CNO FINANCIAL GROUP, INC., 10-Q filed on 11/1/2017
Quarterly Report
DOCUMENT AND ENTITY INFORMATION
9 Months Ended
Sep. 30, 2017
Oct. 19, 2017
Document and Entity Information [Abstract]
Entity Registrant Name
CNO Financial Group, Inc.
Entity Central Index Key
0001224608
Document Type
10-Q
Document Period End Date
Sep. 30, 2017
Current Fiscal Year End Date
--12-31
Document Fiscal Year Focus
2017
Document Fiscal Period Focus
Q3
Entity Filer Category
Large Accelerated Filer
Amendment Flag
false
Entity Common Stock, Shares Outstanding
167,762,323
CONSOLIDATED BALANCE SHEET (unaudited)(USD $)
In Millions, unless otherwise specified
Sep. 30, 2017
Dec. 31, 2016
Investments:
Fixed maturities, available for sale, at fair value (amortized cost: September 30, 2017 - $20,092.5; December 31, 2016 - $19,803.1)
$22,129.9
$21,096.2
Equity securities at fair value (cost: September 30, 2017 - $688.7; December 31, 2016 - $580.7)
713.3
584.2
Mortgage loans
1,667.8
1,768.0
Policy loans
114.6
112.0
Trading securities
294.4
363.4
Investments held by variable interest entities
1,382.5
1,724.3
Other invested assets
752.1
589.5
Total investments
27,054.6
26,237.6
Cash and cash equivalents - unrestricted
765.9
478.9
Cash and cash equivalents held by variable interest entities
105.9
189.3
Accrued investment income
268.0
239.6
Present value of future profits
368.5
401.8
Deferred acquisition costs
1,023.8
1,044.7
Reinsurance receivables
2,195.5
2,260.4
Income tax assets, net
567.4
789.7
Assets held in separate accounts
4.8
4.7
Other assets
350.2
328.5
Total assets
32,704.6
31,975.2
Liabilities for insurance products:
Policyholder account balances
11,113.5
10,912.7
Future policy benefits
11,374.1
10,953.3
Liability for policy and contract claims
519.5
500.6
Unearned and advanced premiums
262.4
282.5
Liabilities related to separate accounts
4.8
4.7
Other liabilities
789.1
611.4
Investment borrowings
1,646.9
1,647.4
Borrowings related to variable interest entities
1,198.2
1,662.8
Notes payable direct corporate obligations
914.4
912.9
Total liabilities
27,822.9
27,488.3
Commitments and Contingencies
  
  
Shareholders' equity:
Common stock ($0.01 par value, 8,000,000,000 shares authorized, shares issued and outstanding: September 30, 2017 167,762,323; December 31, 2016 173,753,614)
1.7
1.7
Additional paid-in capital
3,094.5
3,212.1
Accumulated other comprehensive income
933.6
622.4
Retained earnings
851.9
650.7
Total shareholders' equity
4,881.7
4,486.9
Total liabilities and shareholders' equity
$32,704.6
$31,975.2
CONSOLIDATED BALANCE SHEET (unaudited) (Parenthetical)(USD $)
In Millions, except Share data, unless otherwise specified
Sep. 30, 2017
Dec. 31, 2016
Investments:
Fixed maturities, available for sale, amortized cost
$20,092.5
$19,803.1
Equity securities cost
$688.7
$580.7
Shareholders' equity:
Common stock, par value (in dollars per share)
$0.01
$0.01
Common stock, shares authorized (in shares)
8,000,000,000
8,000,000,000
Common stock, shares issued (in shares)
167,762,323
173,753,614
Common stock, shares outstanding (in shares)
167,762,323
173,753,614
CONSOLIDATED STATEMENT OF OPERATIONS (unaudited)(USD $)
In Millions, except Share data in Thousands, unless otherwise specified
3 Months Ended 9 Months Ended
Sep. 30, 2017
Sep. 30, 2016
Sep. 30, 2017
Sep. 30, 2016
Revenues:
Insurance policy income
$659.3
$649.0
$1,987.2
$1,947.0
Net investment income:
General account assets
325.9
301.7
960.3
888.5
Policyholder and other special-purpose portfolios
52.7
43.1
171.8
82.7
Realized investment gains (losses):
Net realized investment gains (losses), excluding impairment losses
34.5
12.8
74.8
55.4
Other-than-temporary impairments:
Total other-than-temporary impairment losses
(4.7)
(1.2)
(17.3)
(24.8)
Portion of other-than-temporary impairment losses recognized in accumulated other comprehensive income
0
0
(0.9)
0
Net impairment losses recognized
(4.7)
(1.2)
(18.2)
(24.8)
Loss on dissolution of variable interest entities
(0.6)
0
(4.3)
(7.3)
Total realized gains
29.2
11.6
52.3
23.3
Fee revenue and other income
12.2
10.5
35.5
38.7
Total revenues
1,079.3
1,015.9
3,207.1
2,980.2
Benefits and expenses:
Insurance policy benefits
638.1
609.8
1,941.6
1,861.2
Loss on reinsurance transaction
0
75.4
0
75.4
Interest expense
30.1
29.4
92.3
86.0
Amortization
58.2
64.7
181.3
181.6
Loss on extinguishment of borrowings related to a variable interest entity
5.5
0
5.5
0
Other operating costs and expenses
217.5
187.3
631.3
603.5
Total benefits and expenses
949.4
966.6
2,852.0
2,807.7
Income before income taxes
129.9
49.3
355.1
172.5
Income tax expense (benefit):
Tax expense on period income
44.1
16.9
123.6
61.7
Valuation allowance for deferred tax assets and other tax items
(15.0)
13.8
(15.0)
(13.2)
Net income
$100.8
$18.6
$246.5
$124.0
Basic:
Weighted average shares outstanding (in shares)
168,684
174,247
170,890
177,640
Net income (loss) (in dollars per share)
$0.60
$0.11
$1.44
$0.70
Diluted:
Weighted average shares outstanding (in shares)
170,982
175,723
172,800
179,373
Net income (loss) (in dollars per share)
$0.59
$0.11
$1.43
$0.69
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (unaudited)(USD $)
In Millions, unless otherwise specified
3 Months Ended 9 Months Ended
Sep. 30, 2017
Sep. 30, 2016
Sep. 30, 2017
Sep. 30, 2016
Statement of Comprehensive Income [Abstract]
Net income
$100.8
$18.6
$246.5
$124.0
Other comprehensive income, before tax:
Unrealized gains for the period
120.9
228.3
794.5
1,329.2
Adjustment to present value of future profits and deferred acquisition costs
(1.8)
(11.3)
(25.3)
(119.6)
Amount related to premium deficiencies assuming the net unrealized gains (losses) had been realized
(31.0)
(82.8)
(243.0)
(493.4)
Reclassification adjustments:
For net realized investment (gains) losses included in net income
(27.7)
(14.6)
(44.0)
(24.2)
For amortization of the present value of future profits and deferred acquisition costs related to net realized investment gains (losses) included in net income
0.7
0.2
1.0
0.9
Unrealized gains on investments
61.1
119.8
483.2
692.9
Change related to deferred compensation plan
0
0
0
8.6
Other comprehensive income before tax
61.1
119.8
483.2
701.5
Income tax expense related to items of accumulated other comprehensive income
(22.0)
(42.1)
(172.0)
(248.8)
Other comprehensive income, net of tax
39.1
77.7
311.2
452.7
Comprehensive income
$139.9
$96.3
$557.7
$576.7
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (unaudited)(USD $)
In Millions, unless otherwise specified
Total
Common stock and additional paid-in capital
Accumulated other comprehensive income
Retained earnings
Balance, beginning of period at Dec. 31, 2015
$4,138.5
$3,388.6
$402.8
$347.1
Increase (Decrease) in Stockholders' Equity [Roll Forward]
Net income
124.0
124.0
Change in unrealized appreciation (depreciation) of investments and other (net of applicable income tax expense)
451.5
451.5
Change in noncredit component of impairment losses on fixed maturities, available for sale (net of applicable income tax expense)
1.2
1.2
Cost of common stock repurchased
(203.0)
(203.0)
Dividends on common stock
(40.8)
(40.8)
Stock options, restricted stock and performance units
22.4
22.4
Balance, end of period at Sep. 30, 2016
4,493.8
3,208.0
855.5
430.3
Balance, beginning of period at Dec. 31, 2016
4,486.9
3,213.8
622.4
650.7
Increase (Decrease) in Stockholders' Equity [Roll Forward]
Net income
246.5
246.5
Change in unrealized appreciation (depreciation) of investments and other (net of applicable income tax expense)
309.1
309.1
Change in noncredit component of impairment losses on fixed maturities, available for sale (net of applicable income tax expense)
2.1
2.1
Cost of common stock repurchased
(140.1)
(140.1)
Dividends on common stock
(44.7)
(44.7)
Stock options, restricted stock and performance units
21.6
21.6
Balance, end of period at Sep. 30, 2017
$4,881.7
$3,096.2
$933.6
$851.9
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (unaudited) (Parenthetical)(USD $)
In Millions, unless otherwise specified
9 Months Ended
Sep. 30, 2017
Sep. 30, 2016
Statement of Stockholders' Equity [Abstract]
Change in unrealized appreciation (depreciation) of investments, applicable income tax expense (benefit)
$170.9
$248.1
Change in noncredit component of impairment losses on fixed maturities, available for sale, applicable income tax expense (benefit)
$1.1
$0.7
CONSOLIDATED STATEMENT OF CASH FLOWS (unaudited)(USD $)
In Millions, unless otherwise specified
9 Months Ended
Sep. 30, 2017
Sep. 30, 2016
Cash flows from operating activities:
Insurance policy income
$1,859.4
$1,837.9
Net investment income
898.9
877.7
Fee revenue and other income
35.5
38.7
Cash and cash equivalents received upon recapture of reinsurance
0
73.6
Insurance policy benefits
(1,491.7)
(1,439.6)
Interest expense
(81.0)
(66.5)
Deferrable policy acquisition costs
(183.4)
(179.4)
Other operating costs
(546.0)
(552.1)
Income taxes
(58.0)
(5.5)
Net cash from operating activities
433.7
584.8
Cash flows from investing activities:
Sales of investments
1,742.5
2,225.7
Maturities and redemptions of investments
2,543.0
1,529.5
Purchases of investments
(4,076.8)
(4,196.7)
Net sales (purchases) of trading securities
94.8
(31.0)
Change in cash and cash equivalents held by variable interest entities
83.4
216.7
Other
(23.6)
(17.8)
Net cash provided (used) by investing activities
363.3
(273.6)
Cash flows from financing activities:
Issuance of common stock
6.0
6.9
Payments to repurchase common stock
(142.3)
(210.0)
Common stock dividends paid
(44.5)
(40.9)
Amounts received for deposit products
1,067.2
992.1
Withdrawals from deposit products
(920.8)
(891.5)
Issuance of investment borrowings:
Federal Home Loan Bank
332.0
432.7
Related to variable interest entities
387.3
477.1
Payments on investment borrowings:
Federal Home Loan Bank
(332.6)
(333.3)
Related to variable interest entities
(862.3)
(470.6)
Net cash used by financing activities
(510.0)
(37.5)
Net increase in cash and cash equivalents
287.0
273.7
Cash and cash equivalents, beginning of period
478.9
432.3
Cash and cash equivalents, end of period
$765.9
$706.0
BUSINESS AND BASIS OF PRESENTATION
BUSINESS AND BASIS OF PRESENTATION
BUSINESS AND BASIS OF PRESENTATION

The following notes should be read together with the notes to the consolidated financial statements included in our 2016 Annual Report on Form 10-K.

CNO Financial Group, Inc., a Delaware corporation ("CNO"), is a holding company for a group of insurance companies operating throughout the United States that develop, market and administer health insurance, annuity, individual life insurance and other insurance products.  The terms "CNO Financial Group, Inc.", "CNO", the "Company", "we", "us", and "our" as used in these financial statements refer to CNO and its subsidiaries.  Such terms, when used to describe insurance business and products, refer to the insurance business and products of CNO's insurance subsidiaries.

We focus on serving middle-income pre-retiree and retired Americans, which we believe are attractive, underserved, high growth markets.  We sell our products through three distribution channels: career agents, independent producers (some of whom sell one or more of our product lines exclusively) and direct marketing.

Our unaudited consolidated financial statements reflect normal recurring adjustments that, in the opinion of management, are necessary for a fair statement of our financial position, results of operations and cash flows for the periods presented.  As permitted by rules and regulations of the Securities and Exchange Commission (the "SEC") applicable to quarterly reports on Form 10-Q, we have condensed or omitted certain information and disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP").  We have reclassified certain amounts from the prior periods to conform to the 2017 presentation.  These reclassifications have no effect on net income or shareholders' equity.  Results for interim periods are not necessarily indicative of the results that may be expected for a full year.

The balance sheet at December 31, 2016, presented herein, has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by GAAP for complete financial statements.

When we prepare financial statements in conformity with GAAP, we are required to make estimates and assumptions that significantly affect reported amounts of various assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and revenues and expenses during the reporting periods.  For example, we use significant estimates and assumptions to calculate values for deferred acquisition costs, the present value of future profits, fair value measurements of certain investments (including derivatives), other-than-temporary impairments of investments, assets and liabilities related to income taxes, liabilities for insurance products, liabilities related to litigation and guaranty fund assessment accruals.  If our future experience differs from these estimates and assumptions, our financial statements would be materially affected.

The accompanying financial statements include the accounts of the Company and its subsidiaries. Our consolidated financial statements exclude transactions between us and our consolidated affiliates, or among our consolidated affiliates.
INVESTMENTS
INVESTMENTS
INVESTMENTS

We classify our fixed maturity securities into one of two categories: (i) "available for sale" (which we carry at estimated fair value with any unrealized gain or loss, net of tax and related adjustments, recorded as a component of shareholders' equity); or (ii) "trading" (which we carry at estimated fair value with changes in such value recognized as net investment income (classified as investment income from policyholder and other special-purpose portfolios)).

Our trading securities include: (i) investments purchased with the intent of selling in the near term to generate income; (ii) investments supporting certain insurance liabilities (including investments backing the market strategies of our multibucket annuity products); and (iii) certain fixed maturity securities containing embedded derivatives for which we have elected the fair value option.  The change in fair value of the income generating investments and investments supporting insurance liabilities is recognized in income from policyholder and other special-purpose portfolios (a component of net investment income). The change in fair value of securities with embedded derivatives is recognized in realized investment gains (losses). Investment income related to investments supporting certain insurance liabilities is substantially offset by the change in insurance policy benefits related to certain products.

Accumulated other comprehensive income is primarily comprised of the net effect of unrealized appreciation (depreciation) on our investments.  These amounts, included in shareholders' equity as of September 30, 2017 and December 31, 2016, were as follows (dollars in millions):

 
September 30,
2017
 
December 31,
2016
Net unrealized appreciation (depreciation) on fixed maturity securities, available for sale, on which an other-than-temporary impairment loss has been recognized
$
2.4

 
$
(1.1
)
Net unrealized gains on all other investments
2,058.9

 
1,311.9

Adjustment to present value of future profits (a)
(98.1
)
 
(106.2
)
Adjustment to deferred acquisition costs
(287.9
)
 
(223.5
)
Adjustment to insurance liabilities
(224.5
)
 
(13.5
)
Deferred income tax liabilities
(517.2
)
 
(345.2
)
Accumulated other comprehensive income
$
933.6

 
$
622.4

________
(a)
The present value of future profits is the value assigned to the right to receive future cash flows from contracts existing at September 10, 2003, the date Conseco, Inc., an Indiana corporation, emerged from bankruptcy.

At September 30, 2017, adjustments to the present value of future profits, deferred acquisition costs, insurance liabilities and deferred tax assets included $(86.7) million, $(135.8) million, $(224.5) million and $159.1 million, respectively, for premium deficiencies that would exist on certain blocks of business (primarily long-term care products) if unrealized gains on the assets backing such products had been realized and the proceeds from the sales of such assets were invested at then current yields.

At September 30, 2017, the amortized cost, gross unrealized gains and losses, estimated fair value, other-than-temporary impairments in accumulated other comprehensive income of fixed maturities, available for sale, and equity securities were as follows (dollars in millions):
 
Amortized cost
 
Gross unrealized gains
 
Gross unrealized losses
 
Estimated fair value
 
Other-than-temporary impairments included in accumulated other comprehensive income
Corporate securities
$
13,145.4

 
$
1,537.6

 
$
(33.0
)
 
$
14,650.0

 
$
(3.6
)
United States Treasury securities and obligations of United States government corporations and agencies
145.4

 
26.9

 

 
172.3

 

States and political subdivisions
1,857.2

 
220.7

 
(.9
)
 
2,077.0

 

Debt securities issued by foreign governments
58.1

 
3.1

 
(.1
)
 
61.1

 

Asset-backed securities
2,608.6

 
180.6

 
(3.1
)
 
2,786.1

 

Collateralized debt obligations
236.5

 
1.4

 

 
237.9

 

Commercial mortgage-backed securities
1,311.6

 
37.4

 
(10.1
)
 
1,338.9

 

Mortgage pass-through securities
2.0

 
.2

 

 
2.2

 

Collateralized mortgage obligations
727.7

 
77.3

 
(.6
)
 
804.4

 
(1.1
)
Total fixed maturities, available for sale
$
20,092.5

 
$
2,085.2

 
$
(47.8
)
 
$
22,129.9

 
$
(4.7
)
Equity securities
$
688.7

 
$
27.2

 
$
(2.6
)
 
$
713.3

 
 


At December 31, 2016, the amortized cost, gross unrealized gains and losses, estimated fair value, other-than-temporary impairments in accumulated other comprehensive income of fixed maturities, available for sale, and equity securities were as follows (dollars in millions):
 
Amortized cost
 
Gross unrealized gains
 
Gross unrealized losses
 
Estimated fair value
 
Other-than-temporary impairments included in accumulated other comprehensive income
Corporate securities
$
12,549.9

 
$
1,100.0

 
$
(139.0
)
 
$
13,510.9

 
$
(3.6
)
United States Treasury securities and obligations of United States government corporations and agencies
143.8

 
20.5

 

 
164.3

 

States and political subdivisions
1,811.8

 
186.7

 
(9.6
)
 
1,988.9

 
(3.0
)
Debt securities issued by foreign governments
37.1

 
.2

 
(.4
)
 
36.9

 

Asset-backed securities
2,641.5

 
84.3

 
(15.5
)
 
2,710.3

 

Collateralized debt obligations
230.0

 
1.0

 
(.3
)
 
230.7

 

Commercial mortgage-backed securities
1,531.0

 
33.1

 
(27.9
)
 
1,536.2

 

Mortgage pass-through securities
2.3

 
.2

 

 
2.5

 

Collateralized mortgage obligations
855.7

 
61.4

 
(1.6
)
 
915.5

 
(1.4
)
Total fixed maturities, available for sale
$
19,803.1

 
$
1,487.4

 
$
(194.3
)
 
$
21,096.2

 
$
(8.0
)
Equity securities
$
580.7

 
$
11.5

 
$
(8.0
)
 
$
584.2

 
 


The following table sets forth the amortized cost and estimated fair value of fixed maturities, available for sale, at September 30, 2017, by contractual maturity.  Actual maturities will differ from contractual maturities because certain borrowers may have the right to call or prepay obligations with or without penalties.  Structured securities (such as asset-backed securities, collateralized debt obligations, commercial mortgage-backed securities, mortgage pass-through securities and collateralized mortgage obligations, collectively referred to as "structured securities") frequently include provisions for periodic principal payments and permit periodic unscheduled payments.

 
Amortized
cost
 
Estimated
fair
value
 
(Dollars in millions)
Due in one year or less
$
398.1

 
$
406.1

Due after one year through five years
2,004.8

 
2,131.7

Due after five years through ten years
1,562.8

 
1,671.1

Due after ten years
11,240.4

 
12,751.5

Subtotal
15,206.1

 
16,960.4

Structured securities
4,886.4

 
5,169.5

Total fixed maturities, available for sale
$
20,092.5

 
$
22,129.9



The following table sets forth the amortized cost and estimated fair value of fixed maturities, available for sale, at December 31, 2016, by contractual maturity.

 
Amortized
cost
 
Estimated
fair
value
 
(Dollars in millions)
Due in one year or less
$
354.7

 
$
359.8

Due after one year through five years
2,243.8

 
2,399.5

Due after five years through ten years
1,549.1

 
1,620.8

Due after ten years
10,395.0

 
11,320.9

Subtotal
14,542.6

 
15,701.0

Structured securities
5,260.5

 
5,395.2

Total fixed maturities, available for sale
$
19,803.1

 
$
21,096.2


 
Net Realized Investment Gains (Losses)

The following table sets forth the net realized investment gains (losses) for the periods indicated (dollars in millions):

 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Fixed maturity securities, available for sale:
 
 
 
 
 
 
 
Gross realized gains on sale
$
32.3

 
$
7.3

 
$
60.4

 
$
127.1

Gross realized losses on sale
(8.5
)
 
(2.8
)
 
(16.4
)
 
(84.4
)
Impairments:
 
 
 
 
 
 
 
Total other-than-temporary impairment losses
(3.2
)
 

 
(10.0
)
 
(6.3
)
Other-than-temporary impairment losses recognized in accumulated other comprehensive income

 

 
(.9
)
 

Net impairment losses recognized
(3.2
)
 

 
(10.9
)
 
(6.3
)
Net realized investment gains from fixed maturities
20.6

 
4.5

 
33.1

 
36.4

Equity securities
7.7

 
17.2

 
9.6

 
21.3

Commercial mortgage loans

 

 
1.0

 

Impairments of other investments
(1.5
)
 
(1.2
)
 
(7.3
)
 
(18.5
)
Loss on dissolution of variable interest entities
(.6
)
 

 
(4.3
)
 
(7.3
)
Other (a)
3.0

 
(8.9
)
 
20.2

 
(8.6
)
Net realized investment gains
$
29.2

 
$
11.6

 
$
52.3

 
$
23.3


_________________
(a)
Changes in the estimated fair value of trading securities that we have elected the fair value option (and are still held as of the end of the respective periods) were $13.0 million and $.8 million for the nine months ended September 30, 2017 and 2016, respectively.

During the first nine months of 2017, we recognized net realized investment gains of $52.3 million, which were comprised of: (i) $60.1 million of net gains from the sales of investments; (ii) $4.3 million of losses on the dissolution of variable interest entities ("VIEs"); (iii) the increase in fair value of certain fixed maturity investments with embedded derivatives of $12.3 million; (iv) the increase in fair value of embedded derivatives related to a modified coinsurance agreement of $2.4 million; and (v) $18.2 million of writedowns of investments for other than temporary declines in fair value recognized through net income.

During the first nine months of 2016, we recognized net realized investment gains of $23.3 million, which were comprised of: (i) $48.1 million of net gains from the sales of investments; (ii) a $7.3 million loss on the dissolution of a VIE; (iii) the increase in fair value of certain fixed maturity investments with embedded derivatives of $.6 million; (iv) the increase in fair value of embedded derivatives related to a modified coinsurance agreement of $6.7 million; and (v) $24.8 million of writedowns of investments for other than temporary declines in fair value recognized through net income.

During the first nine months of 2017 and 2016, certain VIEs that were required to be consolidated were dissolved. We recognized a loss of $4.3 million and $7.3 million during the first nine months of 2017 and 2016, respectively, representing the difference between the carrying value of the investment borrowings of such VIEs and the contractual distributions required following the liquidation of the underlying assets.

Our fixed maturity investments are generally purchased in the context of various long-term strategies, including funding insurance liabilities, so we do not generally seek to generate short-term realized gains through the purchase and sale of such securities.  In certain circumstances, including those in which securities are selling at prices which exceed our view of their underlying economic value, or when it is possible to reinvest the proceeds to better meet our long-term asset-liability objectives, we may sell certain securities.

During the first nine months of 2017, the $16.4 million of gross realized losses on sales of $290.8 million of fixed maturity securities, available for sale included: (i) $9.7 million related to various corporate securities; (ii) $3.1 million related to commercial mortgage-backed securities; and (iii) $3.6 million related to various other investments. Securities are generally sold at a loss following unforeseen issue-specific events or conditions or shifts in perceived relative values.  These reasons include but are not limited to:  (i) changes in the investment environment; (ii) expectation that the market value could deteriorate; (iii) our desire to reduce our exposure to an asset class, an issuer or an industry; (iv) prospective or actual changes in credit quality; or (v) changes in expected portfolio cash flows.

During the first nine months of 2017, we recognized $18.2 million of impairment losses recorded in earnings which included: (i) $5.7 million of writedowns on fixed maturities in the energy sector; (ii) $5.2 million of writedowns related to a mortgage loan; and (iii) $7.3 million of writedowns on other investments. Factors considered in determining the writedowns of investments in the first nine months of 2017 included changes in the estimated recoverable value of the assets related to each investment and the timing of and complexities related to the recovery process.

During the first nine months of 2016, we recognized $24.8 million of impairment losses recorded in earnings which included: (i) $6.3 million of writedowns on fixed maturities of a single issuer in the energy sector; (ii) $3.7 million of writedowns on a direct loan due to borrower specific events; (iii) $12.7 million of writedowns on a privately placed preferred stock of an entity formed to construct and operate a chemical plant; (iv) $.9 million of writedowns related to a real estate investment; and (v) $1.2 million of writedowns of investments held by VIEs due to other-than-temporary declines in value.

We regularly evaluate all of our investments with unrealized losses for possible impairment.  Our assessment of whether unrealized losses are "other than temporary" requires significant judgment.  Factors considered include:  (i) the extent to which fair value is less than the cost basis; (ii) the length of time that the fair value has been less than cost; (iii) whether the unrealized loss is event driven, credit-driven or a result of changes in market interest rates or risk premium; (iv) the near-term prospects for specific events, developments or circumstances likely to affect the value of the investment; (v) the investment's rating and whether the investment is investment-grade and/or has been downgraded since its purchase; (vi) whether the issuer is current on all payments in accordance with the contractual terms of the investment and is expected to meet all of its obligations under the terms of the investment; (vii) whether we intend to sell the investment or it is more likely than not that circumstances will require us to sell the investment before recovery occurs; (viii) the underlying current and prospective asset and enterprise values of the issuer and the extent to which the recoverability of the carrying value of our investment may be affected by changes in such values; (ix) projections of, and unfavorable changes in, cash flows on structured securities including mortgage-backed and asset-backed securities; (x) our best estimate of the value of any collateral; and (xi) other objective and subjective factors.

Future events may occur, or additional information may become available, which may necessitate future realized losses in our portfolio.  Significant losses could have a material adverse effect on our consolidated financial statements in future periods.

Impairment losses on equity securities are recognized in net income.  The manner in which impairment losses on fixed maturity securities, available for sale, are recognized in the financial statements is dependent on the facts and circumstances related to the specific security.  If we intend to sell a security or it is more likely than not that we would be required to sell a security before the recovery of its amortized cost, the security is other-than-temporarily impaired and the full amount of the impairment is recognized as a loss through earnings.  If we do not expect to recover the amortized cost basis, we do not plan to sell the security, and if it is not more likely than not that we would be required to sell a security before the recovery of its amortized cost, less any current period credit loss, the recognition of the other-than-temporary impairment is bifurcated.  We recognize the credit loss portion in net income and the noncredit loss portion in accumulated other comprehensive income.

We estimate the amount of the credit loss component of a fixed maturity security impairment as the difference between amortized cost and the present value of the expected cash flows of the security.  The present value is determined using the best estimate of future cash flows discounted at the effective interest rate implicit to the security at the date of purchase or the current yield to accrete an asset-backed or floating-rate security.  The methodology and assumptions for establishing the best estimate of future cash flows vary depending on the type of security.

For most structured securities, cash flow estimates are based on bond-specific facts and circumstances that may include collateral characteristics, expectations of delinquency and default rates, loss severity, prepayment speeds and structural support, including excess spread, subordination and guarantees.  For corporate bonds, cash flow estimates are derived from scenario-based outcomes of expected corporate restructurings or the disposition of assets using bond specific facts and circumstances. The previous amortized cost basis less the impairment recognized in net income becomes the security's new cost basis.  We accrete the new cost basis to the estimated future cash flows over the expected remaining life of the security, except when the security is in default or considered nonperforming.

The remaining noncredit impairment, which is recorded in accumulated other comprehensive income, is the difference between the security's estimated fair value and our best estimate of future cash flows discounted at the effective interest rate prior to impairment.  The remaining noncredit impairment typically represents changes in the market interest rates, current market liquidity and risk premiums.  As of September 30, 2017, other-than-temporary impairments included in accumulated other comprehensive income totaled $4.7 million (before taxes and related amortization).

The following table summarizes the amount of credit losses recognized in earnings on fixed maturity securities, available for sale, held at the beginning of the period, for which a portion of the other-than-temporary impairment was also recognized in accumulated other comprehensive income for the three and nine months ended September 30, 2017 and 2016 (dollars in millions):

 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Credit losses on fixed maturity securities, available for sale, beginning of period
$
(4.9
)
 
$
(2.6
)
 
$
(5.5
)
 
$
(2.6
)
Add: credit losses on other-than-temporary impairments not previously recognized

 

 

 

Less: credit losses on securities sold

 
.1

 
1.6

 
.1

Less: credit losses on securities impaired due to intent to sell (a)

 

 

 

Add: credit losses on previously impaired securities

 

 
(1.0
)
 

Less: increases in cash flows expected on previously impaired securities

 

 

 

Credit losses on fixed maturity securities, available for sale, end of period
$
(4.9
)
 
$
(2.5
)
 
$
(4.9
)
 
$
(2.5
)
__________
(a)
Represents securities for which the amount previously recognized in accumulated other comprehensive income was recognized in earnings because we intend to sell the security or we more likely than not will be required to sell the security before recovery of its amortized cost basis.

Gross Unrealized Investment Losses

Our investment strategy is to maximize, over a sustained period and within acceptable parameters of quality and risk, investment income and total investment return through active investment management. Accordingly, we may sell securities at a gain or a loss to enhance the projected total return of the portfolio as market opportunities change, to reflect changing perceptions of risk, or to better match certain characteristics of our investment portfolio with the corresponding characteristics of our insurance liabilities.

The following table summarizes the gross unrealized losses and fair values of our investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that such securities have been in a continuous unrealized loss position, at September 30, 2017 (dollars in millions):

 
 
Less than 12 months
 
12 months or greater
 
Total
Description of securities
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
United States Treasury securities and obligations of United States government corporations and agencies
 
$
20.3

 
$

 
$
.6

 
$

 
$
20.9

 
$

States and political subdivisions
 
35.1

 
(.6
)
 
19.3

 
(.3
)
 
54.4

 
(.9
)
Debt securities issued by foreign governments
 
10.5

 
(.1
)
 

 

 
10.5

 
(.1
)
Corporate securities
 
666.9

 
(7.8
)
 
400.4

 
(25.2
)
 
1,067.3

 
(33.0
)
Asset-backed securities
 
276.7

 
(1.3
)
 
79.6

 
(1.8
)
 
356.3

 
(3.1
)
Collateralized debt obligations
 
24.0

 

 

 

 
24.0

 

Commercial mortgage-backed securities
 
226.2

 
(1.3
)
 
221.9

 
(8.8
)
 
448.1

 
(10.1
)
Collateralized mortgage obligations
 
72.8

 
(.5
)
 
11.6

 
(.1
)
 
84.4

 
(.6
)
Total fixed maturities, available for sale
 
$
1,332.5

 
$
(11.6
)
 
$
733.4

 
$
(36.2
)
 
$
2,065.9

 
$
(47.8
)
Equity securities
 
$
37.4

 
$
(.8
)
 
$
89.7

 
$
(1.8
)
 
$
127.1

 
$
(2.6
)

The following table summarizes the gross unrealized losses and fair values of our investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that such securities have been in a continuous unrealized loss position, at December 31, 2016 (dollars in millions):

 
 
Less than 12 months
 
12 months or greater
 
Total
Description of securities
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
 
Fair
value
 
Unrealized
losses
United States Treasury securities and obligations of United States government corporations and agencies
 
$
8.0

 
$

 
$

 
$

 
$
8.0

 
$

States and political subdivisions
 
176.3

 
(7.8
)
 
18.3

 
(1.8
)
 
194.6

 
(9.6
)
Debt securities issued by foreign governments
 
18.9

 
(.4
)
 

 

 
18.9

 
(.4
)
Corporate securities
 
1,907.6

 
(75.5
)
 
559.6

 
(63.5
)
 
2,467.2

 
(139.0
)
Asset-backed securities
 
692.9

 
(8.5
)
 
262.5

 
(7.0
)
 
955.4

 
(15.5
)
Collateralized debt obligations
 
38.3

 
(.1
)
 
30.8

 
(.2
)
 
69.1

 
(.3
)
Commercial mortgage-backed securities
 
525.2

 
(16.6
)
 
154.0

 
(11.3
)
 
679.2

 
(27.9
)
Collateralized mortgage obligations
 
73.6

 
(.6
)
 
34.6

 
(1.0
)
 
108.2

 
(1.6
)
Total fixed maturities, available for sale
 
$
3,440.8

 
$
(109.5
)
 
$
1,059.8

 
$
(84.8
)
 
$
4,500.6

 
$
(194.3
)
Equity securities
 
$
239.4

 
$
(8.0
)
 
$

 
$

 
$
239.4

 
$
(8.0
)


Based on management's current assessment of investments with unrealized losses at September 30, 2017, the Company believes the issuers of the securities will continue to meet their obligations (or with respect to equity-type securities, the investment value will recover to its cost basis).  While we do not have the intent to sell securities with unrealized losses and it is not more likely than not that we will be required to sell securities with unrealized losses prior to their anticipated recovery, our intent on an individual security may change, based upon market or other unforeseen developments.  In such instances, if a loss is recognized from a sale subsequent to a balance sheet date due to these unexpected developments, the loss is recognized in the period in which we had the intent to sell the security before its anticipated recovery.
EARNINGS PER SHARE
EARNINGS PER SHARE
EARNINGS PER SHARE

A reconciliation of net income and shares used to calculate basic and diluted earnings per share is as follows (dollars in millions and shares in thousands):

 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Net income for basic and diluted earnings per share
$
100.8

 
$
18.6

 
$
246.5

 
$
124.0

Shares:
 

 
 

 
 
 
 
Weighted average shares outstanding for basic earnings per share
168,684

 
174,247

 
170,890

 
177,640

Effect of dilutive securities on weighted average shares:
 

 
 

 
 
 
 
Stock options, restricted stock and performance units
2,298

 
1,476

 
1,910

 
1,733

Weighted average shares outstanding for diluted earnings per share
170,982

 
175,723

 
172,800

 
179,373



Basic earnings per common share is computed by dividing net income by the weighted average number of common shares outstanding for the period.  Restricted shares (including our performance units) are not included in basic earnings per share until vested.  Diluted earnings per share reflect the potential dilution that could occur if outstanding stock options were exercised and restricted stock was vested.  The dilution from options and restricted shares is calculated using the treasury stock method.  Under this method, we assume the proceeds from the exercise of the options (or the unrecognized compensation expense with respect to restricted stock and performance units) will be used to purchase shares of our common stock at the average market price during the period, reducing the dilutive effect of the exercise of the options (or the vesting of the restricted stock and performance units).
BUSINESS SEGMENTS
BUSINESS SEGMENTS
BUSINESS SEGMENTS

The Company manages its business through the following operating segments: Bankers Life, Washington National and Colonial Penn, which are defined on the basis of product distribution; and corporate operations, comprised of holding company activities and certain noninsurance company businesses. In the fourth quarter of 2016, we began reporting the long-term care block recaptured from Beechwood Re Ltd ("BRe") effective September 30, 2016, as an additional business segment.

We measure segment performance by excluding net realized investment gains (losses), fair value changes in embedded derivative liabilities (net of related amortization), fair value changes and an amendment to the agent deferred compensation plan, loss on reinsurance transaction, income taxes and other non-operating items consisting primarily of earnings attributable to VIEs ("pre-tax operating earnings") because we believe that this performance measure is a better indicator of the ongoing business and trends in our business.  Our primary investment focus is on investment income to support our liabilities for insurance products as opposed to the generation of net realized investment gains (losses), and a long-term focus is necessary to maintain profitability over the life of the business.

The net realized investment gains (losses), fair value changes in embedded derivative liabilities (net of related amortization), fair value changes and an amendment to the agent deferred compensation plan, loss on reinsurance transaction and other non-operating items consisting primarily of earnings attributable to VIEs depend on market conditions or represent unusual items that do not necessarily relate to the underlying business of our segments.  Net realized investment gains (losses) and fair value changes in embedded derivative liabilities (net of related amortization) may affect future earnings levels since our underlying business is long-term in nature and changes in our investment portfolio may impact our ability to earn the assumed interest rates needed to maintain the profitability of our business.
Operating information by segment was as follows (dollars in millions):

 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Revenues:
 
 
 
 
 
 
 
Bankers Life:
 
 
 
 
 
 
 
Insurance policy income:
 
 
 
 
 
 
 
Annuities
$
3.7

 
$
6.8

 
$
15.5

 
$
17.4

Health
307.2

 
310.3

 
926.9

 
933.3

Life
103.7

 
96.6

 
310.4

 
295.8

Net investment income (a)
270.6

 
244.7

 
800.4

 
686.8

Fee revenue and other income (a)
11.3

 
9.6

 
32.5

 
23.5

Total Bankers Life revenues
696.5

 
668.0

 
2,085.7

 
1,956.8

Washington National:
 

 
 

 
 
 
 
Insurance policy income:
 

 
 

 
 
 
 
Annuities
.5

 
1.2

 
1.6

 
2.3

Health
160.4

 
156.9

 
480.3

 
469.1

Life
6.5

 
6.3

 
20.1

 
18.6

Net investment income (a)
68.0

 
67.1

 
201.9

 
191.3

Fee revenue and other income (a)
.3

 
.4

 
.8

 
1.0

Total Washington National revenues
235.7

 
231.9

 
704.7

 
682.3

Colonial Penn:
 

 
 

 
 
 
 
Insurance policy income:
 

 
 

 
 
 
 
Health
.5

 
.6

 
1.6

 
2.0

Life
72.6

 
70.3

 
217.5

 
208.5

Net investment income (a)
11.0

 
11.1

 
33.1

 
33.0

Fee revenue and other income (a)
.3

 
.2

 
.9

 
.8

Total Colonial Penn revenues
84.4

 
82.2

 
253.1

 
244.3

Long-term care in run-off:
 
 
 
 
 
 
 
Insurance policy income - health
4.2

 

 
13.3

 

Net investment income (a)                                                                                           
6.8

 

 
26.5

 

Total Long-term care in run-off revenues
11.0

 

 
39.8

 

Corporate operations:
 

 
 

 
 
 
 
Net investment income
7.0

 
6.7

 
24.8

 
16.6

Fee and other income
1.8

 
2.5

 
6.5

 
7.6

Total corporate revenues
8.8

 
9.2

 
31.3

 
24.2

Total revenues
$
1,036.4

 
$
991.3

 
$
3,114.6

 
$
2,907.6



(continued on next page)

(continued from previous page)
 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Expenses:
 
 
 
 
 
 
 
Bankers Life:
 
 
 
 
 
 
 
Insurance policy benefits
$
437.2

 
$
427.1

 
$
1,307.7

 
$
1,240.9

Amortization
38.7

 
43.8

 
126.3

 
135.3

Interest expense on investment borrowings
5.3

 
3.5

 
14.3

 
9.4

Other operating costs and expenses
108.4

 
105.5

 
328.2

 
312.2

Total Bankers Life expenses
589.6

 
579.9

 
1,776.5

 
1,697.8

Washington National:
 

 
 

 
 
 
 
Insurance policy benefits
144.7

 
144.5

 
436.7

 
422.0

Amortization
14.3

 
14.3

 
43.9

 
44.5

Interest expense on investment borrowings
1.7

 
.9

 
4.5

 
2.5

Other operating costs and expenses
47.5

 
47.0

 
145.0

 
140.3

Total Washington National expenses
208.2

 
206.7

 
630.1

 
609.3

Colonial Penn:
 

 
 

 
 
 
 
Insurance policy benefits
47.7

 
50.3

 
150.8

 
151.3

Amortization
3.9

 
3.7

 
11.9

 
11.3

Interest expense on investment borrowings
.3

 
.1

 
.7

 
.4

Other operating costs and expenses
23.5

 
27.2

 
73.0

 
84.2

Total Colonial Penn expenses
75.4

 
81.3

 
236.4

 
247.2

Long-term care in run-off:
 
 
 
 
 
 
 
Insurance policy benefits                                                                                 
11.4

 

 
36.6

 

Other operating costs and expenses                                                                                 
.6

 

 
2.1

 

Total Long-term care in run-off expenses
12.0

 

 
38.7

 

Corporate operations:
 

 
 

 
 
 
 
Interest expense on corporate debt
11.7

 
11.5

 
34.8

 
34.3

Other operating costs and expenses
23.7

 
13.6

 
68.3

 
43.7

Total corporate expenses
35.4

 
25.1

 
103.1

 
78.0

Total expenses
920.6

 
893.0

 
2,784.8

 
2,632.3

Pre-tax operating earnings by segment:
 

 
 

 
 
 
 
Bankers Life
106.9

 
88.1

 
309.2

 
259.0

Washington National
27.5

 
25.2

 
74.6

 
73.0

Colonial Penn
9.0

 
.9

 
16.7

 
(2.9
)
Long-term care in run-off
(1.0
)
 

 
1.1

 

Corporate operations
(26.6
)
 
(15.9
)
 
(71.8
)
 
(53.8
)
Pre-tax operating earnings
$
115.8

 
$
98.3

 
$
329.8

 
$
275.3

___________________
(a)
It is not practicable to provide additional components of revenue by product or services.

A reconciliation of segment revenues and expenses to consolidated revenues and expenses and net income (loss) is as follows (dollars in millions):

 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Total segment revenues                                                                                            
$
1,036.4

 
$
991.3

 
$
3,114.6

 
$
2,907.6

Net realized investment gains                                       
29.2

 
11.6

 
52.3

 
23.3

Revenues related to VIEs
13.7

 
13.0

 
40.2

 
39.3

Fee revenue related to transition and support services agreements

 

 

 
10.0

Consolidated revenues                                                                                       
1,079.3

 
1,015.9

 
3,207.1

 
2,980.2

 
 
 
 
 
 
 
 
Total segment expenses                                                                                            
920.6

 
893.0

 
2,784.8

 
2,632.3

Insurance policy benefits - fair value changes in embedded derivative liabilities
(2.9
)
 
(12.1
)
 
9.8

 
47.0

Amortization related to fair value changes in embedded derivative liabilities
.6

 
2.7

 
(1.8
)
 
(10.4
)
Amortization related to net realized investment gains
.7

 
.2

 
1.0

 
.9

Expenses related to VIEs
17.0

 
13.7

 
44.8

 
40.5

Fair value changes and amendment related to agent deferred compensation plan
13.4


(6.3
)
 
13.4

 
12.0

Loss on reinsurance transaction

 
75.4

 

 
75.4

Expenses related to transition and support services agreements

 

 

 
10.0

Consolidated expenses                                                                                       
949.4

 
966.6

 
2,852.0

 
2,807.7

Income before tax
129.9

 
49.3

 
355.1

 
172.5

Income tax expense (benefit):
 
 
 
 
 
 
 
Tax expense on period income
44.1

 
16.9

 
123.6

 
61.7

Valuation allowance for deferred tax assets and other tax items
(15.0
)
 
13.8

 
(15.0
)
 
(13.2
)
Net income
$
100.8

 
$
18.6

 
$
246.5

 
$
124.0

ACCOUNTING FOR DERIVATIVES
ACCOUNTING FOR DERIVATIVES
ACCOUNTING FOR DERIVATIVES

Our freestanding and embedded derivatives, which are not designated as hedging instruments, are held at fair value and are summarized as follows (dollars in millions):

 
 
Fair value
 
 
September 30,
2017
 
December 31, 2016
Assets:
 
 
 
 
Other invested assets:
 
 
 
 
Fixed index call options
 
$
142.2

 
$
111.9

Reinsurance receivables
 
(1.8
)
 
(4.2
)
Total assets
 
$
140.4

 
$
107.7

Liabilities:
 
 
 
 
Future policy benefits:
 
 
 
 
Fixed index products
 
$
1,249.3

 
$
1,092.3

Total liabilities
 
$
1,249.3

 
$
1,092.3



Our fixed index annuity products provide a guaranteed minimum rate of return and a higher potential return that is based on a percentage (the "participation rate") of the amount of increase in the value of a particular index, such as the Standard & Poor's 500 Index, over a specified period.  Typically, on each policy anniversary date, a new index period begins.  We are generally able to change the participation rate at the beginning of each index period during a policy year, subject to contractual minimums.  The Company accounts for the options attributed to the policyholder for the estimated life of the contract as embedded derivatives. These accounting requirements often create volatility in the earnings from these products. We typically buy call options (including call spreads) referenced to the applicable indices in an effort to offset or hedge potential increases to policyholder benefits resulting from increases in the particular index to which the policy's return is linked.  The notional amount of these options was $2.9 billion and $2.5 billion at September 30, 2017 and December 31, 2016, respectively.

From time to time, we utilize United States Treasury interest rate futures primarily to hedge interest rate risk related to anticipated mortgage loan transactions.

We are required to establish an embedded derivative related to a modified coinsurance agreement pursuant to which we assume the risks of a block of health insurance business. The embedded derivative represents the mark-to-market adjustment for approximately $125 million in underlying investments held by the ceding reinsurer.

We purchase certain fixed maturity securities that contain embedded derivatives that are required to be held at fair value on the consolidated balance sheet. We have elected the fair value option to carry the entire security at fair value with changes in fair value recognized in net income.

The following table provides the pre-tax gains (losses) recognized in net income for derivative instruments, which are not designated as hedges for the periods indicated (dollars in millions):

 
 
Three months ended
 
Nine months ended
 
 
September 30,
 
September 30,
 
 
2017
 
2016
 
2017
 
2016
Net investment income from policyholder and other special-purpose portfolios:
 
 
 
 
 
 
 
 
Fixed index call options
 
$
30.6

 
$
17.0

 
$
95.4

 
$
10.9

Net realized gains (losses):
 
 
 
 
 
 
 
 
Interest rate futures
 

 

 

 
(1.1
)
Embedded derivative related to modified coinsurance agreement
 
.3

 
.1

 
2.4

 
6.7

Total
 
.3

 
.1

 
2.4

 
5.6

Insurance policy benefits:
 
 
 
 
 
 
 
 
Embedded derivative related to fixed index annuities
 

 
18.3

 

 
(33.3
)
Total
 
$
30.9

 
$
35.4

 
$
97.8

 
$
(16.8
)


Derivative Counterparty Risk

If the counterparties to the call options fail to meet their obligations, we may recognize a loss.  We limit our exposure to such a loss by diversifying among several counterparties believed to be strong and creditworthy.  At September 30, 2017, all of our counterparties were rated "A-" or higher by S&P Global Ratings ("S&P").

We also enter into exchange-traded interest rate future contracts. The contracts are marked to market and margined on a daily basis. The Company has minimal exposure to credit-related losses in the event of nonperformance.

The Company and its subsidiaries are parties to master netting arrangements with its counterparties related to entering into various derivative contracts. Exchange-traded derivatives require margin accounts which we offset.

The following table summarizes information related to derivatives with master netting arrangements or collateral as of September 30, 2017 and December 31, 2016 (dollars in millions):

 
 
 
 
 
 
 
 
 
Gross amounts not offset in the balance sheet
 
 
 
 
 
Gross amounts recognized
 
Gross amounts offset in the balance sheet
 
Net amounts of assets presented in the balance sheet
 
Financial instruments
 
Cash collateral received
 
Net amount
September 30, 2017:
 
 
 
Fixed index call options
 
$
142.2

 
$

 
$
142.2

 
$

 
$

 
$
142.2

December 31, 2016:
 
 
 
 
 
 
 
 
 
 
 
 
 
Fixed index call options
 
111.9

 

 
111.9

 

 

 
111.9

REINSURANCE
REINSURANCE
REINSURANCE

The cost of reinsurance ceded totaled $27.1 million and $32.2 million in the third quarters of 2017 and 2016, respectively, and $79.9 million and $97.3 million in the first nine months of 2017 and 2016, respectively.  We deduct this cost from insurance policy income.  Reinsurance recoveries netted against insurance policy benefits totaled $22.6 million and $31.7 million in the third quarters of 2017 and 2016, respectively, and $69.1 million and $113.3 million in the first nine months of 2017 and 2016, respectively.

From time to time, we assume insurance from other companies.  Any costs associated with the assumption of insurance are amortized consistent with the method used to amortize deferred acquisition costs.  Reinsurance premiums assumed totaled $7.4 million and $8.3 million in the third quarters of 2017 and 2016, respectively, and $23.1 million and $25.8 million in the first nine months of 2017 and 2016, respectively.
INCOME TAXES
INCOME TAXES
INCOME TAXES

The Company's interim tax expense is based upon the estimated annual effective tax rate for the respective period. Under authoritative guidance, certain items are required to be excluded from the estimated annual effective tax rate calculation. Such items include changes in judgment about the realizability of deferred tax assets resulting from changes in projections of income expected to be available in future years, and items deemed to be unusual, infrequent, or that can not be reliably estimated. In these cases, the actual tax expense or benefit applicable to that item is treated discretely and is reported in the same period as the related item. The components of income tax expense are as follows (dollars in millions):

 
Three months ended
 
Nine months ended
 
September 30,
 
September 30,
 
2017
 
2016
 
2017
 
2016
Current tax expense
$
25.9

 
$
46.8

 
$
68.5

 
$
51.6

Deferred tax expense (benefit)
18.2

 
(29.9
)
 
55.1

 
10.1

Valuation allowance applicable to current year income
(2.2
)
 
(10.5
)
 
(2.2
)
 
(10.5
)
Income tax expense calculated based on estimated annual effective tax rate
41.9

 
6.4

 
121.4

 
51.2

Income tax expense on discrete items:
 
 
 
 
 
 
 
Change in valuation allowance
(12.8
)
 
16.0

 
(12.8
)
 
(11.0
)
Other items

 
8.3

 

 
8.3

Total income tax expense
$
29.1

 
$
30.7

 
$
108.6

 
$
48.5



A reconciliation of the U.S. statutory corporate tax rate to the estimated annual effective rate, before discrete items, reflected in the consolidated statement of operations is as follows:
 
 
Nine months ended
 
September 30,
 
2017
 
2016
U.S. statutory corporate rate
35.0
 %
 
35.0
 %
Valuation allowance
(.6
)
 
(6.1
)
Non-taxable income and nondeductible benefits, net
(1.5
)
 
(1.0
)
State taxes
1.3

 
1.8

Estimated annual effective tax rate
34.2
 %
 
29.7
 %


The effective tax rate for the nine months ended September 30, 2017 and 2016 included reductions in the deferred tax valuation allowance of $2.2 million and $10.5 million, respectively, reflecting higher current year expected taxable income than previously reflected in our deferred tax valuation allowance model in each year.

Our total tax expense for the nine months ended September 30, 2017, includes $12.8 million of reductions to the deferred tax valuation allowance primarily related to the recognition of capital gains. Our total tax expense for the nine months ended September 30, 2016, includes $11.0 million of reductions to the deferred tax valuation allowance related to adjustments to future expected taxable income reflected in our deferred tax valuation allowance model and $8.3 million of increased tax expense primarily related to IRS exam adjustments. The reduction to the deferred tax valuation allowance primarily relates to higher expected non-life income consistent with our current investment strategies, the impacts of the recapture of certain reinsurance agreements and IRS examination adjustments.

Effective January 1, 2017, the Company adopted new authoritative guidance related to several aspects of the accounting for share-based payment transactions, including the income tax consequences. Under the new guidance, any excess tax benefits are recognized as an income tax benefit in the income statement. The new guidance is applied on a modified retrospective basis through a cumulative-effect adjustment to retained earnings for all tax benefits that were not previously recognized because the related tax deduction had not reduced taxes payable. The Company had NOL carryforwards of $15.7 million related to deductions for stock options and restricted stock on the date of adoption. However, a corresponding valuation allowance of $15.7 million was recognized as a result of adopting this guidan