed to policy acquisition costs deferred by the annuity
operations and 19% was attributed to the distribution costs deferred by the
asset management operations. For the annuity operations, the Company amortizes
DAC and other deferred expenses based on a percentage of expected gross profits
("EGPs") over the life of the underlying policies. EGPs are computed based on
assumptions related to the underlying policies written, including their
anticipated duration, the growth rate of the separate account assets (with
respect to variable options of the variable annuity contracts) or general
account assets (with respect to fixed annuity contracts, Fixed Options and
universal life insurance contracts) supporting these obligations, costs of
providing contract guarantees and the level of expenses necessary to administer
the policies. The Company adjusts amortization of DAC and other deferred
expenses (a "DAC unlocking") when current or estimates of future gross profits
to be realized from its annuity contracts are revised as more fully described
below. Substantially all of the DAC balance attributed to annuity operations at
December 31, 2004 related to variable annuity contracts.
DAC amortization on annuities is impacted by surrender rates, claims costs,
and the actual and assumed future growth rate of the assets supporting the
Company's obligations under annuity policies. With respect to Fixed Options, the
growth rate depends on the yield on the general account assets supporting those
annuity contracts. With respect to the variable options of the variable annuity
contracts, the growth rate depends on the performance of the investment options
available under the annuity contract and the allocation of assets among these
various investment options.
The assumption the Company uses for the long-term annual net growth rate of
the separate account assets in the determination of DAC amortization with
respect to its variable annuity contracts is 10% (the "long-term growth rate
assumption"). The Company uses a "reversion to the mean" methodology that allows
it to maintain this 10% long-term growth rate assumption, while also giving
consideration to the effect of short-term swings in the equity markets. For
example, if performance was 15% during the first year following the introduction
of a product, the DAC model would assume that market returns for the following
five years (the "short-term growth rate assumption") would be approximately 9%,
resulting in an average annual growth rate of 10% during the life of the
product. Similarly, following periods of below 10% performance, the model will
assume a short-term growth rate higher than 10%. A DAC unlocking will occur if
management deems the short-term growth rate assumption (i.e., the growth rate
required to revert to the mean 10% growth rate over a five-year period) to be
unreasonable. The use of a reversion to the mean assumption is common within the
industry; however, the parameters used in the methodology are subject to
judgment and vary within the industry.
For the asset management operations, the Company defers distribution costs
that are directly related to the sale of mutual funds that have a 12b-1
distribution plan and/or a contingent deferred sales charge feature
(collectively, "Distribution Fee Revenue"). These costs are amortized on a
straight-line basis, adjusted for redemptions, over a period ranging from one
year to eight years depending on share class. The carrying value of the deferred
asset is subject to continuous review based on projected Distribution Fee
Revenue. Amortization of deferred distribution costs is increased if at any
reporting period the value of the deferred amount exceeds the projected
Distribution Fee Revenue. The projected Distribution Fee Revenue is impacted by
estimated future withdrawal rates and the rates of market return. Management
uses historical activity to estimate future withdrawal rates and average annual
performance of the equity markets to estimate the rates of market return.
F-7
Reserve for Guaranteed Benefits: Pursuant to the adoption 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")
which was adopted on January 1, 2004, the Company is required to recognize a
liability for guaranteed minimum death benefits and other guaranteed benefits.
In calculating the projected liability, five thousand stochastically generated
investment performance scenarios were developed using the Company's best
estimates. These assumptions included, among others, mean equity return and
volatility, mortality rates and lapse rates. The estimation of cash flow and the
determination of the assumptions used require judgment, which can, at times, be
subjective.
Several of the guaranteed benefits are sensitive to equity market
conditions. The Company uses the purchase of reinsurance and capital market
hedging strategies to mitigate the risk of paying benefits in excess of account
values as a result of significant downturns in equity markets. Risk mitigation
may or may not reduce the volatility of net income resulting from equity market
volatility. Reinsurance or hedges are secured when the cost is less than the
risk reduction. The Company expects to use either additional reinsurance or
capital market hedges for risk mitigation on an opportunistic basis. Despite the
purchase of reinsurance or hedges, the reinsurance or hedge secured may be
inadequate to completely offset the effects of changes in equity markets.
BUSINESS SEGMENTS
Effective January 1, 2004, SunAmerica Life Insurance Company (the
"Parent"), the parent of the Company, contributed to the Company 100% of the
outstanding capital stock of its consolidated subsidiary, AIG SunAmerica Asset
Management Corp. ("SAAMCo"), which in turn has two wholly owned subsidiaries:
AIG SunAmerica Capital Services, Inc. ("SACS") and AIG SunAmerica Fund Services,
Inc. ("SFS"). This contribution increased the Company's shareholder's equity by
approximately $150.7 million (see Note 1 of Notes to Consolidated Financial
Statements). Effective January 1, 2004, the Company's earnings include the asset
management operations of SAAMCo, SACS and SFS. Prior year results have been
restated to account for this contribution as if it had occurred at the beginning
of the earliest period presented.
The Company has two business segments: annuity operations and asset
management operations. The annuity operations consist of the sale and
administration of deposit-type insurance contracts, such as variable and fixed
annuity contracts, universal life insurance contracts and guaranteed investment
contracts. The Company focuses primarily on the marketing of variable annuity
products. The variable annuity products offer investors a broad spectrum of fund
alternatives, with a choice of investment managers, as well as Fixed Options.
The Company earns fee income on amounts invested in the variable account options
and net investment spread on the Fixed Options.
The asset management operations are conducted by the Company's registered
investment advisor subsidiary, SAAMCo, and its wholly owned distributor, SACS,
and its wholly owned servicing administrator, SFS. These companies earn fee
income by managing, distributing and administering a diversified family of
mutual funds, servicing as investment advisor to certain variable investment
portfolios offered within the Company's variable annuity products and providing
professional management of individual, corporate and pension plan portfolios.
RESULTS OF OPERATIONS
NET INCOME totaled $142.5 million in 2004, compared with $93.5 million in
2003 and $31.7 million in 2002.
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX reflected the adoption
of SOP 03-1 on January 1, 2004. The Company recorded a loss of $62.6 million,
net of tax, which is recognized in the consolidated statement of income and
comprehensive income as a cumulative effect of accounting change for the year
ended December 31, 2004.
PRETAX INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE totaled $211.5
million in 2004, compared with $123.8 million in 2003 and $31.8 million in 2002.
The increase in 2004 compared to 2003 was primarily due to higher variable
annuity policy fee and asset management fee income, partially offset by lower
investment income and higher general and administrative and other expenses. The
increase in 2003 compared to 2002 was primarily due to reductions in net
realized investment losses and amortization of DAC and other expenses.
INCOME TAX EXPENSE totaled $6.4 million in 2004, $30.2 million in 2003 and
$0.2 million in 2002 representing effective tax rates of 3%, 24% and 1%,
respectively. The tax expense in 2004 included the benefit of $39.7 million
resulting from the reduction of the prior year tax liability based on additional
information becoming available. Excluding this benefit the effective tax rate is
22% in 2004. The unusually low effective tax rate for 2002 is due primarily to
the lower relative pretax income without corresponding reductions in permanent
tax differences. See Note 11 of the Notes to Consolidated Financial Statements
for a reconciliation of income tax expense to the federal statutory rate.
F-8
ANNUITY OPERATIONS
PRETAX INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE totaled $176.9
million in 2004, compared with $98.7 million in 2003 and $27.7 million in 2002.
The increase in 2004 compared to 2003 was primarily due to higher variable
annuity policy fee income and lower amortization of deferred acquisition costs
and other deferred expenses partially offset by higher general and
administrative and other expenses. The increase in 2003 compared to 2002 was
primarily due to lower net realized investment losses and improved net
investment income as customers allocated more dollars to the fixed rate portion
of variable annuity contracts.
NET INVESTMENT SPREAD, a non-GAAP measure, represents investment income
less interest credited to Fixed-Rate Products is a key measurement used by the
Company in evaluating the profitability of its annuity business. Investment
income includes income earned on invested assets, as well as the mark-to-market
on both purchased derivatives and embedded derivatives inherent in certain
product guarantees. Accordingly, the Company presents an analysis of net
investment spread because the Company has determined this measure to be useful
and meaningful.
In evaluating its investment yield and net investment spread, the Company
calculates average invested assets using the amortized cost of bonds, notes and
redeemable preferred stocks. This basis does not include unrealized gains and
losses, which are reflected in the carrying value (i.e., fair value) of those
investments pursuant to Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities". In the
calculation of average invested assets, the Company excludes collateral received
from a securities lending program, which is offset by a securities lending
payable in the same amount. The Company participates in a securities lending
program with an affiliated agent, pursuant to which it lends its securities and
primarily takes cash as collateral with respect to the securities lent.
Participation in securities lending agreements provides additional net
investment income for the Company, resulting from investment income earned on
the collateral, less interest paid on the securities lending agreements and the
related management fees paid to an affiliate to administer the program.
An analysis of net investment spread and a reconciliation to pretax income
before cumulative effect of accounting change is presented in the following
table:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
---------------------------------
2004 2003 2002
--------- --------- ---------
(IN THOUSANDS)
Investment income........................................... $ 362,631 $ 398,304 $ 377,556
Interest credited to fixed annuity contracts and Fixed
Options................................................... (140,889) (153,636) (142,973)
Interest credited to universal life insurance contracts..... (73,745) (76,415) (80,021)
Interest credited to guaranteed investment contracts........ (6,034) (7,534) (11,267)
--------- --------- ---------
Net investment spread....................................... 141,963 160,719 143,295
Net realized investment losses.............................. (24,100) (30,354) (65,811)
Fee income, net of reinsurance.............................. 429,259 344,908 358,983
Amortization of bonus interest.............................. (10,357) (19,776) (16,277)
General and administrative expenses......................... (93,188) (83,013) (79,287)
Amortization of DAC and other deferred expenses............. (126,142) (137,130) (171,583)
Annual commissions.......................................... (64,323) (55,661) (58,389)
Claims on UL contracts, net of reinsurance recoveries....... (17,420) (17,766) (15,716)
Guaranteed benefits, net of reinsurance recoveries.......... (58,756) (63,268) (67,492)
--------- --------- ---------
Pretax income before cumulative effect of accounting
change.................................................... $ 176,936 $ 98,659 $ 27,723
========= ========= =========
</Table>
Net investment spread totaled $142.0 million in 2004, compared to $160.7
million in 2003 and $143.3 million in 2002. These amounts equal 2.28% on average
invested assets (computed on a daily basis) of $6.22 billion in 2004, 2.37% on
average invested assets of $6.66 billion in 2003 and 2.41% on average invested
assets of $6.09 billion in 2002. The decrease in net investment spread in 2004
from 2003 reflected results from lower average invested assets as discussed
below and reinvesting in the historically low prevailing interest rate
environment that has persisted throughout 2003 and 2004. The increase in net
investment spread in 2003 from 2002 resulted from substantial growth in average
invested assets and effective management of interest crediting rates to offset
lower yields available on invested assets.
F-9
The components of net investment spread were as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
---------------------------------------
2004 2003 2002
----------- ----------- -----------
(DOLLARS IN THOUSANDS)
Net investment spread....................................... $ 141,963 $ 160,719 $ 143,295
Average invested assets..................................... 6,216,792 6,656,360 6,086,517
Average interest-bearing liabilities........................ (5,942,627) (6,407,102) (5,962,521)
Yield on average invested assets............................ 5.83% 5.98% 6.20%
Rate paid on average interest-bearing liabilities........... 3.71 3.71 3.93
----------- ----------- -----------
Difference between yield and interest rate paid............. 2.12% 2.27% 2.27%
=========== =========== ===========
Net investment spread as a percentage of average invested
assets.................................................... 2.28% 2.41% 2.35%
=========== =========== ===========
</Table>
The decline in average invested assets resulted primarily from net
exchanges from Fixed Options into the separate accounts of variable annuity
contracts, partially offset by new deposits of Fixed Options. Deposits of Fixed
Options and renewal deposits on its universal life insurance contracts totaled
$1.41 billion 2004, $1.58 billion in 2003 and $1.78 billion in 2002, and are
primarily deposits for the Fixed Options. Deposits of Fixed Options represent
24% in 2004, 27% in 2003 and 34% in 2002, of the related reserve balances at the
beginning of the respective periods.
Net investment spread includes the effect of income earned or interest paid
on the difference between average invested assets and average interest-bearing
liabilities. Average invested assets exceeded average interest-bearing
liabilities by $274.2 million in 2004, compared with $249.3 million in 2003 and
$124.0 million in 2002. The difference between the Company's yield on average
invested assets and the rate paid on average interest-bearing liabilities was
2.12% in 2004 and 2.27% in 2003 and 2.27% in 2002.
Investment income (and the related yields on average invested assets)
totaled $362.6 million (5.83%) in 2004, compared with $398.3 million (5.98%) in
2003 and $377.6 million (6.20%) in 2002. The decrease in the investment yield
primarily reflects the reinvesting in the historically low prevailing interest
rate environment that has persisted throughout 2002, 2003 and 2004, as well as a
$4.3 million reduction in income from the mark to market of the S&P 500 put
options and the guaranteed minimum account value and guaranteed minimum
withdrawal benefit embedded derivatives in 2004. Excluding the impact of the put
options and embedded derivatives, investment income would have been $361.6
million (5.82%) and $393.0 million (5.90%) in 2004 and 2003, respectively.
Expenses incurred to manage the investment portfolio amounted to $2.5 million in
2004, $2.3 million in 2003 and $2.4 million in 2002. These expenses are included
as a reduction of investment income in the consolidated statement of income and
comprehensive income.
Interest expense (and the related rate paid on average interest-bearing
liabilities) totaled $220.7 million (3.71%) in 2004, $237.6 million (3.71%) in
2003 and $234.3 million (3.93%) in 2002. Interest-bearing liabilities averaged
$5.94 billion during 2004, $6.41 billion during 2003 and $5.96 billion during
2002.
NET REALIZED INVESTMENT LOSSES totaled $24.1 million in 2004, $30.4 million
in 2003 and $65.8 million in 2002 and include impairment writedowns of $21.1
million, $54.1 million and $57.3 million, respectively. Thus, net realized
losses from sales and redemptions of investments totaled $3.0 million in 2004,
compared with net realized gains of $23.7 million in 2003 and net realized
losses of $8.5 million in 2002.
The Company sold or redeemed invested assets, principally bonds and notes,
aggregating $1.97 billion in 2004, $2.21 billion in 2003 and $1.60 billion in
2002. Sales of investments result from the active management of the Company's
investment portfolio. Because redemptions of investments are generally
involuntary and sales of investments are made in both rising and falling
interest rate environments, net gains and losses from sales and redemptions of
investments fluctuate from period to period, and represent 0.05%, 0.36% and
0.14% of average invested assets for 2004, 2003 and 2002, respectively. Active
portfolio management involves the ongoing evaluation of asset sectors,
individual securities within the investment portfolio and the reallocation of
investments from sectors that are perceived to be relatively overvalued to
sectors that are perceived to be relatively undervalued. The intent of the
Company's active portfolio management is to maximize total returns on the
investment portfolio, taking into account credit, option, liquidity and
interest-rate risk.
Impairment writedowns include $21.1 million, $54.1 million and $57.3
million of provisions principally applied to bonds in 2004, 2003 and 2002,
respectively. Impairment writedowns represent 0.34%, 0.81% and 0.96% of average
invested assets in the respective periods. For the five years ended December 31,
2004, impairment writedowns as a percentage of average invested assets have
ranged from 0.34% to 1.27% and have averaged 0.75%. Such writedowns are based
upon estimates of the fair value of invested assets and recorded when declines
in the value of such assets are considered to be other than temporary. Actual
realization will be dependent upon future events.
F-10
VARIABLE ANNUITY POLICY FEES, NET OF REINSURANCE are generally based on the
market value of assets in the separate accounts supporting variable annuity
contracts. Such fees totaled $369.1 million in 2004, $281.4 million in 2003 and
$286.9 million in 2002 and are net of reinsurance premiums of $28.6 million,
$30.8 million and $22.5 million, respectively. The increased fees in 2004
compared to 2003 primarily reflect the improved equity market conditions in 2004
and the latter part of 2003, and the resulting favorable impact on market values
of the assets in the separate accounts. The decreased fees in 2003 as compared
to 2002 reflected increased reinsurance premiums. Variable annuity policy fees
represent 1.8%, 1.7% and 1.7% of average variable annuity assets in 2004, 2003
and 2002, respectively. Variable annuity assets averaged $20.41 billion, $16.32
billion and $16.45 billion during the respective periods. Variable annuity
deposits, which exclude deposits allocated to the Fixed Options, totaled $2.65
billion in 2004, $1.73 billion in 2003 and $1.18 billion in 2002. These amounts
represent 14%, 12% and 6% of variable annuity reserves at the beginning of the
respective periods. The increase in variable annuity deposits in 2004 and 2003
reflected increased demand for variable annuity products due to the improved
equity market conditions in 2004 and the latter part of 2003. Transfers from the
Fixed Options to the separate accounts are not classified as variable annuity
deposits. Accordingly, changes in variable annuity deposits are not necessarily
indicative of the ultimate allocation by customers among fixed and variable
account options of the Company's variable annuity products.
Sales of variable annuity products (which include deposits allocated to the
Fixed Options) ("Variable Annuity Product Sales") amounted to $4.01 billion,
$3.27 billion and $2.92 billion in 2004, 2003 and 2002, respectively. Such sales
primarily reflect those of the Company's Polaris and Seasons families of
variable annuity products. The Company's variable annuity products are primarily
multi-manager variable annuities that offer investors a choice of several
variable funds as well as up to seven fixed funds, depending on the product. The
increase in Variable Annuity Product Sales in 2004 and 2003 reflects the
generally improved equity market conditions in 2004 and the latter part of 2003.
The Company has encountered increased competition in the variable annuity
marketplace during recent years and anticipates that the market will remain
highly competitive for the foreseeable future. Also, from time to time, federal
initiatives are proposed that could affect the taxation of annuities (see
"Regulation").
With respect to all reinsurance agreements, the Company could become liable
for all obligations of the reinsured policies if the reinsurers were to become
unable to meet the obligations assumed under the respective reinsurance
agreements. The Company monitors its credit exposure with respect to these
agreements. Due to the high credit ratings and periodic monitoring of these
ratings of the reinsurers, such risks are considered to be minimal.
UNIVERSAL LIFE INSURANCE POLICY FEES, NET OF REINSURANCE amounted to $33.9
million in 2004, $35.8 million in 2003 and $36.3 million in 2002 and are net of
reinsurance premiums of $34.3 million, $33.7 million and $34.1 million,
respectively. Universal life insurance policy fees consist of mortality charges,
up-front fees earned on deposits received and administrative fees, net of
reinsurance premiums. The administrative fees are assessed based on the number
of policies in force as of the end of each month. The Company acquired its
universal life insurance contracts as part of the acquisition of business from
MBL Life Assurance Corporation on December 31, 1998 and does not actively market
such contracts. Such fees represent 2.20%, 2.23% and 2.17% of average reserves
for universal life insurance contracts in the respective periods.
SURRENDER CHARGES on variable annuity and universal life insurance
contracts totaled $26.2 million in 2004, $27.7 million in 2003 and $32.5 million
in 2002. Surrender charge periods range from zero to nine years from the date a
deposit is received. Surrender charges generally are assessed on withdrawals at
declining rates.
GENERAL AND ADMINISTRATIVE EXPENSES totaled $93.2 million in 2004, $83.0
million in 2003 and $79.3 million in 2002. The increase in 2004 results from
higher information technology costs and payroll related expenses resulting from
the servicing of a larger block of annuity contracts. General and administrative
expenses remain closely controlled through a company-wide cost containment
program and continue to represent less than 1% of average total assets.
AMORTIZATION OF DEFERRED ACQUISITION COSTS AND OTHER DEFERRED EXPENSES
totaled $126.1 million in 2004, compared with $137.1 million in 2003 and $171.6
million in 2002. DAC amortization in 2003 reflected a declining market which led
to higher DAC amortization (i.e. impairments on specific products) during the
first nine months of 2003 and is partially offset by an $18.0 million DAC
unlocking. The higher amortization in 2002 was primarily related to lower
estimates of future gross profits on variable annuity contracts compared to the
prior years in light of the downturn in the equity markets in 2002, and
additional variable annuity product sales over the last twelve months and the
subsequent amortization of related deferred commissions and other direct selling
costs.
ANNUAL COMMISSIONS totaled $64.3 million in 2004, compared with $55.7
million in 2003 and $58.4 million in 2002. Annual commissions generally
represent renewal commissions paid quarterly in arrears to maintain the
persistency of certain of the Company's variable annuity contracts.
Substantially all of the Company's currently available variable annuity products
allow for an annual commission payment option in return for a lower immediate
commission. The vast majority of the Company's average balances of its variable
annuity products are currently subject to such annual commissions.
F-11
CLAIMS ON UNIVERSAL LIFE CONTRACTS, NET OF REINSURANCE RECOVERIES totaled
$17.4 million in 2004, compared with $17.8 million in 2003 and $15.7 million in
2002 (net of reinsurance recoveries of $34.2 million in 2004, $34.0 million in
2003 and $29.2 million in 2002). The change in such claims resulted principally
from changes in mortality experience and the reinsurance recoveries there on.
GUARANTEED BENEFITS, NET OF REINSURANCE RECOVERIES on variable annuity
contracts totaled $58.8 million in 2004, compared with $63.3 million in 2003 and
$67.5 million in 2002 and are net of reinsurance recoveries of $2.7 million,
$8.0 million and $8.4 million, respectively. These guaranteed benefits consist
primarily of guaranteed minimum death benefits as well as immaterial amounts of
earnings enhancement benefits and guaranteed minimum income benefits. These
guarantees are described in more detail in the following paragraphs. The
decrease during 2004 reflects the generally improved equity market conditions in
2004 and the latter part of 2003. Downturns in the equity markets could increase
these expenses.
Guaranteed minimum death benefits ("GMDB") are issued on a majority of the
Company's variable annuity products. GMDB provides that, upon the death of a
contract holder, the contract holder's beneficiary will receive the greater of
(1) the contract holder's account value, or (2) a guaranteed minimum death
benefit that varies by product and election by the contract holder. The Company
bears the risk that death claims following a decline in the debt and equity
markets may exceed contract holder account balances and that the fees collected
under the contract are insufficient to cover the costs of the benefit to be
provided. On January 1, 2004, the Company recorded a liability for guaranteed
benefits including GMDB (see Note 2 of Notes to Consolidated Financial
Statements) pursuant to adoption of a new accounting standard, SOP 03-1.
Earnings enhancement benefit ("EEB") is a feature the Company offers on
certain variable annuity products. For contract holders who elect the feature,
the EEB provides an additional death benefit amount equal to a fixed percentage
of earnings in the contract, subject to certain maximums. The Company bears the
risk that account values following favorable performance of the financial
markets will result in greater EEB death claims and that the fees collected
under the contract are insufficient to cover the costs of the benefit to be
provided.
Guaranteed minimum income benefit ("GMIB") is a feature the Company offers
on certain variable annuity products. This feature provides a minimum fixed
annuity payment guarantee for those contract holders who choose to receive fixed
lifetime annuity payments after a seven, nine, or ten-year waiting period in
their deferred annuity contracts. The Company bears the risk that the
performance of the financial markets will not be sufficient for accumulated
contract holder account balances to support GMIB benefits and that the fees
collected under the contract are insufficient to cover the costs of the benefit
to be provided. As there is a waiting period to annuitize using the GMIB, there
are no policies eligible to receive this benefit at December 31, 2004. The
Company has eliminated offering a GMIB feature that guarantees a return in
excess of the amount to be annuitized in order to mitigate its exposure.
Guaranteed minimum account value ("GMAV") is a feature the Company offers
on certain variable annuity products in the third quarter of 2002. If available
and elected by the contract holder at the time of contract issuance, this
feature guarantees that the account value under the contract will at least equal
the amount of the deposits invested during the first ninety days of the
contract, adjusted for any subsequent withdrawals, at the end of a ten-year
waiting period. The Company bears the risk that protracted under-performance of
the financial markets could result in GMAV benefits being higher than the
underlying contract holder account balance and that the fees collected under the
contract are insufficient to cover the costs of the benefit to be provided. The
Company purchased put options on the S&P 500 index to partially offset this
risk. Changes in the market value of both the GMAV benefit and the put options
are recorded in investment income in the accompanying consolidated statement of
income and comprehensive income.
Guaranteed minimum withdrawal benefit ("GMWB") is a feature the Company
began offering on certain variable annuity products in May of 2004. If available
and elected by the contract holder at the time of contract issuance, this
feature provides a guaranteed annual withdrawal stream, regardless of market
performance, equal to deposits invested during the first ninety days adjusted
for any subsequent withdrawals ("Eligible Premium"). These guaranteed annual
withdrawals of up to 10% of Eligible Premium are available after either a
three-year or a five-year waiting period, as elected by the contract holder at
the time of contract issuance, without reducing the future amounts guaranteed.
If no withdrawals have been made during the waiting period of 3 or 5 years, the
contract holder will realize an additional 10% or 20%, respectively, of Eligible
Premium after all other amounts guaranteed under this benefit have been paid.
The Company bears the risk that protracted under-performance of the financial
markets could result in GMWB benefits being higher than the underlying contract
holder account balance and that the fees collected under the contract are
insufficient to cover the costs of the benefit to be provided. The Company
purchased put options on the S&P 500 index to partially offset this risk.
Changes in the market value of both the GMWB benefit and the put options are
recorded in investment income in the accompanying consolidated statement of
income and comprehensive income.
F-12
Management expects substantially all of the Company's near-term exposure to
guaranteed benefits will relate to GMDB and EEB. As sales of products with other
guaranteed benefits increase, the Company expects these other guarantees to have
an increasing impact on operating results, under current hedging strategies.
ASSET MANAGEMENT OPERATIONS
PRETAX INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE totaled $34.6
million in 2004, compared to $25.1 million in 2003 and $4.1 million in 2002. The
increases in 2004 from 2003 resulted from the impact of higher average asset
base and higher margin on account servicing fees, partially offset by increased
amortization of DAC and other deferred expenses. The increase in 2003 from 2002
resulted from decreased amortization of DAC and other deferred expenses.
ASSET MANAGEMENT FEES, which include investment advisory fees and 12b-1
distribution fees, are based on the market value of assets managed by SAAMCo in
its mutual funds and certain variable annuity portfolios. Such fees totaled
$89.6 million on average assets managed of $9.65 billion in 2004, $66.7 million
on average assets managed of $8.15 billion in 2003 and $66.4 million on average
assets managed of $7.64 billion in 2002. The increase in asset management fees
is primarily the result of a higher average asset base and higher margin on
account servicing fees. Mutual fund sales, excluding sales of money market
accounts and private accounts, totaled $2.14 billion in 2004, compared to $2.23
billion in 2003 and $1.67 billion in 2002. Redemptions of mutual funds,
excluding redemptions of money market accounts, amounted to $1.56 billion in
2004, $1.55 billion in 2003 and $1.55 billion in 2002, which represent 20%, 25%
and 25%, respectively, of average related mutual fund assets. The 4% decrease in
mutual fund sales in 2004 compared to 2003 primarily reflects generally
difficult equity market conditions in the second and third quarters of 2004. The
increase in sales in 2003 principally reflects increasing demand for equity
products, due to generally improved equity market conditions in the latter part
of 2003.
GENERAL AND ADMINISTRATIVE EXPENSES totaled $38.4 million in 2004, $36.1
million in 2003 and $35.9 million in 2002. General and administrative expenses
increased in 2004 due primarily to higher employee-related costs.
AMORTIZATION OF DEFERRED ACQUISITION COSTS AND OTHER DEFERRED EXPENSES
includes amortization of distribution costs that totaled $31.5 million in 2004,
compared with $23.0 million in 2003 and $35.9 million in 2002. The increased
amortization in 2004 was primarily due to additional mutual fund sales and
amortization of the deferred commissions thereon. In 2002, amortization of
deferred acquisition costs and other deferred expenses included additional
amortization of $24.2 million, resulting from certain distribution costs whose
carrying value exceeded projected revenue.
CAPITAL RESOURCES AND LIQUIDITY
SHAREHOLDER'S EQUITY increased to $1.75 billion at December 31, 2004 from
$1.61 billion at December 31, 2003 due to $142.5 million of net income and $49.1
million of capital contribution from Parent partially offset by a $49.1 million
tax effect on a distribution of investment and a $2.5 million dividend to the
Parent.
F-13
INVESTMENTS AND CASH at December 31, 2004 totaled $7.13 billion, compared
with $7.14 billion at December 31, 2003. The Company's invested assets are
managed by an affiliate. The following table summarizes the Company's portfolio
of bonds, notes and redeemable preferred stocks (the "Bond Portfolio") and other
investments and cash at December 31, 2004 and 2003:
<Table>
<Caption>
DECEMBER 31, 2004 DECEMBER 31, 2003
----------------------- -----------------------
FAIR PERCENT OF FAIR PERCENT OF
VALUE PORTFOLIO VALUE PORTFOLIO
---------- ---------- ---------- ----------
BOND PORTFOLIO: (IN THOUSANDS, EXCEPT FOR PERCENTAGES)
U.S. government securities.................................. $ 30,300 0.4% $ 24,292 0.3%
Mortgage-backed securities.................................. 956,567 13.4 1,191,817 16.7
Securities of public utilities.............................. 332,038 4.7 365,150 5.1
Corporate bonds and notes................................... 2,902,829 40.8 2,697,142 37.9
Redeemable preferred stocks................................. 21,550 0.3 22,175 0.3
Other debt securities....................................... 917,743 12.9 1,205,224 16.9
---------- ----- ---------- -----
Total Bond Portfolio........................................ 5,161,027 72.5 5,505,800 77.2
Mortgage loans.............................................. 624,179 8.7 716,846 10.1
Common stocks............................................... 4,902 0.1 727 0.0
Cash and short-term investments............................. 201,117 2.8 133,105 1.9
Securities lending collateral............................... 883,792 12.4 514,145 7.2
Other invested assets....................................... 250,969 3.5 254,010 3.6
---------- ----- ---------- -----
Total investments and cash.................................. $7,125,986 100.0% $7,124,633 100.0%
========== ===== ========== =====
</Table>
The Company's general investment philosophy is to hold fixed-rate assets
for long-term investment. Thus, it does not have a trading portfolio. However,
the Company has determined that all of the Bond Portfolio is available to be
sold in response to changes in market interest rates, changes in relative value
of asset sectors and individual securities, changes in prepayment risk, changes
in the credit quality outlook for certain securities, the Company's need for
liquidity and other similar factors.
THE BOND PORTFOLIO, which constituted 72% of the Company's total investment
portfolio at December 31, 2004, had an aggregate fair value that was $153.2
million greater than its amortized cost at December 31, 2004, compared with
$154.6 million at December 31, 2003.
At December 31, 2004, the Bond Portfolio had an aggregate fair value of
$5.16 billion and an aggregate amortized cost of $5.01 billion. At December 31,
2004, the Bond Portfolio (excluding $21.6 million of redeemable preferred
stocks) included $4.50 billion of bonds rated by Standard & Poor's ("S&P"),
Moody's Investors Service ("Moody's") or Fitch ("Fitch") and $638.1 million of
bonds rated by the National Association of Insurance Commissioners ("NAIC") or
the Company pursuant to statutory ratings guidelines established by the NAIC. At
December 31, 2004, approximately $4.75 billion of the Bond Portfolio was
investment grade, including $986.8 million of mortgage-backed securities ("MBS")
and U.S. government/agency securities.
At December 31, 2004, the Bond Portfolio included $386.4 million of bonds
that were not investment grade. These non-investment-grade bonds accounted for
approximately 1% of the Company's total assets and approximately 5% of its
invested assets. Non-investment-grade securities generally provide higher yields
and involve greater risks than investment-grade securities because their issuers
typically are more highly leveraged and more vulnerable to adverse economic
conditions than investment-grade issuers. In addition, the trading market for
these securities is usually more limited than for investment-grade securities.
An economic downturn could produce higher than average issuer defaults on the
non-investment-grade securities, which could cause the Company's investment
returns and net income to decline. At December 31, 2004, the Company's
non-investment-grade bond portfolio consisted of 171 issues with no single
issuer representing more than 10% of the total non-investment-grade portfolio.
These non-investment-grade securities are comprised of bonds spanning 10
industries with 19%, 16%, 16% and 10% concentrated in telecommunications,
utilities, financial services and noncyclical consumer products industries,
respectively. No other industry concentration constituted more than 10% of these
assets.
F-14
The table below summarizes the Company's rated bonds by rating
classification as of December 31, 2004.
RATED BONDS BY RATING CLASSIFICATION
<Table>
<Caption>
ISSUES RATED BY ISSUES NOT RATED BY
S&P/MOODY'S/FITCH S&P/MOODY'S/FITCH, BY NAIC CATEGORY TOTAL
- ------------------------------------------ ------------------------------------- ------------------------------------------
S&P/MOODY'S/FITCH AMORTIZED ESTIMATED NAIC AMORTIZED ESTIMATED AMORTIZED ESTIMATED PERCENT OF TOTAL
CATEGORY(1) COST FAIR VALUE CATEGORY(2) COST FAIR VALUE COST FAIR VALUE INVESTED ASSETS
- ----------------- ---------- ---------- ------------ --------- ---------- ---------- ---------- ----------------
(DOLLARS IN THOUSANDS)
AAA+ to A-
(Aaa to A3)
[AAA to A-] $2,888,647 $2,964,803 1 $266,034 $270,334 $3,154,681 $3,235,137 45.40%
BBB+ to BBB-
(Baa to Baa3)
[BBB+ to BBB-] 1,203,109 1,233,692 2 276,973 284,221 1,480,082 1,517,913 21.30%
BB+ to BB-
(Bal to Ba3)
[BB+ to BB-] 133,070 138,091 3 36,371 36,462 169,441 174,553 2.45%
B+ to B-
(Bl to B3)
[B+ to B-] 129,347 140,699 4 11,600 11,524 140,947 152,223 2.14%
CCC+ to CCC-
(Caal to Caa3)
[CCC+ to CCC-] 18,954 19,353 5 7,305 6,695 26,259 26,048 0.37%
CC to D
(Ca to C)
[CC to D] 1,842 4,722 6 14,476 28,880 16,318 33,602 0.47%
---------- ---------- -------- -------- ---------- ----------
TOTAL RATED
ISSUES $4,374,969 $4,501,360 $612,759 $638,116 $4,987,728 $5,139,476
========== ========== ======== ======== ========== ==========
</Table>
Footnotes to the table of Rated Bonds by Rating Classification
(1) S&P and Fitch rate debt securities in rating categories ranging from AAA
(the highest) to D (in payment default). A plus (+) or minus (-) indicates
the debt's relative standing within the rating category. A security rated
BBB- or higher is considered investment grade. Moody's rates debt securities
in rating categories ranging from Aaa (the highest) to C (extremely poor
prospects of ever attaining any real investment standing). The number 1, 2
or 3 (with 1 the highest and 3 the lowest) indicates the debt's relative
standing within the rating category. A security rated Baa3 or higher is
considered investment grade. Issues are categorized based on the highest of
the S&P, Moody's and Fitch ratings if rated by multiple agencies.
(2) Bonds and short-term promissory instruments are divided into six quality
categories for NAIC rating purposes, ranging from 1 (highest) to 5 (lowest)
for non-defaulted bonds plus one category 6, for bonds in or near default.
These six categories correspond with the S&P/ Moody's/Fitch rating groups
listed above, with categories 1 and 2 considered investment grade. The NAIC
categories include $131.5 million of assets that were rated by the Company
pursuant to applicable NAIC rating guidelines.
The valuation of invested assets involves obtaining a fair value for each
security. The source for the fair value is generally from market exchanges, with
the exception of non-traded securities.
Another aspect of valuation pertains to impairment. As a matter of policy,
the determination that a security has incurred an other-than-temporary decline
in value and the amount of any loss recognition requires the judgment of the
Company's management and a continual review of its investments. In general, a
security is considered a candidate for impairment if it meets any of the
following criteria:
- Trading at a significant discount to par, amortized cost (if lower) or
cost for an extended period of time;
- The occurrence of a discrete credit event resulting in: (i) the issuer
defaulting on a material outstanding obligation; (ii) the issuer
seeking protection from creditors under the bankruptcy laws or similar
laws intended for the court supervised reorganization of insolvent
enterprises; or (iii) the issuer proposing a voluntary reorganization
pursuant to which creditors are asked to exchange their claims for cash
or securities having a fair value substantially lower than the par
value of their claims; or
- In the opinion of the Company's management, it is unlikely the Company
will realize a full recovery on its investment, irrespective of the
occurrence of one of the foregoing events.
F-15
Once a security has been identified as potentially impaired, the amount of
such impairment is determined by reference to that security's contemporaneous
market price.
The Company has the ability to hold any security to its stated maturity.
Therefore, the decision to sell reflects the judgment of the Company's
management that the security sold is unlikely to provide, on a relative value
basis, as attractive a return in the future as alternative securities entailing
comparable risks. With respect to distressed securities, the sale decision
reflects management's judgment that the risk-discounted anticipated ultimate
recovery is less than the value achieved on sale.
As a result of these policies, the Company recorded pretax impairment
writedowns of $21.1 million, $54.1 million and $57.3 million in 2004, 2003 and
2002, respectively. No individual impairment loss, net of DAC and taxes, during
the year exceeded 10% of the Company's net income for the year ended December
31, 2004.
Excluding the impairments noted above, the changes in fair value for the
Company's Bond Portfolio, which constitutes the vast majority of the Company's
investments, were recorded as a component of other comprehensive income in
shareholder's equity as unrealized gains or losses.
At December 31, 2004, the fair value of the Company's Bond Portfolio
aggregated $5.16 billion. Of this aggregate fair value, approximately 0.03%
represented securities trading at or below 75% of amortized cost. The impact of
unrealized losses on net income will be further mitigated upon realization,
because realization will result in current decreases in the amortization of DAC
and decreases in income taxes.
At December 31, 2004, approximately $3.91 billion, at amortized cost, of
the Bond Portfolio had a fair value of $4.09 billion resulting in an aggregate
unrealized gain of $180.3 million. At December 31, 2004, approximately $1.10
billion, at amortized cost, of the Bond Portfolio had a fair value of $1.07
billion resulting in an aggregate unrealized loss of $27.1 million. No single
issuer accounted for more than 10% of unrealized losses. Approximately 36%, 15%
and 11% of unrealized losses were from the financial services, transportation
and noncyclical consumer products industries, respectively. No other industry
accounted for more than 10% of unrealized losses.
The amortized cost of the Bond Portfolio in an unrealized loss position at
December 31, 2004, by contractual maturity, is shown below.
<Table>
<Caption>
AMORTIZED COST
--------------
(IN THOUSANDS)
Due in one year or less..................................... $ 46,250
Due after one year through five years....................... 422,237
Due after five years through ten years...................... 389,073
Due after ten years......................................... 243,973
----------
Total....................................................... $1,101,533
==========
</Table>
F-16
The aging of the Bond Portfolio in an unrealized loss position at December
31, 2004 is shown below:
<Table>
<Caption>
LESS THAN OR EQUAL TO 20% GREATER THAN 20% TO 50% GREATER THAN 50%
OF AMORTIZED COST OF AMORTIZED COST OF AMORTIZED COST
------------------------------- ------------------------------ ------------------------------
AMORTIZED UNREALIZED AMORTIZED UNREALIZED AMORTIZED UNREALIZED
MONTHS COST LOSS ITEMS COST LOSS ITEMS COST LOSS ITEMS
- ------ ---------- ---------- ----- --------- ---------- ----- --------- ---------- -----
(DOLLARS IN THOUSANDS)
Investment Grade
Bonds
0-6 $ 455,818 $ (4,128) 73 $ -- $ -- -- $ -- $ -- --
7-12 387,123 (6,808) 57 -- -- -- -- -- --
>12 171,695 (7,108) 22 17,477 (4,046) 3 -- -- --
---------- -------- --- ------- ------- ---- ---- ----- ----
Total $1,014,636 $(18,044) 152 $17,477 $(4,046) 3 $ -- $ -- --
========== ======== === ======= ======= ==== ==== ===== ====
Below Investment
Grade Bonds
0-6 $ 28,496 $ (1,806) 13 $ -- $ -- -- $452 $(292) 3
7-12 8,773 (489) 8 -- -- -- -- -- --
>12 31,699 (2,467) 11 -- -- -- -- -- --
---------- -------- --- ------- ------- ---- ---- ----- ----
Total $ 68,968 $ (4,762) 32 $ -- $ -- -- $452 $(292) 3
========== ======== === ======= ======= ==== ==== ===== ====
Total Bonds
0-6 $ 484,314 $ (5,934) 86 $ -- $ -- -- $452 $(292) 3
7-12 395,896 (7,297) 65 -- -- -- -- -- --
>12 203,394 (9,575) 33 17,477 (4,046) 3 -- -- --
---------- -------- --- ------- ------- ---- ---- ----- ----
Total $1,083,604 $(22,806) 184 $17,477 $(4,046) 3 $452 $(292) 3
========== ======== === ======= ======= ==== ==== ===== ====
<Caption>
TOTAL
-------------------------------
AMORTIZED UNREALIZED
MONTHS COST LOSS ITEMS
- ------ ---------- ---------- -----
(DOLLARS IN THOUSANDS)
Investment Grade
Bonds
0-6 $ 455,818 $ (4,128) 73
7-12 387,123 (6,808) 57
>12 189,172 (11,154) 25
---------- -------- ---
Total $1,032,113 $(22,090) 155
========== ======== ===
Below Investment
Grade Bonds
0-6 $ 28,948 $ (2,098) 16
7-12 8,773 (489) 8
>12 31,699 (2,467) 11
---------- -------- ---
Total $ 69,420 $ (5,054) 35
========== ======== ===
Total Bonds
0-6 $ 484,766 $ (6,226) 89
7-12 395,896 (7,297) 65
>12 220,871 (13,621) 36
---------- -------- ---
Total $1,101,533 $(27,144) 190
========== ======== ===
</Table>
In 2004, the pretax realized losses incurred with respect to the sale of
fixed-rate securities in the Bond Portfolio was $12.6 million. The aggregate
fair value of securities sold was $140.3 million, which was approximately 92% of
amortized cost. The average period of time that securities sold at a loss during
2004 were trading continuously at a price below amortized cost was approximately
21 months.
The valuation for the Company's Bond Portfolio comes from market exchanges
or dealer quotations, with the exception of non-traded securities. The Company
considers non-traded securities to mean certain fixed income investments and
certain structured securities. The aggregate fair value of these securities at
December 31, 2004 was approximately $813.0 million. The Company estimates the
fair value with internally prepared valuations (including those based on
estimates of future profitability). Otherwise, the Company uses its most recent
purchases and sales of similar unquoted securities, independent broker quotes or
comparison to similar securities with quoted prices when possible to estimate
the fair value of those securities. All such securities are classified as
available for sale.
For certain structured securities, the carrying value is based on an
estimate of the security's future cash flows pursuant to the requirements of
Emerging Issues Task Force Issue No. 99-20, "Recognition of Interest Income and
Impairment on Purchased and Retained Beneficial Interests in Securitized
Financial Assets." The change in carrying value is recognized in income.
Each of these investment categories is regularly tested to determine if
impairment in value exists. Various valuation techniques are used with respect
to each category in this determination.
Senior secured loans ("Secured Loans") are included in the Bond Portfolio
and aggregated $277.2 million at December 31, 2004. Secured Loans are senior to
subordinated debt and equity and are secured by assets of the issuer. At
December 31, 2004, Secured Loans consisted of $190.1 million of privately traded
securities and $87.1 million of publicly traded securities. These Secured Loans
are composed of loans to 59 borrowers spanning 10 industries, with 26%, 18%,
15%, 12% and 11% from the utilities, telecommunications, transportation,
noncyclical consumer products and cyclical consumer products industries,
respectively. No other industry constituted more than 10% of these assets.
While the trading market for the Company's privately traded Secured Loans
is more limited than for publicly traded issues, participation in these
transactions has enabled the Company to improve its investment yield. As a
result of restrictive financial covenants, these Secured Loans involve greater
risk of technical default than do publicly traded investment-grade securities.
However, management believes that the risk of loss upon default for these
Secured Loans is mitigated by such financial covenants and the collateral values
underlying the Secured Loans.
F-17
MORTGAGE LOANS aggregated $624.2 million at December 31, 2004 and consisted
of 100 commercial first mortgage loans with an average loan balance of
approximately $6.2 million, collateralized by properties located in 30 states.
Approximately 32% of this portfolio was office, 17% was manufactured housing,
17% was multifamily residential, 11% was industrial, 11% was hotels, and 12% was
other types. At December 31, 2004, approximately 27%, 11% and 10% of this
portfolio were secured by properties located in California, Michigan and
Massachusetts, respectively. No more than 10% of this portfolio was secured by
properties located in any other single state. At December 31, 2004, 13 mortgage
loans have an outstanding balance of $10 million or more, which collectively
aggregated approximately 45% of this portfolio. At December 31, 2004,
approximately 42% of the mortgage loan portfolio consisted of loans with balloon
payments due before January 1, 2008. During 2004 and 2003, loans delinquent by
more than 90 days, foreclosed loans and structured loans have not been
significant in relation to the total mortgage loan portfolio.
Substantially all of the mortgage loan portfolio has been originated by the
Company under its underwriting standards. Commercial mortgage loans on
properties such as offices, hotels and shopping centers generally represent a
higher level of risk than do mortgage loans secured by multifamily residences.
This greater risk is due to several factors, including the larger size of such
loans and the more immediate effects of general economic conditions on these
commercial property types. However, due to the Company's underwriting standards,
the Company believes that it has prudently managed the risk attributable to its
mortgage loan portfolio while maintaining attractive yields.
SECURITIES LENDING COLLATERAL totaled $883.8 million at December 31, 2004,
compared to $514.1 million at December 31, 2003, and consisted of cash
collateral invested in highly rated short-term securities received in connection
with the Company's securities lending program. The increase in securities
lending collateral in 2004 results from increased demand for securities in the
Company's portfolio. Although the cash collateral is currently invested in
highly rated short-term securities, the applicable collateral agreements permit
the cash collateral to be invested in highly liquid short and long-term
investment portfolios. At least 75% of the portfolio's short-term investments
must have external issue ratings of A-1/P-1, one of the highest ratings for
short-term credit quality. Long-term investments include corporate notes with
maturities of five years or less and a credit rating by at least two nationally
recognized statistical rating organizations ("NRSRO"), with no less than a S&P
rating of A or equivalent by any other NRSRO.
ASSET-LIABILITY MATCHING is utilized by the Company in an effort to
minimize the risks of interest rate fluctuations and disintermediation (i.e. the
risk of being forced to sell investments during unfavorable market conditions).
The Company believes that its fixed-rate liabilities should be backed by a
portfolio principally composed of fixed-rate investments that generate
predictable rates of return. The Company does not have a specific target rate of
return. Instead, its rates of return vary over time depending on the current
interest rate environment, the slope of the yield curve, the spread at which
fixed-rate investments are priced over the yield curve, default rates and
general economic conditions. Its portfolio strategy is constructed with a view
to achieve adequate risk-adjusted returns consistent with its investment
objectives of effective asset-liability matching, liquidity and safety. The
Company's Fixed-Rate Products incorporate incentives, surrender charges and/or
other restrictions in order to encourage persistency. Approximately 77% of the
Company's reserves for Fixed-Rate Products had surrender penalties or other
restrictions at December 31, 2004.
As part of its asset-liability matching discipline, the Company conducts
detailed computer simulations that model its fixed-rate assets and liabilities
under commonly used interest rate scenarios. With the results of these computer
simulations, the Company can measure the potential gain or loss in fair value of
its interest-rate sensitive instruments and seek to protect its economic value
and achieve a predictable spread between what it earns on its invested assets
and what it pays on its liabilities by designing its Fixed-Rate Products and
conducting its investment operations to closely match the duration and cash
flows of the fixed-rate assets to that of its fixed-rate liabilities. The
fixed-rate assets in the Company's asset-liability modeling include: cash and
short-term investments; bonds, notes and redeemable preferred stocks; mortgage
loans; policy loans; and investments in limited partnerships that invest
primarily in fixed-rate securities. At December 31, 2004, these assets had an
aggregate fair value of $6.17 billion with an option-adjusted duration of 3.2
years. The Company's fixed-rate liabilities include Fixed Options, as well as
universal life insurance, fixed annuity and GIC contracts. At December 31, 2004,
these liabilities had an aggregate fair value (determined by discounting future
contractual cash flows by related market rates of interest) of $5.54 billion
with an option-adjusted duration of 3.6 years. The Company's potential exposure
due to a relative 10% decrease in prevailing interest rates from its December
31, 2004 levels is a loss of approximately $0.3 million, representing an
increase in fair value of its fixed-rate liabilities that is not offset by an
increase in fair value of its fixed-rate assets. Because the Company actively
manages its assets and liabilities and has strategies in place to minimize its
exposure to loss as interest rate changes occur, it expects that actual losses
would be less than the estimated potential loss.
Option-adjusted duration is a common measure for the price sensitivity of a
fixed-maturity portfolio to changes in interest rates. For example, if interest
rates increase 1%, the fair value of an asset with a duration of 5.0 years is
expected to decrease in value by approximately 5%. The Company estimates the
option-adjusted duration of its assets and liabilities using a number of
F-18
different interest rate scenarios, assuming continuation of existing investment
and interest crediting strategies, including maintaining an appropriate level of
liquidity. Actual company and contract owner behaviors may be different than was
assumed in the estimate of option-adjusted duration and these differences may be
material.
A significant portion of the Company's fixed annuity contracts (including
the Fixed Options) has reached or is near the minimum contractual guaranteed
rate (generally 3%). Continual declines in interest rates could cause the spread
between the yield on the portfolio and the interest rate credited to
policyholders to deteriorate.
The Company has had the ability, limited by minimum interest rate
guarantees, to respond to the generally declining interest rate environment in
the last five years by lowering crediting rates in response to lower investment
returns. See the earlier discussion under "Management's Discussion and Analysis
of Financial Condition and Results of Operations" for additional information on
the calculation of investment yield and net investment spread used by the
Company's management as a key component in evaluating the profitability of its
annuity business. The trends experienced during 2004, 2003 and 2002 in the
Company's yield on average invested assets and rate of interest credited on
average interest-bearing liabilities, compared to the market trend in long-term
interest rates as illustrated by the average ten-year U.S. Treasury bond rate,
are presented in the following table:
<Table>
<Caption>
2004 2003 2002
---- ---- ----
AVERAGE 10-YEAR U.S. TREASURY BOND RATE:.................... 4.26% 4.01% 4.61%
AIG SunAmerica Life Assurance Company:
Average yield on Bond Portfolio........................... 5.66 5.75 6.23
Rate paid on average interest-bearing liabilities......... 3.71 3.71 3.93
</Table>
Since the Company's investing strategy is to hold fixed-rate assets for
long-term investment, the Company's average yield tends to trail movements in
the average U.S. treasury yield. For further discussion on average yield on the
bond portfolio and the rate paid on average interest-bearing liabilities, see
discussion on "Investment Spread."
As a component of its asset-liability management strategy, the Company may
utilize interest rate swap agreements ("Swap Agreements") to match assets more
closely to liabilities. Swap Agreements exchange interest rate payments of
differing character (for example, variable-rate payments exchanged for
fixed-rate payments) with a counterparty, based on an underlying principal
balance (notional principal) to hedge against interest rate changes.
The Company seeks to enhance its spread income with dollar roll repurchase
agreements ("Dollar Roll Repos"). Dollar Roll Repos involve a sale of MBS by the
Company and an agreement to repurchase substantially similar MBS at a later date
at an agreed upon price. No Dollar Roll Repos were outstanding at December 31,
2004. The Company also seeks to provide liquidity by investing in MBS. MBS are
generally investment-grade securities collateralized by large pools of mortgage
loans. MBS generally pay principal and interest monthly. The amount of principal
and interest payments may fluctuate as a result of prepayments of the underlying
mortgage loans.
There are risks associated with some of the techniques the Company uses to
provide liquidity, enhance its spread income and match its assets and
liabilities. The primary risk associated with the Company's Dollar Roll Repos
and Swap Agreements is counterparty risk. The Company believes, however, that
the counterparties to its Dollar Roll Repos and Swap Agreements are financially
responsible and that the counterparty risk associated with those transactions is
minimal. It is the Company's policy that these agreements are entered into with
counterparties who have a debt rating of A/A2 or better from both S&P and
Moody's. The Company continually monitors its credit exposure with respect to
these agreements. In addition to counterparty risk, Swap Agreements also have
interest rate risk. However, the Company's Swap Agreements are intended to hedge
variable-rate assets or liabilities. The primary risk associated with MBS is
that a changing interest rate environment might cause prepayment of the
underlying obligations at speeds slower or faster than anticipated at the time
of their purchase. As part of its decision to purchase such a security, the
Company assesses the risk of prepayment by analyzing the security's projected
performance over an array of interest-rate scenarios. Once such a security is
purchased, the Company monitors its actual prepayment experience monthly to
reassess the relative attractiveness of the security with the intent to maximize
total return.
INVESTED ASSETS EVALUATION is routinely conducted by the Company.
Management identifies monthly those investments that require additional
monitoring and carefully reviews the carrying values of such investments at
least quarterly to determine whether specific investments should be placed on a
nonaccrual basis and to determine declines in value that may be other than
temporary. In conducting these reviews for bonds, management principally
considers the adequacy of any collateral, compliance with contractual covenants,
the borrower's recent financial performance, news reports and other externally
generated information concerning the creditor's affairs. In the case of publicly
traded bonds, management also considers market value quotations, if available.
For mortgage loans, management generally considers information concerning the
mortgaged property and, among other things, factors impacting the current and
expected payment status of the loan and, if available, the current fair
F-19
value of the underlying collateral. For investments in partnerships, management
reviews the financial statements and other information provided by the general
partners.
The carrying values of investments that are determined to have declines in
value that are other than temporary are reduced to net realizable value and, in
the case of bonds, no further accruals of interest are made. The provisions for
impairment on mortgage loans are based on losses expected by management to be
realized on transfers of mortgage loans to real estate, on the disposition and
settlement of mortgage loans and on mortgage loans that management believes may
not be collectible in full. Accrual of interest is suspended when principal and
interest payments on mortgage loans are past due more than 90 days. Impairment
losses on securitized assets are recognized if the fair value of the security is
less than its book value, and the net present value of expected future cash
flows is less than the net present value of expected future cash flows at the
most recent (prior) estimation date.
DEFAULTED INVESTMENTS, comprising all investments that are in default as to
the payment of principal or interest, totaled $40.1 million of bonds at December
31, 2004, and constituted approximately 0.6% of total invested assets. At
December 31, 2003, defaulted investments totaled $49.6 million of bonds, which
constituted approximately 0.7% of total invested assets.
SOURCES OF LIQUIDITY are readily available to the Company in the form of
the Company's existing portfolio of cash and short-term investments, reverse
repurchase agreement capacity on invested assets and, if required, proceeds from
invested asset sales. The Company's liquidity is primarily derived from
operating cash flows from annuity operations. At December 31, 2004,
approximately $4.09 billion of the Bond Portfolio had an aggregate unrealized
gain of $180.3 million, while approximately $1.07 billion of the Bond Portfolio
had an aggregate unrealized loss of $27.1 million. In addition, the Company's
investment portfolio currently provides approximately $44.0 million of monthly
cash flow from scheduled principal and interest payments. Historically, cash
flows from operations and from the sale of the Company's annuity products have
been more than sufficient in amount to satisfy the Company's liquidity needs.
Management is aware that prevailing market interest rates may shift
significantly and has strategies in place to manage either an increase or
decrease in prevailing rates. In a rising interest rate environment, the
Company's average cost of funds would increase over time as it prices its new
and renewing Fixed-Rate Products to maintain a generally competitive market
rate. Management would seek to place new funds in investments that were matched
in duration to, and higher yielding than, the liabilities assumed. The Company
believes that liquidity to fund withdrawals would be available through incoming
cash flow, the sale of short-term or floating-rate instruments or Dollar Roll
Repos on the Company's substantial MBS segment of the Bond Portfolio, thereby
avoiding the sale of fixed-rate assets in an unfavorable bond market.
In a declining interest rate environment, the Company's cost of funds would
decrease over time, reflecting lower interest crediting rates on its Fixed-Rate
Products. Should increased liquidity be required for withdrawals, the Company
believes that a significant portion of its investments could be sold without
adverse consequences in light of the general strengthening that would be
expected in the bond market.
If a substantial portion of the Company's Bond Portfolio diminished
significantly in value and/or defaulted, the Company would need to liquidate
other portions of its investment portfolio and/or arrange financing. Such events
that may cause such a liquidity strain could be the result of economic collapse
or terrorist acts.
Management believes that the Company's liquid assets and its net cash
provided by operations will enable the Company to meet any foreseeable cash
requirements for at least the next twelve months.
GUARANTEES AND OTHER COMMITMENTS
The Company has six agreements outstanding in which it has provided
liquidity support for certain short-term securities of municipalities and
non-profit organizations by agreeing to purchase such securities in the event
there is no other buyer in the short-term marketplace. In return the Company
receives a fee. In addition, the Company guarantees the payment of these
securities upon redemption. The maximum liability under these guarantees at
December 31, 2004 is $195.4 million. These commitments have contractual maturity
dates in 2005. Related to each of these agreements are participation agreements
with the Parent, under which the Parent will share in $62.6 million of these
liabilities in exchange for a proportionate percentage of the fees received
under these agreements. The Internal Revenue Service examined the transactions
underlying these commitments, including the Company's role in the transactions.
The examination did not result in a material loss to the Company.
At December 31, 2004, the Company held reserves for GICs with maturity
dates as follows: $186.5 million in 2005 and $28.8 million in 2024.
F-20
RECENTLY ISSUED ACCOUNTING STANDARDS
In July 2003, the American Institute of Certified Public Accountants issued
Statement of Position 03-1, "Accounting and Reporting by Insurance Enterprises
for Certain Nontraditional Long-Duration Contracts and for Separate Accounts."
(For further discussion see Note 2 of Notes to Consolidated Financial
Statements.)
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
QUANTITATIVE AND QUALITATIVE DISCLOSURES
The quantitative and qualitative disclosures about market risk are
contained in the Asset-Liability Matching section of Management's Discussion and
Analysis of Financial Condition and Results of Operations.
DIRECTORS AND OFFICERS
Directors are elected for one year terms at the annual meeting of the
shareholder. They receive no additional compensation for serving as directors.
The board of directors elects executive officers to one year terms subject to
removal at the board's discretion. The directors and principal officers of AIG
SunAmerica Life Assurance Company (the "Company") as of March 31, 2005 are
listed below, together with information as to their ages, dates of election and
principal business occupations during the last five years (if other than their
present business occupations).
<Table>
<Caption>
YEAR
ASSUMED OTHER POSITIONS AND OTHER BUSINESS EXPERIENCE
NAME AGE PRESENT POSITION POSITION WITHIN LAST FIVE YEARS FROM-TO
- ---- --- ---------------------- -------- --------------------------------------------- ---------
Jay S. Wintrob*.......... 48 Chairman and Chief 2001 Chief Executive Officer, AIGRS, SunAmerica 2001-
Executive Officer Life Insurance Company ("SALIC") and First 2001-
SunAmerica Life Insurance Company ("FSA")
President, FSA 2001-
President, AIGRS 2000-
Chief Operating Officer, AIGRS 1998-2000
Vice Chairman, AIGRS (Joined AIGRS in 1987) 1995-2000
James R. Belardi*........ 48 Senior Vice President 1994 President, SALIC 2002-
Executive Vice President, AIGRS (Joined AIGRS 1995-
in 1986)
Marc H. Gamsin*.......... 49 Senior Vice President 1999 Executive Vice President, AIGRS 2001-
Senior Vice President, SALIC and FSA 1999-
Executive Vice President SunAmerica 1998-
Investments, Inc.
N. Scott Gillis*......... 51 Senior Vice President 2003 Chief Financial Officer, AIGRS, SALIC and FSA 2003-
and Chief Financial Senior Vice President, AIGRS 2002-
Officer Controller, AIGRS 2000-
Vice President, AIGRS (Joined AIGRS in 1985) 1998-2002
Jana W. Greer*........... 53 President 2002 Executive Vice President, AIGRS 2001-
President, SunAmerica Retirement Markets, 1996-
Inc. 1994-
Senior Vice President, SALIC and FSA 1992-2000
Senior Vice President, AIGRS (Joined AIGRS in
1974)
Michael J. Akers......... 55 Senior Vice President 2003 Chief Actuary, AIGRS 2003-
Senior Vice President, SALIC and FSA 2003-
Senior Vice President, AIGRS 2002-
Senior Vice President and Chief Actuary, The 1999-2002
Variable Annuity Life Insurance Company
Christine A. Nixon....... 40 Senior Vice President, 2003 Senior Vice President, General Counsel and 2003-
General Counsel and Secretary, SALIC and FSA
Secretary Chief Compliance Officer, AIGRS 2003
Secretary and Deputy Chief Legal Counsel, 2002-
AIGRS 2000-
Vice President, AIGRS (Joined AIGRS in 1993) 1997-2000
Associate General Counsel, AIGRS
Gregory M. Outcalt....... 42 Senior Vice President 2000 Vice President, SunAmerica Investments, Inc. 2002-
Senior Vice President, SALIC and FSA (Joined 2000-
AIGRS in 1986)
<Caption>
DIRECTOR
NAME SINCE
- ---- --------
Jay S. Wintrob*.......... 1990
James R. Belardi*........ 1990
Marc H. Gamsin*.......... 2000
N. Scott Gillis*......... 2000
Jana W. Greer*........... 1993
Michael J. Akers......... --
Christine A. Nixon....... --
Gregory M. Outcalt....... --
</Table>
F-21
<Table>
<Caption>
YEAR
ASSUMED OTHER POSITIONS AND OTHER BUSINESS EXPERIENCE
NAME AGE PRESENT POSITION POSITION WITHIN LAST FIVE YEARS FROM-TO
- ---- --- ---------------------- -------- --------------------------------------------- ---------
Stewart Polakov.......... 45 Senior Vice President 2003 Senior Vice President and Controller, FSA and 2003-
and Controller SALIC
Vice President, SALIC and FSA (Joined AIGRS 1997-2003
in 1991)
Edwin R. Raquel.......... 47 Senior Vice President 1995 Senior Vice President and Chief Actuary, 1995-
and Chief Actuary SALIC and FSA (Joined AIGRS in 1990)
Mallary L. Reznik........ 36 Vice President 2005 Vice President, FSA 2005-
Associate General Counsel, AIGRS 1998-
Stephen J. Stone......... 46 Vice President 2005 Vice President, FSA 2005-
Senior Portfolio Manager, Allstate Insurance 1989-2004
Company
Edward T. Texeria........ 40 Vice President 2003 Vice President, SALIC and FSA 2003-
Assistant Controller, AIGRS 2003-
Assistant Controller, SALIC and FSA 2000-2003
Senior Manager, Assurance and Advisory 1994-2000
Business Services, Ernst & Young LLP
<Caption>
DIRECTOR
NAME SINCE
- ---- --------
Stewart Polakov.......... --
Edwin R. Raquel.......... --
Mallary L. Reznik........ --
Stephen J. Stone......... --
Edward T. Texeria........ --
</Table>
- ---------------
* Also serves as a director
The Company does not have an audit committee and relies on the Audit
Committee of the Board of Directors of AIG.
EXECUTIVE COMPENSATION
The Company's executive officers provide services for the Company, its
subsidiaries and, for certain officers, its affiliates. Allocations have been
made to the Company and its subsidiaries based upon each individual's time
devoted to his or her duties for the Company and its subsidiaries. All
compensation information provided under this Item 11 is based on these
allocations.
The following table sets forth allocable compensation awarded to, earned by
or paid to the Company's chief executive officer and four other most highly
compensated executive officers for the years ended December 31, 2004, 2003 and
2002:
SUMMARY COMPENSATION TABLE
<Table>
<Caption>
LONG TERM COMPENSATION
ANNUAL COMPENSATION ---------------------------
---------------------------------- SECURITIES
NAME AND OTHER ANNUAL UNDERLYING LTIP ALL OTHER SICO LTIP
PRINCIPAL POSITION YEAR SALARY BONUS(1) COMPENSATION OPTIONS (#)(2) PAYOUTS(3) COMPENSATION(4) AWARDS(5)
- ------------------ ---- -------- -------- ------------ -------------- ---------- --------------- ---------
Jay S. Wintrob............ 2004 $ 84,500 $104,000 $21,580 6,500 $194,526 $ 5,068 $341,484
Chief Executive Officer 2003 86,125 71,500 18,330 10,400 183,365 3,041 --
2002 316,050 215,600 56,840 19,600 719,992 2,467,413 907,088
Jana W. Greer............. 2004 329,648 517,634 -- 6,762 417,973 18,109 695,051
President 2003 318,000 371,353 -- 10,560 327,366 17,208 --
2002 220,789 111,250 -- 4,005 363,902 2,014,889 556,054
Peter A. Harbeck.......... 2004 254,567 442,500 -- 7,500 364,920 14,475 531,927
President & Chief
Executive 2003 331,250 390,000 -- 13,000 389,782 18,950 --
Officer, Asset
Management 2002 223,269 160,000 50,000 6,500 444,581 1,512,950 590,070
N. Scott Gillis........... 2004 69,863 65,138 -- 1,782 36,437 5,360 170,217
Senior Vice President
and 2003 69,317 58,050 -- 3,240 24,726 6,448 --
Chief Financial Officer 2002 61,027 71,750 -- 2,460 49,230 169,465 104,361
Christine A. Nixon........ 2004 92,250 50,840 -- 2,009 20,997 7,558 64,619
Senior Vice President,
General 2003 89,038 39,600 -- 3,600 15,860 7,889 --
Counsel and Secretary 2002 46,142 27,900 -- 1,395 14,839 65,863 57,387
</Table>
- ---------------
(1) Amounts represent year-end and bonuses paid quarterly pursuant to a
quarterly bonus program sponsored by AIG and marketing incentives.
(2) Amounts represent the number of shares of common stock of AIG subject to
options granted during the year indicated.
(3) Amounts shown represent payments under the Company's 2000 and 2001 Five-Year
Deferred Bonus Plans. Awards were granted under these plans in 2000 and 2001
and additional grants are not anticipated. Each award pays out in 20%
installments over five years of continued employment. The last installment
is to be paid in 2006.
(4) Amounts shown primarily represent Company matching contributions under the
401(k) Plan and the Executive Savings Plan. Additionally, the 2002 amounts
shown for Mr. Wintrob, Ms. Greer, Mr. Harbeck, Mr. Gillis and Ms. Nixon
include allocated retention bonuses awarded in connection with the
acquisition of SunAmerica Inc. by AIG consummated on January 1, 1999.
F-22
(5) The SICO LTIP awards were granted by Starr International Company, Inc.
pursuant to its Deferred Compensation Profit Participation Plan (the "SICO
Plan").
The following table summarizes certain information with respect to the
allocable portion of grants of options to purchase AIG common stock which were
granted during 2004 to the individuals named in the Summary Compensation Table.
OPTION GRANTS IN 2004
<Table>
<Caption>
POTENTIAL REALIZABLE VALUE*
PERCENTAGE OF AT ASSUMED ANNUAL RATES OF
NUMBER OF TOTAL OPTIONS STOCK APPRECIATION FOR
SECURITIES GRANTED TO AIG EXERCISE OPTION TERM
DATE OF UNDERLYING EMPLOYEES PRICE PER EXPIRATION ----------------------------
NAME GRANT OPTIONS(1) DURING 2004(2) SHARE DATE 5 PERCENT(3) 10 PERCENT(4)
- ---- ---------- ---------- -------------- --------- ---------- ------------ -------------
Jay S. Wintrob................. 12/16/2004 6,500 0.19% $64.47 12/16/14 $263,510 $667,875
Jana W. Greer.................. 12/16/2004 6,762 0.20% 64.47 12/16/14 274,131 694,795
Peter A. Harbeck............... 12/16/2004 7,500 0.22% 64.47 12/16/14 304,050 770,625
N. Scott Gillis................ 12/16/2004 1,782 0.05% 64.47 12/16/14 72,242 183,101
Christine A. Nixon............. 12/16/2004 2,009 0.06% 64.47 12/16/14 81,445 206,425
</Table>
- ---------------
* Options would have no realizable value if there were no appreciation or if
there were depreciation from the price at which options were granted.
(1) All options relate to shares of common stock of AIG and were granted
pursuant to AIG's Amended and Restated 1999 Stock Option Plan at an exercise
price equal to the fair market value of such stock at the date of grant. The
option grants in 2004 provide that 25 percent of the options granted on any
date become exercisable on each anniversary date in each of the successive
four years and expire ten years from the date of grant.
(2) It is impractical to determine the percent the grant represents of total
options granted to the Company's employees, since the Company has no
employees. The percentage is provided with regard to options granted to
employees of AIG and its subsidiaries.
(3) The appreciated price per share at 5 percent is $105.01 per share.
(4) The appreciated price per share at 10 percent is $167.22 per share.
The following table summarizes certain information with respect to the
allocable exercise of options to purchase AIG common stock during 2004 by the
individuals named in the Summary Compensation Table and the allocable
unexercised options to purchase AIG common stock held by such individuals at
December 31, 2004 based on the allocations described above.
AGGREGATED OPTION EXERCISES DURING THE YEAR ENDED DECEMBER 31, 2004
AND DECEMBER 31, 2004 OPTION VALUES
<Table>
<Caption>
NUMBER OF
SECURITIES UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS AT
SHARES DECEMBER 31, 2004 DECEMBER 31, 2004(2)
ACQUIRED ON VALUE --------------------------- ---------------------------
NAME EXERCISE REALIZED(1) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ----------- ----------- ------------- ----------- -------------
Jay S. Wintrob............................ 21,101 $1,368,055 95,143 21,288 $ 4,474,328 $98,683
Jana W. Greer............................. 53,023 3,315,702 259,354 61,642 11,565,498 87,719
Peter A. Harbeck.......................... 14,428 710,616 57,373 45,471 1,464,499 94,203
N. Scott Gillis........................... 1,144 50,969 12,170 8,937 275,270 30,452
Christine A. Nixon........................ 3,549 203,628 12,983 9,364 377,754 34,657
</Table>
- ---------------
(1) Aggregate market value on date of exercise (closing sale price as reported
in the New York Stock Exchange Composite Transactions Report) less aggregate
exercise price.
(2) Aggregate market value on December 31, 2004 (closing sale price as reported
in the New York Stock Exchange Composite Transactions Report) less aggregate
exercise price.
F-23
The following table summarizes certain information with respect to benefits
granted under the SICO Plan which were granted during 2002 (with respect to the
2003-2004 period) to the individuals named in the Summary Compensation Table.
SICO LONG-TERM INCENTIVE PLANS(1)
<Table>
<Caption>
NUMBER UNIT AWARD ESTIMATED
NAME OF UNITS PERIOD FUTURE PAYOUTS
- ---- -------- ---------- ----------------
Jay S. Wintrob.............................................. 325 Two years 5,200 shares
Jana W. Greer............................................... 882 Two years 10,584 shares
Peter A. Harbeck............................................ 675 Two years 8,100 shares
N. Scott Gillis............................................. 216 Two years 2,592 shares
Christine A. Nixon.......................................... 123 Two years 984 shares
</Table>
- ---------------
(1) Awards represent grants of units under the SICO Plan with respect to the
two-year period from January 1, 2003 through December 31, 2004. The SICO
Plan contains neither threshold amounts nor maximum payout limitations. The
number of shares of AIG common stock, if any, allocated to a unit for the
benefit of a participant in the SICO Plan is primarily dependent upon two
factors: the growth in future earnings of AIG during the unit award period
and the book value of AIG at the end of the award period. Prior to earning
the right to payout, the participant is not entitled to any equity interest
with respect to such shares, and the shares are subject to forfeiture under
certain conditions, including but not limited to the participant's voluntary
termination of employment with AIG or its subsidiaries prior to normal
retirement age other than by death or disability.
EMPLOYEE BENEFIT PLANS
The Company participates in several employee benefit plans sponsored by
AIG.
RETIREMENT PLANS: The American International Group, Inc. Retirement Plan
(the "AIG Plan") is a non-contributory, qualified, defined benefit plan. For
employees of AIGRS and its subsidiaries, the formula equals .925% times Average
Final Compensation (defined as the average annual compensation, which includes
base pay and sales commissions, subject to limitations for certain highly
compensated employees imposed by law, during the three consecutive years in the
last ten years of credited service affording the highest such average) up to
150% of the employee's "covered compensation" (the average of the Social
Security Wage Bases during the 35 years preceding the Social Security retirement
age), plus 1.425% times Average Final Compensation in excess of 150% of the
employee's "covered compensation" times years of credited service up to 35
years; plus 1.425% times Average Final Compensation times years of credited
service in excess of 35 years but limited to 44 years.
AIG also has in place the AIG Excess Retirement Income Plan ("AIG Excess
Plan") for employees participating in the AIG Plan whose benefits under the AIG
Plan are limited by applicable tax laws. The AIG Excess Plan provides benefits
in excess of the AIG Plan benefits determined as if the benefit under the AIG
Plan has been calculated without the limitations imposed by applicable tax laws.
The AIG Excess Plan is a nonqualified, unfunded plan.
AIG also has approved a Supplemental Executive Retirement Plan ("AIG SERP")
which provides annual benefits to certain employees of AIGRS and its
subsidiaries, not to exceed 60% of Average Final Compensation, that accrue at a
rate of 2.4% of Average Final Compensation for each year of service or fraction
thereof for each full month of active employment. The benefit payable under the
AIG SERP is reduced by payments from the AIG Plan, the AIG Excess Plan, Social
Security and any payments from a qualified pension plan of a prior employer.
F-24
Annual amounts of normal retirement pension commencing at normal retirement
age of 65 based upon Average Final Compensation and credited service under the
AIG Plan and the AIG Excess Plan are illustrated in the following table:
ESTIMATED ANNUAL PENSION AT AGE 65
<Table>
<Caption>
AVERAGE FINAL
COMPENSATION 10 YEARS 15 YEARS 20 YEARS 25 YEARS 30 YEARS 35 YEARS 40 YEARS
- ------------- -------- -------- -------- -------- -------- -------- ----------
$ 125,000 $ 14,341 $ 21,512 $ 28,682 $ 35,853 $ 43,024 $ 50,194 $ 59,100
$ 150,000 17,904 26,856 35,807 44,759 53,711 62,663 73,350
$ 175,000 21,466 32,199 42,932 53,666 64,399 75,132 87,600
$ 200,000 25,029 37,543 50,057 62,572 75,086 87,600 101,850
$ 225,000 28,591 42,887 57,182 71,478 85,774 100,069 116,100
$ 250,000 32,154 48,231 64,307 80,384 96,461 112,538 130,350
$ 300,000 39,279 58,918 78,557 98,197 117,836 137,475 158,850
$ 375,000 49,966 74,949 99,932 124,916 149,899 174,882 201,600
$ 400,000 53,529 80,293 107,057 133,822 160,586 187,350 215,850
$ 500,000 67,779 101,668 135,557 169,447 203,336 237,225 272,850
$ 750,000 103,404 155,106 206,807 258,509 310,211 361,913 415,350
$1,000,000 139,029 208,543 278,057 347,572 417,086 486,600 557,850
$1,200,000 167,529 251,293 335,057 418,822 502,586 586,350 671,850
$1,400,000 196,029 294,043 392,057 490,072 588,086 686,100 785,850
$1,600,000 224,529 336,793 449,057 561,322 673,586 785,850 899,850
$1,800,000 253,029 379,543 506,057 632,572 759,086 885,600 1,013,850
$2,000,000 281,529 422,293 563,057 703,822 844,586 985,350 1,127,850
</Table>
Each of the individuals named in the Summary Compensation Table have 2.0
years of credited service (under both plans) through December 31, 2004.
Pensionable salary includes the regular salary paid by AIG and its subsidiaries
and does not include amounts attributable to supplementary bonuses or overtime
pay. For such named individuals, pensionable salary allocable to the Company
during 2004 was as follows: Mr. Wintrob - $84,500; Ms. Greer - $329,648; Mr.
Harbeck - $339,423; Mr. Gillis - $69,863; and Ms. Nixon - $92,250.
Employees of AIGRS and its subsidiaries participate in the American
International Group, Inc. Incentive Savings Plan (the "Incentive Savings Plan"),
a 401(k) plan established by AIG which includes salary reduction contributions
by employees and matching contributions. Matching contributions vary based on
the number of years the employee has been employed.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors of the Company does not have a Compensation
Committee. Compensation decisions regarding the Chief Executive Officer are made
by AIG. Compensation decisions regarding other executive officers are made by
the Chief Executive Officer.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The Company is an indirect wholly owned subsidiary of American
International Group, Inc.
The number of shares of AIG common stock beneficially owned as of January
31, 2005, by directors, executive officers named in the Summary Compensation
Table (as set forth in Item 11) and directors and executive officers as a group
were as follows:
<Table>
<Caption>
AIG COMMON STOCK
--------------------
AMOUNT AND NATURE OF
BENEFICIAL OWNERSHIP
DIRECTOR OR EXECUTIVE OFFICER (1)(2)(3)(5)
- ----------------------------- --------------------
Jay S. Wintrob(4)........................................... 2,087,506
James R. Belardi............................................ 861,222
Marc H. Gamsin.............................................. 140,616
N. Scott Gillis............................................. 47,439
Jana W. Greer............................................... 304,877
Peter A. Harbeck............................................ 132,846
Christine A. Nixon.......................................... 33,003
All Directors and Executive Officers as a Group............. 3,607,509
</Table>
F-25
- ---------------
(1) The number of shares of AIG common stock owned by each individual and by all
directors and executive officers as a group represents less than 1% of the
outstanding shares of AIG common stock.
(2) The number of shares of AIG common stock shown includes shares with respect
to which the individual shares voting and investment power as follows: Mr.
Belardi - 237 shares with his spouse; Ms. Greer - 39,105 shares with
co-trustee.
(3) The number of shares of AIG common stock shown includes shares subject to
options which may be exercised within 60 days as follows: Mr.
Wintrob - 741,870; Mr. Belardi - 305,397; Ms. Greer - 265,772; Mr.
Gillis - 46,575; Mr. Gamsin - 140,216; Mr. Harbeck - 78,122; Ms.
Nixon - 32,790; and all directors and executive officers as a
group - 1,610,742.
(4) Mr. Wintrob holds equity securities of C.V. Starr & Co., Inc. of 750 shares
of Common Stock and 3,750 shares of various series of Preferred Stock.
(5) The number of shares of AIG common stock shown excludes the following shares
owned by members of the named individual's immediate family as to which such
individual has disclaimed beneficial ownership: Mr. Wintrob - 4,009 shares
held by various family members.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
During 2004, the Company paid cash dividends to its shareholder aggregating
$2.5 million and received a capital contribution of 100% of the outstanding
capital stock of its consolidated subsidiary, AIG SunAmerica Asset Management
Corp. ("SAAMCo") (formerly SunAmerica Asset Management Corp.) which in turn has
two wholly owned subsidiaries: AIG SunAmerica Capital Services, Inc. ("SACS")
(formerly SunAmerica Capital Services, Inc.) and AIG SunAmerica Fund Services,
Inc. ("SFS") (formerly SunAmerica Fund Services, Inc.). This capital
contribution increased the Company's equity by $150,653,000.
Beginning in 2004, the Company and its subsidiaries are included in the
consolidated federal income tax return of its ultimate parent, AIG. The Company
is a party to a written agreement (the "Tax Sharing Agreement") with AIG setting
forth the manner in which the total consolidated U.S. Federal income tax is
allocated to each entity that joins in the consolidated return. The Tax Sharing
Agreement provides that AIG agrees not to charge us a greater portion of the
consolidated tax liability than would have been paid by us had the Company filed
a separate federal income tax return. Additionally, AIG agrees to reimburse the
Company for any tax benefits arising out of net losses or tax credits, if any,
within ninety days after the filing of the consolidated federal income tax
return for the year in which such losses or tax credits are utilized by AIG.
The Company paid commissions totaling $60,674,000 in 2004 to nine
affiliated broker-dealers: Royal Alliance Associates, Inc.; SunAmerica
Securities, Inc.; Advantage Capital Corporation; FSC Services Corporation;
Sentra Securities Corporation; Spelman & Co., Inc.; VALIC Financial Advisors;
American General Equity Securities Corporation and American General Securities
Inc. These affiliated broker-dealers distribute a significant portion of the
Company's variable annuity products amounting to approximately 23% of deposits
in 2004. Of the Company's mutual fund sales, approximately 25% were distributed
by these affiliated broker-dealers in 2004.
On February 1, 2004, SAAMCo entered into an administrative services
agreement with FSA whereby SAAMCo will pay to FSA a fee based on a percentage of
all assets invested through FSA's variable annuity products in exchange for
services performed. SAAMCo is the investment advisor for certain trusts that
serve as investment options for FSA's variable annuity products. Amounts
incurred by the Company under this agreement totaled $1,537,000 in 2004.
On October 1, 2001, SAAMCo entered into two administrative services
agreements with business trusts established by its affiliate, The Variable
Annuity Life Insurance Company ("VALIC"), whereby the trust pays to SAAMCo a fee
based on a percentage of average daily net assets invested through VALIC's
annuity products in exchange for services performed. Amounts earned by SAAMCo
under this agreement totaled $9,074,000 in 2004 and are net of certain
administrative costs incurred by VALIC of $2,593,000.
Pursuant to a cost allocation agreement, the Company purchases
administrative, investment management, accounting, legal, marketing and data
processing services from the Parent, AIGRS and AIG. The allocation of such costs
for investment management services is based on the level of assets under
management. The allocation of costs for other services is based on estimated
levels of usage, transactions or time incurred in providing the respective
services. Amounts paid for such services totaled $148,554,000 in 2004.
The majority of the Company's invested assets are managed by an affiliate
of the Company. The investment management fees incurred were $3,712,000 in 2004.
Additionally, the Company incurred $1,113,000 of management fees to an affiliate
of the Company to administer its securities lending program for 2004.
F-26
FINANCIAL STATEMENTS
The consolidated financial statements of AIG SunAmerica Life Assurance
Company which are included in this prospectus should be considered only as
bearing on the ability AIG SunAmerica Life to meet its obligations with respect
to amounts allocated to the fixed investment options and with respect to the
death and other living benefits and our assumption of the mortality and expense
risks and the risks that withdrawal charge will not be sufficient to cover the
cost of distributing the contracts. They should not be considered as bearing on
the investment performance of the variable Portfolios. The value of the variable
Portfolios is affected primarily by the performance of the underlying
investments.
F-27
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholder of
AIG SunAmerica Life Assurance Company:
In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of income and comprehensive income and of cash flows, in
all material respects, the financial position of AIG SunAmerica Life Assurance
Company (the "Company"), an indirect wholly owned subsidiary of American
International Group, Inc., at December 31, 2004 and 2003, and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 2004 in conformity with accounting principles generally
accepted in the United States of America. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit 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.
As discussed in Note 2 to the consolidated financial statements, the
Company changed its method of accounting and reporting for certain
nontraditional long-duration contracts in 2004.
PricewaterhouseCoopers LLP
Los Angeles, California
April 15, 2005
F-28
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED BALANCE SHEET
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Assets
Investments and cash:
Cash and short-term investments........................... $ 201,117 $ 133,105
Bonds, notes and redeemable preferred stocks available for
sale, at fair value (amortized cost: December 31, 2004,
$5,007,868; December 31, 2003, $5,351,183).............. 5,161,027 5,505,800
Mortgage loans............................................ 624,179 716,846
Policy loans.............................................. 185,958 200,232
Mutual funds.............................................. 6,131 21,159
Common stocks available for sale, at fair value (cost:
December 31, 2004, $4,876; December 31, 2003, $635)..... 4,902 727
Real estate............................................... 20,091 22,166
Securities lending collateral............................. 883,792 514,145
Other invested assets..................................... 38,789 10,453
----------- -----------
Total investments and cash................................ 7,125,986 7,124,633
Variable annuity assets held in separate accounts........... 22,612,451 19,178,796
Accrued investment income................................... 73,769 74,647
Deferred acquisition costs.................................. 1,349,089 1,268,621
Other deferred expenses..................................... 257,781 236,707
Income taxes currently receivable from Parent............... 9,945 15,455
Receivable from brokers for sales of securities............. 161 --
Goodwill.................................................... 14,038 14,038
Other assets................................................ 52,795 58,830
----------- -----------
Total Assets................................................ $31,496,015 $27,971,727
=========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-29
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED BALANCE SHEET (Continued)
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Liabilities and Shareholder's Equity
Reserves, payables and accrued liabilities:
Reserves for fixed annuity and fixed accounts of variable
annuity contracts....................................... $ 3,948,158 $ 4,274,329
Reserves for universal life insurance contracts........... 1,535,905 1,609,233
Reserves for guaranteed investment contracts.............. 215,331 218,032
Reserves for guaranteed benefits.......................... 76,949 12,022
Securities lending payable................................ 883,792 514,145
Due to affiliates......................................... 21,655 19,289
Payable to brokers........................................ -- 1,140
Other liabilities......................................... 190,198 247,435
----------- -----------
Total reserves, payables and accrued liabilities.......... 6,871,988 6,895,625
Variable annuity liabilities related to separate accounts... 22,612,451 19,178,796
Subordinated notes payable to affiliates.................... -- 40,960
Deferred income taxes....................................... 257,532 242,556
----------- -----------
Total liabilities........................................... 29,741,971 26,357,937
----------- -----------
Shareholder's equity:
Common stock.............................................. 3,511 3,511
Additional paid-in capital................................ 758,346 709,246
Retained earnings......................................... 919,612 828,423
Accumulated other comprehensive income.................... 72,575 72,610
----------- -----------
Total shareholder's equity................................ 1,754,044 1,613,790
----------- -----------
Total Liabilities and Shareholder's Equity.................. $31,496,015 $27,971,727
=========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-30
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED STATEMENT OF INCOME AND COMPREHENSIVE INCOME
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance........ $369,141 $281,359 $286,919
Asset management fees................................... 89,569 66,663 66,423
Universal life insurance fees, net of reinsurance....... 33,899 35,816 36,253
Surrender charges....................................... 26,219 27,733 32,507
Other fees.............................................. 15,753 15,520 21,900
-------- -------- --------
Total fee income...................................... 534,581 427,091 444,002
Investment income........................................... 363,594 402,923 387,355
Net realized investment losses.............................. (23,807) (30,354) (65,811)
-------- -------- --------
Total revenues.............................................. 874,368 799,660 765,546
======== ======== ========
Benefits and Expenses:
Interest expense:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... 140,889 153,636 142,973
Universal life insurance contracts........................ 73,745 76,415 80,021
Guaranteed investment contracts........................... 6,034 7,534 11,267
Subordinated notes payable to affiliates.................. 2,081 2,628 3,868
-------- -------- --------
Total interest expense...................................... 222,749 240,213 238,129
Amortization of bonus interest.............................. 10,357 19,776 16,277
General and administrative expenses......................... 131,612 119,093 115,210
Amortization of deferred acquisition costs and other
deferred expenses......................................... 157,650 160,106 222,484
Annual commissions.......................................... 64,323 55,661 58,389
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,420 17,766 15,716
Guaranteed minimum death benefits, net of reinsurance
recoveries................................................ 58,756 63,268 67,492
-------- -------- --------
Total benefits and expenses................................. 662,867 675,883 733,697
======== ======== ========
Pretax Income Before Cumulative Effect of Accounting
Change.................................................... 211,501 123,777 31,849
Income tax expense.......................................... 6,410 30,247 160
-------- -------- --------
Net Income Before Cumulative Effect of Accounting Change.... 205,091 93,530 31,689
Cumulative effect of accounting change, net of tax.......... (62,589) -- --
-------- -------- --------
Net Income.................................................. $142,502 $ 93,530 $ 31,689
======== ======== ========
Other Comprehensive Income (Loss),
Net of Tax:
Net unrealized gains (losses) on debt and equity
securities available for sale identified in the current
period less related amortization of deferred acquisition
costs and other deferred expenses....................... $(20,487) $ 67,125 $ 20,358
Less reclassification adjustment for net realized losses
included in net income.................................. 19,263 19,194 52,285
Net unrealized gains (losses) on foreign currency......... 1,170 -- --
Change related to cash flow hedges........................ -- -- (2,218)
Income tax (benefit) expense.............................. 19 (30,213) (24,649)
-------- -------- --------
Other Comprehensive Income (Loss)........................... (35) 56,106 45,776
-------- -------- --------
Comprehensive Income........................................ $142,467 $149,636 $ 77,465
======== ======== ========
</Table>
See accompanying notes to consolidated financial statements.
F-31
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED STATEMENT OF CASH FLOWS
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
-------------------------------------
2004 2003 2002
--------- ----------- -----------
(IN THOUSANDS)
Cash Flow from Operating Activities:
Net income.................................................. $ 142,502 $ 93,530 $ 31,689
Adjustments to reconcile net income to net cash provided by
operating activities:
Cumulative effect of accounting change, net of tax........ 62,589 -- --
Interest credited to:
Fixed annuity and fixed accounts of variable annuity
contracts.............................................. 140,889 153,636 142,973
Universal life insurance contracts...................... 73,745 76,415 80,021
Guaranteed investment contracts......................... 6,034 7,534 11,267
Net realized investment losses............................ 23,807 30,354 65,811
Accretion of net discounts on investments................. (1,277) (9,378) (2,412)
Loss on other invested assets............................. 572 2,859 3,932
Amortization of deferred acquisition costs and other
expenses................................................ 168,007 179,882 238,761
Acquisition costs deferred................................ (246,033) (212,251) (204,833)
Other expenses deferred................................... (62,906) (70,158) (77,602)
Depreciation of fixed assets.............................. 1,619 1,718 860
Provision for deferred income taxes....................... 49,337 (129,591) 106,044
Change in:
Accrued investment income............................... 878 679 13,907
Other assets............................................ 4,416 (12,349) 4,736
Income taxes currently payable to/receivable from
Parent................................................. 5,157 148,898 (43,629)
Due from/to affiliates.................................. 2,366 (36,841) (7,743)
Other liabilities....................................... 7,485 10,697 (7,143)
Other, net................................................ 2,284 14,885 10,877
--------- ----------- -----------
Net Cash Provided by Operating Activities................... 381,471 250,519 367,516
--------- ----------- -----------
Cash Flows from Investing Activities:
Purchases of:
Bonds, notes and redeemable preferred stocks.............. (964,705) (2,078,310) (2,403,362)
Mortgage loans............................................ (31,502) (44,247) (128,764)
Other investments, excluding short-term investments....... (33,235) (20,266) (65,184)
Sales of:
Bonds, notes and redeemable preferred stocks.............. 383,695 1,190,299 849,022
Other investments, excluding short-term investments....... 22,283 12,835 825
Redemptions and maturities of:
Bonds, notes and redeemable preferred stocks.............. 898,682 994,014 615,798
Mortgage loans............................................ 125,475 67,506 82,825
Other investments, excluding short-term investments....... 10,915 72,970 114,347
--------- ----------- -----------
Net Cash Provided By (Used in) Investing Activities......... $ 411,608 $ 194,801 $ (934,493)
========= =========== ===========
</Table>
See accompanying notes to consolidated financial statements.
F-32
AIG SUNAMERICA LIFE ASSURANCE COMPANY
CONSOLIDATED STATEMENT OF CASH FLOWS (Continued)
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
--------------------------------------
2004 2003 2002
----------- ----------- ----------
(IN THOUSANDS)
Cash Flow from Financing Activities:
Deposits received on:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... $ 1,360,319 $ 1,553,000 $1,731,597
Universal life insurance contracts........................ 45,183 45,657 49,402
Net exchanges from the fixed accounts of variable annuity
contracts................................................. (1,332,240) (1,108,030) (503,221)
Withdrawal payments on:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... (458,052) (464,332) (529,466)
Universal life insurance contracts........................ (69,185) (61,039) (68,444)
Guaranteed investment contracts........................... (8,614) (148,719) (135,084)
Claims and annuity payments, net of reinsurance, on:
Fixed annuity and fixed accounts of variable annuity
contracts............................................... (108,691) (109,412) (98,570)
Universal life insurance contracts........................ (105,489) (111,380) (100,995)
Net receipt from (repayments of) other short-term
financings................................................ (41,060) 14,000 --
Net payment related to a modified coinsurance transaction... (4,738) (26,655) (30,282)
Capital contribution received from Parent................... -- -- 200,000
Dividends paid to Parent.................................... (2,500) (12,187) (10,000)
----------- ----------- ----------
Net Cash (Used in) Provided by Financing Activities......... (725,067) (429,097) 504,937
----------- ----------- ----------
Net Increase (Decrease) in Cash and Short-term
Investments............................................... 68,012 16,223 (62,040)
Cash and Short-term Investments at Beginning of Period...... 133,105 116,882 178,922
----------- ----------- ----------
Cash and Short-term Investments at End of Period............ $ 201,117 $ 133,105 $ 116,882
=========== =========== ==========
Supplemental Cash Flow Formation:
Interest paid on indebtedness............................... $ 2,081 $ 2,628 $ 3,868
=========== =========== ==========
Net income taxes (received) paid to Parent.................. $ (47,749) $ 10,989 $ 5,856
=========== =========== ==========
</Table>
See accompanying notes to consolidated financial statements.
F-33
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
AIG SunAmerica Life Assurance Company (formerly Anchor National Life
Insurance Company) (the "Company") is a direct wholly owned subsidiary of
SunAmerica Life Insurance Company (the "Parent"), which is a wholly owned
subsidiary of AIG Retirement Services, Inc. ("AIGRS") (formerly AIG
SunAmerica Inc.), a wholly owned subsidiary of American International Group,
Inc. ("AIG"). AIG is a holding company which through its subsidiaries is
engaged in a broad range of insurance and insurance-related activities,
financial services, retirement services and asset management. The Company is
an Arizona-domiciled life insurance company principally engaged in the
business of writing variable annuity contracts directed to the market for
tax-deferred, long-term savings products.
The Company changed its name to AIG SunAmerica Life Assurance Company on
January 24, 2002. The Company continued to do business as Anchor National
Life Insurance Company until February 28, 2003, at which time it began doing
business under its new name.
Effective January 1, 2004, the Parent contributed to the Company 100% of the
outstanding capital stock of its consolidated subsidiary, AIG SunAmerica
Asset Management Corp. ("SAAMCo") (formerly SunAmerica Asset Management
Corp.) which in turn has two wholly owned subsidiaries: AIG SunAmerica
Capital Services, Inc. ("SACS") (formerly SunAmerica Capital Services, Inc.)
and AIG SunAmerica Fund Services, Inc. ("SFS") (formerly SunAmerica Fund
Services, Inc.). Pursuant to this contribution, SAAMCo became a direct
wholly owned subsidiary of the Company. Assets, liabilities and
shareholder's equity at December 31, 2003 were restated to include
$190,605,000, $39,952,000 and $150,653,000, respectively, of SAAMCo
balances. Similarly, the results of operations and cash flows for the years
ended December 31, 2003 and 2002 have been restated for the addition and
subtraction to pretax income of $16,345,000 and $4,464,000 to reflect the
SAAMCo activity. Prior to this capital contribution to the Company, SAAMCo
distributed certain investments with a tax effect of $49,100,000 which was
indemnified by its then parent, SALIC. See Note 10 of the Notes to
Consolidated Financial Statements.
SAAMCo and its wholly owned distributor, SACS, and its wholly owned
servicing administrator, SFS, are included in the Company's asset management
segment (see Note 13). These companies earn fee income by managing,
distributing and administering a diversified family of mutual funds,
managing certain subaccounts offered within the Company's variable annuity
products and providing professional management of individual, corporate and
pension plan portfolios.
The operations of the Company are influenced by many factors, including
general economic conditions, monetary and fiscal policies of the federal
government, and policies of state and other regulatory authorities. The
level of sales of the Company's financial products is influenced by many
factors, including general market rates of interest, the strength, weakness
and volatility of equity markets, and terms and conditions of competing
financial products. The Company is exposed to the typical risks normally
associated with a portfolio of fixed-income securities, namely interest
rate, option, liquidity and credit risk. The Company controls its exposure
to these risks by, among other things, closely monitoring and matching the
duration of its assets and liabilities, monitoring and limiting prepayment
and extension risk in its portfolio, maintaining a large percentage of its
portfolio in highly liquid securities, and engaging in a disciplined process
of underwriting, reviewing and monitoring credit risk. The Company also is
exposed to market risk, as market volatility may result in reduced fee
income in the case of assets held in separate accounts.
Products for the annuity operations and asset management operations are
marketed through affiliated and independent broker-dealers, full-service
securities firms and financial institutions. One independent selling
organization in the annuity operations represented 24.8% of deposits in the
year ended December 31, 2004, 14.6% of deposits in the year ended December
31, 2003 and 11.9% of deposits in the year ended December 31, 2002. No other
independent selling organization was responsible for 10% or more of deposits
for any such period. One independent selling organization in the asset
management operations represented 16.0% of deposits in the year ended
December 31, 2004 and 10.8% of deposits in the year ended December 31, 2003.
No other independent selling organization was responsible for 10% or more of
deposits for any such period.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION: The accompanying financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America ("GAAP"). The preparation of financial statements
in conformity with GAAP requires the use of estimates and assumptions that
affect the amounts reported in the financial
F-34
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
statements and the accompanying notes. Actual results could differ from
those estimates. Certain prior period items have been reclassified to
conform to the current period's presentation.
INVESTMENTS: Cash and short-term investments primarily include cash,
commercial paper, money market investments and short-term bank
participations. All such investments are carried at cost plus accrued
interest, which approximates fair value, have maturities of three months or
less and are considered cash equivalents for purposes of reporting cash
flows.
Bonds, notes and redeemable preferred stocks available for sale and common
stocks are carried at aggregate fair value and changes in unrealized gains
or losses, net of deferred acquisition costs, deferred other expenses and
income tax, are credited or charged directly to the accumulated other
comprehensive income or loss component of shareholder's equity. Bonds,
notes, redeemable preferred stocks and common stocks are reduced to
estimated net fair value when declines in such values are considered to be
other than temporary. Estimates of net fair value are subjective and actual
realization will be dependent upon future events.
Mortgage loans are carried at amortized unpaid balances, net of provisions
for estimated losses. Policy loans are carried at unpaid balances. Mutual
funds consist of seed money for mutual funds used as investment vehicles for
the Company's variable annuity separate accounts and is carried at market
value. Real estate is carried at the lower of cost or net realizable value.
Securities lending collateral consist of securities provided as collateral
with respect to the Company's securities lending program. The Company has
entered into a securities lending agreement with an affiliated lending
agent, which authorizes the agent to lend securities held in the Company's
portfolio to a list of authorized borrowers. The fair value of securities
pledged under the securities lending agreement were $862,481,000 and
$502,885,000 as of December 31, 2004 and 2003, respectively, and represents
securities included in bonds, notes and redeemable preferred stocks
available for sale caption in the consolidated balance sheet as of December
31, 2004 and 2003, respectively. The Company receives primarily cash
collateral in an amount in excess of the market value of the securities
loaned. The affiliated lending agent monitors the daily market value of
securities loaned with respect to the collateral value and obtains
additional collateral when necessary to ensure that collateral is maintained
at a minimum of 102% of the value of the loaned securities. Such collateral
is not available for the general use of the Company. Income earned on the
collateral, net of interest paid on the securities lending agreements and
the related management fees paid to administer the program, is recorded as
investment income in the consolidated statement of income and comprehensive
income.
Other invested assets consist principally of investments in limited
partnerships and put options on the S&P 500 index purchased to partially
offset the risk of Guaranteed Minimum Account Value ("GMAV") benefits and
Guaranteed Minimum Withdrawal ("GMWB") benefits (see Note 7). Limited
partnerships are carried at cost. The put options do not qualify for hedge
accounting and accordingly are marked to market and changes in market value
are recorded through investment income.
Realized gains and losses on the sale of investments are recognized in
operations at the date of sale and are determined by using the specific cost
identification method. Premiums and discounts on investments are amortized
to investment income by using the interest method over the contractual lives
of the investments.
The Company regularly reviews its investments for possible impairment based
on criteria including economic conditions, market prices, past experience
and other issuer-specific developments among other factors. If there is a
decline in a security's net realizable value, a determination is made as to
whether that decline is temporary or "other than temporary". If it is
believed that a decline in the value of a particular investment is
temporary, the decline is recorded as an unrealized loss in accumulated
other comprehensive income. If it is believed that the decline is "other
than temporary", the Company writes down the carrying value of the
investment and records a realized loss in the consolidated statement of
income and comprehensive income. Impairments writedowns totaled $21,050,000,
$54,092,000 and $57,273,000 in the years ending December 31, 2004, 2003 and
2002.
DERIVATIVE FINANCIAL INSTRUMENTS: Derivative financial instruments primarily
used by the Company include interest rate swap agreements and put options on
the S&P 500 index entered into to partially offset the risk of certain
guarantees of annuity contract values. The Company is neither a dealer nor a
trader in derivative financial instruments.
F-35
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
The Company recognizes all derivatives in the consolidated balance sheet at
fair value. Hedge accounting requires a high correlation between changes in
fair values or cash flows of the derivative financial instrument and the
specific item being hedged, both at inception and throughout the life of the
hedge. For fair value hedges, gains and losses in the fair value of both the
derivative and the hedged item attributable to the risk being hedged are
recognized in earnings. For cash flow hedges, to the extent the hedge is
effective, gains and losses in the fair value of both the derivative and the
hedged item attributable to the risk being hedged are recognized as
component of accumulated other comprehensive income in shareholder's equity.
Any ineffective portion of cash flow hedges is reported in investment
income. On the date a derivative contract is entered into, the Company
formally documents all relationships between hedging instruments and hedged
items, as well as its risk management objective and strategy for undertaking
various hedge transactions. This process includes linking all derivatives
designated as fair value or cash flow hedges to specific assets and
liabilities on the balance sheet.
Interest rate swap agreements convert specific investment securities from a
floating-rate to a fixed-rate basis, or vice versa, and hedge against the
risk of declining rates on anticipated security purchases. Interest rate
swaps in which the Company agrees to pay a fixed rate and receive a floating
rate are accounted for as fair value hedges. Interest rate swaps in which
the Company agrees to pay a floating rate and receive a fixed rate are
accounted for as cash flow hedges. The difference between amounts paid and
received on swap agreements is recorded as an adjustment to investment
income or interest expense, as appropriate, on an accrual basis over the
periods covered by the agreements. The related amount payable to or
receivable from counterparties is included in other liabilities or other
assets.
The Company issues certain variable annuity products that offer an optional
GMAV and GMWB living benefit. If elected by the contract holder at the time
of contract issuance, the GMAV feature guarantees that the account value
under the contract will equal or exceed the amount of the initial principal
invested, adjusted for withdrawals, at the end of a ten-year waiting period.
If elected by the contract holder at the time of contract issuance, the GMWB
feature guarantees an annual withdrawal stream, regardless of market
performance, equal to deposits invested during the first ninety days,
adjusted for any subsequent withdrawals. There is a separate charge to the
contract holder for these features. The Company bears the risk that
protracted under-performance of the financial markets could result in GMAV
and GMWB benefits being higher than the underlying contract holder account
balance and that the fees collected under the contract are insufficient to
cover the costs of the benefit to be provided.
Under Financial Accounting Standards Board Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities"("FAS 133"), the GMAV and GMWB benefits are considered embedded
derivatives that are bifurcated and marked to market and recorded in other
liabilities in the consolidated balance sheet. Changes in the market value
of the estimated GMAV and GMWB benefits are recorded through investment
income.
DEFERRED ACQUISITION COSTS ("DAC"): Policy acquisition costs are deferred
and amortized over the estimated lives of the annuity and universal life
insurance contracts. Policy acquisition costs include commissions and other
costs that vary with, and are primarily related to, the production or
acquisition of new business.
DAC is amortized based on a percentage of expected gross profits ("EGPs")
over the life of the underlying contracts. EGPs are computed based on
assumptions related to the underlying contracts, including their anticipated
duration, the growth rate of the separate account assets (with respect to
variable options of the variable annuity contracts) or general account
assets (with respect to fixed options of variable annuity contracts ("Fixed
Options") and universal life insurance contracts) supporting the annuity
obligations, costs of providing for contract guarantees and the level of
expenses necessary to maintain the contracts. The Company adjusts
amortization of DAC and other deferred expenses (a "DAC unlocking") when
estimates of future gross profits to be realized from its annuity contracts
are revised.
The assumption for the long-term annual net growth of the separate account
assets used by the Company in the determination of DAC amortization with
respect to its variable annuity contracts is 10% (the "long-term growth rate
assumption"). The Company uses a "reversion to the mean" methodology that
allows the Company to maintain this 10% long-term growth rate assumption,
while also giving consideration to the effect of short-term swings in the
equity markets. For example, if performance were 15% during the first year
following the introduction of a product, the DAC model would assume that
market returns for the following five years (the "short-term growth rate
assumption") would approximate 9%, resulting in an average annual growth
rate of 10% during the life of the product. Similarly, following periods of
below 10%
F-36
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
performance, the model will assume a short-term growth rate higher than 10%.
A DAC unlocking will occur if management deems the short-term growth rate
(i.e., the growth rate required to revert to the mean 10% growth rate over a
five-year period) to be unreasonable. The use of a reversion to the mean
assumption is common within the industry; however, the parameters used in
the methodology are subject to judgment and vary within the industry.
As debt and equity securities available for sale are carried at aggregate
fair value, an adjustment is made to DAC equal to the change in amortization
that would have been recorded if such securities had been sold at their
stated aggregate fair value and the proceeds reinvested at current yields.
The change in this adjustment, net of tax, is included with the change in
net unrealized gains or losses on debt and equity securities available for
sale which is a component of accumulated other comprehensive income (loss)
and is credited or charged directly to shareholder's equity.
The Company reviews the carrying value of DAC on at least an annual basis.
Management considers estimated future gross profit margins as well as
expected mortality, interest earned and credited rates, persistency and
expenses in determining whether the carrying amount is recoverable. Any
amounts deemed unrecoverable are charged to amortization expense on the
consolidated statement of income and comprehensive income.
OTHER DEFERRED EXPENSES: The annuity operations currently offers enhanced
crediting rates or bonus payments to contract holders on certain of its
products. Such amounts are deferred and amortized over the life of the
contract using the same methodology and assumptions used to amortize DAC.
The Company previously deferred these expenses as part of DAC and reported
the amortization of such amounts as part of DAC amortization. Upon
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"), the Company reclassified $155,695,000
of these expenses from DAC to other deferred expenses, which is reported on
the consolidated balance sheet. The prior period consolidated balance sheet
and consolidated statements of income and comprehensive income presentation
has been reclassified to conform to the new presentation. See Recently
Issued Accounting Standards below.
The asset management operations defer distribution costs that are directly
related to the sale of mutual funds that have a 12b-1 distribution plan
and/or contingent deferred sales charge feature (collectively, "Distribution
Fee Revenue"). The Company amortizes these deferred distribution costs on a
straight-line basis, adjusted for redemptions, over a period ranging from
one year to eight years depending on share class. Amortization of these
deferred distribution costs is increased if at any reporting period the
value of the deferred amount exceeds the projected Distribution Fee Revenue.
The projected Distribution Fee Revenue is impacted by estimated future
withdrawal rates and the rates of market return. Management uses historical
activity to estimate future withdrawal rates and average annual performance
of the equity markets to estimate the rates of market return.
The Company reviews the carrying value of other deferred expenses on at
least an annual basis. Management considers estimated future gross profit
margins as well as expected mortality, interest earned, credited rates,
persistency, withdrawal rates, rates of market return and expenses in
determining whether the carrying amount is recoverable. Any amounts deemed
unrecoverable are charged to expense.
VARIABLE ANNUITY ASSETS AND LIABILITIES RELATED TO SEPARATE ACCOUNTS: The
assets and liabilities resulting from the receipt of variable annuity
deposits are segregated in separate accounts. The Company receives
administrative fees for managing the funds and other fees for assuming
mortality and certain expense risks. Such fees are included in variable
annuity policy fees in the consolidated statement of income and
comprehensive income.
GOODWILL: Goodwill amounted to $14,038,000 (net of accumulated amortization
of $18,838,000) at December 31, 2004 and 2003. In accordance with Statement
of Financial Accounting Standard No. 142, "Goodwill and Other Intangible
Assets" ("SFAS 142"), the Company assesses goodwill for impairment on an
annual basis, or more frequently if circumstances indicate that a possible
impairment has occurred. The assessment of impairment involves a two-step
process whereby an initial assessment for potential impairment is performed,
followed by a measurement of the amount of the impairment, if any. The
Company has evaluated goodwill for impairment as of December 31, 2004 and
2003, and has determined that no impairment provision is necessary.
RESERVES FOR FIXED ANNUITY CONTRACTS, FIXED ACCOUNTS OF VARIABLE ANNUITY
CONTRACTS, UNIVERSAL LIFE INSURANCE CONTRACTS AND GICS: Reserves for fixed
annuity, Fixed Options, universal life insurance and GIC contracts are
accounted for in accordance with Statement of Financial Accounting Standards
No. 97,
F-37
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
"Accounting and Reporting by Insurance Enterprises for Certain Long-Duration
Contracts and for Realized Gains and Losses from the Sale of Investments,"
and are recorded at accumulated value (deposits received, plus accrued
interest, less withdrawals and assessed fees). Under GAAP, deposits
collected on non-traditional life and annuity insurance products, such as
those sold by the Company, are not reflected as revenues in the Company's
consolidated statement of income and comprehensive income, as they are
recorded directly to contract holders' liabilities upon receipt.
RESERVES FOR GUARANTEED BENEFITS: Reserves for guaranteed minimum death
benefits ("GMDB"), earnings enhancement benefit and guaranteed minimum
income benefits are accounted for in accordance with SOP 03-1. See Recently
Issued Accounting Standards below.
FEE INCOME: Fee income includes variable annuity policy fees, asset
management fees, universal life insurance fees, commissions and surrender
charges. Variable annuity policy fees are generally based on the market
value of assets in the separate accounts supporting the variable annuity
contracts. Asset management fees include investment advisory fees and 12b-1
distribution fees and are based on the market value of assets managed in
mutual funds and certain variable annuity portfolios by SAAMCo. Universal
life insurance policy fees consist of mortality charges, up-front fees
earned on deposits received and administrative fees, net of reinsurance
premiums. Surrender charges are assessed on withdrawals occurring during the
surrender charge period. All fee income is recorded as income when earned
with net retained commissions are recognized as income on a trade date
basis.
INCOME TAXES: Prior to the 2004, the Company was included in a consolidated
federal income tax return with its Parent. Also, prior to 2004, SAAMCO, SFS
and SACS were included in a separate consolidated federal income tax return
with their parent, Saamsun Holdings Corporation. Beginning in 2004, all of
these companies are included in the consolidated federal income tax return
of their ultimate parent, AIG. Income taxes have been calculated as if each
entity files a separate return. Deferred income tax assets and liabilities
are recognized based on the difference between financial statement carrying
amounts and income tax basis of assets and liabilities using enacted income
tax rates and laws.
RECENTLY ISSUED ACCOUNTING STANDARDS: In July 2003, the American Institute
of Certified Public Accountants issued SOP 03-1. This statement was
effective as of January 1, 2004, and requires the Company to recognize a
liability for GMDB and certain living benefits related to its variable
annuity contracts, account for enhanced crediting rates or bonus payments to
contract holders and modifies certain disclosures and financial statement
presentations for these products. In addition, SOP 03-1 addresses the
presentation and reporting of separate accounts and the capitalization and
amortization of certain other expenses. The Company reported for the first
quarter of 2004 a one-time cumulative accounting charge upon adoption of
$62,589,000 ($96,291,000 pre-tax) to reflect the liability and the related
impact of DAC and reinsurance as of January 1, 2004.
3. INVESTMENTS
The amortized cost and estimated fair value of bonds, notes and redeemable
preferred stocks by major category follow:
<Table>
<Caption>
AMORTIZED ESTIMATED
COST FAIR VALUE
---------- ----------
(IN THOUSANDS)
At December 31, 2004:
U.S. government securities.................................. $ 28,443 $ 30,300
Mortgage-backed securities.................................. 926,274 956,567
Securities of public utilities.............................. 321,381 332,038
Corporate bonds and notes................................... 2,797,943 2,902,829
Redeemable preferred stocks................................. 20,140 21,550
Other debt securities....................................... 913,687 917,743
---------- ----------
Total..................................................... $5,007,868 $5,161,027
========== ==========
</Table>
F-38
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. INVESTMENTS (Continued)
<Table>
<Caption>
AMORTIZED ESTIMATED
COST FAIR VALUE
---------- ----------
(IN THOUSANDS)
At December 31, 2003:
U.S. government securities.................................. $ 22,393 $ 24,292
Mortgage-backed securities.................................. 1,148,452 1,191,817
Securities of public utilities.............................. 352,998 365,150
Corporate bonds and notes................................... 2,590,254 2,697,142
Redeemable preferred stocks................................. 21,515 22,175
Other debt securities....................................... 1,215,571 1,205,224
---------- ----------
Total..................................................... $5,351,183 $5,505,800
========== ==========
</Table>
At December 31, 2004, bonds, notes and redeemable preferred stocks included
$386,426,000 that were not rated investment grade. These
non-investment-grade securities are comprised of bonds spanning 10
industries with 19%, 16%, 16% and 10% concentrated in telecommunications,
utilities, financial institutions and noncyclical consumer products
industries, respectively. No other industry concentration constituted more
than 10% of these assets.
At December 31, 2004, mortgage loans were collateralized by properties
located in 30 states, with loans totaling approximately 27%, 11% and 10% of
the aggregate carrying value of the portfolio secured by properties located
in California, Michigan and Massachusetts, respectively. No more than 10% of
the portfolio was secured by properties in any other single state.
At December 31, 2004, the carrying value, which approximates its estimated
fair value, of all investments in default as to the payment of principal or
interest totaled $40,051,000 of bonds.
As a component of its asset and liability management strategy, the Company
utilizes interest rate swap agreements to match assets more closely to
liabilities. Interest rate swap agreements exchange interest rate payments
of differing character (for example, variable-rate payments exchanged for
fixed-rate payments) with a counterparty, based on an underlying principal
balance (notional principal) to hedge against interest rate changes.
The Company typically utilizes swap agreements to create a hedge that
effectively converts floating-rate assets and liabilities to fixed-rate
instruments.
At December 31, 2004, $10,505,000 of bonds, at amortized cost, were on
deposit with regulatory authorities in accordance with statutory
requirements.
At December 31, 2004, no investments in any one entity or its affiliates
exceeded 10% of the Company's shareholder's equity.
The amortized cost and estimated fair value of bonds, notes and redeemable
preferred stocks by contractual maturity, as of December 31, 2004, follow:
<Table>
<Caption>
AMORTIZED ESTIMATED
COST FAIR VALUE
---------- ----------
(IN THOUSANDS)
Due in one year or less..................................... $ 278,939 $ 281,954
Due after one year through five years....................... 2,076,145 2,138,574
Due after five years through ten years...................... 1,299,345 1,339,499
Due after ten years......................................... 427,165 444,433
Mortgage-backed securities.................................. 926,274 956,567
---------- ----------
Total..................................................... $5,007,868 $5,161,027
========== ==========
</Table>
Actual maturities of bonds, notes and redeemable preferred stocks may differ
from those shown above due to prepayments and redemptions.
F-39
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. INVESTMENTS (Continued)
Gross unrealized gains and losses on bonds, notes and redeemable preferred
stocks by major category follow:
<Table>
<Caption>
GROSS GROSS
UNREALIZED UNREALIZED
GAINS LOSSES
---------- ----------
(IN THOUSANDS)
At December 31, 2004:
U.S. government securities.................................. $ 1,857 $ --
Mortgage-backed securities.................................. 32,678 (2,385)
Securities of public utilities.............................. 11,418 (761)
Corporate bonds and notes................................... 118,069 (13,183)
Redeemable preferred stocks................................. 1,410 --
Other debt securities....................................... 14,871 (10,815)
-------- --------
Total..................................................... $180,303 $(27,144)
======== ========
</Table>
<Table>
<Caption>
GROSS GROSS
UNREALIZED UNREALIZED
GAINS LOSSES
---------- ----------
(IN THOUSANDS)
At December 31, 2003:
U.S. government securities.................................. $ 1,898 $ --
Mortgage-backed securities.................................. 46,346 (2,980)
Securities of public utilities.............................. 13,467 (1,315)
Corporate bonds and notes................................... 127,996 (21,108)
Redeemable preferred stocks................................. 660 --
Other debt securities....................................... 24,366 (34,713)
-------- --------
Total..................................................... $214,733 $(60,116)
======== ========
</Table>
Gross unrealized gains on equity securities aggregated $26,000 at December
31, 2004 and $112,000 at December 31, 2003. There were no unrealized losses
on equity securities at December 31, 2004 and gross unrealized losses on
equity securities aggregated $20,000 at December 31, 2003.
The following tables summarize the Company's gross unrealized losses and
estimated fair values on investments, aggregated by investment category and
length of time that individual securities have been in a continuous
unrealized loss position at December 31, 2004 and 2003.
<Table>
<Caption>
LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL
----------------------------- ----------------------------- -------------------------------
FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED
VALUE LOSS ITEMS VALUE LOSS ITEMS VALUE LOSS ITEMS
-------- ---------- ----- -------- ---------- ----- ---------- ---------- -----
(DOLLARS IN THOUSANDS)
December 31, 2004
Mortgage-backed
securities............... $125,589 $ (1,282) 23 $ 40,275 $ (1,103) 9 $ 165,864 $ (2,385) 32
Securities of public
utilities................ 46,249 (761) 9 0 0 0 46,249 (761) 9
Corporate bonds and
notes.................... 487,923 (7,418) 86 87,194 (5,765) 15 575,117 (13,183) 101
Other debt securities...... 207,378 (4,062) 36 79,782 (6,753) 12 287,160 (10,815) 48
-------- -------- --- -------- -------- -- ---------- -------- ---
Total.................... $867,139 $(13,523) 154 $207,251 $(13,621) 36 $1,074,390 $(27,144) 190
======== ======== === ======== ======== == ========== ======== ===
</Table>
F-40
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. INVESTMENTS (Continued)
<Table>
<Caption>
LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL
----------------------------- ---------------------------- -----------------------------
FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED
VALUE LOSS ITEMS VALUE LOSS ITEMS VALUE LOSS ITEMS
-------- ---------- ----- ------- ---------- ----- -------- ---------- -----
December 31, 2003
Mortgage-backed securities..... $180,559 $ (2,882) 49 $13,080 $ (98) 6 $193,639 $ (2,980) 55
Securities of public
utilities.................... 67,626 (1,315) 8 -- -- -- 67,626 (1,315) 8
Corporate bonds and notes...... 276,373 (17,086) 54 30,383 (4,022) 5 306,756 (21,108) 59
Other debt securities.......... 302,230 (33,951) 54 41,523 (762) 5 343,753 (34,713) 59
-------- -------- --- ------- ------- -- -------- -------- ---
Total........................ $826,788 $(55,234) 165 $84,986 $(4,882) 16 $911,774 $(60,116) 181
======== ======== === ======= ======= == ======== ======== ===
</Table>
Realized investment gains and losses on sales of investments are as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Bonds, Notes and Redeemable Preferred Stocks:
Realized gains............................................ $ 12,240 $ 30,896 $ 25,013
Realized losses........................................... (12,623) (11,818) (32,865)
Common Stocks:
Realized gains............................................ 5 561 --
Realized losses........................................... (247) (117) (169)
</Table>
The sources and related amounts of investment income are as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Short-term investments...................................... $ 2,483 $ 1,363 $ 5,447
Bonds, notes and redeemable preferred stocks................ 293,258 321,493 305,480
Mortgage loans.............................................. 50,825 53,951 55,417
Partnerships................................................ 417 (478) 12,344
Policy loans................................................ 17,130 15,925 18,796
Real estate................................................. (202) (331) (276)
Other invested assets....................................... 2,149 13,308 (7,496)
Less: investment expenses................................... (2,466) (2,308) (2,357)
-------- -------- --------
Total investment income................................... $363,594 $402,923 $387,355
======== ======== ========
</Table>
Investment income was attributable to the following products:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Fixed annuity contracts..................................... $ 34,135 $ 37,762 $ 41,856
Variable annuity contracts.................................. 222,660 239,863 201,766
Guaranteed investment contracts............................. 13,191 20,660 28,056
Universal life insurance contracts.......................... 92,645 100,019 105,878
Asset management............................................ 963 4,619 9,799
-------- -------- --------
Total..................................................... $363,594 $402,923 $387,355
======== ======== ========
</Table>
4. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following estimated fair value disclosures are limited to reasonable
estimates of the fair value of only the Company's financial instruments. The
disclosures do not address the value of the Company's recognized and
unrecognized non-financial
F-41
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
4. FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)
assets (including its real estate investments and other invested assets
except for partnerships) and liabilities or the value of anticipated future
business. The Company does not plan to sell most of its assets or settle
most of its liabilities at these estimated fair values.
The fair value of a financial instrument is the amount at which the
instrument could be exchanged in a current transaction between willing
parties, other than in a forced or liquidation sale. Selling expenses and
potential taxes are not included. The estimated fair value amounts were
determined using available market information, current pricing information
and various valuation methodologies. If quoted market prices were not
readily available for a financial instrument, management determined an
estimated fair value. Accordingly, the estimates may not be indicative of
the amounts the financial instruments could be exchanged for in a current or
future market transaction.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to
estimate that value:
CASH AND SHORT-TERM INSTRUMENTS: Carrying value is considered to be a
reasonable estimate of fair value.
BONDS, NOTES AND REDEEMABLE PREFERRED STOCKS: Fair value is based
principally on independent pricing services, broker quotes and other
independent information. For securities that do not have readily
determinable market prices, the fair value is estimated with internally
prepared valuations (including those based on estimates of future
profitability). Otherwise, the most recent purchases and sales of similar
unquoted securities, independent broker quotes or comparison to similar
securities with quoted prices when possible is used to estimate the fair
value of those securities.
MORTGAGE LOANS: Fair values are primarily determined by discounting future
cash flows to the present at current market rates, using expected prepayment
rates.
POLICY LOANS: Carrying value is considered a reasonable estimate of fair
value.
MUTUAL FUNDS: Fair value is considered to be the market value of the
underlying securities.
COMMON STOCKS: Fair value is based principally on independent pricing
services, broker quotes and other independent information.
PARTNERSHIPS: Fair value of partnerships that invest in debt and equity
securities is based upon the fair value of the net assets of the
partnerships as determined by the general partners.
VARIABLE ANNUITY ASSETS HELD IN SEPARATE ACCOUNTS: Variable annuity assets
are carried at the market value of the underlying securities.
RESERVES FOR FIXED ANNUITY AND FIXED ACCOUNTS OF VARIABLE ANNUITY
CONTRACTS: Deferred annuity contracts are assigned a fair value equal to
current net surrender value. Annuitized contracts are valued based on the
present value of future cash flows at current pricing rates.
RESERVES FOR GUARANTEED INVESTMENT CONTRACTS: Fair value is based on the
present value of future cash flows at current pricing rates.
SECURITIES LENDING COLLATERAL/PAYABLE: Carrying value is considered to be a
reasonable estimate of fair value.
VARIABLE ANNUITY LIABILITIES RELATED TO SEPARATE ACCOUNTS: Variable annuity
liabilities are carried at the market value of the underlying securities of
the variable annuity assets held in separate accounts.
SUBORDINATED NOTES TO/FROM AFFILIATES: Fair value is estimated based on the
quoted market prices for similar issues.
F-42
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
4. FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)
The estimated fair values of the Company's financial instruments at December
31, 2004 and 2003 compared with their respective carrying values, are as
follows:
<Table>
<Caption>
CARRYING FAIR
VALUE VALUE
----------- -----------
(IN THOUSANDS)
December 31, 2004:
Assets:
Cash and short-term investments........................... $ 201,117 $ 201,117
Bonds, notes and redeemable preferred stocks.............. 5,161,027 5,161,027
Mortgage loans............................................ 624,179 657,828
Policy loans.............................................. 185,958 185,958
Mutual funds.............................................. 6,131 6,131
Common stocks............................................. 4,902 4,902
Partnerships.............................................. 1,084 1,084
Securities lending collateral............................. 883,792 883,792
Put options hedging guaranteed benefits................... 37,705 37,705
Variable annuity assets held in separate accounts......... 22,612,451 22,612,451
Liabilities:
Reserves for fixed annuity and fixed accounts of variable
annuity contracts....................................... $ 3,948,158 $ 3,943,265
Reserves for guaranteed investment contracts.............. 215,331 219,230
Securities lending payable................................ 883,792 883,792
Variable annuity liabilities related to separate
accounts................................................ 22,612,451 22,612,451
</Table>
<Table>
<Caption>
CARRYING FAIR
VALUE VALUE
----------- -----------
(IN THOUSANDS)
December 31, 2003:
Assets:
Cash and short-term investments........................... $ 133,105 $ 133,105
Bonds, notes and redeemable preferred stocks.............. 5,505,800 5,505,800
Mortgage loans............................................ 716,846 774,758
Policy loans.............................................. 200,232 200,232
Mutual funds.............................................. 21,159 21,159
Common stocks............................................. 727 727
Partnerships.............................................. 1,312 1,685
Securities lending collateral............................. 514,145 514,145
Put options hedging guaranteed benefits................... 9,141 9,141
Variable annuity assets held in separate accounts......... 19,178,796 19,178,796
Liabilities:
Reserves for fixed annuity and fixed accounts of variable
annuity contracts....................................... $ 4,274,329 $ 4,225,329
Reserves for guaranteed investment contracts.............. 218,032 223,553
Securities lending payable................................ 514,145 514,145
Variable annuity liabilities related to separate
accounts................................................ 19,178,796 19,178,796
Subordinated note payable to affiliate.................... 40,960 40,960
</Table>
F-43
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
5. DEFERRED ACQUISITION COSTS
The following table summarizes the activity in deferred acquisition costs:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
-------------------------
2004 2003
----------- -----------
(IN THOUSANDS)
Balance at beginning of year................................ $1,268,621 $1,224,101
Acquisition costs deferred.................................. 246,033 212,250
Effect of net unrealized gains (losses) on securities....... 267 (30,600)
Amortization charged to income.............................. (126,142) (137,130)
Cumulative effect of SOP 03-1............................... (39,690) --
---------- ----------
Balance at end of year...................................... $1,349,089 $1,268,621
========== ==========
</Table>
6. OTHER DEFERRED EXPENSES
The annuity operations defer enhanced crediting rates or bonus payments to
contract holders on certain of its products ("Bonus Payments"). The asset
management operations defer distribution costs that are directly related to
the sale of mutual funds that have a 12b-1 distribution plan and/or
contingent deferred sales charge feature. The following table summarizes the
activity in these deferred expenses:
<Table>
<Caption>
BONUS DISTRIBUTION
PAYMENTS COSTS TOTAL
-------- ------------ --------
(IN THOUSANDS)
Year Ended December 31, 2004
Balance at beginning of year................................ $155,695 $ 81,012 $236,707
Expenses deferred........................................... 36,732 26,174 62,906
Effect of net unrealized gains (losses) on securities....... 33 -- 33
Amortization charged in income.............................. (10,357) (31,508) (41,865)
-------- -------- --------
Balance at end of year...................................... $182,103 $ 75,678 $257,781
======== ======== ========
Year Ended December 31, 2003
Balance at beginning of year................................ $140,647 $ 72,054 $212,701
Expenses deferred........................................... 38,224 31,934 70,158
Effect of net unrealized gains (losses) on securities....... (3,400) -- (3,400)
Amortization charged in income.............................. (19,776) (22,976) (42,752)
-------- -------- --------
Balance at end of year...................................... $155,695 $ 81,012 $236,707
======== ======== ========
</Table>
7. GUARANTEED BENEFITS
The Company issues variable annuity contracts for which the investment risk
is generally borne by the contract holder, except with respect to amounts
invested in the Fixed Options. For many of the Company's variable annuity
contracts, the Company offers contractual guarantees in the event of death,
at specified dates during the accumulation period, upon certain withdrawals
or at annuitization. Such benefits are referred to as GMDB, GMAV, GMWB and
guaranteed minimum income benefits ("GMIB"), respectively. The Company also
issues certain variable annuity products that offer an optional earnings
enhancement benefit ("EEB") feature that provides an additional death
benefit amount equal to a fixed percentage of earnings in the contract,
subject to certain maximums.
The assets supporting the variable portion of variable annuity contracts are
carried at fair value and reported as summary total "variable annuity assets
held in separate accounts" with an equivalent summary total reported for
liabilities. Amounts assessed against the contract holders for mortality,
administrative, other services and certain features are included in variable
annuity policy fees, net of reinsurance, in the consolidated statement of
income and comprehensive income. Changes in liabilities for minimum
guarantees are included in guaranteed benefits, net of reinsurance, in the
consolidated statement of income and comprehensive income. Separate account
net investment income, net investment gains and losses and the related
liability charges are offset within the same line item in the consolidated
statement of income and comprehensive income.
F-44
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. GUARANTEED BENEFITS (Continued)
The Company offers GMDB options that guarantee for virtually all contract
holders, that upon death, the contract holder's beneficiary will receive the
greater of (1) the contract holder's account value, or (2) a guaranteed
minimum death benefit that varies by product and election by policy owner.
The GMDB liability is determined each period end by estimating the expected
value of death benefits in excess of the projected account balance and
recognizing the excess ratably over the accumulation period based on total
expected assessments. The Company regularly evaluates estimates used and
adjusts the additional liability balance, with a related charge or credit to
guaranteed benefits, net of reinsurance recoveries, if actual experience or
other evidence suggests that earlier assumptions should be revised.
EEB is a feature the Company offers on certain variable annuity products.
For contract holders who elect the feature, the EEB provides an additional
death benefit amount equal to a fixed percentage of earnings in the
contract, subject to certain maximums. The Company bears the risk that
account values following favorable performance of the financial markets will
result in greater EEB death claims and that the fees collected under the
contract are insufficient to cover the costs of the benefit to be provided.
If available and elected by the contract holder, GMIB provides a minimum
fixed annuity payment guarantee after a seven, nine or ten-year waiting
period. As there is a waiting period to annuitize using the GMIB, there are
no policies eligible to receive this benefit at December 31, 2004. The GMIB
liability is determined each period end by estimating the expected value of
the annuitization benefits in excess of the projected account balance at the
date of annuitization and recognizing the excess ratably over the
accumulation period based on total expected assessments. The Company
regularly evaluates estimates used and adjusts the additional liability
balance, with a related charge or credit to guaranteed benefits, net of
reinsurance recoveries, if actual experience or other evidence suggests that
earlier assumptions should be revised.
GMAV is a feature offered on certain variable annuity products. If available
and elected by the contract holder at the time of contract issuance, GMAV
guarantees that the account value under the contract will at least equal the
amount of deposits invested during the first ninety days, adjusted for any
subsequent withdrawals, at the end of a ten-year waiting period. The Company
purchases put options on the S&P 500 index to partially offset this risk.
GMAVs are considered to be derivatives under FAS 133, and are recognized at
fair value in the consolidated balance sheet and through investment income
in the consolidated statement of income and comprehensive income.
GMWB is a feature offered on certain variable annuity products. If available
and elected by the contract holder at the time of contract issuance, this
feature provides a guaranteed annual withdrawal stream, regardless of market
performance, equal to deposits invested during the first ninety days
adjusted for any subsequent withdrawals ("Eligible Premium"). These
guaranteed annual withdrawals of up to 10% of Eligible Premium are available
after either a three-year or a five-year waiting period as elected by the
contract holder at time of contract issuance, without reducing the future
amounts guaranteed. If no withdrawals have been made during the waiting
period of three or five years, the contract holder will realize an
additional 10% or 20%, respectively, of Eligible Premium after all other
amounts guaranteed under this benefit have been paid. GMWBs are considered
to be derivatives under FAS 133 and are recognized at fair value in the
consolidated balance sheet and through investment income in the consolidated
statement of income and comprehensive income.
F-45
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. GUARANTEED BENEFITS (Continued)
Details concerning the Company's guaranteed benefit exposures as of December
31, 2004 are as follows:
<Table>
<Caption>
HIGHEST SPECIFIED
RETURN OF NET ANNIVERSARY ACCOUNT
DEPOSITS PLUS A VALUE MINUS
MINIMUM WITHDRAWALS POST
RETURN ANNIVERSARY
--------------- -------------------
(DOLLARS IN MILLIONS)
In the event of death (GMDB and EEB):
Account value............................................. $ 12,883 $12,890
Net amount at risk(a)..................................... $ 933 $ 1,137
Average attained age of contract holders.................. 67 64
Range of guaranteed minimum return rates.................. 0%-5% 0%
At annuitization (GMIB):
Account value............................................. $ 6,942
Net amount at risk(b)..................................... $ 3
Weighted average period remaining until earliest 3.8 Years
annuitization...........................................
Range of guaranteed minimum return rates.................. 0%-6.5%
Accumulation at specified date (GMAV):
Account value............................................. $ 1,533
Net amount at risk(c)..................................... $ --
Weighted average period remaining until guaranteed 9.0 Years
payment.................................................
Annual withdrawals at specified date (GMWB):
Account value............................................. $ 294
Net amount at risk(d)..................................... $ --
Weighted average period remaining until expected payout... 13.9 Years
</Table>
-------------------
(a) Net amount at risk represents the guaranteed benefit exposure in excess
of the current account value, net of reinsurance, if all contract
holders died at the same balance sheet date. The net amount at risk does
not take into account the effect of caps and deductibles from the
various reinsurance treaties.
(b) Net amount at risk represents the present value of the expected
annuitization payments at the expected annuitization dates in excess of
the present value of the expected account value at the expected
annuitization dates, net of reinsurance.
(c) Net amount at risk represents the guaranteed benefit exposure in excess
of the current account value, if all contract holders reached the
specified date at the same balance sheet date.
(d) Net amount at risk represents the guaranteed benefit exposure in excess
of the current account value if all contract holders exercise the
maximum withdrawal benefits at the same balance sheet date. If no
withdrawals have been made during the waiting period of 3 or 5 years,
the contract holder will realize an additional 10% or 20% of Eligible
Premium, respectively, after all other amounts guaranteed under this
benefit have been paid. The additional 10% or 20% enhancement increases
the net amount at risk by $26.3 million and is payable no sooner than 13
or 15 years from contract issuance for the 3 or 5 year waiting periods,
respectively.
The following summarizes the reserve for guaranteed benefits, net of
reinsurance, on variable contracts reflected in the general account:
<Table>
<Caption>
(IN THOUSANDS)
Balance at January 1, 2004 before reinsurance(e)............ $ 92,873
Guaranteed benefits incurred................................ 61,472
Guaranteed benefits paid.................................... (49,947)
--------
Balance at December 31, 2004 before reinsurance............. 104,398
Less reinsurance.......................................... (27,449)
--------
Balance at December 31, 2004, net of reinsurance............ $ 76,949
========
</Table>
(e) Includes amounts from the one-time cumulative accounting change
resulting from the adoption of SOP 03-1.
F-46
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. GUARANTEED BENEFITS (Continued)
The following assumptions and methodology were used to determine the reserve
for guaranteed benefits at December 31, 2004:
- Data used was 5,000 stochastically generated investment performance
scenarios.
- Mean investment performance assumption was 10%.
- Volatility assumption was 16%.
- Mortality was assumed to be 64% of the 75-80 ALB table.
- Lapse rates vary by contract type and duration and range from 0% to
40%.
- The discount rate was approximately 8%.
8. REINSURANCE
Reinsurance contracts do not relieve the Company from its obligations to
contract holders. The Company could become liable for all obligations of the
reinsured policies if the reinsurers were to become unable to meet the
obligations assumed under the respective reinsurance agreements. The Company
monitors its credit exposure with respect to these agreements. However, due
to the high credit ratings of the reinsurers, such risks are considered to
be minimal. The Company has no reinsurance recoverable or related
concentration of credit risk greater than 10% of shareholder's equity.
Variable policy fees are net of reinsurance premiums of $28,604,000,
$30,795,000 and $22,500,000 in 2004, 2003 and 2002, respectively. Universal
life insurance fees are net of reinsurance premiums of $34,311,000,
$33,710,000 and $34,098,000 in 2004, 2003 and 2002, respectively.
The Company has a reinsurance treaty under which the Company retains no more
than $100,000 of risk on any one insured life in order to limit the exposure
to loss on any single insured. Reinsurance recoveries recognized as a
reduction of claims on universal life insurance contracts amounted to
$34,163,000, $34,036,000 and $29,171,000 in 2004, 2003 and 2002,
respectively. Guaranteed benefits were reduced by reinsurance recoveries of
$2,716,000, $8,042,000 and $8,362,000 in 2004, 2003 and 2002, respectively.
9. COMMITMENTS AND CONTINGENT LIABILITIES
The Company has six agreements outstanding in which it has provided
liquidity support for certain short-term securities of municipalities and
non-profit organizations by agreeing to purchase such securities in the
event there is no other buyer in the short-term marketplace. In return the
Company receives a fee. In addition, the Company guarantees the payment of
these securities upon redemption. The maximum liability under these
guarantees at December 31, 2004 is $195,442,000. These commitments have
contractual maturity dates in 2005. Related to each of these agreements are
participation agreements with the Parent under which the Parent will share
in $62,590,000 of these liabilities in exchange for a proportionate
percentage of the fees received under these agreements. The Internal Revenue
Service has completed its examinations into the transactions underlying
these commitments, including the Company's role in the transactions. The
examination did not result in a material loss to the Company.
At December 31, 2004, the Company has commitments to purchase a total of
approximately $10,000,000 of asset- backed securities in the ordinary course
of business. The expiration dates of these commitments are as follows:
$2,000,000 in 2005 and $8,000,000 in 2007.
Various federal, state and other regulatory agencies are reviewing certain
transactions and practices of the Company and its subsidiaries in connection
with industry-wide and other inquiries. In the opinion of the Company's
management, based on the current status of these inquiries, it is not likely
that any of these inquiries will have a material adverse effect on the
Company's consolidated financial position, results of operations or cash
flows of the Company.
Various lawsuits against the Company and its subsidiaries have arisen in the
ordinary course of business. Contingent liabilities arising from litigation,
income taxes and regulatory and other matters are not considered material in
relation to the consolidated financial position, results of operations or
cash flows of the Company.
F-47
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
9. COMMITMENTS AND CONTINGENT LIABILITIES (Continued)
On April 5, 2004, a purported class action captioned Nitika Mehta, as
Trustee of the N.D. Mehta Living Trust vs. AIG SunAmerica Life Assurance
Company, Case 04L0199, was filed in the Circuit Court, Twentieth Judicial
District in St. Clair County, Illinois. The lawsuit alleges certain
improprieties in conjunction with alleged market timing activities. The
probability of any particular outcome cannot be reasonably estimated at this
time. The Company cannot estimate a range because the litigation has not
progressed beyond the preliminary stage.
10. SHAREHOLDER'S EQUITY
The Company is authorized to issue 4,000 shares of its $1,000 par value
Common Stock. At December 31, 2004 and 2003, 3,511 shares were outstanding.
Changes in shareholder's equity are as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Additional Paid-in Capital:
Beginning balances........................................ $709,246 $709,246 $509,246
Capital contributions by Parent........................... 49,100 -- 200,000
-------- -------- --------
Ending balances........................................... $758,346 $709,246 $709,246
======== ======== ========
Retained Earnings:
Beginning balances........................................ $828,423 $730,321 $669,103
Net income................................................ 142,502 93,530 31,689
Dividends paid to Parent.................................. (2,500) (12,187) (10,000)
Adjustment for tax benefit of distributed subsidiary...... 287 16,759 39,529
Tax effect on a distribution of investment................ (49,100) -- --
-------- -------- --------
Ending balances........................................... $919,612 $828,423 $730,321
======== ======== ========
Accumulated Other Comprehensive Income (Loss):
Beginning balances........................................ $ 72,610 $ 16,504 $(29,272)
Change in net unrealized gains (losses) on debt securities
available for sale...................................... (1,459) 118,725 98,718
Change in net unrealized gains (losses) on equity
securities available for sale........................... (65) 1,594 (1,075)
Change in net unrealized gains on foreign currency........ 1,170 -- --
Change in adjustment to deferred acquisition costs and
other deferred expenses................................. 300 (34,000) (25,000)
Net change related to cash flow hedges.................... -- -- (2,218)
Tax effects of net changes................................ 19 (30,213) (24,649)
-------- -------- --------
Ending balances........................................... $ 72,575 $ 72,610 $ 16,504
======== ======== ========
</Table>
Gross unrealized gains (losses) on fixed maturity and equity securities
included in accumulated other comprehensive income are as follows:
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Gross unrealized gains...................................... $180,329 $214,845
Gross unrealized losses..................................... (27,144) (60,136)
Unrealized gain on foreign currency......................... 1,170 --
Adjustment to DAC and other deferred expenses............... (42,700) (43,000)
Deferred income taxes....................................... (39,080) (39,099)
-------- --------
Accumulated other comprehensive income...................... $ 72,575 $ 72,610
======== ========
</Table>
On October 30, 2002, the Company received a capital contribution of
$200,000,000 in cash from the Parent.
F-48
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. SHAREHOLDER'S EQUITY (Continued)
Dividends that the Company may pay to its shareholder in any year without
prior approval of the Arizona Department of Insurance are limited by
statute. The maximum amount of dividends which can be paid to shareholders
of insurance companies domiciled in the state of Arizona without obtaining
the prior approval of the Insurance Commissioner is limited to the lesser of
either 10% of the preceding year's statutory surplus or the preceding year's
statutory net gain from operations if, after paying the dividend, the
Company's capital and surplus would be adequate in the opinion of the
Arizona Department of Insurance. Accordingly, the maximum amount of
dividends that can be paid to stockholder in the year 2005 without obtaining
prior approval is $83,649,000. Dividends of $2,500,000 were paid in 2004.
Prior to the capital contribution of SAAMCo to the Company, SAAMCo paid
dividends to its parent, SunAmerica Life Insurance Company, of $12,187,000
and $10,000,000 in 2003 and 2002, respectively.
Under statutory accounting principles utilized in filings with insurance
regulatory authorities, the Company's net income totaled $99,288,000 for the
year ended December 31, 2004, net income of $89,071,000 and net loss of
$180,737,000 for the years ended December 31, 2003 and 2002, respectively.
The Company's statutory capital and surplus totaled $840,001,000 at December
31, 2004 and $602,348,000 at December 31, 2003.
11. INCOME TAXES
The components of the provisions for income taxes on pretax income consist
of the following:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
-------------------------------
2004 2003 2002
-------- -------- ---------
(IN THOUSANDS)
Current expense (benefit)................................... $(42,927) $127,655 $(105,369)
Deferred expense (benefit).................................. 49,337 (97,408) 105,529
-------- -------- ---------
Total income tax expense.................................... $ 6,410 $ 30,247 $ 160
======== ======== =========
</Table>
Income taxes computed at the United States federal income tax rate of 35%
and income tax expenses reflected in statement of income and comprehensive
income provided differ as follows:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
2004 2003 2002
-------- -------- --------
(IN THOUSANDS)
Amount computed at statutory rate........................... $ 74,025 $ 43,322 $ 11,147
Increases (decreases) resulting from:
State income taxes, net of federal tax benefit............ 4,020 2,273 (567)
Dividends received deduction.............................. (19,058) (15,920) (10,117)
Tax credits............................................... (4,000) -- --
Adjustment to prior year tax liability(a)................. (39,730) -- --
Other, net................................................ (8,847) 572 (303)
-------- -------- --------
Total income tax expense.................................. $ 6,410 $ 30,247 $ 160
======== ======== ========
</Table>
------------------
(a) In 2004, the Company revised its estimate of tax contingency amount for
prior year based on additional information that became available.
Under prior federal income tax law, one-half of the excess of a life
insurance company's income from operations over its taxable investment
income was not taxed, but was set aside in a special tax account designated
as "policyholders' surplus". At December 31, 2004, the Company had
approximately $14,300,000 of policyholders' surplus on which no deferred tax
liability has been recognized, as federal income taxes are not required
unless this amount is distributed as a dividend or recognized under other
specified conditions. The American Jobs Creation Act of 2004 modified
federal income tax law to allow life insurance companies to distribute
amounts from policyholders' surplus during 2005 and 2006 without incurring
federal income tax on the distributions. The Company eliminated its
policyholders' surplus balance in January 2005.
At December 31, 2004, the Company had net operating carryforwards, capital
loss carryforwards and tax credit carryforwards for Federal income tax
purposes of $15,515,000, $63,774,000 and $44,604,000, respectively, arising
from
F-49
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
11. INCOME TAXES (Continued)
affordable housing investments no longer owned by SAAMCo. Such carryforwards
expire in 2018, 2006 to 2008 and 2018, respectively.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax reporting purposes.
The significant components of the liability for deferred income taxes are as
follows:
<Table>
<Caption>
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
(IN THOUSANDS)
Deferred Tax Liabilities:
Deferred acquisition costs and other deferred expenses...... $ 432,868 $ 473,387
State income taxes.......................................... 10,283 5,744
Other liabilities........................................... 15,629 350
Net unrealized gains on debt and equity securities available
for sale.................................................. 39,080 39,098
--------- ---------
Total deferred tax liabilities.............................. 497,860 518,579
--------- ---------
Deferred Tax Assets:
Investments................................................. (28,915) (25,213)
Contract holder reserves.................................... (122,691) (158,112)
Guaranty fund assessments................................... (3,402) (3,408)
Deferred income............................................. (5,604) (3,801)
Other assets................................................ (1,068) (7,446)
Net operating loss carryforward............................. (5,430) --
Capital loss carryforward................................... (22,321) (20,565)
Low income housing credit carryforward...................... (44,604) (36,600)
Partnership income/loss..................................... (6,293) (20,878)
--------- ---------
Total deferred tax assets................................... (240,328) (276,023)
--------- ---------
Deferred income taxes....................................... $ 257,532 $ 242,556
========= =========
</Table>
The Company has concluded that the deferred tax asset will be fully realized
and no valuation allowance is necessary.
12. RELATED-PARTY MATTERS
As of December 31, 2004, subordinated notes payable to affiliates were paid
off except for accrued interest totaling $460,000 which is included in other
liabilities on the consolidated balance sheet.
On February 15, 2004, the Company entered into a short-term financing
arrangement with the Parent whereby the Company has the right to borrow up
to $500,000,000 from the Parent and vice versa. Any advances made under this
arrangement must be repaid within 30 days. There were no balances
outstanding under this agreement at December 31, 2004.
On February 15, 2004, the Company entered into a short-term financing
arrangement with its affiliate, First SunAmerica Life Insurance Company
("FSA"), whereby the Company has the right to borrow up to $15,000,000 from
FSA and vice versa. Any advances made under this arrangement must be repaid
within 30 days. There were no balances outstanding under this agreement at
December 31, 2004.
On December 19, 2001, the Company entered into a short-term financing
arrangement with AIGRS whereby AIGRS has the right to borrow up to
$500,000,000. Any advances made under this arrangement must be repaid within
30 days. There were no balances outstanding under this agreement at December
31, 2004.
On December 19, 2001, the Company entered into a short-term financing
arrangement with SunAmerica Investments, Inc. ("SAII"), whereby SAII has the
right to borrow up to $500,000,000 from the Company. Any advances made under
this agreement must be repaid within 30 days. There were no balances
outstanding under this agreement at December 31, 2004.
F-50
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
12. RELATED-PARTY MATTERS (Continued)
On September 26, 2001, the Company entered into a short-term financing
arrangement with AIGRS. Under the terms of this agreement, the Company has
immediate access of up to $500,000,000. Any advances made under this
arrangement must be repaid within 30 days. There were no balances
outstanding under this agreement at December 31, 2004.
On September 26, 2001, the Company entered into a short-term financing
arrangement with SAII, whereby the Company has the right to borrow up to
$500,000,000. Any advances made under this agreement must be repaid within
30 days. At December 31, 2004 and 2003, the Company owed $0 and $14,000,000,
respectively, under this agreement, which was included in due to affiliates.
On October 31, 2003, the Company became a party to an existing credit
agreement under which the Company agreed to make loans to AIG in an
aggregate amount of up to $60,000,000. This commitment expires on October
28, 2005. There were no balances outstanding under this agreement at
December 31, 2004.
For the years ended December 31, 2004, 2003 and 2002, the Company paid
commissions totaling $60,674,000, $51,716,000 and $59,058,000, respectively,
to nine affiliated broker-dealers: Royal Alliance Associates, Inc.;
SunAmerica Securities, Inc.; Advantage Capital Corporation; FSC Services
Corporation; Sentra Securities Corporation; Spelman & Co., Inc.; VALIC
Financial Advisors; American General Equity Securities Corporation and
American General Securities Inc. These affiliated broker-dealers distribute
a significant portion of the Company's variable annuity products amounting
to approximately 23%, 24% and 31% of deposits for each of the respective
years. Of the Company's mutual fund sales, approximately 25%, 23% and 28%
were distributed by these affiliated broker-dealers for the years ended
December 31, 2004, 2003 and 2002, respectively.
On February 1, 2004, SAAMCo entered into an administrative services
agreement with FSA whereby SAAMCo will pay to FSA a fee based on a
percentage of all assets invested through FSA's variable annuity products in
exchange for services performed. SAAMCo is the investment advisor for
certain trusts that serve as investment options for FSA's variable annuity
products. Amounts incurred by the Company under this agreement totaled
$1,537,000 in 2004 and are included in the Company's consolidated statement
of income and comprehensive income. A fee of $150,000, $1,620,000 and
$1,777,000 was paid under a different agreement in 2004, 2003 and 2002,
respectively.
On October 1, 2001, SAAMCo entered into two administrative services
agreements with business trusts established by its affiliate, The Variable
Annuity Life Insurance Company ("VALIC"), whereby the trust pays to SAAMCo a
fee based on a percentage of average daily net assets invested through
VALIC's annuity products in exchange for services performed. Amounts earned
by SAAMCo under this agreement totaled $9,074,000, $7,587,000 and $7,614,000
in 2004, 2003 and 2002, respectively, and are net of certain administrative
costs incurred by VALIC of $2,593,000, $2,168,000 and $2,175,000,
respectively. The net amounts earned by SAAMCo are included in other fees in
the consolidated statement of income and comprehensive income.
The Company has a support agreement in effect between the Company and AIG
(the "Support Agreement"), pursuant to which AIG has agreed that AIG will
cause the Company to maintain a policyholder's surplus of not less than
$1,000,000 or such greater amount as shall be sufficient to enable the
Company to perform its obligations under any policy issued by it. The
Support Agreement also provides that if the Company needs funds not
otherwise available to it to make timely payment of its obligations under
policies issued by it, AIG will provide such funds at the request of the
Company. The Support Agreement is not a direct or indirect guarantee by AIG
to any person of any obligations of the Company. AIG may terminate the
Support Agreement with respect to outstanding obligations of the Company
only under circumstances where the Company attains, without the benefit of
the Support Agreement, a financial strength rating equivalent to that held
by the Company with the benefit of the Support Agreement. Contract holders
have the right to cause the Company to enforce its rights against AIG and,
if the Company fails or refuses to take timely action to enforce the Support
Agreement or if the Company defaults in any claim or payment owed to such
contract holder when due, have the right to enforce the Support Agreement
directly against AIG.
The Company's insurance policy obligations are guaranteed by American Home
Assurance Company ("American Home"), a subsidiary of AIG, and a member of an
AIG intercompany pool. This guarantee is unconditional and irrevocable, and
the Company's contract holders have the right to enforce the guarantee
directly against American Home. While American Home does not publish
financial statements, it does file statutory annual and quarterly reports
with the New York State Insurance Department, where such reports are
available to the public. AIG is a reporting company under the Securities
Exchange Act of
F-51
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
12. RELATED-PARTY MATTERS (Continued)
1934, and publishes annual reports on Form 10-K and quarterly reports on
Form 10-Q, which are available from the Securities and Exchange Commission.
The Company's ultimate parent, AIG, has announced that it has delayed filing
its Annual Report on Form 10-K for the year ended December 31, 2004 to allow
AIG's Board of Directors and new management adequate time to complete an
extensive review of AIG's books and records. The review includes issues
arising from pending investigations into non-traditional insurance products
and certain assumed reinsurance transactions by the Office of the Attorney
General for the State of New York and the SEC and from AIG's decision to
review the accounting treatment of certain additional items. Circumstances
affecting AIG can have an impact on the Company. For example, the recent
downgrades and ratings actions taken by the major rating agencies with
respect to AIG, resulted in corresponding downgrades and ratings actions
being taken with respect to the Company's ratings. Accordingly, we can give
no assurance that any further changes in circumstances for AIG will not
impact us. While the outcome of this investigation is not determinable at
this time, management believes that the ultimate outcome will not have a
material adverse effect on Company operating results, cash flows or
financial position.
Pursuant to a cost allocation agreement, the Company purchases
administrative, investment management, accounting, legal, marketing and data
processing services from its Parent, AIGRS and AIG. The allocation of such
costs for investment management services is based on the level of assets
under management. The allocation of costs for other services is based on
estimated levels of usage, transactions or time incurred in providing the
respective services. Amounts paid for such services totaled $148,554,000 for
the year ended December 31, 2004, $126,531,000 for the year ended December
31, 2003 and $119,981,000 for the year ended December 31, 2002. The
component of such costs that relate to the production or acquisition of new
business during these periods amounted to $60,183,000, $48,733,000 and
$49,004,000 respectively, and is deferred and amortized as part of deferred
acquisition costs. The other components of such costs are included in
general and administrative expenses in the consolidated statement of income
and comprehensive income.
The majority of the Company's invested assets are managed by an affiliate of
the Company. The investment management fees incurred were $3,712,000,
$3,838,000 and $3,408,000 for the years ended December 31, 2004, 2003 and
2002, respectively.
The Company incurred $1,113,000, $500,000 and $790,000 of management fees to
an affiliate of the Company to administer its securities lending program for
the years ended December 31, 2004, 2003 and 2002, respectively (see Note 2).
In December 2003, the Company purchased an affiliated bond with a carrying
value of $37,129,000. At December 31, 2004, the affiliated bond has a market
value of $34,630,000.
F-52
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. BUSINESS SEGMENTS
The Company conducts its business through two business segments, annuity
operations and asset management operations. Annuity operations consists of
the sale and administration of deposit-type insurance contracts, including
fixed and variable annuity contracts, universal life insurance contracts and
GICs. Asset management operations, which includes the managing, distributing
and administering a diversified family of mutual funds, managing certain
subaccounts offered within the Company's variable annuity products and
providing professional management of individual, corporate and pension plan
portfolios, is conducted by SAAMCo and its subsidiary and distributor, SACS,
and its subsidiary and servicing administrator, SFS. Following is selected
information pertaining to the Company's business segments.
<Table>
<Caption>
ASSET
ANNUITY MANAGEMENT
OPERATIONS OPERATIONS TOTAL
----------- ---------- -----------
(IN THOUSANDS)
Year Ended December 31, 2004:
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance.......... $ 369,141 $ -- $ 369,141
Asset management fees..................................... -- 89,569 89,569
Universal life insurance policy fees, net of
reinsurance............................................. 33,899 -- 33,899
Surrender charges......................................... 26,219 -- 26,219
Other fees................................................ -- 15,753 15,753
----------- -------- -----------
Total fee income............................................ 429,259 105,322 534,581
Investment income........................................... 362,631 963 363,594
Net realized investment gains (losses)...................... (24,100) 293 (23,807)
----------- -------- -----------
Total revenues.............................................. 767,790 106,578 874,368
----------- -------- -----------
Benefits and Expenses:
Interest expense............................................ 220,668 2,081 222,749
Amortization of bonus interest.............................. 10,357 -- 10,357
General and administrative expenses......................... 93,188 38,424 131,612
Amortization of deferred acquisition costs and other
deferred expenses......................................... 126,142 31,508 157,650
Annual commissions.......................................... 64,323 -- 64,323
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,420 -- 17,420
Guaranteed benefits, net of reinsurance recoveries.......... 58,756 -- 58,756
----------- -------- -----------
Total benefits and expenses................................. 590,854 72,013 662,867
----------- -------- -----------
Pretax income before cumulative effect of accounting
change.................................................... $ 176,936 $ 34,565 $ 211,501
=========== ======== ===========
Total assets................................................ $31,323,462 $217,155 $31,540,617
=========== ======== ===========
Expenditures for long-lived assets.......................... $ -- $ 132 $ 132
=========== ======== ===========
</Table>
F-53
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. BUSINESS SEGMENTS (Continued)
<Table>
<Caption>
ASSET
ANNUITY MANAGEMENT
OPERATIONS OPERATIONS TOTAL
----------- ---------- -----------
(IN THOUSANDS)
Year Ended December 31, 2003:
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance.......... $ 281,359 $ -- $ 281,359
Asset management fees..................................... -- 66,663 66,663
Universal life insurance policy fees, net of
reinsurance............................................. 35,816 -- 35,816
Surrender charges......................................... 27,733 -- 27,733
Other fees................................................ -- 15,520 15,520
----------- -------- -----------
Total fee income............................................ 344,908 82,183 427,091
Investment income........................................... 398,304 4,619 402,923
Net realized investment losses.............................. (30,354) -- (30,354)
----------- -------- -----------
Total revenues.............................................. 712,858 86,802 799,660
----------- -------- -----------
Benefits and Expenses:
Interest expense............................................ 237,585 2,628 240,213
Amortization of bonus interest.............................. 19,776 -- 19,776
General and administrative expenses......................... 83,013 36,080 119,093
Amortization of deferred acquisition costs and other
deferred expenses......................................... 137,130 22,976 160,106
Annual commissions.......................................... 55,661 -- 55,661
Claims on universal life contracts, net of reinsurance
recoveries................................................ 17,766 -- 17,766
Guaranteed benefits, net of reinsurance recoveries.......... 63,268 -- 63,268
----------- -------- -----------
Total benefits and expenses................................. 614,199 61,684 675,883
----------- -------- -----------
Pretax income before cumulative effect of accounting
change.................................................... $ 98,659 $ 25,118 $ 123,777
=========== ======== ===========
Total assets................................................ $27,781,457 $190,270 $27,971,727
=========== ======== ===========
Expenditures for long-lived assets.......................... $ -- $ 2,977 $ 2,977
=========== ======== ===========
</Table>
F-54
AIG SUNAMERICA LIFE ASSURANCE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. BUSINESS SEGMENTS (Continued)
<Table>
<Caption>
ASSET
ANNUITY MANAGEMENT
OPERATIONS OPERATIONS TOTAL
----------- ---------- -----------
(IN THOUSANDS)
Year Ended December 31, 2002:
Revenues:
Fee income:
Variable annuity policy fees, net of reinsurance.......... $ 286,919 $ -- $ 286,919
Asset management fees..................................... -- 66,423 66,423
Universal life insurance policy fees, net of
reinsurance............................................. 36,253 -- 36,253
Surrender charges......................................... 32,507 -- 32,507
Other fees................................................ 3,304 18,596 21,900
----------- -------- -----------
Total fee income............................................ 358,983 85,019 444,002
Investment income........................................... 377,556 9,799 387,355
Net realized investment losses.............................. (65,811) -- (65,811)
----------- -------- -----------
Total revenues.............................................. 670,728 94,818 765,546
----------- -------- -----------
Benefits and Expenses:
Interest expense............................................ 234,261 3,868 238,129
Amortization of bonus interest.............................. 16,277 -- 16,277
General and administrative expenses......................... 79,287 35,923 115,210
Amortization of deferred acquisition costs and other
deferred expenses......................................... 171,583 50,901 222,484
Annual commissions.......................................... 58,389 -- 58,389
Claims on universal life contracts, net of reinsurance
recoveries................................................ 15,716 -- 15,716
Guaranteed benefits, net of reinsurance recoveries.......... 67,492 -- 67,492
----------- -------- -----------
Total benefits and expenses................................. 643,005 90,692 733,697
----------- -------- -----------
Pretax income before cumulative effect of accounting
change.................................................... $ 27,723 $ 4,126 $ 31,849
=========== ======== ===========
Total assets................................................ $23,538,832 $214,157 $23,752,989
=========== ======== ===========
Expenditures for long-lived assets.......................... $ -- $ 7,297 $ 7,297
=========== ======== ===========
</Table>
F-55
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TABLE OF CONTENTS OF
STATEMENT OF ADDITIONAL INFORMATION
- ----------------------------------------------------------------
- ----------------------------------------------------------------
Additional information concerning the operations of the separate account is
contained in a Statement of Additional Information ("SAI"), which is available
upon written request addressed to our Annuity Service Center, P. O. Box 54299,
Los Angeles, California 90054-0299 or by calling (800) 445-SUN2. The contents of
the SAI are listed below.
<Table>
Separate Account.............................. 3
General Account............................... 3
Performance Data.............................. 4
Income Payments............................... 11
Death Benefit Options for Contracts Issued 12
Before October 24, 2001.....................
Annuity Unit Values........................... 14
Taxes......................................... 17
Distribution of Contracts..................... 23
Financial Statements.......................... 23
</Table>
F-56
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
APPENDIX A - CONDENSED FINANCIAL INFORMATION
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<Table>
<Caption>
ACCUMULATION UNIT VALUES AND ACCUMULATION UNITS
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II ASSET MANAGER PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
Capital Appreciation (Inception Date
- 10/28/99)
Beginning AUV..................... 10.00 (a) 14.03 11.590 9.861 8.681
(b) 12.97 11.585 9.822 8.625
Ending AUV........................ 14.03 (a) 11.59 9.861 8.681 10.676
(b) 11.59 9.822 8.625 10.581
Ending Number of AUs.............. 226,697 (a) 1,301,826 2,010,220 2,242,839 3,348,839
(b) 11,589 112,490 193,637 339,695
- ---------------------------------------------------------------------------------------------------------------------------------
Government and Quality Bond
(Inception Date - 12/16/99)
Beginning AUV..................... 10.00 (a) 10.13 11.181 11.876 12.783
(b) 11.09 11.175 11.840 12.713
Ending AUV........................ 10.13 (a) 11.18 11.876 12.783 12.811
(b) 11.18 11.840 12.713 12.709
Ending Number of AUs.............. 10,743 (a) 142,268 429,130 1,104,627 1,717,250
(b) 2,041 22,384 71,303 138,314
- ---------------------------------------------------------------------------------------------------------------------------------
Growth (Inception Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 11.95 10.256 9.065 7.685
(b) 11.29 10.251 9.037 7.643
Ending AUV........................ 11.95 (a) 10.26 9.065 7.685 9.573
(b) 10.25 9.037 7.643 9.495
Ending Number of AUs.............. 93,965 (a) 563,506 1,102,754 1,319,642 2,235,693
(b) 6,206 55,407 97,032 198,143
- ---------------------------------------------------------------------------------------------------------------------------------
Aggressive Growth (Inception Date -
11/1/99)
Beginning AUV..................... 10.00 (a) 14.14 10.166 7.753 6.307
(b) 11.78 10.162 7.740 6.281
Ending AUV........................ 14.14 (a) 10.17 7.753 6.307 7.730
(b) 10.16 7.740 6.281 7.678
Ending Number of AUs.............. 49,324 (a) 207,783 207,493 142,222 180,321
(b) 365 1,492 6,373 12,138
- ---------------------------------------------------------------------------------------------------------------------------------
Alliance Growth (Inception Date -
10/28/99)
Beginning AUV..................... 10.00 (a) 11.75 8.502 6.812 5.728
(b) 9.76 8.498 6.791 5.697
Ending AUV........................ 11.75 (a) 8.50 6.812 5.728 6.430
(b) 8.50 6.791 5.697 6.379
Ending Number of AUs.............. 423,804 (a) 2,004,620 2,695,963 2,297,444 1,944,993
(b) 10,150 111,553 133,969 138,351
- ---------------------------------------------------------------------------------------------------------------------------------
Asset Allocation (Inception Date -
11/12/99)
Beginning AUV..................... 10.00 (a) 10.34 9.975 9.613 9.320
(b) 10.35 9.975 9.590 9.274
Ending AUV........................ 10.34 (a) 9.97 9.613 9.320 11.082
(b) 9.97 9.590 9.274 10.999
Ending Number of AUs.............. 14,781 (a) 112,976 245,567 246,399 324,870
(b) -- 23,126 24,587 12,280
- ---------------------------------------------------------------------------------------------------------------------------------
Blue Chip Growth (Inception Date -
9/5/00)
Beginning AUV..................... N/A (a) 10.00 7.109 5.642 4.604
(b) 8.03 7.105 5.625 4.578
Ending AUV........................ N/A (a) 7.11 5.642 4.604 5.371
(b) 7.10 5.625 4.578 5.327
Ending Number of AUs.............. N/A (a) 30,980 109,746 155,299 177,965
(b) 335 10,661 9,776 23,464
- ---------------------------------------------------------------------------------------------------------------------------------
Cash Management (Inception Date -
11/29/99)
Beginning AUV..................... 10.00 (a) 10.20 10.707 10.891 10.923
(b) 10.60 10.710 10.886 10.891
Ending AUV........................ 10.20 (a) 10.71 10.891 10.923 10.891
(b) 10.71 10.886 10.891 10.832
Ending Number of AUs.............. 3,737 (a) 58,423 171,876 321,915 375,789
(b) 495 5,858 43,742 44,481
- ---------------------------------------------------------------------------------------------------------------------------------
Corporate Bond (Inception Date -
12/27/99)
Beginning AUV..................... 10.00 (a) 10.01 10.740 11.343 12.402
(b) 10.64 10.734 11.305 12.330
Ending AUV........................ 10.01 (a) 10.74 11.343 12.402 13.215
(b) 10.73 11.305 12.330 13.105
Ending Number of AUs.............. 3,500 (a) 87,233 208,179 428,783 1,216,579
(b) 90 40,808 62,702 142,952
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of optional EstatePlus feature.
(b) With election of optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-1
<Table>
<Caption>
ACCUMULATION UNIT VALUES AND ACCUMULATION UNITS
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II ASSET MANAGER PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
Davis Venture Value (Inception Date
- 10/28/99)
Beginning AUV..................... 10.00 (a) 11.61 10.816 9.889 8.635
(b) 11.59 10.807 9.857 8.585
Ending AUV........................ 11.61 (a) 10.82 9.889 8.635 11.288
(b) 10.81 9.857 8.585 11.195
Ending Number of AUs.............. 353,493 (a) 1,957,911 3,277,861 3,552,389 4,219,824
(b) 16,912 167,991 274,799 431,379
- ---------------------------------------------------------------------------------------------------------------------------------
"Dogs" of Wall Street (Inception
Date - 1/3/00)
Beginning AUV..................... 10.00 (a) 9.51 10.714 11.602 10.025
(b) 10.18 10.714 11.592 9.991
Ending AUV........................ 9.51 (a) 10.71 11.602 10.025 12.541
(b) 10.71 11.592 9.991 12.467
Ending Number of AUs.............. 3,381 (a) 30,007 69,011 74,185 60,730
(b) -- 1,004 11,035 8,220
- ---------------------------------------------------------------------------------------------------------------------------------
Emerging Markets (Inception Date -
11/10/99)
Beginning AUV..................... 10.00 (a) 11.53 8.062 8.844 7.355
(b) 9.07 8.072 8.832 7.327
Ending AUV........................ 11.53 (a) 8.06 8.844 7.355 11.021
(b) 8.07 8.832 7.327 10.952
Ending Number of AUs.............. 16,356 (a) 152,174 132,773 102,396 81,009
(b) 2,733 6,718 10,925 6,243
- ---------------------------------------------------------------------------------------------------------------------------------
Federated American Leaders
(Inception Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 10.03 10.676 9.858 8.200
(b) 10.78 10.674 9.829 8.156
Ending AUV........................ 10.03 (a) 10.68 9.858 8.200 10.153
(b) 10.67 9.829 8.156 10.073
Ending Number of AUs.............. 49,962 (a) 227,673 469,139 560,019 833,201
(b) 206 21,853 24,706 44,202
- ---------------------------------------------------------------------------------------------------------------------------------
Global Bond (Inception Date -
11/29/99)
Beginning AUV..................... 10.00 (a) 10.20 11.015 11.307 12.105
(b) 10.92 11.012 11.275 12.040
Ending AUV........................ 10.20 (a) 11.01 11.307 12.105 12.246
(b) 11.01 11.275 12.040 12.149
Ending Number of AUs.............. 1,149 (a) 17,170 45,752 74,019 141,130
(b) 44 4,201 6,954 11,858
- ---------------------------------------------------------------------------------------------------------------------------------
Global Equities (Inception Date -
11/8/99)
Beginning AUV..................... 10.00 (a) 11.70 8.651 7.071 5.740
(b) 9.90 8.647 7.051 5.710
Ending AUV........................ 11.70 (a) 8.65 7.071 5.740 6.936
(b) 8.65 7.051 5.710 6.882
Ending Number of AUs.............. 81,597 (a) 506,012 628,393 477,240 388,668
(b) 2,756 9,687 9,781 7,971
- ---------------------------------------------------------------------------------------------------------------------------------
Goldman Sachs Research (Inception
Date - 8/1/00)
Beginning AUV..................... N/A (a) 10.00 8.715 6.088 5.244
(b) 9.76 8.716 6.072 5.216
Ending AUV........................ N/A (a) 8.72 6.088 5.244 6.436
(b) 8.72 6.072 5.216 6.386
Ending Number of AUs.............. N/A (a) 31,175 80,348 76,812 117,350
(b) 326 7,463 10,045 10,208
- ---------------------------------------------------------------------------------------------------------------------------------
Growth-Income (Inception Date -
11/1/99)
Beginning AUV..................... 10.00 (a) 11.39 9.513 8.093 6.979
(b) 10.42 9.507 8.069 6.941
Ending AUV........................ 11.39 (a) 9.51 8.093 6.979 8.348
(b) 9.51 8.069 6.941 8.282
Ending Number of AUs.............. 335,543 (a) 1,673,087 2,296,734 1,743,668 1,520,053
(b) 8,279 107,132 109,068 97,758
- ---------------------------------------------------------------------------------------------------------------------------------
Growth Opportunities (Inception Date
- 8/22/00)
Beginning AUV..................... N/A (a) 10.00 6.857 5.010 3.637
(b) 8.60 6.857 5.241 3.833
Ending AUV........................ N/A (a) 6.86 5.010 3.637 4.409
(b) 6.86 5.241 3.833 4.634
Ending Number of AUs.............. N/A (a) 54,857 75,693 48,013 54,926
(b) -- 5 317 3,556
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of optional EstatePlus feature.
(b) With election of optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-2
<Table>
<Caption>
ACCUMULATION UNIT VALUES AND ACCUMULATION UNITS
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II ASSET MANAGER PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
High-Yield Bond (Inception Date -
11/29/99)
Beginning AUV..................... 10.00 (a) 10.06 9.299 8.744 9.005
(b) 9.71 9.299 8.728 8.965
Ending AUV........................ 10.06 (a) 9.30 8.744 9.005 10.682
(b) 9.30 8.728 8.965 10.608
Ending Number of AUs.............. 13,058 (a) 91,018 182,420 267,960 587,922
(b) -- 5,112 18,202 46,284
- ---------------------------------------------------------------------------------------------------------------------------------
International Diversified Equities
(Inception Date - 11/23/99)
Beginning AUV..................... 10.00 (a) 9.87 7.958 6.634 4.641
(b) 8.63 7.953 6.614 4.616
Ending AUV........................ 9.87 (a) 7.96 6.634 4.641 6.156
(b) 7.95 6.614 4.616 6.111
Ending Number of AUs.............. 30,627 (a) 139,489 216,629 204,331 259,738
(b) 656 1,943 1,550 11,443
- ---------------------------------------------------------------------------------------------------------------------------------
International Growth and Income
(Inception Date - 10/28/99)
Beginning AUV..................... 10.00 (a) 10.82 9.717 8.498 6.648
(b) 10.46 9.715 8.476 6.614
Ending AUV........................ 10.82 (a) 9.72 8.498 6.648 9.079
(b) 9.72 8.476 6.614 9.011
Ending Number of AUs.............. 132,522 (a) 663,722 907,962 837,785 748,220
(b) 1,472 20,303 32,278 35,769
- ---------------------------------------------------------------------------------------------------------------------------------
MFS Massachusetts Investors Trust
(Inception Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 10.49 9.736 8.225 7.039
(b) 10.34 9.735 8.203 7.003
Ending AUV........................ 10.49 (a) 9.74 8.225 7.039 8.136
(b) 9.74 8.203 7.003 8.074
Ending Number of AUs.............. 114,191 (a) 581,736 972,320 902,075 805,399
(b) 5,570 66,103 90,251 91,094
- ---------------------------------------------------------------------------------------------------------------------------------
MFS Mid-Cap Growth (Inception Date -
11/1/99)
Beginning AUV..................... 10.00 (a) 13.69 13.193 8.269 5.884
(b) 14.87 13.188 8.244 5.852
Ending AUV........................ 13.69 (a) 13.19 8.269 5.884 7.834
(b) 13.19 8.244 5.852 7.772
Ending Number of AUs.............. 30,505 (a) 344,347 442,836 449,234 441,724
(b) 306 25,484 33,748 35,097
- ---------------------------------------------------------------------------------------------------------------------------------
MFS Total Return (Inception Date -
10/28/99)
Beginning AUV..................... 10.00 (a) 10.22 11.789 11.859 11.289
(b) 11.64 11.782 11.821 11.226
Ending AUV........................ 10.22 (a) 11.79 11.859 11.289 12.842
(b) 11.78 11.821 11.226 12.738
Ending Number of AUs.............. 50,264 (a) 355,139 1,374,837 2,391,121 3,949,893
(b) 4,588 94,278 218,848 432,049
- ---------------------------------------------------------------------------------------------------------------------------------
Putnam Growth: Voyager (Inception
Date - 11/1/99)
Beginning AUV..................... 10.00 (a) 11.33 8.383 6.571 5.480
(b) 9.55 8.380 6.553 5.451
Ending AUV........................ 11.33 (a) 8.38 6.571 5.480 6.333
(b) 8.38 6.553 5.451 6.284
Ending Number of AUs.............. 177,965 (a) 820,691 953,847 817,468 1,063,200
(b) 3,244 25,257 22,523 93,442
- ---------------------------------------------------------------------------------------------------------------------------------
Real Estate (Inception Date -
2/7/00)
Beginning AUV..................... 10.00 (a) 10.77 12.621 14.317 14.880
(b) 12.42 12.623 14.279 14.804
Ending AUV........................ 10.77 (a) 12.62 14.317 14.880 18.683
(b) 12.62 14.279 14.804 18.540
Ending Number of AUs.............. 2,461 (a) 15,795 69,705 88,262 108,473
(b) 39 928 3,919 5,621
- ---------------------------------------------------------------------------------------------------------------------------------
SunAmerica Balanced (Inception Date
- 10/28/99)
Beginning AUV..................... 10.00 (a) 11.01 9.336 8.175 7.437
(b) 10.08 9.333 8.152 7.398
Ending AUV........................ 11.01 (a) 9.34 8.175 7.437 8.207
(b) 9.33 8.152 7.398 8.143
Ending Number of AUs.............. 93,619 (a) 431,856 632,064 550,347 530,846
(b) 265 19,591 24,362 27,544
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of the optional EstatePlus feature.
(b) With election of the optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-3
<Table>
<Caption>
ACCUMULATION UNIT VALUES AND ACCUMULATION UNITS
INCEPTION TO 4/30/00 TO 4/30/01 TO 4/30/02 TO 4/30/03 TO
POLARIS II ASSET MANAGER PORTFOLIOS 4/30/00 4/30/01 4/30/02 4/30/03 4/30/04
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
Technology (Inception Date -
8/21/00)
Beginning AUV..................... N/A (a) 10.00 4.375 2.507 1.815
(b) 6.68 4.375 2.499 1.805
Ending AUV........................ N/A (a) 4.38 2.507 1.815 2.174
(b) 4.38 2.499 1.805 2.157
Ending Number of AUs.............. N/A (a) 23,583 46,009 58,799 108,335
(b) -- 3,185 7,962 13,639
- ---------------------------------------------------------------------------------------------------------------------------------
Telecom Utility (Inception Date -
12/16/99)
Beginning AUV..................... 10.00 (a) 9.91 9.278 7.325 6.050
(b) 9.12 9.277 7.311 6.023
Ending AUV........................ 9.91 (a) 9.28 7.325 6.050 6.962
(b) 9.28 7.311 6.023 6.914
Ending Number of AUs.............. 9,175 (a) 69,692 77,161 61,703 40,778
(b) 104 3,437 3,965 4,149
- ---------------------------------------------------------------------------------------------------------------------------------
Worldwide High Income (Inception
Date - 11/10/99)
Beginning AUV..................... 10.00 (a) 10.42 9.735 9.735 10.471
(b) 10.54 9.735 9.711 10.420
Ending AUV........................ 10.42 (a) 9.74 9.735 10.471 11.563
(b) 9.74 9.711 10.420 11.477
Ending Number of AUs.............. 3,802 (a) 31,309 42,247 63,528 126,343
(b) -- 3,483 6,051 14,716
- ---------------------------------------------------------------------------------------------------------------------------------
(a) Without election of the optional EstatePlus feature.
(b) With election of the optional EstatePlus feature.
AUV - Accumulation Unit Value
AU - Accumulation Units
</Table>
A-4
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
APPENDIX B - DEATH BENEFITS FOLLOWING SPOUSAL CONTINUATION
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Capitalized terms used in this Appendix have the same meaning as they have in
the Death Benefit section of the prospectus.
The term Continuation Net Purchase Payments is used frequently to describe the
death benefits payable to the beneficiary of the Continuing Spouse for contracts
issued on or after October 24, 2001. We define Continuation Net Purchase
Payments as Net Purchase Payments made on and/or after the Continuation Date.
For the purpose of calculating Continuation Net Purchase Payments, the amount
that equals the contract value on the Continuation Date, including the
Continuation Contribution is considered a Purchase Payment. If the Continuing
Spouse makes no additional Purchase Payments or withdrawals, Continuation Net
Purchase Payments equals the contract value on the Continuation Date, including
the Continuation Contribution.
The term withdrawals as used in describing the death benefit option below is
defined as withdrawals and the fees and charges applicable to those withdrawals.
The following describes the death benefit options following spousal continuation
for contracts issued on or after October 24, 2001:
1. Purchase Payment Accumulation Option
If a Continuation Contribution is added on the Continuation Date, the
death benefit is the greater of:
a. Contract value on the date we receive all required paperwork and
satisfactory proof of the Continuing Spouse's death; or
b. Continuation Net Purchase Payments; or
c. Continuation Net Purchase Payments compounded to the date of death
at a 4% annual growth rate, (3% growth rate if the Continuing Spouse
was age 70 or older on the Continuation Date) plus any Purchase
Payments recorded after the date of death; and reduced by any
withdrawals recorded after the date of death in the same proportion
that the withdrawal reduced the contract value on the date of each
withdrawal; or
d. Contract value on the seventh contract anniversary following the
original issue date of the contract, plus any Purchase Payments
since the seventh contract anniversary and reduced for any
withdrawals recorded after the seventh contract anniversary in the
same proportion that the withdrawal reduced the contract value on
the date of the withdrawal, all compounded at a 4% annual growth
rate until the date of death (3% annual growth rate if the
Continuing Spouse is age 70 or older on the Continuation Date) plus
any Purchase Payments; and reduced for any withdrawals recorded
after the date of death in the same proportion that each withdrawal
reduced the contract value on the date of the withdrawal
If a Continuation Contribution is not added on the Continuation Date,
the death benefit is the greater of:
a. Contract value on the date we receive all required paperwork and
satisfactory proof of the Continuing Spouse's death; or
b. Purchase Payments reduced by any withdrawals in the same proportions
that the withdrawal reduced the contract value on the date of each
withdrawal; or
c. Net Purchase Payments made from the original contract issue date
compounded to the date of death at a 4% annual growth rate, (3%
growth rate if the Continuing Spouse was age 70 or older on the
original contract issue date) plus any Purchase Payments recorded
after the date of death; and reduced for any withdrawals recorded
after the date of death in the same proportion that each withdrawal
reduced the contract value on the date of the withdrawal; or
d. The contract value on the seventh contract anniversary following the
original issue date of the contract, plus any Purchase Payments
since the seventh contract anniversary; and reduced for any
withdrawals since the seventh contract anniversary in the same
proportion that each withdrawal reduced the contract value on the
date of the withdrawal, all compounded at a 4% annual growth rate
until the date of death (3% annual growth rate if the Continuing
Spouse is age 70 or older on the contract issue date) plus any
Purchase Payments; and reduced for any withdrawals recorded after
the date of death in the same proportion that each withdrawal
reduced the contract value on the date of the withdrawal.
2. Maximum Anniversary Value Option -- if the continuing spouse is below age
90 at the time of death, and:
If a Continuation Contribution is added on the Continuation Date, the
death benefit is the greatest of:
a. Contract value on the date we receive all required paperwork and
satisfactory proof of the Continuing Spouse's death; or
b. Continuation Net Purchase Payments; or
c. Maximum anniversary value on any contract anniversary occurring
after the Continuation Date and prior to the Continuing Spouse's
81st birthday. The anniversary value equals the contract value on a
contract anniversary plus any Purchase Payments made since that
contract anniversary; and reduced for any withdrawals recorded since
the contract anniversary in the same proportion that each withdrawal
reduced the contract value on the date of the withdrawal. Contract
anniversary is defined as any anniversary following the full 12
month period after the original contract issue date.
If a Continuation Contribution is not added on the Continuation Date,
the death benefit is the greatest of:
a. Contract value on the date we receive all required paperwork and
satisfactory proof of the Continuing Spouse's death; or
b. Purchase Payments reduced by withdrawals in the same proportion that
the withdrawal reduced the contract value on the date of the
withdrawal; or
c. Maximum anniversary value on any contract anniversary from the
original contract issue date prior to the Continuing Spouse's 81st
birthday. The anniversary value equals the contract value on a
B-1
contract anniversary plus any Purchase Payments since that contract
anniversary; and reduced for any withdrawals since the contract
anniversary in the same proportion that the withdrawal reduced each
contract value on the date of the withdrawal. Contract anniversary
is defined as the full 12 month period after the original contract
issue date.
If the Continuing Spouse is age 90 or older at the time of death, under
the Maximum Anniversary death benefit, their beneficiary will receive only the
contract value at the time we receive all required paperwork and satisfactory
proof of death.
Please see the Statement of Additional Information for a description of
the death benefit calculations following a Spousal Continuation for contracts
issued before October 24, 2001.
B. THE ESTATEPLUS BENEFIT PAYABLE UPON CONTINUING SPOUSE'S DEATH:
The EstatePlus benefit may increase the death benefit amount. The EstatePlus
benefit is only available if the original owner elected EstatePlus and it has
not been discontinued or terminated. If the Continuing Spouse had earnings in
the contract at the time of his/her death, we will add a percentage of those
earnings (the "EstatePlus Percentage"), subject to a maximum dollar amount (the
"Maximum EstatePlus Percentage"), to the death benefit payable, based on the
number of years the Continuing Spouse has held the contract since the
Continuation Date. The EstatePlus benefit, if any, is added to the death benefit
payable under the Purchase Payment Accumulation or the Maximum Anniversary
option.
The term "Continuation Net Purchase Payment" is used frequently to describe the
EstatePlus benefit payable to the beneficiary of the Continuing Spouse. We
define Continuation Net Purchase Payment as Net Purchase Payments made as of the
Continuation Date. For the purpose of calculating Continuation Net Purchase
Payments, the amount that equals the contract value on the Continuation Date,
including the Continuation Contribution is considered a Purchase Payment. If the
Continuing Spouse makes no additional Purchase Payments or withdrawal,
Continuation Net Purchase Payments equals the contract value on the Continuation
Date, including the Continuation Contribution.
The following table identifies the factors we use in determining the percentage
of earnings that will be added to the death benefit at the Continuing Spouse's
date of death, if the Continuing Spouse is age 69 or younger on the Continuation
Date:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
Years 0-4 25% of earnings 40% of Continuation
Net Purchase Payments
- -------------------------------------------------------------
Years 5-9 40% of earnings 65% of Continuation
Net Purchase
Payments*
- -------------------------------------------------------------
Years 10+ 50% of earnings 75% of Continuation
Net Purchase
Payments*
- -------------------------------------------------------------
</Table>
If the Continuing Spouse is between their 70th and 81st birthday on the
Continuation Date, the table below shows the available EstatePlus benefit:
<Table>
<Caption>
- -------------------------------------------------------------
CONTRACT YEAR ESTATEPLUS MAXIMUM
OF DEATH PERCENTAGE ESTATEPLUS PERCENTAGE
- -------------------------------------------------------------
All Contract 25% of earnings 40% of Continuation
Years Net Purchase
Payments*
- -------------------------------------------------------------
</Table>
* Purchase Payments received after the 5(th) year following the Continuation
Date must remain in the contract for at least six months to be included as
part of Continuation Net Purchase Payments for purpose of the Maximum
EstatePlus calculation.
What is the Contract Year of Death?
Contract Year of Death is the number of full 12 month periods starting on the
Continuation Date and ending on the Continuing Spouse's date of death.
What is the EstatePlus amount?
We determine the EstatePlus amount based upon a percentage of earnings in the
contract at the time of the Continuing Spouse's death. For the purpose of this
calculation, earnings are defined as (1) minus (2) where
(1) equals the contract value on the Continuing Spouse's date of death;
(2) equals the Continuation Net Purchase Payment(s).
What is the Maximum EstatePlus amount?
The EstatePlus benefit is subject to a maximum dollar amount. The Maximum
EstatePlus amount is a percentage of the Continuation Net Purchase Payments.
WE RESERVE THE RIGHT TO MODIFY, SUSPEND OR TERMINATE THE SPOUSAL CONTINUATION
PROVISION (IN ITS ENTIRETY OR ANY COMPONENT) AT ANY TIME ON PROSPECTIVELY ISSUED
CONTRACTS.
B-2
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
APPENDIX C - MARKET VALUE ADJUSTMENT ("MVA")
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
The information in this Appendix applies only if you take money out of a FAGP
(with a duration longer than 1 year) before the end of the guarantee period.
We calculate the MVA by doing a comparison between current rates and the rate
being credited to you in the FAGP. For the current rate we use a rate being
offered by us for a guarantee period that is equal to the time remaining in the
FAGP from which you seek withdrawal. If we are not currently offering a
guarantee period for that period of time, we determine an applicable rate by
using a formula to arrive at a number between the interest rates currently
offered for the two closest periods available.
Where the MVA is negative, we first deduct the adjustment from any money
remaining in the FAGP. If there is not enough money in the FAGP to meet the
negative deduction, we deduct the remainder from your withdrawal. Where the MVA
is positive, we add the adjustment to your withdrawal amount. If a withdrawal
charge applies, it is deducted before the MVA calculation. The MVA is assessed
on the amount withdrawn less any withdrawal charges.
The MVA is computed by multiplying the amount withdrawn, transferred or taken
under an income option by the following factor:
[(1+I/(1+J+L)] to the power of (N/12) - 1
where:
I is the interest rate you are earning on the money invested in the
FAGP;
J is the interest rate then currently available for the period of time
equal to the number of years rounded up to the nearest integer remaining
in the term you initially agreed to leave your money in the FAGP;
N is the number of full months remaining in the term you initially
agreed to leave your money in the FAGP; and
L is 0.005 (Some states require a different value. Please see your
contract.)
We do not assess an MVA against withdrawals under the following circumstances:
- If a withdrawal is made within 30 days after the end of a guarantee
period;
- If a withdrawal is made to pay contract fees and charges;
- To pay a death benefit; and
- Upon beginning an income option, if occurring on the Latest Annuity Date.
EXAMPLES OF THE MVA
The purpose of the examples below is to show how the MVA adjustments are
calculated and may not reflect the Guarantee periods available or Withdrawal
Charges applicable under your contract.
The examples below assume the following:
(1) You made an initial Purchase Payment of $10,000 and allocated it to a
3-year FAGP at a rate of 5%;
(2) You make a partial withdrawal of $4,000 when 1 1/2 years (18 months)
remain in the term you initially agreed to leave your money in the FAGP
(N=18);
(3) You have not made any other transfers, additional Purchase Payments, or
withdrawals; and
(4) Your contract was issued in a state where L=0.005.
POSITIVE ADJUSTMENT, NO WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for a new
Purchase Payments in the 1-year FAGP is 3.5% and the 3-year FAGP is 4.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full year) in the contract is calculated to be 4%. No
withdrawal charge is reflected in this example, assuming that the Purchase
Payment withdrawn falls within the free look amount.
The MVA factor is = [(1+I/(1+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.04+0.005)] to the power of (18/12) - 1
= (1.004785) to the power of (1.5) - 1
= 1.007186 - 1
= + 0.007186
The requested withdrawal amount is multiplied by the MVA factor to determine the
MVA:
$4,000 X (+0.007186) = +$28.74
$28.74 represents the positive MVA that would be added to the withdrawal.
NEGATIVE ADJUSTMENT, NO WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for new
Purchase Payments in the 1-year FAGP is 5.5% and the 3-year FAGP is 6.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full
C-1
year) in the contract is calculated to be 6%. No withdrawal charge is reflected
in this example, assuming that the Purchase Payment withdrawn falls with the
free withdrawal amount.
The MVA factor is = [(1+I)/(1+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.06+0.005)] to the power of (18/12) - 1
= (0.985915) to the power of (1.5) - 1
= 0.978948 - 1
= - 0.021052
The requested withdrawal amount is multiplied by the MVA factor to determine the
MVA:
$4,000 X (- 0.021052) = -$84.21
$84.21 represents the negative MVA that will be deducted from the money
remaining in the 3-year FAGP.
POSITIVE ADJUSTMENT, WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for a new
Purchase Payments in the 1-year FAGP is 3.5% and the 3-year FAGP is 4.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full year) in the contract is calculated to be 4%. A
withdrawal charge of 6% is reflected in this example, assuming that the Purchase
Payment withdrawn exceeds the free withdrawal amount.
The MVA factor is = [(1+I)/(I+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.04+0.005)] to the power of (18/12) - 1
= (1.004785) to the power of (1.5) - 1
= 1.007186 - 1
= + 0.007186
The requested withdrawal amount, less the withdrawal charge ($4,000 - (6% X
$4,000) = $3,760) is multiplied by the MVA factor to determine the MVA:
$3,760 X (+0.007186) = +$27.02
$27.02 represents the positive MVA that would be added to the withdrawal.
NEGATIVE ADJUSTMENT, WITHDRAWAL CHARGE APPLIES
Assume that on the date of withdrawal, the interest rate in effect for new
Purchase Payments in the 1-year FAGP is 5.5% and the 3-year FAGP is 6.5%. By
linear interpolation, the interest rate for the remaining 2 years (1 1/2 years
rounded up to the next full year) in the contract is calculated to be 6%. A
withdrawal charge of 6% is reflected in this example, assuming that the Purchase
Payment withdrawn exceeds the free withdrawal amount.
The MVA factor is = [(1+I)/(I+J+0.005)] to the power of (N/12) - 1
= [(1.05)/(1.06+0.005)] to the power of (18/12) - 1
= (0.985916) to the power of (1.5) - 1
= 0.978949 - 1
= - 0.021051
The requested withdrawal amount, less the withdrawal charge ($4,000 - (6% X
$4,000) = $3,760) is multiplied by the MVA factor to determine the MVA:
$3,760 X (-0.021052) = -$79.16
$79.16 represents the negative MVA that would be deducted from the money
remaining in the 3-year FAGP.
C-2
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Please forward a copy (without charge) of the Polaris(II) Asset Manager
Variable Annuity Statement of Additional Information to:
(Please print or type and fill in all information.)
------------------------------------------------------------------------
Name
------------------------------------------------------------------------
Address
------------------------------------------------------------------------
City/State/Zip
Date: ----------------------- Signed: ----------------------------------
Return to: AIG SunAmerica Life Assurance Company, Annuity Service Center,
P.O. Box 52499, Los Angeles, California 90054-0299
- --------------------------------------------------------------------------------
Part II
Information Not Required in Prospectus
Item 13. Other Expenses of Issuance and Distribution.
The following table sets forth the expenses in connection with the
issuance and distribution of the securities being registered, other than
underwriting discounts and commissions. All of the amounts shown are estimates,
except the SEC registration fee.
SEC registration fee .......................... $ 5,660
Printing and engraving ........................ $50,000
Legal fees and expenses ....................... $10,000
Rating agency fees ............................ $ 7,500
Miscellaneous ................................. $10,000
Total .................................... $83,160
Item 14. Indemnification of Directors and Officers.
Section 10-851 of the Arizona Corporations and Associations law permits
the indemnification of directors, officers, employees and agents of Arizona
corporations. Article Eight of the Company's Restated Articles of Incorporation,
as amended and restated (the "Articles") and Article Five of the Company's
By-Laws ("By-Laws") authorize the indemnification of directors and officers to
the full extent required or permitted by the Laws of the State of Arizona, now
or hereafter in force, whether such persons are serving the Company, or, at its
request, any other entity, which indemnification shall include the advance of
expenses under the procedures and to the full extent permitted by law. In
addition, the Company's officers and directors are covered by certain directors'
and officers' liability insurance policies maintained by the Company's parent.
Reference is made to section 10-851 of the Arizona Corporations and Associations
Law, Article Eight of the Articles, and Article Five of the By-Laws, which are
incorporated herein by reference.
Item 15. Recent Sales of Unregistered Securities.
Not Applicable.
Item 16. Exhibits and Financial Statements Schedules.
<Table>
<Caption>
Exhibit No. Description
----------- -----------
(1) Form of Underwriting Agreement*
(2) Plan of Acquisition, Reorganization,
Arrangement, Liquidation or Succession**
(3) (a) Articles of Incorporation++
(b) By-Laws++
(5) Opinion of Counsel re: Legality***
(6) Opinion re Discount on Capital Shares**
(7) Opinion re Liquidation Preference**
(8) Opinion re Tax Matters**
(9) Voting Trust Agreement**
(10) Material Contracts**
(11) Statement re Computation of Per Share
Earnings**
(12) Statement re Computation of Ratios**
(14) Material Foreign Patents**
(15) Letter re Unaudited Financial Information**
(16) Letter re Change in Certifying Accountant**
(21) Subsidiaries of Registrant**
(23) (a) Consent of Independent Registered Public
Accounting Firm (Filed Herewith)
(b) Consent of Attorney***
(24) Powers of Attorney
(a) Power of Attorney December 2000+
(b) Power of Attorney October 2003+++
(25) Statement of Eligibility of Trustee**
(26) Invitation for Competitive Bids**
(27) Financial Data Schedule*
(28) Information Reports Furnished to State
Insurance Regulatory Authority**
(29) Other Exhibits**
* Filed February 16, 1999, Pre-Effective Amendment No. 1 to
this Registration Statement
** Not Applicable
*** Filed August 27, 1999, Pre-Effective Amendment No. 2 to this
Registration Statement
+ Filed June 21, 2000, Post-Effective Amendment 4 to this Registration
Statement
++ Filed April 9, 2002, Post-Effective Amendment 10 to this Registration
Statement.
+++ Filed April 16, 2004, Post Effective Amendment Number 15 to this
Registration Statement
Item 17. Undertakings.
The undersigned registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being
made, a post-effective amendment to this registration statement:
(i) To include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after
the effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth
in the registration statement. Notwithstanding the foregoing, any
increase or decrease in volume of securities offered (if the total
dollar value of securities offered would not exceed that which was
registered) and any deviation from the low or high end of the estimated
maximum offering range may be reflected in the form of prospectus filed
with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than 20 percent change in
the maximum aggregate offering price set forth in the "Calculation of
Registration Fee" table in the effective registration statement.
(iii) To include any material information with respect to the plan
of distribution not previously disclosed in the registration statement
or any material change to such information in the registration
statement.
SIGNATURES
Pursuant to the requirement of the Securities Act of 1933, the
Registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Los
Angeles, State of California on this 27th day of April 2005.
AIG SUNAMERICA LIFE ASSURANCE
COMPANY (Registrant)
By: /s/ JAY S. WINTROB
---------------------------------------
Jay S. Wintrob, Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, this
registration statement has been signed by the following persons in the capacity
and on the dates indicated.
SIGNATURE TITLE DATE
- --------- ----- ----
JAY S. WINTROB* Chief Executive Officer, April 27, 2005
- --------------------------------- & Director
Jay S. Wintrob (Principal Executive Officer)
JAMES R. BELARDI* Director April 27, 2005
- ---------------------------------
James R. Belardi
MARC H. GAMSIN* Director April 27, 2005
- ---------------------------------
Marc H. Gamsin
N. SCOTT GILLIS* Senior Vice President, April 27, 2005
- --------------------------------- Chief Financial Officer &
N. Scott Gillis Director
(Principal Financial Officer)
JANA W. GREER* Director April 27, 2005
- ---------------------------------
Jana W. Greer
STEWART R. POLAKOV* Senior Vice President April 27, 2005
- --------------------------------- & Controller
Stewart R. Polakov (Principal Accounting Officer)
* By: /s/ MALLARY L. REZNIK April 27, 2005
----------------------------
Mallary L. Reznik
Attorney-In-Fact
EXHIBIT INDEX
Number Description
- ------ -----------
23(a) Consent of Independent Registered Public Accounting Firm