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File Nos 333-10395
811-7771
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-4
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
Pre-Effective Amendment No. 1
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940
Amendment No. 1
SEPARATE ACCOUNT KGC OF FIRST ALLMERICA FINANCIAL LIFE
INSURANCE COMPANY
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
440 Lincoln Street
Worcester, MA 01653
(Address of Principal Executive Office)
Abigail M. Armstrong, Secretary and Counsel
First Allmerica Financial Life Insurance Company
440 Lincoln Street
Worcester, MA 01653
(Name and Address of Agent for Service of Process)
It is proposed that this filing will become effective:
Immediately upon filing pursuant to paragraph (b) of Rule 485.
---
On (date) pursuant to paragraph (b) of Rule 485
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60 days after filing pursuant to paragraph (a)(1) of Rule 485.
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On (date) pursuant to paragraph (a)(1) of Rule 485.
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VARIABLE ANNUITY POLICIES
Pursuant to Reg. Section 270.24f-2 of the Investment Company Act of 1940,
Registrant hereby declares that an indefinite amount of its securities is being
registered under the Securities Act of 1933.
The Rule 24f-2 Notice for the issuer's fiscal year ended December 31, 1995
was not filed as the Separate Account had not begun operations.
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Cross Reference Sheet Showing Location in Prospectus of
Items Called for by Form N-4
Form N-4 Item No Caption in Prospectus
---------------------
1 . . . . . . . . . . . . . Cover Page
2 . . . . . . . . . . . . . "Special Terms"
3 . . . . . . . . . . . . . "Summary"; "Annual and Transaction Expenses"
4 . . . . . . . . . . . . . Condensed Financial Information
5 . . . . . . . . . . . . . "Description of the Company, the Variable Account
and the Kemper Investor Fund."
6 . . . . . . . . . . . . . "Charges and Deductions"
7 . . . . . . . . . . . . . "The Variable Annuity Policies"
8 . . . . . . . . . . . . . "The Variable Annuity Policies"
9 . . . . . . . . . . . . . "Death Benefit"
10. . . . . . . . . . . . . "Purchase Payments:; "Computation of Policy Values
and Annuity Payments"
11. . . . . . . . . . . . . "Surrender"; "Withdrawal"
12. . . . . . . . . . . . . "Federal Tax Considerations"
13. . . . . . . . . . . . . "Legal Matters"
14. . . . . . . . . . . . . "Table of Contents of the Statement of Additional
Information"
Form N-4 Item No. Caption in Statement of Additional Information
-----------------------------------------------
15. . . . . . . . . . . . . "Cover Page"
16. . . . . . . . . . . . . "Table of Contents"
17. . . . . . . . . . . . . "General Information and History"
18. . . . . . . . . . . . . "Services"
19. . . . . . . . . . . . . "Underwriters"
20. . . . . . . . . . . . . "Underwriters"
21. . . . . . . . . . . . . "Performance Information"
22. . . . . . . . . . . . . "Annuity Payments"
23. . . . . . . . . . . . . "Financial Statements"
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FIRST ALLMERICA FINANCIAL
LIFE INSURANCE COMPANY
KEMPER GATEWAY CUSTOM
VARIABLE ANNUITY CONTRACT
PROFILE THIS PROFILE IS A SUMMARY OF SOME OF THE MORE IMPORTANT
MAY 1, 1997 POINTS THAT YOU SHOULD KNOW AND CONSIDER BEFORE PURCHASING A
KEMPER GATEWAY CUSTOM CONTRACT. THE CONTRACT IS MORE FULLY
DESCRIBED LATER IN THIS PROSPECTUS. PLEASE READ THE
PROSPECTUS CAREFULLY.
1. KEMPER GATEWAY CUSTOM VARIABLE ANNUITY CONTRACT
The Kemper GATEWAY Custom variable annuity contract is a contract between
you and First Allmerica Financial Life Insurance Company. It is designed to help
you accumulate assets for your retirement or other important financial goals on
a tax-deferred basis. The Kemper GATEWAY Custom combines the concept of
professional money management with the attributes of an annuity contract.
Kemper GATEWAY Custom offers a customized investment portfolio with
experienced professional portfolio managers. You may allocate your payments
among any of 16 investment portfolios of the Investors Fund Series, the
Guarantee Period Accounts and the Fixed Account (the Guaranteed Period Accounts
and/or the Fixed Account may not be available in certain jurisdictions.) This
range of investment choices enables you to allocate your money to meet your
particular investment needs.
Like all annuities, the contract has an ACCUMULATION PHASE and an INCOME
PHASE. During the ACCUMULATION PHASE you can make payments into the contract on
any frequency. Investment and interest gains accumulate tax deferred. You may
withdraw money from your contract during the ACCUMULATION PHASE. However, as
with other tax-deferred investments, you pay taxes on earnings and any untaxed
payments to the contract when you withdraw them. A federal tax penalty may apply
if you withdraw prior to age 59 1/2.
During the INCOME PHASE you will receive regular payments from your
contract, provided you annuitize. Annuitization involves beginning a series of
payments from the capital that has built up in your contract. The amount of your
payments during the INCOME PHASE will, in part, be determined by your account's
growth during the ACCUMULATION PHASE.
2. ANNUITY BENEFIT PAYMENTS
If you choose to annuitize your contract, you may select one of six annuity
options: (1) monthly payments for your lifetime; (2) monthly payments for your
lifetime, but for not less than 10 years; (3) monthly payments for your lifetime
with the guarantee that if payments to you are less than the accumulated value a
refund of the remaining value will be paid; (4) monthly payments for your
lifetime and your survivor's lifetime; (5) monthly payments for your lifetime
and your survivor's lifetime with the payment to the survivor being reduced to
2/3; and (6) monthly payments for a specified period of 1 to 30 years.
You also need to decide if you want your annuity payments on a variable
basis (i.e., subject to fluctuation based on investment performance), on a fixed
basis (with benefit payments guaranteed at a fixed amount), or on a combination
variable and fixed basis. Once payments begin, the annuity option cannot be
changed.
3. PURCHASING THIS CONTRACT
You can buy a contract through your financial representative, who can also
help you complete the proper forms. There is no fixed schedule for making
additional payments into this contract. There are no limits to the
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frequency of additional payments, but there are certain limitations as to
amount. Generally, the initial payment must be at least $2,000 and additional
payments must be at least $100. However, minimums may be reduced for certain
employer-sponsored plans.
4. INVESTMENT OPTIONS
You have full investment control over the contract. You may allocate money
to the following portfolios:
<TABLE>
<S> <C>
Money Market Portfolio Value Portfolio
Total Return Portfolio Small Cap Value Portfolio
High Yield Portfolio Value + Growth Portfolio
Growth Portfolio Horizon 20+ Portfolio
Government Securities Portfolio Horizon 10+ Portfolio
International Portfolio Horizon 5 Portfolio
Small Cap Growth Portfolio Global Income Portfolio
Investment Grade Bond Portfolio Blue Chip Portfolio
</TABLE>
You may also allocate money to the Guarantee Period Accounts and the Fixed
Account. The Guarantee Period Accounts let you choose from among nine different
Guarantee Periods (ranging in maturity from 2 to 10 years) during which
principal and interest rates are guaranteed. The Fixed Account guarantees
principal and a minimum rate of interest (never less than 3% compounded
annually).
5. EXPENSES
Each year and upon surrender, a $30 contract fee is deducted from your
contract. The contract fee is waived if the value of the contract is $50,000 or
more or if the contract is issued to and maintained by the Trustees of a 401(k)
plan. We also deduct insurance charges which amount to 1.10% annually of the
daily value of your contract value allocated to the variable investment options.
The insurance charges include: Mortality and Expense Risk Charge, 0.95%; and
Administrative Expense Charge, 0.15%. There are also investment management fees
and other portfolio operating expenses that vary by portfolio.
If you decide to surrender your contract, make withdrawals or receive
payments under certain annuity options, we may impose a surrender charge between
2% and 7% of the payment withdrawn, based on when your payments were made. In
states where premium taxes are imposed, a premium tax charge will be deducted
either when withdrawals are made or annuity payments commence.
There is currently no charge for processing investment option transfers. We
reserve the right to assess a charge, not to exceed $25, for transfers in excess
of 12 per contract year.
The following chart is designed to help you understand the charges in your
contract. Column C labeled "Total Annual Charges" shows the total of the $30
contract fee (which is represented as 0.03%) and the 1.10% insurance charges
(Column A) plus the investment charges for each portfolio (Column B). Columns D
and E show you two examples of the charges, in dollar amounts, you would pay
under a contract. The examples assume you invest $1,000 in a portfolio which
earns 5% annually and that you withdraw your money: at the end of year 1 (Column
D), and at the end of year 10 (Column E). In Column D, the Total Annual Charges
are assessed as well as the surrender charges. In Column E, the example shows
the aggregate of all the annual charges assessed for 10 years, but there is no
surrender charge. The premium tax is assumed to be 0% in both examples.
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<TABLE>
<CAPTION>
A B C D E
<S> <C> <C> <C> <C> <C>
TOTAL TOTAL ANNUAL EXPENSES AT
ANNUAL TOTAL ANNUAL TOTAL END OF
INSURANCE INVESTMENT ANNUAL ------------------------
PORTFOLIO CHARGES MANAGEMENT FEES CHARGES 1 YEAR 10 YEARS
- ------------------------------------- ----------- --------------- ----------- ----------- -----------
Money Market Portfolio 1.13% 0.60% 1.73% $ 79 $ 201
Total Return Portfolio 1.13% 0.59% 1.72% $ 79 $ 200
High Yield Portfolio 1.13% 0.65% 1.78% $ 79 $ 206
Growth Portfolio 1.13% 0.64% 1.77% $ 79 $ 205
Government Securities Portfolio 1.13% 0.66% 1.79% $ 79 $ 207
International Portfolio 1.13% 0.96% 2.09% $ 82 $ 239
Small Cap Growth Portfolio 1.13% 0.75% 1.88% $ 80 $ 217
Investment Grade Bond Portfolio 1.13% 0.85% 1.98% $ 81 $ 227
Value Portfolio 1.13% 0.95% 2.08% $ 82 $ 238
Small Cap Value Portfolio 1.13% 0.95% 2.08% $ 82 $ 238
Value + Growth Portfolio 1.13% 0.95% 2.08% $ 82 $ 238
Horizon 20+ Portfolio 1.13% 0.85% 1.98% $ 81 $ 227
Horizon 10+ Portfolio 1.13% 0.80% 1.93% $ 81 $ 222
Horizon 5 Portfolio 1.13% 0.90% 2.03% $ 82 $ 232
Global Income Portfolio 1.13% 0.95% 2.08% $ 83 $ 248
Blue Chip Portfolio 1.13% 1.05% 2.08% $ 82 $ 238
</TABLE>
For more detailed information, see the Fee Table in the Prospectus.
6. TAXES
You will not pay taxes until you withdraw money from your contract. During
the accumulation phase, earnings are withdrawn first and are taxed as ordinary
income. If you make a withdrawal prior to age 59 1/2, you may be subject to a
10% federal tax penalty on the earnings. Payments during the income phase are
considered partly a return of your investment and partly earnings. You will be
subject to income taxes on the earnings portion of each payment. However, if
your contract is funded with pre-tax or tax deductible dollars (such as a
pension or profit sharing plan contribution), then the entire payment will be
taxable.
7. WITHDRAWALS
You can make withdrawals from your contract any time during the accumulation
phase. The minimum withdrawal amount is $100. Any payment invested in the
contract for six years or longer can be withdrawn without a surrender charge.
For amounts invested for less than six years, you will not be assessed a
surrender charge on the greater of: (1) 15% or less of the contract value in any
calendar year; or (2) an amount calculated under the Life Expectancy
Distribution option.
You may also purchase riders that enhance your liquidity in times of need
(see "Optional Benefit Riders" below.)
Any withdrawal from a Guarantee Period Account ("GPA") prior to the end of
the Guarantee Period will be subject to a market value adjustment which may
increase or decrease the value in that account. This adjustment will never
impact your original investment, nor will earnings in the GPA amount to less
than an effective annual rate of 3%.
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8. PERFORMANCE
The value of your contract will vary depending on the investment performance
of the portfolios you choose. From time to time, we may advertise "Total Return"
and "Average Annual Total Return" based upon the periods that the portfolios
have been in existence. These returns are based upon historical data and are not
intended to indicate future performance.
The contract was first offered in late 1996. Therefore, performance for a
complete year is not available and is not shown here.
9. DEATH BENEFIT
If the annuitant dies during the accumulation phase, we will pay the
beneficiary a death benefit equal to the GREATER of: (1) the accumulated value
increased for any positive market value adjustment; or (2) gross payments
reduced proportionately to reflect any withdrawals.
You may also purchase a rider that will enhance the death benefit (see
"Optional Benefit Riders" below.)
10. OTHER INFORMATION
FREE LOOK PERIOD: If you cancel your contract within 10 days after receiving it
(or whatever period is required by your state), we will pay you an amount equal
to the value of your contract. This may be more or less than your original
payment. If required by applicable state or federal law, we will return your
payment.
OPTIONAL BENEFIT RIDERS: Except in New York where not permitted by state law,
three option riders are available for separate monthly charges.
ENHANCED DEATH BENEFIT RIDER. Under this rider, the death benefit is equal to
the greatest of: (1) the accumulated value increased for any positive market
value adjustment; (2) total payments reduced proportionately to reflect any
prior withdrawals; or (3) the highest contract value on any contract
anniversary, increased by any subsequent payments and reduced proportionately to
reflect any prior withdrawals.
LIVING BENEFITS RIDER. Under this rider, you may receive your money without a
surrender charge if, after issue, you are: (1) confined to a medical care
facility for the later of one year after the issue date or 90 days; or (2)
diagnosed as having a fatal illness.
DISABILITY RIDER: Under this rider, you may receive your money without a
surrender charge if you become physically disabled after issue and before
attaining age 65.
DOLLAR COST AVERAGING. You may elect to automatically transfer money on a
periodic basis from the Money Market Portfolio, Government Securities Portfolio
or Fixed Account to one or more of the variable investment options.
AUTOMATIC ACCOUNT REBALANCING. You may elect to automatically have your
contract's accumulated value periodically reallocated ("rebalanced") among your
chosen investment options to maintain your designated percentage allocation mix.
11. INQUIRIES.
If you need more information you may contact us at:
First Allmerica Financial Life Insurance Company
440 Lincoln St.
Worcester, Massachusetts 01653
1-800-782-8380
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FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
FLEXIBLE PAYMENT DEFERRED VARIABLE AND FIXED ANNUITY CONTRACTS
This Prospectus describes interests under flexible payment deferred variable
and fixed annuity contracts, known as Kemper Gateway Custom Contracts, issued
either on a group basis or as individual contracts by First Allmerica Financial
Life Insuranc Company (the "Company") to individuals and businesses in
connection with retirement plans which may or may not qualify for special
federal income tax treatment. (For information about the tax status when used
with a particular type of plan, see "FEDERAL TAX CONSIDERATIONS"). Participation
in a group contract will be accounted for by the issuance of a certificate
describing the individual's interest under the group contract. Participation in
an individual contract will be evidenced by the issuance of an individual
contract. Certificates and individual contracts are referred to collectively
herein as the "Contract(s)." The following is a summary of information about
these Contracts. More detailed information can be found under the referenced
captions in this Prospectus.
Contract values may accumulate on a variable basis in the separate account
known as Separate Account KGC (the "Variable Account"). The assets of the
Variable Account are divided into Sub-Accounts, each investing exclusively in
shares of one of the following Portfolios of Investors Fund Series ("IFS"):
<TABLE>
<S> <C>
MONEY MARKET PORTFOLIO VALUE PORTFOLIO
TOTAL RETURN PORTFOLIO SMALL CAP VALUE PORTFOLIO
HIGH YIELD PORTFOLIO VALUE+GROWTH PORTFOLIO
GROWTH PORTFOLIO HORIZON 20+ PORTFOLIO
GOVERNMENT SECURITIES PORTFOLIO HORIZON 10+ PORTFOLIO
INTERNATIONAL PORTFOLIO HORIZON 5 PORTFOLIO
SMALL CAP GROWTH PORTFOLIO GLOBAL INCOME PORTFOLIO
INVESTMENT GRADE BOND PORTFOLIO BLUE CHIP PORTFOLIO
</TABLE>
In most jurisdictions, values also may be allocated on a fixed basis to the
Fixed Account, which is part of the Company's General Account, and during the
accumulation period to one or more of the Guarantee Period Accounts. Amounts
allocated to the Fixed Account earn interest at a guaranteed rate for one year
from the date allocated. Amounts allocated to a Guarantee Period Account earn a
fixed rate of interest for the duration of the applicable Guarantee Period if
held for the entire Guarantee Period. If removed prior to the end of the
Guarantee Period the value may be increased or decreased by a Market Value
Adjustment. Amounts allocated to the Guarantee Period Accounts in the
accumulation phase are held in the Company's Separate Account GPA.
Additional information is contained in a Statement of Additional Information
("SAI") dated May 1, 1997, filed with the Securities and Exchange Commission
(the "SEC") and incorporated herein by reference. The Table of Contents of the
SAI is on page 4 of this Prospectus. The SAI is available upon request and
without charge through Allmerica Investments, Inc., 440 Lincoln Street,
Worcester, MA 01653, Telephone 800-782-8380.
THIS PROSPECTUS IS VALID ONLY WHEN ACCOMPANIED BY A CURRENT PROSPECTUS OF
INVESTORS FUND SERIES. INVESTORS SHOULD RETAIN A COPY OF THIS PROSPECTUS FOR
FUTURE REFERENCE.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION, NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
THE CONTRACTS ARE OBLIGATIONS OF FIRST ALLMERICA FINANCIAL LIFE INSURANCE
COMPANY, AND ARE DISTRIBUTED BY ALLMERICA INVESTMENTS, INC. AND/OR KEMPER
DISTRIBUTORS, INC., AND ZKI AGENCY, INC. THE CONTRACTS ARE NOT DEPOSITS OR
OBLIGATIONS OF, OR GUARANTEED OR ENDORSED BY, ANY BANK OR CREDIT UNION. THE
CONTRACTS ARE NOT INSURED BY THE U.S. GOVERNMENT, THE FEDERAL DEPOSIT INSURANCE
CORPORATION (FDIC), OR ANY OTHER FEDERAL AGENCY. INVESTMENTS IN THE CONTRACTS
ARE SUBJECT TO VARIOUS RISKS, INCLUDING THE FLUCTUATION OF VALUE AND POSSIBLE
LOSS OF PRINCIPAL.
DATED MAY 1, 1997
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TABLE OF CONTENTS
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PAGE
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<S> <C> <C>
STATEMENT OF ADDITIONAL INFORMATION TABLE OF CONTENTS.................. 4
SPECIAL TERMS.......................................................... 5
SUMMARY................................................................ 6
ANNUAL AND TRANSACTION EXPENSES........................................ 11
PERFORMANCE INFORMATION................................................ 13
DESCRIPTION OF THE COMPANY, THE VARIABLE ACCOUNT,
AND INVESTORS FUND SERIES............................................. 16
INVESTMENT OBJECTIVES AND POLICIES..................................... 16
INVESTMENT MANAGEMENT SERVICES......................................... 17
DESCRIPTION OF THE CONTRACT............................................ 18
A. Payments......................................................... 18
B. Right to Revoke Contract......................................... 19
C. Transfer Privilege............................................... 19
Automatic Transfers and Automatic Account Rebalancing Options.... 20
D. Surrender........................................................ 20
E. Withdrawals...................................................... 21
Systematic Withdrawals........................................... 21
Life Expectancy Distributions.................................... 22
F. Death Benefit.................................................... 22
Death of the Annuitant Prior to the Annuity Date................. 22
Death of an Owner Who is Not Also the Annuitant Prior to the
Annuity Date.................................................... 23
Payment of the Death Benefit Prior to the Annuity Date........... 23
Death of the Annuitant After the Annuity Date.................... 23
G. The Spouse of the Owner as Beneficiary........................... 23
H. Assignment....................................................... 24
I. Electing the Form of Annuity and the Annuity Date................ 24
J. Description of Variable Annuity Payout Options................... 25
K. Annuity Benefit Payments......................................... 26
The Annuity Unit................................................. 26
Determination of the First and Subsequent Annuity Benefit
Payments........................................................ 26
L. NORRIS Decision.................................................. 27
M. Computation of Values............................................ 27
The Accumulation Unit............................................ 27
Net Investment Factor............................................ 28
</TABLE>
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TABLE OF CONTENTS (continued)
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PAGE
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<S> <C> <C>
CHARGES AND DEDUCTIONS................................................. 28
A. Variable Account Deductions...................................... 28
Mortality and Expense Risk Charge................................ 28
Administrative Expense Charge.................................... 29
Other Charges.................................................... 29
B. Contract Fee..................................................... 29
C. Optional Benefit Rider........................................... 29
D. Premium Taxes.................................................... 30
E. Contingent Deferred Sales Charge................................. 30
Charges for Surrender and Withdrawal............................. 31
Reduction or Elimination of Surrender Charge..................... 31
Withdrawal Without Surrender Charge.............................. 32
Living Benefits Rider............................................ 32
Disability Rider................................................. 33
Surrenders....................................................... 33
Charge at the Time Annuity Benefit Payments Begin................ 34
F. Transfer Charge.................................................. 34
GUARANTEE PERIOD ACCOUNTS.............................................. 34
FEDERAL TAX CONSIDERATIONS............................................. 36
A. Qualified and Non-Qualified Contracts............................ 37
B. Taxation of the Contracts in General............................. 37
Withdrawals Prior to Annuitization............................... 37
Annuity Payouts After Annuitization.............................. 38
Penalty on Distribution.......................................... 38
Assignments or Transfers......................................... 38
Non-Natural Owners............................................... 39
Deferred Compensation Plans of State and Local Government and
Tax-Exempt Organizations..................................... 39
C. Tax Withholding.................................................. 39
D. Provisions Applicable to Qualified Employer Plans................ 39
Corporate and Self-Employed Pension and Profit Sharing Plans..... 39
Individual Retirement Annuities.................................. 40
Tax-Sheltered Annuities.......................................... 40
Texas Optional Retirement Program................................ 40
REPORTS................................................................ 40
LOANS (QUALIFIED CONTRACTS ONLY)....................................... 40
ADDITION, DELETION OR SUBSTITUTION OF INVESTMENTS...................... 41
CHANGES TO COMPLY WITH LAW AND AMENDMENTS.............................. 42
VOTING RIGHTS.......................................................... 42
DISTRIBUTION........................................................... 42
LEGAL MATTERS.......................................................... 43
FURTHER INFORMATION.................................................... 43
APPENDIX A -- MORE INFORMATION ABOUT THE FIXED ACCOUNT................. 44
APPENDIX B -- SURRENDER CHARGES AND THE MARKET VALUE ADJUSTMENT........ 45
</TABLE>
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STATEMENT OF ADDITIONAL INFORMATION
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
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<S> <C> <C>
GENERAL INFORMATION AND HISTORY........................................
TAXATION OF THE VARIABLE ACCOUNT AND THE COMPANY.......................
SERVICES...............................................................
UNDERWRITERS...........................................................
ANNUITY BENEFIT PAYMENTS...............................................
EXCHANGE OFFER.........................................................
PERFORMANCE INFORMATION................................................
TAX-DEFERRED ACCUMULATION..............................................
FINANCIAL STATEMENTS...................................................
</TABLE>
THE CONTRACTS OFFERED BY THIS PROSPECTUS MAY NOT BE AVAILABLE IN ALL STATES.
THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFERING IN ANY JURISDICTION IN WHICH
SUCH OFFERING MAY NOT LAWFULLY BE MADE. NO PERSON IS AUTHORIZED TO MAKE ANY
REPRESENTATIONS IN CONNECTION WITH THIS OFFERING OTHER THAN THOSE CONTAINED IN
THIS PROSPECTUS.
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SPECIAL TERMS
ACCUMULATED VALUE: the sum of the value of all Accumulation Units in the
Sub-Accounts and of the value of all accumulations in the Fixed Account and
Guarantee Period Accounts then credited to the Contract on any date before the
Annuity Date.
ACCUMULATION UNIT: a measure of the Owner's interest in a Sub-Account before
annuity benefit payments begin.
ANNUITANT: the person designated in the Contract upon whose life annuity
benefit payments are to be made.
ANNUITY DATE: the date on which annuity benefit payments begin as specified
pursuant to the Contract.
ANNUITY UNIT: a measure of the value of the periodic annuity benefit payments
under the Contract.
FIXED ACCOUNT: the part of the Company's General Account that guarantees
principal and a fixed minimum interest rate and to which all or a portion of a
payment or transfer under this Contract may be allocated.
FIXED ANNUITY PAYOUT: an Annuity in the payout phase providing for annuity
benefit payments which remain fixed in amount throughout the annuity benefit
payment period selected.
GENERAL ACCOUNT: all the assets of the Company other than those held in a
separate account.
GUARANTEE PERIOD: the number of years that a Guaranteed Interest Rate is
credited.
GUARANTEE PERIOD ACCOUNT: an account which corresponds to a Guaranteed Interest
Rate for a specified Guarantee Period and is supported by assets in a
non-unitized separate account.
GUARANTEED INTEREST RATE: the annual effective rate of interest, after daily
compounding, credited to a Guarantee Period Account.
MARKET VALUE ADJUSTMENT: a positive or negative adjustment assessed if any
portion of a Guarantee Period Account is withdrawn or transferred prior to the
end of its Guarantee Period.
OWNER: the person, persons or entity entitled to exercise the rights and
privileges under this Contract. Joint Owners are permitted if one of the two is
the Annuitant.
SUB-ACCOUNT: a subdivision of the Variable Account. Each Sub-Account available
under the Contract invests exclusively in the shares of a corresponding
portfolio of Investors Fund Series.
SURRENDER VALUE: the Accumulated Value of the Contract on full surrender after
application of any Contract fee, contingent deferred sales charge, and Market
Value Adjustment.
UNDERLYING PORTFOLIOS (OR PORTFOLIOS): Money Market, Total Return High Yield,
Growth, Government Securities, International, Small Cap Growth, Investment Grade
Bond, Value, Small Cap Value, Value+Growth, Horizon 20+, Horizon 10+, Horizon 5,
Global Income and Blue Chip Portfolios of Investors Fund Series.
VALUATION DATE: a day on which the net asset value of the shares of any of the
Underlying Portfolios is determined and unit values of the Sub-Accounts are
determined. Valuation Dates currently occur on each day on which the New York
Stock Exchange is open for trading, as well as each day otherwise required.
VARIABLE ACCOUNT: Separate Account KGC, one of the Company's separate accounts,
consisting of assets segregated from other assets of the Company. The investment
performance of the assets of the Variable Account is determined separately from
the other assets of the Company, and are not chargeable with liabilities arising
out of any other business which the Company may conduct.
VARIABLE ANNUITY PAYOUT: an Annuity in the payout phase providing for payments
varying in amount in accordance with the investment experience of certain of the
Portfolios.
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SUMMARY
WHAT IS THE KEMPER GATEWAY CUSTOM VARIABLE ANNUITY?
The Kemper Gateway Custom variable annuity contract is an insurance contract
designed to help you accumulate assets for your retirement or other important
financial goals on a tax-deferred basis. The Contract combines the concept of
professional money management with the attributes of an annuity contract.
Features available through the Contract include:
- A customized investment portfolio
- 16 IFS Portfolios
- 1 Fixed Account
- 9 Guarantee Period Accounts
- Experienced professional portfolio managers
- Tax deferral on earnings
- Guarantees that can protect your beneficiaries during the accumulation
phase.
- Income that can be guaranteed for life
The Contract has two phases, an accumulation phase and, if you choose to
annuitize, an annuity payout phase. During the accumulation phase, your initial
payment and any additional payments you choose to make may be allocated to the
combination of portfolio of securities ("Portfolios") under your Contract, to
the Guarantee Period Accounts, and to the Fixed Account. You select the
investment options most appropriate for your investment needs. As those needs
change, you may also change your allocation without incurring any tax
consequences. Your Contract's Accumulated Value is based on the investment
performance of the Portfolios and any accumulations in the Guarantee Period and
Fixed Accounts. No income taxes are paid on any earnings under the Contract
unless and until Accumulated Values are withdrawn. In addition, during the
accumulation phase, your beneficiaries receive certain protections and
guarantees in the event of the Annuitant's death. See discussion below "WHAT
HAPPENS UPON DEATH DURING THE ACCUMULATION PHASE?"
WHAT HAPPENS IN THE ANNUITY PAYOUT PHASE?
During the annuity payout phase, the Annuitant can receive income based on
several annuity payout options. You choose the annuity payout option and the
date for annuity benefit payments to begin. You also decide whether you want
variable annuity benefit payments based on the investment performance of certain
Portfolios, fixed annuity benefit payments with payment amounts guaranteed by
the Company, or a combination of fixed and variable annuity benefit payments.
Among the payout options available during the annuity payout phase are:
- periodic payments for your lifetime (assuming you are the Annuitant);
- periodic payments for your life and the life of another person selected by
you;
- periodic payments for your lifetime with guaranteed payments continuing to
your beneficiary for 10 years in the event that you die before the end of
ten years;
- periodic payments over a specified number of years (1 to 30); under this
option you may reserve the right to convert remaining payments to a
lump-sum payout by electing a "commutable" option.
6
<PAGE>
WHO ARE THE KEY PERSONS UNDER THE CONTRACT?
The Contract is between you, (the Owner) and us, First Allmerica Financial
Life Insurance Company ("the Company"). Each Contract has an Owner (or an Owner
and a Joint Owner, in which case one of the two also must be the Annuitant), an
Annuitant and a beneficiary. As Owner, you make payments, choose investment
allocations and select the Annuitant and beneficiary. The Annuitant is the
individual to receive annuity benefit payments under the Contract. The
beneficiary is the person who receives any payment on the death of the Owner or
Annuitant.
HOW MUCH CAN I INVEST AND HOW OFTEN?
The number and frequency of your payments are flexible, subject to the
minimum and maximum payments stated in "A. Payments."
WHAT ARE MY INVESTMENT CHOICES?
The Contract permits net payments to be allocated among the Sub-Accounts
investing in the Portfolios, the Guarantee Period Accounts, and the Fixed
Account.
VARIABLE ACCOUNT. You have a choice of Sub-Accounts investing in the
following 16 Portfolios of IFS:
<TABLE>
<S> <C>
MONEY MARKET PORTFOLIO VALUE PORTFOLIO ]
TOTAL RETURN PORTFOLIO SMALL CAP VALUE PORTFOLIO
HIGH YIELD PORTFOLIO VALUE+GROWTH PORTFOLIO
GROWTH PORTFOLIO HORIZON 20+ PORTFOLIO
GOVERNMENT SECURITIES PORTFOLIO HORIZON 10+ PORTFOLIO
INTERNATIONAL PORTFOLIO HORIZON 5 PORTFOLIO
SMALL CAP GROWTH PORTFOLIO GLOBAL INCOME PORTFOLIO
INVESTMENT GRADE BOND PORTFOLIO BLUE CHIP PORTFOLIO
</TABLE>
For a more detailed description of the Portfolios, see "INVESTMENT
OBJECTIVES AND POLICIES."
GUARANTEE PERIOD ACCOUNTS. Assets supporting the guarantees under the
Guarantee Period Accounts are held in the Company's Separate Account GPA, a
non-unitized insulated separate account. Values and benefits calculated on the
basis of Guarantee Period Account allocations, however, are obligations of the
Company's General Account. Amounts allocated to a Guarantee Period Account earn
a Guaranteed Interest Rate declared by the Company. The level of the Guaranteed
Interest Rate depends on the number of years of the Guarantee Period selected.
The Company currently makes available nine Guarantee Periods ranging from two to
ten years in duration. Once declared, the Guaranteed Interest Rate will not
change during the duration of the Guarantee Period. If amounts allocated to a
Guarantee Period Account are transferred, surrendered or applied to any annuity
option at any time other than the day following the last day of the applicable
Guarantee Period, a Market Value Adjustment will apply that may increase or
decrease the Account's value. For more information about the Guarantee Period
Accounts and the Market Value Adjustment, see "GUARANTEE PERIOD ACCOUNTS."
FIXED ACCOUNT. The Fixed Account is part of the General Account, which
consists of all the Company's assets other than those allocated to the Variable
Account and any other separate account. Allocations to the Fixed Account are
guaranteed as to principal and a minimum rate of interest. Additional excess
interest may be declared periodically at the Company's discretion. Furthermore,
the initial rate in effect on the date an amount is allocated to the Fixed
Account will be guaranteed for one year from that date. For more information
about the Fixed Account see "APPENDIX A. MORE INFORMATION ABOUT THE FIXED
ACCOUNT."
7
<PAGE>
WHO ARE THE PORTFOLIO MANAGERS?
Zurich Kemper Investments, Inc. ("ZKI") is the investment manager of each
Portfolio of IFS other than the Value and Small Cap Value Portfolios which are
managed by Dreman Value Advisors, Inc. ("DVA"), a wholly owned subsidiary of
ZKI. ZKI and DVA provide each Portfolio with continuous professional investment
supervision. DVA is also the sub-adviser for the Value+Growth, Horizon 20+,
Horizon 10+, and Horizon 5 Portfolios. Under the terms of its Sub-Advisory
Agreement with ZKI, DVA will manage the value portion of each of these
Portfolios and will provide such other investment advice, research and
assistance as ZKI may, from time to time, reasonably request. Zurich Investment
Management Limited ("ZIML"), an affiliate of ZKI, is a sub-adviser for certain
Portfolios described below. Under the terms of the Sub-Advisory Agreement
between ZIML and ZKI for the Total Return, High Yield, Growth, International,
Small Cap Growth, Investment Grade Bond, Value+Growth, Horizon 20+, Horizon 10+,
Horizon 5, Global Income and Blue Chip Portfolios, ZIML renders investment
advisory and management services with regard to that portion of a Portfolio's
assets as may be allocated by ZKI to ZIML from time to time for management of
foreign securities. Zurich Investment Management, Inc. ("ZIM"), a wholly owned
subsidiary of ZKI, is the investment manager of the Guarantee Period Accounts
pursuant to an investment advisory agreement between the Company and ZIM.
CAN I MAKE TRANSFERS AMONG THE ACCOUNTS?
Yes. Prior to the Annuity Date, you may transfer among the Sub-Accounts
investing in the Portfolios, the Guarantee Period Accounts, and the Fixed
Account. You will incur no current taxes on transfers while your money remains
in the Contract. You also may elect Automatic Account Rebalancing to ensure
assets remain allocated according to a desired mix or choose automatic dollar
cost averaging to gradually move money into one or more Portfolios. See "C.
Transfer Privilege."
WHAT IF I NEED MY MONEY BEFORE MY ANNUITY PAYOUT PHASE BEGINS?
You may surrender your Contract or make withdrawals any time before your
annuity payout phase begins. Each year you can take without a surrender charge
15% of the Contract's Accumulated Value or, if you are both an Owner and the
Annuitant, an amount based on your life expectancy. A 10% tax penalty may apply
on all amounts deemed to be earnings if you are under age 59 1/2. Additional
amounts may be withdrawn at anytime but may be subject to the surrender charge
for payments that have not been invested in the Contract for more than six
years. (A Market Value Adjustment may apply to any withdrawal made from a
Guarantee Period Account prior to the expiration of the Guarantee Period.)
WHAT HAPPENS UPON DEATH DURING THE ACCUMULATION PHASE?
If the Annuitant, Owner or Joint Owner should die before the Annuity Date, a
death benefit will be paid to the beneficiary. Upon the death of the Annuitant
(or an Owner who is also an Annuitant), a standard Annuitant death benefit will
be paid. The standard Annuitant death benefit is equal to the GREATER of:
- The Accumulated Value increased by any positive Market Value Adjustment;
or
- Gross payments reduced proportionately to reflect withdrawals (for each
withdrawal, the proportionate reduction is calculated as the death benefit
under this option immediately prior to the withdrawal, multiplied by the
withdrawal amount, and divided by the Accumulated Value immediately prior
to the withdrawal).
If the Owner elects the Enhanced Death Benefit Rider, the Annuitant death
benefit will be the greatest of:
- The Accumulated Value increased by any positive Market Value Adjustment;
8
<PAGE>
- Gross payments, reduced proportionately to reflect withdrawals; or
The death benefit that would have been payment on the most recent Contract
anniversary, increased for subsequent payments and reduced proportionately to
reflect withdrawals after that date.
A separate charge is made for the Enhanced Death Benefit Rider. See "Death
Benefit" under "DESCRIPTION OF THE CONTRACT."
Regardless of whether the Enhanced Death Benefit Rider is in effect, if an
Owner who is not also the Annuitant dies during the Accumulation Phase, the
death benefit will equal the Accumulated Value of the Contract increased by any
positive Market Value Adjustment. If the Annuitant dies after the Annuity Date
but before all guaranteed annuity benefit payments have been made, the remaining
payments will be paid to the beneficiary at least as rapidly as under the
annuity option in effect. See "Death Benefit."
At the death of an Owner who is not also the Annuitant during the
Accumulation phase, the death benefit will equal the Accumulated Value of the
Contract increased by any positive Market Value Adjustment.
(If the Annuitant dies after the Annuity Date but before all guaranteed
annuity benefit payments have been made, the remaining payments will be paid to
the beneficiary at least as rapidly as under the annuity option in effect. See
"F. Death Benefit.")
WHAT CHARGES WILL I INCUR UNDER MY CONTRACT?
At each Contract anniversary and upon surrender, if the Accumulated Value is
less than $50,000, the Company will deduct a $30Contract fee from the Contract.
There will be no Contract fee if the Accumulated Value is $50,000 or more. The
Contract fee is waived for a Contract issued to and maintained by a trustee of a
401(k) plan.
Should you decide to surrender the Contract, make withdrawals, or receive
payments under certain annuity options, you may be subject to a contingent
deferred sales charge. If applicable, this charge will be between 2% and 7% of
payments withdrawn, based on when the payments were made.
Depending upon the state in which you live, a deduction for state and local
premium taxes, if any, may be made as described under "C. Premium Taxes."
Currently, the Company makes no charge for processing transfers. The first
12 transfers in a Contract year are guaranteed to be free of a transfer charge.
For each subsequent transfer in a Contract year, the Company reserves the right
to assess a charge which is guaranteed never to exceed $25.
The Company will deduct, on a daily basis, an annual mortality and expense
risk charge and administrative expense charge equal to 0.95% and 0.15%,
respectively, of the average daily net assets invested in each Portfolio. The
Portfolios will incur certain management fees and expenses described more fully
in "Other Charges" and in the IFS prospectus which accompanies this Prospectus.
Three optional riders (Enhanced Death Benefit Rider, Living Benefits Rider,
and Disability Rider) are available for an additional charge of 0.25%, 0.05% and
0.05%, respectively, which is deducted in arrears on a monthly basis. Due to
state law restrictions, the Living Benefits Rider and the Disability Rider are
not available under New York Contracts. For more information, see "Living
Benefits Rider" and Disability Rider" under "CHARGES AND DEDUCTIONS," and "F.
Death Benefit" under "DESCRIPTION OF THE CONTRACT."
For more information, see "CHARGES AND DEDUCTIONS."
9
<PAGE>
CAN I EXAMINE THE CONTRACT?
Yes. Your Contract will be delivered to you after your purchase. If you
return the Contract to the Company within ten days of receipt, the Contract will
be canceled. If you cancel the Contract, you will receive a refund of the
greater of (1) any amounts allocated to the Fixed and Guarantee Period Accounts
and the Accumulated Value of any amounts allocated to the Sub-Accounts (plus any
fees or charges that may have been deducted), or (2) your entire payment. See
"B. Right to Revoke Contract."
CAN I MAKE FUTURE CHANGES UNDER MY CONTRACT?
There are several changes you can make after receiving your Contract:
- You may assign your ownership to someone else, except under certain
qualified plans.
- You may change the beneficiary, unless you have designated a beneficiary
irrevocably.
- You may change your allocation of payments.
- You may make transfers of Contract value among your current investments
without any tax consequences.
- You may cancel the Contract within ten days of delivery (or longer if
required by law).
10
<PAGE>
ANNUAL AND TRANSACTION EXPENSES
The following tables show charges under your Contract, expenses of the
Sub-Accounts, and expenses of the Portfolios. In addition to the charges and
expenses described below, premium taxes are applicable in some states and
deducted as described under "C. Premium Taxes."
CONTRACT CHARGES
<TABLE>
<CAPTION>
YEARS FROM DATE
OF PAYMENT CHARGE
---------------- ---------
<S> <C> <C>
CONTINGENT DEFERRED SALES CHARGE: 0-1 7.0%
This charge may be assessed upon surrender, withdrawal or annuitization 2 6.0%
under any commutable period certain option or a non-commutable period 3 5.0%
certain option of less than ten years. The charge is a percentage of 4 4.0%
payments applied to the amount surrendered (in excess of any amount 5 3.0%
that is free of charge) within the indicated time periods. 6 2.0%
Thereafter 0.0%
TRANSFER CHARGE: None
The Company currently makes no charge for processing transfers and guarantees that the
first 12 transfers in a Contract year will not be subject to a transfer charge. For each
subsequent transfer, the Company reserves the right to assess a charge, guaranteed never
to exceed $25, to reimburse the Company for processing costs.
CONTRACT FEE: $ 30
The Contract fee is deducted annually and upon surrender prior to the Annuity Date when
the Accumulated Value is less than $50,000. The fee is waived for a Contract issued to and
maintained by the trustee of a 401(k) plan.
SUB-ACCOUNT EXPENSES:
(on annual basis as percentage of average daily net assets)
Mortality and Expense Risk Charge: 0.95%
Administrative Expense Charge: 0.15%
---------
Total Asset Charge: 1.10%
</TABLE>
<TABLE>
<CAPTION>
PORTFOLIO EXPENSES:
- -----------------------------------------------------------
(annual basis as percentage of average daily net assets)
MANAGEMENT OTHER TOTAL
PORTFOLIO FEE EXPENSES EXPENSES
- ----------------------------------------------------------- --------------- ----------- -----------
<S> <C> <C> <C>
Money Market............................................... 0.50% 0.10% 0.60%
Total Return............................................... 0.55% 0.04% 0.59%
High Yield................................................. 0.60% 0.05% 0.65%
Growth..................................................... 0.60% 0.04% 0.64%
Government Securities...................................... 0.55% 0.11% 0.66%
International.............................................. 0.75% 0.21% 0.96%
Small Cap Growth........................................... 0.75% 0.10% 0.75%
Investment Grade Bond...................................... 0.60% 0.25%* 0.85%
Value...................................................... 0.75% 0.20%* 0.95%
Small Cap Value............................................ 0.75% 0.20%* 0.95%
Value+Growth............................................... 0.75% 0.20%* 0.95%
Horizon 20+................................................ 0.60% 0.25%* 0.85%
Horizon 10+................................................ 0.60% 0.20%* 0.80%
Horizon 5.................................................. 0.60% 0.30%* 0.90%
Global Income.............................................. 0.75% 0.30%* 1.05%
Blue Chip.................................................. 0.65% 0.30%* 0.95%
</TABLE>
*Estimated First-Year Expenses
11
<PAGE>
EXAMPLES. The following examples demonstrate the cumulative expenses which
would be paid by the Owner at 1-year, 3-year, 5-year and 10-year intervals under
certain contingencies. Each example assumes a $1,000 investment in a Sub-Account
and a 5% annual return on assets, as required by rules of the SEC. Because the
expenses of the Portfolios differ, separate examples are used to illustrate the
expenses incurred by an Owner on an investment in the various Sub-Accounts.
THE INFORMATION GIVEN UNDER THE FOLLOWING EXAMPLES SHOULD NOT BE CONSIDERED
A REPRESENTATION OF PAST OR FUTURE EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR
LESSER THAN THOSE SHOWN.
(1) If, at the end of the applicable period, you surrender the Contract or
annuitize* under a commutable variable period certain option or a non-commutable
period certain option of less than ten years, you would pay the following
expenses on a $1,000 investment, assuming a 5% annual return on assets:
<TABLE>
<CAPTION>
UNDERLYING PORTFOLIO 1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ----------------------------------------------------------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Money Market............................................... $ 79 $ 100 $ 122 $ 201
Total Return............................................... $ 79 $ 100 $ 122 $ 200
High Yield................................................. $ 79 $ 102 $ 125 $ 206
Growth..................................................... $ 79 $ 102 $ 124 $ 205
Government Securities...................................... $ 79 $ 102 $ 125 $ 207
International.............................................. $ 82 $ 111 $ 140 $ 239
Small Cap Growth........................................... $ 80 $ 105 $ 130 $ 217
Investment Grade Bond...................................... $ 81 $ 108 $ 135 $ 227
Value...................................................... $ 82 $ 111 $ 140 $ 238
Small Cap Value............................................ $ 82 $ 111 $ 140 $ 238
Value+Growth............................................... $ 82 $ 111 $ 140 $ 238
Horizon 20+................................................ $ 81 $ 108 $ 135 $ 227
Horizon 10+................................................ $ 81 $ 106 $ 132 $ 222
Horizon 5.................................................. $ 82 $ 109 $ 137 $ 232
Global Income.............................................. $ 83 $ 113 $ 145 $ 248
Blue Chip.................................................. $ 82 $ 111 $ 142 $ 238
</TABLE>
(2) If, at the end of the applicable time period, you annuitize* under a
life option or a non-commutable period certain option of ten years or longer, or
if you do not surrender or annuitize the Contract, you would pay the following
expenses on a $1,000 investment, assuming a 5% annual return on assets:
<TABLE>
<CAPTION>
UNDERLYING PORTFOLIO 1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ----------------------------------------------------------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Money Market............................................... $ 17 $ 54 $ 92 $ 201
Total Return............................................... $ 17 $ 53 $ 92 $ 200
High Yield................................................. $ 18 $ 55 $ 95 $ 206
Growth..................................................... $ 18 $ 55 $ 94 $ 205
Government Securities...................................... $ 18 $ 55 $ 95 $ 207
International.............................................. $ 21 $ 65 $ 111 $ 239
Small Cap Growth........................................... $ 19 $ 58 $ 100 $ 217
Investment Grade Bond...................................... $ 20 $ 61 $ 105 $ 227
Value...................................................... $ 21 $ 64 $ 110 $ 238
Small Cap Value............................................ $ 21 $ 64 $ 110 $ 238
Value+Growth............................................... $ 21 $ 64 $ 110 $ 238
Horizon 20+................................................ $ 20 $ 61 $ 105 $ 227
Horizon 10+................................................ $ 19 $ 60 $ 103 $ 222
Horizon 5.................................................. $ 20 $ 63 $ 108 $ 232
Global Income.............................................. $ 22 $ 67 $ 115 $ 248
Blue Chip.................................................. $ 21 $ 64 $ 110 $ 238
</TABLE>
12
<PAGE>
As required in rules promulgated under the Investment Company Act of 1940
Act (the "1940 Act"), the Contract fee is reflected in the examples by a method
to show the "average" impact on an investment in the Variable Account. The total
Contract fees collected are divided by the total average net assets attributable
to the Contract. The resulting percentage is 0.03%, and the amount of the
Contract fee is assumed to be $0.30 in the examples. The Contract fee is
deducted only when the accumulated value is less than $50,000. Lower costs apply
to Contracts owned and maintained under a 401(k) plan.
* The Contract fee is not deducted after annuitization. No contingent
deferred sales charge is assessed at the time of annuitization under an option
including a life contingency or under a non-commutable period certain option of
ten years or longer.
OPTIONAL BENEFIT RIDERS. Subject to state availablity, the Company offers
three optional benefit riders that may be elected by the Owner. A separate
monthly charge is made for each rider selected. The applicable charge is equal
to Accumulated Value on the last day of each month and on the date a rider is
terminated multiplied by 1/12th of the following annual percentage rates:
<TABLE>
<CAPTION>
Enhanced Death Benefit Rider............................................ 0.25%
<S> <C>
Disability Rider........................................................ 0.05%
Living Benefits Rider................................................... 0.05%
</TABLE>
PERFORMANCE INFORMATION
The Contract first was offered to the public in 1997. The Company and IFS,
however, may advertise "Total Return" and "Average Annual Total Return"
performance information based on the periods that the Portfolios have been in
existence. The results for any period prior to the Contract being offered will
be calculated as if the Contract had been offered during that period of time,
with all charges assumed to be those applicable to the Sub-Accounts, the
Portfolios, and (in TABLE 1) assuming that the Contract is surrendered at the
end of the applicable period.
The "Total Return" of a Sub-Account refers to the total of the income
generated by an investment in the Sub-Account and of the changes in the value of
the principal (due to realized and unrealized capital gains or losses) for a
specified period, reduced by certain charges, and expressed as a percentage of
the investment.
The "Average Annual Total Return" represents the average annual percentage
change in the value of an investment in a Sub-Account over a given period of
time. Average Annual Total Return represents averaged figures as opposed to the
actual performance of a Sub-Account, which will vary from year to year.
The "Yield" of the Sub-Account investing in the Money Market Portfolio
refers to the income generated by an investment in the Sub-Account over a
seven-day period (which period will be specified in the advertisement). This
income is then "annualized" by assuming that the income generated in the
specific week is generated over a 52-week period. This annualized Yield is shown
as a percentage of the investment. The "Effective Yield" calculation is similar
but, when annualized, the income earned by an investment in the Sub-Account is
assumed to be reinvested. Thus the "Effective Yield" will be slightly higher
than the "Yield" because of the compounding effect of this assumed reinvestment.
The Total Return, Yield, and Effective Yield figures are adjusted to reflect
the Sub-Account's asset charges. The total return figures also reflect the $30
annual Contract fee and the contingent deferred sales charge which would be
assessed if the investment were completely surrendered at the end of the
specified period.
13
<PAGE>
The Company and IFS also may advertise supplemental total return performance
information. Supplemental total return refers to the total of the income
generated by an investment in the Sub-Account and of the changes in value of the
principal invested (due to realized and unrealized capital gains or losses),
adjusted by the Sub-Account's annual asset charges, and expressed as a
percentage of the investment. Because it is assumed that the investment is NOT
surrendered at the end of the specified period, the contingent deferred sales
charge is NOT included in the calculation of supplemental total return. (See
TABLE 2)
Performance information for a Sub-Account may be compared, in reports and
promotional literature, to: (1) the Standard & Poor's 500 Composite Stock Price
Index ("S&P 500"), Dow Jones Industrial Average ("DJIA"), Shearson Lehman
Aggregate Bond Index or other unmanaged indices so that investors may compare
the Sub-Account results with those of a group of unmanaged securities widely
regarded by investors as representative of the securities markets in general;
(2) other groups of variable annuity variable accounts or other investment
products tracked by Lipper Analytical Services, a widely used independent
research firm which ranks mutual funds and other investment products by overall
performance, investment objectives, and assets, or tracked by other services,
companies, publications, or persons, who rank such investment products on
overall performance or other criteria; or (3) the Consumer Price Index (a
measure for inflation) to assess the real rate of return from an investment in
the Sub-Account. Unmanaged indices may assume the reinvestment of dividends but
generally do not reflect deductions for administrative and management costs and
expenses.
PERFORMANCE INFORMATION FOR ANY SUB-ACCOUNT REFLECTS ONLY THE PERFORMANCE OF
A HYPOTHETICAL INVESTMENT IN THE SUB-ACCOUNT DURING THE PARTICULAR TIME PERIOD
ON WHICH THE CALCULATIONS ARE BASED. PERFORMANCE INFORMATION SHOULD BE
CONSIDERED IN LIGHT OF THE INVESTMENT OBJECTIVES AND POLICIES, CHARACTERISTICS
AND QUALITY OF THE INVESTMENT PORTFOLIO OF THE PORTFOLIO IN WHICH THE
SUB-ACCOUNT INVESTS AND THE MARKET CONDITIONS DURING THE GIVEN TIME PERIOD, AND
SHOULD NOT BE CONSIDERED AS A REPRESENTATION OF WHAT MAY BE ACHIEVED IN THE
FUTURE.
14
<PAGE>
TABLE I
AVERAGE ANNUAL TOTAL RETURNS FOR PERIODS ENDING DECEMBER 31, 1996
(ASSUMING COMPLETE SURRENDER OF INVESTMENT)
<TABLE>
<CAPTION>
10 YEARS
YEAR (OR SINCE
ENDED: 5 INCEPTION IF
UNDERLYING PORTFOLIO 12/31/96 YEARS LESS)*
- ------------------------------------------------------------------------------- ---------- ------------ ------------
<S> <C> <C> <C>
Money Market................................................................... -1.94% 2.52% 4.66%
Total Return................................................................... 8.66% 7.11% 10.72%
High Yield..................................................................... 6.15% 11.52% 9.95%
Growth......................................................................... 13.35% 11.44% 13.26%
Government Securities.......................................................... -4.55% 4.39% 6.54%
International.................................................................. 8.41% N/A 9.27%
Small Cap Growth............................................................... 19.69% N/A 20.20%
Investment Grade Bond.......................................................... N/A N/A -3.25%
Value.......................................................................... N/A N/A 9.62%
Small Cap Value................................................................ N/A N/A -4.85%
Value+Growth................................................................... N/A N/A 7.05%
Horizon 20+.................................................................... N/A N/A 7.77%
Horizon 10+.................................................................... N/A N/A 4.03%
Horizon 5...................................................................... N/A N/A 2.37%
Global Income.................................................................. N/A N/A N/A
Blue Chip...................................................................... N/A N/A N/A
</TABLE>
TABLE 2
AVERAGE ANNUAL TOTAL RETURNS FOR PERIODS ENDING DECEMBER 31, 1996
(ASSUMING NO SURRENDER OF INVESTMENT)
<TABLE>
<CAPTION>
10 YEARS
YEAR (OR SINCE
ENDED: 5 INCEPTION
UNDERLYING PORTFOLIO 12/31/96 YEARS IF LESS)*
- ------------------------------------------------------------------------------------ --------- --------- -----------
<S> <C> <C> <C>
Money Market........................................................................ 3.89% 3.05% 5.76%
Total Return........................................................................ 15.53% 7.56% 12.19%
High Yield.......................................................................... 12.86% 11.90% 12.58%
Growth.............................................................................. 20.35% 11.82% 13.34%
Government Securities............................................................... 1.49% 4.89% 6.54%
International....................................................................... 15.27% N/A 9.69%
Small Cap Growth.................................................................... 26.69% N/A 21.57%
Investment Grade Bond............................................................... N/A N/A 2.87%
Value............................................................................... N/A N/A 16.56%
Small Cap Value..................................................................... N/A N/A 1.17%
Value+Growth........................................................................ N/A N/A 13.82%
Horizon 20+......................................................................... N/A N/A 14.58%
Horizon 10+......................................................................... N/A N/A 10.41%
Horizon 5........................................................................... N/A N/A 8.84%
Global Income....................................................................... N/A N/A N/A
Blue Chip........................................................................... N/A N/A N/A
</TABLE>
*The inception dates for the Portfolios are: 3/5/82 for Money Market, Total
Return and High Yield; 12/9/83 for Growth; 9/3/87 for Government Securities;
1/6/92 for International; 5/2/94 for the Small Cap Growth; 5/1/96 for Investment
Grade Bond, Value, Small Cap Value, Value+Growth, Horizon 20+, Horizon 10+,
Horizon 5; and 5/1/97 for Global Income and Blue Chip.
15
<PAGE>
DESCRIPTION OF THE COMPANY, THE VARIABLE ACCOUNT,
AND INVESTORS FUND SERIES
THE COMPANY. The Company, organized under the laws of Massachusetts in
1844, is the fifth oldest life insurance company in America. As of December 31,
1996, the Company and its subsidiaries had over $13.3 billion in combined assets
and over $45.3 billion of life insurance in force. Effective October 16, 1995,
the Company converted from a mutual life insurance company known as State Mutual
Life Assurance Company of America to a stock life insurance company and adopted
its present name. The Company is a wholly owned subsidiary of Allmerica
Financial Corporation ("AFC"). The Company's principal office is located at 440
Lincoln Street, Worcester MA 01653, Telephone 508-855-1000 ("Principal Office").
The Company is subject to the laws of the Commonweatlh of Massachusetts
governing insurance companies and to regulation by the Commissioner of
Massachusetts. In addition, the Company is subject to the insurance laws and
regulations of other states and jurisdictions in which it is licensed to
operate.
VARIABLE ACCOUNT. Separate Account KGC ("Variable Account") is a separate
investment account of the Company with 16 Sub-Accounts. The assets used to fund
the variable portions of the Contract are set aside in Sub-Accounts kept
separate from the general assets of the Company. Each Sub-Account invests in a
corresponding investment series ("Portfolio") of Investors Fund Series. Each
Sub-Account is administered and accounted for as part of the general business of
the Company. The income, capital gains, or capital losses of each Sub-Account ,
however, are allocated to each Sub-Account, without regard to any other income,
capital gains or capital losses of the Company. Under Massachusetts law, the
assets of the Variable Account may not be charged with any liabilities arising
out of any other business of the Company.
The Variable Account was authorized by vote of the Board of Directors of the
Company on June 13, 1996. The Variable Account meets the definition of "separate
account" under federal securities laws, and is registered with the SEC as a unit
investment trust under the 1940 Act. This registration does not involve the
supervision of management or investment practices or policies of the Variable
Account by the SEC.
The Company reserves the right, subject to compliance with applicable law,
to change the names of the Variable Account and the Sub-Accounts.
INVESTORS FUND SERIES. The Variable Account invests in shares of Investors
Fund Series, ("IFS"), a series-type mutual fund registered with the SEC as an
open-end management investment company. Registration of IFS does not involve
supervision of its management, investment practices or policies by the SEC. IFS
is designed to provide an investment vehicle for certain variable annuity
contracts and variable life insurance policies. Shares of the Portfolios of IFS
are sold only to insurance company separate accounts.
INVESTMENT OBJECTIVES AND POLICIES
The investment objectives of the 16 Portfolios of IFS are summarized below:
MONEY MARKET PORTFOLIO seeks maximum current income to the extent consistent
with stability of principal from a portfolio of high quality money market
instruments that mature in 12 months or less.
TOTAL RETURN PORTFOLIO seeks a high total return, a combination of income
and capital appreciation, by investing in a combination of debt securities and
common stocks.
HIGH YIELD PORTFOLIO seeks to provide a high level of current income by
investing in fixed-income securities.
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GROWTH PORTFOLIO seeks maximum appreciation of capital through
diversification of investment securities having potential for capital
appreciation.
GOVERNMENT SECURITIES PORTFOLIO seeks high current return consistent with
preservation of capital from a portfolio composed primarily of U.S. Government
securities.
INTERNATIONAL PORTFOLIO seeks total return, a combination of capital growth
and income, principally through an internationally diversified portfolio of
equity securities.
SMALL CAP GROWTH PORTFOLIO seeks maximum appreciation of investors' capital
from a portfolio primarily of growth stocks of smaller companies.
INVESTMENT GRADE BOND PORTFOLIO seeks high current income by investing
primarily in a diversified portfolio of investment grade debt securities.
VALUE PORTFOLIO seeks to achieve a high rate of total return from a
portfolio primarily of value stocks of larger companies.
SMALL CAP VALUE PORTFOLIO seeks long-term capital appreciation from a
portfolio primarily of value stocks of smaller companies.
VALUE+GROWTH PORTFOLIO seeks growth of capital through professional
management of a portfolio of growth and value stocks.
HORIZON 20+ PORTFOLIO, designed for investors with approximately a 20+ year
investment horizon, seeks growth of capital, with income as a secondary
objective.
HORIZON 10+ PORTFOLIO, designed for investors with approximately a 10+ year
investment horizon, seeks a balance between growth of capital and income,
consistent with moderate risk.
HORIZON 5 PORTFOLIO, designed for investors with approximately a five- year
investment horizon, seeks income consistent with preservation of capital, with
growth of capital as a secondary objective.
GLOBAL INCOME PORTFOLIO seeks high current income consistent with prudent
total return asset management by investing primarily in investment grade foreign
and domestic fixed income securities.
BLUE CHIP PORTFOLIO seeks growth of capital and of income by investing
primarily in common stocks of well capitalized, established companies having
potential for growth of capital, earnings and dividends.
There is no assurance that any of the Portfolios of IFS will achieve its
objective as stated in IFS's prospectus. Each Portfolio is diversified except
for the Global Income Portfolio. More detailed information, including a
description of risks involved in investing in each of the portfolios, may be
found in the prospectus for IFS, which must accompany or precede this
Prospectus, and IFS's Statement of Additional Information available upon request
from IFS, 222 South Riverside Plaza, Chicago, IL 60606. Please read the
prospectus of IFS carefully before investing.
INVESTMENT MANAGEMENT SERVICES
Responsibility for overall management of IFS rests with the Board of
Trustees and officers of IFS. ZKI is the investment manager of each Portfolio
other than the Value and Small Cap Value Portfolios who are managed by DVA, a
wholly owned subsidiary of ZKI. ZKI and DVA provide each Portfolio with
continuous professional investment supervision. DVA is also the sub-adviser for
the Value+Growth, Horizon 20+, Horizon 10+, and Horizon 5 Portfolios. Under the
terms of its Sub-Advisory Agreement with ZKI, DVA will manage the value portion
of each of these Portfolios and will provide such other investment advice,
research and assistance as ZKI may, from time to time, reasonably request. ZIML,
an affiliate of ZKI, is a sub-adviser of certain Portfolios of the
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Fund described below. Under the terms of the Sub-Advisory Agreement between ZIML
and ZKI for the Total Return, High Yield, Growth, Small Cap Growth, Investment
Grade Bond, Value+Growth, Horizon 20+, Horizon 10+, Horizon 5, and Blue Chip
Portfolios, ZIML renders investment advisory and management services with regard
to that portion of a Portfolio's assets as may be allocated by ZKI to ZIML from
time to time for management of foreign securities, including foreign currency
transactions and related investments. Under the terms of the Sub-Advisory
Agreement between ZIML and ZKI for the International and Global Income
Portfolios, ZIML renders investment advisory and management services with regard
to that portion of the Portfolio's assets as may be allocated by ZKI to ZIML
from time to time for management, including services related to foreign
securities, foreign currency transactions and related investments.
For its services, ZKI is paid a management fee based upon the average daily
net assets of such Portfolios, as follows: Money Market (.50 of 1%), Total
Return (.55 of 1%), High Yield (.60 of 1%), Growth (.60 of 1%), Government
Securities (.55 of 1%), International (.75 of 1%),, Small Cap Growth (.65 of
1%), Investment Grade Bond (.60 of 1%), Value+Growth (.75 of 1%), Horizon 20+
(.60 of 1%), Horizon 10+ (.60 of 1%), Horizon 5 (.60 of 1%), Global Income (.75
of 1%)and Blue Chip (.65 of 1%). DVA serves as the investment manager for the
Value and Small Cap Value Portfolios and is paid a management fee at an annual
rate of .75 of 1% of the average daily net assets of these Portfolios. ZKI pays
DVA for its services as sub-adviser for the Value+Growth Portfolio, a
sub-advisory fee, payable monthly at an annual rate of 0.25% of the portion of
that Portfolio. ZKI also pays DVA an advisory fee, payable monthly, at an annual
rate of 0.25% of the portion of average daily net assets of each Horizon
Portfolio allocated by ZKI to DVA for management. ZKI pays ZIML for its services
as a sub-advisory fee, payable monthly at the following annual rates applied to
that portion of the average daily net assets of the applicable Portfolio
allocated by ZKI to ZIML for management: 0.35% for the Growth, International,
Small Cap Growth, Total Return, Value+Growth, Horizon 20+, Horizon 10+, Horizon
5, and Blue Chip Portfolios; and 0.30 for the High Yield, Investment Grade Bond
and Global Income Portfolios. For more information, see the IFS prospectus and
SAI.
DESCRIPTION OF THE CONTRACT
A. PAYMENTS.
The Company's underwriting requirements, which include receipt of the
initial payment and allocation instructions by the Company at its Principal
Office, must be met before a Contract can be issued. These requirements may also
include the proper completion of an application; however, where permitted, the
Company may issue a contract without completion of an application for certain
classes of annuity contracts. Payments are to be made payable to the Company. A
net payment is equal to the payment received less the amount of any applicable
tax. The initial net payment will be credited to the Contract as of the date
that all issue requirements are properly met. If all issue requirements are not
complied with within five business days of the Company's receipt of the initial
payment, the payment will be returned unless the Owner specifically consents to
the holding of the initial payment until completion of any outstanding issue
requirements. Subsequent payments will be credited as of the Valuation Date
received at the Principal Office.
Payments are not limited as to frequency and number, but there are certain
limitations as to amount. Currently, the initial payment must be at least
$2,000. Under a salary deduction or monthly automatic payment plan, the minimum
initial payment is $167. In all cases, each subsequent payment must be at least
$100. Where the contribution on behalf of an employee under an
employer-sponsored retirement plan is less than $600 but more than $300
annually, the Company may issue a contract on the employee if the plan's average
annual
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contribution per eligible plan participant is at least $600. The minimum
allocation to a Guarantee Period Account is $1,000. If less than $1,000 is
allocated to a Guarantee Period Account, the Company reserves the right to apply
that amount to the Money Market Portfolio.
Generally, unless otherwise requested, all payments will be allocated among
the accounts in the same proportion that the initial net payment is allocated
or, if subsequently changed, according to the most recent allocation
instructions. However, any portion of the initial net payment and of additional
net payments received during the Contract's first 15 days measured from the date
of issue, allocated to any Sub-Account and/or any Guarantee Period Account, will
be held in the Money Market Portfolio until the end of the 15-day period.
Thereafter, these amounts will be allocated as requested.
The Owner may change allocation instructions for new payments pursuant to a
written or telephone request. If telephone requests are elected by the Owner, a
properly completed authorization must be on file before telephone requests will
be honored. The Company will not be responsible for losses resulting from acting
upon telephone requests reasonably believed to be genuine. The Company will
employ reasonable procedures to confirm that instructions communicated by
telephone are genuine; otherwise, the Company may be liable for any losses due
to unauthorized or fraudulent instructions. The procedures the Company follows
for transactions initiated by telephone include requirements that callers on
behalf of an Owner identify themselves by name and identify the Annuitant by
name, date of birth and social security number. All transfer instructions by
telephone are tape recorded.
B. RIGHT TO REVOKE CONTRACT.
An Owner may revoke the Contract at any time within ten days after receipt
of the Contract and receive a refund. In order to revoke the Contract, the Owner
must mail or deliver the Contract to the agent through whom the Contract was
purchased or to the Company's Principal Office at 440 Lincoln Street, Worcester,
MA 01653. Mailing or delivery must occur on or before ten days after receipt of
the Contract for revocation to be effective.
Within seven days the Company will provide a refund equal to the greater of
(1) gross payments, or (2) any amounts allocated to the Fixed and Guarantee
Perioid Accounts and the Accumulated Value of amounts allocates to the
Sub-Accounts, plus any amounts deducted under the Contract or by the Portfolios
for taxes, charges or fees.
The liability of the Variable Account under this provision is limited to the
Owner's Accumulated Value in the Sub-Accounts on the date of cancellation. Any
additional amounts refunded to the Owner will be paid by the Company.
C. TRANSFER PRIVILEGE.
At any time prior to the Annuity Date an Owner may have amounts transferred
among all accounts. Transfer values will be effected at the Accumulation Value
next computed after receipt of the transfer order. The Company will make
transfers pursuant to written or telephone requests. As discussed in "A.
Payments," a properly completed authorization form must be on file before
telephone requests will be honored. In Oregon and Massachusetts, payments and
transfers to the Fixed Account are subject to certain restrictions. See
"APPENDIX A. MORE INFORMATION ABOUT THE FIXED ACCOUNT."
Transfers to a Guarantee Period Account must be at least $1,000. If the
amount to be transferred to a Guarantee Period Account is less than $1,000, the
Company may transfer that amount to the Sub-Account which invests in the Money
Market Portfolio.
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AUTOMATIC TRANSFERS (DOLLAR COST AVERAGING) AND AUTOMATIC ACCOUNT
REBALANCING OPTIONS. The Owner may elect automatic transfers of a predetermined
dollar amount, not less than $100, on a periodic basis (monthly, bi-monthly,
quarterly, semi-annually or annually) from the Sub-Account investing in the
Money Market Portfolio or the Government Securities Portfolio, or from the Fixed
Account (the source account) to one or more of the Sub-Accounts. Automatic
transfers may not be made into the Fixed Account, the Guarantee Period Accounts
or, if applicable, the Portfolio being used as the source account. If an
automatic transfer would reduce the balance in the source account to less than
$100, the entire balance will be transferred proportionately to the chosen
Portfolios. Automatic transfers will continue until the amount in the source
account on a transfer date is zero or the Owner's request to terminate the
option is received by the Company. If additional amounts are allocated to the
source account after its balance has fallen to zero, this option will not
restart automatically, and the Owner must provide a new request to the Company.
The Owner may request automatic rebalancing of Sub-Account allocations on a
monthly, quarterly, semi-annual or annual basis in accordance with percentage
allocations specified by the Owner. As frequently as specified by the Owner, the
Company will review the percentage allocations in the Portfolios and, if
necessary, transfer amounts to ensure conformity with the designated percentage
allocation mix. If the amount necessary to re-establish the mix on any scheduled
date is less than $100, no transfer will be made. Automatic Account Rebalancing
will continue until the Owner's request to terminate the option is received by
the Company.
The Company reserves the right to limit the number of Portfolios that may be
utilized for automatic transfers and rebalancing, and to discontinue either
option upon advance written notice. The first automatic transfer and all
subsequent transfers of that request in the same Contract year count as one
transfer towards the 12 transfers which are guaranteed to be free of a transfer
charge in each Contract year. Currently, Dollar Cost Averaging and Automatic
Account Rebalancing may not be in effect simultaneously. Either option may be
elected when the Contract is purchased or at a later date.
D. SURRENDER.
At any time prior to the Annuity Date, an Owner may surrender the Contract
and receive its Surrender Value. The Owner must return the Contract and a
signed, written request for surrender, satisfactory to the Company, to the
Principal Office. The amount payable to the Owner upon surrender will be based
on the Contract's Accumulated Value as of the Valuation Date on which the
request and the Contract are received at the Principal Office.
Before the Annuity Date, a contingent deferred sales charge may be deducted
when a Contract is surrendered if payments have been credited to the Contract
during the last six full Contract years. See "CHARGES AND DEDUCTIONS." The
Contract fee will be deducted upon surrender of the Contract.
After the Annuity Date, only a Contract under which future annuity benefit
payments are limited to a specified period (as specified in the Period Certain
Annuity Option ) may be surrendered. The Surrender Amount is the commuted value
of any unpaid installments, computed on the basis of the assumed interest rate
incorporated in such annuity benefit payments. No contingent deferred sales
charge is imposed after the Annuity Date.
Any amount surrendered normally is payable within seven days following the
Company's receipt of the surrender request. The Company reserves the right to
defer surrenders and withdrawals of amounts in each Sub-Account in any period
during which (1) trading on the New York Stock Exchange is restricted as
determined by the SEC or such Exchange is closed for other than weekends and
holidays, (2) the SEC has, by order, permitted such suspension, or (3) an
emergency, as determined by the SEC, exists such that disposal of Portfolio
securities or valuation of assets of each separate account is not reasonably
practicable.
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The right is reserved by the Company to defer surrenders and withdrawals of
amounts allocated to the Company's Fixed Account and Guarantee Period Accounts
for a period not to exceed six months.
The surrender rights of Owners who are participants under Section 403(b)
plans or who are participants in the Texas Optional Retirement Program ("Texas
ORP") are restricted; see "FEDERAL TAX CONSIDERATIONS, "Tax Sheltered Annuities"
and "Texas Optional Retirement Program."
For important tax consequences which may result from surrender, see "FEDERAL
TAX CONSIDERATIONS."
E. WITHDRAWALS.
At any time prior to the Annuity Date, an Owner may withdraw a portion of
the Accumulated Value of his or her Contract, subject to the limits stated
below. The Owner must file a signed, written request for withdrawals,
satisfactory to the Company, at the Principal Office. The written request must
indicate the dollar amount the Owner wishes to receive and the accounts from
which such amount is to be withdrawn. The Contract value following the
withdrawal will reflect an amount withdrawn equal to the amount requested by the
Owner plus any applicable contingent deferred sales charge, as described under
"CHARGES AND DEDUCTIONS." In addition, amounts withdrawn from a Guarantee Period
Account prior to the end of the applicable Guarantee Period will be subject to a
Market Value Adjustment, as described under "GUARANTEE PERIOD ACCOUNTS."
Where allocations have been made to more than one account, a percentage of
the withdrawal may be allocated to each such account. A withdrawal from a
Sub-Account will result in cancellation of a number of units equivalent in value
to the amount withdrawn, computed as of the Valuation Date that the request is
received at the Principal Office.
Each withdrawal must be in a minimum amount of $100. No withdrawal will be
permitted if the Accumulated Value remaining under the Contract would be reduced
to less than $1,000. Withdrawals will be paid in accordance with the time
limitations described under "B. Surrender."
After the Annuity Date, only a Contract under which future variable annuity
benefit payments are limited to a specified period may be withdrawn. A
withdrawal after the Annuity Date will result in cancellation of a number of
Annuity Units equivalent in value to the amount withdrawn.
For important restrictions on withdrawals which are applicable to Owners who
are participants under Section 403(b) plans or under the Texas ORP, see "FEDERAL
TAX CONSIDERATIONS," "Tax Sheltered Annuities" and "Texas Optional Retirement
Program."
For important tax consequences which may result from withdrawals, see
"FEDERAL TAX CONSIDERATIONS."
SYSTEMATIC WITHDRAWALS. The Owner may elect an automatic schedule of
withdrawals (systematic withdrawals) from amounts in the Sub-Accounts and/or the
Fixed Account on a monthly, bi-monthly, quarterly, semi-annual or annual basis.
Systematic withdrawals from Guarantee Period Accounts are not available. The
minimum amount of each automatic withdrawal is $100, and will be subject to any
applicable withdrawal charges. If elected at the time of purchase, the Owner
must designate in writing the specific dollar amount of each withdrawal and the
percentage of this amount which should be taken from each designated Sub-Account
and/or the Fixed Account. Systematic withdrawals then will begin on the 16th day
following the issue date or the date elected by the Owner, if later. If elected
after the issue date, the owner may elect, by written request, a specific dollar
amount and the percentage of this amount to be taken from each designated
Sub-Account and/or the Fixed Account, or the Owner may elect to withdraw a
specific percentage of the Accumulated Value calculated as of the
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withdrawal dates, and may designate the percentage of this amount which should
be taken from each account. The first withdrawal will take place on the date the
written request is received at the Principal Office or, if later, on a date
specified by the Owner.
If a withdrawal would cause the remaining Accumulated Value to be less than
$1,000, systematic withdrawals will be discontinued. Systematic withdrawals will
cease automatically on the Annuity Date. The Owner may change or terminate
systematic withdrawals by written request to the Principal Office only.
LIFE EXPECTANCY DISTRIBUTIONS. Prior to the Annuity Date an Owner who also
is the Annuitant may elect to make a series of systematic withdrawals from the
Contract according to a life expectancy distribution ("LED") option by returning
a properly signed LED request form to the Principal Office. The LED option
permits the Owner to make systematic withdrawals from the Contract over his or
her lifetime. The amount withdrawn from the Contract changes each year, because
life expectancy changes each year that a person lives. For example, actuarial
tables indicate that a person age 70 has a life expectancy of 16 years, but a
person who attains age 86 has a life expectancy of another 6.5 years.
If an Owner elects the LED option, in each calendar year a fraction of the
Accumulated Value is withdrawn based on the Owner's then life expectancy. The
numerator of the fraction is 1 (one) and the denominator of the fraction is the
remaining life expectancy of the Owner, as determined annually by the Company.
The resulting fraction, expressed as a percentage, is applied to the Accumulated
Value at the beginning of the year to determine the amount to be distributed
during the year. The Owner may elect monthly, bi-monthly, quarterly,
semi-annual, or annual distributions, and may terminate the LED option at any
time. The Owner also may elect to receive distributions under a LED option which
is determined on the joint life expectancy of the Owner and a beneficiary. The
Company also may offer other systematic withdrawal options.
If an Owner makes withdrawals under the LED option prior to age 59 1/2, the
withdrawals may be treated by the Internal Revenue Service ("IRS") as premature
distributions from the Contract. The payments then would be taxed on an "income
first" basis and be subject to a 10% federal tax penalty. For more information,
see "FEDERAL TAX CONSIDERATIONS," "B. Taxation of the Contracts in General."
F. DEATH BENEFIT.
If the Annuitant dies (or an Owner predeceases the Annuitant) prior to the
Annuity Date while the Contract is in force, the Company will pay the
beneficiary a death benefit, except where the Contract continues as provided in
"G. The Spouse of the Owner as Beneficiary."
DEATH OF THE ANNUITANT PRIOR TO THE ANNUITY DATE.
STANDARD DEATH BENEFIT. Upon the death of the Annuitant (including an Owner
who is also the Annuitant), the standard death benefit is equal to the greater
of:
(a) the Accumulated Value under the Contract increased for any positive
Market Value Adjustment, or
(b) the sum of the gross payments reduced proportionately to reflect
withdrawals. For each withdrawal, the proportionate reduction is
calculated as the death benefit under this option immediately prior to
the withdrawal multiplied by the withdrawal amount and divided by the
Accumulated Value immediately prior to the withdrawal.
ENHANCED DEATH BENEFIT RIDER. At the time of application for the Contract,
the Owner may elect an optional Enhanced Death Benefit Rider. Under the Enhanced
Death Benefit Rider, if the Annuitant dies before the Annuity Date, the death
benefit will be the greatest of:
(a) the Accumulated Value increased by any positive Market Value Adjustment,
or
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(b) gross payments, reduced proportionately to reflect withdrawals. For each
withdrawal, the proportionate reduction is calculated as the death
benefit under this option immediately prior to the withdrawal multiplied
by the withdrawal amount and divided by the Accumulated Value immediately
prior to the withdrawal, or
(c) the highest Accumulated Value that would have been payable as a death
benefit on the Contract anniversary, increased for subsequent payments,
and decreased proportionately for subsequent withdrawals.
A separate charge is made for an optional Enhanced Death Benefit Rider. On
the last day of each month and on the date the Rider is terminated, a charge
equal to 11/12th of an annual rate of 0.25% is made against the Accumulated
Value of the Contract at that time. The charge is made through a pro-rate
reduction (based on relative values) of Accumulation Units in the Sub-Accounts,
of dollar amounts in the Fixed Account, and of Dollar amounts in the Guarantee
Period Accounts.
DEATH OF AN OWNER WHO IS NOT ALSO THE ANNUITANT PRIOR TO THE ANNUITY DATE.
Under either death benefit, if an Owner who is not also the Annuitant dies
before the Annuity Date, the death benefit will be the Accumulated Value
increased by any positive Market Value Adjustment. The death benefit never will
be reduced by a negative Market Value Adjustment.
PAYMENT OF THE DEATH BENEFIT PRIOR TO THE ANNUITY DATE. The death benefit
generally will be paid to the beneficiary in one sum within seven business days
of the receipt of due proof of death at the Principal Office unless the Owner
has specified a death benefit annuity option. Instead of payment in one sum, the
beneficiary may, by written request, elect to:
(1) defer distribution of the death benefit for a period no more than five
years from the date of death; or
(2) receive a life annuity or an annuity for a period certain not extending
beyond the beneficiary's life expectancy, with annuity benefit payments
beginning one year from the date of death.
If distribution of the death benefit is deferred under (1) or (2), any value
in the Guarantee Period Accounts will be transferred to the Sub-Account
investing in the Money Market Portfolio. The excess, if any, of the enhanced
death benefit over the Accumulated Value also will be added to the Money Market
Portfolio. The beneficiary may, by written request, effect transfers and
withdrawals during the deferral period and prior to annuitization under (2), but
may not make additional payments. The death benefit will reflect any earnings or
losses experienced during the deferral period. If there are multiple
beneficiaries, the consent of all is required.
With respect to the death benefit, the Accumulated Value under the Contract
will be based on the unit values next computed after due proof of the death has
been received.
DEATH OF THE ANNUITANT AFTER THE ANNUITY DATE. If the Annuitant's death
occurs on or after the Annuity Date but before completion of all guaranteed
annuity benefit payments, any unpaid amounts or installments will be paid to the
beneficiary. The Company must pay out the remaining payments at least as rapidly
as under the payment option in effect on the date of the Annuitant's death.
G. THE SPOUSE OF THE OWNER AS BENEFICIARY.
The Owner's spouse, if named as the sole beneficiary, may by written request
continue the Contract in lieu of receiving the amount payable upon death of the
Owner. Upon such election, the spouse will become the Owner and Annuitant
subject to the following: (1) any value in the Guarantee Period Accounts will be
transferred to the Money Market Portfolio; (2) the excess, if any, of the death
benefit over the Contract's Accumulated Value also will be added to the Money
Market Portfolio. This value never will be subject to a surrender charge when
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withdrawn. Additional payments may be made; however, a surrender charge will
apply to these amounts if they have not been invested in the Contract for more
than six years. All other rights and benefits provided in the Contract will
continue, except that any subsequent spouse of such new Owner will not be
entitled to continue the Contract upon such new Owner's death.
H. ASSIGNMENT.
The Contract, other than those sold in connection with certain qualified
plans, may be assigned by the Owner at any time prior to the Annuity Date and
while the Annuitant is alive (see "FEDERAL TAX CONSIDERATIONS"). The Company
will not be deemed to have knowledge of an assignment unless it is made in
writing and filed at the Principal Office. The Company will not assume
responsibility for determining the validity of any assignment. If an assignment
of the Contract is in effect on the Annuity Date, the Company reserves the right
to pay to the assignee, in one sum, that portion of the Surrender Value of the
Contract to which the assignee appears to be entitled. The Company will pay the
balance, if any, in one sum to the Owner in full settlement of all liability
under the Contract. The interest of the Owner and of any beneficiary will be
subject to any assignment.
I. ELECTING THE FORM OF ANNUITY AND ANNUITY DATE.
The Annuity Date is selected by the Owner. To the extent permitted in your
state, the Annuity Date may be the first day of any month: (1) before the
Annuitant's 85th birthday, if the Annuitant's age on the issue date of the
Contract is 75 or under, or (2) within ten years from the issue date of the
Contract and before the Annuitant's 90th birthday, if the Annuitant's age on the
issue date is between 76 and 90. The Owner may elect to change the Annuity Date
by sending a request to the Principal Office at least one month before the new
Annuity Date. The new Annuity Date must be the first day of any month occurring
before the Annuitant's 90th birthday, and must be within the life expectancy of
the Annuitant. The Company shall determine such life expectancy at the time a
change in Annuity Date is requested. The Internal Revenue Code (the "Code") and
the terms of qualified plans impose limitations on the age at which annuity
benefit payments may commence and the type of annuity payout option selected.
See "FEDERAL TAX CONSIDERATIONS" for further information.
Subject to certain restrictions described below, the Owner has the right (1)
to select the annuity payout option under which annuity benefit payments are to
be made, and (2) to determine whether payments are to be made on a fixed basis,
a variable basis, or a combination fixed and variable basis. Annuity benefit
payments are determined according to the annuity tables in the Contract, by the
annuity option selected, and by the investment performance of the Accounts
selected.
To the extent a fixed annuity payout is selected, Accumulated Value will be
transferred to the Fixed Account, and the annuity benefit payments will be fixed
in amount. See "APPENDIX A. MORE INFORMATION ABOUT THE FIXED ACCOUNT."
Under a variable annuity payout, a payment equal to the value of the fixed
number of Annuity Units in the Sub-Accounts is made monthly, quarterly,
semi-annually or annually. Since the value of an Annuity Unit in a Sub-Account
will reflect the investment performance of the Sub-Account, the amount of each
annuity benefit payment will vary.
The annuity payout option selected must produce an initial payment of at
least $50 (a lower amount may be required in some states). The Company reserves
the right to increase this minimum amount. If the annuity payout option selected
does not produce an initial payment which meet this minimum, a single payment
will be made. Once the Company begins making annuity benefit payments, the
Annuitant cannot make withdrawals or surrender the annuity benefit, except where
the Annuitant has elected a commutable period certain option.
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Beneficiaries entitled to receive remaining payments under either a commutable
or non-commutable "period certain" may elect instead to receive a lump sum
settlement. See "J. Description of Variable Annuity Payout Options."
If the Owner does not elect otherwise, a variable life annuity with periodic
payments for ten years guaranteed will be purchased. Changes in either the
Annuity Date or annuity option can be made up to one month prior to the Annuity
Date.
J. DESCRIPTION OF VARIABLE ANNUITY PAYOUT OPTIONS.
The Company provides the variable annuity payout options described below.
Currently, variable annuity payout options may be funded through the
Sub-Accounts investing in the Investment Grade Bond, Value+Growth, Horizon 10+
and Horizon 5 Portfolios. The Company also provides these same options funded
through the Fixed Account (fixed-amount annuity option). Regardless of how
payments were allocated during the accumulation period, any of the variable
annuity options or the fixed-amount options may be selected, or any of the
variable annuity options may be selected in combination with any of the
fixed-amount annuity options. Other annuity options may be offered by the
Company. IRS regulations may not permit certain of the available annuity options
when used in connection with certain qualified Contracts.
VARIABLE LIFE ANNUITY WITH PAYMENTS GUARANTEED FOR TEN YEARS. This variable
annuity is payable periodically during the lifetime of the payee with the
guarantee that if the payee should die before all payments have been made, the
remaining annuity benefit payments will continue to the beneficiary.
VARIABLE LIFE ANNUITY PAYABLE PERIODICALLY DURING THE LIFETIME OF THE
ANNUITANT ONLY. It would be possible under this option for the Annuitant to
receive only one annuity benefit payment if the Annuitant dies prior to the due
date of the second annuity benefit payment, two annuity benefit payments if the
Annuitant dies before the due date of the third annuity benefit payment, and so
on. Payments will continue, however, during the lifetime of the Annuitant, no
matter how long he or she lives.
UNIT FUND VARIABLE LIFE ANNUITY. This is an annuity payable periodically
during the lifetime of the payee with the guarantee that if (1) exceeds (2) then
periodic variable annuity benefit payments will continue to the beneficiary
until the number of such payments equals the number determined in (1) where:
(1) is the dollar amount of the Accumulated Value divided by the dollar
amount of the first payment, and
(2) is the number of payments paid prior to the death of the payee.
JOINT AND SURVIVOR VARIABLE LIFE ANNUITY. This variable annuity is payable
jointly to two payees during their joint lifetime, and then continues thereafter
during the lifetime of the survivor. The amount of each payment to the survivor
is based on the same number of Annuity Units which applied during the joint
lifetime of the two payees. One of the payees must be either the person
designated as the Annuitant in the Contract or the beneficiary. There is no
minimum number of payments under this option.
JOINT AND TWO-THIRDS SURVIVOR VARIABLE LIFE ANNUITY. This variable annuity
is payable jointly to two payees during their joint lifetime, and then continues
thereafter during the lifetime of the survivor. The amount of each periodic
payment to the survivor, however, is based upon two-thirds of the number of
Annuity Units which applied during the joint lifetime of the two payees. One of
the payees must be the person designated as the Annuitant or the beneficiary in
the Contract. There is no minimum number of payments under this option.
25
<PAGE>
PERIOD CERTAIN VARIABLE ANNUITY. This variable annuity has periodic
payments for a stipulated number of years ranging from one to 30. This option
may be commutable, that is, the payee reserves the right to receive a lump sum
in place of installments, or it becomes non-commutable. The payee must reserve
this right at the time benefits begin.
It should be noted that the period certain option does not involve a life
contingency. In the computation of the payments under this option, the charge
for annuity rate guarantees, which includes a factor for mortality risks, is
made. Although not contractually required to do so, the Company currently
follows a practice of permitting persons receiving payments under the period
certain option to elect to convert to a variable annuity involving a life
contingency. The Company may discontinue or change this practice at any time,
but not with respect to election of the option made prior to the date of any
change in this practice. See "FEDERAL TAX CONSIDERATIONS" for a discussion of
the possible adverse tax consequences of selecting a Period Certain Option.
K. ANNUITY BENEFIT PAYMENTS.
THE ANNUITY UNIT. On and after the Annuity Date, the Annuity Unit is a
measure of the value of the Annuitant's monthly annuity benefit payments under a
variable annuity option. The value of an Annuity Unit in each Sub-Account
initially was set at $1.00. The value of an Annuity Unit under a Sub-Account on
any Valuation Date thereafter is equal to the value of such unit on the
immediately preceding Valuation Date, multiplied by the product of (1) the net
investment factor of the Sub-Account for the current Valuation Period, and (2) a
factor to adjust benefits to neutralize the assumed interest rate. The assumed
interest rate, discussed below, is incorporated in the variable annuity options
offered in the Contract.
DETERMINATION OF THE FIRST AND SUBSEQUENT ANNUITY BENEFIT PAYMENTS. The
first periodic annuity benefit payment is based upon the Accumulated Value as of
a date not more than four weeks preceding the date that the first annuity
benefit payment is due. Variable annuity benefit payments are due on the first
of a month, which is the date the payment is to be received by the Annuitant,
and currently are based on unit values as of the 15th day of the preceding
month.
The Contract provides annuity rates which determine the dollar amount of the
first periodic payment under each form of annuity for each $1,000 of applied
value. For life contingency options and non-commutable period certain options of
ten or more years, (six or more years under New York Contracts), the annuity
value is the Accumulated Value less any premium taxes and adjusted for any
Market Value Adjustment. For commutable period certain options or any period
certain option less than ten years (less than six under New York Contracts), the
value is surrender value less any premium tax. For a death benefit annuity, the
annuity value will be the amount of the death benefit. The annuity rates in the
Contract are based on a modification of the 1983(a) Individual Mortality Table
on rates.
The amount of the first monthly payment depends upon the form of annuity
selected, the sex (however, see "M. NORRIS Decision") and age of the Annuitant
and the value of the amount applied under the annuity option. The variable
annuity options offered by the Company are based on a 3.5% assumed interest
rate. Variable payments are affected by the assumed interest rate used in
calculating the annuity option rates. Variable annuity benefit payments will
increase over periods when the actual net investment result of the Sub-Accounts
funding the annuity exceeds the equivalent of the assumed interest rate for the
period. Variable annuity benefit payments will decrease over periods when the
actual net investment result of the respective Sub-Account is less than the
equivalent of the assumed interest rate for the period.
The dollar amount of the first periodic annuity benefit payment under life
annuity options and non-commutable period certain options of ten years or more
is determined by multiplying (1) the Accumulated Value
26
<PAGE>
applied under that option (after application of any Market Value Adjustment and
less premium tax, if any) divided by $1,000, by (2) the applicable amount of the
first monthly payment per $1,000 of value. For commutable period certain options
and any period certain option of less than ten years, the Surrender Value less
premium taxes, if any, is used rather than the Accumulated Value. The dollar
amount of the first variable annuity benefit payment then is divided by the
value of an Annuity Unit of the selected Sub-Accounts to determine the number of
Annuity Units represented by the first payment. This number of Annuity Units
remains fixed under all annuity options except the joint and two-thirds survivor
annuity option. For each subsequent payment, the dollar amount of the variable
annuity benefit payment is determined by multiplying this fixed number of
Annuity Units by the value of an Annuity Unit on the applicable Valuation Date.
After the first benefit payment, the dollar amount of each periodic variable
annuity benefit payment will vary with subsequent variations in the value of the
Annuity Unit of the selected Sub-Accounts. The dollar amount of each fixed
amount annuity benefit payment is fixed and will not change, except under the
joint and two-thirds survivor annuity option.
From time to time, the Company may offer Owners both fixed and variable
annuity rates more favorable than those contained in the Contract. Any such
rates will be applied uniformly to all Owners of the same class.
For an illustration of variable annuity benefit payment calculation using a
hypothetical example, see "ANNUITY BENEFIT PAYMENTS" in the SAI.
L. NORRIS DECISION.
In the case of ARIZONA GOVERNING COMMITTEE V. NORRIS, the United States
Supreme Court ruled that, in connection with retirement benefit options offered
under certain employer-sponsored employee benefit plans, annuity options based
on sex-distinct actuarial tables are not permissible under Title VII of the
Civil Rights Act of 1964. The ruling requires that benefits derived from
contributions paid into a plan after August 1, 1983 be calculated without regard
to the sex of the employee. Annuity benefits attributable to payments received
by the Company under a Contract issued in connection with an employer-sponsored
benefit plan affected by the NORRIS decision will be based on the greater of (1)
the Company's unisex non-guaranteed current annuity option rates, or (2) the
guaranteed unisex rates described in such Contract, regardless of whether the
Annuitant is male or female.
M. COMPUTATION OF VALUES.
THE ACCUMULATION UNIT. Each net payment is allocated to the accounts
selected by the Owner. Allocations to the Sub-Accounts are credited to the
Contract in the form of Accumulation Units. Accumulation Units are credited
separately for each Sub-Account. The number of Accumulation Units of each
Sub-Account credited to the Contract is equal to the portion of the net payment
allocated to the Sub-Account, divided by the dollar value of the applicable
Accumulation Unit as of the Valuation Date the payment is received in good order
at the Company's Principal Office. The number of Accumulation Units resulting
from each payment will remain fixed unless changed by a subsequent split of
Accumulation Unit value, a transfer, a withdrawal, or surrender. The dollar
value of an Accumulation Unit of each Sub-Account varies from Valuation Date to
Valuation Date based on the investment experience of that Sub-Account, and will
reflect the investment performance, expenses and charges of its Portfolios. The
value of an Accumulation Unit was set at $1.00 on the first Valuation Date for
each Sub-Account.
Allocations to Guarantee Period Accounts and the Fixed Account are not
converted into Accumulation Units, but are credited interest at a rate
periodically set by the Company. See "GUARANTEE PERIOD ACCOUNTS" and "APPENDIX
A. MORE INFORMATION ABOUT THE FIXED ACCOUNTS."
27
<PAGE>
APPENDIX A
MORE INFORMATION ABOUT THE FIXED ACCOUNT
Because of exemption and exclusionary provisions in the securities laws,
interests in the Fixed Account generally are not subject to regulation under the
provisions of the 1933 Act or the 1940 Act. Disclosures regarding the fixed
portion of the Contract and the Fixed Account may be subject to the provisions
of the 1933 Act concerning the accuracy and completeness of statements made in
this Prospectus. The disclosures in this APPENDIX A have not been reviewed by
the SEC.
The Fixed Account is part of the Company's General Account which is made up
of all of the general assets of the Company other than those allocated to
separate accounts. Allocations to the Fixed Account become part of the assets of
the Company, and are used to support insurance and annuity obligations. A
portion or all of net payments may be allocated to accumulate at a fixed rate of
interest in the Fixed Account. Such net amounts are guaranteed by the Company as
to principal and a minimum rate of interest. Under the Contract, the minimum
interest which may be credited on amounts allocated to the Fixed Account is 3%
compounded annually. Additional "Excess Interest" may or may not be credited at
the sole discretion of the Company.
If the Contract is surrendered, or if an amount in excess of the Withdrawal
Without Surrender Charge Amount is withdrawn while the Contract is in force and
before the Annuity Date, a contingent deferred sales charge is imposed if such
event occurs before the payments attributable to the surrender or withdrawal
have been credited to the Contract for at least six full Contract years.
44
<PAGE>
APPENDIX B
SURRENDER CHARGES AND THE MARKET VALUE ADJUSTMENT
PART 1: SURRENDER CHARGES
FULL SURRENDER -- Assume a Payment of $50,000 is made on the issue date and
no additional payments are made. Assume there are no withdrawals and that the
Withdrawal Without Surrender Charge amount is equal to the greater of 15% of the
current Accumulated Value or the accumulated earnings in the Contract. The table
below presents examples of the surrender charge resulting from a full surrender
of the Owner's Contract, based on hypothetical Accumulated Values.
<TABLE>
<CAPTION>
HYPOTHETICAL FREE SURRENDER
ACCOUNT ACCUMULATED WITHDRAWAL CHARGE SURRENDER
YEAR VALUE AMOUNT PERCENTAGE CHARGE
- --------- -------------- ------------------ ------------- ------------
<S> <C> <C> <C> <C>
1 54,000.00 8,100.00 7% 3,213.00
2 58,320.00 8,748.00 6% 2,974.32
3 62,985.60 12,985.60 5% 2,500.00
4 68,024.45 18,024.45 4% 2,000.00
5 73,466.40 23,466.40 3% 1,500.00
6 79,343.72 29,343.72 2% 1,000.00
7 85,691.21 35,691.21 0% 0.00
</TABLE>
WITHDRAWAL -- Assume a Payment of $50,000 is made on the issue date and no
additional payments are made. Assume that the Withdrawal Without Surrender
Charge amount is equal to the greater of 15% of the current Accumulated Value or
the accumulated earnings in the contract and there are withdrawals as detailed
below. The table below presents examples of the surrender charge resulting from
withdrawals from the Owner's Contract, based on hypothetical Accumulated Values.
<TABLE>
<CAPTION>
HYPOTHETICAL FREE SURRENDER
ACCOUNT ACCUMULATED WITHDRAWAL CHARGE SURRENDER
YEAR VALUE WITHDRAWAL AMOUNT PERCENTAGE CHARGE
- --------- ------------- ------------- ------------------ ------------- -----------
<S> <C> <C> <C> <C> <C>
1 54,000.00 0.00 8,100.00 7% 0.00
2 58,320.00 0.00 8,748.00 6% 0.00
3 62,985.60 0.00 12,985.60 5% 0.00
4 68,024.45 30,000.00 18,024.45 4% 479.02
5 41,066.40 10,000.00 6,159.96 3% 115.20
6 33,551.72 5,000.00 5,032.76 2% 0.00
7 30,835.85 10,000.00 4,625.38 0% 0.00
</TABLE>
PART 2: MARKET VALUE ADJUSTMENT
The market value factor is: [(1 + i)/(1 + j)](n/365) - 1
The following examples assume:
1. The payment was allocated to a ten-year Guarantee Period Account with
a guaranteed interest rate of 8%.
2. The date of surrender is seven years (2555 days) from the expiration
date.
3. The value of the Guarantee Period Account is equal to $62,985.60 at
the end of three years.
4. No transfers or withdrawals affecting this Guarantee Period Account
have been made.
5. Surrender charges, if any, are calculated in the same manner as shown
in the examples in Part 1.
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<PAGE>
NEGATIVE MARKET VALUE ADJUSTMENT (UNCAPPED)
Assume that on the date of surrender, the current rate (j) is 10.00% or 0.10
<TABLE>
<S> <C>
The market value factor = [(1 + i)/(1 + j)](n/365) - 1
= [(1 + .08)/(1 + .10)](2555/365) - 1
= (.98182)(7) - 1
= -.12054
The market value = the market value factor multiplied by the withdrawal
adjustment
= -.12054 X $62,985.60
= -$7,592.11
</TABLE>
POSITIVE MARKET VALUE ADJUSTMENT (UNCAPPED)
Assume that on the date of surrender, the current rate (j) is 7.00% or 0.07
<TABLE>
<S> <C>
The market value factor = [(1 + i)/(1 + j)](n/365) - 1
= [(1 + .08)/(1 + .07)](2555/365) - 1
= (1.0093)(7) - 1
= .06694
The market value = the market value factor multiplied by the withdrawal
adjustment
= .06694 X $62,985.60
= $4,216.26
</TABLE>
NEGATIVE MARKET VALUE ADJUSTMENT (CAPPED)
Assume that on the date of surrender, the current rate (j) is 11.00% or 0.11
<TABLE>
<S> <C>
The market value factor = [(1 + i)/(1 + j)](n/365) - 1
= [(1 + .08)/(1 + .11)](2555/365) - 1
= (.97297)(7) - 1
= -.17454
The market value = Minimum of the market value factor multiplied by the
adjustment withdrawal or the negative of the excess interest earned
over 3%
= Minimum of (-.17454 X $62,985.60 or -$8,349.25)
= Minimum of (-$10,993.51 or -$8,349.25)
= -$8,349.25
</TABLE>
POSITIVE MARKET VALUE ADJUSTMENT (CAPPED)
Assume that on the date of surrender, the current rate (j) is 6.00% or 0.06
<TABLE>
<S> <C>
The market value factor = [(1 + i)/(1 + j)](n/365) - 1
= [(1 + .08)/(1 + .06)](2555/365) - 1
= (1.01887)(7) - 1
= .13981
The market value = Minimum of the market value factor multiplied by the
adjustment withdrawal or the excess interest earned over 3%
= Minimum of (.13981 X $62,985.60 or $8,349.25)
= Minimum of ($8,806.02 or $8,349.25)
= $8,349.25
</TABLE>
46
<PAGE>
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
STATEMENT OF ADDITIONAL INFORMATION
FOR
FLEXIBLE PAYMENT DEFERRED VARIABLE AND FIXED ANNUITY CONTRACTS FUNDED
THROUGH
SUB-ACCOUNTS OF
SEPARATE ACCOUNT KGC
THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT A PROSPECTUS. IT SHOULD BE READ
IN CONJUNCTION WITH THE PROSPECTUS FOR SEPARATE ACCOUNT KGC DATED MAY 1, 1997
("THE PROSPECTUS"). THE PROSPECTUS MAY BE OBTAINED FROM ALLMERICA INVESTMENTS,
INC., 440 LINCOLN STREET, WORCESTER, MASSACHUSETTS 01653, TELEPHONE 1-800-782-
8380.
DATED: MAY 1, 1997
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
TABLE OF CONTENTS
GENERAL INFORMATION AND HISTORY. . . . . . . . . . . . . . . . . 2
TAXATION OF THE CONTRACT, THE VARIABLE ACCOUNT AND THE
COMPANY. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
SERVICES . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
UNDERWRITERS . . . . . . . . . . . . . . . . . . . . . . . . . . 3
ANNUITY BENEFIT PAYMENTS . . . . . . . . . . . . . . . . . . . . 4
EXCHANGE OFFER . . . . . . . . . . . . . . . . . . . . . . . . . 5
PERFORMANCE INFORMATION. . . . . . . . . . . . . . . . . . . . . 7
TAX-DEFERRED ACCUMULATION. . . . . . . . . . . . . . . . . . . . 10
FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . . . . . . 10
GENERAL INFORMATION AND HISTORY
Separate Account KGC (the "Variable Account") is a separate investment account
of First Allmerica Financial Life Insurance Company (the "Company") authorized
by vote of the Board of Directors on June 13, 1996. Its Principal Office is
located at 440 Lincoln Street, Worcester, Massachusetts 01653, telephone 508-
855-1000. The Company is subject to the laws of the Commonwealth of
Massachusetts governing insurance companies and to regulation by the
Commissioner of Insurance of Massachusetts. In addition, the Company is subject
to the insurance laws and regulations of other states and jurisdictions in which
it is licensed to operate. On October 16, 1995, the Company converted from a
mutual life insurance company to a stock life insurance company and adopted its
present name. At that time the Company also became a wholly owned subsidiary of
Allmerica Financial Corporation, 440 Lincoln Street, Worcester, Massachusetts
01653. As of December 31, 1996, the Company and its subsidiaries had over
$13.3 billion in combined assets and over $45.3 billion in life insurance in
force.
Each Sub-Account invests in a corresponding investment portfolio of Kemper
Investors Fund (the "Fund"), a series-type mutual fund registered with the
Securities and Exchange Commission (the "SEC") as an open-end, diversified
management investment company. Currently, 14 Sub-Accounts of the Variable
Account are available under the Contract. The Money Market Portfolio, Total
Return Portfolio, High Yield Portfolio, Growth Portfolio, Government Securities
Portfolio, International Portfolio, Small Cap Growth Portfolio, Investment Grade
Bond Portfolio, Value Portfolio, Small Cap Value Portfolio, Value+Growth
Portfolio, Horizon 20+Portfolio, Horizon 10+Portfolio, and Horizon 5 Portfolio
("Underlying Portfolios"). Each Portfolio available under the Contract has its
own investment objectives and certain attendant risks.
-2-
<PAGE>
TAXATION OF THE CONTRACT, THE VARIABLE
ACCOUNT AND THE COMPANY
The Company currently imposes no charge for taxes payable in connection with the
Contract, other than for state and local premium taxes and similar assessments
when applicable. The Company reserves the right to impose a charge for any
other taxes that may become payable in the future in connection with the
Contract or the Variable Account.
The Variable Account is considered to be a part of and taxed with the operations
of the Company. The Company is taxed as a life insurance company under
subchapter L of the Internal Revenue Code (the "Code"), and files a consolidated
tax return with its parent and affiliated companies.
The Company reserves the right to make a charge for any effect which the income,
assets or existence of the Contract or the Variable Account may have upon its
tax. Such charge for taxes, if any, will be assessed on a fair and equitable
basis in order to preserve equity among classes of Contract Owners ("Owners").
The Variable Account presently is not subject to tax.
SERVICES
CUSTODIAN OF SECURITIES. The Company serves as custodian of the assets of the
Variable Account. Fund shares owned by the Sub-Accounts are held on an open
account basis. A Sub-Account's ownership of Fund shares is reflected on the
records of the Fund, and is not represented by any transferable stock
certificates.
EXPERTS. The financial statements of the Company as of December 31, 1996 and
1995, and for each of the three years in the period ended December 31, 1996,
included in this Statement of Additional Information constituting part of the
Registration Statement, have been so included in reliance on the report of Price
Waterhouse LLP, independent accountants, given on the authority of said firm as
experts in auditing and accounting.
The financial statements of the Company included herein should be considered
only as bearing on the ability of the Company to meet its obligations under the
Contract.
UNDERWRITERS
Allmerica Investments, Inc. ("Allmerica Investments"), a registered broker-
dealer under the Securities Exchange Act of 1934 and a member of the National
Association of Securities Dealers, Inc. ("NASD"), serves as principal
underwriter for the Contract pursuant to a contract with the Company and the
Variable Account. Allmerica Investments distributes the Contract on a best-
efforts basis. Allmerica Investments, Inc., 440 Lincoln Street, Worcester,
Massachusetts 01653, was organized in 1969 as a wholly owned subsidiary of First
Allmerica and is, at present, indirectly wholly owned by First Allmerica.
The Contract offered by this Prospectus is offered continuously, and may be
purchased from certain independent broker-dealers which are NASD members and
whose representatives are authorized by applicable law to sell variable annuity
contracts.
All persons selling the Contract are required to be licensed by their respective
state insurance authorities for the sale of variable annuity contracts. The
Company pays commissions, not to exceed 6.0% of purchase payments, to entities
which sell the Contract. To the extent permitted by NASD rules, promotional
incentives or payments also may be provided to such entities based on sales
volumes, the assumption of wholesaling functions or other sales-related
criteria. Additional payments may be made for other services not directly
related to the sale of the Contract, including the recruitment and training of
personnel, production of
-3-
<PAGE>
promotional literature and similar services. A Promotional Allowance of 1.0% is
paid to Kemper Distributors, Inc. for administrative and support services with
respect to the distribution of the Contract; however, Kemper Distributors, Inc.
may direct the Company to pay a portion of said allowance to broker-dealers who
provide support services directly.
Commissions are paid by the Company, and do not result in any charge to Owners
or to the Variable Account in addition to the charges described under "CHARGES
AND DEDUCTIONS" in the Prospectus. The Company intends to recoup the commission
and other sales expense through a combination of anticipated surrender,
withdrawal and/or annuitization charges, profits from the Company's general
account, including the investment earnings on amounts allocated to accumulate on
a fixed basis in excess of the interest credited on fixed accumulations by the
Company, and the profit, if any, from the mortality and expense risk charge.
ANNUITY BENEFIT PAYMENTS
The method by which the Accumulated Value under the Contract is determined is
described in detail under "Computation of Values" in the Prospectus.
ILLUSTRATION OF ACCUMULATION UNIT CALCULATION USING HYPOTHETICAL EXAMPLE. The
Accumulation Unit calculation for a daily Valuation Period may be illustrated by
the following hypothetical example: Assume that the assets of a Sub-Account(s)
at the beginning of a one-day Valuation Period were $5,000,000; that the value
of an Accumulation Unit on the previous date was $1.135000; and that during the
Valuation Period, the investment income and net realized and unrealized capital
gains exceed net realized and unrealized capital losses by $1,675. The
Accumulation Unit value at the end of the current Valuation Period would be
calculated as follows:
(1) Accumulation Unit Value -- Previous Valuation Period . . . . . .$ 1.135000
(2) Value of Assets -- Beginning of Valuation Period . . . . . . . .$5,000,000
(3) Excess of Investment Income and Net Gains Over Capital Losses. . $1,675
(4) Adjusted Gross Investment Rate for the Valuation Period (3)
DIVIDED BY (2) . . . . . . . . . . . . . . . . . . . . . . . . 0.000335
(5) Annual Charge (one-day equivalent of 1.10% per annum). . . . . . 0.000030
(6) Net Investment Rate (4) - (5). . . . . . . . . . . . . . . . . . 0.000305
(7) Net Investment Factor 1.000000 + (6) . . . . . . . . . . . . . . 1.000305
(8) Accumulation Unit Value -- Current Period (1) x (7). . . . . . .$ 1.135346
Conversely, if unrealized capital losses and charges for expenses and taxes
exceeded investment income and net realized capital gains by $1,675, the
accumulated unit value at the end of the Valuation Period would have been
$1.134586.
The method for determining the amount of annuity benefit payments is described
in detail under "Determination of First and Subsequent Annuity Benefit Payments"
in the Prospectus.
ILLUSTRATION OF VARIABLE ANNUITY BENEFIT PAYMENT CALCULATION USING HYPOTHETICAL
EXAMPLE. The determination of the Annuity Unit value and the variable annuity
benefit payment may be illustrated by the following hypothetical example:
Assume an Annuitant has 40,000 Accumulation Units in the Variable Account,
-4-
<PAGE>
and that the value of an Accumulation Unit on the Valuation Date used to
determine the amount of the first variable annuity benefit payment is $1.120000.
Therefore, the Accumulation Value of the Contract is $44,800 (40,000 x
$1.120000). Assume also that the Owner elects an option for which the first
monthly payment is $6.57 per $1,000 of Accumulated Value applied. Assuming no
premium tax or contingent deferred sales charge, the first monthly payment would
be 44.800 multiplied by $6.57, or $294.34.
Next, assume that the Annuity Unit value for the assumed rate of 3.5% per annum
for the Valuation Date as of which the first payment was calculated was
$1.100000. Annuity Unit values will not be the same as Accumulation Unit Values
because the former reflect the 3.5% assumed interest rate used in the annuity
rate calculations. When the Annuity Unit value of $1.100000 is divided into the
first monthly payment the number of Annuity Units represented by that payment is
determined to be 267.5818. The value of this same number of Annuity Units will
be paid in each subsequent month under most options. Assume further that the
net investment factor for the Valuation Period applicable to the next annuity
benefit payment is 1.000190. Multiplying this factor by .999906 (the one-day
adjustment factor for the assumed interest rate of 3.5% per annum) produces a
factor of 1.000096. This then is multiplied by the Annuity Unit value on the
immediately preceding Valuation Date (assumed here to be $1.105000). The result
is an Annuity Unit value of $1.105106 for the current monthly payment. The
current monthly payment then is determined by multiplying the number of Annuity
Units by the current Annuity Unit value, or 267.5818 times $1.105106, which
produces a current monthly payment of $295.71.
METHOD FOR DETERMINING COMMUTED VALUE ON VARIABLE ANNUITY PERIOD CERTAIN OPTIONS
AND ILLUSTRATION USING HYPOTHETICAL EXAMPLE. The Contract offers both
commutable and non-commutable period certain annuity benefit payment options. A
commutable option gives the Annuitant the right to exchange any remaining
payments for a lump sum payment based on the commuted value. The Commuted Value
is the present value of remaining payments calculated at 3.5% interest. The
determination of the Commuted Value may be illustrated by the following
hypothetical example.
Assume a commutable annuity period certain option is elected. The number of
Annuity Units on which each payment is based would be calculated using the
Surrender Value less any premium tax. Assume this results in 250.0000 Annuity
Units. Assume the Commuted Value is requested with 60 monthly payments
remaining and a current Annuity Unit Value of $1.200000. Based on these
assumptions, the dollar amount of remaining payments would be $300 a month for
60 months. The present value at 3.5% of all remaining payments would be
$16.560.72.
EXCHANGE OFFER
A. VARIABLE ANNUITY CONTRACT EXCHANGE OFFER
The Company will permit Owners of certain variable annuity contracts, described
below, to exchange their contracts at net asset value for the variable annuity
Contract described in the Prospectus, which is issued on Form No. A3025-96 or a
state variation thereof ("new Contract"). The Company reserves the right to
suspend this exchange offer at any time.
This offer applies to the exchange of the Elective Payment Variable Annuity
contracts issued by Allmerica Financial Life Insurance and Annuity Company
("AFLIAC") on Forms A3012-79 and A3013-79 ("Elective Payment Exchanged
Contract," all such contracts having numbers with a "JQ" or "JN" prefix), and
Single Payment Variable Annuity contracts issued on Forms A3014-79 and A3015-79
("Single Payment Exchanged Contract," all such contracts having numbers with a
"KQ" or "KN" prefix). These contracts are referred to collectively as the
"Exchanged Contract." To effect an exchange, the Company should receive (1) a
completed application for the new Contract, (2) the contract being exchanged,
and (3) a signed Letter of Awareness.
-5-
<PAGE>
CONTINGENT DEFERRED SALES CHARGE COMPUTATION. No surrender charge otherwise
applicable to the Exchanged Contract will be assessed as a result of the
exchange. Instead, the contingent deferred sales charge under the new Contract
will be computed as if the payments that had been made to the Exchanged Contract
were made to the new Contract as of the date of issue of the Exchanged Contract.
Any additional payments to the new Contract after the exchange will be subject
to the contingent deferred sales charge computation outlined in the new Contract
and the Prospectus; i.e., the charge will be computed based on the number of
years that the additional payment (or portion of that payment) that is being
withdrawn has been credited to the new Contract.
SUMMARY OF DIFFERENCES BETWEEN THE EXCHANGED CONTRACT AND THE NEW CONTRACT. The
new Contract and the Exchanged Contract differ substantially as summarized
below. There may be additional differences important to a person considering an
exchange, and the Prospectuses for the new Contract and the Exchanged Contract
should be reviewed carefully before the exchange request is submitted to the
Company.
CONTINGENT DEFERRED SALES CHARGE. The contingent deferred sales charge under
the new Contract, as described in the Prospectus, imposes higher charge
percentages against the excess amount redeemed than the Single Payment Exchanged
Contract. In addition, if an Elective Payment Exchanged Contract was issued
more than 9 years before the date of an exchange under this offer, additional
payments to the Exchanged Contract would not be subject to a surrender charge.
New payments to the new Contract may be subject to a charge if withdrawn prior
to the surrender charge period described in the Prospectus.
CONTRACT FEE. Under the new Contract, the Company deducts a $30 fee on each
Contract anniversary and at surrender if the Accumulated Value is less than
$50,000. This fee is waived if the new Contract is part of a 401(k) plan. No
Contract fees are charged on the Single Payment Exchanged Contract. A $9 semi-
annual fee is charged on the Elective Payment Exchanged Contract if the
Accumulated Value is $10,000 or less.
VARIABLE ACCOUNT ADMINISTRATIVE EXPENSE CHARGE. Under the new Contract, the
Company assesses each Sub-Account a daily administrative expense charge at an
annual rate of 0.15% of the average daily net assets of the Sub-Account. No
administrative expense charge based on a percentage of Sub-Account assets is
imposed under the Exchanged Contract.
TRANSFER CHARGE. No charge for transfers is imposed under the Exchanged
Contract. Currently, no transfer charge is imposed under the new Contract;
however, the Company reserves the right to assess a charge not to exceed $25 for
each transfer after the twelfth in any Contract year.
DEATH BENEFIT. The Exchanged Contract offers a death benefit that is guaranteed
to be the greater of a Contract's Accumulated Value or gross payments made (less
withdrawals). At the time an exchange is processed, the Accumulated Value of
the Exchanged Contract becomes the "payment" for the new Contract. Therefore,
prior purchase payments made under the Exchanged Contract (if higher than the
Exchanged Contract's Accumulated Value) no longer are a basis for determining
the death benefit under the new Contract. Consequently, whether the initial
minimum death benefit under the new Contract is greater than, equal to, or less
than, the death benefit of the Exchanged Contract depends on whether the
Accumulated Value transferred to the new Contract is greater than, equal to, or
less than, the gross payments under the Exchanged Contract. In addition, under
the Exchanged Contract, the amount of any prior withdrawals are subtracted from
the value of the death benefit. Under the new Contract, where there is a
reduction in the death benefit amount due to a prior withdrawal, the value of
the death benefit is reduced in the same proportion that the new Contract's
Accumulated Value was reduced on the date of the withdrawal.
ANNUITY TABLES. The Exchanged Contract contains higher guaranteed annuity
rates.
INVESTMENTS. Accumulated Values and payments under the new Contract may be
allocated to significantly
-6-
<PAGE>
more investment options than are available under the Exchanged Contract.
B. FIXED ANNUITY EXCHANGE OFFER.
This exchange offer also applies to all fixed annuity contracts issued by
AFLIAC. A fixed annuity contract to which this exchange offer applies may be
exchanged at net asset value for the Contract described in this Prospectus,
subject to the same provisions for effecting the exchange and for applying the
new Contract's contingent deferred sales charge as described above for variable
annuity contracts. This Prospectus should be read carefully before making such
exchange. Unlike a fixed annuity, the new Contract's value is not guaranteed,
and will vary depending on the investment performance of the Underlying Funds to
which it is allocated. The new Contract has a different charge structure than a
fixed annuity contract, which includes not only a contingent deferred sales
charge that may vary from that of the class of contracts to which the exchanged
fixed contract belongs, but also Contract fees, mortality and expense risk
charges (for the Company's assumption of certain mortality and expense risks),
administrative expense charges, transfer charges (for transfers permitted among
Sub-Accounts and the Fixed Account), and expenses incurred by the Underlying
Funds. Additionally, the interest rates offered under the Fixed Account of the
new Contract and the Annuity Tables for determining minimum annuity benefit
payments may be different from those offered under the exchanged fixed Contract.
C. EXERCISE OF "FREE-LOOK PROVISION" AFTER ANY EXCHANGE.
Persons who, under the terms of this exchange offer, exchange their contract for
the new Contract and subsequently revoke the new Contract within the time
permitted, as described in the sections of this Prospectus captioned "Right to
Revoke Individual Retirement Annuity" and "Right to Revoke All Other Contracts,"
will have their exchanged contract automatically reinstated as of the date of
revocation. The refunded amount will be applied as the new current Accumulated
Value under the reinstated contract, which may be more or less than it would
have been had no exchange and reinstatement occurred. The refunded amount will
be allocated initially among the Fixed Account and Sub-Accounts of the
reinstated contract in the same proportion that the value in the Fixed Account
and the value in each Sub-Account bore to the transferred Accumulated Value on
the date of the exchange of the contract for the new Contract. For purposes of
calculating any contingent deferred sales charge under the reinstated contract,
the reinstated contract will be deemed to have been issued and to have received
past purchase payments as if there had been no exchange.
PERFORMANCE INFORMATION
Performance information for a Sub-Account may be compared, in reports and
promotional literature, to certain indices described in the Prospectus under
"PERFORMANCE INFORMATION." In addition, the Company may provide advertising,
sales literature, periodic publications or other material information on various
topics of interest to Owners and prospective Owners. These topics may include
the relationship between sectors of the economy and the economy as a whole and
its effect on various securities markets, investment strategies and techniques
(such as value investing, market timing, dollar cost averaging, asset
allocation, constant ratio transfer and account rebalancing), the advantages and
disadvantages of investing in tax-deferred and taxable investments, customer
profiles and hypothetical purchase and investment scenarios, financial
management and tax and retirement planning, and investment alternatives to
certificates of deposit and other financial instruments, including comparisons
between the Contract and the characteristics of and market for such financial
instruments. Total Return data may be advertised based on a period of time that
an Underlying Portfolio has been in existence, even if longer than the period of
time that the Contract has been offered. The results for any period prior to a
Contract being offered will be calculated as if the Contract had been offered
during that period, with all charges assumed to be those applicable to the
Contract.
-7-
<PAGE>
TOTAL RETURN
"Total Return" refers to the total of the income generated by an investment in a
Sub-Account and of the changes of value of the principal invested (due to
realized and unrealized capital gains or losses) for a specified period, reduced
by the Sub-Account's asset charge and any applicable contingent deferred sales
charge which would be assessed upon complete withdrawal of the investment.
Total Return figures are calculated by standardized methods prescribed by rules
of the SEC. The quotations are computed by finding the average annual
compounded rates of return over the specified periods that would equate the
initial amount invested to the ending redeemable values, according to the
following formula:
n
P(1 + T) = ERV
Where:P = a hypothetical initial payment to the Variable Account of $1,000
T = average annual total return
n = number of years
ERV = the ending redeemable value of the $1,000 payment at the end of the
specified period
The calculation of Total Return includes the annual charges against the assets
of the Sub-Account. This charge is 1.10% on an annual basis. The calculation
of ending redeemable value assumes (1) the Contract was issued at the beginning
of the period, and (2) a complete surrender of the Contract at the end of the
period. The deduction of the contingent deferred sales charge, if any,
applicable at the end of the period is included in the calculation, according to
the following schedule:
Years from date of Charge as Percentage of
Payment New Payments Withdrawn*
------------------ -----------------------
0 - 1 7%
2 6%
3 5%
4 4%
5 3%
6 2%
Thereafter 0%
*Subject to the maximum limit described in the Prospectus.
No contingent deferred sales charge is deducted upon expiration of the periods
specified above. In all calendar years, an amount equal to the greater of (1)
15% of the Accumulated Value, or (2) the life expectancy distribution is not
subject to the contingent deferred sales charge.
The calculations of Total Return reflect the deduction of an $0.88 annual
Contract fee, representing a pro-rata portion of the $30 annual Contract fee,
based on a mean Contract size of $40,000.
SUPPLEMENTAL TOTAL RETURN INFORMATION
The Supplemental Total Return information in this section refers to the total of
the income generated by an investment in a Sub-Account and of the changes of
value of the principal invested (due to realized and
-8-
<PAGE>
unrealized capital gains or losses) for a specified period reduced by the Sub-
Account's asset charges. It is assumed, however, that the investment is NOT
withdrawn at the end of each period.
The quotations of Supplemental Total Return are computed by finding the average
annual compounded rates of return over the specified periods that would equate
the initial amount invested to the ending values, according to the following
formula:
n
P(1 + T) = EV
Where:P = a hypothetical initial payment to the Variable Account of $1,000
T = average annual total return
n = number of years
EV = the ending value of the $1,000 payment at the end of the specified
period
The calculation of Supplemental Total Return reflects the 1.10% annual charge
against the assets of the Sub-Accounts. The ending value assumes that the
Contract is NOT surrendered at the end of the specified period, and therefore
there is no adjustment for the contingent deferred sales charge that would be
applicable if the Contract was surrendered at the end of the period.
The calculations of Supplemental Total Return include the deduction of an $0.88
annual Contract fee, representing a pro-rata portion of the $30 annual Contract
fee based on a mean Contract size of $40,000.
YIELD AND EFFECTIVE YIELD - MONEY MARKET SUB-ACCOUNT
Set forth below is yield and effective yield information for the Money Market
Sub-Account for the seven-day period ended December 31, 1996:
Yield %
Effective Yield%
The yield and effective yield figures are calculated by standardized methods
prescribed by rules of the SEC. Under those methods, the yield quotation is
computed by determining the net change (exclusive of capital changes) in the
value of a hypothetical pre-existing account having a balance of one
Accumulation Unit of the Sub-Account at the beginning of the period, subtracting
a charge reflecting the annual 1.10% deduction for mortality and expense risk
and the administrative charge, dividing the difference by the value of the
account at the beginning of the same period to obtain the base period return,
and then multiplying the return for a seven-day base period by (365/7), with the
resulting yield carried to the nearest hundredth of one percent.
The Money Market Sub-Account computes effective yield by compounding the
unannualized base period return by using the formula:
(365/7)
Effective Yield = [(base period return + 1) ] - 1
The calculations of yield and effective yield reflect the $30 annual Contract
fee.
-9-
<PAGE>
TAX-DEFERRED ACCUMULATION
NON-QUALIFIED CONVENTIONAL
ANNUITY CONTRACT SAVINGS PLAN
After-tax contributions
and tax-deferred earnings
-------------------------
Taxable Lump After-tax contributions
No Withdrawals Sum Withdrawal and taxable earnings
-------------- -------------- --------------------
10 Years . . . . . $107,946 $ 86,448 $ 81,693
20 Years . . . . . 233,048 165,137 133,476
30 Years . . . . . 503,133 335,021 218,082
This chart compares the accumulation of a $50,000 initial investment into a non-
qualified annuity contract and a conventional savings plan. Contributions to
the non-qualified annuity contract and the conventional savings plan are made
after tax. Only the gain in the non-qualified annuity contract will be subject
to income tax in a taxable lump sum withdrawal. The chart assumes a 37.1%
federal marginal tax rate and an 8% annual return. The 37.1% federal marginal
tax is based on a marginal tax rate of 36%, representative of the target market,
adjusted to reflect a decrease of $3 of itemized deductions for each $100 of
income over $117,950. Tax rates are subject to change as is the tax-deferred
treatment of the Contract. Income on non-qualified annuity contracts is taxed
as ordinary income upon withdrawal. A 10% tax penalty may apply to early
withdrawals. See "FEDERAL TAX CONSIDERATIONS" in the Prospectus.
The chart does not reflect the following charges and expenses under the
Contract: 0.95% for mortality and expense risk; 0.15% administration charges; 7%
maximum deferred sales charge; and $35 annual Contract fee. The tax-deferred
accumulation would be reduced if these charges were reflected. No implication
is intended by the use of these assumptions that the return shown is guaranteed
in any way or that the return shown represents an average or expected rate of
return over the period of the Contract. (IMPORTANT -- THIS IS NOT AN
ILLUSTRATION OF YIELD OR RETURN.)
Unlike savings plans, contributions to non-qualified annuity contracts provide
tax-deferred treatment on earnings. In addition, contributions to tax-deferred
retirement annuities are not subject to current tax in the year of contribution.
When monies are received from a non-qualified annuity contract (and you have
many different options on how you receive your funds), they are subject to
income tax. At the time of receipt, if the person receiving the monies is
retired, not working or has additional tax exemptions, these monies may be taxed
at a lesser rate.
FINANCIAL STATEMENTS
Financial Statements are included for First Allmerica Financial Life Insurance
Company and for Separate Account KGC.
-10-
<PAGE>
FIRST ALLMERICA
FINANCIAL LIFE
INSURANCE COMPANY
CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
F-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholder of
First Allmerica Financial Life Insurance Company
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, of shareholder's equity, and of cash flows
present fairly, in all material respects, the financial position of First
Allmerica Financial Life Insurance Company and its subsidiaries at December 31,
1996 and 1995, and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 1996, in conformity with
generally accepted accounting principles. 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 generally accepted auditing
standards which 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 the opinion expressed above.
As discussed in the accompanying notes to the consolidated financial
statements, the Company changed its method of accounting for investments
(Note 1) and postemployment benefits (Note 11) in 1994.
/s/ Price Waterhouse LLP
Price Waterhouse LLP
Boston, Massachusetts
February 3, 1997, except as to Notes 1 and 2,
which are as of February 19, 1997
F-2
<PAGE>
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
(A WHOLLY OWNED SUBSIDIARY OF ALLMERICA FINANCIAL CORPORATION)
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
----------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
REVENUES
Premiums................................... $2,236.3 $2,222.8 $2,181.8
Universal life and investment product
policy fees............................... 197.2 172.4 156.8
Net investment income...................... 669.9 710.1 743.1
Net realized investment gains.............. 66.8 19.1 1.1
Realized gain on sale of mutual fund
processing business....................... -- 20.7 --
Other income............................... 102.7 95.4 112.3
--------- --------- ---------
Total revenues......................... 3,272.9 3,240.5 3,195.1
--------- --------- ---------
BENEFITS, LOSSES AND EXPENSES
Policy benefits, claims, losses and loss
adjustment expenses....................... 1,957.0 2,010.3 2,047.0
Policy acquisition expenses................ 483.5 470.3 475.7
Other operating expenses................... 483.2 455.0 518.9
--------- --------- ---------
Total benefits, losses and expenses.... 2,923.7 2,935.6 3,041.6
--------- --------- ---------
Income before federal income taxes............. 349.2 304.9 153.5
--------- --------- ---------
FEDERAL INCOME TAX EXPENSE (BENEFIT)
Current.................................... 96.8 119.7 45.4
Deferred................................... (15.7) (37.0) 8.0
--------- --------- ---------
Total federal income tax expense....... 81.1 82.7 53.4
--------- --------- ---------
Income before minority interest, extraordinary
item, and cumulative effect of accounting
change........................................ 268.1 222.2 100.1
Minority interest.............................. (74.6) (73.1) (51.0)
--------- --------- ---------
Income before extraordinary item and cumulative
effect of accounting changes.................. 193.5 149.1 49.1
Extraordinary item -- demutualization
expenses...................................... -- (12.1) (9.2)
Cumulative effect of changes in accounting
principles.................................... -- -- (1.9)
--------- --------- ---------
Net income..................................... $ 193.5 $ 137.0 $ 38.0
--------- --------- ---------
--------- --------- ---------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-3
<PAGE>
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
(A WHOLLY OWNED SUBSIDIARY OF ALLMERICA FINANCIAL CORPORATION)
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
-------------------------------------------------------- ---------- ----------
<S> <C> <C>
ASSETS
Investments:
Fixed maturities--at fair value (amortized cost of
$7,279.1 and $7,467.9)............................. $ 7,461.5 $ 7,739.3
Equity securities--at fair value (cost of $327.9 and
$410.6)............................................ 473.1 517.2
Mortgage loans...................................... 650.1 799.5
Real estate......................................... 120.7 179.6
Policy loans........................................ 132.4 123.2
Other long-term investments......................... 128.8 71.9
---------- ----------
Total investments............................... 8,966.6 9,430.7
---------- ----------
Cash and cash equivalents............................. 175.9 236.6
Accrued investment income............................. 148.6 163.0
Deferred policy acquisition costs..................... 822.7 735.7
---------- ----------
Reinsurance receivables:
Future policy benefits.............................. 102.8 97.1
Outstanding claims, losses and loss adjustment
expenses........................................... 663.8 799.6
Unearned premiums................................... 46.2 43.8
Other............................................... 62.8 58.9
---------- ----------
Total reinsurance receivables................... 875.6 999.4
---------- ----------
Deferred federal income taxes......................... 93.2 81.2
Premiums, accounts and notes receivable............... 533.0 526.7
Other assets.......................................... 302.2 361.4
Closed Block assets................................... 811.8 818.9
Separate account assets............................... 6,233.0 4,348.8
---------- ----------
Total assets.................................... $18,962.6 $17,702.4
---------- ----------
---------- ----------
LIABILITIES
Policy liabilities and accruals:
Future policy benefits.............................. $ 2,613.7 $ 2,639.3
Outstanding claims, losses and loss adjustment
expenses........................................... 2,944.1 3,081.3
Unearned premiums................................... 822.5 800.9
Contractholder deposit funds and other policy
liabilities........................................ 2,060.4 2,737.4
---------- ----------
Total policy liabilities and accruals........... 8,440.7 9,258.9
---------- ----------
Expenses and taxes payable............................ 615.3 600.3
Reinsurance premiums payable.......................... 31.4 42.0
Short-term debt....................................... 38.4 28.0
Deferred federal income taxes......................... 34.6 47.8
Long-term debt........................................ 2.7 2.8
Closed Block liabilities.............................. 892.1 902.0
Separate account liabilities.......................... 6,227.2 4,337.8
---------- ----------
Total liabilities............................... 16,282.4 15,219.6
---------- ----------
Minority interest..................................... 784.0 758.5
Commitments and contingencies (Notes 14 and 19)
SHAREHOLDER'S EQUITY
Common stock, $10 par value, 1 million shares
authorized, 500,000 shares issued and outstanding.... 5.0 5.0
Additional paid-in-capital............................ 392.4 392.4
Unrealized appreciation on investments, net........... 131.4 153.0
Retained earnings..................................... 1,367.4 1,173.9
---------- ----------
Total shareholder's equity...................... 1,896.2 1,724.3
---------- ----------
Total liabilities and shareholder's equity...... $18,962.6 $17,702.4
---------- ----------
---------- ----------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-4
<PAGE>
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
(A WHOLLY OWNED SUBSIDIARY OF ALLMERICA FINANCIAL CORPORATION)
CONSOLIDATED STATEMENTS OF SHAREHOLDER'S EQUITY
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
----------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
COMMON STOCK
Balance at beginning of year............... $ 5.0 $ -- $ --
Demutualization transaction................ -- 5.0 --
--------- --------- ---------
Balance at end of year..................... 5.0 5.0 --
--------- --------- ---------
ADDITIONAL PAID-IN-CAPITAL
Balance at beginning of year............... 392.4 -- --
Contributed from parent.................... -- 392.4 --
--------- --------- ---------
Balance at end of year..................... 392.4 392.4 --
--------- --------- ---------
RETAINED EARNINGS
Balance at beginning of year............... 1,173.9 1,071.4 1,033.4
Net income prior to demutualization........ -- 93.2 38.0
--------- --------- ---------
1,173.9 1,164.6 1,071.4
Demutualization transaction................ -- (34.5) --
Net income subsequent to demutualization... 193.5 43.8 --
--------- --------- ---------
Balance at end of year..................... 1,367.4 1,173.9 1,071.4
--------- --------- ---------
NET UNREALIZED APPRECIATION (DEPRECIATION) ON
INVESTMENTS
Balance at beginning of year............... 153.0 (79.0) 17.5
--------- --------- ---------
Cumulative effect of accounting change:
Net appreciation on available-for-sale
debt securities....................... -- -- 296.1
Provision for deferred federal income
taxes and minority interest........... -- -- (149.1)
--------- --------- ---------
-- -- 147.0
--------- --------- ---------
Effect of transfer of securities from
held-to-maturity to available-for-sale:
Net appreciation on available-for-sale
debt securities....................... -- 22.4 --
Provision for deferred federal income
taxes and minority interest........... -- (9.6) --
--------- --------- ---------
-- 12.8 --
--------- --------- ---------
Appreciation (depreciation) during the
period:
Net appreciation (depreciation) on
available-for-sale securities......... (35.1) 466.0 (492.1)
(Provision) benefit for deferred
federal income taxes.................. 11.8 (163.1) 171.9
Minority interest...................... 1.7 (83.7) 76.7
--------- --------- ---------
(21.6) 219.2 (243.5)
--------- --------- ---------
Balance at end of year................. 131.4 153.0 (79.0)
--------- --------- ---------
Total shareholder's equity......... $1,896.2 $1,724.3 $ 992.4
--------- --------- ---------
--------- --------- ---------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-5
<PAGE>
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
(A WHOLLY OWNED SUBSIDIARY OF ALLMERICA FINANCIAL CORPORATION)
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
-------------------------------------------- ---------- ---------- ----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income.............................. $ 193.5 $ 137.0 $ 38.0
Adjustments to reconcile net income to
net cash provided by operating
activities:
Minority interest................... 74.6 73.1 50.1
Net realized gains.................. (66.8) (39.8) (1.1)
Net amortization and depreciation... 44.7 57.7 45.9
Deferred federal income taxes....... (15.7) (37.0) 8.0
Change in deferred acquisition
costs................................ (73.9) (38.4) (34.6)
Change in premiums and notes
receivable, net of reinsurance
payable.............................. (16.8) (42.0) (25.6)
Change in accrued investment
income............................... 16.7 7.0 4.6
Change in policy liabilities and
accruals, net........................ (184.3) 116.2 175.9
Change in reinsurance receivable.... 123.8 (75.6) (31.9)
Change in expenses and taxes
payable.............................. 26.0 7.5 88.0
Separate account activity, net...... 5.2 (0.1) 0.4
Other, net.......................... 38.5 (33.8) 14.0
---------- ---------- ----------
Net cash provided by operating
activities.................... 165.5 131.8 331.7
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from disposals and maturities
of available-for-sale fixed
maturities............................. 3,985.8 2,738.4 2,097.8
Proceeds from disposals of
held-to-maturity fixed maturities...... -- 271.3 304.4
Proceeds from disposals of equity
securities............................. 228.7 120.0 143.9
Proceeds from disposals of other
investments............................ 99.3 40.5 25.9
Proceeds from mortgages matured or
collected.............................. 176.9 230.3 256.4
Purchase of available-for-sale fixed
maturities............................. (3,771.1) (3,273.3) (2,150.1)
Purchase of held-to-maturity fixed
maturities............................. -- -- (111.6)
Purchase of equity securities........... (90.9) (254.0) (172.2)
Purchase of other investments........... (168.0) (24.8) (26.6)
Proceeds from sale of mutual fund
processing business.................... -- 32.9 --
Capital expenditures.................... (12.8) (14.1) (43.1)
Other investing activities, net......... 4.3 4.7 2.4
---------- ---------- ----------
Net cash provided by (used in)
provided by investing
activities.................... 452.2 (128.1) 327.2
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES
Deposits and interest credited to
contractholder deposit funds........... 268.7 445.8 786.3
Withdrawals from contractholder deposit
funds.................................. (905.0) (1,069.9) (1,187.0)
Change in short-term debt............... 10.4 (4.8) (6.0)
Change in long-term debt................ (0.1) 0.2 0.3
Dividends paid to minority
shareholders........................... (3.9) (4.1) (4.2)
Capital contributed from parent......... -- 392.4 --
Payments for policyholders' membership
interests.............................. -- (27.9) --
Subsidiary treasury stock purchased, at
cost................................... (42.0) (20.9) --
---------- ---------- ----------
Net cash used in financing
activities.................... (671.9) (289.2) (410.6)
---------- ---------- ----------
Net change in cash and cash equivalents..... (54.2) (285.5) 248.3
Net change in cash held in the Closed
Block...................................... (6.5) (17.6) --
Cash and cash equivalents, beginning of
year....................................... 236.6 539.7 291.4
---------- ---------- ----------
Cash and cash equivalents, end of year...... $ 175.9 $ 236.6 $ 539.7
---------- ---------- ----------
---------- ---------- ----------
SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid........................... $ 18.6 $ 4.1 $ 4.3
Income taxes paid....................... $ 72.0 $ 90.6 $ 46.1
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
F-6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A. BASIS OF PRESENTATION AND PRINCIPLES OF CONSOLIDATION
First Allmerica Financial Life Insurance Company ("FAFLIC", or the
"Company", formerly State Mutual Life Assurance Company of America ["State
Mutual"]) was organized as a mutual life insurance company until October 16,
1995. FAFLIC converted to a stock life insurance company pursuant to a plan of
reorganization effective October 16, 1995 and became a wholly owned subsidiary
of Allmerica Financial Corporation ("AFC"). The consolidated financial
statements have been prepared as if FAFLIC were organized as a stock life
insurance company for all periods presented. Thus, generally accepted accounting
principles for stock life insurance companies have been applied retroactively
for all periods presented.
The consolidated financial statements of FAFLIC include the accounts of
Allmerica Financial Life Insurance and Annuity Company ("AFLIAC", formerly SMA
Life Assurance Company), its wholly owned life insurance subsidiary,
non-insurance subsidiaries (principally brokerage and investment advisory
subsidiaries), and Allmerica Property and Casualty Companies, Inc. ("Allmerica
P&C", a 59.5%-owned non-insurance holding company). The Closed Block assets and
liabilities at December 31, 1996 and 1995, and its results of operations
subsequent to demutualization are presented in the consolidated financial
statements as single line items. Prior to demutualization such amounts are
presented line by line in the consolidated financial statements (see Note 6).
Unless specifically stated, all disclosures contained herein supporting the
consolidated financial statements at December 31, 1996 and 1995, and the years
then ended exclude the Closed Block related amounts. All significant
intercompany accounts and transactions have been eliminated.
Minority interest relates to the Company's investment in Allmerica P&C and
its only significant subsidiary, The Hanover Insurance Company ("Hanover").
Hanover's 82.5%-owned subsidiary is Citizens Corporation, the holding company
for Citizens Insurance Company of America ("Citizens"). Minority interest also
includes an amount related to the minority interest in Citizens Corporation.
On February 19, 1997, AFC announced a definitive merger agreement under
which it would acquire, at consideration of $33.00 per share, all of the shares
of Allmerica P&C currently held by the minority stockholders. Additional
information pertaining to the merger agreement is included in Note 2,
significant transactions.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amount of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
B. CLOSED BLOCK
As of October 16, 1995, the Company established and began operating a closed
block (the "Closed Block") for the benefit of the participating policies
included therein, consisting of certain individual life insurance participating
policies, individual deferred annuity contracts and supplementary contracts not
involving life contingencies which were in force on October 16, 1995; such
policies constitute the "Closed Block Business". The purpose of the Closed Block
is to protect the policy dividend expectations of such FAFLIC dividend paying
policies and contracts after the demutualization. Unless the Commissioner
consents to an earlier termination, the Closed Block will continue to be in
effect until the date none of the Closed Block policies are in force. On October
16, 1995, FAFLIC allocated to the Closed Block assets in an amount that is
expected to produce cash flows which, together with future revenues from the
Closed Block Business, are reasonably sufficient to support the Closed Block
Business, including provision for payment of policy benefits, certain future
expenses and taxes and for continuation of policyholder dividend scales
F-7
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
payable in 1994 so long as the experience underlying such dividend scales
continues. The Company expects that the factors underlying such experience will
fluctuate in the future and policyholder dividend scales for Closed Block
Business will be set accordingly.
Although the assets and income allocated to the Closed Block inure solely to
the benefit of the holders of policies included in the Closed Block, the excess
of Closed Block liabilities over Closed Block assets at October 16, 1995
measured on a GAAP basis represent the expected future post-tax income from the
Closed Block which may be recognized in income over the period the policies and
contracts in the Closed Block remain in force.
If the actual income from the Closed Block in any given period equals or
exceeds the expected income for such period as determined at October 16, 1995,
the expected income would be recognized in income for that period. Further, any
excess of the actual income over the expected income would also be recognized in
income to the extent that the aggregate expected income for all prior periods
exceeded the aggregate actual income. Any remaining excess of actual income over
expected income would be accrued as a liability for policyholder dividends in
the Closed Block to be paid to the Closed Block policyholders. This accrual for
future dividends effectively limits the actual Closed Block income recognized in
income to the Closed Block income expected to emerge from operation of the
Closed Block as determined as of October 16, 1995.
If, over the period the policies and contracts in the Closed Block remain in
force, the actual income from the Closed Block is less than the expected income
from the Closed Block, only such actual income (which could reflect a loss)
would be recognized in income. If the actual income from the Closed Block in any
given period is less than the expected income for that period and changes in
dividends scales are inadequate to offset the negative performance in relation
to the expected performance, the income inuring to shareholders of the Company
will be reduced. If a policyholder dividend liability had been previously
established in the Closed Block because the actual income to the relevant date
had exceeded the expected income to such date, such liability would be reduced
by this reduction in income (but not below zero) in any periods in which the
actual income for that period is less than the expected income for such period.
C. VALUATION OF INVESTMENTS
Effective January 1, 1994, the Company adopted the provisions of Statement
of Financial Accounting Standards No. 115, "Accounting for Certain Investments
in Debt and Equity Securities" (SFAS No. 115). SFAS No. 115 requires that
investments be classified into one of three categories; held-to-maturity,
available-for-sale, or trading.
The effect of implementing SFAS No. 115, as of January 1, 1994, was an
increase in the carrying value of fixed maturity investments of $335.3 million,
a decrease in deferred policy acquisition costs of $20.8 million, an increase in
policyholder liabilities of $18.4 million, a net increase in deferred income tax
liabilities of $103.7 million, an increase in minority interest of $45.4 million
and an increase in shareholder's equity of $147.0 million, which resulted from
changing the carrying value of certain fixed maturities from amortized cost to
fair value and related adjustments. The implementation had no effect on net
income.
In November 1995, the Financial Accounting Standards Board issued a Special
Report, A GUIDE TO IMPLEMENTATION OF STATEMENT 115 ON ACCOUNTING FOR CERTAIN
INVESTMENTS IN DEBT AND EQUITY SECURITIES, which permitted companies to
reclassify securities, where appropriate, based on the new guidance. As a
result, the Company transferred securities with amortized cost and fair value of
$696.4 million and $725.6 million, respectively, from the held-to-maturity
category to the available-for-sale category, which resulted in a net increase in
shareholder's equity of $12.8 million.
Realized gains and losses on sales of fixed maturities and equity securities
are determined on the specific-identification basis using amortized cost for
fixed maturities and cost for equity securities. Fixed maturities and equity
securities with other than temporary declines in fair value are written down to
estimated fair value resulting in the recognition of realized losses.
F-8
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Mortgage loans on real estate are stated at unpaid principal balances, net
of unamortized discounts and reserves. Reserves on mortgage loans are based on
losses expected by management to be realized on transfers of mortgage loans to
real estate (upon foreclosure), on the disposition or settlement of mortgage
loans and on mortgage loans which management believes may not be collectible in
full. In establishing reserves, management considers, among other things, the
estimated fair value of the underlying collateral.
Fixed maturities and mortgage loans that are delinquent are placed on
non-accrual status, and thereafter interest income is recognized only when cash
payments are received.
Policy loans are carried principally at unpaid principal balances.
Real estate that has been acquired through the foreclosure of mortgage loans
is valued at the estimated fair value at the time of foreclosure. The Company
considers several methods in determining fair value at foreclosure, using
primarily third-party appraisals and discounted cash flow analyses. After
foreclosure, the Company makes a determination as to whether the asset should be
held for production of income or held for sale.
Real estate investments held for the production of income and held for sale
are carried at depreciated cost less valuation allowances, if necessary, to
reduce the carrying value to fair value. Depreciation is generally calculated
using the straight-line method.
Realized investment gains and losses, other than those related to separate
accounts for which the Company does not bear the investment risk, are reported
as a component of revenues based upon specific identification of the investment
assets sold. When an other-than-temporary impairment of the value of a specific
investment or a group of investments is determined, a realized investment loss
is recorded. Changes in the valuation allowance for mortgage loans and real
estate are included in realized investment gains or losses.
D. FINANCIAL INSTRUMENTS
In the normal course of business, the Company enters into transactions
involving various types of financial instruments, including debt, investments
such as fixed maturities, mortgage loans and equity securities, investment and
loan commitments, and interest rate futures contracts. These instruments involve
credit risk and also may be subject to risk of loss due to interest rate
fluctuation. The Company evaluates and monitors each financial instrument
individually and, when appropriate, obtains collateral or other security to
minimize losses.
E. CASH AND CASH EQUIVALENTS
Cash and cash equivalents includes cash on hand, amounts due from banks and
highly liquid debt instruments purchased with an original maturity of three
months or less.
F. DEFERRED POLICY ACQUISITION COSTS
Acquisition costs consist of commissions, underwriting costs and other
costs, which vary with, and are primarily related to, the production of
revenues. Property and casualty, group life and group health insurance business
acquisition costs are deferred and amortized over the terms of the insurance
policies. Acquisition costs related to universal life products and
contractholder deposit funds are deferred and amortized in proportion to total
estimated gross profits over the expected life of the contracts using a revised
interest rate applied to the remaining benefit period. Acquisition costs related
to annuity and other life insurance businesses are deferred and amortized,
generally in proportion to the ratio of annual revenue to the estimated total
revenues over the contract periods based upon the same assumptions used in
estimating the liability for future policy benefits. Deferred acquisition costs
for each product are reviewed to determine if they are recoverable from future
income, including investment income. If such costs are determined to be
unrecoverable, they are expensed at the time of determination.
F-9
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Although realization of deferred policy acquisition costs is not assured,
management believes it is more likely than not that all of these costs will be
realized. The amount of deferred policy acquisition costs considered realizable,
however, could be reduced in the near term if the estimates of gross profits or
total revenues discussed above are reduced. The amount of amortization of
deferred policy acquisition costs could be revised in the near term if any of
the estimates discussed above are revised.
G. PROPERTY AND EQUIPMENT
Property, equipment and leasehold improvements are stated at cost, less
accumulated depreciation and amortization. Depreciation is provided using the
straight-line or accelerated method over the estimated useful lives of the
related assets which generally range from 3 to 30 years. Amortization of
leasehold improvements is provided using the straight-line method over the
lesser of the term of the leases or the estimated useful life of the
improvements.
H. SEPARATE ACCOUNTS
Separate account assets and liabilities represent segregated funds
administered and invested by the Company for the benefit of certain pension,
variable annuity and variable life insurance contractholders. Assets consist
principally of bonds, common stocks, mutual funds, and short-term obligations at
market value. The investment income, gains, and losses of these accounts
generally accrue to the contractholders and, therefore, are not included in the
Company's net income. Appreciation and depreciation of the Company's interest in
the separate accounts, including undistributed net investment income, is
reflected in shareholder's equity or net investment income.
I. POLICY LIABILITIES AND ACCRUALS
Future policy benefits are liabilities for life, health and annuity
products. Such liabilities are established in amounts adequate to meet the
estimated future obligations of policies in force. The liabilities associated
with traditional life insurance products are computed using the net level
premium method for individual life and annuity policies, and are based upon
estimates as to future investment yield, mortality and withdrawals that include
provisions for adverse deviation. Future policy benefits for individual life
insurance and annuity policies are computed using interest rates ranging from
2 1/2% to 6% for life insurance and 2% to 9 1/2% for annuities. Estimated
liabilities are established for group life and health policies that contain
experience rating provisions. Mortality, morbidity and withdrawal assumptions
for all policies are based on the Company's own experience and industry
standards. Liabilities for universal life include deposits received from
customers and investment earnings on their fund balances, less administrative
charges. Universal life fund balances are also assessed mortality and surrender
charges.
Liabilities for outstanding claims, losses and loss adjustment expenses are
estimates of payments to be made on property and casualty and health insurance
for reported losses and estimates of losses incurred but not reported. These
liabilities are determined using case basis evaluations and statistical analyses
and represent estimates of the ultimate cost of all losses incurred but not
paid. These estimates are continually reviewed and adjusted as necessary; such
adjustments are reflected in current operations. Estimated amounts of salvage
and subrogation on unpaid property and casualty losses are deducted from the
liability for unpaid claims.
Premiums for property and casualty, group life, and accident and health
insurance are reported as earned on a pro-rata basis over the contract period.
The unexpired portion of these premiums is recorded as unearned premiums.
Contractholder deposit funds and other policy liabilities include
investment-related products such as guaranteed investment contracts, deposit
administration funds and immediate participation guarantee funds and consist of
deposits received from customers and investment earnings on their fund balances.
F-10
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
All policy liabilities and accruals are based on the various estimates
discussed above. Although the adequacy of these amounts cannot be assured,
management believes that it is more likely than not that policy liabilities and
accruals will be sufficient to meet future obligations of policies in force. The
amount of liabilities and accruals, however, could be revised in the near term
if the estimates discussed above are revised.
J. PREMIUM AND FEE REVENUE AND RELATED EXPENSES
Premiums for individual life and health insurance and individual and group
annuity products, excluding universal life and investment-related products, are
considered revenue when due. Property and casualty and group life, accident and
health insurance premiums are recognized as revenue over the related contract
periods. Benefits, losses and related expenses are matched with premiums,
resulting in their recognition over the lives of the contracts. This matching is
accomplished through the provision for future benefits, estimated and unpaid
losses and amortization of deferred policy acquisition costs. Revenues for
investment-related products consist of net investment income and contract
charges assessed against the fund values. Related benefit expenses primarily
consist of net investment income credited to the fund values after deduction for
investment and risk charges. Revenues for universal life products consist of net
investment income, and mortality, administration and surrender charges assessed
against the fund values. Related benefit expenses include universal life benefit
claims in excess of fund values and net investment income credited to universal
life fund values.
K. POLICYHOLDER DIVIDENDS
Prior to demutualization, certain life, health and annuity insurance
policies contained dividend payment provisions that enabled the policyholder to
participate in the earnings of the Company. The amount of policyholders'
dividends was determined annually by the Board of Directors. The aggregate
amount of policyholders' dividends was related to the actual interest,
mortality, morbidity and expense experience for the year and the Company's
judgment as to the appropriate level of statutory surplus to be retained. Upon
demutualization, certain participating individual life insurance policies and
individual annuity and supplemental contracts were transferred to the Closed
Block. The Closed Block was funded to protect the dividend expectations of such
policies and contracts. Accordingly, these policies no longer participate in the
earnings and surplus of the Open Block. Subsequent to demutualization, the
Company ceased issuance of participating policies.
Prior to demutualization, the participating life insurance in force was
16.2% of the face value of total life insurance in force at December 31, 1994.
The premiums on participating life, health and annuity policies were 11.3% and
6.4% of total life, health and annuity statutory premiums prior to
demutualization in 1995 and 1994, respectively. Total policyholders' dividends
were $23.3 million and $32.8 million prior to demutualization in 1995 and 1994,
respectively.
L. FEDERAL INCOME TAXES
AFC, FAFLIC, AFLIAC and FAFLIC's non-insurance domestic subsidiaries file a
consolidated United States federal income tax return. Entities included within
the consolidated group are segregated into either a life insurance or non-life
insurance company subgroup. The consolidation of these subgroups is subject to
certain statutory restrictions on the percentage of eligible non-life tax losses
that can be applied to offset life company taxable income. Allmerica P&C and its
subsidiaries file a separate United States federal income tax return.
Deferred income taxes are generally recognized when assets and liabilities
have different values for financial statement and tax reporting purposes, and
for other temporary taxable and deductible differences
F-11
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
as defined by Statement of Financial Accounting Standards No. 109, "Accounting
for Income Taxes" (SFAS No. 109). These differences result primarily from loss
reserves, policy acquisition expenses, and unrealized appreciation/depreciation
on investments.
M. NEW ACCOUNTING PRONOUNCEMENTS
In March 1995, SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of" was issued. This statement
requires companies to write down to fair value long-lived assets whose carrying
value is greater than the undiscounted cash flows of those assets. The statement
also requires that long-lived assets of which management is committed to
dispose, either by sale or abandonment, be valued at the lower of their carrying
amount or fair value less costs to sell. This statement is effective for fiscal
years beginning after December 15, 1995. The adoption of this statement has not
had a material effect on the financial statements.
N. RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to the current
year presentation.
2. SIGNIFICANT TRANSACTIONS
On February 19, 1997, AFC and Allmerica P&C entered into an Agreement and Plan
of Merger (the "Merger Agreement") pursuant to which AFC will acquire all of the
outstanding Common Stock, $1.00 par value per share, of Allmerica P&C that it
does not already own for consideration consisting of $33.00 per share of Common
Stock, subject to adjustment, payable in cash and shares of common stock, par
value $0.01 per share, AFC (the "AFC Common Stock"). In addition, a shareholder
of Allmerica P&C may elect to receive the consideration in cash, without
interest, or in shares of AFC Common Stock, subject to proration as set forth in
the Merger Agreement. The maximum number of shares of AFC Common Stock to be
issued in the Merger is approximately 9.67 million shares. The acquisition will
be accomplished by merging a newly-created, wholly-owned subsidiary of AFC with
and into Allmerica P&C (the "Merger"), resulting in Allmerica P&C becoming a
wholly-owned subsidiary of AFC. Also, immediately prior to the Merger, Allmerica
P&C's Certificate of Incorporation will be amended to authorize a new class of
Common Stock, one share of which will be exchanged for each share of Common
Stock currently held by SMA Financial Corp., a wholly-owned subsidiary of AFC.
The consummation of the Merger is subject to the satisfaction of various
conditions, including the approval of regulatory authorities.
On February 3, 1997, AFC Capital Trust (the "Trust"), a subsidiary business
trust of AFC, issued $300 million Series A Capital Securities, which pay
cumulative dividends at a rate of 8.207% semiannually commencing August 15,
1997. The Trust exists for the sole purpose of issuing the Capital Securities
and investing the proceeds thereof in an equivalent amount of 8.207% Junior
Subordinated Deferrable Interest Debentures due 2027 of AFC (the "Subordinated
Debentures"). Through certain guarantees, the Subordinated Debentures and the
terms of related agreements, AFC has irrevocably and unconditionally guaranteed
the obligations of the Trust under the Capital Securities. Net proceeds from the
offering of approximately $296.3 million are intended to fund a portion of the
acquisition of the 24.2 million publicly-held shares of Allmerica P&C pursuant
to an Agreement and Plan of Merger dated February 19, 1997.
Pursuant to the plan of reorganization effective October 16, 1995, AFC
issued 37.5 million shares of its common stock to eligible policyholders. AFC
also issued 12.6 million shares of its common stock at a price of $21.00 per
share in a public offering, resulting in net proceeds of $248.0 million, and
issued Senior Debentures in the principal amount of $200.0 million which
resulted in net proceeds of $197.2 million. AFC contributed $392.4 million of
these proceeds to FAFLIC.
Effective March 31, 1995, the Company entered into an agreement with TSSG, a
division of First Data Corporation, pursuant to which the Company sold its
mutual fund processing business and agreed not to engage in this business for
four years after that date. In accordance with this agreement, the Company
F-12
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
received proceeds of $32.1 million. A gain of $13.5 million, net of taxes of
$7.2 million, was recorded in March 1995. Additionally, the Company received a
non-recurring $3.1 million contingent payment, net of taxes of $1.7 million, in
1996, related to the aforementioned sale.
3. INVESTMENTS
A. SUMMARY OF INVESTMENTS
The Company accounts for its investments, all of which are classified as
available-for-sale, in accordance with SFAS No. 115. The amortized cost and fair
value of available-for-sale fixed maturities and equity securities were as
follows:
<TABLE>
<CAPTION>
1996
-----------------------------------------------
GROSS GROSS
DECEMBER 31 AMORTIZED UNREALIZED UNREALIZED FAIR
(IN MILLIONS) COST (1) GAINS LOSSES VALUE
- ---------------------------------------- --------- ---------- ----------- --------
<S> <C> <C> <C> <C>
U.S. Treasury securities and U.S.
government and agency securities....... $ 273.6 $ 9.3 $ 1.6 $ 281.3
States and political subdivisions....... 2,236.9 48.5 7.7 2,277.7
Foreign governments..................... 108.0 7.3 -- 115.3
Corporate fixed maturities.............. 4,277.5 140.3 15.7 4,402.1
Mortgage-backed securities.............. 383.1 4.7 2.7 385.1
--------- ---------- ----------- --------
Total fixed maturities.................. $7,279.1 $210.1 $ 27.7 $7,461.5
--------- ---------- ----------- --------
--------- ---------- ----------- --------
Equity securities....................... $ 327.9 $148.9 $ 3.7 $ 473.1
--------- ---------- ----------- --------
--------- ---------- ----------- --------
<CAPTION>
1995
-----------------------------------------------
GROSS GROSS
DECEMBER 31 AMORTIZED UNREALIZED UNREALIZED FAIR
(IN MILLIONS) COST (1) GAINS LOSSES VALUE
- ---------------------------------------- --------- ---------- ----------- --------
<S> <C> <C> <C> <C>
U.S. Treasury securities and U.S.
government and agency securities....... $ 377.0 $ 21.0 -- $ 398.0
States and political subdivisions....... 2,110.6 60.7 4.0 2,167.3
Foreign governments..................... 60.6 3.4 0.6 63.4
Corporate fixed maturities.............. 4,582.1 200.8 16.4 4,766.5
Mortgage-backed securities.............. 337.6 8.6 2.1 344.1
--------- ---------- ----------- --------
Total fixed maturities.................. $7,467.9 $294.5 $ 23.1 $7,739.3
--------- ---------- ----------- --------
--------- ---------- ----------- --------
Equity securities....................... $ 410.6 $111.7 $ 5.1 $ 517.2
--------- ---------- ----------- --------
--------- ---------- ----------- --------
</TABLE>
(1) Amortized cost for fixed maturities and cost for equity securities.
In March 1994, AFLIAC voluntarily withdrew its license in New York in order
to provide for certain commission arrangements prohibited by New York comparable
to AFLIAC's competitors. In connection with the withdrawal, FAFLIC, which is
licensed in New York, became qualified to sell the products previously sold by
AFLIAC in New York. AFLIAC agreed with the New York Department of Insurance to
maintain, through a custodial account in New York, a security deposit, the
market value of which will at all times equal 102% of all outstanding general
account liabilities of AFLIAC for New York policyholders, claimants and
creditors. At December 31, 1996, the amortized cost and market value of assets
on deposit were $284.9 million and $292.2 million, respectively. At December 31,
1995, the amortized cost and market value of assets on deposit were $295.0
million and $303.6 million, respectively. In addition, fixed maturities,
excluding those securities on deposit in New York, with an amortized cost of
$98.0 million and $82.2 million were on deposit with various state and
governmental authorities at December 31, 1996 and 1995, respectively.
F-13
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
There were no contractual fixed maturity investment commitments at December
31, 1996 and 1995, respectively.
The amortized cost and fair value by maturity periods for fixed maturities
are shown below. Actual maturities may differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or
without call or prepayment penalties, or the Company may have the right to put
or sell the obligations back to the issuers. Mortgage backed securities are
included in the category representing their ultimate maturity.
<TABLE>
<CAPTION>
1996
--------------------
DECEMBER 31 AMORTIZED FAIR
(IN MILLIONS) COST VALUE
- ---------------------------------------- --------- --------
<S> <C> <C>
Due in one year or less................. $ 567.1 $ 570.7
Due after one year through five years... 2,216.4 2,297.2
Due after five years through ten
years.................................. 2,373.1 2,432.0
Due after ten years..................... 2,122.5 2,161.6
--------- --------
Total............................... $7,279.1 $7,461.5
--------- --------
--------- --------
</TABLE>
The proceeds from voluntary sales of available-for-sale securities and the
gross realized gains and gross realized losses on those sales were as follows:
<TABLE>
<CAPTION>
PROCEEDS FROM
FOR THE YEARS ENDED DECEMBER 31 VOLUNTARY GROSS GROSS
(IN MILLIONS) SALES GAINS LOSSES
- --------------------------------------------- ------------------ ----- ------
<S> <C> <C> <C>
1996
Fixed maturities............................. $2,432.8 $19.3 $30.5
-------- ----- ------
Equity securities............................ $ 228.1 $56.1 $ 1.3
-------- ----- ------
1995
Fixed maturities............................. $1,612.3 $23.7 $33.0
-------- ----- ------
Equity securities............................ $ 122.2 $23.1 $ 6.9
-------- ----- ------
1994
Fixed maturities............................. $1,026.2 $12.6 $21.6
-------- ----- ------
Equity securities............................ $ 124.3 $17.4 $ 4.5
-------- ----- ------
</TABLE>
F-14
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Unrealized gains and losses on available-for-sale and other securities, are
summarized as follows:
<TABLE>
<CAPTION>
EQUITY
SECURITIES
FOR THE YEARS ENDED DECEMBER 31 FIXED AND OTHER
(IN MILLIONS) MATURITIES (1) TOTAL
- ------------------------------------------------------------ ---------- ----------- -------
<S> <C> <C> <C>
1996
Net appreciation, beginning of year......................... $108.7 $ 44.3 $ 153.0
---------- ----------- -------
Net (depreciation) appreciation on available-for-sale
fixed maturities......................................... (94.1) 35.9 (58.2)
Net appreciation from the effect on deferred policy
acquisition costs and on policy liabilities.............. 23.1 -- 23.1
Provision for deferred federal income taxes and minority
interest................................................. 33.6 (20.1) 13.5
---------- ----------- -------
(37.4) 15.8 (21.6)
---------- ----------- -------
Net appreciation, end of year............................... $ 71.3 $ 60.1 $ 131.4
---------- ----------- -------
---------- ----------- -------
1995
Net appreciation (depreciation), beginning of year.......... $(89.4) $ 10.4 $ (79.0)
---------- ----------- -------
Effect of transfer of securities between classifications:
Net appreciation on available-for-sale fixed maturities... 29.2 -- 29.2
Effect of transfer on deferred policy acquisition costs
and on policy liabilities................................ (6.8) -- (6.8)
Provision for deferred federal income taxes and minority
interest................................................. (9.6) -- (9.6)
---------- ----------- -------
12.8 -- 12.8
---------- ----------- -------
Net appreciation on available-for-sale securities........... 465.4 87.5 552.9
Net depreciation from the effect on deferred policy
acquisition costs and on policy liabilities................ (86.9) (86.9)
Provision for deferred federal income taxes and minority
interest................................................... (193.2) (53.6) (246.8)
---------- ----------- -------
185.3 33.9 219.2
---------- ----------- -------
Net appreciation, end of year............................... $108.7 $ 44.3 $ 153.0
---------- ----------- -------
---------- ----------- -------
1994
Net appreciation, beginning of year......................... $-- $ 17.5 $ 17.5
---------- ----------- -------
Cumulative effect of accounting change:
Net appreciation on available-for-sale fixed maturities... 335.3 -- 335.3
Net depreciation from the effect of accounting change on
deferred policy acquisition costs and on policy
liabilities.............................................. (39.2) -- (39.2)
Provision for deferred federal income taxes and minority
interest................................................. (149.1) -- (149.1)
---------- ----------- -------
147.0 -- 147.0
---------- ----------- -------
Net depreciation on available-for-sale securities........... (547.9) (17.4) (565.3)
Net appreciation from the effect on deferred policy
acquisition costs and on policy liabilities................ 73.2 -- 73.2
Provision for deferred federal income taxes and minority
interest................................................... 238.3 10.3 248.6
---------- ----------- -------
(236.4) (7.1) (243.5)
---------- ----------- -------
Net (depreciation) appreciation, end of year................ $(89.4) $ 10.4 $ (79.0)
---------- ----------- -------
---------- ----------- -------
</TABLE>
(1) Includes net appreciation on other investments of $0.6 million, 2.2
million, and $0.6 million in 1996, 1995, and 1994, respectively.
F-15
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
B. MORTGAGE LOANS AND REAL ESTATE
FAFLIC's mortgage loans and real estate are diversified by property type and
location. Real estate investments have been obtained primarily through
foreclosure. Mortgage loans are collateralized by the related properties and
generally are no more than 75% of the property's value at the time the original
loan is made.
The carrying values of mortgage loans and real estate investments net of
applicable reserves were as follows:
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- ---------------------------------------- ------ --------
<S> <C> <C>
Mortgage loans.......................... $650.1 $ 799.5
------ --------
Real estate:
Held for sale......................... 110.4 168.9
Held for production of income......... 10.3 10.7
------ --------
Total real estate................... 120.7 179.6
------ --------
Total mortgage loans and real estate.... $770.8 $ 979.1
------ --------
------ --------
</TABLE>
Reserves for mortgage loans were $19.6 million and $33.8 million at December
31, 1996 and 1995, respectively.
During 1996, 1995 and 1994, non-cash investing activities included real
estate acquired through foreclosure of mortgage loans, which had a fair value of
$0.9 million, $26.1 million and $39.2 million, respectively.
At December 31, 1996, contractual commitments to extend credit under
commercial mortgage loan agreements amounted to approximately $22.1 million, of
which $3.1 million related to the Closed Block. These commitments generally
expire within one year.
F-16
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Mortgage loans and real estate investments comprised the following property
types and geographic regions:
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- ---------------------------------------- ------ --------
<S> <C> <C>
Property type:
Office building....................... $317.1 $ 435.9
Residential........................... 95.4 145.3
Retail................................ 177.0 205.6
Industrial / warehouse................ 124.8 93.8
Other................................. 91.0 151.9
Valuation allowances.................. (34.5) (53.4)
------ --------
Total................................... $770.8 $ 979.1
------ --------
------ --------
Geographic region:
South Atlantic........................ 227.0 $ 281.4
Pacific............................... 154.4 191.9
East North Central.................... 119.2 118.2
Middle Atlantic....................... 112.6 148.9
West South Central.................... 41.6 79.7
New England........................... 50.9 94.9
Other................................. 99.6 117.5
Valuation allowances.................. (34.5) (53.4)
------ --------
Total................................... $770.8 $ 979.1
------ --------
------ --------
</TABLE>
F-17
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
At December 31, 1996, scheduled mortgage loan maturities were as follows:
1997 -- $131.9 million; 1998 -- $161.7 million; 1999 -- $99.9 million; 2000 --
$138.0 million; 2001 -- $34.4 million; and $84.2 million thereafter. Actual
maturities could differ from contractual maturities because borrowers may have
the right to prepay obligations with or without prepayment penalties and loans
may be refinanced. During 1996, the Company refinanced $7.8 million of mortgage
loans based on terms which differed from those granted to new borrowers.
C. INVESTMENT VALUATION ALLOWANCES
Investment valuation allowances which have been deducted in arriving at
investment carrying values as presented in the consolidated balance sheets and
changes thereto are shown below.
<TABLE>
<CAPTION>
FOR THE YEARS ENDED BALANCE AT
DECEMBER 31 BALANCE AT DECEMBER
(IN MILLIONS) JANUARY 1 ADDITIONS DEDUCTIONS 31
- ------------------------- ---------- --------- ---------- ----------
<S> <C> <C> <C> <C>
1996
Mortgage loans........... $33.8 $ 5.5 $19.7 $19.6
Real estate.............. 19.6 -- 4.7 14.9
----- --------- ----- -----
Total................ $53.4 $ 5.5 $24.4 $34.5
----- --------- ----- -----
----- --------- ----- -----
1995
Mortgage loans........... $47.2 $ 1.5 $14.9 $33.8
Real estate.............. 22.9 (0.6) 2.7 19.6
----- --------- ----- -----
Total................ $70.1 $ 0.9 $17.6 $53.4
----- --------- ----- -----
----- --------- ----- -----
1994
Mortgage loans........... $73.8 $14.6 $41.2 $47.2
Real estate.............. 21.0 3.2 1.3 22.9
----- --------- ----- -----
Total................ $94.8 $17.8 $42.5 $70.1
----- --------- ----- -----
----- --------- ----- -----
</TABLE>
The carrying value of impaired loans was $33.6 million and $55.7 million,
with related reserves of $11.9 million and $22.3 million as of December 31, 1996
and 1995, respectively. All impaired loans were reserved as of December 31, 1996
and 1995.
The average carrying value of impaired loans was $50.4 million, $117.9
million and $155.5 million, with related interest income while such loans were
impaired of $5.8 million, $9.3 million and $12.4 million as of December 31,
1996, 1995 and 1994 respectively.
D. FUTURES CONTRACTS
FAFLIC purchases long futures contracts and sells short futures contracts on
margin to hedge against interest rate fluctuations and their effect on the net
cash flows from the sales of guaranteed investment contracts. The notional
amount of such futures contracts outstanding were $(33.0) million net short and
$74.7 million long contracts at December 31, 1996 and 1995, respectively.
Because the Company purchases and sells futures contracts through brokers who
assume the risk of loss, the Company's exposure to credit risk under futures
contracts is limited to the margin deposited with the broker. The maturity of
all futures contracts outstanding are less than one year. The fair value of
futures contracts outstanding were $(32.4) million and $75.7 million at December
31, 1996 and 1995, respectively.
Gains and losses on hedge contracts related to interest rate fluctuations
are deferred and recognized in income over the period being hedged corresponding
to related guaranteed investment contracts. Deferred hedging gains (losses) were
$0.5 million, $5.6 million, and $(7.7) million in 1996, 1995 and 1994,
respectively. Gains and losses on hedge contracts that are deemed ineffective by
management are realized immediately.
F-17
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
A reconciliation of the notional amount of futures contracts is as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- --------------------------------------------- ------ ------ ------
<S> <C> <C> <C>
Contracts outstanding, beginning of year..... $ 74.7 $126.6 $141.7
New contracts................................ (1.1) 349.2 816.0
Contracts terminated......................... (106.6) (401.1) (831.1)
------ ------ ------
Contracts outstanding, end of year........... $(33.0) $ 74.7 $126.6
------ ------ ------
------ ------ ------
</TABLE>
E. FOREIGN CURRENCY SWAP CONTRACTS
The Company enters into foreign currency swap contracts to hedge exposure to
currency risk on foreign fixed maturity investments. Interest and principal
related to foreign fixed maturity investments payable in foreign currencies, at
current exchange rates, are exchanged for the equivalent payment translated at a
specific currency exchange rate. The Company's maximum exposure to counterparty
credit risk is the difference between the foreign currency exchange rate, as
agreed upon in the swap contract, and the foreign currency spot rate on the date
of the exchange. The fair values of the foreign currency swap contracts
outstanding were $(9.2) million and $(1.8) million at December 31, 1996 and
1995, respectively.
The difference between amounts paid and received on foreign currency swap
contracts is reflected in the net investment income related to the underlying
assets and is not material in 1996, 1995 and 1994. The Company had no deferred
gains or losses on foreign currency swap contracts.
A reconciliation of the notional amount of swap contracts is as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- --------------------------------------------- ------ ------ ------
<S> <C> <C> <C>
Contracts outstanding, beginning of year..... $104.6 $118.7 $128.8
New contracts................................ -- -- 10.1
Contracts expired............................ (36.0) -- (15.1)
Contracts terminated......................... -- (14.1) (5.1)
------ ------ ------
Contracts outstanding, end of year........... $ 68.6 $104.6 $118.7
------ ------ ------
------ ------ ------
</TABLE>
Expected maturities of foreign currency swap contracts are $18.2 million in
1997 and $50.4 million in 1999 and thereafter. There are no expected maturities
of foreign currency swap contracts in 1998.
F. INTEREST RATE AND OTHER SWAP CONTRACTS
The Company enters into interest rate swap contracts to hedge exposure to
interest rate fluctuations. Under these swap contracts, the Company agrees to
exchange, at specified intervals, the difference between fixed and floating
interest amounts calculated on an agreed-upon notional principal amount. In
addition, the Company has entered into two new types of swap contracts in 1996:
security return-linked swap contracts and insurance portfolio-linked swap
contracts for investment purposes. Under the security return-linked contracts,
the Company agrees to exchange cash flows according to the performance of a
specified security or portfolio of securities. Under the insurance
portfolio-linked swap contracts, the Company agrees to exchange cash flows
according to the performance of a specified underwriter's portfolio of insurance
business. Because the underlying principal of swap contracts is not exchanged,
the Company's maximum exposure to counterparty credit risk is the difference in
payments exchanged.
The net amount receivable or payable is recognized over the life of the swap
contract as an adjustment to net investment income. The increase or (decrease)
in net investment income related to interest rate and other swap contracts was
$0.6 million, $0.7 million and $(1.3) million for the years ended December 31,
1996,
F-18
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
1995 and 1994, respectively. The Company had no deferred gains or losses
relating to interest rate and other swap contracts. The fair values of interest
rate and other swap contracts outstanding were $0.1 million, $0.4 million and
$0.6 million for the years ended December 31, 1996, 1995 and 1994, respectively.
A reconciliation of the notional amount of interest rate and other swap
contracts is as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- --------------------------------------------- ------ ------ ------
<S> <C> <C> <C>
Contracts outstanding, beginning of year..... $ 17.5 $ 22.8 $ 22.8
New contracts................................ 63.6 -- --
Contracts expired............................ (17.5) (5.3) --
------ ------ ------
Contracts outstanding, end of year........... $ 63.6 $ 17.5 $ 22.8
------ ------ ------
------ ------ ------
</TABLE>
Expected maturities of interest rate and other swap contracts outstanding at
December 31 are as follows: $43.6 million in 1997, $5.0 million in 1998, and
$15.0 million in 1999 and thereafter.
G. OTHER
At December 31, 1996, FAFLIC had no concentration of investments in a single
investee exceeding 10% of shareholder's equity, except for investments with the
U.S. Treasury with a carrying value of $262.8 million.
4. INVESTMENT INCOME AND GAINS AND LOSSES
A. NET INVESTMENT INCOME
The components of net investment income were as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- --------------------------------------------- ------ ------ ------
<S> <C> <C> <C>
Fixed maturities............................. $553.8 $555.1 $578.3
Mortgage loans............................... 69.5 97.0 119.9
Equity securities............................ 11.1 13.2 9.9
Policy loans................................. 10.3 20.3 23.3
Real estate.................................. 40.8 48.7 44.6
Other long-term investments.................. 19.0 7.1 5.7
Short-term investments....................... 10.6 21.2 10.3
------ ------ ------
Gross investment income...................... 715.1 762.6 792.0
Less investment expenses..................... (45.2) (52.5) (48.9)
------ ------ ------
Net investment income........................ $669.9 $710.1 $743.1
------ ------ ------
------ ------ ------
</TABLE>
At December 31, 1996, fixed maturities and mortgage loans on non-accrual
status were $2.0 million and $6.8 million, including restructured loans of $4.4
million. The effect of non-accruals, compared with amounts that would have been
recognized in accordance with the original terms of the investments, was to
reduce net income by $0.5 million, $0.6 million and $5.1 million in 1996, 1995
and 1994, respectively.
The payment terms of mortgage loans may from time to time be restructured or
modified. The investment in restructured mortgage loans, based on amortized
cost, amounted to $51.3 million, $98.9 million and $126.8 million at December
31, 1996, 1995 and 1994, respectively. Interest income on restructured mortgage
loans that would have been recorded in accordance with the original terms of
such loans amounted to $7.7 million, $11.1 million and $14.4 million in 1996,
1995 and 1994, respectively. Actual interest income on these loans included in
net investment income aggregated $4.5 million, $7.1 million and $8.2 million in
1996, 1995 and 1994, respectively.
F-19
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
At December 31, 1996, fixed maturities with a carrying value of $2.0 million
were non-income producing for the twelve months ended December 31, 1996. There
were no mortgage loans which were non-income producing for the twelve months
ended December 31, 1996.
Included in long-term investments is income from limited partnerships of
$13.7 million, $0.1 million and $0.6 million in 1996, 1995 and 1994,
respectively.
B. REALIZED INVESTMENT GAINS AND LOSSES
Realized gains (losses) on investments were as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- --------------------------------------------- ------ ------ ------
<S> <C> <C> <C>
Fixed maturities............................. $ (9.7) $ (7.0) $ 2.4
Mortgage loans............................... (2.4) 1.4 (12.1)
Equity securities............................ 54.8 16.2 12.4
Real estate.................................. 21.1 5.3 1.4
Other........................................ 3.0 3.2 (3.0)
------ ------ ------
Net realized investment gains................ $ 66.8 $ 19.1 $ 1.1
------ ------ ------
------ ------ ------
</TABLE>
Proceeds from voluntary sales of investments in fixed maturities were
$2,432.8 million, $1,612.3 million and $1,036.5 million in 1996, 1995 and 1994,
respectively. Realized gains on such sales were $19.3 million, $23.7 million and
$12.9 million; and realized losses were $30.5 million, $33.0 million and $21.6
million for 1996, 1995 and 1994, respectively.
5. FAIR VALUE DISCLOSURES OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments", requires
disclosure of fair value information about certain financial instruments
(insurance contracts, real estate, goodwill and taxes are excluded) for which it
is practicable to estimate such values, whether or not these instruments are
included in the balance sheet. The fair values presented for certain financial
instruments are estimates which, in many cases, may differ significantly from
the amounts which could be realized upon immediate liquidation. In cases where
market prices are not available, estimates of fair value are based on discounted
cash flow analyses which utilize current interest rates for similar financial
instruments which have comparable terms and credit quality. Fair values of
interest rate futures were not material at December 31, 1996 and 1995.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments:
CASH AND CASH EQUIVALENTS
For these short-term investments, the carrying amount approximates fair value.
FIXED MATURITIES
Fair values are based on quoted market prices, if available. If a quoted market
price is not available, fair values are estimated using independent pricing
sources or internally developed pricing models using discounted cash flow
analyses.
EQUITY SECURITIES
Fair values are based on quoted market prices, if available. If a quoted market
price is not available, fair values are estimated using independent pricing
sources or internally developed pricing models.
F-20
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
MORTGAGE LOANS
Fair values are estimated by discounting the future contractual cash flows using
the current rates at which similar loans would be made to borrowers with similar
credit ratings. The fair value of below investment grade mortgage loans are
limited to the lesser of the present value of the cash flows or book value.
POLICY LOANS
The carrying amount reported in the consolidated balance sheets approximates
fair value since policy loans have no defined maturity dates and are inseparable
from the insurance contracts.
REINSURANCE RECEIVABLES
The carrying amount reported in the consolidated balance sheets approximates
fair value.
INVESTMENT CONTRACTS (WITHOUT MORTALITY FEATURES)
Fair values for the Company's liabilities under guaranteed investment type
contracts are estimated using discounted cash flow calculations using current
interest rates for similar contracts with maturities consistent with those
remaining for the contracts being valued. Other liabilities are based on
surrender values.
DEBT
The carrying value of short-term debt reported in the balance sheet approximates
fair value. The fair value of long-term debt was estimated using market quotes,
when available, and, when not available, discounted cash flow analyses.
The estimated fair values of the financial instruments were as follows:
<TABLE>
<CAPTION>
1996 1995
-------------------- --------------------
DECEMBER 31 CARRYING FAIR CARRYING FAIR
(IN MILLIONS) VALUE VALUE VALUE VALUE
- --------------------------------------------- --------- -------- --------- --------
<S> <C> <C> <C> <C>
FINANCIAL ASSETS
Cash and cash equivalents.................. $ 175.9 $ 175.9 $ 236.6 $ 236.6
Fixed maturities........................... 7,461.5 7,461.5 7,739.3 7,739.3
Equity securities.......................... 473.1 473.1 517.2 517.2
Mortgage loans............................. 650.1 675.7 799.5 845.4
Policy loans............................... 132.4 132.4 123.2 123.2
--------- -------- --------- --------
$ 8,893.0 $8,918.6 $ 9,415.8 $9,461.7
--------- -------- --------- --------
--------- -------- --------- --------
FINANCIAL LIABILITIES
Guaranteed investment contracts............ $ 1,101.3 $1,119.2 $ 1,632.8 $1,677.0
Supplemental contracts without life
contingencies............................. 23.1 23.1 24.4 24.4
Dividend accumulations..................... 87.3 87.3 86.2 86.2
Other individual contract deposit funds.... 76.9 74.3 95.7 92.8
Other group contract deposit funds......... 789.1 788.3 894.0 902.8
Individual annuity contracts............... 935.6 719.0 966.3 810.0
Short-term debt............................ 38.4 38.4 28.0 28.0
Long-term debt............................. 2.7 2.7 2.8 2.9
--------- -------- --------- --------
$ 3,054.4 $2,852.3 $ 3,730.2 $3,624.1
--------- -------- --------- --------
--------- -------- --------- --------
</TABLE>
F-21
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
6. CLOSED BLOCK
Included in other income in the Consolidated Statement of Income in 1996 and
1995 is a net pre-tax contribution from the Closed Block of $8.6 million and
$2.9 million, respectively. Summarized financial information of the Closed Block
as of December 31, 1996 and 1995 and for the period ended December 31, 1996, and
the period from October 1, 1995 through December 31, 1995, is as follows:
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- ----------------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C>
Assets
Fixed maturities, at fair value (amortized cost of $397.2 and $447.4, respectively).......... $ 403.9 $ 458.0
Mortgage loans............................................................................... 114.5 57.1
Policy loans................................................................................. 230.2 242.4
Cash and cash equivalents.................................................................... 24.1 17.6
Accrued investment income.................................................................... 14.3 16.6
Deferred policy acquisition costs............................................................ 21.1 24.5
Other assets................................................................................. 3.7 2.7
--------- ---------
Total assets................................................................................... $ 811.8 $ 818.9
--------- ---------
--------- ---------
Liabilities
Policy liabilities and accruals.............................................................. $ 883.4 $ 899.2
Other liabilities............................................................................ 8.7 2.8
--------- ---------
Total liabilities.............................................................................. $ 892.1 $ 902.0
--------- ---------
--------- ---------
</TABLE>
F-22
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
<TABLE>
<CAPTION>
PERIOD FROM
DECEMBER 31, DECEMBER 31, OCTOBER 1 THROUGH
(IN MILLIONS) 1996 DECEMBER 31, 1995
- -------------------------------------------------------------------------------- ------------ -----------------
<S> <C> <C>
Revenues
Premiums...................................................................... $ 61.7 $ 11.5
Net investment income......................................................... 52.6 12.8
Realized investment loss...................................................... (0.7) --
------------ -------
Total revenues.................................................................. 113.6 24.3
------------ -------
Benefits and expenses
Policy benefits............................................................... 101.2 20.6
Policy acquisition expenses................................................... 3.2 0.8
Other operating expenses...................................................... 0.6 --
------------ -------
Total benefits and expenses..................................................... 105.0 21.4
------------ -------
Contribution from the Closed Block.............................................. $ 8.6 $ 2.9
------------ -------
------------ -------
Cash flows
Cash flows from operating activities:
Contribution from the Closed Block.......................................... $ 8.6 $ 2.9
Initial cash transferred to the Closed Block................................ -- 139.7
Change in deferred policy acquisition costs, net............................ 3.4 0.4
Change in premiums and other receivables.................................... 0.2 (0.1)
Change in policy liabilities and accruals................................... (13.9) 2.0
Change in accrued investment income......................................... 2.3 (1.3)
Other, net.................................................................. 2.5 0.8
------------ -------
Net cash provided by operating activities....................................... 3.1 144.4
------------ -------
Cash flows from investing activities:
Sales, maturities and repayments of investments............................. 188.1 29.0
Purchases of investments.................................................... (196.9) (158.8)
Other, net.................................................................. 12.2 3.0
------------ -------
Net cash provided by (used in) investing activities............................. 3.4 (126.8)
------------ -------
Net increase in cash and cash equivalents....................................... 6.5 17.6
Cash and cash equivalents, beginning of year.................................... 17.6 --
------------ -------
Cash and cash equivalents, end of year.......................................... $ 24.1 $ 17.6
------------ -------
------------ -------
</TABLE>
On October 16, 1995, there were no valuation allowances transferred to the
Closed Block on mortgage loans. There are no valuation allowances on mortgage
loans in the Closed Block at December 31, 1996 or 1995, respectively.
Many expenses related to Closed Block operations are charged to operations
outside the Closed Block; accordingly, the contribution from the Closed Block
does not represent the actual profitability of the Closed Block operations.
Operating costs and expenses outside of the Closed Block are, therefore,
disproportionate to the business outside the Closed Block.
F-23
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
7. DEBT
Short- and long-term debt consisted of the following:
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- ------------------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C>
Short-Term
Commercial paper............................................................................... $ 37.8 $ 27.7
Other.......................................................................................... 0.6 0.3
--------- ---------
Total short-term debt............................................................................ $ 38.4 $ 28.0
--------- ---------
--------- ---------
Long-term debt................................................................................... $ 2.7 $ 2.8
--------- ---------
--------- ---------
</TABLE>
FAFLIC issues commercial paper primarily to manage imbalances between
operating cash flows and existing commitments. Commercial paper borrowing
arrangements are supported by various lines of credit. At December 31, 1996, the
weighted average interest rate for outstanding commercial paper was
approximately 5.5%.
At December 31, 1996, FAFLIC had approximately $140.0 million in committed
lines of credit provided by U.S. banks, of which $102.2 million was available
for borrowing. These lines of credit generally have terms of less than one year,
and require the Company to pay annual commitment fees of 0.07% of the available
credit. Interest that would be charged for usage of these lines of credit is
based upon negotiated arrangements.
During 1996, the Company utilized repurchase agreements to finance certain
investments. Although the repurchase agreements were entirely settled by year
end, management may utilize this policy again in future periods.
In October, 1995, AFC issued $200.0 million face amount of Senior Debentures
for proceeds of $197.2 million net of discounts and issuance costs. These
securities have an effective interest rate of 7.65%, and mature on October 16,
2025. Interest is payable semiannually on October 15 and April 15 of each year.
The Senior Debentures are subject to certain restrictive covenants, including
limitations on issuance of or disposition of stock of restricted subsidiaries
and limitations on liens. AFC is in compliance with all covenants. The primary
source of cash for repayment of the debt by AFC is dividends from FAFLIC.
Interest expense was $16.8 million, $4.1 million and $4.3 million in 1996,
1995 and 1994, respectively. Interest expense included $11.0 million related to
interest payments on repurchase agreements. All interest expense is recorded in
other operating expenses.
8. FEDERAL INCOME TAXES
Provisions for federal income taxes have been calculated in accordance with the
provisions of SFAS No. 109. A summary of the federal income tax expense
(benefit) in the consolidated statements of income is shown below:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- -------------------------------------------------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
Federal income tax expense (benefit)
Current............................................................................. $ 96.8 $ 119.7 $ 45.4
Deferred............................................................................ (15.7) (37.0) 8.0
--------- --------- ---------
Total................................................................................. $ 81.1 $ 82.7 $ 53.4
--------- --------- ---------
--------- --------- ---------
</TABLE>
F-24
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The federal income taxes attributable to the consolidated results of
operations are different from the amounts determined by multiplying income
before federal income taxes by the expected federal income tax rate. The sources
of the difference and the tax effects of each were as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- ------------------------------------------------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
Expected federal income tax expense.................................................. $ 122.3 $ 105.6 $ 53.7
Tax-exempt interest................................................................ (35.3) (32.2) (35.9)
Differential earnings amount....................................................... (10.2) (7.6) 35.0
Dividend received deduction........................................................ (1.6) (4.0) (2.5)
Changes in tax reserve estimates................................................... 4.7 19.3 4.0
Other, net......................................................................... 1.2 1.6 (0.9)
--------- --------- ---------
Federal income tax expense........................................................... $ 81.1 $ 82.7 $ 53.4
--------- --------- ---------
--------- --------- ---------
</TABLE>
Until conversion to a stock life insurance company, FAFLIC, as a mutual
company, reduced its deduction for policyholder dividends by the differential
earnings amount. This amount was computed, for each tax year, by multiplying the
average equity base of the FAFLIC/AFLIAC consolidated group, as determined for
tax purposes, by the estimate of an excess of an imputed earnings rate over the
average mutual life insurance companies' earnings rate. The differential
earnings amount for each tax year was subsequently recomputed when actual
earnings rates were published by the Internal Revenue Service (IRS). The
differential earnings amount included in 1996 related to an adjustment for the
1994 tax year based on the actual mutual life insurance companies' earnings rate
issued by the IRS in 1996. As a stock life company, FAFLIC is no longer required
to reduce its policyholder dividend deduction by the differential earnings
amount.
The deferred income tax asset represents the tax effects of temporary
differences attributable to Allmerica P&C, a separate consolidated group for
federal tax return purposes. Its components were as follows:
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- --------------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C>
Deferred tax (assets) liabilities
AMT carryforwards.......................................................................... $ (16.3) $ (9.8)
Loss reserve discounting................................................................... (182.1) (178.3)
Deferred acquisition costs................................................................. 57.5 55.1
Employee benefit plans..................................................................... (25.1) (25.5)
Investments, net........................................................................... 73.4 77.4
Bad debt reserve........................................................................... (1.7) (1.8)
Other, net................................................................................. 1.1 1.7
--------- ---------
Deferred tax asset, net...................................................................... $ (93.2) $ (81.2)
--------- ---------
--------- ---------
</TABLE>
F-25
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The deferred income tax liability represents the tax effects of temporary
differences attributable to the FAFLIC/AFLIAC consolidated federal tax return
group. Its components were as follows:
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- --------------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C>
Deferred tax (assets) liabilities
Loss reserve discounting................................................................... $ (153.7) $ (129.1)
Deferred acquisition costs................................................................. 189.6 169.7
Employee benefit plans..................................................................... (16.3) (14.6)
Investments, net........................................................................... 55.1 67.0
Bad debt reserve........................................................................... (24.5) (26.3)
Other, net................................................................................. (15.6) (18.9)
--------- ---------
Deferred tax liability, net.................................................................. $ 34.6 $ 47.8
--------- ---------
--------- ---------
</TABLE>
Gross deferred income tax assets totaled $435.3 million and $405.1 million
at December 31, 1996 and 1995, respectively. Gross deferred income tax
liabilities totaled $376.7 million and $371.7 million at December 31, 1996 and
1995, respectively.
Management believes, based on the Company's recent earnings history and its
future expectations, that the Company's taxable income in future years will be
sufficient to realize all deferred tax assets. In determining the adequacy of
future income, management considered the future reversal of its existing
temporary differences and available tax planning strategies that could be
implemented, if necessary.
At December 31, 1996, there are available non-life net operating loss
carryforwards of $0.8 million, and alternative minimum tax credit carryforwards
of $16.3 million.
The Company's federal income tax returns are routinely audited by the IRS,
and provisions are routinely made in the financial statements in anticipation of
the results of these audits. The IRS has examined the FAFLIC/AFLIAC consolidated
group's federal income tax returns through 1991. The IRS has also examined the
Allmerica P&C consolidated group's federal income tax returns through 1991. The
Company is currently considering its response to certain adjustments proposed by
the IRS with respect to the federal income tax returns for 1989, 1990 and 1991
for both the FAFLIC/AFLIAC consolidated group, as well as the Allmerica P&C
consolidated group. Also, certain adjustments proposed by the IRS with respect
to FAFLIC/AFLIAC's federal income tax returns for 1982 and 1983 remain
unresolved. If upheld, these adjustments would result in additional payments;
however, the Company will vigorously defend its position with respect to these
adjustments. In management's opinion, adequate tax liabilities have been
established for all years. However, the amount of these tax liabilities could be
revised in the near term if estimates of the Company's ultimate liability are
revised.
9. PENSION PLANS
FAFLIC provides retirement benefits to substantially all of its employees under
three separate defined benefit pension plans. Through December 31, 1994,
retirement benefits were based primarily on employees' years of service and
compensation during the highest five consecutive plan years of employment.
Benefits under this defined benefit formula were frozen for most employees (but
not for eligible agents) effective December 31, 1994. In their place, the
Company adopted a defined benefit cash balance formula, under which the Company
annually provides an allocation to each eligible employee as a percentage of
that employee's salary, similar to a defined contribution plan arrangement. The
1996 and 1995 allocations were based on 7.0% of each eligible employee's salary.
The Company's policy for the plans is to fund at least the minimum amount
required by the Employee Retirement Income Security Act of 1974.
F-26
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Components of net pension expense were as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- -------------------------------------------------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
Service cost -- benefits earned during the year....................................... $ 19.0 $ 19.7 $ 13.0
Interest accrued on projected benefit obligations..................................... 21.9 21.1 20.0
Actual return on assets............................................................... (42.2) (89.3) (2.6)
Net amortization and deferral......................................................... 9.3 66.1 (16.3)
--------- --------- ---------
Net pension expense................................................................... $ 8.0 $ 17.6 $ 14.1
--------- --------- ---------
--------- --------- ---------
</TABLE>
The following table summarizes the combined status of the three pension
plans. At December 31, 1996 the plans' assets exceeded their projected benefit
obligations and in 1995 the plans' projected benefit obligations exceeded their
assets.
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- ----------------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C>
Actuarial present value of benefit obligations:
Vested benefit obligation.................................................................... $ 308.9 $ 325.6
Unvested benefit obligation.................................................................. 6.6 5.0
--------- ---------
Accumulated benefit obligation................................................................. $ 315.5 $ 330.6
--------- ---------
--------- ---------
Pension liability included in Consolidated Balance Sheets:
Projected benefit obligation................................................................. $ 344.2 $ 367.1
Plan assets at fair value.................................................................... 347.8 321.2
--------- ---------
Plan assets greater (less) than projected benefit obligation............................... 3.6 (45.9)
Unrecognized net (gain) loss from past experience............................................ (9.1) 48.8
Unrecognized prior service benefit........................................................... (11.5) (13.8)
Unamortized transition asset................................................................. (24.7) (26.5)
--------- ---------
Net pension liability.......................................................................... $ (41.7) $ (37.4)
--------- ---------
--------- ---------
</TABLE>
Determination of the projected benefit obligations was based on a weighted
average discount rate of 7.0% in 1996 and 1995, and the assumed long-term rate
of return on plan assets was 9%. The actuarial present value of the projected
benefit obligations was determined using assumed rates of increase in future
compensation levels ranging from 5.5% to 6.5%. Plan assets are invested
primarily in various separate accounts and the general account of FAFLIC. The
plans also hold stock of AFC.
The Company has a profit sharing and 401(k) plan for its employees.
Effective for plan years beginning after 1994, the profit sharing formula for
employees has been discontinued and a 401(k) match feature has been added to the
continuing 401(k) plan for the employees. Total plan expense in 1996, 1995 and
1994 was $5.5 million, $5.2 million and $12.6 million, respectively. In addition
to this Plan, the Company has a defined contribution plan for substantially all
of its agents. The Plan expense in 1996, 1995 and 1994 was $2.0 million, $3.5
million and $2.7 million, respectively.
10. OTHER POSTRETIREMENT BENEFIT PLANS
In addition to the Company's pension plans, the Company currently provides
postretirement medical and death benefits to certain full-time employees and
dependents, under several plans sponsored by FAFLIC, Hanover and Citizens.
Generally, employees become eligible at age 55 with at least 15 years of
service. Spousal coverage is generally provided for up to two years after death
of the retiree. Benefits include hospital, major medical and a payment at death
equal to retirees' final compensation up to certain limits.
F-27
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Effective January 1, 1996, the Company revised these benefits so as to establish
limits on future benefit payments and to restrict eligibility to current
employees. The medical plans have varying copayments and deductibles, depending
on the plan. These plans are unfunded.
The plan changes effective January 1, 1996 resulted in a negative plan
amendment (change in eligibility and medical benefits) of $26.8 million and
curtailment (no future increases in life insurance) of $5.3 million. The
negative plan amendment will be amortized as prior service cost over the average
number of years to full eligibility (approximately 9 years or $3.0 million per
year). Of the $5.3 million curtailment gain, $3.3 million has been deducted from
unrecognized loss and $2.0 million has been recorded as a reduction of the net
periodic postretirement benefit expense.
The plans' funded status reconciled with amounts recognized in the Company's
consolidated balance sheet were as follows:
<TABLE>
<CAPTION>
DECEMBER 31
(IN MILLIONS) 1996 1995
- ---------------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C>
Accumulated postretirement benefit obligation:
Retirees.................................................................................... $ 40.4 $ 44.9
Fully eligible active plan participants..................................................... 7.5 14.0
Other active plan participants.............................................................. 24.4 45.9
--------- ---------
72.3 104.8
Plan assets at fair value..................................................................... -- --
--------- ---------
Accumulated postretirement benefit obligation in excess of plan assets........................ 72.3 104.8
Unrecognized prior service benefit............................................................ 23.8 --
Unrecognized loss............................................................................. (5.0) (13.4)
--------- ---------
Accrued postretirement benefit costs.......................................................... $ 91.1 $ 91.4
--------- ---------
--------- ---------
</TABLE>
The components of net periodic postretirement benefit expense were as
follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
- ---------------------------------------------------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
Service cost............................................................................ $ 3.2 $ 4.2 $ 6.6
Interest cost........................................................................... 4.6 6.9 6.9
Amortization of (gain) loss............................................................. (2.8) (0.5) 1.4
--------- --------- ---------
Net periodic postretirement benefit expense............................................. $ 5.0 $ 10.6 $ 14.9
--------- --------- ---------
--------- --------- ---------
</TABLE>
For purposes of measuring the accumulated postretirement benefit obligation
at December 31, 1996, health care costs were assumed to increase 9.0% in 1997,
declining thereafter until the ultimate rate of 5.5% is reached in 2001 and
remains at that level thereafter. The health care cost trend rate assumption has
a significant effect on the amounts reported. For example, increasing the
assumed health care cost trend rates by one percentage point in each year would
increase the accumulated postretirement benefit obligation at December 31, 1996
by $5.3 million, and the aggregate of the service and interest cost components
of net periodic postretirement benefit expense for 1996 by $0.7 million.
The weighted-average discount rate used in determining the accumulated
postretirement benefit obligation was 7.0% at December 31, 1996 and 1995.
F-28
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- Continued
11. POSTEMPLOYMENT BENEFITS
Effective January 1, 1994, the Company adopted the provisions of Statement of
Financial Accounting Standards No. 112, (SFAS No. 112), "Employers' Accounting
for Postemployment Benefits", which requires employers to recognize the costs
and obligations of severance, disability and related life insurance and health
care benefits to be paid to inactive or former employees after employment but
before retirement. Prior to adoption, the Company had recognized the cost of
these benefits on an accrual or paid basis, depending on the plan.
Implementation of SFAS No. 112 resulted in a transition obligation of $1.9
million, net of federal income taxes and minority interest, and is reported as a
cumulative effect of a change in accounting principle in the consolidated
statement of income. The impact of this accounting change, after recognition of
the cumulative effect, was not significant.
12. STOCK-BASED COMPENSATION PLANS
In October 1995 the FASB issued Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" (SFAS 123). The Standard is
effective for fiscal years beginning after December 15, 1995, and requires the
company either to apply a fair value measure to any stock-based compensation
granted by the company, or continue to apply the valuation provisions of
existing accounting standards, but with pro-forma net income and earnings per
share disclosures using a fair value methodology to value the stock-based
compensation. Beginning for the year ended December 31, 1996, AFC has elected to
continue to apply the valuation provisions of existing accounting standards (APB
25). The pro-forma effect of applying SFAS 123 is not material.
Effective June 17, 1996, AFC adopted a Long Term Stock Incentive Plan for
employees of AFC (the "Employees' Plan"). Key employees of AFC and its
subsidiaries are eligible for awards pursuant to the Plan administered by the
Compensation Committee of the Board of Directors (the "Committee") of AFC. Under
the terms of the Employees' Plan, options may be granted to eligible employees
at a price not less than the market price of AFC's common stock on the date of
grant. Option shares may be exercised subject to the terms prescribed by the
Committee at the time of grant, otherwise options vest at the rate of 20%
annually for five consecutive years and must be exercised not later than ten
years from the date of grant. At June 17, 1996, 231,500 option shares were
granted at an option price of $27.50. During 1996, 22,000 option shares were
forfeited leaving 209,500 option shares outstanding at December 31, 1996. There
were no options exercised during 1996. At December 31, 1996, there were no
options exercisable and 2,140,500 option shares were available for future grant.
13. DIVIDEND RESTRICTIONS
Massachusetts, Delaware, New Hampshire and Michigan have enacted laws governing
the payment of dividends to stockholders by insurers. These laws affect the
dividend paying ability of FAFLIC, AFLIAC, Hanover and Citizens, respectively.
Massachusetts' statute limits the dividends an insurer may pay in any twelve
month period, without the prior permission of the Commonwealth of Massachusetts
Insurance Commissioner, to the greater of (i) 10% of its statutory policyholder
surplus as of the preceding December 31 or (ii) the individual company's
statutory net gain from operations for the preceding calendar year (if such
insurer is a life company), or its net income for the preceding calendar year
(if such insurer is not a life company). In addition, under Massachusetts law,
no domestic insurer shall pay a dividend or make any distribution to its
shareholders from other than unassigned funds unless the Commissioner shall have
approved such dividend or distribution. At January 1, 1997, FAFLIC could pay
dividends of $151.8 million to AFC without prior approval of the Commissioner.
Dividends from FAFLIC to AFC will be the primary source of cash for
repayment of the debt by AFC and payment of dividends to AFC stockholders.
F-29
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Pursuant to Delaware's statute, the maximum amount of dividends and other
distributions that an insurer may pay in any twelve month period, without the
prior approval of the Delaware Commissioner of Insurance, is limited to the
greater of (i) 10% of its policyholders' surplus as of the preceding December 31
or (ii) the individual company's statutory net gain from operations for the
preceding calendar year (if such insurer is a life company) or its net income
(not including realized capital gains) for the preceding calendar year (if such
insurer is not a life company). Any dividends to be paid by an insurer, whether
or not in excess of the aforementioned threshold, from a source other than
statutory earned surplus would also require the prior approval of the Delaware
Commissioner of Insurance. At January 1, 1997, AFLIAC could pay dividends of
$11.9 million to FAFLIC without prior approval.
Pursuant to New Hampshire's statute, the maximum dividends and other
distributions that an insurer may pay in any twelve month period, without the
prior approval of the New Hampshire Insurance Commissioner, is limited to 10% of
such insurer's statutory policyholder surplus as of the preceding December 31.
At January 1, 1997, the maximum dividend and other distributions that could be
paid to Allmerica P&C by Hanover, without prior approval of the Insurance
Commissioner, was approximately $15.4 million, which considers dividends
declared to Allmerica P&C of $105.0 million during 1996, including $80.0 million
which was declared in December. On January 2, 1997, Hanover declared an
extraordinary dividend in the amount of $120.0 million, payable on or after
January 21, 1997 to Allmerica P&C. The dividend, which was approved by the New
Hampshire Department on January 9, 1997, is to be paid in a lump sum or in such
installments as Allmerica P&C in its discretion may determine.
Pursuant to Michigan's statute, the maximum dividends and other
distributions that an insurer may pay in any twelve month period, without prior
approval of the Michigan Insurance Commissioner, is limited to the greater of
10% of policyholders' surplus as of December 31 of the immediately preceding
year or the statutory net income less realized gains, for the immediately
preceding calendar year. At January 1, 1997, Citizens Insurance could pay
dividends of $39.9 million to Citizens Corporation without prior approval.
14. SEGMENT INFORMATION
The Company offers financial products and services in two major areas: Risk
Management and Retirement and Asset Management. Within these broad areas, the
Company conducts business principally in five operating segments.
The Risk Management group includes two segments: Regional Property and
Casualty and Corporate Risk Management Services.
The Regional Property and Casualty segment includes property and casualty
insurance products, such as automobile insurance, homeowners insurance,
commercial multiple-peril insurance, and workers' compensation insurance. These
products are offered by Allmerica P&C through its operating subsidiaries,
Hanover and Citizens. Substantially all of the Regional Property and Casualty
segment's earnings are generated in Michigan and the Northeast (Connecticut,
Massachusetts, New York, New Jersey, New Hampshire, Rhode Island, Vermont and
Maine). The Corporate Risk Management Services segment includes group life and
health insurance products and services which assist employers in administering
employee benefit programs and in managing the related risks.
The Retirement and Asset Management group includes three segments: Retail
Financial Services, Institutional Services and Allmerica Asset Management. The
Retail Financial Services segment includes variable annuities, variable
universal life-type, traditional and health insurance products distributed via
retail channels to individuals across the country. The Institutional Services
segment includes primarily group retirement products such as 401(k) plans,
tax-sheltered annuities and GIC contracts which are distributed to institutions
across the country via work-site marketing and other arrangements. Allmerica
Asset Management is a Registered Investment Advisor which provides investment
advisory services primarily to affiliates and to other institutions, such as
insurance companies and pension plans.
F-30
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Summarized below is financial information with respect to business segments
for the year ended and as of December 31.
<TABLE>
<CAPTION>
(IN MILLIONS) 1996 1995 1994
-------------------------------------------- ---------- ---------- ----------
<S> <C> <C> <C>
Revenues:
Risk Management
Regional Property and Casualty.......... $ 2,193.7 $ 2,095.1 $ 2,004.8
Corporate Risk Management............... 361.5 328.5 302.4
---------- ---------- ----------
Subtotal.............................. 2,555.2 2,423.6 2,307.2
---------- ---------- ----------
Retirement and Asset Management
Retail Financial Services............... 450.9 486.7 507.9
Institutional Services.................. 266.7 330.2 397.9
Allmerica Asset Management.............. 8.8 4.4 4.0
---------- ---------- ----------
Subtotal.............................. 726.4 821.3 909.8
---------- ---------- ----------
Eliminations.............................. (8.7) (4.4) (21.9)
---------- ---------- ----------
Total....................................... $ 3,272.9 $ 3,240.5 $ 3,195.1
---------- ---------- ----------
---------- ---------- ----------
Income (loss) from continuing operations
before income taxes:
Risk Management
Regional Property and Casualty.......... $ 197.7 $ 206.3 $ 113.1
Corporate Risk Management............... 20.7 18.3 19.9
---------- ---------- ----------
Subtotal.............................. 218.4 224.6 133.0
---------- ---------- ----------
Retirement and Asset Management...........
Retail Financial Services............... 76.9 35.2 14.2
Institutional Services.................. 52.8 42.8 4.4
Allmerica Asset Management.............. 1.1 2.3 1.9
---------- ---------- ----------
Subtotal.............................. 130.8 80.3 20.5
---------- ---------- ----------
Total....................................... $ 349.2 $ 304.9 $ 153.5
---------- ---------- ----------
---------- ---------- ----------
Identifiable assets:
Risk Management
Regional Property and Casualty.......... $ 5,703.9 $ 5,741.8 $ 5,408.7
Corporate Risk Management............... 506.0 458.9 386.3
---------- ---------- ----------
Subtotal.............................. 6,209.9 6,200.7 5,795.0
---------- ---------- ----------
Retirement and Asset Management
Retail Financial Services............... 8,871.3 7,218.7 5,639.8
Institutional Services.................. 3,879.0 4,280.9 4,484.5
Allmerica Asset Management.............. 2.4 2.1 2.2
---------- ---------- ----------
Subtotal.............................. 12,752.7 11,501.7 10,126.5
---------- ---------- ----------
Total....................................... $18,962.6 $17,702.4 $15,921.5
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
15. LEASE COMMITMENTS
Rental expenses for operating leases, principally with respect to buildings,
amounted to $33.6 million, $36.4 million and $35.2 million in 1996, 1995 and
1994, respectively. At December 31, 1996, future minimum rental payments under
non-cancelable operating leases were approximately $71.7 million, payable as
follows: 1997 -- $26.4 million; 1998 -- $19.6 million; 1999 -- $12.8 million;
2000 -- $8.0 million; and $5.0 million thereafter.
F-31
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
It is expected that in the normal course of business, leases that expire
will be renewed or replaced by leases on other property and equipment; thus, it
is anticipated that future minimum lease commitments will not be less than the
amounts shown for 1997.
16. REINSURANCE
In the normal course of business, the Company seeks to reduce the loss that may
arise from catastrophes or other events that cause unfavorable underwriting
results by reinsuring certain levels of risk in various areas of exposure with
other insurance enterprises or reinsurers. Reinsurance transactions are
accounted for in accordance with the provisions of SFAS No. 113.
Amounts recoverable from reinsurers are estimated in a manner consistent
with the claim liability associated with the reinsured policy. Reinsurance
contracts do not relieve the Company from its obligations to policyholders.
Failure of reinsurers to honor their obligations could result in losses to the
Company; consequently, allowances are established for amounts deemed
uncollectible. The Company determines the appropriate amount of reinsurance
based on evaluation of the risks accepted and analyses prepared by consultants
and reinsurers and on market conditions (including the availability and pricing
of reinsurance). The Company also believes that the terms of its reinsurance
contracts are consistent with industry practice in that they contain standard
terms with respect to lines of business covered, limit and retention,
arbitration and occurrence. Based on its review of its reinsurers' financial
statements and reputations in the reinsurance marketplace, the Company believes
that its reinsurers are financially sound.
The Company is subject to concentration of risk with respect to reinsurance
ceded to various residual market mechanisms. As a condition to the ability to
conduct certain business in various states, the Company is required to
participate in various residual market mechanisms and pooling arrangements which
provide various insurance coverages to individuals or other entities that are
otherwise unable to purchase such coverage voluntarily provided by private
insurers.
These market mechanisms and pooling arrangements include the Massachusetts
Commonwealth Automobile Reinsurers ("CAR"), the Maine Workers' Compensation
Residual Market Pool ("MWCRP") and the Michigan Catastrophic Claims Association
("MCCA"). At December 31, 1996, the MCCA and CAR were the only two reinsurers
which represented 10% or more of the Company's reinsurance business. As a
servicing carrier in Massachusetts, the Company cedes a significant portion of
its private passenger and commercial automobile premiums to CAR. Net premiums
earned and losses and loss adjustment expenses ceded to CAR in 1996, 1995 and
1994 were $38.0 million and $21.8 million, $49.1 million and $33.7 million, and
$50.0 million and $29.8 million, respectively.
From 1988 through 1992, the Company was a servicing carrier in Maine, and
ceded a significant portion of its workers' compensation premiums to the Maine
Workers' Compensation Residual Market Pool, which is administered by The
National Council on Compensation Insurance ("NCCI"). The Company was involved in
legal proceedings regarding the MWCRP's deficit which through a legislated
settlement issued on June 23, 1995 provided for an initial funding of $220.0
million, of which the insurance carriers were responsible for $65.0 million.
Hanover paid its allocation of $4.2 million in December 1995. Some of the small
carriers are currently appealing this decision. The Company's right to recover
reinsurance balances for claims properly paid is not at issue in any such
proceedings. The Company expects to collect its reinsurance balance; however,
funding of the cash flow needs of the MWCRP may in the future be affected by
issues related to certain litigation, the outcome of which the Company cannot
predict. The Company ceded to MCCA net premiums earned and losses and loss
adjustment expenses in 1996, 1995 and 1994 of $50.5 million and $(52.9) million,
$66.8 million and $62.9 million, and $80.0 million and $24.2 million,
respectively. Because the MCCA is supported by assessments permitted by statute,
and all amounts billed by the Company to CAR, MWCRP and MCCA have been paid when
due, the Company believes that it has no significant exposure to uncollectible
reinsurance balances.
F-32
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The effects of reinsurance were as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
----------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
Life insurance premiums:
Direct....................................... $ 389.1 $ 438.9 $ 447.2
Assumed...................................... 87.8 71.0 54.3
Ceded........................................ (138.9) (150.3) (111.0)
--------- --------- ---------
Net premiums................................... $ 338.0 $ 359.6 $ 390.5
--------- --------- ---------
--------- --------- ---------
Property and casualty premiums written:
Direct....................................... $2,039.7 $2,039.4 $1,992.4
Assumed...................................... 108.7 125.0 128.6
Ceded........................................ (234.0) (279.1) (298.1)
--------- --------- ---------
Net premiums................................... $1,914.4 $1,885.3 $1,822.9
--------- --------- ---------
--------- --------- ---------
Property and casualty premiums earned:
Direct....................................... $2,018.5 $2,021.7 $1,967.1
Assumed...................................... 112.4 137.7 116.1
Ceded........................................ (232.6) (296.2) (291.9)
--------- --------- ---------
Net premiums................................... $1,898.3 $1,863.2 $1,791.3
--------- --------- ---------
--------- --------- ---------
Life insurance and other individual policy
benefits, claims, losses and loss adjustment
expenses:
Direct....................................... $ 618.0 $ 749.6 $ 773.0
Assumed...................................... 44.9 38.5 28.9
Ceded........................................ (77.8) (69.5) (61.6)
--------- --------- ---------
Net policy benefits, claims, losses and loss
adjustment expenses........................... $ 585.1 $ 718.6 $ 740.3
--------- --------- ---------
--------- --------- ---------
Property and casualty benefits, claims, losses
and loss adjustment expenses:
Direct....................................... $1,288.3 $1,372.7 $1,364.4
Assumed...................................... 85.8 146.1 102.7
Ceded........................................ (2.2) (229.1) (160.4)
--------- --------- ---------
Net policy benefits, claims, losses and loss
adjustment expenses........................... $1,371.9 $1,289.7 $1,306.7
--------- --------- ---------
--------- --------- ---------
</TABLE>
17. DEFERRED POLICY ACQUISITION COSTS
The following reflects changes to the deferred policy acquisition asset:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
-------------------------------------------------- -------- -------- --------
<S> <C> <C> <C>
Balance at beginning of year...................... $ 735.7 $ 802.8 $ 746.9
Acquisition expenses deferred................... 560.8 504.8 510.3
Amortized to expense during the year............ (483.5) (470.3) (475.7)
Adjustment to equity during the year............ 9.7 (50.4) 21.3
Transferred to the Closed Block................. -- (24.8) --
Adjustment for cession of term life insurance... -- (26.4) --
-------- -------- --------
Balance at end of year............................ $ 822.7 $ 735.7 $ 802.8
-------- -------- --------
-------- -------- --------
</TABLE>
F-33
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
18. LIABILITIES FOR OUTSTANDING CLAIMS, LOSSES AND LOSS ADJUSTMENT EXPENSES
The Company regularly updates its estimates of liabilities for outstanding
claims, losses and loss adjustment expenses as new information becomes available
and further events occur which may impact the resolution of unsettled claims for
its property and casualty and its accident and health lines of business. Changes
in prior estimates are reflected in results of operations in the year such
changes are determined to be needed and recorded.
The liability for future policy benefits and outstanding claims, losses and
loss adjustment expenses related to the Company's accident and health business
was $471.7 million, $446.9 million and $371.4 million at December 31, 1996, 1995
and 1994, respectively. Accident and health claim liabilities have been re-
estimated for all prior years and were increased by $0.6 million and $2.2
million in 1996 and 1994, respectively, and increased by $17.6 million in 1995.
Unfavorable development in the accident and health business during 1995 is
primarily due to reserve strengthening and adverse experience in the Company's
individual disability line of business
The following table provides a reconciliation of the beginning and ending
property and casualty reserve for unpaid losses and loss adjustment expenses
(LAE):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31
(IN MILLIONS) 1996 1995 1994
----------------------------------------------- --------- --------- ---------
<S> <C> <C> <C>
Reserve for losses and LAE, beginning of
year.......................................... $2,896.0 $2,821.7 $2,717.3
Incurred losses and LAE, net of reinsurance
recoverable:
Provision for insured events of the current
year........................................ 1,513.3 1,427.3 1,434.8
Decrease in provision for insured events of
prior years................................. (141.4) (137.6) (128.1)
--------- --------- ---------
Total incurred losses and LAE.................. 1,371.9 1,289.7 1,306.7
--------- --------- ---------
Payments, net of reinsurance recoverable:
Losses and LAE attributable to insured events
of current year............................. 759.6 652.2 650.2
Losses and LAE attributable to insured events
of prior years.............................. 627.6 614.3 566.9
--------- --------- ---------
Total payments................................. 1,387.2 1,266.5 1,217.1
--------- --------- ---------
Change in reinsurance recoverable on unpaid
losses........................................ (136.6) 51.1 14.8
--------- --------- ---------
Reserve for losses and LAE, end of year........ $2,744.1 $2,896.0 $2,821.7
--------- --------- ---------
--------- --------- ---------
</TABLE>
As part of an ongoing process, the property and casualty reserves have been
re-estimated for all prior accident years and were decreased by $141.4 million,
$137.6 million and $128.1 million in 1996, 1995 and 1994, respectively. The
increase in favorable development on prior years' reserves of $3.8 million in
1996 results primarily from an $11.4 million increase in favorable development
at Citizens.
The increase in Citizens' favorable development of $11.4 million in 1996
reflects improved severity in the personal automobile line, where favorable
development increased $28.6 million to $33.0 million in 1996, partially offset
by less favorable development in the workers' compensation line. In 1995, the
workers' compensation line had favorable development of $32.7 million, primarily
as a result of Citizens re-estimating reserves to reflect the new claims cost
management programs and the Michigan Supreme Court ruling, which decreases the
maximum to be paid for indemnity cases on all existing and future claims. In
1996, the favorable development in the workers' compensation line of $21.8
million also reflected these developments. Hanover's favorable development,
including voluntary and involuntary pools, decreased $7.7 million in 1996 to
$82.9 million, primarily attributable to a decrease in favorable development in
the workers' compensation line of $19.8 million to favorable development of
$17.3 million in 1996. This decrease is primarily attributable to a re-estimate
of reserves with respect to certain types of workers' compensation policies
including large deductibles and excess of loss policies. In addition, during
1995 the Regional Property and Casualty subsidiaries refined their estimation of
unallocated loss adjustment expenses which increased favorable
F-34
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
development in that year. Favorable development in the personal automobile line
also decreased $4.7 million, to $42.4 million in 1996. These decreases were
offset by increases in favorable development of $1.9 million and $5.6 million,
to $12.6 million and $5.7 million, in the commercial automobile and commercial
multiple peril lines, respectively. Favorable development in other lines
increased by $8.8 million, primarily as a result of environmental reserve
strengthening in 1995. Favorable development in Hanover's voluntary and
involuntary pools increased $3.7 million to $4.1 million during 1996.
The increase in favorable development on prior years' reserves of $9.5
million in 1995 results primarily from a $34.6 million increase in favorable
development at Citizens. Favorable development in Citizens' personal automobile
and workers' compensation lines increased $16.6 million and $15.5 million, to
favorable development of $4.4 million and $32.7 million, respectively, due to
the aforementioned change in claims cost management and the Michigan Supreme
Court ruling. Hanover's favorable development, not including the effect of
voluntary and involuntary pools, was relatively unchanged at $90.2 million in
1995 compared to $91.7 million in 1994. Favorable development in Hanover's
workers' compensation line increased $27.7 million to $31.0 million during 1995.
This was offset by decreases of $14.6 million and $12.6 million, to $45.5
million and $0.1 million, in the personal automobile and commercial multiple
peril lines, respectively. Favorable development in Hanover's voluntary and
involuntary pools decreased $23.6 million to $0.4 million during 1995.
This favorable development reflects the Regional Property and Casualty
subsidiaries' reserving philosophy consistently applied over these periods.
Conditions and trends that have affected development of the loss and LAE
reserves in the past may not necessarily occur in the future.
Due to the nature of business written by the Regional Property and Casualty
subsidiaries, the exposure to environmental liabilities is relatively small, and
therefore, their reserves are relatively small compared to other types of
liabilities. Losses and LAE reserves related to environmental damage and toxic
tort liability, included in the total reserve for losses and LAE, were $50.8
million and $43.2 million, net of reinsurance of $20.2 million and $8.4 million,
at the end of 1996 and 1995, respectively. During 1995, the Regional Property
and Casualty subsidiaries redefined their environmental liabilities in
conformity with new guidelines issued by the NAIC. This had no impact on results
of operations. The Regional Property and Casualty subsidiaries do not
specifically underwrite policies that include this coverage, but as case law
expands policy provisions and insurers' liability beyond the intended coverage,
the Regional Property and Casualty subsidiaries may be required to defend such
claims. During 1995, Hanover performed an actuarial review of its environmental
reserves. This resulted in Hanover's providing additional reserves for "IBNR"
(incurred but not reported) claims, in addition to existing reserves for
reported claims. Although these claims are not material, their existence gives
rise to uncertainty and is discussed because of the possibility, however remote,
that they may become material. Management believes that, notwithstanding the
evolution of case law expanding liability in environmental claims, recorded
reserves related to these claims for environmental liability are adequate. In
addition, management is not aware of any litigation or pending claims that may
result in additional material liabilities in excess of recorded reserves. The
environmental liability could be revised in the near term if the estimates used
in determining the liability are revised.
19. MINORITY INTEREST
The Company's interest in Allmerica P&C is represented by ownership of 59.5%,
58.3% and 57.4% of the outstanding shares of common stock at December 31, 1996,
1995 and 1994, respectively. Earnings and shareholder's equity attributable to
minority shareholders are included in minority interest in the consolidated
financial statements.
F-35
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
20. CONTINGENCIES
REGULATORY AND INDUSTRY DEVELOPMENTS
Unfavorable economic conditions may contribute to an increase in the number
of insurance companies that are under regulatory supervision. This may result in
an increase in mandatory assessments by state guaranty funds, or voluntary
payments by, solvent insurance companies to cover losses to policyholders of
insolvent or rehabilitated companies. Mandatory assessments, which are subject
to statutory limits, can be partially recovered through a reduction in future
premium taxes in some states. The Company is not able to reasonably estimate the
potential effect on it of any such future assessments or voluntary payments.
LITIGATION
On June 23, 1995, the governor of Maine approved a legislative settlement
for the Maine Workers' Compensation Residual Market Pool deficit for the years
1988 through 1992. The settlement provides for an initial funding of $220.0
million toward the deficit. The insurance carriers are liable for $65.0 million,
and employers will contribute $110.0 million payable through surcharges on
premiums over the course of the next ten years. The major insurers are
responsible for 90% of the $65.0 million. Hanover's allocated share of the
settlement is approximately $4.2 million, which was paid in December 1995. The
remainder of the deficit of $45.0 million will be paid by the Maine Guaranty
Fund, payable in quarterly contributions over ten years. A group of smaller
carriers filed litigation to appeal the settlement. The Company believes that
adequate reserves have been established for any additional liability.
The Company has been named a defendant in various other legal proceedings
arising in the normal course of business. In the opinion of management, based on
the advice of legal counsel, the ultimate resolution of these proceedings will
not have a material effect on the Company's consolidated financial statements.
However, liabilities related to these proceedings could be established in the
near term if estimates of the ultimate resolution of these proceedings are
revised.
RESIDUAL MARKETS
The Company is required to participate in residual markets in various
states. The results of the residual markets are not subject to the
predictability associated with the Company's own managed business, and are
significant to the workers' compensation line of business and both the private
passenger and commercial automobile lines of business.
21. STATUTORY FINANCIAL INFORMATION
The insurance subsidiaries are required to file annual statements with state
regulatory authorities prepared on an accounting basis prescribed or permitted
by such authorities (statutory basis). Statutory surplus differs from
shareholder's equity reported in accordance with generally accepted accounting
principles for stock life insurance companies primarily because policy
acquisition costs are expensed when incurred, investment reserves are based on
different assumptions, postretirement benefit costs are based on different
assumptions and reflect a different method of adoption, life insurance reserves
are based on different assumptions and income tax expense reflects only taxes
paid or currently payable. Statutory net income and surplus are as follows:
<TABLE>
<CAPTION>
(IN MILLIONS) 1996 1995 1994
--------------------------------------------------- --------- --------- -------
<S> <C> <C> <C>
Statutory net income (Combined)
Property and Casualty Companies.................. $ 155.3 $ 155.3 $ 79.9
Life and Health Companies........................ 133.3 134.3 40.7
--------- --------- -------
Statutory Shareholder's Surplus (Combined)
Property and Casualty Companies.................. $1,201.6 $1,128.4 $974.3
Life and Health Companies........................ 1,120.1 965.6 465.3
--------- --------- -------
</TABLE>
F-36
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
22. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The quarterly results of operations for 1996 and 1995 are summarized below:
<TABLE>
<CAPTION>
For the Three Months Ended
(In millions)
<S> <C> <C> <C> <C>
1996 March 31 June 30 Sept. 30 Dec. 31
Total revenues............................ $827.9 $799.4 $806.3 $839.3
-------- ------- -------- -------
Net income................................ $ 50.6 $ 45.3 $ 49.4 $ 48.2
-------- ------- -------- -------
-------- ------- -------- -------
1995
Total revenues............................ $841.4 $791.9 $822.8 $784.4
-------- ------- -------- -------
Income before extraordinary item.......... $ 39.2 $ 29.9 $ 34.8 $ 45.2
Extraordinary item -- demutualization
expense.................................. (2.5) (3.5) (4.7) (1.4)
-------- ------- -------- -------
Net income................................ $ 36.7 $ 26.4 $ 30.1 $ 43.8
-------- ------- -------- -------
-------- ------- -------- -------
</TABLE>
23. SUBSEQUENT EVENT (UNAUDITED)
On April 14, 1997, the Company entered into an agreement in principle to
transfer the Company's individual disability income business under a 100%
coinsurance arrangement to Metropolitan Life Insurance Company. The consummation
of the transaction is subject to the negotiation of definitive agreements and
regulatory approvals and is expected to occur on or before October 1, 1997. In
connection with this transaction, the Company has recorded an after-tax charge
of $35 million net income in the first quarter of 1997 related to the
reinsurance of this business.
F-37
<PAGE>
KEMPER GATEWAY CUSTOM VARIABLE ANNUITY
SEPARATE ACCOUNT KGC
STATEMENTS OF ASSETS AND LIABILITIES
DECEMBER 31, 1996
<TABLE>
<CAPTION>
SMALL CAP SMALL CAP
VALUE GROWTH VALUE INTERNATIONAL GROWTH VALUE+GROWTH HORIZON 20+
----------- ----------- ----------- ------------- ----------- ------------ -----------
<S> <C> <C> <C> <C> <C> <C> <C>
ASSETS:
Investments in shares of
Kemper Investors Fund.... -- -- -- -- -- -- --
LIABILITIES:
-- -- -- -- -- -- --
----------- ----------- ----------- ------------- ----------- ------------ -----------
Net assets............ -- -- -- -- -- -- --
----------- ----------- ----------- ------------- ----------- ------------ -----------
----------- ----------- ----------- ------------- ----------- ------------ -----------
<CAPTION>
INVESTMENT
TOTAL HIGH GRADE GOVERNMENT MONEY
RETURN HORIZON 10+ HORIZON 5 YIELD BOND SECURITIES MARKET
----------- ----------- ----------- ------------- ----------- ------------ -----------
<S> <C> <C> <C> <C> <C> <C> <C>
ASSETS:
Investments in shares of
Kemper Investors Fund.... -- -- -- -- -- -- --
LIABILITIES:
-- -- -- -- -- -- --
----------- ----------- ----------- ------------- ----------- ------------ -----------
Net assets............ -- -- -- -- -- -- --
----------- ----------- ----------- ------------- ----------- ------------ -----------
----------- ----------- ----------- ------------- ----------- ------------ -----------
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-1
<PAGE>
SEPARATE ACCOUNT KGC -- KEMPER GATEWAY CUSTOM
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996
NOTE 1 -- ORGANIZATION
Separate Account KGC -- Kemper Gateway Custom (VA-KGC) is a separate
investment account of First Allmerica Financial Life Insurance Company (the
Company), established on December 20, 1996 for the purpose of separating from
the general assets of the Company those assets used to fund certain variable
annuity policies issued by the Company. Under applicable insurance law, the
assets and liabilities of VA-KGC are clearly identified and distinguished from
the other assets and liabilities of the Company. VA-KGC cannot be charged with
liabilities arising out of any other business of the Company.
VA-KGC is registered as a unit investment trust under the Investment Company
Act of 1940, as amended (the 1940 Act). VA-KGC currently offers fourteen
Sub-Accounts under the Kemper Gateway Custom contracts. Each Sub-Account invests
exclusively in a corresponding investment portfolio of Kemper Investors Fund
(KINF) managed by Zurich Kemper Investments, Inc. (ZKI). The Value and Small Cap
Value Portfolios are managed by Dreman Value Advisors, Inc. (DVA), a wholly
owned subsidary of ZKI. KINF is an open-end, diversified management investment
company registered under the 1940 Act.
VA-KGC has two types of variable annuity policies, "qualified" policies and
"non-qualified" policies. A qualified policy is one that is purchased in
connection with a retirement plan which meets the requirements of Section 401,
403, or 408 of the Internal Revenue Code, while a non-qualified policy is one
that is not purchased in connection with one of the indicated retirement plans.
The tax treatment for certain partial redemptions or surrenders will vary
according to whether they are made from a qualified policy or a non-qualified
policy.
NOTE 2 -- SIGNIFICANT ACCOUNTING POLICIES
INVESTMENTS -- Security transactions are recorded on the trade date.
Investments held by the Sub-Accounts are stated at the net asset value per share
of the respective investment portfolio of KINF. Net realized gains and losses on
securities sold are determined on the average cost method. Dividends and capital
gain distributions are recorded on the ex-dividend date and are reinvested in
additional shares of the respective investment portfolio of KINF at net asset
value.
FEDERAL INCOME TAXES -- The Company is taxed as a "life insurance company"
under Subchapter L of the Internal Revenue Code and files a consolidated federal
income tax return. The Company anticipates no tax liability resulting from the
operations of VA-KGC. Therefore, no provision for income taxes has been charged
against VA-KGC.
NOTE 3 -- INVESTMENTS
There were no investment purchases and sales for the year ended December 31,
1996.
NOTE 4 -- RELATED PARTY TRANSACTIONS
The Company makes a charge of .95% per annum based on the average daily net
assets of each Sub-Account at each valuation date for mortality and expense
risks. The Company also charges each Sub-Account .15% per annum based on the
average daily net assets of each Sub-Account for administrative expenses. These
charges are deducted from the daily value of each Sub-Account but are paid to
the Company on a monthly basis.
F-5
<PAGE>
SEPARATE ACCOUNT KGC -- KEMPER GATEWAY CUSTOM
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1996
NOTE 4 -- RELATED PARTY TRANSACTIONS (CONTINUED)
A contract fee of $35 is currently deducted on the Contract anniversary date
and upon full surrender of the contract when the accumulated value is less than
$50,000. The contract fee is waived for contracts issued to and maintained by
the Trustee of a 401(k) plan.
Allmerica Investments, Inc. (Allmerica Investments), a wholly-owned
subsidiary of the Company, is principal underwriter and general distributor of
VA-KGC, and does not receive any compensation for sales of the VA-KGC -- Kemper
Gateway Custom contracts. Commissions are paid to registered representatives of
Allmerica Investments by the Company. As the current series of policies have a
contingent deferred sales charge, no deduction is made for sales charges at the
time of the sale.
NOTE 5 -- DIVERSIFICATION REQUIREMENTS
Under the provisions of Section 817(h) of the Internal Revenue Code, a
variable annuity contract, other than a contract issued in connection with
certain types of employee benefit plans, will not be treated as an annuity
contract for federal income tax purposes for any period for which the
investments of the segregated asset account on which the contract is based are
not adequately diversified. The Code provides that the "adequately diversified"
requirement may be met if the underlying investments satisfy either a statutory
safe harbor test or diversification requirements set forth in regulations issued
by the Secretary of Treasury.
The Internal Revenue Service has issued regulations under Section 817(h) of
the Code. The Company believes that VA-KGC satisfies the current requirements of
the regulations, and it intends that VA-KGC will continue to meet such
requirements.
F-6
<PAGE>
PART C. OTHER INFORMATION
Item 24. FINANCIAL STATEMENTS AND EXHIBITS.
(a) FINANCIAL STATEMENTS
FINANCIAL STATEMENTS INCLUDED IN PART A
None
FINANCIAL STATEMENTS INCLUDED IN PART B
Financial Statements for First Allmerica Financial Life Insurance
Company and for Separate Account KGC
FINANCIAL STATEMENTS INCLUDED IN PART C
None
(b) EXHIBITS
Exhibit 1 - Vote of Board of Directors Authorizing Establishment of
Registrant dated June 13, 1996 was previously filed in Initial
Registration Statement on August 9, 1996 and is incorporated by
reference herein.
Exhibit 2 - Not Applicable. Pursuant to Rule 26a-2, the Insurance Company
may hold the assets of the Registrant NOT pursuant to a trust
indenture or other such instrument.
C-1
<PAGE>
Exhibit 3 - (a) Wholesaling Agreement was previously filed in
Pre-Effective Amendment No. 1 and is incorporated by
reference herein.
(b) Sales Agreement was previously filed in Pre-Effective
Amendment No. 1 and is incorporated by reference herein.
(c) Broker's Agreement and Specimen Schedule of Sales
Commissions for Variable Annuity Policies were previously
filed on November 3, 1994 in Registration Statement
No. 33-85916, and are incorporated by reference herein.
Exhibit 4 - Policy Form previously filed in Initial Registration Statement
on August 9, 1996 and is incorporated by reference herein.
Exhibit 5 - Application Form was previously filed in Initial Registration
Statement on August 9, 1996 and is incorporated by reference
herein.
Exhibit 6 - The Depositor's Articles of Incorporation, as amended effective
October 1, 1995 to reflect its new name, and Bylaws was
previously filed in Initial Registration Statement on August 9,
1996 and is incorporated by reference herein.
Exhibit 7 - Not Applicable.
Exhibit 8 - None
Exhibit 9 - Consent and Opinion of Counsel is filed herewith.
Exhibit 10 - Consent and Opinion of Independent Accountants is filed
herewith.
Exhibit 11 - None.
Exhibit 12 - None.
Exhibit 13 - None.
Exhibit 15 - Form of Participation Agreement was previously filed in
Pre-Effective Amendment No. 1 and is incorporated by
reference herein.
C-2
<PAGE>
Item 25. DIRECTORS AND OFFICERS OF THE DEPOSITOR.
The principal business address of all the following Directors and
Officers is:
440 Lincoln Street
Worcester, Massachusetts 01653
<TABLE>
<CAPTION>
NAME AND POSITION WITH COMPANY PRINCIPAL OCCUPATION(S) DURING PAST FIVE YEARS
- ------------------------------ ----------------------------------------------
<S> <C>
Bruce C. Anderson, Director of First Allmerica since 1996;
Director and Vice President Vice President, First Allmerica
Abigail M. Armstrong, Secretary of First Allmerica since 1996;
Secretary and Counsel Counsel, First Allmerica
John P. Kavanaugh, Director, Director and Chief Investment Officer of
Vice President and Chief First Allmerica since 1996; Vice President,
Investment Officer First Allmerica since 1991
John F. Kelly, Director, Director of First Allmerica since 1996;
Senior Vice President and Senior Vice President, General Counsel,
General Counsel First Allmerica
J. Barry May, Director Director of First Allmerica since 1996;
Director and President, The Hanover
Insurance Company since 1996; Vice
President, The Hanover Insurance Company,
1993 to 1996
James R. McAuliffe, Director Director of First Allmerica since 1996;
President and CEO, Citizens Insurance
Company of America since 1994; Vice
President 1982 to 1994 and Chief Investment
Officer, First Allmerica, 1986 to 1994
John F. O'Brien, Director, Director, Chairman of the Board, President
Chairman of the Board, President and Chief Executive Officer, First Allmerica
and Chief Executive Officer since 1989
Edward J. Parry, III, Director, Director and Chief Financial Officer of
Vice President, Chief First Allmerica since 1996; Vice President
Financial Officer and Treasurer and Treasurer, First Allmerica since 1993
Richard M. Reilly, Director Director of First Allmerica since 1996; Vice
and Vice President President, First Allmerica; Director,
Allmerica Investments, Inc.; Director and
President, Allmerica Investment Management
Company, Inc. since 1990
Larry C. Renfro, Director Director of First Allmerica since 1996;
and Vice President Vice President of First Allmerica since 1990
Eric A. Simonsen, Director and Director of First Allmerica since 1996;
and Vice President Vice President, First Allmerica since 1990;
Chief Financial Officer, First Allmerica
1990 to 1996
Phillip E. Soule, Director and Director of First Allmerica since 1996;
Vice President Vice President, First Allmerica
</TABLE>
C-3
<PAGE>
Item 26. PERSONS UNDER COMMON CONTROL WITH REGISTRANT. See attached
organization chart.
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
Allmerica Financial Corporation
Delaware
| | | | |
___________________________________________________________________________________
100% 100% 100% 100% 100%
Allmerica, Inc. Allmerica First Allmerica AFC Capital Allmerica
Funding Corp. Financial Life Trust I Services
Insurance Corporation
Company
Massachusetts Massachusetts Massachusetts Delaware Massachusetts
|
_______________________________________________
|
100%
Logan Wells
Water Company,
Inc.
New Jersey
______________________________________________________________________________________________________________________
| | | | | |
59.47% 100% 99.2% 100% 100% 100%
Allmerica Sterling Risk Allmerica Somerset Allmerica Allmerica
Property Management Trust Square, Inc. Financial Life Institutional
& Casualty Services, Inc. Company, N.A. Insurance and Services, Inc.
Companies, Inc. Annuity Company
Federally
Delaware Delaware Chartered Massachusetts Delaware Massachusetts
|
___________________________________________________________________________
| | | |
100% 100% 100% 100%
APC The Hanover Allmerica Citizens
Funding Corp. Insurance Financial Insurance
Company Insurance Company of
Brokers, Inc. Illinois
Massachusetts New Hampshire Massachusetts Illinois
|
______________________________________________________________________________________________________________________
| | | | | |
100% 100% 100% 100% 82.5% 100%
Allmerica Allmerica The Hanover Hanover Texas Citizens Massachusetts
Financial Employee American Insurance Corporation Bay Insurance
Benefit Insurance Insurance Management Company
Insurance Agency, Inc. Company Company, Inc.
Company
Pennsylvania Massachusetts New Hampshire Texas Delaware New Hampshire
|
________________________________________________________
| | |
100% 100% 100%
Citizens Citizens Insurance Citizens
Insurance Company of Insurance
Company of Ohio America Company of the
Midwest
Ohio Michigan Indiana
|
_______________
100%
Citizens
Management Inc.
Michigan
<CAPTION>
Allmerica Financial Corporation
Delaware
| | | | |
___________________________________________________________________________________
100% 100% 100% 100% 100%
Allmerica, Inc. Allmerica First Allmerica AFC Capital Allmerica
Funding Corp. Financial Life Trust I Services
Insurance Corporation
Company
Massachusetts Massachusetts Massachusetts Delaware Massachusetts
|
_______________________________________________
|
100%
SMA
Financial Corp.
Massachusetts
|
______________________________________________________________________________________________________________________
| | | | | |
100% 100% 100% 100% 100% Allmerica
Allmerica Allmerica Allmerica Allmerica Linder Asset
Investments, Investment Asset Financial Services Skokie Management,
Inc. Management Management, Insurance Real Estate Limited
Company, Inc. Inc. Agency, Inc. Corporation
Massachusetts Massachusetts Massachusetts Massachusetts Massachusetts Bermuda
________________ _________________________________
Allmerica Equity Greendale AAM
Index Pool Special Equity Fund
Placements
Fund
Massachusetts Massachusetts Massachusetts
_____________________________________
| | Grantor Trusts established for the benefit of First
100% 100% Allmerica, Allmerica Financial Life, Hanover and
Allmerica AMGRO, Inc. Citizens
Financial Allmerica Allmerica Allmerica
Alliance Investment Trust Funds Securities
Insurance Trust
Company
Massachusetts Massachusetts Massachusetts
New Hampshire Massachusetts
|
|
100% Affiliated Management Investment Companies
Lloyd's
Credit Hanover Lloyd's
Corporation Insurance
Company
Massachusetts Texas
Affiliated Lloyd's plan company, controlled by
Underwriters for the benefit of the Hanover
Insurance Company
Beltsville
AAM High Drive
Yield Fund, Properties
L.L.C. Limited
Partnership
Massachusetts
Delaware
LLC established for the benefit of
First Allmerica, Allmerica Limited partnership involving First Allmerica, as
Financial Life, Hanover and general partner and Allmerica Financial Life as
Citizens limited partner
</TABLE>
<PAGE>
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
<TABLE>
<CAPTION>
NAME ADDRESS TYPE OF BUSINESS
- ---- ------- ----------------
<S> <C> <C>
AAM Equity Fund 440 Lincoln Street Massachusetts Grantor Trust
Worcester MA 01653
Allmerica Asset Management 440 Lincoln Street Investment advisory services
Limited Worcester MA 01653
Allmerica Asset Management, Inc. 440 Lincoln Street Investment advisory services
Worcester MA 01653
Allmerica Employees Insurance 440 Lincoln Street Insurance Agency
Agency, Inc. Worcester MA 01653
Allmerica Financial Alliance 100 North Parkway Multi-line property and
Insurance Company Worcester MA 01605 casualty insurance
Allmerica Financial Benefit 100 North Parkway Multi-line property and
Insurance Compny Worcester MA 01605 casualty insurance
Allmerica Financial Corporation 440 Lincoln Street Holding Company
Worcester MA 01653
Allmerica Financial Insurance 440 Lincoln Street Insurance Broker
Brokers, Inc. Worcester MA 01653
Allmerica Financial Life 440 Lincoln Street Life insurance, accident
Insurance and Annuity Company Worcester MA 01653 & health insurance,
(formerly known as SMA Life annuities, variable
Assurance Company) annuities and variable
life insurance
Allmerica Financial Services 440 Lincoln Street Insurance Agency
Insurance Agency, Inc. Worcester, MA 01653
Allmerica Funding Corp. 440 Lincoln Street Special purpose funding
Worcester MA 01653 vehicle for commercial paper
Allmerica Funds 440 Lincoln Street Investment Company
Worcester MA 01653
Allmerica, Inc. 440 Lincoln Street Common employer for
Worcester MA 01653 Allmerica Financial
Corporation entities
C-4
<PAGE>
Allmerica Institutional 440 Lincoln Street Accounting, marketing
Services, Inc. (formerly known Worcester MA 01653 and shareholder services
as 440 Financial Group of for investment companies
Worcester, Inc.)
Allmerica Investment Management 440 Lincoln Street Investment advisory
Company, Inc. Worcester MA 01653 services
Allmerica Investments, Inc. 440 Lincoln Street Securities, retail
Worcester MA 01653 broker-dealer
Allmerica Investment Trust 440 Lincoln Street Investment Company
Worcester MA 01653
Allmerica Property & Casualty 440 Lincoln Street Holding Company
Companies, Inc. Worcester MA 01653
Allmerica Securities Trust 440 Lincoln Street Investment Company
Worcester MA 01653
Allmerica Services Corporation 440 Lincoln Street Internal administrative
Worcester MA 01653 services provider to
Allmerica Financial
Corporation entities
Allmerica Trust Company, N.A. 440 Lincoln Street Limited purpose national
Worcester MA 01653 trust company
AMGRO, Inc. 100 North Parkway Premium financing
Worcester MA 01605
APC Funding Corp. 440 Lincoln Street Special purpose funding
Worcester MA 01653 vehicle for commercial paper
Beltsville Drive Limited 440 Lincoln Street Real estate partnership
Partnership Worcester MA 01653
Citizens Corporation 440 Lincoln Street Holding Company
Worcester MA 01653
Citizens Insurance Company 645 West Grand River Multi-line property and
of America Howell MI 48843 casualty insurance
Citizens Insurance Company 333 Pierce Road Multi-line property and
of Illinois Itasca IL 60143 casualty insurance
Citizens Insurance Company 3950 Priority Way Multi-line property and
of the Midwest South Drive, Suite 200 casualty insurance
Indianapolis IN 46280
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<PAGE>
Citizens Insurance Company 8101 N. High Street Multi-line property and
of Ohio P.O. Box 342250 casualty insurance
Columbus OH 43234
Citizens Management, Inc. 645 West Grand River Services management
Howell MI 48843 company
First Allmerica Financial Life 440 Lincoln Street Life, pension, annuity
Insurance Company (formerly State Worcester MA 01653 accident and health
Mutual Life Assurance Company company
of America)
Greendale Special Placements 440 Lincoln Street Massachusetts Grantor
Fund Worcester MA 01653 Trust
The Hanover American Insurance 100 North Parkway Multi-line property and
Company Worcester MA 01605 casualty insurance
The Hanover Insurance Company 100 North Parkway Multi-line property and
Worcester MA 01605 casualty insurance
Hanover Texas Insurance 801 East Campbell Road Attorney-in-fact for Hanover
Management Company, Inc. Richardson TX 75081 Lloyd's Insurance Company
Hanover Lloyd's Insurance 801 East Campbell Road Multi-line property and
Company Richardson TX 75081 casualty insurance
Linder Skokie Real Estate 440 Lincoln Street Real estate holding
Corporation Worcester MA 01653 company
Lloyds Credit Corporation 440 Lincoln Street Premium financing
Worcester MA 01653 service franchises
Logan Wells Water Company, Inc. 603 Heron Drive Water Company, serving
Bridgeport NJ 08014 land development
investment
Massachusetts Bay Insurance 100 North Parkway Multi-line property and
Company Worcester MA 01605 casualty insurance
SMA Financial Corp. 440 Lincoln Street Holding Company
Worcester MA 01653
Somerset Square, Inc. 440 Lincoln Street Real estate holding
Worcester MA 01653 company
Sterling Risk Management 440 Lincoln Street Risk management
Services, Inc. Worcester MA 01653 services
</TABLE>
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<PAGE>
Item 27. NUMBER OF CONTRACT OWNERS.
As of December 31, 1996, the Variable Account had no Contract Owners.
Item 28. INDEMNIFICATION.
Article VIII of the Bylaws of the Depositor state: Each Director and each
Officer of the Corporation, whether or not in office, (and his executors or
administrators), shall be indemnified or reimbursed by the Corporation
against all expenses actually and necessarily incurred by him in the defense
or reasonable settlement of any action, suit, or proceeding in which he is
made a party by reason of his being or having been a Director or Officer of
the Corporation, including any sums paid in settlement or to discharge
judgement, except in relation to matters as to which he shall be finally
adjudged in such action, suit or proceeding to be liable for negligence or
misconduct in the performance of his duties as such Director or Officer; and
the foregoing right of indemnification or reimbursement shall not affect any
other rights to which he may be entitled under the Articles of Incorporation,
any statute, bylaw, agreement, vote of stockholders, or otherwise.
Insofar as indemnification for liability arising under the 1933 Act may
be permitted to Directors, Officers and Controlling Persons of Registrant
under any registration statement, underwriting agreement or otherwise,
Registrant has been advised that, in the opinion of the Securities and
Exchange Commission, such indemnification is against public policy as
expressed in the 1933 Act and is, therefore, unenforceable. In the event
that a claim for indemnification against such liabilities (other than the
payment by Registrant of expenses incurred or paid by a Director, Officer or
Controlling Person of Registrant in the successful defense of any action,
suit or proceeding) is asserted by such Director, Officer or Controlling
Person in connection with the securities being registered, Registrant will,
unless in the opinion of its counsel the matter has been settled by
controlling precedent, submit to a court of appropriate jurisdiction the
question whether such indemnification by it is against public policy as
expressed in the 1933 Act and will be governed by the final adjudication of
such issue.
Item 29. PRINCIPAL UNDERWRITERS.
(a) Allmerica Investments, Inc. also acts as principal underwriter for the
following:
- VEL Account, VEL II Account, Group Vel, Separate Accounts VA-A, VA-B,
VA-C, VA-G, VA-H, VA-K, VA-P, Allmerica Select Separate Account,
Inheiritage Account, Fulcrum Separate Account and Separate Account KG
of Allmerica Financial Life Insurance and Annuity Company
- Separate Accounts I, VA-K, VA-P, VEL II Account, Inheiritage Account,
Group VEL, Separate Account KG, Separate Account KGC and Allmerica
Select Separate Account of First Allmerica Financial Life Insurance
Company.
- Allmerica Investment Trust
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<PAGE>
(b) The Principal Business Address of each of the following Directors and
Officers of Allmerica Investments, Inc. is:
440 Lincoln Street
Worcester, Massachusetts 01653
NAME POSITION OR OFFICE WITH UNDERWRITER
- ---- -----------------------------------
Emil J. Aberizk Vice President
Abigail M. Armstrong Secretary and Counsel
Richard F. Betzler, Jr. Vice President
Phillip J. Coffey Vice President
Thomas J. Cunningham Vice President, Chief Financial Officer
and Controller
John F. Kelly Director
William F. Monroe, Jr. Vice President
David J. Mueller Vice President
John F. O'Brien Director
Stephen Parker President, Director and Chief
Executive Officer
Edward J. Parry, III Treasurer
Richard M. Reilly Director
Eric A. Simonsen Director
Mark Steinberg Senior Vice President
Item 30. LOCATION OF ACCOUNTS AND RECORDS.
Each account, book or other document required to be maintained by Section
31(a) of the Investment Company Act of 1940 and Rules 31a-1 to 31a-3
thereunder are maintained by the Company at 440 Lincoln Street, Worcester,
Massachusetts.
Item 31. MANAGEMENT SERVICES.
The Company provides daily unit value calculations and related services for
the Company's separate accounts.
C-8
<PAGE>
Item 32. UNDERTAKINGS.
(a) Subject to the terms and conditions of Section 15(d) of the Securities
Exchange Act of 1934, the undersigned registrant hereby undertakes to file
with the Securities and Exchange Commission such supplementary and periodic
information, documents, and reports as may be prescribed by any rule or
regulation of the Commission heretofore or hereafter duly adopted pursuant to
authority conferred in that section.
(b) The registrant hereby undertakes to include in the prospectus a postcard
that the applicant can remove to send for a Statement of Additional
Information.
(c) The registrant hereby undertakes to deliver a Statement of Additional
Information promptly upon written or oral request, according to the requirements
of Form N-4.
(d) The Company hereby undertakes that the aggregate fees and charges under
the contract are reasonable in relation to the services rendered, the
expenses expected to be incurred, and the risks assumed by the Insurance
Company.
Item 33. REPRESENTATIONS CONCERNING WITHDRAWAL RESTRICTIONS ON SECTION 403(b)
PLANS AND UNDER THE TEXAS OPTIONAL RETIREMENT PROGRAM.
Registrant, a separate account of First Allmerica Financial Life Insurance
Company ("Company"), states that it is (a) relying on Rule 6c-7 under the
1940 Act with respect to withdrawal restrictions under the Texas Optional
Retirement Program ("Program") and (b) relying on the "no-action" letter
(Ref. No. IP-6-88) issued on November 28, 1988 to the American Council of
Life Insurance, in applying the withdrawal restrictions of Internal Revenue
C-9
<PAGE>
Code Section 403(b)(11). Registrant has taken the following steps in
reliance on the letter:
1. Appropriate disclosures regarding the redemption restrictions imposed by
the Program and by Section 403(b)(11) have been included in the prospectus
of each registration statement used in connection with the offer of the
Company's variable contracts.
2. Appropriate disclosures regarding the redemption restrictions imposed by
the Program and by Section 403(b)(11) have been included in sales
literature used in connection with the offer of the Company's variable
contracts.
3. Sales Representatives who solicit participants to purchase the variable
contracts have been instructed to specifically bring the redemption
restrictions imposed by the Program and by Section 403(b)(11) to the
attention of potential participants.
4. A signed statement acknowledging the participant's understanding of (I) the
restrictions on redemption imposed by the Program and by Section 403(b)(11)
and (ii) the investment alternatives available under the employer's
arrangement will be obtained from each participant who purchases a variable
annuity contract prior to or at the time of purchase.
Registrant hereby represents that it will not act to deny or limit a transfer
request except to the extent that a Service-Ruling or written opinion of
counsel, specifically addressing the fact pattern involved and taking into
account the terms of the applicable employer plan, determines that denial or
limitation is necessary for the variable annuity contracts to meet the
requirements of the Program or of Section 403(b). Any transfer request not
so denied or limited will be effected as expeditiously as possible.
C-10
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the Investment
Company Act of 1940, the Registrant certifies that it meets all the
requirements for effectiveness of this Registration Statement pursuant to
Rule 485(b) under the Securities Act of 1933 and has duly caused this
Registration Statement to be signed on its behalf by the undersigned, thereto
duly authorized, in the City of Worcester, and Commonwealth of Massachusetts,
on the 2nd day of April, 1997.
SEPARATE ACCOUNT KGC OF
FIRST ALLMERICA FINANCIAL LIFE INSURANCE
COMPANY
By: /s/ Abigail M. Armstrong
------------------------------------
Abigail M. Armstrong, Secretary
SIGNATURES TITLE DATE
- ---------- ----- ----
/s/ John F. O'Brien Director, President and Chief
John F. O'Brien Executive Officer
/s/ Bruce C. Anderson Director and Vice President
Bruce C. Anderson
/s/ John P. Kavanaugh Director and Vice President April 2, 1997
John P. Kavanaugh
/s/ John F. Kelly Director, Senior Vice President
John F. Kelly and General Counsel
/s/ J. Barry May Director
J. Barry May
/s/ James R. McAuliffe Director
James R. McAuliffe
/s/ Edward J. Parry, III Vice President and Treasurer
Edward J. Parry, III (Chief Accounting Officer)
/s/ Richard M. Reilly Director and Vice President
Richard M. Reilly
/s/ Larry C. Renfro Director and Vice President
Larry C. Renfro
/s/ Eric A. Simonsen Director, Vice President and Chief
Eric A. Simonsen Financial Officer
/s/ Phillip E. Soule Director and Vice President
Phillip E. Soule
C-11
<PAGE>
EXHIBIT TABLE
Exhibit 9 - Consent and Opinion of Counsel.
Exhibit 10 - Consent and Opinion of Independent Accountants
<PAGE>
FIRST ALLMERICA FINANCIAL LIFE INSURANCE COMPANY
April 2, 1997
First Allmerica Financial Life Insurance Company
440 Lincoln Street
Worcester, MA 01653
Gentlemen:
In my capacity as Counsel of First Allmerica Financial Life Insurance Company
(the "Company"), I have participated in the preparation of the Post-Effective
Amendment to the Registration Statement for Separate Account KGC on Form N-4
under the Securities Act of 1933 and the Investment Company Act of 1940, with
respect to the Company's group variable annuity policies.
I am of the following opinion:
1. Separate Account KGC is a separate account of the Company validly
existing pursuant to the Massachusetts Insurance Code and the regulations
issued thereunder.
2. The assets held in Separate Account KGC are not chargeable with
liabilities arising out of any other business the Company may conduct.
3. The group variable annuity policies, when issued in accordance with the
Prospectus contained in the Registration Statement and upon compliance
with applicable local law, will be legal and binding obligations of the
Company in accordance with their terms and when sold will be legally
issued, fully paid and non-assessable.
In arriving at the foregoing opinion, I have made such examination of law
and examined such records and other documents as in my judgment are necessary
or appropriate.
I hereby consent to the filing of this opinion as an exhibit to this
Post-Effective Amendment to the Registration Statement of Separate Account
KGC filed under the Securities Act of 1933.
Very truly yours,
/s/ Sylvia Kemp-Orino
Sylvia Kemp-Orino
Counsel
<PAGE>
Exhibit 10
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the use in the Statement of Additional Information
constituting part of this Post-Effective Amendment No. 1 to the Registration
Statement on Form N-4 of our report dated February 3, 1997, except as to
Notes 1 and 2, which are as of February 19, 1997, relating to the financial
statements of First Allmerica Financial Life Insurance Company which appears
in such Statement of Additional Information. We also consent to the reference
to us under the heading "Experts" in such Statement of Additional Information.
/s/ Price Waterhouse
Price Waterhouse LLP
Boston, Massachusetts
April 21, 1997
