KILICO VARIABLE ANNUITY SEPARATE ACCOUNT, 497, 1995-05-04

KILICO VARIABLE ANNUITY SEPARATE ACCOUNT
497, 1995-05-04

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<PAGE> 1
KEMPER [KEMPER PASSPORT LOGO]

PASSPORT

PROSPECTUS
May 1, 1995

This prospectus does not constitute an offer to
sell or a solicitation of an offer to buy securities
in any state, to any person, to whom it is not lawful
to make such an offer in such state.

A Variable and Market Value Adjusted Annuity Issued
By Kemper Investors Life Insurance Company

[KEMPER LOGO]

<PAGE> 2

PROSPECTUS--MAY 1, 1995
- --------------------------------------------------------------------------------

INDIVIDUAL AND GROUP VARIABLE AND MARKET VALUE

ADJUSTED DEFERRED ANNUITY CONTRACTS
- --------------------------------------------------------------------------------

KEMPER PASSPORT
ISSUED BY
KEMPER INVESTORS LIFE INSURANCE COMPANY
HOME OFFICE: 1 KEMPER DRIVE, LONG GROVE, ILLINOIS 60049 (708) 320-4500

The types of Individual and Group Variable and Market Value Adjusted Deferred
Annuity Contracts ("Contract" or "Contracts") offered by this Prospectus are
issued by Kemper Investors Life Insurance Company ("KILICO") and are designed to
provide annuity benefits under retirement plans which may or may not qualify for
the Federal tax advantages available under Section 401, 403, 408 or 457 of the
Internal Revenue Code of 1986, as amended. Depending upon particular state
requirements, participation in a group contract will be accounted for by the
issuance of a certificate and participation in an individual contract will be
accounted for by the issuance of an individual annuity contract. The certificate
and individual annuity contract and values thereunder are hereafter both
referred to in terms of the "Certificate."

Purchase payments for the Certificates may be allocated to one or more of the
investment options under which Certificate values accumulate on either a
variable basis or fixed basis subject to a market value adjustment. These
options consist of the eight Subaccounts of the Separate Account and the Market
Value Adjustment Option ("MVA Option"). The Subaccounts invest in the portfolios
of the Kemper Investors Fund (the "Fund") which is managed by Kemper Financial
Services, Inc. The Fund currently consists of the following Portfolios: Money
Market, Total Return, High Yield, Equity, Government Securities, International
and Small Capitalization Equity ("Small Cap"). Subaccounts and Portfolios may be
added in the future. Certificate values allocated to any of the Subaccounts will
vary to reflect the investment performance of the corresponding Portfolio. The
accompanying Prospectus for the Fund describes the investment objectives and the
attendant risks of the Portfolios of the Fund. Certificate values allocated to
one or more Guarantee Periods of the MVA Option will accumulate on a fixed
basis.

This Prospectus is designed to provide you with certain essential information
that you should know before investing. A Statement of Additional Information
dated May 1, 1995 has been filed with the Securities and Exchange Commission and
is incorporated herein by reference. A Statement of Additional Information is
available upon request from Kemper Investors Life Insurance Company by writing
or calling the address or telephone number listed above. A table of contents for
the Statement of Additional Information is on page 47 of this Prospectus.

THIS PROSPECTUS IS VALID ONLY IF ACCOMPANIED OR PRECEDED BY A CURRENT PROSPECTUS
FOR THE KEMPER INVESTORS FUND. ALL PROSPECTUSES SHOULD BE READ AND RETAINED 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 COMMISSION OR
ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<PAGE> 3

TABLE OF CONTENTS
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------

<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
DEFINITIONS................................................................................. 1
SUMMARY..................................................................................... 2
SUMMARY OF EXPENSES......................................................................... 4
KILICO, THE MVA OPTION, THE SEPARATE ACCOUNT AND THE FUND................................... 6
THE CERTIFICATES............................................................................ 9
THE ACCUMULATION PERIOD..................................................................... 10
CERTIFICATE CHARGES AND EXPENSES............................................................ 16
THE ANNUITY PERIOD.......................................................................... 18
FEDERAL INCOME TAXES........................................................................ 21
DISTRIBUTION OF CONTRACTS AND CERTIFICATES.................................................. 24
VOTING RIGHTS............................................................................... 24
REPORTS TO OWNERS AND INQUIRIES............................................................. 25
DOLLAR COST AVERAGING....................................................................... 25
SYSTEMATIC WITHDRAWAL PLAN.................................................................. 25
EXPERTS..................................................................................... 26
LEGAL MATTERS............................................................................... 26
SPECIAL CONSIDERATIONS...................................................................... 26
AVAILABLE INFORMATION....................................................................... 26
BUSINESS.................................................................................... 27
PROPERTIES.................................................................................. 30
LEGAL PROCEEDINGS........................................................................... 30
MANAGEMENT'S DISCUSSION AND ANALYSIS........................................................ 31
KILICO MANAGEMENT........................................................................... 42
EXECUTIVE COMPENSATION...................................................................... 44
TABLE OF CONTENTS--STATEMENT OF ADDITIONAL INFORMATION...................................... 47
FINANCIAL STATEMENTS........................................................................ 47
</TABLE>
<PAGE> 4

DEFINITIONS

The following terms as used in this Prospectus have the indicated meanings:

Accumulated Guarantee Period Value--The sum of an Owner's Guarantee Period
Values.

Accumulation Period--The period between the Date of Issue of a Certificate
and the Annuity Date.

Accumulation Unit--A unit of measurement used to determine the value of
each Subaccount during the Accumulation Period.

Allocation Option--The eight Subaccounts and the MVA Option available under
the Certificate for allocation of Purchase Payments, or transfers of
Certificate Value during the Accumulation Period.

Annuitant--The person designated to receive or who is actually receiving
annuity payments and upon the continuation of whose life annuity payments
involving life contingencies depend.

Annuity Date--The date on which annuity payments are to commence.

Annuity Option--One of several forms in which annuity payments can be made.

Annuity Period--The period starting on the Annuity Date.

Annuity Unit--A unit of measurement used to determine the amount of
Variable Annuity payments.

Beneficiary--The person designated to receive any benefits under a
Certificate upon the death of the Annuitant or the Owner prior to the
Annuity Period.

Certificate--An individual certificate of participation issued by KILICO to
each Owner in a group as evidence of his or her rights and benefits under
the Contract or an individual contract issued by KILICO to an Owner.

Certificate Value--The sum of the values of the Owner's Accumulated
Guarantee Period Value and Separate Account Value during the Accumulation
Period.

Certificate Year--Period between anniversaries of the Date of Issue of a
Certificate.

Contract--The Variable and Market Value Adjusted Deferred Annuity Contracts
offered on an individual or group basis by this Prospectus.

Date of Issue--The date on which the first Certificate Year commences.

Fixed Annuity--An annuity under which the amount of each annuity payment
does not vary with the investment experience of a Subaccount and is
guaranteed by KILICO.

Fund--The Kemper Investors Fund, an open-end management investment company
consisting of seven portfolios in which the Separate Account invests.

General Account--All the assets of KILICO other than those allocated to any
legally segregated Separate Account.

Guaranteed Interest Rate--The rate of interest established by KILICO for a
given Guarantee Period.

Guarantee Period--A period of time during which an amount is to be credited
with a Guaranteed Interest Rate. Guarantee Period options may have
durations of from one (1) to ten (10) years, as elected by the Owner.

Guarantee Period Value--The Guarantee Period Value is the sum of the
Owner's: (1) Purchase Payment allocated or amount transferred to a
Guarantee Period; plus (2) interest credited; minus (3) withdrawals,
previously assessed Withdrawal Charges and transfers; and (4) as adjusted
for any applicable Market Value Adjustment previously made.

KFS--Kemper Financial Services, Inc., whose Home Office is at 120 South
LaSalle Street, Chicago, Illinois 60603.

KILICO--Kemper Investors Life Insurance Company, whose Home Office is at 1
Kemper Drive, Long Grove, Illinois 60049.

Market Adjusted Value--A Guarantee Period Value adjusted by the market
value adjustment formula on any date prior to the end of a Guarantee
Period.

Market Value Adjustment--An adjustment of values under a Guarantee Period
in accordance with the market value adjustment formula prior to the end of
that Guarantee Period. The adjustment reflects the change in the value of
the Guarantee Period Value due to changes in interest rates since the date
the Guarantee Period commenced. The adjustment is computed using the market
value adjustment formula stated in the Certificate.

1
<PAGE> 5

Non-Qualified Plan Certificate--A Certificate issued in connection with a
retirement plan which does not receive favorable tax treatment under
Section 401, 403, 408 or 457 of the Internal Revenue Code.

Owner--The person designated in the Certificate as having the privileges of
ownership defined in the Certificate.

Purchase Payments--Amounts paid to KILICO by or on behalf of the Owner.

Qualified Plan Certificate--A Certificate issued in connection with a
retirement plan which receives favorable tax treatment under Section 401,
403, 408 or 457 of the Internal Revenue Code.

Separate Account--A unit investment trust registered with the Securities
and Exchange Commission under the Investment Company Act of 1940 known as
the KILICO Variable Annuity Separate Account.

Separate Account Value--The sum of the Owner's Subaccount values.

Subaccounts--The eight subdivisions of the Separate Account, the assets of
which consist solely of shares of the corresponding portfolio of the Fund.

Subaccount Value--The value of the Owner's interest in each Subaccount.

Valuation Date--Each day when the New York Stock Exchange is open for
trading, as well as each day otherwise required.

Valuation Period--The interval of time between two consecutive Valuation
Dates.

Variable Annuity--An annuity with payments varying in amount in accordance
with the investment experience of the Subaccount(s) in which the Owner's
Certificate has an interest.

Withdrawal Charge--The "contingent deferred sales charge" assessed against
certain withdrawals of Certificate Value in the first six Certificate Years
after a Purchase Payment is made or against certain annuitizations of
Certificate Value in the first six Certificate Years after a Purchase
Payment is made.

SUMMARY

The following summary should be read in conjunction with the detailed
information appearing elsewhere in this Prospectus. Any significant variations
from the information appearing in the Prospectus which may be required due to
differing state law requirements are contained in supplements to this Prospectus
or in amendments to the Certificates, as appropriate.

The Certificates described in the Prospectus provide a way to invest on a
tax-deferred basis and to receive annuity benefits in accordance with the
annuity option selected and the retirement plan under which the Certificate has
been purchased. The Prospectus offers Certificates designed for use in
connection with both Non-Qualified Plans and Qualified Plans. KILICO makes
several underlying investment options, including eight Subaccounts and up to ten
durations of Guarantee Periods, available for the Owner to pursue his or her
investment objectives.

The minimum initial Purchase Payment for each Certificate is $5,000. Subsequent
Purchase Payments of at least $5,000 each will be accepted at any time while the
Certificate is in force. In addition, subsequent Purchase Payments of at least
$2,000 will be accepted if the Contract is issued as an Individual Retirement
Annuity. (See "The Accumulation Period" page 10.)

KILICO provides for variable accumulations and benefits under the Certificate by
crediting purchase payments to one or more Subaccounts of the Separate Account
as selected by the Owner. The Subaccounts invest in one of the seven
corresponding Portfolios (the "Portfolios") of the Kemper Investors Fund (the
"Fund"), a series mutual fund which is managed by Kemper Financial Services,
Inc. The Money Market Portfolio invests in U.S. dollar denominated money market
instruments that mature in twelve months or less. The Total Return Portfolio
invests in a combination of debt securities and common stocks. The High Yield
Portfolio invests in fixed income securities, including lower rated and unrated
securities which may entail relatively greater risk of loss of income or
principal but may offer a current yield or yield to maturity which is higher.
Lower rated and non-rated securities, which are sometimes referred to by the
popular press as "junk bonds," have widely varying characteristics and quality.
The Equity Portfolio invests primarily in common stock or securities convertible
into or exchangeable for common stocks. The Government Securities Portfolio
invests primarily in direct obligations of the U.S. Treasury or obligations
issued or guaranteed by agencies and instrumentalities of the United States. The
International Portfolio invests primarily in common stocks of established
non-United States companies believed to have potential for capital growth. The
Small Cap Portfolio invests primarily in the equity securities of smaller
companies, i.e., those having a market capitalization of $1 billion or less at
the time of investment. (See "The Fund," page 7.) The Certificate Value
allocated to the Separate Account will vary with the investment performance of
the Portfolios selected by the Owner.

2
<PAGE> 6

KILICO also provides for fixed accumulations under the Certificates in the MVA
Option. The MVA Option is only available during the Accumulation Period. An
Owner may allocate amounts to one or more Guarantee Periods available under the
MVA Option with durations of from one to ten years. KILICO may, in its
discretion, offer additional Guarantee Periods or, limit for new Certificates
the number of Guarantee Period options available to no less than three (3).
KILICO will credit interest daily at a rate declared by KILICO in its sole
discretion to amounts allocated to the MVA Option and guarantees these amounts
at various interest rates ("Guaranteed Interest Rates") for the duration of the
Guarantee Period selected by the Owner, subject to any applicable withdrawal
charge, Market Value Adjustment or records maintenance charge. KILICO may not
change a Guaranteed Interest Rate for the duration of the Guarantee Period;
however, Guaranteed Interest Rates for subsequent Guarantee Periods will be
determined at the sole discretion of KILICO. At the end of any Owner's Guarantee
Period, a subsequent Guarantee Period automatically renews for the same duration
as the terminating Guarantee Period unless the Owner elects another Guarantee
Period during the designated period before and after the end of the Guarantee
Period. The interests under the Certificate relating to the MVA Option are
registered under the Securities Act of 1933 but are not registered under the
Investment Company Act of 1940. (See "The MVA Option," page 6.)

Transfers between and among Subaccounts and Guarantee Periods during the
Accumulation Period are permitted subject to certain limitations. A transfer
from a Guarantee Period is subject to a Market Value Adjustment unless effected
within 15 days before or 15 days after the existing Guarantee Period ends.
Transfers between the Subaccounts are permitted during the Annuity Period after
the first year of annuitization subject to certain limitations. (See "Transfer
During Accumulation Period" and "Transfer During Annuity Period," pages 13 and
19.)

An Owner may withdraw up to 10% of the Certificate Value in any Certificate Year
without assessment of a Withdrawal Charge. If the Owner withdraws an amount in
excess of 10% of the Certificate Value in any Certificate Year, the amount
withdrawn in excess of 10% is subject to a contingent deferred sales charge
("Withdrawal Charge").

The Withdrawal Charge is assessed on withdrawals attributable to Purchase
Payments and all related accumulations during the first six Certificate Years
after the Purchase Payments are made. The Withdrawal Charge starts at 6% in the
Certificate Year in which the Purchase Payment is made (the first "Contribution
Year") and remains at 6% in the second Contribution Year; reduces to 5% in the
third and fourth Contribution Years; reduces to 4% in the fifth and sixth
Contribution Years and reduces to 0% thereafter. However, in no event shall the
aggregate Withdrawal Charges assessed against a Certificate exceed 9% of the
aggregate Purchase Payments made under the Certificate. Please note that adverse
tax consequences may occur with respect to certain withdrawals. (See "Tax
Treatment of Withdrawals and Assignments" page 22.)

A Market Value Adjustment also applies to any withdrawal (except during the
"free look" period), transfer, purchase of an annuity option and to death
benefit payments made more than 15 days before or 15 days after the end of a
Guarantee Period in the MVA Option. The Market Value Adjustment is applied to
the amount being withdrawn before deduction of any applicable Withdrawal
Charges. (See "The Certificates," page 9.)

KILICO deducts a charge for mortality and expense risks and administrative costs
at an annual rate of 1.25% of the daily net assets of the Separate Account. At
the end of each Certificate Year, on surrender of a Certificate, and on
surrender upon annuitization, KILICO deducts a records maintenance charge
("Record Maintenance Charge") of $30 from the Owner's account. The Records
Maintenance Charge will not be deducted during the Annuity Period. KILICO also
deducts state premium taxes from the Owner's account when paid by KILICO or upon
annuitization. (See "Certificate Charges and Expenses," page 16.) In addition,
KFS makes a charge against the assets of each of the Portfolios for providing
investment advisory services. (See "The Fund," page 7 and the Fund prospectus.)

The Certificates may be purchased in connection with retirement plans which
qualify either under Section 401 or 403(b) of the Internal Revenue Code of 1986,
as amended (the "Code") or as individual retirement account plans established
under Section 408 of the Code. The Certificates are also available in connection
with state and municipal deferred compensation plans and other entities
qualified under Section 457 of the Code and under other deferred compensation
arrangements, and are also offered under other retirement plans which may not
qualify for similar tax advantages. (See "Qualified Plans," page 22.)

An Owner has the right within the "free look" period (generally ten days,
subject to state variation) after receiving the Certificate to cancel the
Certificate by delivering or mailing it to KILICO. Upon receipt by KILICO, the
Certificate will be cancelled and a refund will be made. The amount of the
refund will depend on the state in which the Certificate is issued; however, it
will be an amount at least equal to the Separate Account Value plus amounts
allocated to the Guarantee Periods which will not be subject to the Market Value
Adjustment. (See "The Certificates," page 9.)

3
<PAGE> 7

- --------------------------------------------------------------------------------
SUMMARY OF EXPENSES
- --------------------------------------------------------------------------------
CERTIFICATE OWNER TRANSACTION EXPENSES

<TABLE>
<S> <C>
Sales Load Imposed on Purchases (as a percentage of purchase payments)......................................... None
Contingent Deferred Sales Load (as a percentage of amount surrendered)*
Certificate Year of Withdrawal
First year...................................... 6%
Second year..................................... 6%
Third year...................................... 5%
Fourth year..................................... 5%
Fifth year...................................... 4%
Sixth year...................................... 4%
Seventh year and following...................... 0%
Surrender Fees (in addition to Withdrawal Charge)**............................................................ None
Exchange Fee................................................................................................... None
ANNUAL CONTRACT FEE (Records Maintenance Charge)***............................................................ $30
</TABLE>
<TABLE>
<CAPTION>
SEPARATE ACCOUNT ANNUAL EXPENSES
(as percentage of each Portfolio's average net assets)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Mortality and MONEY TOTAL GOVERNMENT
Expense Risk.... 1.10% MARKET RETURN HIGH YIELD EQUITY SECURITIES INTERNATIONAL SMALL CAP
PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO
Administration.. .15% --------- --------- ---------- --------- ---------- ------------- ---------
Management Fees..... .50% .55% .60% .60% .55% .75% .65%
Account Fees Other Expenses...... .03 .06 .05 .06 .09 .18 .60
and Expenses.... 1.25% Total Portfolio
Annual Expenses... .53% .61% .65% .66% .64% .93% 1.25%
Account Fees
and Expenses.... 0%

Total Separate
Account Annual
Expenses....... 1.25%

</TABLE>
- --------------------------------------------------------------------------------
EXAMPLE
- --------------------------------------------------------------------------------

<TABLE>
<CAPTION>
1 3 5 10
SUBACCOUNT YEAR YEARS YEARS YEARS
---- ----- ----- -----
<S> <C> <C> <C> <C> <C>
If you surrender your contract at the end of the Money Market #1+ 81 113 147 217
applicable time period: Total Return 81 115 151 226
You would pay the following expenses on a $1,000 High Yield 82 117 153 230
investment, assuming 5% annual return on assets: Equity 82 117 153 231
Government Securities 82 116 152 228
International 85 125 167 259
Small Cap 88 134 --

If you do not surrender your contract: Money Market #1+ 19 58 100 217
You would pay the following expenses Total Return 19 61 104 226
on a $1,000 investment, assuming High Yield 20 62 107 230
5% annual return on assets: Equity 20 62 107 231
Government Securities 20 61 106 228
International 23 71 121 259
Small Cap 26 81 -- --
</TABLE>

- --------------------------------------------------------------------------------

The purpose of the preceding table is to assist Owners in understanding the
various costs and expenses that a Owner in a Subaccount will bear directly or
indirectly. The table reflects expenses of both the Separate Account and the
Fund but not the MVA Option. See "Certificate Charges and Expenses" and "The MVA
Option" for more information regarding the various costs and expenses. THE
EXAMPLE SHOULD NOT BE CONSIDERED TO BE A REPRESENTATION OF PAST OR FUTURE
EXPENSES AND DOES NOT INCLUDE THE DEDUCTION OF STATE PREMIUM TAXES, WHICH MAY BE
ASSESSED BEFORE OR UPON ANNUITIZATION. ACTUAL EXPENSES MAY BE GREATER OR LESS
THAN THOSE SHOWN. The example assumes a 5% annual rate of return pursuant to
requirements of the Securities and Exchange Commission. This hypothetical rate
of return is not intended to be representative of past or future performance of
any Subaccount. The Records Maintenance Charge is a single charge, it is not a
separate charge for each Subaccount. In addition, the effect of the Records
Maintenance Charge has been reflected by applying the percentage derived by
dividing the total amounts of annual Records Maintenance Charge collected by the
total net assets of all the Subaccounts in the Separate Account.

* A Certificate Owner may withdraw up to 10% of the Separate Account Value plus
Market Adjusted Value in any Certificate Year without assessment of any
charge. Under certain circumstances the contingent deferred sales load may be
reduced or waived, including when certain annuity options are selected.

** Surrenders and other withdrawals from the MVA Option are subject to a Market
Value Adjustment unless made within 15 days before or 15 days after the end
of a Guarantee Period. The Market Value Adjustment may increase or reduce
the Guarantee Period Value.

*** Under certain circumstances the annual Records Maintenance Charge may be
reduced or waived.

+ Money Market Subaccount #2 is not shown because it is available only for
dollar cost averaging that will deplete an Owner's Subaccount Value entirely
at least by the end of the third Certificate Year.

4
<PAGE> 8

- --------------------------------------------------------------------------------
CONDENSED FINANCIAL INFORMATION
- --------------------------------------------------------------------------------

The following condensed financial information is derived from the financial
statements of the Separate Account. The data should be read in conjunction
with the financial statements, related notes and other financial information
included in the Statement of Additional Information.

Selected data for accumulation units outstanding as of the year ended December
31, 1994:

<TABLE>
<CAPTION>
ACCUMULATION UNIT VALUE AT BEGINNING OF PERIOD* 1994 1993 1992
------ ------ ------
<S> <C> <C> <C>
Money Market Subaccount #1..................................... 1.037 1.021 1.000
Money Market Subaccount #2..................................... 1.063 1.034 1.000
Total Return Subaccount........................................ 1.109 1.002 1.000
High Yield Subaccount.......................................... 1.354 1.143 1.000
Equity Subaccount.............................................. 1.153 1.018 1.000
Government Securities Subaccount............................... 1.104 1.050 1.000
International Subaccount....................................... 1.287 .981 1.000
</TABLE>

<TABLE>
<CAPTION>
ACCUMULATION UNIT VALUE AT END OF PERIOD 1994 1993 1992
------ ------ ------
<S> <C> <C> <C>
Money Market Subaccount #1..................................... 1.065 1.037 1.021
Money Market Subaccount #2..................................... 1.105 1.063 1.034
Total Return Subaccount........................................ .991 1.109 1.002
High Yield Subaccount.......................................... 1.308 1.354 1.143
Equity Subaccount.............................................. 1.093 1.153 1.018
Government Securities Subaccount............................... 1.061 1.104 1.050
International Subaccount....................................... 1.225 1.287 .981
Small Cap Subaccount**......................................... 1.031
</TABLE>

<TABLE>
<CAPTION>
NUMBER OF ACCUMULATION UNITS OUTSTANDING AT END OF PERIOD
(000'S OMITTED) 1994 1993 1992
------ ------ ------
<S> <C> <C> <C>
Money Market Subaccount #1..................................... 14,423 5,757 3,037
Money Market Subaccount #2..................................... 3,333 3,033 6,561
Total Return Subaccount........................................ 68,207 51,444 27,355
High Yield Subaccount.......................................... 28,545 22,109 6,519
Equity Subaccount.............................................. 55,308 37,678 19,693
Government Securities Subaccount............................... 24,760 28,414 16,647
International Subaccount....................................... 21,035 12,503 4,699
Small Cap Subaccount**......................................... 2,637
</TABLE>

- --------------------------------------------------------------------------------

* Commencement of Offering on January 6, 1992.
** Commencement of Offering on May 2, 1994 at initial accumulation unit value of
1.000.

5
<PAGE> 9

KILICO, THE MVA OPTION, THE SEPARATE ACCOUNT AND THE FUND

KEMPER INVESTORS LIFE INSURANCE COMPANY

Kemper Investors Life Insurance Company ("KILICO"), 1 Kemper Drive, Long Grove,
Illinois 60049, was organized in 1947 and is a stock life insurance company
organized under the laws of the State of Illinois. KILICO offers annuity and
life insurance products and is admitted to do business in the District of
Columbia and all states except New York. KILICO is a wholly owned subsidiary of
Kemper Financial Companies, Inc. ("KFC"), a nonoperating holding company. KFC is
a subsidiary of Kemper Corporation ("Kemper"), another public financial services
holding company.

THE MVA OPTION

An Owner may allocate amounts in the MVA Option to one or more Guarantee Periods
with durations of one (1) to ten (10) years during the Accumulation Period.
KILICO may, at its discretion, offer additional Guarantee Periods or limit, for
new Certificates, the number of durations of Guarantee Periods available to no
less than three (3).

The amounts allocated to the MVA Option under the Certificates are invested in
accordance with the standards applicable to KILICO's general account. State
insurance laws concerning the nature and quality of investments regulate
KILICO's investments for its general account. Within specified limits and
subject to certain standards, these laws generally permit investment in federal,
state and municipal obligations, preferred and common stocks, corporate bonds,
real estate mortgages, real estate and certain other investments. (See
"Management's Discussion and Analysis--INVESTMENTS" and "FINANCIAL STATEMENTS"
for information on KILICO's investments.) Assets of KILICO's general account are
managed by Kemper Financial Services, Inc. ("KFS" or the "Adviser"), a wholly
owned subsidiary of KFC and an affiliate of KILICO.

KILICO intends to consider the return available on the instruments in which it
intends to invest the proceeds from the Certificates when it establishes
Guaranteed Interest Rates. Such return is only one of many factors considered in
establishing the Guaranteed Interest Rates. (See "The Accumulation Period--D.
Establishment of Guaranteed Interest Rates.")

KILICO's investment strategy is generally to invest in debt instruments that it
uses to match its liabilities with regard to a Guarantee Period. This is done,
in KILICO's sole discretion, by investing in any type of instrument that is
authorized under applicable state law. KILICO expects to invest a substantial
portion of the Purchase Payments received in debt instruments as follows: (1)
securities issued by the United States Government or its agencies or
instrumentalities, which issues may or may not be guaranteed by the United
States Government; (2) debt securities which have an investment grade, at the
time of purchase, within the four (4) highest grades assigned by Moody's
Investors Services, Inc. ("Moody's") (Aaa, Aa, A or Baa), Standard & Poor's
Corporation ("Standard & Poor's") (AAA, AA, A or BBB), or any other nationally
recognized rating service; and (3) other debt instruments including, but not
limited to, issues of or guaranteed by banks or bank holding companies and
corporations, which obligations, although not rated by Moody's or Standard &
Poor's, are deemed by KILICO's management to have an investment quality
comparable to securities which may be purchased as stated above. In addition,
KILICO may engage in options and futures transactions on fixed income
securities.

KILICO's invested assets portfolio at December 31, 1994 included approximately
72.3 percent in U.S. Treasuries, investment grade corporate, foreign and
municipal bonds, and commercial paper, 2.8 percent in below investment grade
(high risk) bonds, 18.4 percent in mortgage loans and other real estate-related
investments and 6.5 percent in all other investments. (See "Management's
Discussion and Analysis--INVESTMENTS.")

KILICO is not obligated to invest the amounts allocated to the MVA Option
according to any particular strategy, except as may be required by applicable
state insurance laws. (See "Management's Discussion and Analysis--INVESTMENTS.")

THE SEPARATE ACCOUNT

KILICO originally established the KILICO Variable Annuity Separate Account (the
"Separate Account") on May 29, 1981 pursuant to Illinois law as the KILICO Money
Market Separate Account, registered with the Securities and Exchange Commission
("Commission") as an open-end, diversified management investment company under
the Investment Company Act of 1940 ("1940 Act"). On November 2, 1989, contract
owners approved a Reorganization under which the Separate Account was
restructured as a multi-subaccount unit investment trust registered with

6
<PAGE> 10

the Commission under the 1940 Act. Such registration does not involve
supervision by the Commission of the management, investment practices or
policies of the Separate Account or KILICO.

The Separate Account is administered and accounted for as part of the general
business of KILICO, but the income and capital gains or capital losses, whether
or not realized, for assets allocated to the Separate Account are credited to or
charged against the assets held in the Separate Account, without regard to any
other income, capital gains or capital losses of any other separate account or
arising out of any other business which KILICO may conduct. The benefits
provided under the Contracts and Certificates are obligations of KILICO. The
assets of the Separate Account are not chargeable with liabilities arising out
of the business conducted by any other separate account or out of any other
business KILICO may conduct.

The Separate Account holds assets that are segregated from all of KILICO's other
assets. The Separate Account is used to support the variable annuity contracts
described herein during both the Accumulation Period and Annuity Period and
certain other variable annuity contracts. The obligations to Owners and
beneficiaries arising under the Contracts and Certificates are general corporate
obligations of KILICO.

The Separate Account is currently divided into eight Subaccounts. Each
Subaccount invests exclusively in shares of one of the corresponding Portfolios
of the Fund. Additional Subaccounts may be added in the future.

The Separate Account will purchase and redeem shares from the Fund at net asset
value. KILICO will redeem Fund shares as necessary to provide benefits, to
deduct charges under the Certificates and to transfer assets from one Subaccount
to another as requested by Owners. All dividends and capital gains distributions
received by the Separate Account from a Portfolio of the Fund will be reinvested
in such Portfolio at net asset value and retained as assets of the corresponding
Subaccount.

The Separate Account's financial statements appear in the Statement of
Additional Information.

THE FUND

The Separate Account invests in shares of the Kemper Investors Fund, a series
type mutual fund registered with the Commission as an open-end, diversified
management investment company. Registration of the Fund does not involve
supervision of its management, investment practices or policies by the
Commission. The Fund is designed to provide an investment vehicle for variable
annuity contracts and variable life insurance. Shares of the Fund are sold only
to insurance company separate accounts. In addition to selling shares to
variable annuity and variable life separate accounts of KILICO and its
affiliates (currently, the Separate Account and KILICO Variable Separate
Account), shares of the Fund may be sold to variable life insurance and variable
annuity separate accounts of insurance companies not affiliated with KILICO. It
is conceivable that in the future it may be disadvantageous for variable life
insurance separate accounts and variable annuity separate accounts of companies
unaffiliated with KILICO, or for both variable life insurance separate accounts
and variable annuity separate accounts, to invest simultaneously in the Fund.
Currently, neither KILICO nor the Fund foresees any such disadvantages to either
variable life insurance or variable annuity owners. Management of the Fund has
an obligation to monitor events to identify material conflicts between such
owners and determine what action, if any, should be taken. In addition, if
KILICO believes that the Fund's response to any of those events or conflicts
insufficiently protects the Owners, it will take appropriate action on its own.

The Fund currently consists of the following Portfolios: Money Market, Total
Return, High Yield, Equity, Government Securities, International and Small Cap.
The assets of each Portfolio are held separate from the assets of the other
Portfolios, and each Portfolio has its own distinct investment objective and
policies. Each Portfolio operates as a separate investment fund, and the
investment performance of one Portfolio has no effect on the investment
performance of any other Portfolio.

The investment objectives and policies of the Fund's Portfolios are summarized
below:

Money Market Portfolio: This Portfolio seeks to provide maximum current income
to the extent consistent with stability of principal. It will maintain a dollar
weighted average portfolio maturity of 90 days or less. This Portfolio pursues
its objective of maximum income and stability of principal by investing in money
market securities such as U.S. Treasury obligations, commercial paper, and
certificates of deposit and bankers' acceptances of domestic and foreign banks,
including foreign branches of domestic banks, and will enter into repurchase
agreements.

Total Return Portfolio: This Portfolio seeks a high total return, a combination
of income and capital appreciation, by investing in a combination of debt
securities and common stocks. The Portfolio's investments will normally consist
of fixed-income and equity securities. Fixed-income securities will include
bonds and other debt securities and

7
<PAGE> 11

preferred stocks, some of which may have a call on common stocks through
attached warrants or a conversion privilege. Equity investments normally will
consist of common stocks and securities convertible into or exchangeable for
common stocks, however the Portfolio may also make private placement investments
(which are normally restricted securities).

High Yield Portfolio: This Portfolio seeks to provide a high level of current
income by investing in fixed-income securities. It invests in U.S. Government,
corporate, and other notes and bonds paying high current income.

Equity Portfolio: This Portfolio seeks maximum appreciation of capital through
diversification of investment securities having potential for capital
appreciation. Current income will not be a significant factor. This Portfolio's
investments normally will consist of common stocks and securities convertible
into or exchangeable for common stocks; however, it may also make private
placement investments (which are normally restricted securities).

Government Securities Portfolio: This Portfolio seeks high current return
consistent with preservation of capital from a portfolio composed primarily of
U.S. Government securities. The Portfolio will also invest in fixed-income
securities other than U.S. Government securities, and will engage in options and
financial futures transactions. The Portfolio may purchase or sell portfolio
securities on a when-issued or delayed delivery basis. The Portfolio's current
return is sought from interest income and net short-term gains on securities and
options and futures transactions.

International Portfolio: This Portfolio seeks a total return, a combination of
capital growth and income, principally through an internationally diversified
portfolio of equity securities. While this Portfolio invests principally in
equity securities of non-United States issuers, this Portfolio may also invest
in convertible and debt securities of non-United States issuers and foreign
currencies.

Small Cap Portfolio: This Portfolio seeks maximum appreciation of capital. At
least 65% of its total assets normally will be invested in the equity securities
of smaller companies, i.e., those having a market capitalization of $1 billion
or less at the time of investment. Current income will not be a significant
factor. This Portfolio's investments normally will consist primarily of common
stocks and securities convertible into or exchangeable for common stocks and to
a limited degree in preferred stocks and debt securities.

There is no assurance that any of the Portfolios of the Fund will achieve its
stated objective. More detailed information, including a description of risks
involved in investing in each of the Portfolios, may be found in the prospectus
for the Fund, which must accompany or precede this Prospectus, and the Fund's
Statement of Additional Information available upon request from Kemper Investors
Life Insurance Company, 1 Kemper Drive, Long Grove, Illinois 60049 or Kemper
Financial Services, Inc., 120 South LaSalle Street, Chicago, Illinois 60603.
Read the prospectus carefully before investing.

KFS is the investment adviser to the Fund and manages its daily investments and
business affairs, subject to the policies established by the trustees of the
Fund. For its advisory services to the Portfolios, the Adviser receives
compensation monthly at annual rates equal to .50 of 1%, .55 of 1%, .60 of 1%,
.60 of 1%, .55 of 1%, .75 of 1% and .65 of 1% of the average daily net asset
values of the Money Market Portfolio, the Total Return Portfolio, the High Yield
Portfolio, the Equity Portfolio, the Government Securities Portfolio, the
International Portfolio and the Small Cap Portfolio, respectively.

CHANGE OF INVESTMENTS

KILICO reserves the right, subject to applicable law, to make additions to,
deletions from, or substitutions for the shares held by the Separate Account or
that the Separate Account may purchase. KILICO reserves the right to eliminate
the shares of any of the portfolios of the Fund and to substitute shares of
another portfolio of the Fund or of another investment company, if the shares of
a portfolio are no longer available for investment, or if in its judgment
further investment in any portfolio becomes inappropriate in view of the
purposes of the Separate Account. KILICO will not substitute any shares
attributable to an Owner's interest in a Subaccount of the Separate Account
without notice to the Owner and prior approval of the Commission, to the extent
required by the 1940 Act or other applicable law. Nothing contained in this
Prospectus shall prevent the Separate Account from purchasing other securities
for other series or classes of policies, or from permitting a conversion between
series or classes of policies on the basis of requests made by Owners.

KILICO also reserves the right to establish additional subaccounts of the
Separate Account, each of which would invest in a new portfolio of the Fund, or
in shares of another investment company, with a specified investment objective.
New subaccounts may be established when, in the sole discretion of KILICO,
marketing needs or investment conditions warrant, and any new subaccounts may be
made available to existing Owners as determined by KILICO. KILICO may also
eliminate or combine one or more subaccounts, transfer assets, or it may
substitute

8
<PAGE> 12

one subaccount for another subaccount, if, in its sole discretion, marketing,
tax, or investment conditions warrant. KILICO will notify all Owners of any such
changes.

If deemed by KILICO to be in the best interests of persons having voting rights
under the Certificate, the Separate Account may be: (a) operated as a management
company under the 1940 Act; (b) deregistered under that Act in the event such
registration is no longer required; or (c) combined with other KILICO separate
accounts. To the extent permitted by law, KILICO may also transfer the assets of
the Separate Account associated with the Certificate to another separate
account, or to the General Account.

PERFORMANCE INFORMATION

From time to time, the Separate Account may advertise several types of
performance information for the Subaccounts. All Subaccounts may advertise
"average annual total return" and "total return," except "average annual total
return" is not shown for Money Market Subaccount #1 and Money Market Subaccount
#2 (collectively, the "Money Market Subaccounts"). The High Yield Subaccount and
the Government Securities Subaccount may also advertise "yield." The Money
Market Subaccounts may each advertise "yield" and "effective yield." Each of
these figures is based upon historical earnings and is not necessarily
representative of the future performance of a Subaccount. Average annual total
return and total return calculations measure the net income of a Subaccount plus
the effect of any realized or unrealized appreciation or depreciation of the
underlying investments in the Subaccount for the period in question. Average
annual total return will be quoted for periods of at least one year, five years
if applicable, and the life of the Subaccount, ending with the most recent
calendar quarter. Average annual total return figures are annualized and,
therefore, represent the average annual percentage change in the value of an
investment in a Subaccount over the applicable period. Total return figures are
not annualized and represent the actual percentage change over the applicable
period. Yield is a measure of the net dividend and interest income earned over a
specific one month or 30-day period (seven-day period for each of the Money
Market Subaccounts) expressed as a percentage of the value of the Subaccounts'
Accumulation Units. Yield is an annualized figure, which means that it is
assumed that the Subaccount generates the same level of net income over a one
year period which is compounded on a semi-annual basis. The effective yield for
each of the Money Market Subaccounts is calculated similarly but includes the
effect of assumed compounding calculated under rules prescribed by the
Securities and Exchange Commission. The Money Market Subaccounts effective
yields will be slightly higher than their yields due to this compounding effect.
The Subaccounts' units are sold at Accumulation Unit value. The Subaccounts'
performance figures and Accumulation Unit values will fluctuate. Units of the
Subaccount are redeemable by an investor at Accumulation Unit value, which may
be more or less than original cost. The performance figures include the
deduction of all expenses and fees, including a prorated portion of the Records
Maintenance Charge. Redemptions within the first six years after purchase may be
subject to a Withdrawal Charge that ranges from 6% the first year to 0% after
six years; however, the aggregate Withdrawal Charge will not exceed 9.0% of
aggregate Purchase Payments under the Certificate. Yield, effective yield and
total return figures do not include the effect of any Withdrawal Charge that may
be imposed upon the redemption of units, and thus may be higher than if such
charges were deducted. Average annual total return figures include the effect of
the applicable Withdrawal Charge that may be imposed at the end of the period in
question. Additional information concerning a Subaccount's performance appears
in the Statement of Additional Information. The Subaccounts may provide
comparative information with regard to the Dow Jones Industrial Average, the
Standard & Poor's 500 Stock Index, the Consumer Price Index, the CDA Certificate
of Deposit Index, the Lehman Brothers Government and Corporate Bond Index, the
Salomon Brothers High Grade Corporate Bond Index and the Merrill Lynch
Government/Corporate Master Index, the CDA Mutual Fund--International Index, and
the Morgan Stanley Capital International Europe, Australia, Far East Index, and
may provide Lipper Analytical Services, Inc., the VARDS Report and Morningstar,
Inc. performance analysis rankings. From time to time, the Separate Account may
quote information from publications such as Morningstar, Inc., The Wall Street
Journal, Money Magazine, Forbes, Barron's, Fortune, The Chicago Tribune, USA
Today, Institutional Investor, Registered Representative, VARDS and Investment
Advisor.

THE CERTIFICATES

The Prospectus offers Certificates for use in connection with both Qualified
Plans and Non-Qualified Plans. The minimum initial Purchase Payment for a
Certificate is $5,000. Subsequent Purchase Payments of at least $5,000 will be
accepted at any time while the Certificate is in force. In addition, subsequent
Purchase Payments of at least $2,000 will be accepted if the Contract is issued
as an Individual Retirement Annuity. The prior approval of KILICO is required
before it will accept a Purchase Payment in excess of $1,000,000. The maximum
amount of Purchase Payments may also be limited by the provisions of the
retirement plan pursuant to which the Certificate has been purchased.

9
<PAGE> 13

KILICO may at any time amend the Contract and Certificate in accordance with
changes in the law, including applicable tax laws, regulations or rulings, and
for other purposes.

An Owner is allowed a "free look" period (generally ten days, subject to state
variation) after receiving the Certificate, to review it and decide whether or
not to keep it. If the Owner decides to return the Certificate, it may be
cancelled by delivering or mailing it to KILICO. Upon receipt by KILICO, the
Certificate will be cancelled and a refund will be made. The amount of the
refund will depend on the state in which the Certificate is issued; however, it
will generally be an amount at least equal to the Separate Account Value plus
amounts allocated to the Guarantee Periods on the date of receipt by KILICO,
without any deduction for withdrawal charges or Records Maintenance Charges. In
some states applicable law requires that the amount of the Purchase Payment be
returned.

During the Accumulation Period, the Owner may assign the Certificate or change a
Beneficiary at any time by filing such assignment or change with KILICO's home
office at 1 Kemper Drive, Long Grove, Illinois 60049. No assignment or
Beneficiary change shall be binding on KILICO until received by KILICO. KILICO
assumes no responsibility for the validity of such assignment or Beneficiary
change. An assignment may subject the Owner to immediate tax liability. (See
"Tax Treatment of Withdrawals, Loans and Assignments.")

Amounts payable during the Annuity Period may not be assigned or encumbered and,
to the extent permitted by law, are not subject to levy, attachment or other
judicial process for the payment of the payee's debts or obligations.

The original Beneficiary may be named in the application for the Certificate. If
a Beneficiary is not named, or if no named Beneficiary survives the Annuitant,
the Beneficiary shall be the Owner's estate upon the death of the Owner, or the
Annuitant's estate upon the death of the Annuitant who is not the Owner.

Assignment of interest in the Certificate or change of Beneficiary designation
under a Qualified Plan Certificate may be prohibited by the provisions of the
applicable plan.

THE ACCUMULATION PERIOD

A. APPLICATION OF PURCHASE PAYMENTS.

An eligible member of a group or an individual to which a Certificate has been
issued may participate by submitting to KILICO for approval a completed
enrollment application form along with the required initial Purchase Payment.
KILICO issues a Certificate upon acceptance of the application and receipt of
the Purchase Payment. Purchase Payments are confirmed to an Owner in writing.
Purchase Payments are allocated to the Subaccount(s) or Guarantee Period(s) as
selected by the Owner, subject to a minimum of $1,000 in each Subaccount and
Guarantee Period.

KILICO will issue a Certificate without having previously received a signed
application from the applicant in the following circumstances. A dealer may
inform KILICO of an applicant's answers to the questions in the application by
submitting an unsigned application and cause the initial Purchase Payment to be
paid to KILICO. If the information is in good order, KILICO will issue the
Certificate with a copy of the completed application. The Certificate will be
delivered to the owner with a letter requesting the Owner to sign and return to
KILICO a copy of the application in confirmation of the correctness of the
information on the application.

The amount of each Purchase Payment credited to a Subaccount will be based on
the next computed value of an Accumulation Unit following receipt of payment in
proper form by KILICO. The value of an Accumulation Unit is determined when the
net asset values of the Portfolios of the Fund are calculated, which is
generally at 3:00 p.m. Chicago time (11:00 a.m. and 3:00 p.m. Chicago time for
the Money Market Portfolio) on each day that the New York Stock Exchange is open
for trading. Purchase Payments allocated to a Guarantee Period will begin
earning interest one day after receipt in proper form. However, with respect to
initial Purchase Payments allocated to either Subaccount(s) or Guarantee
Period(s), the amount will be credited only after an affirmative determination
by KILICO to issue the Certificate, but no later than the second day following
receipt of the Purchase Payment. Wired funds received before 3:00 p.m. (CST)
will be credited that day. Wired funds received after 3:00 p.m. (CST) will be
credited the next business day. After the initial purchase, the number of
Accumulation Units credited is determined by dividing the Purchase Payment
amount allocated to a Subaccount by the Accumulation Unit value which is next
computed following receipt by KILICO of any Purchase Payment in good funds.
Purchase Payments will not be received except on those days when the New York
Stock Exchange is open for trading.

The number of Accumulation Units will not change because of a subsequent change
in value. The dollar value of an Accumulation Unit will vary to reflect the
investment experience of the Subaccount and the assessment of charges against
the Subaccount other than the Records Maintenance Charge. The number of
Accumulation Units and the amount of Guarantee Period Value will be reduced upon
assessment of the Records Maintenance Charge.

10
<PAGE> 14

If KILICO has not been provided with information sufficient to establish a
Certificate or to properly credit such Purchase Payment, it will promptly
request that the necessary information be furnished. If the requested
information is not furnished within five (5) business days of initial receipt of
the Purchase Payment, or if KILICO determines that it cannot otherwise issue the
Certificate within the five (5) day period, the Purchase Payment will be
returned to the Owner.

B. ACCUMULATION UNIT VALUE.

Each Subaccount has an Accumulation Unit value. When Purchase Payments or other
amounts are allocated to a Subaccount, a number of units are purchased based on
the Subaccount's Accumulation Unit value at the end of the valuation period
during which the allocation is made. When amounts are transferred out of or
deducted from a Subaccount, units are redeemed in a similar manner.

The Accumulation Unit value for each subsequent valuation period is the
investment experience factor for that period multiplied by the Accumulation Unit
value for the immediately preceding period. Each valuation period has a single
Accumulation Unit value which is applied to each day in the period.

Each Subaccount has its own investment experience factor. The investment
experience of the Separate Account is calculated by applying the investment
experience factor to the Accumulation Unit value in each Subaccount during a
valuation period.

The investment experience factor of a Subaccount for a Valuation Period is
determined by dividing (1) by (2) and subtracting (3) from the result, where:

(1) is the net result of:

a. the net asset value per share of the investment held in the
Subaccount determined at the end of the current valuation period; plus

b. the per share amount of any dividend or capital gain distributions
made by the investments held in the Subaccount, if the "ex-dividend"
date occurs during the current valuation period; plus or minus

c. a charge or credit for any taxes reserved for the current valuation
period which KILICO determines to have resulted from the investment
operations of the Subaccount;

(2) is the net asset value per share of the investment held in the
Subaccount, determined at the end of the last prior valuation period;

(3) is the factor representing the mortality and expense risk and
administrative cost charge stated in the Certificate for the number of days
in the valuation period.

C. GUARANTEE PERIODS OF THE MVA OPTION.

An Owner may select, on the application form, one or more Guarantee Periods with
durations of one (1) to ten (10) years. Any subsequently permitted Purchase
Payments are allocated to Guarantee Periods as selected by the Owner. The
Guarantee Period, for each Purchase Payment or portion thereof, selected by the
Owner determines the Guaranteed Interest Rate. KILICO pays interest at the
Guaranteed Interest Rates in effect at the time the Purchase Payment is
received. The Guaranteed Interest Rate applies for the entire duration of the
Guarantee Period for that Purchase Payment remaining in the Guarantee Period.
Interest is credited daily at a rate equivalent to the effective annual rate.

11
<PAGE> 15

Set forth below is an illustration of how KILICO will credit interest during a
Guarantee Period. For the purpose of this example, certain assumptions were made
as indicated.

EXAMPLE OF GUARANTEED INTEREST RATE ACCUMULATION

Purchase Payment: $40,000
Guarantee Period: 5 Years
Guaranteed Interest Rate:
4.0% Effective Annual Rate

<TABLE>
<CAPTION>
INTEREST
CREDITED CUMULATIVE
DURING INTEREST
YEAR YEAR CREDITED
----------------------------------------------- --------- ---------
<S> <C> <C>
1 ............................................. $1,600.00 $1,600.00
2 ............................................. 1,664.00 3,264.00
3 ............................................. 1,730.56 4,994.56
4 ............................................. 1,799.78 6,794.34
5 ............................................. 1,871.77 8,666.11
</TABLE>

Accumulated Value at the end of 5 years is:

$40,000 + $8,666.11 = $48,666.11

NOTE: THIS EXAMPLE ASSUMES NO WITHDRAWALS OF ANY AMOUNT DURING THE ENTIRE
FIVE-YEAR PERIOD. A MARKET VALUE ADJUSTMENT AND A WITHDRAWAL CHARGE APPLY TO ANY
INTERIM WITHDRAWAL OR TRANSFER (SEE, "WITHDRAWAL DURING ACCUMULATION PERIOD" AND
"TRANSFER DURING ACCUMULATION PERIOD.") THE HYPOTHETICAL INTEREST RATES ARE
ILLUSTRATIVE ONLY AND ARE NOT INTENDED TO PREDICT FUTURE INTEREST RATES TO BE
GUARANTEED UNDER THE CERTIFICATE. ACTUAL INTEREST RATES GUARANTEED FOR ANY GIVEN
TIME MAY BE MORE OR LESS THAN THOSE SHOWN.

At the end of any Guarantee Period, a subsequent Guarantee Period begins. KILICO
provides written notification of the beginning of a subsequent Guarantee Period.
The subsequent Guarantee Period automatically renews for the same duration as
the terminating Guarantee Period unless the Owner elects another Guarantee
Period within 15 days before or 15 days after the end of the terminating
Guarantee Period. The Owner may choose a different Guarantee Period by
preauthorized telephone instructions or written notification to KILICO within 15
days before or 15 days after the beginning of the subsequent Guarantee Period
(or such longer period as stated in KILICO's notification). An Owner should not
select a subsequent Guarantee Period that would extend beyond the Annuity Date
then in effect for that Certificate as the Guarantee Period Amount available for
annuitization in such Guarantee Period would be subject to a Market Value
Adjustment and any applicable Withdrawal Charge. (See "Market Value Adjustment"
below.)

The amount reinvested at the beginning of any subsequent Guarantee Period is
equal to the Guarantee Period Value in the Guarantee Period just ended. The
Guaranteed Interest Rate in effect when the subsequent Guarantee Period begins
applies for the entire duration of the subsequent Guarantee Period.

An Owner may call 1-800-621-5001 or write to KILICO, 1 Kemper Drive, Long Grove,
Illinois 60049 for the subsequent Guaranteed Interest Rates.

D. ESTABLISHMENT OF GUARANTEED INTEREST RATES.

KILICO declares the Guaranteed Interest Rates for each of the ten durations of
Guarantee Periods from time to time as market conditions dictate, but once
established, rates will be guaranteed for the duration of the respective
Guarantee Periods. KILICO advises an Owner of the Guaranteed Interest Rate for a
chosen Guarantee Period at the time a Purchase Payment is received, a transfer
is effectuated or a Guarantee Period renews. Any portion of an Owner's
Accumulated Guarantee Period Value withdrawn from the MVA Option will be subject
to any applicable Withdrawal Charge and Records Maintenance Charge and may be
subject to a Market Value Adjustment. (See "Market Value Adjustment" below.)

KILICO has no specific formula for establishing the Guaranteed Interest Rates
for the Guarantee Periods. The determination may be influenced by, but not
necessarily correspond to, interest rates generally available on the types of
investments acquired with the Purchase Payments received under the Certificates.
(See "The MVA Option".) KILICO, in determining Guaranteed Interest Rates, may
also consider, among other factors, the duration of a Guarantee Period,
regulatory and tax requirements, sales commissions and administrative expenses
borne by KILICO, and general economic trends.

12
<PAGE> 16

KILICO'S MANAGEMENT MAKES THE FINAL DETERMINATION OF THE GUARANTEED INTEREST
RATES TO BE DECLARED. KILICO CANNOT PREDICT OR GUARANTEE THE LEVEL OF FUTURE
GUARANTEED INTEREST RATES.

E. CERTIFICATE VALUE.

Separate Account Value on any Valuation Date can be determined by multiplying
the total number of Accumulation Units credited to the Contract for a Subaccount
by the value of an Accumulation Unit for that Subaccount on that Valuation Date,
then adding the values of the Owner's interest in each Subaccount in which the
Certificate is participating. That amount, when added to the Owner's Accumulated
Guarantee Period Value in the MVA Option, equals the Certificate Value.

F. TRANSFER DURING ACCUMULATION PERIOD.

During the Accumulation Period, an Owner may transfer all or part of Certificate
Value to one or more Subaccounts or Guarantee Periods subject to the following
provisions: (i) an Owner is limited to allocating Certificate Value to a maximum
of eight allocation options (all Guarantee Periods are considered one allocation
option) including 40 Guarantee Periods under the MVA Option; (ii) no transfer
can be made until the initial Purchase Payment has been in a Subaccount or
Guarantee Period for fifteen days; (iii) once all or part of the Owner's
Certificate Value has been transferred to or from a Subaccount or Guarantee
Period another transfer may not be made within the next fifteen day period; (iv)
the amount being transferred must be at least $1,000, unless the total
Certificate Value attributable to a Subaccount or Guarantee Period is being
transferred; and (v) the Certificate Value remaining in a Subaccount or
Guarantee Period must be at least $1,000. In addition, transfers of all or a
portion of Guarantee Period Value will be subject to the Market Value Adjustment
described below unless the transfer is effective within 15 days before or 15
days after the end of the applicable Guarantee Period. Because a transfer before
the end of a Guarantee Period is subject to a Market Value Adjustment, the
amount actually transferred from the Guarantee Period may be more or less than
the requested specific dollar amount.

KILICO will make transfers pursuant to proper written or telephone instructions
which specify in detail the requested changes. Before telephone transfer
instructions will be honored by KILICO, a telephone transfer authorization must
be completed by the Owner. A transfer request generally is effective on the day
the request is received by KILICO. Transfers involving a Subaccount will be
based upon the Accumulation Unit values next determined following receipt of
valid, complete transfer instructions by KILICO. Under current law, there is no
tax liability to the Owner upon transfer. The transfer privilege may be
suspended, modified or terminated at any time (subject to state requirements).
KILICO disclaims all liability for acting in good faith in following
instructions which are given in accordance with procedures established by
KILICO, including requests for personal identifying information, that are
designed to limit unauthorized use of the privilege. Therefore, a Certificate
Owner would bear the risk of loss in the event of a fraudulent telephone
transfer.

G. WITHDRAWAL DURING ACCUMULATION PERIOD.

The Owner may redeem all or a portion of the Certificate Value less the Record
Maintenance Charge and previous withdrawals, plus or minus any applicable Market
Value Adjustment, and less any contingent deferred sales charge ("Withdrawal
Charge"). Owners should be aware that such withdrawals may, under certain
circumstances, be subject to adverse tax consequences under the Internal Revenue
Code. (See "Tax Treatment of Withdrawals and Assignments.") A withdrawal of the
entire Certificate Value is called a surrender.

ALL WITHDRAWALS OF ANY GUARANTEE PERIOD VALUE, EXCEPT THOSE EFFECTED DURING THE
"FREE LOOK" PERIOD AND THOSE EFFECTED WITHIN 15 DAYS BEFORE OR 15 DAYS AFTER THE
END OF THE APPLICABLE GUARANTEE PERIOD, WILL BE SUBJECT TO THE MARKET VALUE
ADJUSTMENT.

13
<PAGE> 17

sixth Contribution Years and reduces to 0% thereafter. However, in no event
shall the aggregate Withdrawal Charges assessed against a Certificate exceed 9%
of the aggregate Purchase Payments made under the Certificate. Please note that
adverse tax consequences may occur with respect to certain withdrawals. (See
"Tax Treatment of Withdrawals and Assignments.")

In the case of a Certificate invested other than solely in one Subaccount or
Guarantee Period, an Owner requesting a partial withdrawal must specify what
portion of the Certificate Value is to be redeemed. If an Owner does not specify
what portion of the Certificate Value is to be redeemed, KILICO will redeem
Certificate Value from all Subaccounts and Guarantee Periods in which the Owner
has an interest. The number of Accumulation Units redeemed from each Subaccount
and the amount redeemed from each Guarantee Period will be in approximately the
proportion which the Owner's interest in each Subaccount and in each Guarantee
Period bears to the total Certificate Value.

The Owner may request a partial withdrawal subject to the following conditions:

(1) The amount requested must be at least $1,000 (before application of the
Market Value Adjustment) or the Owner's entire interest in the Subaccount
or Guarantee Period from which the withdrawal is requested.

(2) The Owner's remaining interest in the Subaccount or Guarantee Period
from which the withdrawal is requested, if not zero, must be at least
$1,000 after the withdrawal is completed and the minimum Certificate Value
must be $2,500.

(3) A Purchase Payment must be made more than 30 days before a partial
withdrawal of such Purchase Payment is permitted except for purchases made
by wire which may be withdrawn immediately.

KILICO, upon request, will inform the Owner of the amounts that would be payable
in the event of a full surrender or partial withdrawal.

Election to withdraw shall be made in writing to KILICO at its home office at 1
Kemper Drive, Long Grove, Illinois 60049. Withdrawal requests will not be
received except on KILICO business days which are those days when the New York
Stock Exchange is open for trading. A withdrawal attributable to the Subaccounts
is determined on the basis of the Accumulation Unit values next computed
following receipt of the request in proper order. The withdrawal will be paid
within seven (7) days after the date a proper written request is received by
KILICO at its home office provided, however, that KILICO may suspend the right
of withdrawal or delay payment of amounts withdrawn from the Subaccounts more
than seven (7) days (a) during any period when the New York Stock Exchange is
closed (other than customary weekend and holiday closings), (b) when trading in
the markets a Portfolio of the Fund normally utilizes is restricted or an
emergency exists as determined by the Securities and Exchange Commission, so
that disposal of the Subaccounts investments or determination of its
Accumulation Unit value is not reasonably practicable, or (c) for such other
periods as the Securities and Exchange Commission by order may permit for the
protection of Owners. For withdrawal requests from the MVA Option, KILICO may
defer any payment for the period permitted by the law of the appropriate state
of jurisdiction, but in no event for more than six (6) months after the written
request is received by KILICO. During the period of deferral, interest at the
current Guaranteed Interest Rate for the same Guarantee Period as declared by
KILICO will continue to be credited.

H. MARKET VALUE ADJUSTMENT.

Any withdrawal, transfer or any annuitization of Guarantee Period Value other
than if effected during the "free look" period or within 15 days before or 15
days after a Guarantee Period terminates, may be adjusted up or down by the
application of a Market Value Adjustment. The Market Value Adjustment is applied
to the amount being withdrawn before deduction of any applicable Withdrawal
Charge. The Market Value Adjustment will also apply to the death benefit payable
upon the death of the Owner or the Annuitant. (See "Death Benefit".)

The Market Value Adjustment reflects the relationship between (a) the currently
established interest rate ("Current Interest Rate") for a Guarantee Period equal
to the remaining length of the Guarantee Period, rounded to the next higher
number of complete years, and (b) the Guaranteed Interest Rate applicable to the
amount being withdrawn. Generally, if the Guaranteed Interest Rate is the same
or lower than the applicable Current Interest Rate, then the application of the
Market Value Adjustment results in a reduced Market Adjusted Value and hence a
lower payment upon withdrawal. Thus, it is possible that the amount available on
withdrawal could be less than the original Purchase Payment or the original
amount allocated to a Guarantee Period if interest rates increase. Conversely,
if the Guaranteed Interest Rate is higher than the applicable Current Interest
Rate, the application of the Market Value Adjustment results in an increased
Market Adjusted Value and, hence, a higher payment upon withdrawal.

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<PAGE> 18

The Market Value Adjustment (MVA) is determined by the application of the
following formula:

(1 + I) t/365
MVA = GPV X [ [ ----------------- ] -1 ]
(1 + J + .005)

Where I is the Guaranteed Interest Rate being credited to the Guarantee
Period Value (GPV) subject to the Market Value Adjustment,

J is the Current Interest Rate declared by KILICO, as of the effective date
of the application of the Market Value Adjustment, for current allocations
to a Guarantee Period the length of which is equal to the balance of the
Guarantee Period for the Guarantee Period Value subject to the Market Value
Adjustment, rounded to the next higher number of complete years, and

t is the number of days remaining in the Guarantee Period.

The .005 Market Value Adjustment factor can be changed in the future, at the
discretion of KILICO on newly issued Certificates.

For an illustration showing an upward and a downward adjustment, see Appendix A.

I. DEATH BENEFIT.

A death benefit shall be paid prior to the annuity date in the event of: (1) the
death of the Owner who is also the Annuitant; (2) the death of either the
Annuitant or the Owner when the Annuitant is not the Owner; (3) the death of a
joint Owner; or (4) the death of the surviving joint Annuitant when joint
Annuitants are named and they are not the Owners.

If there is a joint Owner (permitted only under a Non-Qualified Plan
Certificate), the Owner's death will occasion payment of the death benefit
unless the joint Owner is the Owner's spouse, and the spouse has been named
beneficiary. In that case, the surviving spouse becomes the new Owner.

If a death benefit becomes payable by reason of the death of an Owner, it must
be fully paid out within five (5) years of the Owner's death, unless it is
payable to the named beneficiary over his or her life or life expectancy,
beginning no more than one (1) year after the Owner's death. The death benefit
proceeds applied to the annuity must be $4,000 or more. If a death benefit
becomes payable by reason of the death of an Owner, and the beneficiary is the
Owner's surviving spouse, the surviving spouse may become the new Owner under
the Certificate.

If the death benefit becomes payable by reason of the death of the Annuitant or
joint Annuitant, it will be paid in the manner selected by the named
beneficiary, including a lump sum withdrawal or Annuity Option, provided, in the
case of an annuity option, that the death benefit proceeds are $4,000 or more.

The death benefit payable under the Certificate depends upon issue age of the
Owner except in the case of a Certificate issued where the Owner differs from
the Annuitant, the death benefit issue age will be based on the age of the Owner
or Annuitant, whichever is older.

For a Certificate issued to an Owner prior to attaining age 66, the death
benefit payable during the first six Certificate Years will be Market Adjusted
Value plus Separate Account Value as of the date KILICO receives due proof of
death and return of the Certificate, or the sum of all Purchase Payments (minus
withdrawals and withdrawal charges) accumulated at 5% annually per Certificate
Year, whichever is greater. The death benefit payable at the end of the sixth
Certificate Year is the greater of Market Adjusted Value plus Separate Account
Value as of the date KILICO receives due proof of death and return of the
Certificate, or the sum of all Purchase Payments (minus withdrawals and
withdrawal charges) accumulated at 5% annually per Certificate Year ("Minimum
Death Benefit Value"). From the seventh Certificate Year to the twelfth
Certificate Year, the death benefit payable during the Accumulation Period is
the Market Adjusted Value plus Separate Account Value as of the date KILICO
receives due proof of death and return of the Certificate, or Minimum Death
Benefit Value at the end of year six plus subsequent Purchase Payments minus
withdrawals and withdrawal charges, whichever is greater. Every six years after
the end of the twelfth Certificate Year the Minimum Death Benefit Value plus
subsequent Purchase Payments minus withdrawals and withdrawal charges is
compared to Market Adjusted Value plus Separate Account Value and whichever is
greater determines the new Current Minimum Death Benefit Value for the next six
Certificate Years.

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<PAGE> 19

For a Certificate issued to an Owner age 66 and over, the death benefit payable
during the Accumulation Period for the first six Certificate Years is Market
Adjusted Value plus Separate Account Value, or the sum of all Purchase Payments
(minus withdrawals and withdrawal charges), whichever is greater. At the end of
the sixth Certificate Year, the Minimum Death Benefit Payable will be set for
the remainder of the Accumulation Period at the greater of Market Adjusted Value
plus Separate Account Value, or the sum of all Purchase Payments (minus
withdrawals and withdrawal charges). For the remainder of the Accumulation
Period, the beneficiary will receive the greater of Market Adjusted Value plus
Separate Account Value or the Minimum Death Benefit Value plus subsequent
Purchase Payments minus withdrawals and withdrawal charges.

The death benefit is payable upon the receipt by KILICO at its Home Office of
due proof of death and return of the Certificate, election of the method of
payment, and sufficient information about the beneficiary to make payment. The
beneficiary may receive a lump sum benefit, defer receipt of the benefit for up
to five (5) years or select an available Annuity Option if the proceeds are
$4,000 or more.

CERTIFICATE CHARGES AND EXPENSES

Charges and deductions under the Certificates are made against the Separate
Account for KILICO's assumption of mortality and expense risk and administrative
expenses. In addition, a deduction is made from the Owner's account for a
Records Maintenance Charge of $30 at the end of each Certificate Year, on
surrender of a Certificate and on surrender upon annuitization. Investment
management fees and other expenses of the Fund are indirectly borne by the
Owner. These fees and other expenses are described in the Fund's Prospectus and
Statement of Additional Information. KILICO will deduct state premium taxes from
Certificate Value when paid by KILICO. Additionally, where applicable, a
Withdrawal Charge may be assessed by KILICO in the event of early withdrawal or
early annuitization.

A. CHARGES AGAINST THE SEPARATE ACCOUNT.

During both the Accumulation Period and the Annuity Period, KILICO assesses that
portion of each Subaccount representing Certificate Value with a daily asset
charge for mortality and expense risks and administrative costs, which amounts
to an aggregate of one and one-quarter percent (1.25%) per annum (consisting of
approximately .80% for mortality risks, approximately .30% for expense risks and
approximately .15% for administrative costs). The administrative charge is
intended to cover the average anticipated administrative expenses to be incurred
over the period the Certificates are in force. With an administrative charge
based on a percentage of assets, however, there is not necessarily a direct
relationship between the amount of the charge and the administrative costs of a
particular account. Additionally, KILICO deducts an annual Records Maintenance
Charge of $30 for each Certificate as described below. The Records Maintenance
Charge is not assessed during the Annuity Period.

These charges may be decreased by KILICO without notice. The Records Maintenance
Charge and the daily asset charge for mortality and expense risks are guaranteed
not to increase. The daily asset charge for administrative costs may be
increased provided that the increase will apply only to Certificates issued
after the effective date of such increase. If the daily asset charge for
mortality and expense risks is insufficient to cover the risks, any loss or
deficiency will fall on KILICO. Conversely, if the charges prove more than
sufficient, the gain will accrue to KILICO, creating a profit which would be
available for any proper corporate purpose including, among other things,
payment of distribution expenses.

1. MORTALITY RISK.

Variable Annuity payments reflect the investment performance of each Subaccount
but are not affected by changes in actual mortality experience or by actual
expenses incurred by KILICO.

The mortality risk assumed by KILICO arises from two contractual obligations.
First, in case of the death of the Owner or of the Annuitant prior to the
Annuity Date, KILICO will return to the Beneficiary the guaranteed and
increasing death benefit described above. The second contractual obligation
assumed by KILICO is to continue to make annuity payments to each Annuitant for
the entire life of the Annuitant under Annuity Options involving life
contingencies.

The latter assures each Annuitant that neither the Annuitant's own longevity nor
an improvement in life expectancy generally will have an adverse effect on the
annuity payments received under a Certificate and relieves the Annuitant from
the risk of outliving the amounts accumulated for retirement.

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<PAGE> 20

2. EXPENSE RISK.

KILICO also assumes the risk that all actual expenses involved in administering
the Certificates including Certificate maintenance costs, administrative costs,
data processing costs and costs of other services may exceed the amount
recovered from the Records Maintenance Charge or the amount recovered from the
administrative cost portion of the daily asset charge.

3. ADMINISTRATIVE COSTS.

The daily asset charge for administrative costs is imposed to reimburse KILICO
for the expenses it incurs for administering the Certificates, which include,
among other things, responding to Owner inquiries, recordkeeping, processing
changes in Purchase Payment allocations, regulatory compliance reports and
providing reports to Owners.

B. RECORDS MAINTENANCE CHARGE.

KILICO will assess a Records Maintenance Charge of $30 during the Accumulation
Period against each Owner's account at the end of each Certificate Year, on
surrender of a Certificate and on surrender upon annuitization. This charge is
to reimburse KILICO for expenses incurred in establishing and maintaining the
records relating to an Owner's account. This charge has been set at a level not
greater than its costs. The imposition of the Records Maintenance Charge will
constitute a reduction in Separate Account Value or in Guarantee Period Value.
Under certain circumstances, the Records Maintenance Charge may be waived or
reduced by KILICO to reflect differences in costs or services, provided that it
does unfairly discriminate against any person.

At any time the Records Maintenance Charge is assessed, an equal portion of the
applicable charge will be assessed against each Subaccount in which the
Certificate is participating and a number of Accumulation Units sufficient to
equal the proper portion of the charge will be redeemed from each Subaccount to
meet the assessment. If the Owner has no Certificate Value allocated to the
Separate Account, the Records Maintenance Charge is deducted from the Guarantee
Period closest to maturity and shortest in original duration.

C. WITHDRAWAL CHARGE.

No sales charge is deducted from any Purchase Payment. However, a contingent
deferred sales charge ("Withdrawal Charge") may be assessed on withdrawals
attributable to Purchase Payments and all related accumulations during the first
six Certificate Years after the Purchase Payments are made. The Withdrawal
Charge will be used to cover expenses relating to the sale of the Certificates,
including commissions paid to sales personnel, the costs of preparation of sales
literature and other promotional costs and other acquisition expenses. During
the first six Certificate Years after a Purchase Payment is made, a Withdrawal
Charge applies even if the withdrawal occurs at the end of a Guarantee Period.

The Withdrawal Charge is computed as a percentage of the total amount withdrawn,
after application of any Market Value Adjustment. When a partial withdrawal is
requested, the recipient will receive a check in the amount requested. To the
extent that any Withdrawal Charge is applicable, the Certificate Value will be
reduced by the amount of the Withdrawal Charge in addition to the actual dollar
amount sent to the Owner. In no event shall the aggregate Withdrawal Charges
assessed against a Certificate exceed 9% of the aggregate Purchase Payments made
under the Certificate. (For additional details, see "Withdrawal During
Accumulation Period.") Withdrawals may be subject to certain adverse tax
consequences. (See "Tax Treatment of Withdrawals and Assignments.")

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<PAGE> 21

The Withdrawal Charges are intended to compensate KILICO for expenses in
connection with distribution of the Certificates. Under current assumptions
KILICO anticipates Withdrawal Charges will not fully cover distribution
expenses. To the extent that distribution expenses are not recovered from
Withdrawal Charges, those expenses may be recovered from KILICO's general
assets. Those assets may include proceeds from the mortality and expense charge
described above.

The Withdrawal Charge will also apply upon annuitization to Purchase Payments
made within six Certificate Years of annuitization and all related accumulations
unless the Owner elects an annuity which provides either an income benefit
period of five years or more, or a benefit under which payment is contingent
upon the life of the payee.

The Withdrawal Charge may be reduced or eliminated to particular classes of
Owners, but only to the extent KILICO applies such variations in Withdrawal
Charges uniformly to the class and informs existing and prospective Owners of
such variations. Units of a Subaccount sold to officers, directors and employees
of KILICO and the Fund, the Fund's investment adviser, and principal underwriter
or certain affiliated companies, or to any trust, pension, profit-sharing or
other benefit plan for such persons may be withdrawn without any Withdrawal
Charge.

D. FUND INVESTMENT MANAGEMENT FEE AND OTHER EXPENSES.

The net asset value of each of the Portfolios of the Fund reflects investment
management fees and certain general operating expenses already deducted from the
assets of the Portfolios. These fees and expenses are indirectly borne by the
Owners. Investment management fees are described on page 8. Further detail about
fees and expenses of the Portfolios is provided in the attached prospectus for
the Fund and in the Fund's Statement of Additional Information.

E. STATE PREMIUM TAXES.

Certain state and local governments impose a premium tax ranging from 0% to 3.5%
on the amount of Purchase Payments. KILICO will deduct state premium taxes from
the Certificate Value when paid by KILICO. Where applicable, the dollar amount
of state premium taxes previously paid or payable upon annuitization by KILICO
will be charged against the Certificate Value if not previously assessed, when
and if the Certificate is annuitized. See "Appendix B--State Premium Tax Chart"
in the Statement of Additional Information.

THE ANNUITY PERIOD

Certificates may be annuitized under one of several Annuity Options, which are
available either on a fixed or variable basis. Annuity payments will begin on
the Annuity Date under the Annuity Option selected by the Owner.

1. ANNUITY PAYMENTS.

Annuity payments will be determined on the basis of (i) the annuity table
specified in the Certificate, (ii) the Annuity Option selected, and (iii) the
investment performance of the Subaccount selected. The Annuitant receives the
value of a fixed number of Annuity Units each month. The value of an Annuity
Unit will reflect the investment performance of the Subaccounts selected, and
the amount of each annuity payment will vary accordingly. Upon annuitization, a
Withdrawal Charge will apply to Purchase Payments made within six Certificate
Years of annuitization and all related accumulations. If the Owner elects an
annuity which provides either an income benefit period of five years or more, or
a benefit under which payment is contingent upon the life of the payee(s), any
applicable Withdrawal Charges will be waived.

2. ANNUITY OPTIONS.

The Owner may elect to have annuity payments made under any one of the Annuity
Options specified in the Certificate and described below. However, all available
options are not described below. For example, additional options are available
under contracts issued prior to June 1, 1993 and other options may be made
available by KILICO. The Owner may decide at any time (subject to the provisions
of any applicable retirement plan) to commence annuity payments. A change of
Annuity Option is permitted if made before the date annuity payments are to
commence. For a Non-Qualified Plan Certificate, if no other Annuity Option is
elected, monthly annuity payments will be made in accordance with Option 3 below
with a ten (10) year period certain. For a Qualified Plan Certificate, if no
other Annuity Option is elected, monthly annuity payments will be made in the
form of a qualified joint and survivor annuity with a monthly income at
two-thirds of the full amount payable during the lifetime of the surviving
payee. Generally, annuity payments will be made in monthly installments.
However, if the net proceeds available to apply under an Annuity Option are less
than $4,000, KILICO shall have the right to pay the annuity in one lump sum. In
addition, if the first payment provided would be less than $50, KILICO shall
have the right to change the frequency of payments to quarterly, semiannual or
annual intervals resulting in an initial payment of at least $50.

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<PAGE> 22

The amount of periodic annuity payments will depend upon (a) the type of annuity
option selected; (b) the age of the payee; and (c) the investment experience of
the Subaccounts selected. For example, if the annuity option selected is income
for a specified period, the shorter the period selected the fewer payments will
be made and those payments will have a higher value. If the annuity option
selected is life income, it is likely the payments will be in a smaller amount
than income for a short specified period. If an individual selects the life
income with installments guaranteed option, the payments will probably be in a
smaller amount than for the life income option. If an individual selects the
joint and survivor annuity option, the payments will be smaller than those
measured by an individual life income option. The age of the payee will also
influence the amount of periodic annuity payments because the older the payee,
the shorter the life expectancy and the larger the payments. Finally, if the
Owner participates in a Subaccount with higher investment performance, it is
likely the Owner will receive a higher periodic payment.

For Non-Qualified Plan Certificates, if the Owner dies before the Annuity Date,
Annuity Options which may be elected are limited. The Annuity Options available
are (a) Option 2 or (b) Option 1 or 3 for a period no longer than the life
expectancy of the Beneficiary (but not less than 5 years from the Owner's
death). If the Beneficiary is not an individual, the entire interest must be
distributed within 5 years of the Owner's death. The Death Benefit distribution
must begin no later than one year from the Owner's death or such later date as
prescribed by federal regulation.

Option 1--Income for Specified Period.

An annuity payable monthly for a selected number of years ranging from five to
thirty. Upon payee's death, if the Beneficiary is a natural person, KILICO will
automatically continue payments for the remainder of the certain period to the
Beneficiary. If the Beneficiary is either an estate or trust, KILICO will pay a
commuted value of the remaining payments. Variable Annuity payments under Option
1 reflect the payment of the mortality and expense risk charge, even though
there is no life contingency risk associated with Option 1. Payees under Option
1 by written notice to KILICO may cancel all or part of the remaining variable
annuity payments due and receive that part of the remaining value of the
Certificate less any applicable Withdrawal Charge.

Option 2--Life Income.

An annuity payable monthly during the lifetime of the payee, terminating with
the last monthly payment due prior to the death of the payee. If this Option is
elected, annuity payments terminate automatically and immediately on the death
of the payee without regard to the number or total amount of payments made.
Thus, it is possible for an individual to receive only one payment if death
occurred prior to the date the second payment was due.

Option 3--Life Income with Installments Guaranteed.

An annuity payable monthly during the lifetime of the payee with the provision
that if, at the death of the payee, payments have been made for less than five,
ten, fifteen or twenty years as elected, and the Beneficiary is a natural
person, KILICO will automatically continue payments for the remainder of the
elected period to the Beneficiary. If the Beneficiary is either an estate or
trust, KILICO will pay a commuted value of the remaining payments.

Option 4--Joint and Survivor Annuity.

An annuity payable monthly while both payees are living. Upon the death of
either payee, the monthly income payable will continue during the lifetime of
the surviving payee at the percentage of such full amount chosen at the time of
election of this Option. Annuity payments terminate automatically and
immediately upon the death of the surviving payee without regard to the number
or total amount of payments received.

3. ALLOCATION OF ANNUITY.

The Owner may elect to have payments made on a fixed or variable basis, or a
combination of both. An Owner should exercise the transfer privilege during the
Accumulation Period for the purposes of such allocation. Any Guarantee Period
Value will be annuitized on a fixed basis. Any Separate Account Value will be
annuitized on a variable basis. Transfers during the Annuity Period are
permitted subject to stated limitations. The MVA Option is not available during
the Annuity Period.

4. TRANSFER DURING ANNUITY PERIOD.

During the Annuity Period, the payee may transfer the value of the payee's
Certificate interest in a Subaccount(s) to another Subaccount or to the General
Account by written request to KILICO subject to the following limitations:

a. No transfer to a Subaccount may be made during the first year of the
Annuity Period; subsequent transfers are limited to one per year during the
Annuity Period.

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<PAGE> 23

b. A Certificate's entire interest in a Subaccount must be transferred.

c. A transfer to a Subaccount, if notice to KILICO is received more than
seven (7) days prior to any annuity payment date, shall be effective during
the Valuation Period next succeeding the date such notice is received. If
received fewer than seven (7) days before any annuity payment date, the
transfer shall be effective during the Valuation Period next succeeding
that annuity payment date.

d. A transfer to the General Account may be made effective only on an
anniversary of the first Annuity Date and upon not less than thirty (30)
days prior written notice to KILICO.

The Annuity Unit value of a Subaccount shall be determined as of the end of the
Valuation Period next preceding the effective date of the transfer. The transfer
privilege may be suspended, modified or terminated at any time (subject to state
requirements). Payees should consider the appropriateness of each Subaccount's
investment objectives and risks as an investment during the annuity period.

5. ANNUITY UNIT VALUE.

The value of an Annuity Unit is determined independently for each of the
Subaccounts.

For each Subaccount, the Annuity Unit value for any Valuation Period is
determined by multiplying the Annuity Unit value for the immediately preceding
Valuation Period by the net investment factor for the Valuation Period for which
the Annuity Unit value is being calculated, and multiplying the result by an
interest factor which offsets the effect of the assumed investment earnings rate
of 4% per annum which is assumed in the annuity tables contained in the
Certificate.

The net investment factor for each Subaccount for any Valuation Period is
determined by dividing (1) by (2) and subtracting (3) from the result where:

(1) is the net result of:

a. the net asset value per share of the investment held in the
Subaccount determined at the end of the current valuation period; plus

c. a charge or credit for any taxes reserved for the current valuation
period which KILICO determines to have resulted from the investment
operations of the Subaccount;

(2) is the net asset value per share of the investment held in the
Subaccount, determined at the end of the last prior valuation period;

(3) is the factor representing the mortality and expense risk and
administrative cost charge stated in the Certificate for the number of days
in the valuation period.

6. FIRST PERIODIC PAYMENT.

At the time annuity payments begin, the value of the Owner's Certificate
interest is determined by multiplying the applicable Accumulation Unit values at
the end of the Valuation Period immediately preceding the date the first annuity
payment is due by the respective number of Accumulation Units credited to the
Owner's Certificate interest as of the end of such Valuation Period, less the
dollar amount of premium taxes not previously deducted, if applicable, and less
the amount of the Withdrawal Charge, if applicable.

There shall be no Withdrawal Charge assessed so long as annuity payments provide
for payments under Annuity Options 2, 3 or 4 or payments under Annuity Option 1
are scheduled to continue for at least five years.

The first annuity payment is determined by multiplying the benefit per $1,000 of
value shown in the applicable annuity table by the number of thousands of
dollars of Certificate Value less deduction for premium taxes and Withdrawal
Charge, if applicable.

A 4% assumed investment rate is built into the annuity tables contained in the
Certificates. If the actual net investment rate exceeds 4%, payments will
increase at a rate equal to the amount of such excess. Conversely, if the actual
rate is less than 4%, annuity payments will decrease.

7. SUBSEQUENT PERIODIC PAYMENTS.

The amount of the second and subsequent annuity payments is determined by
multiplying the number of Annuity Units by the Annuity Unit value as of the
Valuation Period next preceding the date on which each annuity payment

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<PAGE> 24

is due. The dollar amount of the first annuity payment as determined above is
divided by the Annuity Unit value as of the Annuity Date to establish the number
of Annuity Units representing each annuity payment. The number of Annuity Units
determined for the first annuity payment remains constant for the second and
subsequent monthly payments.

8. FIXED ANNUITY PAYMENTS.

The amount of each payment under a Fixed Annuity will be determined from tables
prepared by KILICO. Such tables show the monthly payment for each $1,000 of
Certificate Value net of any applicable premium tax allocated to provide a Fixed
Annuity. Fixed Annuity payments will not change regardless of investment,
mortality or expense experience.

9. DEATH BENEFIT.

If the payee dies after the Annuity Date, the death proceeds, if any, will
depend upon the form of annuity payment in effect at the time of death. (See
"Annuity Options.")

FEDERAL INCOME TAXES

The ultimate effect of Federal income taxes on Certificate Value, on annuity
payments and on the economic benefit to the Owner, Annuitant or Beneficiary
depends on KILICO's tax status, the type of retirement plan for which the
Certificate is purchased and upon the tax status of the individual concerned.
Each individual Owner should consult a competent tax advisor.

A. KILICO'S TAX STATUS.

KILICO is taxed as a life insurance company under the current Internal Revenue
Code. The operations of the Separate Account are taxed as part of the total
operations of KILICO. However, the determination of tax charges and credits to
the Separate Account will be independent of the tax actually paid by KILICO.

Under current interpretations of existing Federal income tax law, investment
income of the Separate Account, to the extent that it is applied to increase an
individual Owner's equity, is not taxed. Thus, a Subaccount may realize net
investment income and dividends, and the Subaccount may receive and reinvest
them, all without Federal income tax consequences for the Separate Account.

B. AMOUNTS RECEIVED AS AN ANNUITY.

A fixed portion of each annuity payment is excludable from gross income as a
return of investment in the Certificate and the balance is taxed as ordinary
income. For payments made on a fixed basis, the excludable amount and the
includible amount generally will stay the same for each payment. For payments
made on a variable basis, the excludable amount generally will stay the same,
but the includible amount may vary for each payment. In addition, for payments
made on a variable basis, the excludable amount may be recalculated if any
payment is less than the excludable amount.

The excludable amount of each Annuity Unit is determined by dividing the
investment in the Certificate as of the Annuity Date by the number of Annuity
Units to be received under the payment option chosen.

For a Non-Qualified Plan Certificate, the investment in the Certificate is equal
to the Purchase Payments minus any withdrawals thereof. For a Qualified Plan
Certificate, the investment in the Certificate is equal to the employee's
non-deductible contributions, minus any prior distributions thereof.

The excludable amount of any payment may not exceed the unrecovered investment
in the Certificate immediately before such payment. The amount of the
unrecovered investment is allowed as a deduction on the final return of a
deceased Annuitant where annuity payments cease before the investment in the
Certificate has been fully recovered.

C. NON-QUALIFIED PLAN CERTIFICATES.

1. DIVERSIFICATION REQUIREMENTS.

While Section 72 of the Code governs the taxation of annuities in general,
Section 817(h) of the Code provides that nonqualified annuity contracts will not
be treated as annuities unless the underlying investments are "adequately
diversified" in accordance with regulations prescribed by the Secretary of the
Treasury. Such regulations require,

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<PAGE> 25

among other things, that a mutual fund underlying an annuity contract, such as
those underlying the Certificates, may invest no more than 55% of the value of
its assets in one investment; 70% in two investments; 80% in three investments;
and 90% in four investments. If the above diversification requirements are not
met by each and every Portfolio, the Certificate could lose its overall tax
status as an annuity, resulting in current taxation of the excess of cash value
over the "investment in the Certificate" (as defined above) to the Owner. KILICO
has reviewed the diversification regulations and believes that the Portfolios
are in compliance with these regulations and that there is no threat to the
current favorable tax status of the Certificates. Furthermore, KILICO intends to
make whatever changes may be necessary and appropriate in the future in order to
maintain the continued favorable tax treatment.

In connection with the earlier issuance of temporary regulations relating to
diversification requirements, the Treasury Department announced that such
regulations do not provide guidance concerning the extent to which owners may
direct their investments to particular Subaccounts. Moreover any additional rule
may apply to pension plan contracts. It is possible that when such guidance is
available, the Contract and Certificates may need to be modified to comply with
such guidance. Accordingly, KILICO reserves the right to modify the Contract and
Certificates as necessary to prevent the Owner from being considered the owner
of the assets of the Subaccount. Because the guidance has not been published,
there can be no assurance as to content or even whether application will be
prospective only.

2. TAX TREATMENT OF WITHDRAWALS AND ASSIGNMENTS.

Withdrawals from Non-Qualified Plan Certificates will generally be allocable
first to ordinary income, then to investment in the Certificate. For
Certificates acquired in exchange for an annuity contract to which the Owner
made contributions before August 14, 1982, withdrawals will be allocable first
to investment in the annuity contract made prior to August 14, 1982, then to
ordinary income then to any other investment in the annuity contract or
Certificate.

If the Owner transfers a Non-Qualified Plan Certificate by gift, the Owner must
include in gross income the excess of the Certificate Value over the investment
in the Certificate as of the date of transfer.

Non-Qualified Plan Certificates or annuity contracts issued by KILICO (or an
affiliate) during a calendar year are to be aggregated and considered a single
contract for purposes of determining the amount of any withdrawal, or assigned
or pledged cash value includible in the Owner's gross income. This rule does not
apply to a Certificate or annuity contract where the Annuity Date is within one
year after the Certificate or annuity contract is issued.

3. 10-PERCENT PENALTY TAX ON PREMATURE DISTRIBUTIONS.

A 10% penalty is imposed on the taxable portion of any distribution to a
participant in a qualified pension or profit sharing plan, tax sheltered annuity
or individual retirement annuity ("IRA"), or under a Non-Qualified Plan
Certificate, prior to age 59 1/2, death or disability of the participant or
Non-Qualified Plan Owner.

The 10% penalty does not apply to any distribution which is part of a series of
substantially equal periodic payments (not less frequently than annually) made
for the life or life expectancy of the qualified plan participant or Non-
Qualified Plan Owner, provided that there is no change in such payments before
the later of (i) the close of the 5-year period beginning on the date of the
first payment, or (ii) age 59 1/2, death or disability of such participant or
Owner. Further, the 10% penalty does not apply to any distribution from a
qualified pension or profit sharing plan or tax sheltered annuity on account of
retirement after age 55, or to any distribution from a Non-Qualified Plan
Certificate: (i) attributable to investment in the Certificate before August 14,
1982, or (ii) where the Annuity Date is within one year after the Certificate is
issued.

D. QUALIFIED PLANS.

The Certificates offered by this Prospectus are designed to be suitable for use
under Qualified Plans. Such contracts are commonly referred to as "Qualified
Plan Certificates." KILICO, in its sole discretion, reserves the right to waive
certain minimums with respect to large group contracts. Taxation of participants
in such Qualified Plans varies with the type of plan and the terms and
conditions of the specific plan.

Qualified Plan Owners, Annuitants and Beneficiaries are cautioned that benefits
under a Qualified Plan may be subject to the terms and conditions of the plan
regardless of the terms and conditions of the Certificates issued pursuant to
the plan. Following are general descriptions of the types of Qualified Plans and
of the use of the Certificates in connection therewith. Purchasers intending to
use the Certificates in connection with Qualified Plans should seek competent
tax advice.

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(a) Pension and Profit-Sharing Plans.

Sections 401(a) of the Internal Revenue Code ("Code") permits employers to
establish qualified retirement plans for employees. Taxation of plan
participants depends on the specific plan. Such plans are limited by law as
to maximum permissible contributions, distribution dates,
non-forfeitability of interests and tax rates applicable to distributions.
In order to establish such a plan, a plan document is adopted and
implemented by the employer. Such retirement plans may permit the purchase
of the Certificates in order to provide benefits under the plans.

(b) Tax-Sheltered Annuities.

Section 403(b) of the Code permits public school employees and employees of
certain types of charitable, educational and scientific organizations
specified in Section 501(c)(3) of the Code to purchase annuity contracts
and, subject to certain limitations, exclude the amount of purchase
payments from gross income for tax purposes. These annuity contracts are
commonly referred to as "tax-sheltered annuities."

The Certificates offered by this Prospectus are designed to exclude
periodic contributions to tax-sheltered annuities under salary reduction
agreements but to accept lump-sum contributions and rollovers that meet the
$5,000 minimum Purchase Payment requirement. To the extent attributable to
salary reduction contributions to your tax-sheltered annuity contract (or
to transfers of such amounts from other contracts), contributions made or
earnings credited after December 31, 1988 may not be withdrawn until
separation from service, attainment of age 59 1/2, death or disability.
Salary reduction contributions after December 31, 1988 may also be
withdrawn in the case of hardship within the meaning of section 403(b)(11)
of the Code. Under your employer's tax-sheltered annuity plan, you may be
allowed to transfer your Certificate Value to other types of options, such
as other fixed or variable annuity contracts or Section 403(b)(7) custodial
accounts.

Distributions from Pension and Profit Sharing Plans and Tax-Sheltered
Annuities which are eligible to be rolled over to an IRA or another
employer's retirement plan are generally subject to 20% withholding, unless
the participant exercises the right to a "direct rollover." A "direct
rollover" may be accomplished when the sponsor of a participant's existing
pension or profit sharing plan or tax-sheltered annuity makes a
distribution payable to the sponsor of the new IRA or new employer plan for
the participant's benefit.

If the participant does not exercise the right to a "direct rollover," in
general, 20% will be withheld from the distribution and credited against
the participant's income taxes incurred in the taxable year of the
distribution. Other rules may apply, therefore, KILICO suggests that
participants consult their tax advisors before making a decision.

(d) Individual Retirement Annuities.

Section 408(b) of the Code permits eligible individuals to make deductible
contributions to an individual retirement program known as an "Individual
Retirement Annuity" ("IRA"). Generally, the maximum contribution is $2,000
for an individual and $2,250 for an individual and spouse eligible for a
spousal IRA. In addition, certain distributions from qualified pension and
profit sharing plans, tax-sheltered annuities and other IRA's may be placed
on a tax-deferred basis into an IRA. When issued in connection with an IRA,
the Certificate will be amended to conform to the requirements under such
plans. Purchasers have the right to revoke an IRA Certificate within seven
(7) days of the receipt of the IRA disclosure statement which is attached
to the application used for IRA Certificates. The IRA disclosure statement
also provides more information on contribution limits. A purchaser can
revoke the IRA Certificate within seven (7) days of the date the
application was signed by notifying KILICO.

PLEASE NOTE THAT AN IRA DISCLOSURE STATEMENT IS INCLUDED IN THIS PROSPECTUS
AS AN APPENDIX.

(e) Deferred Compensation Plans.

Section 457 of the Code allows a State defined to also include a political
subdivision of a State, and an agency or instrumentality of a State or a
political subdivision of a State, and any other tax exempt organization to
establish a deferred compensation plan ("Section 457 Plan") for the benefit
of its employees. Certificates issued under such a plan are owned by the
employer.

An employee electing to participate in a Section 457 Plan should understand
that all rights and benefits are governed strictly by the terms of the
plan. The employer is legal owner of any Certificates issued under the
plan. The employee is, in fact, a general creditor of the employer under
the terms of the plan. The employer, as

23
<PAGE> 27

owner of the Certificates, also retains all voting and redemption rights
which may accrue through the Certificates issued under the plan.

The participating employee should look to the terms of the plan for any
charges in regard to participating in such plan other than those disclosed
in this Prospectus. Section 457 of the Code places limitations on
contributions to such plans. A participant must look to the terms of the
plan for an explanation of this limitation.

E. OTHER CONSIDERATIONS.

Because of the complexity of the law and its application to a specific
individual, tax advice may be needed by a person contemplating purchase of a
Certificate or the exercise of elections under a Certificate. The above comments
concerning the Federal income tax consequences are not exhaustive, and special
rules are provided with respect to situations not discussed in this Prospectus.

The preceding description is based upon KILICO's understanding of current
Federal income tax law. KILICO cannot assess the probability that changes in tax
laws, particularly affecting annuities, will be made.

The preceding comments do not take into account state income or other tax
considerations which may be involved in the purchase of a Certificate or the
exercise of elections under the Certificate. For complete information on such
Federal and state tax considerations, a qualified tax adviser should be
consulted.

Legislation has been considered which would prohibit insurers from using
sex-distinct factors in determining annuity benefit payments. If "unisex"
requirements are adopted, KILICO may be required to utilize annuity tables which
do not differentiate the amount of annuity benefits on the basis of sex. This
might result in a change providing for either an increase in the initial amount
of monthly benefits applied for females or a decrease in such amount for males
or a combination of both. KILICO is using "unisex" annuity tables on Qualified
Plan Certificates.

DISTRIBUTION OF CONTRACTS AND CERTIFICATES

The Contracts and Certificates are sold by licensed insurance agents, where the
Contracts and Certificates may be lawfully sold, who are registered
representatives of broker-dealers which are registered under the Securities
Exchange Act of 1934 and are members of the National Association of Securities
Dealers, Inc. KILICO generally pays a maximum commission of 6% on sales based on
Purchase Payments. KILICO reserves the right to pay additional commissions based
on the value in an Owner's account. In addition to commissions, KILICO may, from
time to time, pay or allow additional promotional incentives, in the form of
cash or other compensation, to broker-dealers that sell the Contracts and
Certificates. In some instances, such other incentives may be offered only to
certain licensed broker-dealers that sell or are expected to sell during
specified time periods certain minimum amounts of the Contracts and Certificates
or other contracts issued by KILICO. The Contracts and Certificates are
distributed through the principal underwriter for the Separate Account, which is
Investors Brokerage Services, Inc. ("IBS"), a wholly owned subsidiary of KILICO.

VOTING RIGHTS

Proxy materials in connection with any shareholder meeting of the Fund will be
delivered to each Owner or Annuitant with Subaccount interests invested in the
Fund as of the record date for voting at such meeting. Such proxy materials will
include an appropriate form which may be used to give voting instructions.
KILICO will vote Fund shares held in each Subaccount in accordance with
instructions received from persons having a Subaccount interest in such Fund
shares. Fund shares as to which no timely voting instructions are received will
be voted by KILICO in proportion to the voting instructions received from all
persons in a timely manner. KILICO will also vote any Fund shares attributed to
amounts it has accumulated in the Subaccounts in the same proportion that Owners
vote. As a trust, the Fund is not required and does not intend to hold annual
shareholders' meetings. It will, however, hold special meetings as required or
deemed desirable for such purposes as electing trustees, changing fundamental
policies or approving an investment advisory agreement.

Owners and Annuitants of all Certificates participating in each Subaccount shall
have voting rights with respect to the Portfolio invested in by that Subaccount,
based upon each Owner's proportionate interest in that Subaccount as measured by
units. The person having such voting rights will be the Owner before surrender,
the Annuity Date or the death of the Annuitant, and thereafter, the payee
entitled to receive Variable Annuity payments under the Certificate. During the
Annuity Period, voting rights attributable to a Certificate will generally
decrease as Annuity Units attributable to an Annuitant decrease.

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<PAGE> 28

REPORTS TO OWNERS AND INQUIRIES

Immediately after each Certificate anniversary, Owners will be sent statements
for their own Certificate showing the number and value of Accumulation Units
credited to each Subaccount and the Guarantee Period Value for each Guarantee
Period. It will also show the interest rate(s) that KILICO is crediting upon
amounts then held in each Guarantee Period. In addition, Owners transferring
amounts among the Subaccounts and Guarantee Periods or making additional
payments will receive written confirmation of such transactions. Upon request,
any Owner will be sent a current statement in a form similar to that of the
annual statement described above. Each Owner will also be sent an annual and a
semi-annual report for the Fund and a list of the securities held in each
Portfolio of the Fund, as required by the 1940 Act. In addition, KILICO will
calculate for an Owner, the portion of a total amount that must be invested in a
selected Guarantee Period so that the portion grows to equal the original total
amount at the expiration of the Guarantee Period.

An Owner may direct inquiries to the individual who sold him or her the
Certificate or may call 1-800-621-5001 or write to Kemper Investors Life
Insurance Company, Customer Service, 1 Kemper Drive, Long Grove, Illinois 60049.

DOLLAR COST AVERAGING

KILICO offers two different dollar cost averaging programs whereby an Owner may
predesignate a portion of Subaccount Value under a Certificate to be
automatically transferred on a monthly basis to one or more of the other
Subaccounts during the Accumulation Period. The first dollar cost averaging
program is available only for initial Purchase Payments and an Owner must enroll
in the program at the time the Certificate is issued. An Owner may allocate all
or a portion of the initial Purchase Payment to Money Market Subaccount #2,
which is the only Subaccount with no deduction for the 1.25% daily asset-based
charge for mortality and expense risks and administrative costs. The Owner must
transfer all of the Subaccount Value out of Money Market Subaccount #2 to one or
more of the other Subaccounts within three years from the initial Purchase
Payment. If an Owner terminates dollar cost averaging or does not deplete all
Certificate Value in Money Market Subaccount #2 within three years, KILICO will
automatically transfer any remaining Subaccount Value in Money Market Subaccount
#2 to Money Market Subaccount #1.

The other dollar cost averaging program is available for Purchase Payments and
for Certificate Value transferred into Money Market Subaccount #1 or Government
Securities Subaccount. An Owner may predesignate a portion of Subaccount Value
to be automatically transferred on a monthly basis to one or more of the other
Subaccounts. An Owner may enroll in this program at the time the Contract is
issued or anytime thereafter by properly completing the Dollar Cost Averaging
enrollment form and returning it to KILICO at its home office at least five (5)
business days prior to the second Tuesday of a month which is the date that all
dollar cost averaging transfers will be made ("Transfer Date").

Under each program, transfers will be made in the amounts designated by the
Owner and must be at least $500 per Subaccount. The total Certificate Value in
the applicable Subaccount at the time Dollar Cost Averaging is elected must be
at least equal to the amount designated to be transferred on each Transfer Date
multiplied by the duration selected. Dollar Cost Averaging will cease
automatically if the Certificate Value does not equal or exceed the amount
designated to be transferred on each Transfer Date and the remaining amount will
be transferred.

Dollar Cost Averaging will terminate when (i) the number of designated monthly
transfers has been completed, (ii) the value of the Accumulation Units
attributable to the applicable Subaccount is insufficient to complete the next
transfer, (iii) the Owner requests termination in writing and such writing is
received by KILICO at its home office at least two (2) business days prior to
the next Transfer Date in order to cancel the transfer scheduled to take effect
on such date, or (iv) the Certificate is surrendered or annuitized.

An Owner may initiate, reinstate or change Dollar Cost Averaging from Money
Market Subaccount #1 or Government Securities Subaccount or change existing
Dollar Cost Averaging terms for Money Market Subaccount #2 by properly
completing the new enrollment form and returning it to KILICO at its home office
at least five (5) business days prior to the next Transfer Date such transfer is
to be made.

When utilizing Dollar Cost Averaging an Owner must be invested in Money Market
Subaccount #1, Money Market Subaccount #2, or Government Securities Subaccount
and may be invested in any other Subaccounts at any given time. Election of
Dollar Cost Averaging is not available during the Annuity Period.

SYSTEMATIC WITHDRAWAL PLAN

KILICO administers a Systematic Withdrawal Plan ("SWP") which allows certain
Owners to pre-authorize periodic withdrawals during the accumulation period.
Owners entering into a SWP agreement instruct KILICO to withdraw

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<PAGE> 29

selected amounts from any of the Subaccounts or Guarantee Periods on a monthly,
quarterly, semi-annual or annual basis. Currently the SWP is available to Owners
who request a minimum $100 periodic payment. A MARKET VALUE ADJUSTMENT WILL
APPLY TO ANY WITHDRAWALS UNDER THE SWP FROM A GUARANTEE PERIOD UNLESS EFFECTED
WITHIN 15 DAYS BEFORE OR 15 DAYS AFTER THE GUARANTEE PERIOD ENDS. IF THE AMOUNTS
DISTRIBUTED UNDER THE SWP EXCEED THE AMOUNT FREE OF SURRENDER CHARGE (CURRENTLY
10% OF CERTIFICATE VALUE) THEN THE SURRENDER CHARGE WILL BE APPLIED ON ANY
AMOUNTS EXCEEDING THE 10% FREE WITHDRAWAL. WITHDRAWALS TAKEN UNDER THE SWP MAY
BE SUBJECT TO THE 10% FEDERAL TAX PENALTY ON EARLY WITHDRAWALS AND TO INCOME
TAXES AND MAY BE SUBJECT TO 20% WITHHOLDING. SEE "FEDERAL INCOME TAXES." Owners
interested in SWP may obtain an application from their representative or
KILICO's home office. The right is reserved to amend the SWP on thirty days'
notice. The SWP may be terminated at any time by the Owner or KILICO.

EXPERTS

The consolidated financial statements of KILICO as of December 31, 1994 and
1993, and for each of the years in the three-year period ended December 31, 1994
have been included herein in reliance upon the report of KPMG Peat Marwick LLP,
independent certified public accountants, appearing elsewhere herein, and upon
the authority of said firm as experts in accounting and auditing. As discussed
in the notes to KILICO's consolidated financial statements, effective January 1,
1994, KILICO changed its method of accounting for investment securities to adopt
the provisions of the Financial Accounting Standards Board's Statement of
Financial Accounting Standards ("SFAS") 115, Accounting for Certain Investments
in Debt and Equity Securities. Also, as discussed in the notes effective January
1, 1993, KILICO changed its method of accounting for impairment of loans
receivable to adopt the provisions of SFAS 114, Accounting by Creditors for
Impairment of a Loan, and changed its method of accounting for income taxes to
adopt the provisions of SFAS 109, Accounting for Income Taxes. Further, as
discussed in the notes, KILICO adopted the provisions of SFAS 106, Employers'
Accounting for Postretirement Benefits Other than Pensions in 1992.

LEGAL MATTERS

Legal matters with respect to the organization of KILICO, its authority to issue
annuity contracts and the validity of the Contract, have been passed upon by
Debra P. Rezabek, General Counsel and Director of Government Affairs for KILICO.
Katten Muchin & Zavis, Washington, D.C., has advised KILICO on certain legal
matters concerning federal securities laws applicable to the issue and sale of
the Certificates.

SPECIAL CONSIDERATIONS

KILICO reserves the right to amend the Contract and Certificates to meet the
requirements of any applicable federal or state laws or regulations. KILICO will
notify the Owner in writing of any such amendments.

An Owner's rights under a Certificate may be assigned as provided by applicable
law. An assignment will not be binding upon KILICO until it receives a written
copy of the assignment. The Owner is solely responsible for the validity or
effect of any assignment. The Owner, therefore, should consult a qualified tax
advisor regarding the tax consequences, as an assignment may be a taxable event.

AVAILABLE INFORMATION

KILICO is subject to the informational requirements of the Securities Exchange
Act of 1934 and in accordance therewith files reports and other information with
the Securities and Exchange Commission (the "Commission"). Such reports and
other information can be inspected and copied at the public reference facilities
of the Commission at Room 1024, 450 Fifth Street, N.W., Washington, D.C. and 500
West Madison, Suite 1400, Northwestern Atrium Center, Chicago, Illinois. Copies
of such materials also can be obtained from the Public Reference Section of the
Commission at 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed
rates.

KILICO has filed registration statements (the "Registration Statements") with
the Commission under the Securities Act of 1933 relating to the Contracts and
Certificates offered by this Prospectus. This Prospectus has been filed as a
part of the Registration Statements and does not contain all of the information
set forth in the Registration Statements, and reference is hereby made to such
Registration Statements for further information relating to KILICO and the
Contracts and Certificates. The Registration Statements may be inspected and
copied, and copies can be obtained at prescribed rates in the manner set forth
in the preceding paragraph.

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BUSINESS

NARRATIVE DESCRIPTION OF BUSINESS

KILICO offers both individual fixed-rate (general account) and individual and
group variable (separate account) annuity contracts, as well as individual
universal life and variable life insurance products through various distribution
channels. KILICO's broad product selection is designed for diverse economic
environments. KILICO structures its products to offer investment-oriented
products, guaranteed returns or a combination of both to help policyholders meet
multiple insurance and financial objectives. Financial institutions,
nonaffiliated and affiliated securities brokerage firms, insurance agents and
financial planners are important distribution channels for KILICO's products. In
1994, INVEST Financial Corporation ("INVEST") and Kemper Securities, Inc.
("KSI"), two KFC subsidiaries, accounted for approximately 36 percent and 20
percent, respectively, of KILICO's first-year sales, compared with 41 percent
and 12 percent, respectively, in 1993. KILICO's sales mainly consist of premiums
received on certain long duration annuity contracts. See the table captioned
"Sales" under "Management's Discussion and Analysis of Financial Condition and
Results of Operations."

Annuities accounted for approximately 99 percent of KILICO's sales in recent
years. KILICO's annuities generally have disappearing surrender charges that are
a specified percentage of policy values and decline as the policy ages. General
account annuity and interest-sensitive life policies are guaranteed to
accumulate at specified interest rates but allow for periodic crediting rate
changes.

In the last four years, in part reflecting the low interest rate environment
through early 1994, and to reduce its exposure to investment risk, KILICO has
placed more emphasis on marketing its separate account products. Unlike the
fixed-rate annuity business where KILICO manages spread revenue, variable
annuities pose minimal investment risk for KILICO and increase administrative
fee revenue. KILICO's separate account assets totaled $1.50 billion at December
31, 1994 and 1993, and $1.14 billion at December 31, 1992. KILICO's sales of its
separate account annuities were $250.7 million in 1994, $263.7 million in 1993,
$275.9 million in 1992 and $113.9 million in 1991. In 1992, KILICO introduced
Kemper PASSPORT. In 1994, KILICO changed Kemper PASSPORT from a single premium
annuity to one with a flexible premium structure and also added a small
capitalization equity subaccount as another investment portfolio choice for
purchasers of Kemper PASSPORT and certain other variable annuity products.
Separate account annuities represented 53.8 percent of KILICO's total sales in
1994, compared with 51.7 percent in 1993, 38.5 percent in 1992 and 16.8 percent
in 1991.

Declines in interest rates in recent years and strategic reductions in crediting
rates lowered general account annuity sales for KILICO in each of the last four
years. KILICO sales also were hurt by fixed-rate annuity buyers' focus on
investment risk. In the second half of 1994, KILICO began raising crediting
rates on certain general account products, reflecting both competitive
conditions and a rising interest rate environment. General account annuities
represented 46.0 percent of KILICO's total sales in 1994, compared with 47.9
percent in 1993, 60.8 percent in 1992 and 82.0 percent in 1991.

KILICO's sales of interest-sensitive life products decreased again in 1994, to
$0.8 million, from $2.0 million in 1993, $5.0 million in 1992 and $8.0 million
in 1991, for the same reasons its sales of general account annuities declined.
Overall, sales of interest-sensitive life products represented less than 1
percent of KILICO's total sales in each of the last four years.

CORPORATE CONTROL EVENTS

In the first quarter of 1994, Kemper received and rejected an unsolicited offer
by General Electric Capital Corporation ("GECC") to acquire all outstanding
shares of Kemper common stock for $55 per share. In May 1994, GECC increased its
offer to $60 per share, subject to certain conditions including a full due
diligence review, and the board of directors of Kemper directed that all
appropriate steps be taken to maximize stockholder value. Kemper put itself up
for sale, and a due diligence process began that resulted in Conseco, Inc.'s
cash and stock bid of $67 per share on June 23, 1994. Within hours of Conseco's
announcement, GECC withdrew completely from the process. Kemper and Conseco
signed a merger agreement on June 26, 1994. On November 20, Kemper and Conseco
announced that the merger agreement was terminated by mutual consent since it
became clear that the proposed merger could not be completed. The Kemper board
then again directed that all appropriate steps be taken to maximize stockholder
value. On April 11, 1995, Kemper and an investor group comprised of Zurich
Insurance Company ("Zurich") and Insurance Partners, L.P. and Insurance Partners
Offshore (Bermuda), L.P. ("Insurance Partners") announced that they reached an
agreement in principle pursuant to which Kemper, including KILICO, would be
acquired in a merger transaction. Following the transaction, Zurich, or an
affiliate, indirectly would be the majority owner of Kemper, including KILICO. A
definitive agreement is expected in early May, subject to the

27
<PAGE> 31

completion of the investor group's due diligence. Consummation of the
transaction is subject to, among other things, stockholder and regulatory
approvals. The transaction is expected to close early in the fourth quarter of
1995.

Distractions caused by uncertainties with respect to Kemper's and KILICO's
ownership have had an impact on 1994 performance. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations."

STRATEGIC INITIATIVES OF THE EARLY 1990'S

During 1992 and 1993, in order to streamline management, control costs and
improve profitability, the management, operations and strategic directions of
KILICO were integrated with those of another Kemper subsidiary, Federal Kemper
Life Assurance Company ("FKLA"). A common chairman and chief executive officer
for both companies was named in early 1992. Headquartered in Long Grove,
Illinois, FKLA markets term and interest-sensitive life insurance as well as
certain annuity products through brokerage general agents and other independent
distributors. The integration encompassed virtually all aspects of operations,
distribution channels and product development and was designed to promote
increased efficiencies and productivity and to expand both companies'
distribution capabilities. As described below, KILICO has emphasized different
products and distribution methods.

Since late 1991, KILICO intensified its management of real estate-related
investments due to adverse markets and recorded real estate-related reserves,
write-downs and operating losses totaling in excess of $333 million. KILICO
successfully implemented strategies to reduce both its joint venture operating
losses and the level of its real estate-related investments. These strategies
included sales, refinancings and restructurings. Also, effective January 1,
1993, subsidiaries of Kemper and Lumbermens Mutual Casualty Company
("Lumbermens") formed a master limited partnership to hold the equity real
estate interests each of the two organizations separately held previously in
joint ventures with Kemper's largest (now former) joint venture partner, which
master limited partnership in early 1994 acquired the former partner's equity
interests.

During 1992, 1993 and 1994, KILICO also sold for cash $642.5 million of certain
real estate-related investments to affiliated non-life real estate subsidiaries
of KFC. In addition, during 1991, 1992, 1993 and 1994, KILICO received $342.5
million in capital contributions from KFC (which, in turn, borrowed most of the
funds from Kemper). Focusing on its variable annuity products, KILICO also ceded
approximately $900 million of fixed-rate annuity liabilities in reinsurance
transactions effected in 1991 and 1992. Further addressing the quality of its
investment portfolio, KILICO reduced its holdings of below investment-grade
securities (excluding real estate-related investments) from 20.0 percent of its
total invested assets and cash at year-end 1990 to 2.8 percent at year-end 1994.

NAIC RATIOS

The National Association of Insurance Commissioners ("NAIC") annually calculates
certain statutory financial ratios for most insurance companies in the United
States. These calculations are known as the Insurance Regulatory Information
System ("IRIS") ratios. There presently are twelve IRIS ratios. The primary
purpose of the ratios is to provide an "early warning" of any negative
developments. The NAIC reports the ratios to state regulators who may then
contact the companies if three or more ratios fall outside the NAIC's "usual
ranges".

Based on statutory financial data as of December 31, 1994, KILICO had only one
ratio outside the usual ranges. KILICO's change in reserving ratio on
interest-sensitive life products reflected its strategic reductions of general
account business. Other than certain states requesting quarterly financial
reporting and/or explanations of the underlying causes for certain ratios, no
state regulators have taken any action due to KILICO's IRIS ratios for 1994 or
earlier years.

GUARANTY ASSOCIATION ASSESSMENTS

From time to time, mandatory assessments are levied on KILICO by life and health
guaranty associations of most states in which KILICO is licensed to cover losses
to policyholders of insolvent or rehabilitated insurance companies. These
associations levy assessments (up to prescribed limits) on all member insurers
in a particular state in order to pay claims on the basis of the proportionate
share of premiums written by member insurers in the lines of business in which
the insolvent or rehabilitated insurer engaged. These assessments may be
deferred or forgiven in certain states if they would threaten an insurer's
financial strength, and, in some states, these assessments can be partially
recovered through a reduction in future premium taxes.

In the early 1990s, there were a number of failures of life insurance companies.
KILICO's financial statements include provisions for all known assessments that
will be levied against KILICO by various state guaranty associations as well as
an estimate of amounts (net of estimated future premium tax recoveries) that
KILICO believes will be assessed in the future for failures which have occurred
to date and for which the life insurance industry has estimated the cost to
cover losses to policyholders. Assessments levied against KILICO and charged to
expense in 1993 and 1992 amounted to $5.8 million and $10.0 million,
respectively. Such amounts relate to accrued guaranty

28
<PAGE> 32

fund assessments of $4.0 million and $8.9 million at December 31, 1994 and 1993,
respectively. No additional assessments were charged to expense during 1994 as
KILICO believes it has established adequate accruals for all known insolvencies
where an estimate of the cost to cover losses to policyholders was available at
December 31, 1994.

RISK-BASED CAPITAL

Since the early 1990s, reflecting a recessionary environment and the
insolvencies of a few large life insurance companies, both state and federal
legislators have increased scrutiny of the existing insurance regulatory
framework. While various initiatives, such as a new model investment law, are
being considered for future implementation by the NAIC, it is not presently
possible to predict the future impact of potential regulatory changes on KILICO.

Under asset adequacy and risk-based capital rules adopted in 1993 in Illinois
(the domiciliary state of KILICO), state regulators may mandate remedial action
for inadequately reserved or inadequately capitalized companies. The new asset
adequacy rules are designed to assure that reserves and assets are adequate to
cover liabilities under a variety of economic scenarios. The focus of the new
capital rules is a risk-based formula that applies prescribed factors to various
risk elements in an insurer's business and investments to develop a minimum
capital requirement designed to be proportional to the amount of risk assumed by
the insurer. KILICO has capital levels substantially exceeding any which would
mandate action under the risk-based capital rules and is in compliance with
applicable asset adequacy rules.

RESERVES AND REINSURANCE

The following table provides a breakdown of KILICO's reserves for future policy
benefits by product type at December 31, 1994, 1993 and 1992 (in millions):

<TABLE>
<CAPTION>
1994 1993 1992
------ ------ ------
<S> <C> <C> <C>
General account annuities.......................................... $4,010 $4,180 $4,172
Interest-sensitive life insurance.................................. 833 860 869
Ceded future policy benefits....................................... 643 746 --
------ ------ ------
Total.................................................... $5,486 $5,786 $5,041
====== ====== ======
</TABLE>

Ceded future policy benefits shown above reflect coinsurance (indemnity
reinsurance) transactions in which KILICO reinsured liabilities of approximately
$516 million in 1992 and $416 million in 1991 with Fidelity Life Association
("FLA"), an affiliated mutual insurance company. FLA shares management,
operations and employees with FKLA and KILICO pursuant to an administrative and
management services agreement. FLA produces whole life policies not produced by
FKLA or KILICO as well as other policies similar to certain FKLA policies. At
December 31, 1994, KILICO's reinsurance recoverable from FLA related to these
coinsurance transactions totaled approximately $642.8 million. KILICO remains
primarily liable to its policyholders for this amount. Utilizing FKLA's
employees, KILICO is the servicing company for this coinsured business and is
reimbursed by FLA for the related servicing expenses. Excluding this
coinsurance, KILICO, because it is primarily an annuity company, reinsures only
a very limited portion of its business. KILICO has immaterial exposure to
mortality losses. See the note captioned "Reinsurance" of the Notes to
Consolidated Financial Statements.

COMPETITION

KILICO is in a highly competitive business and competes with a large number of
other stock and mutual life insurance companies, many of which are larger
financially, although none is truly dominant in the industry. KILICO, with its
emphasis on annuity products, also competes for savings dollars with asset
manager, securities brokerage and investment advisory firms as well as financial
institutions that manage assets, produce financial products or market other
types of investment products.

KILICO's principal methods of competition continue to be innovative products,
often designed for selected distribution channels and economic conditions, as
well as appropriate product pricing, careful underwriting, expense control and
the quality of services provided to policyholders and agents. Certain of
KILICO's financial strength ratings and claims-paying/performance ratings,
however, were lower in 1993 and 1994 than in earlier years and were under review
in 1994 and to date in 1995 due to uncertainty with respect to Kemper's and
KILICO's ownership. These ratings impacted sales efforts in certain markets.

To address its competition, KILICO has adopted certain business strategies.
These include systematic reductions of investment risk and strengthening of
KILICO's capital position; continued focus on existing and new variable annuity
products; distribution through diversified channels, with an emphasis on
INVEST's financial institution

29
<PAGE> 33

clients and KSI's retail base; and ongoing efforts to continue as a low-cost
provider of insurance products and high-quality services to agents and
policyholders through the use of technology.

EMPLOYEES

At December 31, 1994, KILICO utilized the services of approximately 340
employees of FKLA which are also shared with FLA.

REGULATION

KILICO is generally subject to regulation and supervision by the insurance
departments of Illinois and other jurisdictions in which KILICO is licensed to
do business. These departments enforce laws and regulations designed to assure
that insurance companies maintain adequate capital and surplus, manage
investments according to prescribed character, standards and limitations and
comply with a variety of operational standards. The departments also make
periodic examinations of individual companies and review annual and other
reports on the financial condition of each company operating within their
respective jurisdictions. Regulations, which often vary from state to state,
cover most aspects of the life insurance business, including market practices,
forms of policies and accounting and financial reporting procedures.

Insurance holding company laws enacted in many states grant additional powers to
state insurance commissioners to regulate acquisition of and by domestic
insurance companies, to require periodic disclosure of relevant information and
to regulate certain transactions with related companies. These laws also impose
prior approval requirements for certain transactions with affiliates and
generally regulate dividend distributions by an insurance subsidiary to its
holding company parent.

In addition, variable life insurance and annuities offered by KILICO, and the
related separate accounts, are subject to regulation by the Securities and
Exchange Commission (the "SEC").

KILICO believes it is in compliance in all material respects with all applicable
regulations.

INVESTMENTS

Changing marketplace dynamics affected the life insurance industry in recent
years. To accommodate customers' increased preference for safety over higher
yields, KILICO has systematically reduced its investment risk and strengthened
its capital position. In 1994, KILICO's total net investment income increased
for the first time since 1990. Investments are an integral part of KILICO's
business.

KILICO's cash flow is carefully monitored and its investment program is
regularly and systematically planned to provide funds to meet all obligations
and to maximize investment return. Portfolio management is handled by an
affiliated company, Kemper Financial Services, Inc. ("KFS"), and its
subsidiaries, with investment policy directed by KILICO's board of directors.
KILICO's investment strategies take into account the nature of each annuity and
life insurance product, the respective crediting rates and the estimated future
policy benefit maturities. See "INVESTMENTS" under "Management's Discussion and
Analysis of Financial Condition and Results of Operations."

PROPERTIES

KILICO primarily shares the office space leased by FKLA from Lumbermens, 78,000
sq. ft. in Long Grove, Illinois. KILICO also has utilized 43,000 sq. ft. of
office space presently leased by KFS in Chicago, although virtually all of this
space is expected to be eliminated in 1997 in connection with a new lease
executed by KFS.

LEGAL PROCEEDINGS

In 1992 the Staff of the SEC commenced an investigation into certain of Kemper's
real estate-related accounting practices and related disclosures. KILICO's
accounting and disclosure practices are consistent with those of Kemper. Kemper
fully cooperated throughout the Staff's investigation which has now concluded.
Kemper and the Staff have had settlement discussions respecting this matter, and
KILICO anticipates that this matter will be resolved with respect to Kemper in
1995 with the filing of an administrative proceeding.

KILICO has been named as defendant in certain lawsuits incidental to its
insurance business. KILICO's management, based on the advice of legal counsel,
believes that the resolution of these various lawsuits will not result in any
material adverse effect on KILICO's consolidated financial position.

30
<PAGE> 34

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

During 1994, Kemper faced both an unsolicited suitor and an unsuccessful merger
agreement. The resulting distractions and uncertainties negatively impacted
KILICO's operations. The Kemper board of directors has directed its management
to take all appropriate actions to maximize value for stockholders. On April 11,
1995, Kemper, Zurich and Insurance Partners, announced that they have reached an
agreement in principle, pursuant to which Kemper, including KILICO, would be
acquired in a merger transaction. See "Business--Corporate Control Events."

RESULTS OF OPERATIONS

KILICO recorded net income of $26.4 million for 1994, compared with net income
of $14.0 million in 1993 and a net loss of $51.9 million in 1992. The
improvement in 1994 was primarily the result of increases in spread income, an
increase in fees and other income and a decrease in commissions, taxes, licenses
and fees. These improvements were partially offset by higher realized investment
losses in 1994, compared with 1993. The improvement in 1993 net income, compared
with 1992, was primarily the result of lower realized investment losses,
increases in spread income and reductions in operating expenses. The net loss in
1992 also reflected an increased level of amortization of insurance acquisition
costs.

The following table reflects the major components of realized investment results
included in net income (loss). (See "INVESTMENTS" below, and the note captioned
"Invested Assets and Related Income" of the Notes to Consolidated Financial
Statements.)

REALIZED INVESTMENT RESULTS, AFTER TAX
(in millions)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------------
1994 1993 1992
------ ------ ------
<S> <C> <C> <C>
Real estate-related losses........ $(27.1) $(51.7) $(66.0)
Fixed maturity write-downs........ -- (12.3) (19.8)
Other gains (losses), net......... (8.4) 44.3 23.6
------ ------ ------
Total................... $(35.5) $(19.7) $(62.2)
====== ====== ======
</TABLE>

Real estate-related losses decreased, reflecting a lower level of reserves and
write-downs on real estate-related investments. Fixed maturity write-downs
decreased due to the increased quality of KILICO's fixed maturity portfolio.
Other realized investment losses for 1994, and other realized investment gains
for 1993 and 1992 relate primarily to the sale of fixed maturity investments.
The fixed maturity losses generated in 1994 arose primarily from the sale of
$330.7 million of fixed maturity investments, consisting of lower yielding
investment-grade corporate securities and collateralized mortgage obligations,
related to a repositioning of KILICO's fixed maturity investment portfolio in
September 1994. The $306.9 million of proceeds from the repositioning, together
with $275.0 million of cash and short-term investments, were reinvested into
higher yielding U.S. government and agency guaranteed mortgage pass-through
securities issued by the Government National Mortgage Association and the
Federal National Mortgage Association. (See "INVESTMENTS" below.)

Operating earnings (net income excluding realized investment results) totaled
$61.9 million in 1994, compared with $33.7 million and $10.3 million in 1993 and
1992, respectively. Operating earnings improved in 1994 and 1993, compared with
1992, primarily due to increased spread income. Continuing a strategy
implemented during 1992, KILICO improved spread income by reducing crediting
rates on certain existing blocks of its fixed annuity and interest-sensitive
life insurance products in 1993 and through most of 1994. Such reductions in
crediting rates occurred as overall interest rates declined. Operating earnings
improved as crediting rates declined at a faster rate than KILICO's investment
income. Beginning in late 1994, as a result of rising interest rates and other
competitive market factors, KILICO increased crediting rates on these products.
Although KILICO continues to manage spread revenue, further increases in
crediting rates could adversely impact future operating earnings but could also
help to improve sales and the overall persistency of such products.

Investment income was positively impacted in 1994 and 1993, compared with 1992,
from the benefits of capital contributions to KILICO and reductions in the level
of nonperforming real estate-related investments, primarily from the sales of
certain real estate-related investments to affiliated non-life realty companies.
These sales totaled $154.0 million in 1994, $343.7 million in 1993 and $144.8
million in 1992 and resulted in no realized gain or loss to KILICO. Investment
income in 1994 also benefitted from rising investment yields on new money, the

31
<PAGE> 35

above-mentioned repositioning of KILICO's investment portfolio and a $5.0
million pre-tax adjustment related to the amortization of the discount or
premium on mortgage-backed securities. Investment income for 1994, 1993 and 1992
has been impacted by a shift over the last few years to higher-quality, lower
yielding investments and foregone income on nonperforming investments.
Investment income in 1993, compared with 1992, was also reduced by a 1992
reinsurance transaction which transferred $515.7 million of policyholder
liabilities and the related invested assets. (See the note captioned
"Reinsurance" of the Notes to Consolidated Financial Statements.)

SALES
(in millions)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------------
1994 1993 1992
------ ------ ------
<S> <C> <C> <C>
Annuities:
General account..................... $214.2 $244.2 $435.6
Separate account.................... 250.8 263.7 275.9
------ ------ ------
Total annuities........... 465.0 507.9 711.5
Interest-sensitive life insurance..... .8 2.0 5.0
------ ------ ------
Total sales............ $465.8 $509.9 $716.5
====== ====== ======
</TABLE>

The decreases over the last three years in general account (fixed annuity) sales
and interest-sensitive life insurance sales reflected KILICO's continuing
strategy to direct its sales efforts toward separate account (variable annuity)
products, which increase administrative fees earned and pose minimal investment
risk for KILICO as policyholders invest in one or more of several underlying
investment funds. Despite this strategy, separate account sales declined in 1994
and 1993, compared with 1992, due to competitive conditions in certain
distribution channels, in part reflecting KILICO's financial strength and
performance ratings as well as the underlying investment fund performance
reflecting the economic environment of rising interest rates and overall poor
stock and bond market conditions.

Included in fees and other income are administrative fees received from KILICO's
separate account products of $20.8 million in 1994, compared with $18.1 million
and $14.3 million in 1993 and 1992, respectively. Administrative fee revenue
increased in each of the last three years due to growth in average separate
account assets. Other income also included surrender charge revenue of $7.4
million in 1994, compared with $6.3 million and $6.2 million in 1993 and 1992,
respectively. The higher level of surrender charge revenue reflected an increase
in policyholder withdrawals, primarily as a result of the planned reductions in
crediting rates on fixed annuities and rising interest rates. KILICO's crediting
rate increases in 1994 were designed to reduce the level of future withdrawals.
Other income in 1992 also included a $12.0 million ceding commission resulting
from the earlier described reinsurance transaction.

Commissions, taxes, licenses and fees were lower in 1994, compared with 1993 and
1992, primarily reflecting lower annuity sales and reduced guaranty fund
assessments. Expenses for such assessments totaled $0.0, $5.8 million and $10.0
million in 1994, 1993 and 1992, respectively. (See "Guaranty association
assessments" above.)

The higher level of deferral of policy acquisition costs in 1994, compared with
1993, reflected an increase in the amount of imputed interest capitalized due to
improvements in projected future revenue streams primarily as a result of the
decline in the level of nonperforming real estate-related investments. The
amortization of policy acquisition costs was favorably impacted during 1994 due
to the repositioning of KILICO's investment portfolio. The repositioning
favorably impacted the amortization of policy acquisition costs because it
resulted in current realized investment losses as well as an increase in
projected future net investment income, which together are expected to increase
KILICO's projected future estimated gross profits in later years. Excluding the
effects of the repositioning, the amortization of policy acquisition costs
increased in 1994, compared with 1993 and 1992, primarily as a result of
improved net income during 1994. The amortization in 1992 included approximately
$22.5 million of additional amortization as a result of the previously mentioned
reinsurance transaction.

Operating expenses in 1994, compared with 1993, increased only slightly, as a
result of expense control and the integration of the two life insurance
subsidiaries' operations and management beginning in 1992. Primarily as a result
of the integration of the two life companies, operating expenses in 1993
declined by approximately 37 percent, compared with the 1992 level.

32
<PAGE> 36

Since year-end 1990, KILICO has taken many steps to improve its earnings,
financial strength and competitive marketing position. These steps included
adjustments in crediting rates, reductions of operating expenses, reductions of
below investment-grade securities, a strategy not to embark on new real estate
projects, additional provisions for real estate-related losses, sales of $642.5
million of certain real estate-related investments to affiliated non-life realty
companies through December 31, 1994, third-party sales and refinancings of
certain mortgage and other real estate loans, approximately $900 million in
annuity reinsurance transactions with an affiliated mutual life insurance
company, a parental guarantee of indebtedness, and capital contributions of
$342.5 million through December 31, 1994. KILICO's statutory surplus ratio
improved to 10.2 percent at December 31, 1994, from 8.2 percent at December 31,
1993, 6.6 percent at December 31, 1992, 6.5 percent at December 31, 1991 and 4.0
percent at year-end 1990.

INVESTMENTS

KILICO's principal investment strategy is to maintain a balanced,
well-diversified portfolio supporting the insurance contracts written. KILICO
makes shifts in its investment portfolio depending on, among other factors, the
interest rate environment, liability durations and changes in market and
business conditions.

INVESTED ASSETS AND CASH
(in millions)

<TABLE>
<CAPTION>
DECEMBER 31
-------------------------------------
1994 1993
---------------- ----------------
<S> <C> <C> <C> <C>
Cash and short-term investments.............................. $ 227 4.6% $ 410 7.6%
Fixed maturities:
Investment-grade:
NAIC(1) Class 1......................................... 2,569 52.2 2,307 42.9
NAIC(1) Class 2......................................... 760 15.5 983 18.3
Performing below investment-grade(2)....................... 135 2.8 151 2.8
Equity securities............................................ 15 .3 68 1.3
Joint venture mortgage loans(3).............................. 351 7.1 731 13.6
Third-party mortgage loans(3)................................ 319 6.5 132 2.4
Other real estate-related investments........................ 237 4.8 291 5.4
Policy loans................................................. 278 5.7 264 4.9
Other........................................................ 26 .5 44 .8
------ ----- ------ -----
Total(4)........................................... $4,917 100.0% $5,381 100.0%
====== ===== ====== =====
</TABLE>

- ---------------
(1) National Association of Insurance Commissioners ("NAIC").
-- Class 1 = A- and above
-- Class 2 = BBB- through BBB+
(2) Excludes $49.9 million, or 1.0 percent, and $106.0 million, or 2.0 percent,
at December 31, 1994 and 1993, respectively, of bonds carried in other real
estate-related investments.
(3) A joint venture mortgage loan is recharacterized in the current period as a
third-party mortgage loan when KILICO and its affiliates have disposed of
their related equity interest in that venture.
(4) See the note captioned "Financial Instruments--Off-Balance-Sheet Risk" of
the Notes to Consolidated Financial Statements.

FIXED MATURITIES

KILICO is carrying its fixed maturity investment portfolio, which it considers
available for sale, at estimated market value, with the aggregate unrealized
appreciation or depreciation being recorded as a separate component of
stockholder's equity, net of any applicable income tax effect. The aggregate
unrealized depreciation was $243.6 million at December 31, 1994, compared with
unrealized appreciation of $70.2 million, net of tax, at December 31, 1993.
KILICO has not recorded a deferred tax benefit for the aggregate unrealized
depreciation on investments. Market values are sensitive to movements in
interest rates and other economic developments and can be expected to fluctuate,
at times significantly, from period to period.

During each of the last three years, KILICO repositioned its fixed maturity
investments and increased the relative and absolute levels of investment-grade
fixed maturities and cash and short-term investments held. At December 31, 1994,
investment-grade fixed maturities and cash and short-term investments accounted
for 72.3 percent of

33
<PAGE> 37

KILICO's invested assets and cash, compared with 68.8 percent at December 31,
1993. Approximately 70 percent of KILICO's NAIC Class 1 bonds were rated AAA or
equivalent at year-end 1994, up from 61 percent at year-end 1993.

Approximately 49.2 percent of KILICO's investment-grade fixed maturities at
December 31, 1994 were mortgage-backed securities. These investments consist
primarily of marketable mortgage pass-through securities issued by the
Government National Mortgage Association, the Federal National Mortgage
Association or the Federal Home Loan Mortgage Corporation and other
investment-grade securities collateralized by mortgage pass-through securities
issued by these entities. KILICO has not made any material investments in
interest-only or other similarly volatile tranches of mortgage-backed
securities. KILICO's mortgage-backed investments are generally of AAA credit
quality, and the markets for KILICO's investments in mortgage-backed securities
have been and are expected to remain liquid.

Future investment income from mortgage-backed securities may be affected by the
timing of principal payments and the yields on reinvestment alternatives
available at the time of such payments. Due to the fact that KILICO's
investments in mortgage-backed securities predominately date from recent years,
the current rise in interest rates is not expected to cause any material
unanticipated extension of the average maturities of these investments. With the
exception of KILICO's September 1994 purchases of such investments, most of
these investments were purchased by KILICO at discounts. Prepayment activity on
such securities is not expected to result in any material losses to KILICO
because such prepayment would generally accelerate the reporting of the
discounts as investment income. Many of KILICO's September 1994 purchases were
at a premium. Prepayments resulting from a decline in interest rates would
accelerate the amortization of premiums on such purchases which would result in
reductions of investment income related to such securities. At December 31,
1994, KILICO had unamortized discounts and premiums of $20.4 million and $14.8
million, respectively, related to mortgage-backed securities. Given the credit
quality, liquidity and anticipated payment characteristics of KILICO's
investments in mortgage-backed securities, KILICO believes that the associated
risk can be managed without material adverse consequences on its consolidated
financial statements.

Below investment-grade securities holdings (NAIC classes 3 through 6),
representing securities of 12 issuers at December 31, 1994 totaled less than
three percent of cash and invested assets at year-end 1994 and 1993. See the
note captioned "Invested Assets and Related Income" of the Notes to Consolidated
Financial Statements. Below investment-grade securities are generally unsecured
and often subordinated to other creditors of the issuers. These issuers may have
relatively higher levels of indebtedness and be more sensitive to adverse
economic conditions than investment-grade issuers. Over the last four years,
KILICO significantly reduced its exposure to below investment-grade securities.
This strategy takes into account the more conservative nature of today's
consumer and the resulting demand for higher-quality investments in the life
insurance and annuity marketplace. KILICO's below investment-grade holdings
decreased through sales, maturities, restructurings, market value adjustments
and write-downs.

REAL ESTATE-RELATED INVESTMENTS

The $907 million real estate portfolio held by KILICO constituted 18.4 percent
of cash and invested assets at December 31, 1994, compared with $1.15 billion,
or 21.4 percent, at December 31, 1993. The real estate portfolio consists of
joint venture and third-party mortgage loans and other real estate-related
investments. The majority of KILICO's real estate loans are on properties or
projects where KILICO, Kemper, Lumbermens or their respective affiliates have
taken ownership positions in joint ventures with a small number of partners.
(See the notes captioned "Unconsolidated Investees" and "Concentration of Credit
Risk" of the Notes to Consolidated Financial Statements.)

34
<PAGE> 38

SUMMARY OF GROSS AND NET REAL ESTATE INVESTMENTS
(in millions)

<TABLE>
<CAPTION>
DECEMBER 31
----------------
1994 1993
------ ------
<S> <C> <C>
Investments before reserves, write-downs and net
joint venture operating losses:
Joint venture mortgage loans....................... $ 358 $ 766
Third-party mortgage loans......................... 353 200
Other real estate-related investments.............. 350 354
------ ------
Subtotal...................................... 1,061 1,320
Reserves........................................... (43) (61)
Write-downs........................................ (97) (88)
Cumulative net operating losses of joint ventures
owned........................................... (14) (17)
------ ------
Net real estate investments.......................... $ 907 $1,154
====== ======
</TABLE>

As reflected in the "Real estate portfolio" table below, KILICO has continued to
fund both existing projects and legal commitments. The future legal commitments
were $376.1 million at December 31, 1994. This amount represented a net decrease
of $118.8 million since year-end 1993, largely due to fundings in 1994. As of
December 31, 1994, KILICO expects to fund approximately $96.5 million of these
commitments, along with providing capital to existing projects. The disparity
between total legal commitments and the amount expected to be funded relates
principally to standby financing arrangements that provide credit enhancements
to certain tax-exempt bonds, which KILICO does not presently expect to fund. The
total legal commitments, along with estimated working capital requirements, are
considered in KILICO's evaluation of reserves and write-downs. (See the note
captioned "Financial Instruments--Off-Balance-Sheet Risk" of the Notes to
Consolidated Financial Statements.)

Generally, at the inception of a real estate loan, KILICO anticipated that it
would roll over the loan and reset the interest rate at least one time in the
future, although KILICO is not legally committed to do so. As a result of the
continued weakness in real estate markets and fairly restrictive lending
practices by other lenders in this environment, KILICO expects that all or most
loans maturing in 1995 will be rolled over, restructured or foreclosed.

Excluding the $57.3 million of real estate owned and $45.4 million in KILICO's
net equity investments in joint ventures, KILICO's real estate loans (including
real estate-related bonds) totaled $804.6 million at December 31, 1994, after
reserves and write-downs. Of this amount, $595.9 million are on accrual status
with a weighted average interest rate of approximately 7.9 percent. Of these
accrual loans, 53.6 percent have terms requiring current periodic payments of
their full contractual interest, 32.5 percent require only partial payments or
payments to the extent of cash flow of the borrowers, and 13.9 percent defer all
interest to maturity.

At December 31, 1994, the equity investments in real estate consisted of $36.6
million of loans to Spanish projects (see page 37), $0.3 million of unsecured
loans to joint ventures treated as equity investments, $17.7 million in KILICO's
net equity investments in joint ventures and $9.2 million of reserves. The
equity investments include KILICO's share of periodic operating results. KILICO,
as an equity owner or affiliate thereof, has the ability to fund, and
historically has elected to fund, operating requirements of certain joint
ventures.

KILICO's real estate owned included $54.2 million of deeds in lieu of
foreclosure and $3.1 million of certain purchased properties at December 31,
1994. Real estate owned was net of $67.5 million of write-downs at December 31,
1994.

35
<PAGE> 39

REAL ESTATE PORTFOLIO
(in millions)

<TABLE>
<CAPTION>
MORTGAGE LOANS OTHER REAL ESTATE-RELATED INVESTMENTS
----------------- -------------------------------------------------
JOINT THIRD- OTHER REAL ESTATE EQUITY
VENTURE PARTY BONDS(4) LOANS(5) OWNED INVESTMENTS TOTAL
------- ------ -------- -------- ----------- ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31,
1993...................... $ 730.8 $132.2 $ 106.0 $ 58.7 $ 55.1 $ 71.7 $1,154.5(1)
Additions (deductions):
Fundings.................... 27.3 29.3 23.5 59.5 17.3 58.7 215.6
Interest added to
principal................. 1.5 .8 -- -- -- -- 2.3
Sales/paydowns/
distributions............... (88.8) (15.9) (26.5) (19.0) (25.2) (18.7) (194.1)
REIT(2)..................... (59.2) -- (15.8) (5.0) -- (2.4) (82.4)
Maturities.................. (10.6) -- (2.1) (44.0) -- -- (56.7)
Rollovers at maturity:
Principal................. 10.6 -- 2.1 44.0 -- -- 56.7
Interest.................. 1.7 -- -- 1.4 -- -- 3.1
Sold to KFC Portfolio
Corporation............... (21.0) (17.9) (35.1) (19.6) -- (52.3) (145.9)
Operating loss.............. -- -- -- -- -- (1.4) (1.4)
Transfers to real estate
owned..................... (16.1) (16.8) -- (1.9) 34.8 -- --
Realized investments gain
(loss)(3)................. 2.6 (16.9) (3.4) (8.3) (6.7) (9.0) (41.7)
Net transfers from joint
venture to third-party
mortgages................. (198.3) 198.3 -- -- -- -- --
Other transactions, net..... (29.1) 25.6 1.2 18.8 (18.0) (1.2) (2.7)
------- ------ ------- ------- -------- --------- --------
Balance, December 31,
1994...................... $ 351.4 $318.7 $ 49.9 $ 84.6 $ 57.3 $ 45.4 $ 907.3(6)
======= ====== ======= ======= ======= ======= ========
</TABLE>

- ---------------
(1) Net of $149.4 million reserve and write-downs. Excludes $47.3 million of
real estate-related accrued interest.

(2) Reflects the 1994 formation of Prime Retail, Inc., a retail properties real
estate investment trust ("REIT") affiliated with the Prime Group, Inc. See
"Real estate concentrations" below.

(3) See the note captioned "Invested Assets and Related Income" of the Notes to
Consolidated Financial Statements.

(4) KILICO's real estate-related bonds, all of which are presently rated below
investment-grade, are generally unsecured and were issued to KILICO by real
estate finance or development companies generally to provide financing for
Kemper's or KILICO's joint ventures for such purposes as land acquisition,
construction/development, refinancing debt, interest and other operating
expenses.

(5) The other real estate loans are notes receivable evidencing financing,
primarily to joint ventures, for purposes similar to those funded by real
estate-related bonds.

(6) Net of $139.6 million reserve and write-downs. Excludes $29.8 million of
real estate-related accrued interest.

As reflected in the preceding table, cash received from
sales/paydowns/distributions and REIT transactions in 1994 exceeded KILICO's
cash fundings in 1994 by $60.9 million. Cash received from
sales/paydowns/distributions and refinancings in 1993 exceeded KILICO's cash
fundings in 1993 by $136.0 million.

36
<PAGE> 40

REAL ESTATE CONCENTRATIONS

KILICO's real estate portfolio is distributed by geographic location and
property type, as shown in the following two tables:

GEOGRAPHIC DISTRIBUTION AS OF DECEMBER 31, 1994

<TABLE>
<S> <C>
California...................... 26.9%
Illinois........................ 26.2
Texas........................... 11.2
Ohio............................ 6.3
Spain........................... 4.0
Colorado........................ 3.8
Oregon.......................... 3.0
Indiana......................... 2.7
Washington...................... 2.7
Hawaii.......................... 2.5
Virginia........................ 2.5
Florida......................... 2.1
Other(1)........................ 6.1
-----
Total................. 100.0%
=====
</TABLE>

- ---------------
(1) No other single location exceeded 2.0 percent.

DISTRIBUTION BY PROPERTY TYPE AS OF DECEMBER 31, 1994

<TABLE>
<S> <C>
Office.......................... 21.5%
Land............................ 20.4
Industrial...................... 14.7
Retail.......................... 13.9
Hotel........................... 11.7
Apartment....................... 5.0
Residential..................... 4.7
Mixed use....................... 2.1
Other........................... 6.0
-----
Total................. 100.0%
=====
</TABLE>

Real estate markets have been depressed in recent periods in areas where most of
KILICO's real estate portfolio is located. Approximately one-half of KILICO's
real estate holdings are in California and Illinois. Southern California shows
signs of improvement, although real estate market conditions there have
continued to be worse than in many other areas of the country. Northern
California and Illinois currently reflect some stabilization and improvement.

At December 31, 1994, KILICO's real estate portfolio also included $36.6 million
of loans carried as equity investments in real estate related to land for office
and retail development and residential projects located in Barcelona, Spain.
Such equity investments in Spain totaled $31.9 million at December 31, 1993,
after accounting for fundings of $151.3 million during 1993. The Spanish
projects accounted for $29.4 million of net fundings during 1994 and represented
approximately 4.0 percent of KILICO's real estate portfolio at December 31,
1994. These investments, which began in the late 1980s, accounted for $14.1
million of the December 31, 1994 off-balance-sheet commitments, of which KILICO
expects to fund $7.1 million. Also during 1994, loans to the Spanish projects
totaling $24.7 million were sold at book value to an affiliated real estate
subsidiary of KFC.

Undeveloped land, including the Spanish projects, represented approximately 20.4
percent of KILICO's real estate portfolio at December 31, 1994. To maximize the
value of certain land and other projects, additional development is proceeding
or is planned. Such development of existing projects may continue to require
substantial funding, either from KILICO or third parties. In the present real
estate markets, third-party financing can require credit enhancing arrangements
(e.g., standby financing arrangements and loan commitments) from KILICO. The
values of development projects are dependent on a number of factors, including
Kemper's and KILICO's plans with respect thereto, obtaining necessary permits
and market demand for the permitted use of the property. There can be no
assurance that such permits will be obtained as planned or at all, nor that such
expenditures will occur as scheduled, nor that Kemper's and KILICO's plans with
respect to such projects may not change substantially.

At December 31, 1994, KILICO's loans to and investments in projects with the
Prime Group, Inc. or its affiliates, based in Chicago, represented approximately
$238.0 million, or 26.2 percent, of KILICO's real estate portfolio (including
the previously mentioned Spanish projects, which are Prime Group-related). (See
the note captioned "Unconsolidated Investees" of the Notes to Consolidated
Financial Statements.) This amount reflected $125.2 million in fundings during
1994 and $208.4 million during 1993. KILICO also received cash, from Prime
Group-related sales/paydowns/distributions and REIT transactions, totaling
$135.3 million in 1994 and $39.7 million in 1993. Prime Group-related
commitments accounted for $203.2 million of the off-balance-sheet legal
commitments at December 31, 1994, of which KILICO expects to fund $33.0 million.

Effective January 1, 1993, Kemper and its subsidiaries, including KILICO, formed
a master limited partnership (the "MLP") with Lumbermens and its subsidiaries.
The assets of the MLP consist of the equity interests each partner or

37
<PAGE> 41

its subsidiaries previously owned in projects with Peter B. Bedford or his
affiliates ("Bedford"), a California-based real estate developer. As MLP
partners, Kemper and Lumbermens have participated in funding certain cash needs
of the MLP projects. During 1994, KILICO provided $57.3 million of fundings to
the MLP projects, compared with fundings of $54.1 million in 1993. KILICO also
received cash from MLP-related sales/paydowns/distributions and refinancings of
$102.2 million in 1994 and $130.3 million in 1993. At December 31, 1994, these
projects in the MLP accounted for $56.6 million of KILICO's off-balance-sheet
legal commitments, of which KILICO expects to fund $48.7 million. Kemper's
affected equity interests in real estate are held almost entirely by the real
estate subsidiaries of Kemper and KFC. Of KILICO's real estate portfolio at
December 31, 1994, approximately $254.3 million, or 28.0 percent, represented
loans to and investments in MLP-owned joint ventures.

Pursuant to agreements entered into in January 1994, Bedford transferred to the
MLP and FLA all of Bedford's ownership interests in ventures in which Bedford,
Kemper, Lumbermens and their respective subsidiaries previously shared ownership
interests. Bedford was released from certain recourse liabilities owed to the
MLP, the ventures, Lumbermens, Kemper and certain of their respective
subsidiaries. Because Kemper's reserve methodology does not take any credit for
such recourse and because Kemper in 1993 had already been recording an aggregate
50 percent of the operating results of the related ventures, this transaction,
which simplified the management of Kemper's portfolio, did not have any material
adverse impact on Kemper's or KILICO's results of operations or financial
condition.

PROVISIONS FOR REAL ESTATE-RELATED LOSSES

KILICO monitors its real estate portfolio and identifies changes in the relevant
real estate marketplaces, the economy and each borrower's circumstances. KILICO
establishes its provisions for real estate-related losses (both reserves and
write-downs) on the basis of its valuations of the related real estate,
estimated in light of current economic conditions taking into consideration the
effects of recourse to, and subordination of loans held by, affiliated non-life
realty companies and calculated in conformity with SFAS 114. (See the discussion
of SFAS 114 in the note captioned "Summary of Significant Accounting Policies"
of the Notes to Consolidated Financial Statements.) KILICO evaluates its real
estate-related assets (including accrued interest) by estimating the
probabilities of loss utilizing various projections that include several factors
relating to the borrower, property, term of the loan, tenant composition, rental
rates, other supply and demand factors and overall economic conditions. Because
KILICO's real estate review process includes estimates, there can be no
assurance that current estimates will prove accurate over time due to changing
economic conditions and other factors.

KILICO's real estate reserve was allocated as follows:

REAL ESTATE RESERVE
(in millions)

<TABLE>
<CAPTION>
JOINT VENTURE THIRD-PARTY OTHER REAL
MORTGAGE MORTGAGE ESTATE-RELATED
LOANS LOANS INVESTMENTS TOTAL
------------- ----------- -------------- ------
<S> <C> <C> <C> <C>
Balance at 12/31/92..... $ 64.4 $ 5.0 $ 23.4 $ 92.8
1993 change in
reserve............... (29.3) (5.0) 2.6 (31.7)
------------- ----------- ------- ------
Balance at 12/31/93..... 35.1 -- 26.0 61.1
1994 change in
reserve............... (28.0) 10.4 (.5) (18.1)
------------- ----------- ------- ------
Balance at 12/31/94..... $ 7.1 $10.4 $ 25.5 $ 43.0
============ ========== ============ ======
</TABLE>

In addition to the reserve, KILICO's provision for real estate-related losses
(on assets held at the respective period end) included cumulative write-downs
(both by KILICO and including KILICO's share of write-downs by joint ventures)
totaling $96.6 million at December 31, 1994 and $88.3 million at December 31,
1993. The 1994 decrease in reserves was primarily due to write-downs which
increased in 1994 as reserves for general real estate risks were allocated to
certain specific loans and equity investments in real estate, particularly with
respect to investments in land (including the Spanish projects). In 1993,
KILICO's real estate reserve and write-downs reflected declining valuations in
KILICO's real estate portfolio, offset in part by the positive effects of
recourse to, and subordination of loans held by, affiliated non-life realty
companies. The declining valuations in 1993 reflected KILICO's view, based on
economic data then available, that there will be slower than previously
anticipated economic growth in the future and therefore slower absorption of
real estate, particularly undeveloped land. Due to KILICO's assessment for
slower economic growth, its plans with respect to certain projects were changed
to reflect deferrals of their commencement or completion.

38
<PAGE> 42

REAL ESTATE OUTLOOK

KILICO's real estate experience could continue to be adversely affected by
overbuilding and weak economic conditions in certain real estate markets and by
fairly restrictive lending practices by banks and other lenders. Stagnant or
worsening economic conditions in the areas in which KILICO has made loans, or
additional adverse information becoming known to KILICO through its regular
reviews or otherwise, could result in higher levels of problem loans or
potential problem loans, reductions in the value of real estate collateral and
adjustments to the real estate reserve. KILICO's net income and stockholder's
equity could be materially reduced in future periods if real estate market
conditions remain stagnant or worsen in areas where KILICO's portfolio is
located.

Current conditions in the real estate markets have been adversely affecting the
financial resources of certain of KILICO's joint venture partners. Every
partner, however, remains active in the control of its respective joint
ventures. In evaluating a partner's ability to meet its financial commitments,
KILICO considers the amount of all applicable debt and the value of all
properties within that portion of KILICO's portfolio consisting of loans to and
investments in joint ventures with such partner.

The following table is a summary of KILICO's troubled real estate-related
investments:

TROUBLED REAL ESTATE-RELATED INVESTMENTS
(BEFORE RESERVES AND WRITE-DOWNS, EXCEPT FOR REAL ESTATE OWNED)
(in millions)

<TABLE>
<CAPTION>
DECEMBER 31
---------------------
1994 1993
------ ------
<S> <C> <C>
Potential problem loans(1)...................... $ 57.9 $ 20.2
Past due loans(2)............................... -- 2.8
Nonaccrual loans(3)............................. 274.6 563.6
Restructured loans (currently performing)(4).... 50.5 56.7
Real estate owned(5)............................ 57.3 55.1
------ ------
Total(6)(7)........................... $440.3 $698.4
====== ======
</TABLE>

- ---------------
(1) These are real estate-related investments where KILICO, based on known
information, has serious doubts about the borrowers' abilities to comply
with present repayment terms and which KILICO anticipates may go into
nonaccrual, past due or restructured status.
(2) Interest more than 90 days past due but not on nonaccrual status.
(3) KILICO does not accrue interest on real estate-related investments when it
judges that the likelihood of collection of interest is doubtful. The 1994
decrease in nonaccrual loans primarily reflected sales and foreclosures as
well as write-offs of certain fully reserved loans.
(4) KILICO defines a "restructuring" of debt as an event whereby KILICO, for
economic or legal reasons related to the debtor's financial difficulties,
grants a concession to the debtor it would not otherwise consider. Such
concessions either stem from an agreement between KILICO and the debtor or
are imposed by law or a court. By this definition, restructured loans do not
include any loan that, upon the expiration of its term, both repays its
principal and pays interest then due from the proceeds of a new loan that
KILICO, at its option, may extend (roll over).
(5) Real estate owned is carried at fair value and includes deeds in lieu of
foreclosure and certain purchased property. Cumulative write-downs to fair
value were $67.5 million and $20.6 million at December 31, 1994 and 1993,
respectively.
(6) Total reserves and cumulative write-downs on properties owned at December
31, 1994 (excluding fair value adjustments to real estate owned) were 16.4
percent of total troubled real estate-related investments and 7.4 percent of
KILICO's total real estate portfolio before reserves and write-downs.
(7) Equity investments in real estate are not defined as part of, and therefore
are not taken into account in calculating, total troubled real estate.
KILICO's equity investments also involve real estate risks. See "Real estate
concentrations" above.

Based on the level of troubled real estate-related investments KILICO
experienced in 1994 and 1993, KILICO anticipates additional foreclosures and
deeds in lieu of foreclosure in 1995 and beyond. Any consolidation accounting
resulting from foreclosures would add the related ventures' assets and senior
third-party liabilities to KILICO's balance sheet and eliminate KILICO's loans
to such ventures.

Due to the adverse real estate environment affecting KILICO's portfolio in
recent years, KILICO has continued to devote significant attention to its real
estate portfolio, enhancing monitoring of the portfolio and formulating

39
<PAGE> 43

specific action plans addressing nonperforming and potential problem credits.
Since 1991, KILICO has intensified its attention to evaluating the asset
quality, cash flow and prospects associated with each of its projects. KILICO
continues to analyze various potential transactions designed to reduce both its
joint venture operating losses and the amount of its real estate-related
investments. Specific types of transactions under consideration (and previously
utilized) include loan sales, property sales, mortgage refinancings and real
estate investment trusts. However, there can be no assurance that such efforts
will result in continued improvements in the performance of KILICO's real estate
portfolio.

NET INVESTMENT INCOME

KILICO's pre-tax net investment income totaled $353.1 million in 1994, compared
with $339.3 million in 1993 and $404.8 million in 1992. Included in pre-tax net
investment income is KILICO's share of the operating losses from equity
investments in real estate. KILICO's share of real estate operating losses
(excluding write-downs) totaled $1.4 million, $8.6 million and $10.0 million in
1994, 1993 and 1992, respectively. The pre-tax operating results consist of
rental and other income less depreciation, interest and other expenses. Such
operating results exclude interest expense on loans by KILICO which are on
nonaccrual status.

KILICO's total foregone investment income before tax on both nonperforming fixed
maturity investments and nonaccrual real estate-related investments was as
follows:

FOREGONE INVESTMENT INCOME
(dollars in millions)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------
1994 1993 1992
----- ----- -----
<S> <C> <C> <C>
Fixed maturities............................ $ -- $ 8.6 $23.3
Real estate-related investments............. 28.4 32.2 17.0
----- ----- -----
Total................................ $28.4 $40.8 $40.3
===== ===== =====
Basis points................................ 55 78 78
===== ===== =====
</TABLE>

Foregone investment income from the nonaccrual of real estate-related
investments is net of KILICO's share of interest expense on these loans excluded
from KILICO's share of joint venture operating results. Based on the level of
nonaccrual real estate-related investments at December 31, 1994, KILICO
estimates foregone investment income in 1995 will decrease slightly compared
with the 1994 level. Any nonperforming securities, and either worsening or
stagnant real estate conditions, would increase the expected adverse effect on
KILICO's future investment income and realized investment results.

Future net investment income, results of operations and cash flow will reflect
KILICO's current levels of investments in investment-grade securities, real
estate fundings treated as equity investments, nonaccrual real estate loans and
joint venture operating losses. KILICO expects, however, that any adverse
effects should be offset to some extent by certain advantages that it expects to
realize over time from its other investment strategies, its product mix and its
continuing cost-control measures. Other mitigating factors include marketing
advantages that could result from KILICO having lower levels of investment risk
and earnings improvements from KILICO's ability to adjust crediting rates on
annuities and interest-sensitive life products over time.

REALIZED INVESTMENT RESULTS

Reflected in net income are after-tax realized investment losses of $35.5
million, $19.7 million and $62.2 million for 1994, 1993 and 1992, respectively.
(See the note captioned "Invested Assets and Related Income" of the Notes to
Consolidated Financial Statements.) Real estate-related losses declined in 1994
because certain real estate markets began to stabilize and because of the
subordinated nature of loans purchased from KILICO and held by affiliated realty
companies. The 1994 realized investment losses on bonds were primarily generated
by KILICO's third-quarter repositioning of its fixed maturity portfolio, which
resulted in an after-tax loss of approximately $16.5 million. The $306.9 million
of proceeds from the repositioning, along with $275.0 million of cash and
short-term investments, were reinvested primarily in higher yielding U.S.
government guaranteed mortgage pass-through

40
<PAGE> 44

securities. Fixed maturity write-downs were insignificant in 1994 due to the
increased quality of KILICO's fixed maturity portfolio.

Unrealized gains and losses on fixed maturity investments are not reflected in
KILICO's net income. These changes in unrealized value are included within a
separate component of stockholder's equity, net of any applicable income taxes.
If and to the extent a fixed maturity investment suffers an other-than-temporary
decline in value, however, such security is written down to net realizable
value, and the write-down adversely impacts net income.

KILICO regularly monitors its investment portfolio and as part of this process
reviews its assets for possible impairments of carrying value. Because the
review process includes estimates, there can be no assurance that current
estimates will prove accurate over time due to changing economic conditions and
other factors.

A valuation allowance was established upon adoption of SFAS 109 (and is
evaluated as of each reported period end) to reduce the deferred tax asset for
investment losses to the amount that, based upon available evidence, is in
management's judgment more likely than not to be realized. (See the note
captioned "Income Taxes" of the Notes to Consolidated Financial Statements.)

INTEREST RATES

Interest rate fluctuations affect KILICO. The 1993 interest rate environment was
characterized by very low short-term rates and a steeply sloped yield curve
while 1994 saw rapidly rising short-term interest rates which resulted in a much
flatter yield curve as the Federal Reserve Board raised rates five times during
the year.

When maturing or sold investments are reinvested at lower yields in a low
interest rate environment, KILICO can adjust its crediting rates on fixed
annuities and other interest-bearing liabilities. However, competitive
conditions and contractual commitments do not always permit the reduction in
crediting rates to fully or immediately reflect reductions in investment yield,
which can result in narrower spreads.

The lower interest rate environment contributed both to a reduction in KILICO's
net investment income in 1993 and 1992, and as interest rates rose during 1994,
to both realized and unrealized fixed maturity investment losses in 1994. Also,
lower renewal crediting rates on annuities, compared with higher new money
crediting rates, have influenced certain clients to seek alternative products.
KILICO mitigates this risk somewhat by charging decreasing surrender fees when
annuity holders withdraw funds prior to maturity on certain annuity products.
Approximately one-half of KILICO's fixed annuity liabilities as of December 31,
1994, however, were no longer subject to significant surrender fees.

As interest rates rose during 1994, KILICO's capital resources were adversely
impacted by unrealized loss positions in its fixed maturity investments. KILICO
believes, however, that this decline in value should be offset by a decrease in
the present value of KILICO's policy liabilities and that its sales of
fixed-rate annuity products could increase in a rising interest rate
environment.

LIQUIDITY AND CAPITAL RESOURCES

KILICO carefully monitors cash and short-term investments to maintain adequate
balances for timely payment of claims, expenses, taxes and customers' account
balances. In addition, regulatory authorities establish minimum liquidity and
capital standards. The major ongoing sources of KILICO's liquidity are deposits
for fixed annuities and interest-sensitive life contracts, investment income,
other operating revenue and cash provided from maturing or sold investments.
(See "INVESTMENTS" above.)

Policyholder deposits decreased to $215.0 million during 1994 from $246.2
million during 1993, and policyholder withdrawals increased to $652.5 million
during 1994 from $516.3 million during 1993, primarily due to planned reductions
in crediting rates on general account annuities as well as increased
competition. KILICO's late 1994 increases in crediting rates are designed to
produce new policyholder deposits and to reduce future withdrawals.

STOCKHOLDER'S EQUITY

Stockholder's equity totaled $434.0 million at December 31, 1994, compared with
$654.6 million and $488.7 million at December 31, 1993 and 1992, respectively.
The 1994 and 1993 changes in stockholder's equity were due primarily to capital
contributions of $82.5 million and $90.0 million in 1994 and 1993, respectively,
an increase in unrealized depreciation of investments of $329.5 million in 1994
and unrealized appreciation of $53.2 million in 1993, and net income of $26.4
million and $14.0 million in 1994 and 1993, respectively.

41
<PAGE> 45

KILICO MANAGEMENT

The following are the principal officers and directors of KILICO:

John H. Fitzpatrick (38)..... Senior Vice President Executive Vice President since May,
and Chief Financial 1993 and Chief Financial Officer
Officer 1994 and since May 1990 of Kemper Corporation;
Director 1992 prior thereto, Senior Vice President
until May 1993 from May 1990; prior
thereto, Vice President of Kemper
Corporation; also Executive Vice
President and Chief Financial Officer
of Kemper Financial Companies, Inc.
since January 1994.

James R. Boris (50).......... Director 1993 Executive Vice President of Kemper
Corporation from January 1994.
Director of Federal Kemper Life
Assurance Company since January 1993.
Executive Vice President of Kemper
Financial Companies, Inc. since March
1990. Chairman of the Board and Chief
Executive Officer of both Kemper
Securities Holdings, Inc. and Kemper
Securities, Inc. since August 1990.
Chairman of the Board and Chief
Executive Officer of INVEST Financial
Corporation from May 1989 to July
1991.

David B. Mathis (57)......... Director 1990 Chairman of the Board and Chief
Executive Officer of Kemper
Corporation from February 1992; prior
thereto, President from May 1990 to
September 1992, Chief Operating
Officer from May 1990 to February
1992; prior thereto, Executive Vice
President from May 1989 of Kemper
Corporation. Chairman of the Board
and Chief Executive Officer of Kemper
Reinsurance Company until March 1990;
Vice President of Lumbermens until
May 1989.
</TABLE>

42
<PAGE> 46

<TABLE>
<CAPTION>
POSITION WITH KILICO OTHER BUSINESS EXPERIENCE DURING
NAME AND AGE YEAR OF ELECTION PAST 5 YEARS OR MORE
----------------------------- -------------------------- -------------------------------------
<S> <C> <C>
Stephen B. Timbers (50)...... Director 1989 President and Chief Operating Officer
of Kemper Corporation since September
1992; prior thereto, Chief Investment
Officer until May 1993 from May 1991;
also Chairman, Chief Executive
Officer and Chief Investment Officer
of Kemper Financial Services, Inc.
from February 1995; prior thereto,
Chief Investment Officer until May
1993 from May 1990; prior thereto,
Executive Vice President and Chief
Investment Officer.
Debra P. Rezabek (39)........ Vice President 1995 and Vice President since 1995, General
General Counsel, Director Counsel, Director of Government
of Government Affairs and Affairs since 1992, Assistant General
Assistant Secretary 1992 Counsel 1988- 1992, Federal Kemper
Life Assurance Company and Fidelity
Life Association.
Jerome J. Cwiok (47)......... Executive Vice President Senior Vice President of KILICO 1993-
1995 1995; Executive Vice President since
1995, Senior Vice President
1993-1995, Vice President 1993,
Federal Kemper Life Assurance Company
and Fidelity Life Association.
Executive Vice President from 1986-
1993 of Academy Insurance Group, At-
lanta, Georgia.
Eliane C. Frye (46).......... Executive Vice President Senior Vice President of KILICO 1992-
1995 1995; Executive Vice President since
1995, Senior Vice President
1993-1995, Vice President 1988-1993,
Federal Kemper Life Assurance Company
and Fidelity Life Association.
</TABLE>

43
<PAGE> 47

EXECUTIVE COMPENSATION

The compensation, for the last three completed fiscal years, of the Chief
Executive Officer and the most highly compensated executive officers other than
the Chief Executive Officer with compensation in excess of $100,000 is
summarized in the tables below. The executive officers listed also serve as
officers of one or more affiliated companies of KILICO. Allocations have been
made as to each individual's time devoted to duties as an executive officer of
KILICO.

TABLE I
SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>
LONG TERM
COMPENSATION
ANNUAL COMPENSATION AWARDS
------------------------------------------------------------------
(A) (B) (C) (D) (E) (F) (G)
OTHER RESTRICTED OP-
ANNUAL STOCK TIONS/ ALL OTHER
NAME AND COMPENSATION AWARD(S) SARS COMPENSATION
PRINCIPAL POSITION YEAR SALARY ($) BONUS ($) ($)(2) ($)(3) (#)(4) ($)(5)
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
John B. Scott.................... 1994 163,200 160,800 396,801 125,280 16,080 256,915
Chairman of the Board and 1993 153,600 129,600 11,492 80,730 6,720 21,204
Chief Executive Officer(1) 1992 77,915 26,250 5,347 70,875 2,625 12,233
Jerome J. Cwiok 1994 84,896 59,000 113,926 40,600 2,000 9,922
Executive Vice President(1)
Eliane C. Frye 1994 73,800 58,560 57,525 38,976 1,920 57,913
Executive Vice President(1)
</TABLE>

- ---------------
(1) Also served in same positions for Federal Kemper Life Assurance Company
("FKLA") an affiliate of KILICO and Fidelity Life Association ("FLA"), a
mutual insurance company under common management with Kemper and its
affiliates. An allocation as to time devoted to duties as executive officer
of KILICO has been made. All Compensation items reflect the allocation.
Restricted Stock Award and Options received for years prior to 1992 related
to service for FKLA.

(2) The amounts disclosed in this column include:

(a) Amounts paid as non-preferential dividend equivalents on shares of
restricted stock.

(b) The cash value of shares of Kemper common stock when awarded under the
Kemper Corporation Anniversary Award Plan. Employees are awarded shares on
an increasing scale beginning with their 10th year of employment and every
5 years thereafter, with a pro rata award at retirement.

(d) Relocation expense reimbursements of $109,760 for Mr. Cwiok.

(e) Compensation income reported in 1994 of $384,822 for Mr. Scott and
$55,974 for Ms. Frye, based on the market value on the vesting date of
restricted stock awarded under Kemper Corporation long-term incentive
plans.

(3) The values shown are based on the closing price for Kemper's common stock on
the date any restricted stock was awarded applied to the number of award
shares. A five-year restriction period on transfers or other dispositions
applied to all awards of restricted stock when made. All shares reflected in
the table which were awarded in 1992 vested in full in connection with the
approval in 1994 of a merger agreement among Kemper, Conseco, Inc.
("Conseco") and a wholly owned subsidiary of Conseco (the "Conseco Merger
Agreement"). The Conseco Merger Agreement was terminated, with the mutual
consent of the parties, in November 1994.

In June 1994, Mr. Scott vested in an aggregate 10,700 shares and Ms. Frye in
an aggregate 1,900 shares. Mr. Scott earlier vested in 4,000 shares awarded
in January 1989. Until the shares of restricted stock granted in 1992 or
earlier vested, dividend equivalents, calculated based on the amount of the
per share dividend declared and paid on Kemper's outstanding common stock,
were paid as additional compensation income to the named individuals when
dividends were paid to Kemper's stockholders.

44
<PAGE> 48

Due to the June 1994 vesting of all outstanding shares of restricted stock
granted in 1992 or earlier and the cancellation of shares awarded in 1993
and 1994, no shares of restricted stock were held by any of the named
executive officers at December 31, 1994.

(4) Options were granted under Kemper stock option plans maintained for selected
officers and employees of Kemper and its subsidiaries.

(5) The amounts in this column include:

(a) The amounts of employer contributions allocated to the accounts of the
named persons under profit sharing plans or under supplemental plans
maintained to provide benefits in excess of applicable ERISA limitations.

(b) Distributions from the Kemper and FKLA supplemental plans. These
supplemental plans provided for an accelerated lump sum distribution of
vested amounts credited to the plans which were attributable to their
underlying profit sharing plans upon a "change of control". The approval of
the Conseco Merger Agreement in June 1994 constituted such a "change of
control" under these plans.

(c) Amounts representing a portion of the executives' income tax payments
arising from the June 1994 vesting of shares of restricted stock due to the
approval of the Conseco Merger Agreement. The Committee on Compensation and
Organization of the Kemper Board of Directors (the "Committee") authorized
such payments to 16 senior executives who were either precluded under
pertinent securities law limitations or discouraged as a matter of
appearance from subsequently selling their vested shares of restricted
stock prior to the closing of the then-planned Conseco merger transaction.
The executives' tax liabilities were based on the $61.375 fair market value
of the restricted stock on the vesting date. Kemper's payments to the
executives were derived from a formula based on certain relative stock
values but approximated one-third of the executives' total income tax
liabilities from the imputed income on vesting. Mr. Scott and Ms. Frye
received $96,318 and $17,103, respectively, under this tax liability
payment arrangement.

(6) Pursuant to the Conseco Merger Agreement, the restricted stock awards for
1993 and 1994 were cancelled. To replace these awards, on June 30, 1994, the
Committee, under the Kemper Corporation Bonus Restoration Plan and in its
sole discretion, granted cash awards to the named executive officers and
other affected executives entitling each of them to receive an amount in
cash immediately prior to the effective time of the then-planned Conseco
merger equal to the product of the number of shares of restricted stock
previously granted to such individual under the 1993 Senior Executive
Long-Term Incentive Plan multiplied by the consideration payable in the
merger. As a result of the termination of the Conseco Merger Agreement, no
cash awards were paid pursuant to the Kemper Corporation Bonus Restoration
Plan.

In January 1995, the Board of Directors, upon the advice of the Committee,
approved the adoption of the Kemper Corporation 1995 Executive Incentive
Plan under which active employee holders of the previously cancelled shares
of restricted stock were granted phantom stock units by the Committee equal
to the number of shares cancelled plus an added amount representing 20
percent of the aggregate cancelled shares. The 20 percent supplement was
awarded in recognition of the imposition of new vesting periods on the
phantom awards (to the extent the restricted stock held prior to
cancellation would otherwise have vested in June 1994 had stockholder
approval of the affected restricted stock plan been obtained as earlier
anticipated).

The phantom stock units associated with cancelled shares of restricted stock
originally awarded in 1993, as supplemented, will vest on December 31, 1995
and entitle the holders to a cash payment (net of any required tax
withholding) determined by the value of Kemper's common stock based on an
average trading range to December 31, 1995, and those phantom stock units
associated with the cancelled restricted stock originally awarded in 1994
will similarly vest and be paid on December 31, 1996, subject to ongoing
employment to the respective vesting dates. Notwithstanding these vesting
provisions, the phantom stock units will earlier vest and entitle payment on
the consummation of a "change of control" of Kemper or on the date of
closing any divestiture transaction affecting a subsidiary or business unit
employing the holder, based on a then-applicable Kemper common stock value
and also subject to ongoing employment to the pertinent early vesting date.
Dividend equivalents are payable to holders of the phantom stock units as
compensation income when and as dividends are paid on Kemper's outstanding
common stock and the Executive Incentive Plan provides for standard
anti-dilution adjustments.

Phantom units awarded to the named executive officers subject to vesting
December 31, 1995 and December 31, 1996, respectively, were Mr. Scott 5,400
and 12,600 phantom units, Ms. Frye 1,680 and 1,680 phantom units and Mr.
Cwiok 0 and 1,680 phantom units respectively.

45
<PAGE> 49

TABLE II
OPTION/SAR GRANTS IN LAST FISCAL YEAR

<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
VALUE AT ASSUMED
ANNUAL RATES
OF STOCK PRICE
APPRECIATION FOR
INDIVIDUAL GRANTS OPTION TERM(4)
- -----------------------------------------------------------------------------------------------------------------------------------
(A) (B) (C) (D) (E) (F) (G)
% OF TOTAL
OPTIONS/
SARS
OPTIONS/ GRANTED TO
SARS EMPLOYEES EXERCISE OR
GRANTED IN FISCAL BASE PRICE EXPIRATION
NAME (#)(1) YEAR(2) ($/SH)(3) DATE 5% ($) 10% ($)
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
John B. Scott.................................. 16,080 1.2% $58.00 April 11, 2004 586,528 1,486,386
Jerome J. Cwiok................................ 2,000 .16% $58.00 April 11, 2004 72,952 184,874
Eliane C. Frye................................. 1,920 .15% $58.00 April 11, 2004 70,034 177,479
</TABLE>

- ---------------

(1) Each of the options reflected in the table, when granted, were subject to
installment vesting provisions whereby only a portion of the underlying
stock would become eligible for exercise on successive anniversaries of the
date of grant. Such options became exercisable in full, however, in
connection with the approval of the Conseco Merger Agreement in June 1994.

(2) Based on 1,255,437 shares, the total number of shares under options granted
in 1994 for all eligible employees of KILICO, Kemper Corporation and
eligible affiliates. This total includes 338,577 shares under options
granted on February 14, 1994 to employee holders of Kemper Financial
Companies, Inc. Debentures and 309,960 shares under options granted on April
11, 1994 to employees of Kemper Securities, Inc. under special incentive
award programs.

(3) The option exercise price assigned was the last sale price for Kemper
Corporation common stock on the date of the respective grants.

(4) The assumed annual rates of stock price appreciation are prescribed in the
registration rules and should not be construed to forecast any future
appreciation in the market price for Kemper's common stock.

(5) These options contain a "reload" feature which entitles an actively employed
optionee who, within the first eight years after the date the option was
granted, pays all or any portion of the exercise price of an option with
shares of Kemper common stock to receive a new non-qualified stock option to
purchase a number of shares equal to the number of shares of common stock
tendered in payment. The new option will have an exercise price equal to the
fair market value of the common stock on the date of such exercise by
payment in shares, and is only exercisable as long as the optionee continues
to hold the shares issued on exercise of the initial option. The new option
would vest in installments identical to those first applying to the option
exercised. In no event, however, can any new option granted under the
"reload" feature be exercised beyond the ten-year term of the initial option
exercised.

TABLE III
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR
AND FY-END OPTION/SAR VALUES

<TABLE>
<CAPTION>
(A) (B) (C) (D) (E)
NUMBER OF UNEXERCISED VALUE OF UNEXERCISED
OPTIONS/SARS AT IN-THE-MONEY OPTIONS/
FY-END (#) SARS AT FY-END ($)(1)
SHARES ACQUIRED ON
NAME EXERCISE (#) VALUE REALIZED ($) EXERCISABLE/UNEXERCISABLE EXERCISABLE/UNEXERCISABLE
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
John B. Scott(2)............ -- -- 101,325/0 $569,688/$0
Jerome J. Cwiok(2).......... -- -- 4,000/0 $0/$0
Eliane C. Frye(2)........... -- -- 20,272/0 $77,705/$0
</TABLE>

- ---------------

(1) Based on the last sale price of Kemper common stock of $37.875 at December
31, 1994 over the exercise price, if less.

(2) Includes options granted related to service for FKLA.

46
<PAGE> 50

RETIREMENT PLAN

The executive officers participated in the FKLA Retirement Plan (the "Retirement
Plan"), a qualified defined benefit plan, and FKLA's supplemental retirement
plan (the "SRP"), a nonqualified plan providing benefits in excess of ERISA
limitations. FKLA terminated the Retirement Plan and SRP effective December 14,
1994, and all benefit accruals ceased as of November 30, 1994. As of the
termination date and assuming no joint and survivor annuity election, Mr. Scott,
Mr. Cwiok and Ms. Frye qualified for annual benefits commencing at age 62
estimated at $109,929, $3,487 and $43,711, respectively. The annual benefits are
primarily related to service for FKLA.

COMPENSATION OF DIRECTORS

All of the directors of KILICO are also officers of KILICO and/or an affiliated
company of KILICO and do not receive additional compensation as director.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

The board of directors of KILICO does not establish a separate compensation
committee. Instead, the compensation committee of the board of directors of
Kemper Corporation establishes compensation for many of the employees of Kemper
subsidiaries including those individuals who serve on the board of directors of
KILICO. The members of the committee are Raymond F. Farley, George D. Kennedy
and John T. Chain Jr., all being outside directors on the board of directors of
Kemper Corporation.

TABLE OF CONTENTS--STATEMENT OF ADDITIONAL INFORMATION

The Statement of Additional Information, Table of Contents is: Services to the
Separate Account; Performance Information of Subaccounts; State Regulation;
Experts; Financial Statements; Independent Auditors' Report, Financial
Statements of the Separate Account. The Statement of Additional Information
should be read in conjunction with this Prospectus.

FINANCIAL STATEMENTS

The financial statements of KILICO that are included in this Prospectus should
be considered primarily as bearing on the ability of KILICO to meet its
obligations under the Certificates. The Certificates are not entitled to
participate in earnings, dividends or surplus of KILICO.

47
<PAGE> 51

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

The Board of Directors
Kemper Investors Life Insurance Company:

We have audited the consolidated balance sheet of Kemper Investors Life
Insurance Company and subsidiaries as of December 31, 1994 and 1993, and the
related consolidated statements of operations, stockholder's equity and cash
flows for each of the years in the three-year period ended December 31, 1994.
These consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Kemper Investors
Life Insurance Company and subsidiaries at December 31, 1994 and 1993, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1994, in conformity with generally accepted
accounting principles.

As discussed in the notes to the consolidated financial statements, effective
January 1, 1994, the Company changed its method of accounting for investment
securities to adopt the provisions of the Financial Accounting Standards Board's
Statement of Financial Accounting Standards ("SFAS") 115, Accounting for Certain
Investments in Debt and Equity Securities. Also, as discussed in the notes,
effective January 1, 1993, the Company changed its method of accounting for
impairment of loans receivable to adopt the provisions of SFAS 114, Accounting
by Creditors for Impairment of a Loan, and changed its method of accounting for
income taxes to adopt the provisions of SFAS 109, Accounting for Income Taxes.
Further, as discussed in the notes, the Company adopted the provisions of SFAS
106, Employers' Accounting for Postretirement Benefits Other than Pensions in
1992.

KPMG PEAT MARWICK LLP
Chicago, Illinois
March 3, 1995

48
<PAGE> 52

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEET
(in thousands, except share data)

<TABLE>
<CAPTION>
DECEMBER 31
---------------------------
1994 1993
---------- ----------
<S> <C> <C>
ASSETS
Fixed maturities, available for sale, at market (cost: 1994,
$3,707,356;
1993, $3,333,202)................................................. $3,463,732 $3,441,224
Equity securities, at market (cost: 1994, $14,947; 1993, $35,170)... 14,767 67,700
Short-term investments.............................................. 204,164 402,463
Joint venture mortgage loans........................................ 351,359 730,753
Third-party mortgage loans.......................................... 318,682 132,162
Other real estate-related investments............................... 237,242 291,489
Policy loans........................................................ 277,743 264,112
Other invested assets............................................... 25,760 43,267
---------- ----------
Total investments......................................... 4,893,449 5,373,170
Cash................................................................ 23,189 7,487
Accrued investment income........................................... 125,543 132,834
Deferred insurance acquisition costs................................ 310,465 288,097
Fixed assets, at cost less accumulated depreciation................. 3,735 6,413
Receivable for securities sold...................................... -- 26,631
Reinsurance recoverable............................................. 642,801 745,554
Other assets and receivables........................................ 29,914 34,058
Assets held in separate accounts.................................... 1,507,984 1,499,471
---------- ----------
Total assets.............................................. $7,537,080 $8,113,715
========== ==========
LIABILITIES
Future policy benefits.............................................. $4,843,690 $5,040,002
Ceded future policy benefits........................................ 642,801 745,554
Payable for securities purchased.................................... 574 43,758
Other accounts payable and liabilities.............................. 66,687 66,298
Deferred income taxes............................................... 41,364 64,045
Liabilities related to separate accounts............................ 1,507,984 1,499,471
---------- ----------
Total liabilities......................................... 7,103,100 7,459,128
---------- ----------
Commitments and contingent liabilities
STOCKHOLDER'S EQUITY
Capital stock--$10 par value,
authorized 300,000 shares; outstanding 250,000 shares............. 2,500 2,500
Additional paid-in capital.......................................... 491,994 409,423
Unrealized gain (loss) on investments............................... (236,443) 93,096
Retained earnings................................................... 175,929 149,568
---------- ----------
Total stockholder's equity................................ 433,980 654,587
---------- ----------
Total liabilities and stockholder's equity................ $7,537,080 $8,113,715
========== ==========
</TABLE>

See accompanying notes to consolidated financial statements.

49
<PAGE> 53

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF OPERATIONS
(in thousands)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------------
1994 1993 1992
--------- --------- ---------
<S> <C> <C> <C>
REVENUE
Net investment income...................................... $ 353,084 $ 339,274 $ 404,758
Realized investment losses................................. (54,557) (27,584) (83,502)
Fees and other income...................................... 31,950 25,687 32,360
--------- --------- ---------
Total revenue.................................... 330,477 337,377 353,616
--------- --------- ---------
BENEFITS AND EXPENSES
Benefits and interest credited to policyholders............ 248,494 275,689 348,555
Commissions, taxes, licenses and fees...................... 26,910 33,875 49,309
Operating expenses......................................... 25,324 24,383 38,617
Deferral of insurance acquisition costs.................... (31,852) (31,781) (46,649)
Amortization of insurance acquisition costs................ 20,809 12,376 29,119
--------- --------- ---------
Total benefits and expenses...................... 289,685 314,542 418,951
--------- --------- ---------
Income (loss) before income tax expense (benefit) and
cumulative effect of changes in accounting principles.... 40,792 22,835 (65,335)
Income tax expense (benefit)............................... 14,431 11,142 (13,730)
--------- --------- ---------
Income (loss) before cumulative effect of changes
in accounting principles....................... 26,361 11,693 (51,605)
Cumulative effect of changes in accounting principles, net
of tax................................................... -- 2,350 (281)
--------- --------- ---------
Net income (loss)................................ $ 26,361 $ 14,043 $ (51,886)
======== ======== ========
</TABLE>

See accompanying notes to consolidated financial statements.

50
<PAGE> 54

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY
(in thousands)

<TABLE>
<CAPTION>
1994 1993 1992
--------- --------- ---------
<S> <C> <C> <C>
CAPITAL STOCK, beginning and end of year................. $ 2,500 $ 2,500 $ 2,500
--------- --------- ---------

ADDITIONAL PAID-IN CAPITAL, beginning of year............ 409,423 310,237 280,237
Capital contributions from Parent........................ 82,500 90,000 30,000
Transfer of limited partnership interest to Parent....... 71 9,186 --
--------- --------- ---------
End of year.................................... 491,994 409,423 310,237
--------- --------- ---------

UNREALIZED GAIN (LOSS) ON INVESTMENTS, beginning of
year................................................... 93,096 39,872 (830)
Unrealized gain (loss) on revaluation of investments,
net.................................................... (329,539) 53,224 40,702
--------- --------- ---------
End of year.................................... (236,443) 93,096 39,872
--------- --------- ---------

RETAINED EARNINGS, beginning of year..................... 149,568 136,055 187,941
Net income (loss)........................................ 26,361 14,043 (51,886)
Dividend of limited partnership interest to Parent....... -- (530) --
--------- --------- ---------
End of year.................................... 175,929 149,568 136,055
--------- --------- ---------
Total stockholder's equity..................... $ 433,980 $ 654,587 $ 488,664
======== ======== ========
</TABLE>

See accompanying notes to consolidated financial statements.

51
<PAGE> 55

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(in thousands)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------------------
1994 1993 1992
----------- ----------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss)................................. $ 26,361 $ 14,043 $ (51,886)
Reconcilement of net income (loss) to net cash
provided:
Realized investment losses..................... 54,557 27,584 83,502
Interest credited and other charges............ 242,591 269,766 343,788
Deferred insurance acquisition costs........... (11,043) (19,405) (17,529)
Amortization of discount and premium on
investments.................................. (1,383) (203) (4,699)
Deferred income taxes.......................... 20,809 14,596 16,599
Other, net..................................... (13,352) 30,148 (33,740)
----------- ----------- -----------
Net cash provided from operating
activities.............................. 318,540 336,529 336,035
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Cash from investments sold or matured:
Fixed maturities held to maturity.............. 144,717 187,949 96,588
Fixed maturities sold prior to maturity........ 910,913 1,652,119 2,939,784
Mortgage loans, policy loans and other invested
assets....................................... 536,668 881,505 557,237
Cost of investments purchased or loans originated:
Fixed maturities............................... (1,447,393) (2,322,085) (3,456,016)
Mortgage loans, policy loans and other invested
assets....................................... (281,059) (443,445) (326,899)
Short-term investments, net....................... 198,299 (214,999) 474,280
Net change in receivable and payable for
securities transactions........................ (16,553) 39,078 (70,088)
Net reductions in fixed assets.................... 2,678 8,062 2,667
----------- ----------- -----------
Net cash provided by (used in) investing
activities.............................. 48,270 (211,816) 217,553
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Policyholder account balances:
Deposits....................................... 215,034 246,219 440,576
Withdrawals.................................... (652,513) (516,340) (498,287)
Capital contributions from Parent................. 82,500 90,000 30,000
Reinsured life reserves........................... -- -- (515,684)
Other............................................. 3,871 16,776 7,934
----------- ----------- -----------
Net cash used in financing activities..... (351,108) (163,345) (535,461)
----------- ----------- -----------
Net increase (decrease) in cash...... 15,702 (38,632) 18,127
CASH, beginning of period........................... 7,487 46,119 27,992
----------- ----------- -----------
CASH, end of period................................. $ 23,189 $ 7,487 $ 46,119
=========== =========== ===========
</TABLE>

See accompanying notes to consolidated financial statements.

52
<PAGE> 56

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of presentation

Kemper Investors Life Insurance Company and subsidiaries (the "Company") issues
fixed and variable annuity products and interest-sensitive life insurance
products marketed primarily through a network of financial institutions,
nonaffiliated and affiliated securities brokerage firms, insurance agents and
financial planners. The Company is a wholly-owned subsidiary of Kemper Financial
Companies, Inc. ("KFC"), which in turn is a holding company formed by Kemper
Corporation ("Kemper"), the Company's ultimate parent.

The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles. The statements include the accounts of
the Company on a consolidated basis. All significant intercompany balances and
transactions have been eliminated.

Life insurance revenue and expenses

Revenue for annuities and interest-sensitive life products consists of
investment income, and policy charges such as mortality, expense and surrender
charges. Expenses consist of benefits and interest credited to contracts, policy
maintenance costs and amortization of deferred insurance acquisition costs. Also
reflected in fees and other income are ceding commissions received as a result
of certain reinsurance transactions entered into by the Company during 1992.
(See the note captioned "Reinsurance" on page 64.)

Deferred insurance acquisition costs

The costs of acquiring new business, principally commission expense and certain
policy issuance and underwriting expenses, have been deferred to the extent they
are recoverable from estimated future gross profits on the related contracts and
policies. The deferred insurance acquisition costs for annuities, separate
account business and interest-sensitive life products are being amortized over
the estimated contract life in relation to the present value of estimated gross
profits. Beginning in 1994, deferred insurance acquisition costs reflect the
estimated impact of unrealized gains or losses on fixed maturities held as
available for sale in the investment portfolio, through a credit or charge to
stockholder's equity, net of income tax.

Future policy benefits

Liabilities for future policy benefits related to annuities and
interest-sensitive life contracts reflect net premiums received plus interest
credited during the contract accumulation period and the present value of future
payments for contracts that have annuitized. Current interest rates credited
during the contract accumulation period range from 4 percent to 8.75 percent.
Future minimum guaranteed interest rates vary from 4 percent to 8.75 percent for
periods ranging from a portion of 1995 up to a portion of 1999 and are generally
3 percent to 4.5 percent thereafter. For contracts that have annuitized,
interest rates that are used in determining the present value of future payments
range principally from 3 percent to 11.25 percent.

Invested assets and related income

Investments in fixed maturities (bonds and redeemable preferred stocks) are
carried at market value at December 31, 1994 and 1993, as they are currently
considered available for sale. Short-term investments are carried at cost, which
approximates market value. Equity securities of nonrelated companies are
generally carried at market value using the closing prices as of the balance
sheet date derived from either a major securities exchange or the National
Association of Securities Dealers Automated Quotations system.

Mortgage loans are carried at their unpaid balance net of unamortized discount
and any applicable reserve. Other real estate-related investments net of any
applicable reserve and write-downs include certain bonds issued by real estate
finance or development companies; notes receivable from real estate ventures;
investments in real estate ventures carried at cost, adjusted for the equity in
the operating income or loss of such ventures; and real estate owned carried
primarily at fair value.

The Company evaluates its real estate-related assets (including accrued
interest) by estimating the probabilities of loss utilizing various projections
that include several factors relating to the borrower, property, term of the
loan,

53
<PAGE> 57

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

tenant composition, rental rates, other supply and demand factors and overall
economic conditions. Real estate reserves are established when declines in
collateral values, estimated in light of current economic conditions and
calculated in conformity with Statement of Financial Accounting Standards
("SFAS") 114, indicate a likelihood of loss. Generally, the reserve is based
upon the excess of the loan amount over the estimated future cash flows from the
loan discounted at the loan's contractual rate of interest taking into
consideration the effects of recourse to, and subordination of loans held by,
affiliated non-life realty companies. Changes in the Company's real estate
reserves and write-downs are included in revenue as realized investment gain or
loss. (See "Real estate-related investments" on page 10.)

The Company adopted SFAS 114, Accounting by Creditors for Impairment of a Loan,
in the fourth quarter of 1993. SFAS 114 defines "impaired loans" as loans in
which it is probable that a creditor will be unable to collect all amounts due
according to the contractual terms of the loan agreement. In the fourth quarter
of 1994, the Company adopted SFAS 118, Accounting by Creditors for Impairment of
a Loan--Income Recognition and Disclosures. SFAS 118 amends SFAS 114, providing
clarification of income recognition issues and requiring additional disclosures
relating to impaired loans. The adoption of SFAS 118 had no effect on the
Company's financial position or results of operations at or for the year ended
December 31, 1994.

At December 31, 1994 and 1993, total impaired loans amounted to $75.9 million
and $179.4 million, respectively. Impaired loans with reserves were $67.6
million and $91.9 million with corresponding reserves of $18.8 million and $38.5
million at December 31, 1994 and 1993, respectively. In determining reserves
relative to impaired loans, the Company also considered the deficit in equity
investments in real estate of $2.0 million and $35.0 million at December 31,
1994 and 1993, respectively. (See the real estate reserve table on page 38.)

The Company had an average balance of $93.9 million and $158.0 million in
impaired loans for 1994 and 1993, respectively. Cash payments received on
impaired loans are generally applied to reduce the outstanding loan balance. At
December 31, 1994 and 1993, loans on nonaccrual status amounted to $274.6
million and $563.6 million, respectively. Impaired loans are generally included
in the Company's nonaccrual loans. The additional amount of nonaccrual loans in
excess of impaired loans represents the Company's consideration of market risks
associated with the real estate loan portfolio.

Upon adoption of SFAS 114, the Company determined that its previous disclosures
relating to impaired loans and recorded real estate reserves were adequate. As
such, restating prior quarters' operating results for the impact of SFAS 114 was
not considered necessary.

Policy loans are carried at their unpaid balance. Other invested assets consist
primarily of venture capital and a leveraged lease and are carried at cost.

Realized gains or losses on sales of investments, determined on the basis of
identifiable cost on the disposition of the respective investment, recognition
of other-than-temporary declines in value and changes in real estate-related
reserves and write-downs are included in revenue. Unrealized gains or losses on
revaluation of investments are credited or charged to stockholder's equity net
of deferred income tax.

The amortized cost of fixed maturities is adjusted for amortization of premiums
and accretion of discounts to maturity, or in the case of mortgage-backed
securities, over the estimated life of the security. Such amortization is
included in net interest income. Amortization of the discount or premium from
mortgage-backed securities is recognized using a level effective yield method
which considers the estimated timing and amount of prepayments of the underlying
mortgage loans and is adjusted to reflect differences which arise between the
prepayments originally anticipated and the actual prepayments received and
currently anticipated. To the extent that the estimated lives of mortgage-backed
securities change as a result of changes in prepayment rates, the adjustment is
also included in net investment income. The Company does not accrue interest
income on fixed maturities deemed to be impaired on an other-than-temporary
basis, or on mortgage loans, real estate-related bonds and other real estate
loans where the likelihood of collection of interest is doubtful.

54
<PAGE> 58

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Separate account business

The assets and liabilities of the separate accounts represent segregated funds
administered and invested by the Company for purposes of funding variable
annuity and variable life insurance contracts for the exclusive benefit of
variable annuity and variable life insurance contract holders. The Company
receives administrative fees from the separate account and retains varying
amounts of withdrawal charges to cover expenses in the event of early
withdrawals by contract holders. The assets and liabilities of the separate
accounts are carried at market value.

Income tax

The operations of the Company are included in the consolidated federal income
tax return of Kemper. Income taxes receivable or payable are determined on a
separate return basis, and payments are received from or remitted to Kemper
pursuant to a tax allocation arrangement between Kemper and its subsidiaries,
including the Company. The Company generally receives a tax benefit for losses
to the extent such losses can be utilized in Kemper's consolidated tax return.

Upon adoption of SFAS 109, Accounting for Income Taxes, effective January 1,
1993, deferred taxes are provided on the temporary differences between the tax
and financial statement basis of assets and liabilities. Deferred income tax
previously was provided on the tax effects of timing differences between
financial statement and taxable income.

Fixed assets

Fixed assets, consisting primarily of electronic data processing equipment, are
recorded at cost and are depreciated over the useful lives of the assets on a
straight-line method. At December 31, 1994 and 1993, the accumulated
depreciation on fixed assets was $20.8 million and $21.6 million, respectively.

Other

Certain reclassifications have been made in the consolidated financial
statements for the years 1993 and 1992 to conform to 1994 reporting.

(2) CASH FLOW INFORMATION

The Company defines cash as cash in banks and money market accounts. Federal
income tax paid to (refunded by) Kemper under the tax allocation arrangement for
the years ended December 31, 1994, 1993 and 1992 amounted to $(10.7) million,
$4.2 million and $7.8 million, respectively.

Not reflected in the statement of cash flows are rollovers of mortgage loans,
other loans and investments totaling $57 million, $146 million and $229 million
in 1994, 1993 and 1992, respectively.

Reflected in the statement of cash flows is the 1992 sale of $515.7 million of
reinsured life reserves for which the Company delivered an investment portfolio
that included $151.4 million of mortgage loans, $294.8 million of fixed
maturities and $69.5 million of other investments.

The Company also transferred its equity ownership interests in two limited
partnerships during 1994 and 1993. (See the note captioned "Related-Party
Transactions" on page 63.)

55
<PAGE> 59

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(3) INVESTED ASSETS AND RELATED INCOME

Fixed maturities are considered available for sale, depending upon certain
economic and business conditions. The Company is carrying its fixed maturity
investment portfolio at estimated market value, with the aggregate unrealized
appreciation or depreciation being recorded as a separate component of
stockholder's equity net of any applicable income tax effect. The carrying value
(estimated market value) of fixed maturities compared with amortized cost,
adjusted for other-than-temporary declines in value, at December 31, 1994 and
1993, was as follows:

<TABLE>
<CAPTION>
ESTIMATED UNREALIZED
CARRYING AMORTIZED ---------------------
(in thousands) VALUE COST GAINS LOSSES
---------- ---------- -------- ---------
<S> <C> <C> <C> <C>
1994
U.S. treasury securities and obligations of U.S.
government agencies and authorities.............. $ 10,682 $ 10,998 $ 24 $ (340)
Obligations of states and political subdivisions,
special revenue and nonguaranteed................ 25,021 25,691 -- (670)
Debt securities issued by foreign governments...... 109,624 120,950 50 (11,376)
Corporate securities............................... 1,679,428 1,805,933 7,027 (133,532)
Mortgage-backed securities......................... 1,638,977 1,743,784 -- (104,807)
---------- ---------- -------- ---------
Total fixed maturities...................... $3,463,732 $3,707,356 $ 7,101 $(250,725)
========== ========== ======== =========

1993
U.S. treasury securities and obligations of U.S.
government agencies and authorities.............. $ 11,686 $ 11,464 $ 240 $ (18)
Obligations of states and political subdivisions,
special revenue and nonguaranteed................ 16,434 15,232 1,202 --
Debt securities issued by foreign governments...... 114,275 112,825 2,782 (1,332)
Corporate securities............................... 2,025,888 1,948,268 89,445 (11,825)
Mortgage-backed securities......................... 1,272,941 1,245,413 34,268 (6,740)
---------- ---------- -------- ---------
Total fixed maturities...................... $3,441,224 $3,333,202 $127,937 $ (19,915)
========== ========== ======== =========
</TABLE>

Upon default or indication of potential default by an issuer of fixed maturity
securities, the Company-owned issue(s) of such issuer would be placed on
nonaccrual status and, since declines in market value would no longer be
considered by the Company to be temporary, would be analyzed for possible
write-down. Any such issue would be written down to its net realizable value,
determined in the manner described in the following paragraph, during the fiscal
quarter in which the impairment was determined to have become other than
temporary, unless such net realizable value exceeded the Company's carrying
value for such issue. Thereafter, each issue on nonaccrual status is regularly
reviewed, and additional write-downs may be taken in light of later
developments.

The Company's computation of net realizable value involves judgments and
estimates, so such value should be used with care. Such value determination
considers such factors as the existence and value of any collateral security;
the capital structure of the issuer; the level of actual and expected market
interest rates; where the issue ranks in comparison with other debt of the
issuer; the economic and competitive environment of the issuer and its business;
the Company's view on the likelihood of success of any proposed issuer
restructuring plan; and the timing, type and amount of any restructured
securities that the Company anticipates it will receive.

The Company's $907 million real estate portfolio consists of joint venture and
third-party mortgage loans and other real estate-related investments. (See "Real
estate-related investments" on page 34.) At December 31, 1994, the Company had
$216.2 million of mortgage loans and other real estate-related investments (net
of reserves and write-downs) that were non-income producing for the preceding 12
months.

At December 31, 1994, securities carried at approximately $5.3 million were on
deposit with governmental agencies as required by law.

56
<PAGE> 60

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(3) INVESTED ASSETS AND RELATED INCOME (CONTINUED)
Proceeds from sales of investments in fixed maturities prior to maturity were
$910.9 million, $1.7 billion and $2.9 billion during 1994, 1993 and 1992,
respectively. Gross gains of $6.0 million, $80.4 million and $69.5 million and
gross losses of $55.9 million, $37.8 million and $101.7 million were realized on
sales of fixed maturities in 1994, 1993 and 1992, respectively. Gross unrealized
gains and losses on equity securities at December 31, 1994 amounted to $469
thousand and $649 thousand, respectively.

The following table sets forth the maturity aging schedule of fixed maturity
investments at December 31, 1994:

<TABLE>
<CAPTION>
CARRYING AMORTIZED
(in thousands) VALUE COST VALUE
---------- ----------
<S> <C> <C>
One year or less........................................................ $ 1,135 $ 1,135
Over one year through five.............................................. 346,841 357,697
Over five years through ten............................................. 1,011,526 1,088,547
Over ten years.......................................................... 465,253 516,193
Securities not due at a single maturity date(1)......................... 1,638,977 1,743,784
---------- ----------
Total fixed maturities........................................... $3,463,732 $3,707,356
========== ==========
</TABLE>

- ---------------
(1) Weighted average maturity of 7 years.

The sources of net investment income were as follows:

<TABLE>
<CAPTION>
(in thousands) 1994 1993 1992
-------- -------- --------
<S> <C> <C> <C>
Interest and dividends on fixed maturities.................. $274,231 $221,144 $210,047
Dividends on equity securities.............................. 1,751 3,084 2,061
Income from short-term investments.......................... 10,668 12,155 18,249
Income from mortgage loans.................................. 41,713 82,028 149,816
Income from policy loans.................................... 18,517 16,826 17,052
Income from other real estate-related investments........... 21,239 11,755 17,915
Income from other loans and investments..................... 3,533 8,008 2,580
-------- -------- --------
Total investment income.............................. 371,652 355,000 417,720
Investment expense.......................................... (18,568) (15,726) (12,962)
-------- -------- --------
Net investment income................................ $353,084 $339,274 $404,758
======== ======== ========
</TABLE>

57
<PAGE> 61

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(3) INVESTED ASSETS AND RELATED INCOME (CONTINUED)
Unrealized gains (losses) are computed below as follows: fixed maturities--the
difference between market and amortized cost, adjusted for other-than-temporary
declines in value; equity securities and other--the difference between market
value and cost. The realized and change in unrealized investment gains (losses)
by class of investment for the years ended December 31, 1994, 1993 and 1992 were
as follows:

<TABLE>
<CAPTION>
REALIZED GAINS (LOSSES)
------------------------------------------
(in thousands) 1994 1993 1992
-------- -------- --------
<S> <C> <C> <C>
Real estate-related.................................... $(41,720) $(79,652) $(94,995)
Fixed maturities....................................... (49,857) 36,234 11,150
Equity securities...................................... 28,243 17,086 109
Other.................................................. 8,777 (1,252) 234
-------- -------- --------
Realized investment losses before income tax
benefit........................................... (54,557) (27,584) (83,502)
Income tax benefit..................................... (19,095) (7,917) (21,256)
-------- -------- --------
Net realized investment losses....................... $(35,462) $(19,667) $(62,246)
======== ======== ========
</TABLE>

<TABLE>
<CAPTION>
CHANGE IN UNREALIZED GAINS (LOSSES)
------------------------------------------
(in thousands) 1994 1993 1992
--------- ------- --------
<S> <C> <C> <C>
Fixed maturities...................................... $(351,646) $60,258 $ 88,820
Equity securities..................................... (32,710) 19,882 14,882
Adjustment to deferred insurance acquisition costs.... 11,325 -- --
--------- ------- --------
Unrealized gain (loss) before income tax............ (373,031) 80,140 103,702
Income tax expense (benefit).......................... (43,492) 26,916 20,968
--------- ------- --------
Net unrealized gain (loss) on investments...... $(329,539) $53,224 $ 82,734
========= ======= ========
</TABLE>

(4) UNCONSOLIDATED INVESTEES

At December 31, 1994, KILICO, along with other Kemper subsidiaries, directly
held partnership interests in a number of real estate joint ventures. Also,
KILICO and Lumbermens Mutual Casualty Company ("Lumbermens") and certain
subsidiaries of Kemper and Lumbermens are partners in a master limited
partnership (the "MLP") formed, effective January 1, 1993, to hold the equity
interests each partner's organization separately held previously in joint
ventures with Peter B. Bedford or his affiliates ("Bedford"), and in January
1994, the MLP acquired substantially all of Bedford's interests in such joint
ventures. Kemper and Lumbermens each own 50 percent of the MLP.

The Company's direct and indirect real estate joint venture investments are
accounted for utilizing the equity method, with the Company recording its share
of the operating results of the respective partnerships. The Company, as an
equity owner, has the ability to fund, and historically has elected to fund,
operating requirements of certain of the joint ventures. Consolidation
accounting methods are not utilized as the Company, in most instances, does not
own more than 50 percent in the aggregate, and in any event, major decisions of
the partnership must be made jointly by all partners.

58
<PAGE> 62

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(4) UNCONSOLIDATED INVESTEES (CONTINUED)
Selected financial information, as of December 31, 1994 and 1993, is presented
below separately for the MLP, ventures with the Prime Group, Inc. or its
affiliates ("Prime"), and other real estate-related partnerships. (See the note
captioned "Concentration of Credit Risk" on page 60.) Such real estate-related
information for 1994 and 1993 was based on unaudited financial information
received by the Company from the respective entities.

SELECTED FINANCIAL INFORMATION
(in thousands)

<TABLE>
<CAPTION>
REAL ESTATE-RELATED
-------------------------------------------------------
PRIME-RELATED
-------------------------
MLP DOMESTIC SPANISH OTHER
VENTURES PARTNERSHIPS PROJECTS PARTNERSHIPS
---------- ------------ --------- ------------
<S> <C> <C> <C> <C>
1994
Revenue............................................ $ 104,827 $ 14,966 $ 22,095 $ 52,295
Expenses........................................... 192,492 18,881 45,256 49,011
---------- --------- --------- ---------
Operating income (loss)............................ (87,665) (3,915) (23,161) 3,284
Asset writedowns(1)................................ (23,536) (621) (102,031) (17,037)
---------- --------- --------- ---------
Net loss........................................... $ (111,201) $ (4,536) $(125,192) $(13,753)
========== ========= ========= =========
The Company's share of operating loss(1)........... $ (121) $ (1,140) $ -- $ (145)
========== ========= ========= =========
The Company's share of net loss(1)................. $ (156) $ (1,244) $ -- $ (4,915)
========== ========= ========= =========
Properties at cost, net of depreciation............ $ 879,352 $ 55,804 $ 338,923 $ 38,075
========== ========= ========= =========
Total assets....................................... $1,049,019 $ 77,751 $ 373,637 $153,785
========== ========= ========= =========
Mortgages, notes payable and related accrued
interest payable to:
The Company...................................... $ 207,909 $ 31,767 $ 36,606 $ 7,436
Kemper subsidiaries other than the Company....... 417,967 2,713 394,764 2,411
Lumbermens....................................... 181,325 -- 92,592 26,734
Fidelity Life Association........................ 46,036 -- -- --
Other third parties.............................. 411,795 42,048 98,076 51,303
Total liabilities.................................. $1,354,624 $ 82,770 $ 660,557 $110,334
========== ========= ========= =========
The Company's net equity investment(1)............. $ 1,953 $ (585) $ 36,624 $ 7,415
========== ========= ========= =========
</TABLE>

- ---------------
(1) Excluded from the Company's share of operating and net losses and related
net equity investment in real estate-related entities is interest expense
related to loans by the Company which are on nonaccrual status and write-
downs taken directly by the Company. Included in the Company's share of
current year results are immaterial prior year audit adjustments by the
respective entities.

Included in the immediately preceding and immediately following tables are real
estate loans to partnerships or corporations in which the Company and other
Kemper subsidiaries hold equity interests. At December 31, 1994, the Company had
other joint venture-related loans totaling $16.0 million before reserves, not
included in the table above, to partnerships in which the Company has options to
acquire equity interests or has made loans with additional interest features.
These joint venture-related loans totaled $38.5 million at December 31, 1993.
Also at December 31, 1994, the Company had joint venture-related loans totaling
$37.5 million before reserves, not included in the table above, to partnerships
in which Lumbermens and Fidelity Life Association, an affiliated mutual
insurance company ("FLA"), had equity interests. These joint venture-related
loans totaled $68.1 million before reserves at December 31, 1993. (See the note
captioned "Financial Instruments--Off-Balance-Sheet Risk" on page 66.)

59
<PAGE> 63

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(4) UNCONSOLIDATED INVESTEES (CONTINUED)

SELECTED FINANCIAL INFORMATION
(in thousands)

<TABLE>
<CAPTION>
REAL ESTATE-RELATED
---------------------------------------------------
PRIME-RELATED
-----------------------
MLP DOMESTIC SPANISH OTHER
VENTURES PARTNERSHIPS PROJECTS PARTNERSHIPS
---------- ------------ -------- ------------
<S> <C> <C> <C> <C>
1993
Revenue................................................ $ 101,694 $ 50,636 $ 36,607 $ 60,701
Expenses............................................... 226,282 65,824 76,449 66,978
---------- -------- -------- --------
Operating loss......................................... (124,588) (15,188) (39,842) (6,277)
Asset writedowns(1).................................... (107,135) -- (39,274) --
---------- -------- -------- --------
Net loss............................................... $ (231,723) $(15,188) $(79,116) $ (6,277)
========== ======== ======== ========
The Company's share of operating loss(1)............... $ (172) $ (7,548) $ -- $ (852)
========== ======== ======== ========
The Company's share of net loss(1)..................... $ (409) $ (7,548) $ -- $ (852)
========== ======== ======== ========
Properties at cost, net of depreciation................ $1,161,025 $278,635 $253,321 $ 46,184
========== ======== ======== ========
Total assets........................................... $1,426,638 $375,738 $292,825 $225,019
========== ======== ======== ========
Mortgages, notes payable and related accrued
interest payable to:
The Company.......................................... $ 298,447 $ 48,303 $ 31,871 $ 5,287
Kemper subsidiaries other than the Company........... 490,031 56,602 305,335 5,430
Lumbermens........................................... 245,890 17,262 51,423 30,226
Fidelity Life Association............................ 65,691 -- -- --
Other third parties.................................. 752,239 199,765 88,558 56,622
Total liabilities...................................... $1,895,260 $390,888 $539,728 $153,334
========== ======== ======== ========
The Company's net equity investment(1)................. $ 18,548 $ 7,626 $ 31,871 $ 15,524
========== ======== ======== ========
</TABLE>

(5) CONCENTRATION OF CREDIT RISK

The Company generally strives to maintain a diversified invested asset
portfolio; however, certain concentrations of credit risk exist, including
mortgage-backed securities and real estate. These concentrations are discussed
in "INVESTMENTS" on page 33.

The Company had $246.3 million (5.0 percent of invested assets and cash), $240.5
million (4.9 percent of invested assets and cash) and $102.8 million (2.1
percent of invested assets and cash) of mortgage loans and other real estate

60
<PAGE> 64

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(5) CONCENTRATION OF CREDIT RISK (CONTINUED)
investments in California, Illinois and Texas, respectively, at December 31,
1994. The majority of the Illinois and Texas loans and other investments are
Prime-related. The majority of the California loans and other investments are
MLP-related. (See the note captioned "Unconsolidated Investees.")

The Company had $184.9 million (3.8 percent of invested assets and cash) of
below investment-grade securities (including real estate-related bonds) totaling
$49.9 million, or 1.0 percent of invested assets and cash) at December 31, 1994.

At December 31, 1994, the Company held only one investment which exceeded 10
percent of stockholder's equity. This investment, amounting to $47.6 million, is
a joint venture mortgage loan to Lisle Park Plaza.

The following table shows the amounts of the Company's real estate portfolio at
December 31, 1994 which consisted of loans to or investments in joint ventures
with the MLP and Prime:

<TABLE>
<CAPTION>
(in millions) MLP PRIME
------ ------
<S> <C> <C>
Mortgage loans................................................................. $161.6 $150.3
Real estate-related bonds...................................................... 2.9 36.2
Other real estate loans........................................................ 54.5 29.7
Real estate owned.............................................................. 98.3 --
Equity investments............................................................. 7.4 42.9
Reserves....................................................................... (8.9) (21.0)
Write-downs.................................................................... (61.5) (.1)
------ ------
Total........................................................................ $254.3 $238.0
====== ======
</TABLE>

(6) INCOME TAXES

Income tax expense (benefit) was as follows for the years ended December 31,
1994, 1993 and 1992:

<TABLE>
<CAPTION>
(in thousands) 1994 1993 1992
-------- -------- --------
<S> <C> <C> <C>
Current..................................................... $ (6,898) $ (5,773) $ (9,457)
Deferred.................................................... 21,329 16,915 (4,273)
-------- -------- --------
Total............................................. $ 14,431 $ 11,142 $(13,730)
======= ======= ========
</TABLE>

The actual income tax expense (benefit) for 1994, 1993 and 1992 differed from
the "expected" tax expense (benefit) for those years as displayed below.
"Expected" tax expense (benefit) was computed by applying the U.S. federal
corporate tax rate of 35 percent in 1994 and 1993 and 34 percent for 1992 to
income (loss) before income tax expense (benefit) and cumulative effect of
changes in accounting principles.

<TABLE>
<CAPTION>
(in thousands) 1994 1993 1992
-------- -------- --------
<S> <C> <C> <C>
Computed expected tax expense (benefit)..................... $ 14,277 $ 7,992 $(22,214)
Difference between "expected" and actual tax expense
(benefit):
State taxes............................................... 645 332 777
Foreign tax credit........................................ (155) 358 (611)
Change in tax rate........................................ -- 1,441 --
Change in valuation allowance............................. -- 701 --
Unutilized capital losses................................. -- -- 8,286
Other, net................................................ (336) 318 32
-------- -------- --------
Total actual tax expense (benefit)................ $ 14,431 $ 11,142 $(13,730)
======= ======= ========
</TABLE>

The Company adopted SFAS 109, Accounting for Income Taxes, as of January 1,
1993. SFAS 109 established new principles for calculating and reporting the
effects of income taxes in financial statements. SFAS 109 replaced the

61
<PAGE> 65

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(6) INCOME TAXES (CONTINUED)
income statement orientation inherent in APB Opinion 11 with a balance sheet
approach. Under the new approach, deferred tax assets and liabilities are
generally determined based on the difference between the financial statement and
tax bases of assets and liabilities using enacted tax rates in effect for the
year in which the differences are expected to reverse. Under SFAS 109, the
effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date. SFAS 109
allows recognition of deferred tax assets if future realization of the tax
benefit is more likely than not, with a valuation allowance for the portion that
is not likely to be realized.

The implementation of SFAS 109 resulted in a one-time increase to earnings of
$2.4 million in the first quarter of 1993. Prior years' financial statements
have not been restated to apply the provisions of SFAS 109.

Upon adoption of SFAS 109, a valuation allowance was established to reduce the
deferred federal tax asset related to real estate and other investments to the
amount that, based upon available evidence, is, in management's judgment, more
likely than not to be realized. Any reversals of the valuation allowance are
contingent upon the recognition of future capital gains in Kemper's federal
income tax return or a change in circumstances which causes the recognition of
the benefits to become more likely than not. During 1994, the valuation
allowance was increased by $85.3 million. This increase in the valuation
allowance is solely attributable to the decrease in the net deferred federal tax
liability from unrealized losses on investments.

The tax effects of temporary differences that give rise to significant portions
of the Company's net deferred federal tax liability were as follows:

<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
(in thousands) 1994 1993
--------- --------
<S> <C> <C>
Deferred federal tax assets:
Unrealized losses on investments...................................... $ 85,331 $ --
Life policy reserves.................................................. 51,519 60,446
Real estate-related................................................... 39,360 45,851
Other investment-related.............................................. 7,435 12,498
Other................................................................. 6,415 5,804
--------- --------
Total deferred federal tax assets.................................. 190,060 124,599
Valuation allowance................................................... (100,532) (15,201)
--------- --------
Total deferred federal tax assets after valuation allowance........ 89,528 109,398
--------- --------
Deferred federal tax liabilities:
Deferred insurance acquisition costs.................................. 108,663 100,834
Unrealized gains on investments....................................... -- 49,193
Depreciation and amortization......................................... 18,878 21,367
Other................................................................. 3,351 2,049
--------- --------
Total deferred federal tax liabilities............................. 130,892 173,443
--------- --------
Net deferred federal tax liabilities.................................... $ (41,364) $(64,045)
========= ========
</TABLE>

The valuation allowance of $100.5 million is subject to future adjustments based
on, among other items, Kemper's estimates of future operating earnings and
capital gains.

Pursuant to the deferred method under APB Opinion 11, deferred income taxes were
recognized for income and expense items that were reported in different years
for financial reporting purposes and income tax purposes using the tax rate
applicable for the year of the calculation. Under the deferred method, deferred
taxes were not adjusted for subsequent changes in tax rates.

62
<PAGE> 66

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(6) INCOME TAXES (CONTINUED)
The sources of deferred tax expense (benefit) and their tax effect were as
follows:

<TABLE>
<CAPTION>
(in thousands) 1992
--------
<S> <C>
Deferred insurance acquisition costs.................................................. $ 6,172
Future policy benefit reserves tax adjustment......................................... 5,692
Timing differences in recognition of accrued liabilities for GAAP and tax purposes.... (397)
Tax versus GAAP separate account gain................................................. (3,277)
Tax versus GAAP capital losses........................................................ 4,350
GAAP versus tax investment income on bonds............................................ (4,380)
Joint venture partnership income adjustments.......................................... 1,491
Leasing transactions.................................................................. 2,567
Change in real estate reserve......................................................... (21,305)
Tax capitalization of policy acquisition costs........................................ 555
Tax versus GAAP depreciation.......................................................... 490
Unutilized capital losses............................................................. 8,286
Other, net............................................................................ (4,517)
--------
Total....................................................................... $ (4,273)
========
</TABLE>

The tax returns through the year 1986 have been examined by the Internal Revenue
Service ("IRS"). Changes proposed are not material to the Company's financial
position. The tax returns for the years 1987 through 1990 are currently under
examination by the IRS.

(7) RELATED-PARTY TRANSACTIONS

The Company received cash capital contributions from KFC of $82.5 million, $90.0
million and $30.0 million during 1994, 1993 and 1992, respectively.

In 1994 and 1993, the Company transferred the majority of its deficit equity
ownership interest in two limited partnerships to KFC resulting in an increase
of the Company's additional paid-in capital of $71 thousand and $9.2 million,
respectively. The Company also paid a non-cash dividend of $530 thousand to KFC
in December 1993, which represented the positive equity ownership interests of
the majority of one of its limited partnerships. Net losses associated with the
Company's ownership interests in these limited partnerships amounted to $1.4
million, $5.4 million and $3.9 million in 1994, 1993 and 1992, respectively, and
are included in the Company's consolidated statement of operations.

The Company has loans to joint ventures, consisting primarily of mortgage loans
on real estate, in which the Company and/or one of its affiliates has an
ownership interest. At December 31, 1994 and 1993, joint venture mortgage loans
totaled $351 million and $731 million, respectively, and during 1994, 1993 and
1992, the Company earned interest income on these joint venture loans of $22.0
million, $63.1 million and $116.3 million, respectively.

As of January 1, 1993, all of the Company's personnel are employees of Federal
Kemper Life Assurance Company ("FKLA"), an affiliated company. Prior to January
1, 1993, the majority of the Company's personnel were employees of another
affiliated company, Kemper Financial Services, Inc. ("KFS"). The Company is
allocated expenses for the utilization of KFS and FKLA employees and facilities
and the information systems of Kemper Service Company ("KSvC") based on the
Company's share of administrative, legal, marketing, investment management,
information systems and operation and support services. During 1994, 1993 and
1992, expenses allocated to the Company from KFS and KSvC amounted to $6.5
million, $3.1 million and $28.2 million, respectively. The Company also paid to
KFS investment management fees of $6.0 million, $6.7 million and $5.9 million
during 1994, 1993 and 1992, respectively. The Company paid Kemper Sales Company
$7.1 million in 1992 for services relating to the distribution of the Company's
products. In addition, expenses allocated to the

63
<PAGE> 67

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(7) RELATED-PARTY TRANSACTIONS (CONTINUED)
Company from FKLA during 1994, 1993 and 1992 amounted to $11.1 million, $13.1
million and $1.1 million, respectively.

During 1994, 1993 and 1992, the Company sold certain mortgages and real
estate-related investments, net of reserves, amounting to approximately $154.0
million, $343.7 million and $144.8 million respectively, to KFC Portfolio Corp.,
an affiliated non-life realty company, in exchange for cash. No gain or loss was
recognized on the sales.

(8) REINSURANCE

In the ordinary course of business, the Company enters into reinsurance
agreements to diversify risk and limit its overall financial exposure to certain
blocks of fixed-rate annuities. The Company generally cedes 100 percent of the
related annuity liabilities under the terms of the reinsurance agreements.
Although these reinsurance agreements contractually obligate the reinsurers to
reimburse the Company, they do not discharge the Company from its primary
liabilities and obligations to policyholders. As such, these amounts paid or
deemed to have been paid are recorded on the Company's consolidated balance
sheet as reinsurance recoverables and ceded future policy benefits.

In 1992 and 1991, the Company entered into 100 percent indemnity reinsurance
agreements ceding $515.7 million and $416.3 million, respectively, of its
fixed-rate annuity liabilities to FLA. FLA is a mutual insurance company that
shares common management with the Company and FKLA and certain common board
members with the Company and Kemper. The 1992 reinsurance agreement resulted in
the sale to FLA of approximately $500 million of certain assets, including $151
million of mortgage loans, while the 1992 agreement was all cash. As of December
31, 1994, the reinsurance recoverable related to the fixed-rate annuity
liabilities ceded to FLA amounted to approximately $643 million.

(9) POSTRETIREMENT BENEFITS OTHER THAN PENSIONS

The Company and FKLA sponsor a welfare plan that provides medical and life
insurance benefits to their retired and active employees and the Company is
allocated a portion of the costs of providing such benefits. The Company is self
insured with respect to medical benefits, and the plan is not funded except with
respect to certain disability-related medical claims. The medical plan provides
for medical insurance benefits at retirement, with eligibility based upon age
and the participant's number of years of participation attained at retirement.
The plan is contributory for pre-Medicare retirees, and will be contributory for
all retiree coverage for most current employees, with contributions generally
adjusted annually. Postretirement life insurance benefits are noncontributory
and are limited to $10,000 per participant.

The discount rate used in determining the allocated postretirement benefit
obligation was 8 percent and 7 percent for 1994 and 1993, respectively. The
assumed health care trend rate used was based on projected experience for 1994
and 1995, 10 percent in 1996, gradually declining to 6 percent by the year 1999
and remaining at that level thereafter.

64
<PAGE> 68

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(9) POSTRETIREMENT BENEFITS OTHER THAN PENSIONS (CONTINUED)
The status of the plan as of December 31, 1994 and 1993, was as follows:

Accumulated postretirement benefit obligation:

<TABLE>
<CAPTION>
(in thousands) 1994 1993
---- ----
<S> <C> <C>
Retirees.......................................................................... $206 $171
Fully eligible active plan participants........................................... 58 90
Other active plan participants.................................................... 101 159
Unrecognized gain from actuarial experience....................................... 314 223
---- ----
Accrued liability....................................................... $679 $643
===== =====
Components of the net periodic postretirement benefit cost:
</TABLE>

<TABLE>
<CAPTION>
(in thousands) 1994 1993
---- ----
<S> <C> <C>
Service cost-benefits attributed to service during the period..................... $ 31 $ 84
Interest cost on accumulated postretirement benefit obligations................... 43 41
Amortization of unrecognized actuarial gain....................................... (35) --
---- ----
Total................................................................... $ 39 $125
===== =====
</TABLE>

A one percentage point increase in the assumed health care cost trend rate for
each year would increase the accumulated postretirement benefit obligation as of
December 31, 1994 and 1993 by $48 thousand and $69 thousand, respectively, and
the net postretirement health care interest and service costs for the years
ended December 31, 1994 and 1993 by $14 thousand and $19 thousand, respectively.

During 1994, the Company adopted certain severance-related policies to provide
benefits, generally limited in time, to former or inactive employees after
employment but before retirement. The effect of adopting these policies was
immaterial.

(10) COMMITMENTS AND CONTINGENT LIABILITIES

The Company is involved in various legal actions for which it establishes
liabilities where appropriate. In the opinion of the Company's management, based
upon the advice of legal counsel, the resolution of such litigation is not
expected to have a material adverse effect on the consolidated financial
statements.

Although none of the Company or its joint venture projects have been identified
as a "potentially responsible party" under federal environmental guidelines,
inherent in the ownership of or lending to real estate projects is the
possibility that environmental pollution conditions may exist on or near or
relate to properties owned or previously owned on properties securing loans.
Where the Company has presently identified remediation costs, they have been
taken into account in determining the cash flows and resulting valuations of the
related real estate assets. Based on the Company's receipt and review of
environmental reports on most of the projects in which it is involved, the
Company believes its environmental exposure would be immaterial to its
consolidated results of operations. However, the Company may be required in the
future to take actions to remedy environmental exposures, and there can be no
assurance that material environmental exposures will not develop or be
identified in the future. The amount of future environmental costs is impossible
to estimate due to, among other factors, the unknown magnitude of possible
exposures, the unknown timing and extent of corrective actions that may be
required, the determination of the Company's liability in proportion to others
and the extent such costs may be covered by insurance or various environmental
indemnification agreements.

See the note captioned "Financial Instruments--Off-Balance-Sheet Risk" below for
the discussion regarding the Company's loan commitments and standby financing
agreements.

The Company is liable for guaranty fund assessments related to certain
unaffiliated insurance companies that have become insolvent during the years
1994 and prior. The Company's financial statements include provisions for all
known assessments that will be levied against the Company as well as an estimate
of amounts (net of estimated future premium tax recoveries) that the Company
believes it will be assessed in the future for which the life

65
<PAGE> 69

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(10) COMMITMENTS AND CONTINGENT LIABILITIES (CONTINUED)
insurance industry has estimated the cost to cover losses to policyholders. (See
"Guaranty association assessments" on page 28.) The Company is also contingently
liable for any future guaranty fund assessments related to insolvencies of
unaffiliated insurance companies, for which the life insurance industry has been
unable to estimate the cost to cover losses to policyholders. No specific amount
can be reasonably estimated for such insolvencies as of December 31, 1994.

(11) FINANCIAL INSTRUMENTS--OFF BALANCE-SHEET RISK

At December 31, 1994, the Company had loan commitments and stand-by financing
agreements totaling $376.1 million to support the financing needs of various
real estate investments. To the extent these arrangements are called upon,
amounts loaned would be secured by assets of the joint ventures, including first
mortgage liens on the real estate. The Company's criteria in making these
arrangements are the same as for its mortgage loans and other real estate
investments. The Company presently expects to fund approximately $96.5 million
of these arrangements. These commitments are included in the Company's analysis
of real estate-related reserves and write-downs. The fair values of loan
commitments and standby financing agreements are estimated in conjunction with
and using the same methodology as the fair value estimates of mortgage loans and
other real estate-related investments.

(12) DERIVATIVE FINANCIAL INSTRUMENTS

The Company is party to derivative financial instruments in the normal course of
business for other than trading purposes to hedge exposures in foreign currency
fluctuations related to certain foreign fixed maturity securities held by the
Company. The following table summarizes various information regarding these
derivative financial instruments as of December 31, 1994 and 1993:

<TABLE>
<CAPTION>
WEIGHTED
WEIGHTED AVERAGE
AVERAGE REPRICING
(in thousands) NOTIONAL CARRYING ESTIMATED YEARS TO FREQUENCY
1994 AMOUNT VALUE FAIR VALUE EXPIRATION (DAYS)
- ----------------------------------------------------------------- -------- -------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C>
Non-trading foreign exchange forward options..................... $ 34,541 $ 18 $ 18 .25 30
</TABLE>

<TABLE>
<CAPTION>
1993
- -----------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Non-trading foreign exchange forward options..................... 69,241 2,194 2,194 .22 30
</TABLE>

The Company's hedges relating to foreign currency exposure are implemented using
forward contracts on foreign currencies. These are generally short duration
contracts with U.S. money-center banks. The Company records realized and
unrealized gains and losses on such investments in net income on a current
basis. The amounts of gain (loss) included in net income during 1994, 1993 and
1992 totaled $6.4 million, $(2.8) million and $(2.4) million, respectively.

(13) FAIR VALUE OF FINANCIAL INSTRUMENTS

Fair value disclosures are required under SFAS 107. Such fair value estimates
are made at specific points in time, based on relevant market information and
information about the financial instrument. These estimates do not reflect any
premium or discount that could result from offering for sale at one time the
Company's entire holdings of a particular financial instrument. A significant
portion of the Company's financial instruments are carried at fair value. (See
the note captioned "Invested Assets and Related Income" on page 56.) Fair value
estimates for financial instruments not carried at fair value are generally
determined using discounted cash flow models and assumptions that are based on
judgments regarding current and future economic conditions and the risk
characteristics of the investments. Although fair value estimates are calculated
using assumptions that management believes are appropriate, changes in
assumptions could significantly affect the estimates and such estimates should
be used with care.

Fair value estimates are determined for existing on- and off-balance sheet
financial instruments without attempting to estimate the value of anticipated
future business and the value of assets and certain liabilities that are not
considered financial instruments. Accordingly, the aggregate fair value
estimates presented do not represent the underlying value of the Company. For
example, the Company's subsidiaries are not considered financial

66
<PAGE> 70

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(13) FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
instruments, and their value has not been incorporated into the fair value
estimates. In addition, tax ramifications related to the realization of
unrealized gains and losses can have a significant effect on fair value
estimates and have not been considered in any of the estimates.

The following methods and assumptions were used by the Company in estimating the
fair value of its financial instruments:

Fixed maturities: Fair values for fixed maturity securities carried at market
value were determined by using market quotations, or independent pricing
services that use prices provided by market makers or estimates of market values
obtained from yield data relating to instruments or securities with similar
characteristics, or fair value as determined in good faith by the Company's
portfolio manager, Kemper Financial Services, Inc.

Equity securities: Fair values for equity securities were based upon quoted
market prices.

Cash and short-term investments: The carrying amounts reported in the
consolidated balance sheet for these instruments approximate fair values.

Mortgage loans and other real estate-related investments: Fair values for
mortgage loans and other real estate-related investments were estimated on a
project-by-project basis. Generally, the projected cash flows of the collateral
are discounted using a discount rate of 10 to 12 percent. The resulting
collateral estimates were then used to determine the value of the Company's real
estate-related investments. The estimate of fair value should be used with care
given the inherent difficulty of estimating the fair value of real estate due to
the lack of a liquid quotable market.

Other loans and investments: The carrying amounts reported in the consolidated
balance sheet for these instruments approximate fair values. The fair values of
policy loans were estimated by discounting the expected future cash flows using
an interest rate charged on policy loans for similar policies currently being
issued.

Life policy benefits: Fair values of the life policy benefits regarding
investment contracts (primarily deferred annuities) and universal life contracts
were estimated by discounting gross benefit payments, net of contractual
premiums, using the average crediting rate currently being offered in the
marketplace for similar contracts with maturities consistent with those
remaining for the contracts being valued. The Company had projected its future
average crediting rate in 1994 and 1993 to be 5.5 percent and 5.0 percent,
respectively, while the assumed average market crediting rate was 6.5 percent in
1994 and 5.25 percent in 1993.

The carrying values and estimated fair values of the Company's financial
instruments at December 31, 1994 and 1993 were as follows:

<TABLE>
<CAPTION>
DECEMBER 31
-----------------------------------------------------
1994 1993
------------------------ ------------------------
CARRYING FAIR CARRYING FAIR
(in thousands) VALUE VALUE VALUE VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Financial instruments recorded as assets:
Fixed maturities(1).......................... $3,463,732 $3,463,732 $3,441,224 $3,441,224
Equity securities............................ 14,767 14,767 67,700 67,700
Cash and short-term investments.............. 227,353 227,353 409,950 409,950
Mortgage loans and other real estate-related
assets.................................... 907,283 804,867 1,154,404 1,010,038
Policy loans................................. 277,743 277,743 264,112 264,112
Other invested assets........................ 25,760 25,760 43,267 43,267
Financial instruments recorded as liabilities:
Life policy benefits......................... 4,843,690 4,709,561 5,040,002 5,120,000
</TABLE>

- ---------------
(1) Includes $18 and $2,200 carrying value and fair value for 1994 and 1993,
respectively, of derivative securities used to hedge the foreign currency
exposure on certain specific foreign fixed maturity investments.

67
<PAGE> 71

KEMPER INVESTORS LIFE INSURANCE COMPANY AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(14) STOCKHOLDER'S EQUITY--RETAINED EARNINGS

The maximum amount of dividends which can be paid by insurance companies
domiciled in the State of Illinois to shareholders without prior approval of
regulatory authorities is restricted, if such dividend, together with other
distributions during the twelve preceding months would exceed the greater of ten
percent of statutory surplus as regards policyholders as of the preceding
December 31, or statutory net income for the preceding calendar year, then such
proposed dividend must be reported to the Director of Insurance at least 30 days
prior to the proposed payment date and may be paid only if not disapproved.
Illinois insurance laws also permit payment of dividends only out of earned
surplus, exclusive of most unrealized capital gains. The maximum amount of
dividends which can be paid by the Company in 1995 is currently $0. The Company
paid no cash dividends in 1994, 1993 or 1992.

The Company's net income (loss) and stockholder's equity as determined in
accordance with statutory accounting principles are as follows:

<TABLE>
<CAPTION>
(in thousands) 1994 1993 1992
-------- -------- ---------
<S> <C> <C> <C>
Net income (loss)............................................. $ 44,491 $(36,178) $(141,975)
======== ======== =========
Statutory surplus............................................. $416,243 $329,430 $ 251,283
======== ======== =========
</TABLE>

68
<PAGE> 72

APPENDIX A

ILLUSTRATION OF A MARKET VALUE ADJUSTMENT

<TABLE>
<S> <C>
Purchase Payment: $40,000
Guarantee Period: 5 Years
Guaranteed Interest Rate: 5% Annual Effective Rate
</TABLE>

The following examples illustrate how the Market Value Adjustment and the
Withdrawal Charge may affect the values of a Certificate upon a withdrawal. The
5% assumed Guaranteed Interest Rate is the rate required to be used in the
"Summary of Expenses." In these examples, the withdrawal occurs one year after
the Date of Issue. The Market Value Adjustment operates in a similar manner for
transfers. No Withdrawal Charge applies to transfers.

The Guarantee Period Value for this $40,000 Purchase Payment is $51,051.26 at
the end of the five-year Guarantee Period. After one year, when the withdrawals
occur in these examples, the Guarantee Period Value is $42,000.00. It is also
assumed, for the purposes of these examples, that no prior partial withdrawals
or transfers have occurred.

The Market Value Adjustment will be based on the rate KILICO is then crediting
(at the time of the withdrawal) on new Certificates with the same Guarantee
Period as the time remaining in your Guarantee Period rounded to the next higher
number of complete years. One year after the Purchase Payment there would have
been four years remaining in your Guarantee Period. These examples also show the
Withdrawal Charge (if any) which would be calculated separately after the Market
Value Adjustment.

EXAMPLE OF A DOWNWARD MARKET VALUE ADJUSTMENT

A downward Market Value Adjustment results from a full or partial withdrawal
that occurs when interest rates have increased. Assume interest rates have
increased one year after the Purchase Payment and KILICO is then crediting 6.5%
for a four-year Guarantee Period. Upon a full withdrawal, the market value
adjustment factor would be:

The Market Value Adjustment is a reduction of $3,053.24 from the Guarantee
Period Value:

-3,053.24 = -.0726961 X 42,000.00

The Market Adjusted Value would be:

$38,946.76 = $42,000.00 - $3,053.24

A Withdrawal Charge of 6% would be assessed against the Market Adjusted Value in
excess of the amount available as a free withdrawal. In this case, there are no
prior withdrawals, so 10% of the Market Adjusted Value is not subject to a
Withdrawal Charge. The Withdrawal Charge is thus:

$2,103.13 = $38,946.76 X .9 X .06

Thus, the amount payable on a full withdrawal would be:

$36,843.64 = $38,946.76 - $2,103.13

If instead of a full withdrawal, 50% of the Guarantee Period Value was withdrawn
(partial withdrawal of 50%), the Market Value Adjustment would be 50% of that of
the full withdrawal:

-$1,526.62 = -.0726961 X $21,000.00

The Market Adjusted Value would be:

$19,473.38 = $21,000.00 - $1,526.62

The Withdrawal Charge of 6% would apply to the Market Adjusted Value being
withdrawn, less 10% of the full Market Adjusted Value as there are no prior
withdrawals:

$934.72 = ($19,473.38 - .1 X $38,946.76) X .06
- ---------------
* Actual calculation utilizes 10 decimal places.

Thus, the amount payable on this partial withdrawal would be:

$18,538.66 = $19,473.38 - $934.72

69
<PAGE> 73

EXAMPLE OF AN UPWARD MARKET VALUE ADJUSTMENT

An upward Market Value Adjustment results from a withdrawal that occurs when
interest rates have decreased. Assume interest rates have decreased one year
later and KILICO is then crediting 4% for a four-year Guarantee Period. Upon a
full withdrawal, the market value adjustment factor would be:

The Market Value Adjustment is an increase of $809.62 to the Guarantee Period
Value:

$809.62 = $42,000.00 X .0192766

The Market Adjusted Value would be:

$42,809.62 = $42,000.00 + $809.62

A Withdrawal Charge of 6% would apply to the Market Adjusted Value being
withdrawn, less 10% of the full Market Adjusted Value, as there were no prior
withdrawals:

$2,311.72 = $42,809.62 X .9 X .06

Thus, the amount payable on withdrawal would be:

$40,497.90 = $42,809.62 - $2,311.72

If instead of a full withdrawal, 50% of the Guarantee Period Value was withdrawn
(partial withdrawal of 50%), the Market Value Adjustment would be:

$404.81 = $21,000.00 X .0192766

The Market Adjusted Value of $21,000.00 would be:

$21,404.81 = $21,000.00 + $404.81

The Withdrawal Charge of 6% would apply to the Market Adjusted Value being
withdrawn, less 10% of the full Market Adjusted Value as there are no prior
withdrawals:

$1,027.43 = ($21,404.81 - .1 X $42,809.62) X .06

Thus, the amount payable on this partial withdrawal would be:

$20,377.38 = $21,404.81 - $1,027.43

Actual Market Value Adjustment may have a greater or lesser impact than that
shown in the Examples, depending on the actual change in interest crediting
rates and the timing of the withdrawal or transfer in relation to the time
remaining in the Guarantee Period.

70
<PAGE> 74

APPENDIX B

KEMPER INVESTORS LIFE INSURANCE COMPANY DEFERRED FIXED AND
VARIABLE ANNUITY IRA DISCLOSURE STATEMENT

This Disclosure Statement describes the statutory and regulatory provisions
applicable to the operation of Individual Retirement Annuities. Internal Revenue
Service regulations require that this be given to each person desiring to
establish an IRA.

A. REVOCATION

Within 7 days of the date you signed your enrollment application, you may revoke
it and receive back 100% of your money. To do so, wire Kemper Investors Life
Insurance Company, 1 Kemper Drive, Long Grove, Illinois 60049, or call
1-800-621-5001.

B. STATUTORY REQUIREMENTS

The provisions of this Certificate meet the requirements of Section 408(b) of
the Internal Revenue Code as to form for use as an IRA annuity contract
described in Items 1 through 5 below. The Certificate has received a favorable
determination letter from the Internal Revenue Service as to the form of the
annuity. However, this is not a determination by the IRS of the IRA's merit. If
you set up an IRA using an annuity contract it must meet the following
requirements:

1. The amount in your IRA must be fully vested at all times.

2. The contract must provide that you cannot transfer it to someone else.

3. The contract must have flexible premiums.

4. You must start receiving distributions by April 1 of the year following the
year in which you reach age 70 1/2 (see "Required Distributions").

5. The contract must provide that you cannot contribute more than $2,000 for any
year. (This requirement does not apply to rollovers. See "Rollovers and Direct
Transfers").

C. ROLLOVERS AND DIRECT TRANSFERS

1. A rollover is a tax-free transfer of cash or other assets from one retirement
program to another. There are two kinds of rollover payments. In one, you
transfer amounts from one IRA to another. With the other, you transfer amounts
from a qualified employee benefit plan or tax-sheltered annuity to an IRA. A
rollover is an allowable payment that you cannot deduct on your tax return.

2. You must complete the transfer by the 60th day after the day you receive the
distribution from your IRA or other qualified employee benefit plan.

3. A rollover distribution from an IRA may be made to you only once a year. The
one-year period begins on the date you receive the IRA distribution, not on the
date you roll it over (reinvest it) into another IRA.

4. A direct transfer of funds in an IRA from one trustee or insurance company to
another is not a rollover. It is a transfer that is not affected by the one-year
waiting period.

5. All or a part of the premium for this Certificate may be paid from a rollover
from an IRA, qualified pension or profit-sharing plan or tax-sheltered annuity,
or from a direct transfer from another IRA. The proceeds from this contract may
be used as a rollover contribution to another IRA.

6. Beginning January 1, 1993, a distribution that is eligible for rollover
treatment from a qualified employee benefit plan or tax-sheltered annuity will
be subject to twenty percent (20%) withholding by the Internal Revenue Service
even if you roll the distribution over to an IRA within the 60-day rollover
period. To avoid withholding, the distribution should be made as a direct
transfer to the IRA trustee or insurance company.

D. ALLOWANCE OF DEDUCTION

1. In general, the amount you can contribute each year is the lesser of $2,000
or your taxable compensation for the year. If you have more than one IRA, the
limit applies to the total contributions made to your own IRAs for the year.

71
<PAGE> 75

Generally, if you work the amount that you earn is compensation. Wages,
salaries, tips, professional fees, bonuses and other amounts you receive for
providing personal services are compensation. If you own and operate your own
business as a sole proprietor, your net earnings reduced by your deductible
contributions on your behalf to self-employed retirement plans is compensation.
If you are an active partner in a partnership and provide services to the
partnership, your share of partnership income reduced by deductible
contributions made on your behalf to qualified retirement plans is compensation.
All taxable alimony and separate maintenance payments received under a decree of
divorce or separate maintenance is compensation.

2. If neither you nor your spouse are covered for any part of the year by a
qualified retirement plan, the amount you can deduct each year is also the
lesser of $2,000 or your taxable compensation. If either you or your spouse are
covered by a qualified retirement plan, the $2,000 deduction limit is reduced
$10 for each $50 that your adjusted gross income exceeds $40,000 (married filing
jointly), $25,000 (single) or zero (married filing separately).

3. Contributions to your IRA can be made at any time. If you make the
contribution between January 1 and April 15, however, you may elect to treat the
contribution as made either in that year or in the preceding year. You may file
a tax return claiming deduction for your IRA contribution before the
contribution is actually made. You must, however, make the contribution by the
due date of your return not including extensions.

4. You cannot make a contribution other than a rollover contribution to your IRA
for the year in which you reach age 70 1/2 or thereafter.

5. If both you and your spouse have compensation you can each set up your own
IRA. The contribution for each of you is figured separately and depends on how
much each earns. Both of you cannot participate in the same IRA account or
contract.

6. If you file a joint return, you can contribute up to the lesser of $2,000 or
your taxable compensation to an IRA for a spouse who has not reached age 70 1/2
(even if you have reached age 70 1/2) and who has no compensation or elects to
be treated as having no compensation for the year. The total combined amount you
can contribute each year to your own IRA and the spousal IRA is the lesser of
$2,250 or your taxable compensation for the year.

7. If neither you nor your spouse are covered for any part of the year by a
qualified retirement plan, the total combined amount you can deduct is also the
lesser of $2,250 or your taxable compensation. If either you or your spouse is
covered by a qualified retirement plan, the $2,250 deduction limit is reduced
$10 for each $44.44 that your adjusted gross income exceeds $40,000.

E. SEP-IRA'S

1. The maximum deductible contribution for a Simplified Employee Pension (SEP)
IRA is the lesser of $30,000 or 15% of compensation.

2. A SEP must be established and maintained by an employer (corporation,
partnership, sole proprietor). Information about the Kemper SEP is available
upon request.

F. TAX STATUS OF THE CONTRACT AND DISTRIBUTIONS

1. Earnings of your IRA annuity contract are not taxed until they are
distributed to you.

2. In general, taxable distributions are included in your gross income in the
year you receive them.

3. Distributions are non-taxable to the extent they represent a return of
non-deductible contributions. The non-taxable percentage of a distribution is
determined by dividing your total undistributed, non-deductible IRA
contributions by the value of all your IRAs (including SEPs and rollovers).

4. You cannot choose the special five-year or ten-year averaging that may apply
to lump sum distributions from qualified employer plans.

G. REQUIRED DISTRIBUTIONS

You must start receiving minimum distributions from your IRA starting with the
year you reach age 70 1/2. Ordinarily, the required minimum distribution for a
particular year must be received by December 31 of that year. However, you may
delay the required minimum distribution for the year you reach age 70 1/2 until
April 1 of the following year.

Figure your required minimum distribution for each year by dividing the value of
your IRA on December 31 of the preceding year by the applicable life expectancy.
The applicable life expectancy is your remaining life expectancy or

72
<PAGE> 76

the remaining joint life and last survivor expectancy of you and your designated
beneficiary. If a designated beneficiary is more than 10 years younger than you,
that beneficiary is assumed to be exactly 10 years younger. Life expectancies
are determined using the expected return multiple tables shown in IRS
Publication 590 "Individual Retirement Arrangements." To obtain a free copy of
IRS Publication 590 and other IRS forms, phone the IRS toll free at
1-800-729-3676 or write the IRS Forms Distribution Center for your area as shown
in your income tax return instructions.

Annuity payments which begin by April 1 of the year following your 70 1/2 year
satisfy the minimum distribution requirement if they provide for non-increasing
payments over the life or the lives of you and your spouse, provided that, if
installments are guaranteed, the guaranty period does not exceed the lesser of
20 years or the applicable life expectancy.

If you have more than one IRA, you must determine the required minimum
distribution separately for each IRA; however, you can take the actual
distributions of these amounts from any one or more of your IRAs.

If the actual distribution from your IRA is less than the minimum amount that
should be distributed in accordance with the rules set forth above, the
difference is an excess accumulation. There is a 50% excise tax on any excess
accumulations. However, if you have a good reason for having an excess
accumulation in your IRA you may not have to pay the tax. For example, if you
have been given wrong advice or you made a mistake in using or did not
understand the excess accumulation rules, you may ask the IRS to excuse the tax.

H. TAX ON EXCESS CONTRIBUTIONS

1. You must pay a 6% excise tax each year on excess contributions that remain in
your IRA. Generally, an excess contribution is the amount contributed to your
IRA that is more than you can contribute or roll over. The excess is taxed for
the year of the excess contribution and for each year after that until you
correct it.

2. You will not have to pay the 6% excise tax if you withdraw the excess amount
by the date your tax return is due including extensions for the year of the
contribution. You do not have to include in your gross income an excess
contribution that you withdraw from your IRA before your tax return is due if
the income earned on the excess was also withdrawn and no deduction was allowed
for the excess contribution.

3. If an excess contribution in your IRA is a result of a rollover and the
excess occurred because information required to be supplied by the payor of the
distribution was incorrect, you may withdraw the excess amount attributable to
the incorrect information after the date your return is due and still not
include the amount withdrawn in your gross income. It is not necessary to
withdraw the income earned on the excess. You will, however, have to pay the 6%
tax on the excess amount for each year the excess contribution was in the IRA at
the end of the year.

I. TAX ON PREMATURE DISTRIBUTIONS

There is an additional tax on premature distributions equal to 10% of the amount
of the premature distribution that you must include in your gross income.
Premature distributions are generally amounts you withdraw from your IRA before
you are age 59 1/2. However, the tax on premature distributions does not apply:

1. To amounts that are rolled over tax free.

2. To a series of substantially equal periodic payments made over your life or
life expectancy, or the joint life or life expectancy of you and your
beneficiary.

3. If you are permanently disabled. You are considered disabled if you cannot do
any substantial gainful activity because of your physical or mental condition. A
physician must determine that the condition has lasted or can be expected to
last continuously for 12 months or more or that the condition can be expected to
lead to death.

J. IRA EXCISE TAX REPORTING

Use Form 5329, Return for Individual Retirement Arrangement Taxes, to report the
excise taxes on excess contributions, premature distributions, and excess
accumulations. If you do not owe any IRA excise taxes, you do not need Form
5329. Further information can be obtained from any district office of the
Internal Revenue Service.

73
<PAGE> 77

K. BORROWING

If you borrow money against your IRA contract or use it as security for a loan,
you must include in gross income the fair market value of the IRA contract as of
the first day of your tax year. (Note: This contract does not allow borrowings
against it, nor may it be assigned or pledged as collateral for a loan.)

L. FINANCIAL DISCLOSURE FOR THE SEPARATE ACCOUNT (VARIABLE ACCOUNT)
AND MVA OPTION.

1. If on the enrollment application you indicated an allocation to a Subaccount,
this Certificate will be assessed a daily charge of an amount which will equal
an aggregate of 1.25% per annum.

2. An annual records maintenance charge of $30.00 will be assessed against the
Separate Account Value each Certificate Year. If no values are in the
Subaccounts, the charge will be assessed against Guarantee Period Value.

3. Withdrawal and early annuitization charges will be assessed based on the
Certificate Years elapsed since the Certificate was issued as described in the
prospectus under the heading "Withdrawal Charge." Withdrawals, transfers and
early annuitizations of Guarantee Period Value may be subject to a Market Value
Adjustment as described in the prospectus under the heading "Market Value
Adjustment."

4. The method used to compute and allocate the annual earnings is contained in
the prospectus under the heading "Accumulation Unit Value" for Separate Account
Value and under the headings "Guarantee Periods of the MVA Option" and
"Establishment of Guaranteed Interest Rates" for Guarantee Period Value.

5. The growth in value of your contract is neither guaranteed nor projected but
is based on the investment experience of the Subaccounts or rates of interest as
declared by Kemper Investors Life Insurance Company.

74
<PAGE> 78

TABLE OF CONTENTS

<TABLE>
<S> <C>
Summary.................................. 2
Financial Highlights..................... 3
Investment Objectives, Policies and Risk
Factors................................ 7
Investment Techniques.................... 16
Net Asset Value.......................... 20
Purchase and Redemption.................. 21
Dividends and Taxes...................... 22
Capital Structure and General
Information............................ 22
Investment Manager....................... 23
Distributor.............................. 25
Appendix................................. 26
</TABLE>

This prospectus contains information about the Fund that you should know before
investing and should be retained for future reference. A Statement of Additional
Information dated May 1, 1995, has been filed with the Securities and Exchange
Commission and is incorporated herein by reference. It is available upon request
without charge from the Fund at the address or telephone number shown above.

AN INVESTMENT IN THE MONEY MARKET PORTFOLIO IS NEITHER INSURED NOR GUARANTEED BY
THE U.S. GOVERNMENT. THERE CAN BE NO ASSURANCE THAT THE PORTFOLIO WILL BE ABLE
TO MAINTAIN A STABLE NET ASSET VALUE OF $1.00 PER SHARE.

THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION NOR HAS THE COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY
OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.

KEMPER
INVESTORS
FUND

PROSPECTUS MAY 1, 1995

KEMPER INVESTORS FUND
120 SOUTH LASALLE STREET
CHICAGO, ILLINOIS 60603
1-800-621-1048

Kemper Investors Fund (the "Fund") offers a choice of seven investment
portfolios to investors applying for certain variable life insurance and
variable annuity contracts offered by Participating Insurance Companies.

The seven investment portfolios are:

MONEY MARKET PORTFOLIO
TOTAL RETURN PORTFOLIO
HIGH YIELD PORTFOLIO
EQUITY PORTFOLIO
GOVERNMENT SECURITIES PORTFOLIO
INTERNATIONAL PORTFOLIO
SMALL CAPITALIZATION EQUITY PORTFOLIO

Shares of the Portfolios are available exclusively as pooled funding vehicles
for the variable life insurance and variable annuity contracts of Participating
Insurance Companies.
<PAGE> 79

SUMMARY

FUND INVESTMENT CONCEPT. Kemper Investors Fund (the "Fund") is an open-end
management investment company established on March 24, 1987 as a Massachusetts
business trust. The Fund is a series fund consisting of seven portfolios
("Portfolios"): Money Market, Total Return, High Yield, Equity, Government
Securities, International and Small Capitalization Equity ("Small Cap").
Additional Portfolios may be created from time to time. The Fund is the funding
vehicle for variable life insurance contracts ("VLI contracts") and variable
annuity contracts ("VA contracts") offered by the separate accounts of certain
life insurance companies ("Participating Insurance Companies"). The Fund
currently does not foresee any disadvantages to the holders of VLI contracts and
VA contracts arising from the fact that the interests of the holders of such
contracts may differ. Nevertheless, the Fund's Trustees intend to monitor events
in order to identify any material irreconcilable conflicts that may arise and to
determine what action, if any, should be taken. The VLI contracts and VA
contracts are described in the separate prospectuses issued by the Participating
Insurance Companies. The Fund assumes no responsibility for such prospectuses.

Individual VLI contract holders and VA contract holders are not the
"shareholders" of the Fund. Rather, the Participating Insurance Companies and
their separate accounts are the shareholders or investors (the "Shareholders"),
although such companies may pass through voting rights to their VLI and VA
contract holders.

INVESTMENT OBJECTIVES. The Money Market Portfolio seeks maximum current income
to the extent consistent with stability of principal from a portfolio of high
quality money market instruments. The 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. The High Yield Portfolio seeks
to provide a high level of current income by investing in fixed-income
securities. The Equity Portfolio seeks maximum appreciation of capital through
diversification of investment securities having potential for capital
appreciation. The Government Securities Portfolio seeks high current return
consistent with preservation of capital from a portfolio composed primarily of
U.S. Government securities. The International Portfolio seeks total return, a
combination of capital growth and income, principally through an internationally
diversified portfolio of equity securities. The Small Cap Portfolio seeks
maximum appreciation of investors' capital. All portfolios except the Money
Market Portfolio may engage in options and financial futures transactions. The
Total Return, High Yield, Equity and Small Cap Portfolios each may invest a
portion of its assets in foreign securities and engage in related foreign
currency transactions. The International Portfolio will invest a substantial
portion of its assets in foreign securities and engage in related foreign
currency transactions. Foreign securities may include investments in developing
countries. The High Yield Portfolio will, and the Total Return and Government
Securities Portfolios may, invest in high yield (high risk) bonds. All of the
Portfolios are diversified. See "Investment Objectives, Policies and Risk
Factors."

RISK FACTORS. There is no assurance that the investment objective of any
Portfolio will be achieved and investment in each Portfolio includes risks that
vary in kind and degree depending upon the investment policies of the Portfolio.
The returns and net asset value of a Portfolio will fluctuate (except that the
Money Market Portfolio seeks to maintain a net asset value of $1.00 per share).
Investors should note that investments in high yield securities by certain
portfolios (principally the Total Return and High Yield Portfolios) entail
relatively greater risk of loss of income and principal than investments in
higher rated securities; and market prices of high yield securities may
fluctuate more than market prices of higher rated securities. The government
guarantee of the U.S. Government securities in which the Government Securities
Portfolio may invest does not guarantee the market value of the shares of the
Portfolio. Normally the value of investments in U.S. Government securities
varies inversely with changes in interest rates. Foreign investments by certain
Portfolios (principally the International Portfolio) involve risk and
opportunity considerations not typically associated with investing in U.S.
companies. The return of such a Portfolio can be adversely affected by changes
in currency exchange rates. Investment by the Small Cap Portfolio primarily in
smaller companies involves greater risk than investment in larger, more
established companies. There are special risks associated with options,
financial futures and foreign currency transactions and there is no assurance
that use of those investment techniques will be successful. Some of the
Portfolios may experience high portfolio turnover which would involve
correspondingly greater brokerage commissions or other transaction costs. See
"Investment Objectives, Policies and Risk Factors."

PURCHASES AND REDEMPTIONS. The separate accounts of the Participating Insurance
Companies place orders to purchase and redeem shares of each Portfolio based on,
among other things, the amount of premium payments to be invested and surrender
and transfer requests to be effected on that date pursuant to VLI and VA
contracts. See "Purchase and Redemption."

INVESTMENT MANAGER. Kemper Financial Services, Inc. ("KFS" or "investment
manager") serves as investment manager for each of the Portfolios at an
effective annual rate, payable monthly, of .50%, .55%, .60%, .60%, .55%, .75%
and .65% of average daily net assets of the Money Market, Total Return, High
Yield, Equity, Government Securities, International and Small Cap Portfolios,
respectively. See "Investment Manager."

GENERAL INFORMATION AND CAPITAL. Since the Fund offers multiple Portfolios, it
is known as a "series company." Shares of each Portfolio have equal
non-cumulative voting rights and equal rights with respect to dividends, assets
and liquidation of such Portfolio. Each Portfolio has its own objective,
policies and restrictions. The Fund is not required to hold annual shareholder
meetings, but will hold special shareholder meetings as required or deemed
desirable. See "Capital Structure and General Information."

2
<PAGE> 80

FINANCIAL HIGHLIGHTS

The tables below show financial information for each Portfolio expressed in
terms of one share outstanding throughout the period. The information for the
Money Market, Total Return, High Yield and Equity Portfolios for fiscal periods
prior to 1990 reflects the operations of certain Separate Accounts as discussed
under "Capital Structure and General Information." The information in the tables
for the years ended December 31, 1990 through 1994 is covered by the report of
the Fund's independent auditors. The report is contained in the Fund's
Registration Statement and is available from the Fund. The financial statements
contained in the Fund's 1994 Annual Report to Shareholders are incorporated
herein by reference and may be obtained by writing or calling the Fund.

MONEY MARKET PORTFOLIO

NOTE TO MONEY MARKET PORTFOLIO:

The total return for 1994 includes the effect of a capital contribution from the
investment manager. Without the capital contribution, the total return would
have been 3.47%.

TOTAL RETURN PORTFOLIO

<TABLE>
<CAPTION>
Year ended December 31,
1994 1993 1992 1991 1990 1989 1988 1987 1986 1985
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING
PERFORMANCE:
Net asset value,
beginning of year $2.586 2.473 2.658 2.071 2.021 1.707 1.605 1.661 1.496 1.214
- ---------------------------------------------------------------------------------------------------------------------------------
Income from
investment
operations:
Net investment
income .069 .069 .061 .080 .113 .102 .086 .075 .060 .057
- ---------------------------------------------------------------------------------------------------------------------------------
Net realized and
unrealized gain
(loss) on
investments (.313) .214 (.026) .677 (.013) .298 .102 (.056) .165 .282
- ---------------------------------------------------------------------------------------------------------------------------------
Total from
investment
operations (.244) .283 .035 .757 .100 .400 .188 .019 .225 .339
- ---------------------------------------------------------------------------------------------------------------------------------
Less dividends:
Distributions
from net
investment
income .060 .050 .080 .110 .020 .086 .086 .075 .060 .057
- ---------------------------------------------------------------------------------------------------------------------------------
Distributions
from net
realized gain
on investments .168 .120 .140 .060 .030 -- -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Distributions in
excess of net
realized gain
on investments .002 -- -- -- -- -- -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Total dividends .230 .170 .220 .170 .050 .086 .086 .075 .060 .057
- ---------------------------------------------------------------------------------------------------------------------------------
Net asset value,
end of year $2.112 2.586 2.473 2.658 2.071 2.021 1.707 1.605 1.661 1.496
- ---------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN (%) (9.50) 12.13 1.69 37.90 5.04 24.16 11.98 .62 15.13 28.42
- ---------------------------------------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE
NET ASSETS (%):
Expenses .61 .59 .60 .61 .61 .58 .61 .58 .60 .66
- ---------------------------------------------------------------------------------------------------------------------------------
Net investment
income 3.13 3.19 3.41 3.46 5.94 5.43 5.19 4.04 3.59 4.23
- ---------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA:
Net assets at end
of year (in
thousands) $ 586,594 643,830 528,007 412,772 272,747 262,652 206,262 214,203 146,324 103,249
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio turnover
rate (%) 128 191 160 187 139 102 152 129 136 117
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>

3
<PAGE> 81

HIGH YIELD PORTFOLIO

<TABLE>
<CAPTION>
Year ended December 31,
1994 1993 1992 1991 1990 1989 1988 1987 1986 1985
-----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING
PERFORMANCE:
Net asset value,
beginning of year $1.338 1.209 1.144 .914 1.122 1.258 1.225 1.290 1.226 1.143
- ---------------------------------------------------------------------------------------------------------------------------------
Income from investment
operations:
Net investment income .116 .120 .125 .140 .170 .151 .152 .139 .142 .150
- ---------------------------------------------------------------------------------------------------------------------------------
Net realized and
unrealized gain
(loss) on investments (.149) .109 .070 .300 (.338) (.163) .033 (.065) .064 .083
- ---------------------------------------------------------------------------------------------------------------------------------
Total from investment
operations (.033) .229 .195 .440 (.168) (.012) .185 .074 .206 .233
- ---------------------------------------------------------------------------------------------------------------------------------
Less dividends from net
investment income .120 .100 .130 .210 .040 .124 .152 .139 .142 .150
- ---------------------------------------------------------------------------------------------------------------------------------
Net asset value, end of
year $1.185 1.338 1.209 1.144 .914 1.122 1.258 1.225 1.290 1.226
=================================================================================================================================
TOTAL RETURN (%) (2.25) 20.00 17.76 51.83 (15.45) (1.22) 15.66 5.82 17.63 21.58
- ---------------------------------------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET
ASSETS (%):
Expenses .65 .63 .64 .67 .68 .63 .66 .62 .66 .69
- ---------------------------------------------------------------------------------------------------------------------------------
Net investment income 9.49 9.54 10.44 12.95 16.27 12.50 11.98 10.81 11.06 12.56
- ---------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA:
Net assets at end of year
(in thousands) $ 219,415 233,964 162,158 121,608 88,566 150,674 138,461 95,502 143,605 71,282
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio turnover rate
(%) 98 84 57 31 28 81 52 122 158 130
=================================================================================================================================
</TABLE>

EQUITY PORTFOLIO

<TABLE>
<CAPTION>
Year ended December 31,
1994 1993 1992 1991 1990 1989 1988 1987 1986 1985
------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING
PERFORMANCE:
Net asset value, beginning of
year $2.935 2.631 2.642 1.681 1.692 1.348 1.374 1.377 1.283 1.058
- ---------------------------------------------------------------------------------------------------------------------------------
Income from investment
operations:
Net investment income .018 .004 .007 .017 .032 .039 .032 .030 .024 .036
- ---------------------------------------------------------------------------------------------------------------------------------
Net realized and unrealized
gain (loss) on investments (.138) .370 .082 .974 (.023) .338 (.026) (.003) .094 .225
- ---------------------------------------------------------------------------------------------------------------------------------
Total from investment
operations (.120) .374 .089 .991 .009 .377 .006 .027 .118 .261
- ---------------------------------------------------------------------------------------------------------------------------------
Less dividends:
Distributions from net
investment income -- .010 .005 .030 .010 .033 .032 .030 .024 .036
- ---------------------------------------------------------------------------------------------------------------------------------
Distributions from net
realized gain on
investments .150 .060 .095 -- .010 -- -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Total dividends .150 .070 .100 .030 .020 .033 .032 .030 .024 .036
- ---------------------------------------------------------------------------------------------------------------------------------
Net asset value, end of year $2.665 2.935 2.631 2.642 1.681 1.692 1.348 1.374 1.377 1.283
=================================================================================================================================
TOTAL RETURN (%) (4.02) 14.63 3.57 59.47 0.60 27.87 .40 1.67 9.10 25.08
- ---------------------------------------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS
(%):
Expenses .66 .64 .64 .67 .68 .70 .71 .64 .70 .72
- ---------------------------------------------------------------------------------------------------------------------------------
Net investment income .69 .30 .65 .83 2.23 2.49 2.34 1.85 1.82 3.11
- ---------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA:
Net assets at end of year (in
thousands) $ 321,708 284,461 203,624 118,983 61,621 51,961 45,833 46,474 30,228 45,913
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio turnover rate (%) 106 78 78 106 135 93 301 165 262 95
=================================================================================================================================
</TABLE>

4
<PAGE> 82

GOVERNMENT SECURITIES PORTFOLIO

<TABLE>
<CAPTION>
Year ended December 31,
1994 1993 1992 1991 1990(a) 1989(a) 1988 1987(c)
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of year $1.267 1.277 1.287 1.175 1.091 1.053 1.020 1.000
- ---------------------------------------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .067 .060 .064 .090 .093 .092 .089 --
- ---------------------------------------------------------------------------------------------------------------------------------
Net realized and unrealized gain (loss) on
investments (.102) .020 .006 .082 .011 .036 (.056) .020
- ---------------------------------------------------------------------------------------------------------------------------------
Total from investment operations (.035) .080 .070 .172 .104 .128 .033 .020
- ---------------------------------------------------------------------------------------------------------------------------------
Less dividends:
Distributions from net investment income .060 .060 .050 .060 .020 .090 -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Distributions from net realized gain on
investments .024 .030 .030 -- -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Distributions in excess of net realized gain
on investments .006 -- -- -- -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Total dividends .090 .090 .080 .060 .020 .090 -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Net asset value, end of year $1.142 1.267 1.277 1.287 1.175 1.091 1.053 1.020
=================================================================================================================================
TOTAL RETURN (%) (2.74) 6.48 5.90 15.22 9.81 13.14 3.27 --
- ---------------------------------------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (%):
Expenses .63 .60 .61 .63 .58 .53 1.81 --(b)
- ---------------------------------------------------------------------------------------------------------------------------------
Net investment income 5.69 5.05 6.08 7.42 8.48 8.73 7.94 --(b)
- ---------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA:
Net assets at end of year (in thousands) $95,782 121,912 98,814 59,064 31,929 14,878 1,170 311
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio turnover rate (%) 606 534 492 141 174 28 25 --
=================================================================================================================================
</TABLE>

NOTES TO GOVERNMENT SECURITIES PORTFOLIO:

(a) KFS waived its investment management fee from March 1, 1989 to March 1,
1990. Absent this waiver, the ratio of expenses to average net assets and
the ratio of net investment income to average net assets would have been
1.04% and 8.22%, respectively, in 1989 and .66% and 8.40%, respectively, in
1990.
(b) Because of the short start-up period from the Government Securities
Portfolio's initial public offering to December 31, 1987, ratios of expenses
and net investment income to average net assets for 1987 are not meaningful.
(c) For the period from September 3, 1987 (inception) through December 31, 1987.

INTERNATIONAL PORTFOLIO

<TABLE>
<CAPTION>
Year ended
December 31,
-------------------
1994 1993 1992(a)
-------- ------ -------
<S> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period $1.306 .993 1.000
- ---------------------------------------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .009 .010 .010
- ---------------------------------------------------------------------------------------------------------------------------------
Net realized and unrealized gain (loss) on investments (.056) .313 (.017 )
- ---------------------------------------------------------------------------------------------------------------------------------
Total from investment operations (.047) .323 (.007 )
- ---------------------------------------------------------------------------------------------------------------------------------
Less dividends:
Distributions from net investment income -- .009 --
- ---------------------------------------------------------------------------------------------------------------------------------
Distributions from net realized gain on investments .015 .001 --
- ---------------------------------------------------------------------------------------------------------------------------------
Total dividends .015 .010 --
- ---------------------------------------------------------------------------------------------------------------------------------
Net asset value, end of period $1.244 1.306 .993
=================================================================================================================================
TOTAL RETURN (%) (3.59) 32.83 (.72 )
- ---------------------------------------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (%):
Expenses .93 .92 1.11
- ---------------------------------------------------------------------------------------------------------------------------------
Net investment income .74 .86 1.01
- ---------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA:
Net assets at end of period (in thousands) $122,710 88,880 19,447
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio turnover rate (%) 107 116 129
=================================================================================================================================
</TABLE>

NOTE TO INTERNATIONAL PORTFOLIO:

(a) For the period from January 6, 1992 (inception) through December 31, 1992.

5
<PAGE> 83

SMALL CAPITALIZATION EQUITY PORTFOLIO

<TABLE>
<CAPTION>
December 31, 1994(a)
--------------------
<S> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period $1.000
- ---------------------------------------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .008
- ---------------------------------------------------------------------------------------------------------------------------------
Net realized and unrealized gain on investments .031
- ---------------------------------------------------------------------------------------------------------------------------------
Total from investment operations .039
- ---------------------------------------------------------------------------------------------------------------------------------
Net asset value, end of period $1.039
- ---------------------------------------------------------------------------------------------------------------------------------
TOTAL RETURN (%) 3.95
- ---------------------------------------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (%):
Expenses 1.25
- ---------------------------------------------------------------------------------------------------------------------------------
Net investment income .91
- ---------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA:
Net assets at end of period (in thousands) $12,909
- ---------------------------------------------------------------------------------------------------------------------------------
Portfolio turnover rate (%) 58
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>

NOTE TO SMALL CAPITALIZATION EQUITY PORTFOLIO:

(a) For the period from May 2, 1994 (inception) through December 31, 1994.

NOTE:

Ratios for all Portfolios have been determined on an annualized basis. Total
return is not annualized.

6
<PAGE> 84

INVESTMENT OBJECTIVES, POLICIES AND RISK FACTORS

The Fund has adopted for each Portfolio certain fundamental investment
restrictions which, together with the investment objective and policies, cannot
be changed with respect to a Portfolio without approval by holders of a majority
of the outstanding voting shares as defined in the Investment Company Act of
1940 ("1940 Act"). See "Investment Restrictions" in the Statement of Additional
Information.

Each Portfolio has a different investment objective which it pursues through
separate investment policies, as described below. The differences in objectives
and policies among the Portfolios can be expected to affect the degree of market
and financial risk to which each Portfolio is subject and the return of each
Portfolio. There are market risks in any investment and therefore there can be
no assurance that the objective of any Portfolio will be achieved. The actual
return of a holder of a variable life or variable annuity contract will be
affected by charges imposed by the separate accounts of Participating Insurance
Companies.

MONEY MARKET PORTFOLIO. The Money Market Portfolio seeks maximum current income
to the extent consistent with stability of principal from a portfolio of the
following types of U.S. Dollar denominated money market instruments that mature
in twelve months or less:

1. Obligations of, or guaranteed by, the U.S. or Canadian Governments,
their agencies or instrumentalities. The two broad categories of U.S.
Government debt instruments are: (a) direct obligations of the U.S.
Treasury and (b) securities issued or guaranteed by agencies and
instrumentalities of the U.S. Government. Some obligations issued or
guaranteed by agencies or instrumentalities of the U.S. Government are
backed by the full faith and credit of the United States and others are
backed exclusively by the agency or instrumentality with limited rights of
the issuer to borrow from the U.S. Treasury.

2. Bank certificates of deposit, time deposits or bankers' acceptances
limited to U.S. banks or Canadian chartered banks having total assets in
excess of $1 billion.

3. Bank certificates of deposit, time deposits or bankers' acceptances of
U.S. branches of foreign banks having total assets in excess of $10
billion.

4. Commercial paper rated Prime-1 or Prime-2 by Moody's Investors Service,
Inc. ("Moody's") or A-1 or A-2 by Standard & Poor's Corporation ("S&P"), or
commercial paper or notes of comparable quality, such as are issued by
companies with an unsecured debt issue outstanding currently rated A or
higher by Moody's or S&P where the obligation is on the same or a higher
level of priority as the rated issue, and investments in other corporate
obligations such as publicly traded bonds, debentures and notes rated A or
higher by Moody's or S&P. See "Appendix--Ratings of Investments" in the
Statement of Additional Information for a description of the ratings.

5. Repurchase agreements of obligations which are suitable for investment
under the categories set forth above. Repurchase agreements are discussed
under "Investment Techniques--Repurchase Agreements."

In addition, the Money Market Portfolio limits its portfolio investments to
securities that meet the quality and diversification requirements of Rule 2a-7
of the 1940 Act. See "Net Asset Value."

To the extent the Money Market Portfolio purchases Eurodollar certificates of
deposit issued by London branches of U.S. banks, or commercial paper issued by
foreign entities, consideration will be given to their marketability, possible
restrictions on international currency transactions and to regulations imposed
by the domicile country of the foreign issuer. Eurodollar certificates of
deposit may not be subject to the same regulatory requirements as certificates
issued by U.S. banks and associated income may be subject to the imposition of
foreign taxes. The Money Market Portfolio will normally invest at least 25% of
its net assets in instruments issued by domestic or foreign banks.

The Money Market Portfolio seeks to maintain its net asset value at $1.00 per
share by valuing its portfolio of investments on the amortized cost method in
accordance with Rule 2a-7 of the 1940 Act. See "Net Asset Value." While the
Portfolio will make every effort to maintain a fixed net asset value at $1.00
per share, there can be no assurance that this objective will be achieved.

The Money Market Portfolio may invest in instruments that bear rates of interest
that are adjusted periodically or that "float" continuously according to
formulae intended to minimize fluctuations in values of the instruments
("Variable Rate Securities"). The Fund determines the maturity of Variable Rate
Securities in accordance with Securities and Exchange Commission ("SEC") rules
that allow the Fund to consider certain of such instruments as having maturities
earlier than the maturity date on the instrument.

TOTAL RETURN PORTFOLIO. The 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. The Portfolio's investments will

7
<PAGE> 85

normally consist of domestic and foreign fixed income and equity securities.
Fixed income securities will include bonds, money market instruments (including
repurchase agreements) and other debt securities (such as U.S. and foreign
government securities and investment grade and high yield corporate obligations)
and preferred stocks, some of which may have a call on common stocks through
attached warrants or a conversion privilege. The Portfolio may invest in fixed
income securities that are in the lower rating categories and those that are
non-rated (sometimes called "junk bonds"). The characteristics of the rating
categories are described in "Appendix--Ratings of Investments" in the Statement
of Additional Information. For a discussion of lower rated and non-rated
securities and related risks, see "High Yield Portfolio" and "Special Risk
Factors--High Yield (High Risk) Bonds" below. Equity investments normally will
consist of common stocks and securities convertible into or exchangeable for
common stocks; however, the Portfolio may also make private placement
investments (which are normally restricted securities). For a further
description of equity securities, see "Equity Portfolio" below. The percentage
of assets invested in specific categories of fixed-income and equity securities
will vary from time to time depending upon the judgment of the investment
manager as to general market and economic conditions, trends in yields and
interest rates, and changes in fiscal or monetary policies.

The Portfolio does not make investments for short-term profits nor does it have
a separate portfolio turnover policy for equity and fixed income segments of its
portfolio. The Portfolio is not restricted in policy with regard to portfolio
turnover and will make changes in its investment portfolio from time to time as
business and economic conditions or market prices may dictate and as its
investment policy may require.

The Portfolio may write and purchase put and call options traded on national
securities exchanges or over-the-counter, including options on securities
indices. The Portfolio may also engage in financial futures transactions and may
purchase foreign securities and engage in related foreign currency transactions.
The Portfolio may purchase or sell portfolio securities on a when-issued or
delayed delivery basis. See "Special Risk Factors--Foreign Securities" and
"Investment Techniques."

HIGH YIELD PORTFOLIO. The High Yield Portfolio seeks to provide a high level of
current income by investing in fixed income securities. Fixed income obligations
include corporate debt securities, U.S. and Canadian Government securities,
obligations of U.S. and Canadian banking institutions, convertible securities,
assignments or participations in loans, preferred stock, and cash and cash
equivalents, including repurchase agreements.

The fixed income securities purchased by the Portfolio may include those in the
lower rating categories of the established rating services and those that are
non-rated (sometimes called "junk bonds"). Investments in such securities entail
relatively greater risk of loss of income or principal than investments in
higher rated securities; market prices may fluctuate more than market prices of
higher rated securities. See "Special Risk Factors--High Yield Bonds (High
Risk)" below for a discussion of such risks. These fixed income securities (debt
and preferred stock issues, including convertibles) normally offer a current
yield or yield to maturity that is significantly higher than the yield available
from securities rated in the four highest categories assigned by Moody's or S&P.
See "Appendix--Ratings of Investments" in the Statement of Additional
Information for a description of Moody's and S&P ratings.

The average maturity and the mix of investments of the Portfolio will vary as
the investment manager seeks to provide a high level of income considering the
available alternatives in the market. See "Appendix--Portfolio Composition of
High Yield Bonds" in this prospectus. Since interest rates vary with changes in
economic, market, political and other conditions, there can be no assurance that
historic interest rates are indicative of rates which may prevail in the future.
Since the value of securities in the Portfolio fluctuates depending upon market
factors and inversely with current interest rate levels, the net asset value of
its shares will fluctuate. The investment adviser will adjust the investments of
the Portfolio as considered advisable in view of prevailing or anticipated
market conditions. Accordingly, certain portfolio securities may be purchased or
sold in anticipation of a rise or a decline in interest rates.

The Portfolio does not make investments for short-term profits, but it is not
restricted in policy with regard to portfolio turnover and will make changes in
its investment portfolio from time to time as business and economic conditions
or market prices may dictate and as its investment policy may require.

EQUITY PORTFOLIO. The Equity Portfolio seeks maximum appreciation of capital
through diversification of investment securities having potential for capital
appreciation. Current income will not be a significant factor. The Portfolio's

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investments normally will consist of equity securities and securities
convertible into or exchangeable for equity securities; however, it may also
make private placement investments (which are normally restricted securities).

As a non-fundamental investment policy, the Equity Portfolio will invest at
least 65% of its total assets in equity securities under normal circumstances.
Equity securities include common stocks, preferred stocks, securities
convertible into or exchangeable for common or preferred stocks, equity
investments in partnerships, joint ventures and other forms of non-corporate
investment and warrants, options and rights exercisable for equity securities.
The common stocks or the other securities selected will be those which, in the
investment manager's judgment, have significant appreciation possibilities.
Investment opportunities will often be sought among securities of small, less
well-known companies; but securities of large, well-known companies will also be
purchased, particularly when the investment manager considers such securities to
be priced favorably in comparison with securities of smaller companies.

For defensive purposes the Portfolio may temporarily hold a significant portion
of its assets in cash or defensive type securities, such as liquid high grade
debt securities, high quality money market instruments and repurchase
agreements.

The Portfolio does not intend to engage actively in trading for short-term
profits, but it is not restricted in policy with regard to portfolio turnover
and will make changes in its investment portfolio from time to time as business
and economic conditions or market prices may dictate and as its investment
policy may require.

GOVERNMENT SECURITIES PORTFOLIO. The Government Securities Portfolio seeks high
current return consistent with preservation of capital from a portfolio composed
primarily of U.S. Government securities. The Portfolio will also invest in
fixed-income securities other than U.S. Government securities, and will engage
in options and financial futures transactions. The Portfolio may purchase or
sell portfolio securities on a when-issued or delayed delivery basis. See
"Investment Techniques." The Portfolio's current return is sought from interest
income and net short-term gains on securities and options and futures
transactions.

Under normal market conditions, the Portfolio will, as a fundamental policy,
invest at least 65% of its total assets in U.S. Government securities and
repurchase agreements of U.S. Government securities. There are two broad
categories of U.S. Government securities: (a) direct obligations of the U.S.
Treasury and (b) obligations issued or guaranteed by agencies and
instrumentalities of the United States. Some obligations issued or guaranteed by
agencies or instrumentalities are backed by the full faith and credit of the
United States (such as Government National Mortgage Association "GNMA"
Certificates) and others are backed exclusively by the agency or instrumentality
with limited rights of the issuer to borrow from the U.S. Treasury (such as
Federal National Mortgage Association Bonds). GNMA Certificates are debt
securities which represent an interest in one or a pool of mortgages which are
insured by the Federal Housing Administration or the Farmers Home
Administration, or guaranteed by the Veterans Administration. U.S. Government
securities may include "zero coupon" securities that have been stripped by the
U.S. Government of their unmatured interest coupons (see "Investment Policies
and Techniques" in the Statement of Additional Information for a discussion of
their features and risks) and collateralized obligations issued or guaranteed by
a U.S. Government agency or instrumentality (see "Investment Techniques").

U.S. Government securities of the type in which the Portfolio may invest have
historically involved little risk of loss of principal if held to maturity. The
government guarantee of the securities in the Portfolio, however, does not
guarantee the market value of the shares of the Portfolio. There are market
risks inherent in all investments in securities and the value of an investment
in the Portfolio will fluctuate over time. Normally, the value of the
Portfolio's investments varies inversely with changes in interest rates. For
example, as interest rates rise, the value of the Portfolio's investments will
tend to decline and, as interest rates fall, the value of the Portfolio's
investments will tend to increase. In addition, the potential for appreciation
in the event of a decline in interest rates may be limited or negated by
increased principal prepayments in respect to certain mortgage-backed
securities, such as GNMA certificates. Prepayment of high interest rate
mortgage-backed securities during times of declining interest rates will tend to
lower the return of the Portfolio and may even result in losses to the Portfolio
if some securities were acquired at a premium. With respect to securities
supported only by the credit of the issuing agency or by an additional line of
credit with the U.S. Treasury, there is no guarantee that the U.S. Government
will provide support to such agencies and such securities may involve risk of
loss of principal and interest.

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The Portfolio will seek to enhance income through limited investment (up to 35%
of total assets) in fixed income securities other than U.S. Government
securities. Such other fixed-income securities include: (a) corporate debt
securities that are rated at the time of purchase within the four highest grades
by either Moody's (Aaa, Aa, A, or Baa) or S&P (AAA, AA, A, or BBB); (b)
commercial paper that is rated at the time of purchase within the two highest
grades by either Moody's (Prime-1 or Prime-2) or S&P (A-1 or A-2); (c) bank
certificates of deposit (including term deposits) or bankers' acceptances issued
by domestic banks (including their foreign branches) and Canadian chartered
banks having total assets in excess of $1 billion; and (d) repurchase agreements
with respect to any of the foregoing; provided, however, the Portfolio may
invest up to 10% of its total assets in fixed income securities without regard
to the foregoing limitations, including securities that are rated below Baa by
Moody's and BBB by S&P or are non-rated (sometimes called "junk bonds"). The
characteristics of the rating categories are described in "Appendix--Ratings of
Investments" in the Statement of Additional Information. For a discussion of
lower rated and non-rated securities and related risks, see "High Yield
Portfolio" above and "Special Risk Factors--High Yield Bonds (High Risk)" below.

The Portfolio may also invest in collateralized obligations which, consistent
with the limitations reflected above, may be privately issued or may be issued
or guaranteed by U.S. Government agencies or instrumentalities. See "Investment
Techniques."

During temporary defensive periods when the Fund's investment manager deems it
appropriate, the Portfolio may invest all or a portion of its assets in cash or
short-term high quality money market instruments, including short-term U.S.
Government securities and repurchase agreements with respect to such securities.
The yields on these securities tend to be lower than the yields on other
securities to be purchased by the Portfolio.

INTERNATIONAL PORTFOLIO. The International Portfolio seeks a total return, a
combination of capital growth and income, principally through an internationally
diversified portfolio of equity securities. Investments may be made for capital
growth or for income or any combination thereof for the purpose of achieving a
high overall return. There is no limitation on the percentage or amount of the
Portfolio's assets that may be invested for growth or income, and therefore at
any particular time the investment emphasis may be placed solely or primarily on
growth of capital or on income. While the Portfolio invests principally in
equity securities of non-U.S. issuers, it may also invest in convertible and
debt securities and foreign currencies. The Portfolio invests primarily in
non-U.S. issuers, and under normal circumstances more than 80% of the
Portfolio's total assets will be invested in non-U.S. issuers. In determining
whether the Portfolio will be invested for capital growth or income, the
investment manager analyzes the international equity and fixed income markets
and seeks to assess the degree of risk and level of return that can be expected
from each market. Also see "Special Risk Factors--Foreign Securities."

In pursuing its objective, the Portfolio invests primarily in common stocks of
established non-U.S. companies believed to have potential for capital growth,
income or both. However, there is no requirement that the Portfolio invest
exclusively in common stocks or other equity securities. The Portfolio may
invest in any other type of security including, but not limited to, convertible
securities (including warrants), preferred stocks, bonds, notes and other debt
securities of companies (including Euro-currency instruments and securities) or
obligations of domestic or foreign governments and their political subdivisions.
When the investment manager believes that the total return potential in debt
securities equals or exceeds that of equity securities, the Portfolio may
substantially increase its holdings of such debt securities. The Portfolio may
establish and maintain reserves for defensive purposes or to enable it to take
advantage of future buying opportunities. The Portfolio's reserves may be
invested in domestic as well as foreign short-term money market instruments
including, but not limited to, government obligations, certificates of deposit,
bankers' acceptances, time deposits, commercial paper, short-term corporate debt
securities and repurchase agreements.

The Portfolio makes investments in various countries. Under normal
circumstances, business activities in not less than three different foreign
countries will be represented in the portfolio. The Portfolio may, from time to
time, have more than 25% of its assets invested in any major industrial or
developed country that in the view of KFS poses no unique investment risk. The
Portfolio may purchase securities of companies, wherever organized, that have
their principal activities and interests outside the United States. Under
exceptional economic or market conditions abroad, the Portfolio may, for
defensive purposes, invest all or a major portion of its assets in U.S.
Government obligations or securities of companies incorporated in and having
their principal activities in the United States. The Portfolio may also invest
its reserves in domestic short-term money market instruments as described above.

In determining the appropriate distribution of investments among various
countries and geographic regions, the investment manager ordinarily considers
such factors as: prospects for relative economic growth among foreign countries;
expected levels of inflation; relative price levels of the various capital
markets; government policies influencing business conditions; the outlook for
currency relationships and the range of individual investment

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opportunities available to the international investor. Currently, more than 60%
of the market capitalization of equity securities are represented by securities
in currencies other than the U.S. Dollar.

The Portfolio may purchase and sell options on securities, index options,
financial futures contracts and options on financial futures contracts. The
Portfolio may enter into forward foreign currency exchange contracts, foreign
currency options and foreign currency futures contracts and options thereon to
protect against uncertainty in the level of future foreign exchange rates. See
"Investment Techniques" below.

Generally, the Portfolio will not trade in securities for short-term profits
but, when circumstances warrant, securities may be sold without regard to the
length of time held.

Investors should understand that the expense ratio of the Portfolio can be
expected to be higher than that of portfolios investing in domestic securities
since the costs of operation are higher.

SMALL CAP PORTFOLIO. The Small Cap Portfolio seeks maximum appreciation of
investors' capital. Current income will not be a significant factor. The
Portfolio is designed primarily for investors with substantial resources and the
investment experience to consider their shares as a long-term investment
involving financial risk commensurate with potential substantial gains. Since
many of the securities in the Portfolio may be considered speculative in nature
by traditional investment standards, substantially greater than average market
volatility and investment risk may be involved. There is no assurance that the
Portfolio's objective will be achieved and its returns and net asset value will
fluctuate.

The Small Cap Portfolio seeks attractive areas for investment opportunity
arising from such factors as technological advances, new marketing methods, and
changes in the economy and population. Currently, the investment manager
believes that such investment opportunities may be found among the following:
(a) companies engaged in high technology fields such as electronics, medical
technology and computer software and specialty retailing; (b) companies having a
significantly improved earnings outlook as the result of a changed economic
environment, acquisitions, mergers, new management, changed corporate strategy
or product innovation; (c) companies supplying new or rapidly growing services
to consumers and businesses in such fields as automation, data processing,
communications, and marketing and finance; and (d) companies having innovative
concepts or ideas.

As a non-fundamental investment policy, at least 65% of the Small Cap
Portfolio's total assets normally will be invested in the equity securities of
smaller companies, i.e., those having a market capitalization of $1 billion or
less at the time of investment, many of which would be in the early stages of
their life cycle. The investment manager currently believes that investment in
such companies may offer greater opportunities for growth of capital than
larger, more established companies, but also involves certain special risks.
Smaller companies often have limited product lines, markets or financial
resources, and they may be dependent upon one or a few key people for
management. The securities of such companies generally are subject to more
abrupt or erratic market movements and may be less liquid than securities of
larger, more established companies or the market averages in general.

The Small Cap Portfolio's investment portfolio will normally consist primarily
of common stocks and securities convertible into or exchangeable for common
stocks, including warrants and rights. The Portfolio may also invest to a
limited degree in preferred stocks and debt securities when they are believed by
the investment manager to offer opportunities for capital growth. The Portfolio
may also write and purchase options, engage in financial futures transactions,
purchase foreign securities, engage in related foreign currency transactions and
lend its portfolio securities. See "Special Risk Factors--Foreign Securities"
and "Investment Techniques" below. When a defensive position is deemed
advisable, the Portfolio may, without limit, invest in high grade debt
securities and securities of the U.S. Government and its agencies or
instrumentalities or retain cash or cash equivalents, including repurchase
agreements.

In the selection of investments, long-term capital appreciation will take
precedence over short range market fluctuations. The Small Cap Portfolio does
not intend to engage actively in trading for short-term profits, although it may
occasionally make investments for short-term capital appreciation when such
action is believed to be desirable and consistent with sound investment
procedure. Generally, the Portfolio will make long-term rather than short-term
investments. Nevertheless, it may dispose of such investments at any time it may
be deemed advisable because of a subsequent change in the circumstances of a
particular company or industry or in general market or economic conditions. The
rate of portfolio turnover is not a limiting factor when changes in investment
are deemed appropriate. In addition, market conditions, cash requirements for
redemption and repurchase of Portfolio shares or other factors could affect the
portfolio turnover rate.

SPECIAL RISK FACTORS--HIGH YIELD (HIGH RISK) BONDS. As reflected above, the
High Yield Portfolio intends to invest a substantial portion of its assets in
fixed income securities offering high current income. Subject to their specific
investment objectives and policies as described above, the Total Return and
Government Securities

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Portfolios also may invest a portion of their assets in such securities. Such
high yield (high risk) fixed income securities will ordinarily be in the lower
rating categories (securities rated below the fourth category) of recognized
rating agencies or will be non-rated. Lower rated and non-rated securities,
which are sometimes referred to by the popular press as "junk bonds," have
widely varying characteristics and quality. These lower rated and non-rated
fixed income securities are considered, on balance, as predominantly speculative
with respect to capacity to pay interest and repay principal in accordance with
the terms of the obligation and generally involve more credit risk than
securities in the higher rating categories. Accordingly, an investment in the
High Yield Portfolio may not constitute a complete investment program and may
not be appropriate for all investors.

The market values of such securities tend to reflect individual corporate
developments to a greater extent than do those of higher rated securities, which
react primarily to fluctuations in the general level of interest rates. Such
lower rated securities also are more sensitive to economic conditions than are
higher rated securities. Adverse publicity and investor perceptions regarding
lower rated bonds, whether or not based on fundamental analysis, may depress the
prices for such securities. These and other factors adversely affecting the
market value of high yield securities will adversely affect a Portfolio's net
asset value. Although some risk is inherent in all securities ownership, holders
of fixed income securities have a claim on the assets of the issuer prior to the
holders of common stock. Therefore, an investment in fixed income securities
generally entails less risk than an investment in common stock of the same
issuer.

The investment philosophy of the High Yield Portfolio with respect to high yield
(high risk) bonds is based upon the premise that over the long term a broadly
diversified portfolio of high yield fixed-income securities should, even taking
into account possible losses, provide a higher net return than that achievable
on a portfolio of higher rated securities. The Portfolio seeks to achieve the
highest yields possible while reducing relative risk through (a) broad
diversification, (b) credit analysis by the investment manager of the issuers in
which the Portfolio invests, (c) purchase of high yield securities at discounts
from par or stated value when practicable and (d) monitoring and seeking to
anticipate changes and trends in the economy and financial markets that might
affect the prices of portfolio securities. The investment manager's judgment as
to the "reasonableness" of the risk involved in any particular investment will
be a function of its experience in managing fixed income investments and its
evaluation of general economic and financial conditions; of a specific issuer's
business and management, cash flow, earnings coverage of interest and dividends,
ability to operate under adverse economic conditions, and fair market value of
assets; and of such other considerations as the investment manager may deem
appropriate. The investment manager, while seeking maximum current yield, will
monitor current corporate developments with respect to portfolio securities and
potential investments and to broad trends in the economy. In some circumstances,
defensive strategies may be implemented to preserve or enhance capital even at
the sacrifice of current yield. Defensive strategies, which may be used singly
or in any combination, may include, but are not limited to, investments in
discount securities or investments in money market instruments as well as
futures and options strategies.

High yield (high risk) securities frequently are issued by corporations in the
growth stage of their development. They may also be issued in connection with a
corporate reorganization or issued as part of a corporate takeover. Companies
that issue such high yielding securities often are highly leveraged and may not
have available to them more traditional methods of financing. Therefore, the
risk associated with acquiring the securities of such issuers generally is
greater than is the case with higher rated securities. For example, during an
economic downturn or recession, highly leveraged issuers of high yield
securities may experience financial stress. During such periods, such issuers
may not have sufficient revenues to meet their interest payment obligations. The
issuer's ability to service its debt obligations may also be adversely affected
by specific corporate developments, or the issuer's inability to meet specific
projected business forecasts, or the unavailability of additional financing. The
risk of loss from default by the issuer is significantly greater for the holders
of high yielding securities because such securities are generally unsecured and
are often subordinated to other creditors of the issuer.

A Portfolio may have difficulty disposing of certain high yield (high risk)
securities because they may have a thin trading market. Because not all dealers
maintain markets in all high yield securities, the Fund anticipates that such
securities could be sold only to a limited number of dealers or institutional
investors. The lack of a liquid secondary market may have an adverse effect on
market price and a Portfolio's ability to dispose of particular issues and may
also make it more difficult for the Fund to obtain accurate market quotations
for purposes of valuing a Portfolio's assets. Market quotations generally are
available on many high yield issues only from a limited number of dealers and
may not necessarily represent firm bids of such dealers or prices for actual
sales.

Zero coupon securities and pay-in-kind bonds involve additional special
considerations. Zero coupon securities are debt obligations that do not entitle
the holder to any periodic payments of interest prior to maturity or a specified
cash payment date when the securities begin paying current interest (the "cash
payment date") and therefore are

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issued and traded at a discount from their face amount or par value. The market
prices of zero coupon securities are generally more volatile than the market
prices of securities that pay interest periodically and are likely to respond to
changes in interest rates to a greater degree than do securities paying interest
currently having similar maturities and credit quality. Zero coupon, pay-in-kind
or deferred interest bonds carry additional risk in that, unlike bonds that pay
interest throughout the period to maturity, a Portfolio will realize no cash
until the cash payment date unless a portion of such securities is sold and, if
the issuer defaults, a Portfolio may obtain no return at all on its investment.

Additional information concerning high yield (high risk) securities appears
under "Appendix--Portfolio Composition of High Yield Bonds" in this prospectus
and under "Appendix--Ratings of Investments" in the Statement of Additional
Information.

SPECIAL RISK FACTORS--FOREIGN SECURITIES. The Total Return, High Yield, Equity
and Small Cap Portfolios invest primarily in securities that are publicly traded
in the United States; but, they have discretion to invest a portion of their
assets in foreign securities that are traded principally in securities markets
outside the United States. As a non-fundamental policy, these Portfolios
currently limit investment in foreign securities not publicly traded in the
United States to 25% of their total assets. These Portfolios may also invest
without limit in U.S. Dollar denominated American Depository Receipts ("ADRs")
which are bought and sold in the United States. The Money Market Portfolio,
within its quality standards, may also invest in securities of foreign issuers.
However, such investments will be in U.S. Dollar denominated instruments.
Foreign securities in which a Portfolio may invest include any type of security
consistent with that Portfolio's investment objective and policies. In
connection with their foreign securities investments, such Portfolios may, to a
limited extent, engage in foreign currency exchange transactions and purchase
and sell foreign currency options and foreign currency futures contracts as a
hedge and not for speculation. The International Portfolio may invest without
limit in foreign securities and may engage in foreign currency exchange
transactions and may purchase and sell foreign currency options and foreign
currency futures contracts. See "Investment Techniques--Options and Financial
Futures Transactions--Foreign Currency Transactions." The International
Portfolio may invest without limitation in securities of foreign issuers.

Foreign securities involve currency risks. The U.S. Dollar value of a foreign
security tends to decrease when the value of the U.S. Dollar rises against the
foreign currency in which the security is denominated and tends to increase when
the value of the U.S. Dollar falls against such currency. Fluctuations in
exchange rates may also affect the earning power and asset value of the foreign
entity issuing the security. Dividend and interest payments may be repatriated
based on the exchange rate at the time of disbursement or payment, and
restrictions on capital flows may be imposed. Losses and other expenses may be
incurred in converting between various currencies.

Foreign securities may be subject to foreign government taxes that reduce their
attractiveness. Other risks of investing in such securities include political or
economic instability in the country involved, the difficulty of predicting
international trade patterns and the possibility of imposition of exchange
controls. The prices of such securities may be more volatile than those of
domestic securities. In addition, there may be less publicly available
information about foreign issuers than about domestic issuers. Many foreign
issuers are not subject to uniform accounting, auditing and financial reporting
standards comparable to those applicable to domestic issuers. There is generally
less regulation of stock exchanges, brokers, banks, and listed companies abroad
than in the United States. With respect to certain foreign countries, there is a
possibility of expropriation, excessive taxation or diplomatic developments
which could affect investment in these countries.

Emerging Markets. While a Portfolio's investments in foreign securities will
principally be in developed countries, a Portfolio may make investments in
developing or "emerging" countries, which involve exposure to economic
structures that are generally less diverse and mature than in the United States,
and to political systems that may be less stable. A developing or emerging
market country can be considered to be a country that is in the initial stages
of its industrialization cycle. Currently, emerging markets generally include
every country in the world other than the United States, Canada, Japan,
Australia, New Zealand, Hong Kong, Singapore and most Western European
countries. Currently, investing in many emerging markets may not be desirable or
feasible because of the lack of adequate custody arrangements for a Portfolio's
assets, overly burdensome repatriation and similar restrictions, the lack of
organized and liquid securities markets, unacceptable political risks or other
reasons. As opportunities to invest in securities in emerging markets develop, a
Portfolio may expand and further broaden the group of emerging markets in which
it invests. In the past, markets of developing or emerging market countries have
been more volatile than the markets of developed countries; however, such
markets often have provided higher rates of return to investors. The investment
manager believes that these characteristics can be expected to continue in the
future.

Many of the risks described above relating to foreign securities generally will
be greater for emerging markets than for developed countries. For instance,
economies in individual developing markets may differ favorably or unfavorably
from the U.S. economy in such respects as growth of domestic product, rates of
inflation, currency

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depreciation, capital reinvestment, resource self-sufficiency and balance of
payments positions. Many emerging markets have experienced substantial rates of
inflation for many years. Inflation and rapid fluctuations in inflation rates
have had and may continue to have very negative effects on the economies and
securities markets of certain developing markets. Economies in emerging markets
generally are dependent heavily upon international trade and, accordingly, have
been and may continue to be affected adversely by trade barriers, exchange
controls, managed adjustments in relative currency values and other
protectionist measures imposed or negotiated by the countries with which they
trade. These economies also have been and may continue to be affected adversely
by economic conditions in the countries with which they trade.

Also, the securities markets of developing countries are substantially smaller,
less developed, less liquid and more volatile than the securities markets of the
United States and other more developed countries. Disclosure, regulatory and
accounting standards in many respects are less stringent than in the United
States and other developed markets. There also may be a lower level of
monitoring and regulation of developing markets and the activities of investors
in such markets, and enforcement of existing regulations has been extremely
limited.

In addition, brokerage commissions, custodial services and other needs relating
to investment in foreign markets generally are more expensive than in the United
States; and this is particularly true with respect to emerging markets. Such
markets have different settlement and clearance procedures. In certain markets
there have been times when settlements could not keep pace with the volume of
securities transactions, making it difficult to conduct such transactions. Such
settlement problems may cause emerging market securities to be illiquid. The
inability of a Portfolio to make intended securities purchases because of
settlement problems could cause the Portfolio to miss attractive investment
opportunities. Inability to dispose of a portfolio security because of
settlement problems could result in losses to a Portfolio from subsequent
declines in value of the portfolio security or, if a Portfolio has entered into
a contract to sell the security, it could result in possible liability to the
purchaser. Certain emerging markets may lack clearing facilities equivalent to
those in developed countries. Accordingly, settlements can pose additional risks
in such markets and ultimately can expose the Portfolio to the risk of losses
resulting from a Portfolio's inability to recover from a counterparty.

The risk also exists that an emergency situation may arise in one or more
emerging markets as a result of which trading in securities may cease or may be
substantially curtailed and prices for a Portfolio's securities in such markets
may not be readily available. A Portfolio's securities in the affected markets
will be valued at fair value determined in good faith by or under the direction
of the Board of Trustees of the Fund.

Investment in certain emerging market securities is restricted or controlled to
varying degrees. These restrictions or controls may at times limit or preclude
foreign investment in certain emerging market securities and increase the costs
and expenses of a Portfolio. Emerging markets may require governmental approval
for the repatriation of investment income, capital or the proceeds of sales of
securities by foreign investors. In addition, if a deterioration occurs in an
emerging market country's balance of payments, the market could impose temporary
restrictions on foreign capital remittances.

Fixed Income. Since most foreign fixed income securities are not rated, a
Portfolio will invest in foreign fixed income securities based on KFS's analysis
without relying on published ratings. Since such investments will be based upon
KFS's analysis rather than upon published ratings, achievement of a Portfolio's
goals may depend more upon the abilities of KFS than would otherwise be the
case.

The value of the foreign fixed income securities held by a Portfolio, and thus
the net asset value of the Portfolio's shares, generally will fluctuate with (a)
changes in the perceived creditworthiness of the issuers of those securities,
(b) movements in interest rates, and (c) changes in the relative values of the
currencies in which a Portfolio's investments in fixed income securities are
denominated with respect to the U.S. Dollar. The extent of the fluctuation will
depend on various factors, such as the average maturity of a Portfolio's
investments in foreign fixed income securities, and the extent to which a
Portfolio hedges its interest rate, credit and currency exchange rate risks.
Many of the foreign fixed income obligations in which a Portfolio will invest
will have long maturities. A longer average maturity generally is associated
with a higher level of volatility in the market value of such securities in
response to changes in market conditions.

Investments in sovereign debt, including Brady Bonds, involve special risks.
Brady Bonds are debt securities issued under a plan implemented to allow debtor
nations to restructure their outstanding commercial bank indebtedness. Foreign
governmental issuers of debt or the governmental authorities that control the
repayment of the debt may be unable or unwilling to repay principal or pay
interest when due. In the event of default, there may be limited or no legal
recourse in that, generally, remedies for defaults must be pursued in the courts
of the defaulting party. Political conditions, especially a sovereign entity's
willingness to meet the terms of its fixed income securities, are of
considerable significance. Also, there can be no assurance that the holders of
commercial bank loans to the same

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sovereign entity may not contest payments to the holders of sovereign debt in
the event of default under commercial bank loan agreements. In addition, there
is no bankruptcy proceeding with respect to sovereign debt on which a sovereign
has defaulted, and a Portfolio may be unable to collect all or any part of its
investment in a particular issue.

Foreign investment in certain sovereign debt is restricted or controlled to
varying degrees, including requiring governmental approval for the repatriation
of income, capital or proceeds of sales by foreign investors. These restrictions
or controls may at times limit or preclude foreign investment in certain
sovereign debt or increase the costs and expenses of a Portfolio. A significant
portion of the sovereign debt in which a Portfolio may invest is issued as part
of debt restructuring and such debt is to be considered speculative. There is a
history of defaults with respect to commercial bank loans by public and private
entities issuing Brady Bonds. All or a portion of the interest payments and/or
principal repayment with respect to Brady Bonds may be uncollateralized.

Privatized Enterprises. Investments in foreign securities may include securities
issued by enterprises that have undergone or are currently undergoing
privatization. The governments of certain foreign countries have, to varying
degrees, embarked on privatization programs contemplating the sale of all or
part of their interests in state enterprises. A Portfolio's investments in the
securities of privatized enterprises include privately negotiated investments in
a government or state-owned or controlled company or enterprise that has not yet
conducted an initial equity offering, investments in the initial offering of
equity securities of a state enterprise or former state enterprise and
investments in the securities of a state enterprise following its initial equity
offering.

In certain jurisdictions, the ability of a foreign entity to participate in
privatizations may be limited by local law, or the price or terms on which the
entity may be able to participate may be less advantageous than for local
investors. Moreover, there can be no assurance that governments that have
embarked on privatization programs will continue to divest their ownership of
state enterprises, that proposed privatizations will be successful or that
governments will not re-nationalize enterprises that have been privatized.

In the case of the enterprises in which a Portfolio may invest, large blocks of
the stock of those enterprises may be held by a small group of stockholders,
even after the initial equity offerings by those enterprises. The sale of some
portion or all of those blocks could have an adverse effect on the price of the
stock of any such enterprise.

Prior to making an initial equity offering, most state enterprises or former
state enterprises go through an internal reorganization or management. Such
reorganizations are made in an attempt to better enable these enterprises to
compete in the private sector. However, certain reorganizations could result in
a management team that does not function as well as the enterprises's prior
management and may have a negative effect on such enterprise. In addition, the
privatization of an enterprise by its government may occur over a number of
years, with the government continuing to hold a controlling position in the
enterprise even after the initial equity offering for the enterprise.

Prior to privatization, most of the state enterprises in which a Portfolio may
invest enjoy the protection of and receive preferential treatment from the
respective sovereigns that own or control them. After making an initial equity
offering these enterprises may no longer have such protection or receive such
preferential treatment and may become subject to market competition from which
they were previously protected. Some of these enterprises may not be able to
effectively operate in a competitive market and may suffer losses or experience
bankruptcy due to such competition.

Depositary Certificates. For many foreign securities, there are U.S.
Dollar-denominated ADRs, which are bought and sold in the United States and are
issued by domestic banks. ADRs represent the right to receive securities of
foreign issuers deposited in the domestic bank or a correspondent bank. ADRs do
not eliminate all the risk inherent in investing in the securities of foreign
issuers. However, by investing in ADRs rather than directly in foreign issuers'
stock, the Portfolios avoid currency risks during the settlement period. In
general, there is a large, liquid market in the United States for most ADRs. The
Portfolios may also invest in European Depository Receipts ("EDRs"), which are
receipts evidencing an arrangement with a European bank similar to that for ADRs
and are designed for use in the European securities markets. EDRs are not
necessarily denominated in the currency of the underlying security.

THE FUND. The portfolio turnover rates for the Portfolios are listed under
"Financial Highlights." Since securities with maturities of less than one year
are excluded from portfolio turnover rate calculations, the portfolio turnover
rate for the Money Market Portfolio is zero. Frequency of portfolio turnover
will not be a limiting factor should the investment manager deem it desirable to
purchase or sell securities. Higher portfolio turnover (over 100%) involves
correspondingly greater brokerage commissions or other transaction costs. Higher
portfolio turnover may result in the realization of greater net short-term
capital gains. In order to continue to qualify as a regulated investment company
for federal income tax purposes, less than 30% of the annual gross income of a
Portfolio must be derived

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from the sale or disposition of securities and certain other investments held by
a Portfolio for less than three months. See "Dividends and Taxes" in the
Statement of Additional Information.

A Portfolio will not, as a non-fundamental policy, purchase illiquid securities
including repurchase agreements maturing in more than seven days, if, as a
result thereof, more than 15% (10% for the Money Market Portfolio) of the
Portfolio's net assets, valued at the time of the transactions, would be
invested in such securities.

INVESTMENT TECHNIQUES

LENDING OF PORTFOLIO SECURITIES. Consistent with applicable regulatory
requirements, any of the Portfolios may lend securities (principally to
broker-dealers) where such loans are callable at any time and are continuously
secured by segregated collateral (cash or U.S. Government securities) equal to
no less than the market value, determined daily, of the securities loaned. The
Portfolio will receive amounts equal to dividends or interest on the securities
loaned. It will also earn income for having made the loan. Any cash collateral
pursuant to these loans will be invested in short-term money market instruments.
As with other extensions of credit there are risks of delay in recovery or even
loss of rights in the collateral should the borrower of the securities fail
financially. However, the loans would be made only to firms deemed by the Fund's
investment manager to be of good standing, and when the Fund's investment
manager believes the potential earnings justify the attendant risk. The Fund
will limit such lending to not more than one-third of the value of a Portfolio's
total assets.

OPTIONS AND FINANCIAL FUTURES TRANSACTIONS. The Total Return, High Yield,
Equity, Government Securities, International and Small Cap Portfolios may each
deal in options on securities and securities indices, which options may be
listed for trading on a national securities exchange or traded over-the-counter.
The Money Market Portfolio does not engage in options transactions. The ability
to engage in options transactions enables a Portfolio to pursue its investment
objective and also to hedge against currency and market risks but is not
intended for speculation. In connection with their foreign securities
investments, the Total Return, High Yield, Equity, International and Small Cap
Portfolios may also purchase and sell foreign currency options.

The Government Securities Portfolio individually may write (sell) covered call
options on up to 100% of net assets, may write (sell) secured put options on up
to 50% of net assets and may purchase put and call options provided that no more
than 5% of net assets may be invested in premiums on such options. The Total
Return, High Yield, Equity, International and Small Cap Portfolios may write
(sell) covered call and secured put options on up to 25% of net assets and may
purchase put and call options provided that no more than 5% of its net assets
may be invested in premiums on such options.

The Total Return, High Yield, Equity, Government Securities, International and
Small Cap Portfolios may write (sell) covered call options so long as they own
securities or other assets that are acceptable for escrow purposes. Also, such
Portfolios may write (sell) secured put options, which means that so long as the
Portfolio is obligated as a writer of a put option, it will invest an amount not
less than the exercise price of the put option in money market instruments.

A call option gives the purchaser the right to buy, and the writer the
obligation to sell, the underlying security or other asset at the exercise price
during the option period. A put option gives the purchaser the right to sell,
and the writer the obligation to buy, the underlying security or other asset at
the exercise price during the option period. The writer of a covered call owns
securities or other assets that are acceptable for escrow and the writer of a
secured put invests an amount not less than the exercise price in eligible
securities or other assets to the extent that it is obligated as a writer. If a
call written by a Portfolio is exercised, the Portfolio foregoes any possible
profit from an increase in the market price of the underlying security or other
asset over the exercise price plus the premium received. In writing puts, there
is a risk that a Portfolio may be required to take delivery of the underlying
security or other asset at a disadvantageous price.

Over-the-counter traded options ("OTC options") differ from exchange traded
options in several respects. Such options are transacted with dealers directly
and not with a clearing corporation and there is a risk of non-performance by
the dealer as a result of the insolvency of such dealer or otherwise, in which
event a Portfolio may experience material losses. However, in writing options
the premium is paid in advance by the dealer. OTC options are available for a
greater variety of securities or other assets, and a wider range of expiration
dates and exercise prices, than for exchange traded options.

A Portfolio, as part of its option transactions, also may use index options.
Through the writing or purchase of index options a Portfolio can achieve many of
the same objectives as through the use of options on individual securities.
Options on securities indices are similar to options on a security except that,
rather than the right to take or make delivery of a security at a specified
price, an option on a securities index gives the holder the right to receive,
upon

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exercise of the option, an amount of cash if the closing level of the securities
index upon which the option is based is greater than, in the case of a call, or
less than, in the case of a put, the exercise price of the option.

Price movements in securities which a Portfolio owns or intends to purchase
probably will not correlate perfectly with movements in the level of an index
and, therefore, a Portfolio bears the risk of a loss on an index option which is
not completely offset by movements in the price of such securities. Because
index options are settled in cash, a call writer cannot determine the amount of
its settlement obligations in advance and, unlike call writing on specific
securities, cannot provide in advance for, or cover, its potential settlement
obligations by acquiring and holding the underlying securities.

The Total Return, High Yield, Equity, Government Securities, International and
Small Cap Portfolios may each engage in financial futures transactions. The
Money Market Portfolio does not engage in financial futures transactions.
Financial futures contracts are commodity contracts that obligate the long or
short holder to take or make delivery of a specified quantity of a financial
instrument, such as a security, or the cash value of a securities index during a
specified future period at a specified price. A Portfolio will "cover" futures
contracts sold by the Portfolio and maintain in a segregated account certain
liquid assets in connection with futures contracts purchased by the Portfolio as
described under "Investment Policies and Techniques" in the Statement of
Additional Information. In connection with their foreign securities investments,
the Total Return, High Yield, Equity, International and Small Cap Portfolios may
also engage in foreign currency financial futures transactions. A Portfolio will
not enter into any futures contracts or options on futures contracts if the
aggregate of the contract value of the outstanding futures contracts of the
Portfolio and futures contracts subject to outstanding options written by the
Portfolio would exceed 50% of the total assets of the Portfolio.

The Portfolios may engage in financial futures transactions and may use index
options as an attempt to hedge against currency and market risks. For example,
when the near-term market view is bearish but the portfolio composition is
judged satisfactory for the longer term, exposure to temporary declines in the
market may be reduced by entering into futures contracts to sell securities or
the cash value of an index. Conversely, where the near-term view is bullish, but
a Portfolio is believed to be well positioned for the longer term with a high
cash position, the Portfolio can hedge against market increases by entering into
futures contracts to buy securities or the cash value of an index. In either
case, the use of futures contracts would tend to reduce portfolio turnover and
facilitate a Portfolio's pursuit of its investment objective. Also, if a
Portfolio owned long-term bonds and interest rates were expected to rise, it
could sell financial futures contracts. If interest rates did increase, the
value of the bonds in the Portfolio would decline, but this decline would be
offset in whole or in part by an increase in the value of the Portfolio's
futures contracts. If, on the other hand, long-term interest rates were expected
to decline, the Portfolio could hold short-term debt securities and benefit from
the income earned by holding such securities, while at the same time the
Portfolio could purchase futures contracts on long-term bonds or the cash value
of a securities index. Thus, the Portfolio could take advantage of the
anticipated rise in the value of long-term bonds without actually buying them.
The futures contracts and short-term debt securities could then be liquidated
and the cash proceeds used to buy long-term bonds.

Futures contracts entail risks. If the investment manager's judgment about the
general direction of interest rates, markets or exchange rates is wrong, the
overall performance may be poorer than if no such contracts had been entered
into. There may be an imperfect correlation between movements in prices of
futures contracts and portfolio assets being hedged. In addition, the market
prices of futures contracts may be affected by certain factors. If participants
in the futures market elect to close out their contracts through offsetting
transactions rather than meet margin requirements, distortions in the normal
relationship between the assets and futures market could result. Price
distortions also could result if investors in futures contracts decide to make
or take delivery of underlying securities or other assets rather than engage in
closing transactions because of the resultant reduction in the liquidity of the
futures market. In addition, because, from the point of view of speculators,
margin requirements in the futures market are less onerous than margin
requirements in the cash market, increased participation by speculators in the
futures market could cause temporary price distortions. Due to the possibility
of price distortions in the futures market and because of the imperfect
correlation between movements in the prices of securities or other assets and
movements in the prices of futures contracts, a correct forecast of market
trends by the investment manager still may not result in a successful hedging
transaction. A Portfolio could also experience losses if it could not close out
its futures position because of an illiquid secondary market. If any of these
events should occur, a Portfolio could lose money on the financial futures
contracts and also on the value of its portfolio assets. The costs incurred in
connection with futures transactions could reduce a Portfolio's return.

Index options involve risks similar to those risks relating to transactions in
financial futures contracts described above. Also, an option purchased by a
Portfolio may expire worthless, in which case a Portfolio would lose the premium
paid therefor.

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A Portfolio may engage in futures transactions only on commodities exchanges or
boards of trade. A Portfolio will not engage in transactions in index options,
financial futures contracts or related options for speculation, but only as an
attempt to hedge against changes in interest rates or market conditions
affecting the values of securities which the Portfolio owns or intends to
purchase.

FOREIGN CURRENCY TRANSACTIONS. As indicated under "Investment Objectives,
Policies and Risk Factors--Special Risk Factors--Foreign Securities," the Total
Return, High Yield, Equity and Small Cap Portfolios may invest a limited portion
of their assets, and the International Portfolio may invest without limit, in
securities denominated in foreign currencies. These Portfolios may engage in
foreign currency transactions in connection with their investments in foreign
securities but will not speculate in foreign currency exchange.

The value of the foreign securities investments of a Portfolio measured in U.S.
Dollars may be affected favorably or unfavorably by changes in foreign currency
exchange rates and exchange control regulations, and the Portfolio may incur
costs in connection with conversions between various currencies. A Portfolio
will conduct its foreign currency exchange transactions either on a spot (i.e.,
cash) basis at the spot rate prevailing in the foreign currency exchange market,
or through forward contracts to purchase or sell foreign currencies. A forward
foreign currency exchange contract involves an obligation to purchase or sell a
specific currency at a future date, which may be any fixed number of days from
the date of the contract agreed upon by the parties, at a price set at the time
of the contract. These contracts are traded directly between currency traders
(usually large commercial banks) and their customers.

When a Portfolio enters into a contract for the purchase or sale of a security
denominated in a foreign currency, it may want to establish the U.S. Dollar cost
or proceeds, as the case may be. By entering into a forward contract in U.S.
Dollars for the purchase or sale of the amount of foreign currency involved in
an underlying security transaction, the Portfolio is able to protect itself
against a possible loss between trade and settlement date resulting from an
adverse change in the relationship between the U.S. Dollar and such foreign
currency. However, this tends to limit potential gains that might result from a
positive change in such currency relationships. A Portfolio may also hedge its
foreign currency exchange rate risk by engaging in currency financial futures
and options transactions.

When the investment manager believes that the currency of a particular foreign
country may suffer a substantial decline against the U.S. Dollar, it may enter
into a forward contract to sell an amount of foreign currency approximating the
value of some or all of the Portfolio's securities denominated in such foreign
currency. In this situation the International Portfolio may, instead, enter into
a forward contract to sell a different foreign currency for a fixed U.S. Dollar
amount when the investment manager believes that the U.S. Dollar value of the
currency to be sold pursuant to the forward contract will fall whenever there is
a decline in the U.S. Dollar value of the currency in which portfolio securities
of the International Portfolio are denominated ("cross-hedge"). The forecasting
of short-term currency market movement is extremely difficult and whether such a
short-term hedging strategy will be successful is highly uncertain.

It is impossible to forecast with precision the market value of portfolio
securities at the expiration of a contract. Accordingly, it may be necessary for
a Portfolio to purchase additional currency on the spot market (and bear the
expense of such purchase) if the market value of the security is less than the
amount of foreign currency the Portfolio is obligated to deliver when a decision
is made to sell the security and make delivery of the foreign currency in
settlement of a forward contract. Conversely, it may be necessary to sell on the
spot market some of the foreign currency received upon the sale of the portfolio
security if its market value exceeds the amount of foreign currency the
Portfolio is obligated to deliver.

The Portfolios will not speculate in foreign currency exchange. A Portfolio will
not enter into such forward contracts or maintain a net exposure in such
contracts where the Fund would be obligated to deliver an amount of foreign
currency in excess of the value of the Portfolio's securities or other assets
(a) denominated in that currency or (b), in the case of a "cross-hedge" for the
International Portfolio, denominated in a currency or currencies that the Fund's
investment manager believes will have price movements that closely correlate
with that currency. The Fund's custodian bank segregates cash or liquid
high-grade debt securities in an amount not less than the value of each
Portfolio's total assets committed to forward foreign currency exchange
contracts entered into for the purchase of a foreign currency. If the value of
the securities segregated declines, additional cash or securities are added so
that the segregated amount is not less than the amount of the Portfolio's
commitments with respect to such contracts. The Portfolios do not intend to
enter into such forward contracts if they would have more than 15% of the value
of their total assets committed to such contracts. A Portfolio generally does
not enter into a forward contract with a term longer than one year.

RISK CONSIDERATIONS. The Statement of Additional Information contains further
information about the characteristics, risks and possible benefits of options,
futures and foreign currency transactions. See "Investment Policies and
Techniques" in the Statement of Additional Information. The principal risks are:
(a) possible imperfect correlation

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between movements in the prices of options, currencies or futures contracts and
movements in the prices of the securities or currencies hedged or used for
cover; (b) lack of assurance that a liquid secondary market will exist for any
particular option, futures or foreign currency contract at any particular time;
(c) the need for additional skills and techniques beyond those required for
normal portfolio management; (d) losses on futures contracts resulting from
market movements not anticipated by the investment manager; and (e) the possible
need to defer closing out certain options or futures contracts in order to
continue to qualify for beneficial tax treatment afforded regulated investment
companies under the Internal Revenue Code.

DELAYED DELIVERY TRANSACTIONS. The Total Return, High Yield, Equity and
Government Securities Portfolios may purchase or sell portfolio securities on a
when-issued or delayed delivery basis. When-issued or delayed delivery
transactions arise when securities are purchased by a Portfolio with payment and
delivery to take place in the future in order to secure what is considered to be
an advantageous price and yield to the Portfolio at the time of entering into
the transactions. The value of fixed yield securities to be delivered in the
future will fluctuate as interest rates vary. Because a Portfolio must set aside
cash or liquid high grade securities to satisfy its commitments to purchase
when-issued or delayed delivery securities, flexibility to manage the
Portfolio's investments may be limited if commitments to purchase when-issued or
delayed delivery securities were to exceed 25% of the value of its assets.

To the extent a Portfolio engages in when-issued or delayed delivery
transactions, it will do so for the purpose of acquiring portfolio securities
consistent with the Portfolio's investment objective and policies and not for
the purpose of investment leverage or to speculate in interest rate changes. A
Portfolio will make commitments to purchase securities on a when-issued or
delayed delivery basis only with the intention of actually acquiring the
securities, but a Portfolio reserves the right to sell these securities before
the settlement date if deemed advisable.

In some instances, the third-party seller of when-issued or delayed delivery
securities may determine prior to the settlement date that it will be unable to
meet its existing transaction commitments without borrowing securities. If
advantageous from a yield perspective, a Portfolio may, in that event, agree to
resell its purchase commitment to the third-party seller at the current market
price on the date of sale and concurrently enter into another purchase
commitment for such securities at a later date. As an inducement for a Portfolio
to "roll over" its purchase commitment, the Portfolio may receive a negotiated
fee.

REPURCHASE AGREEMENTS. Each Portfolio may invest in repurchase agreements,
under which it acquires ownership of a security and the broker-dealer or bank
agrees to repurchase the security at a mutually agreed upon time and price,
thereby determining the yield during the Portfolio's holding period. The
investment manager will evaluate the creditworthiness of all entities with which
the Fund intends to engage in repurchase agreements pursuant to procedures
adopted by the Board of Trustees of the Fund. Maturity of the securities subject
to repurchase may exceed one year. In the event of a bankruptcy or other default
of a seller of a repurchase agreement, the Portfolio might have expenses in
enforcing its rights, and could experience losses, including a decline in the
value of the underlying securities and loss of income. Repurchase agreements
maturing in more than seven days will be considered illiquid for purposes of the
Portfolios' limitations on illiquid securities.

SECTION 4(2) PAPER. Subject to its investment objectives and policies, a
Portfolio may invest in commercial paper issued by major corporations under the
Securities Act of 1933 in reliance on the exemption from registration afforded
by Section 3(a)(3) thereof. Such commercial paper may be issued only to finance
current transactions and must mature in nine months or less. Trading of such
commercial paper is conducted primarily by institutional investors through
investment dealers, and individual investor participation in the commercial
paper market is very limited. A Portfolio also may invest in commercial paper
issued in reliance on the so-called "private placement" exemption from
registration afforded by Section 4(2) of the Securities Act of 1933 ("Section
4(2) paper"). Section 4(2) paper is restricted as to disposition under the
federal securities laws, and generally is sold to institutional investors such
as a Portfolio who agree that they are purchasing the paper for investment and
not with a view to public distribution. Any resale by the purchaser must be in
an exempt transaction. Section 4(2) paper normally is resold to other
institutional investors like the Portfolio through or with the assistance of the
issuer or investment dealers who make a market in the Section 4(2) paper, thus
providing liquidity. The Fund's investment adviser considers the legally
restricted but readily saleable Section 4(2) paper to be liquid; however,
pursuant to procedures approved by the Board of Trustees of the Fund, if a
particular investment in Section 4(2) paper is not determined to be liquid, that
investment will be included within the 10% limitation on illiquid securities.
The Fund's investment manager monitors the liquidity of the Fund's investments
in Section 4(2) paper on a continuing basis.

COLLATERALIZED OBLIGATIONS. Subject to its investment objectives and policies, a
Portfolio may purchase collateralized obligations, including interest only
("IO") and principal only ("PO") securities. A collateralized obligation is a
debt security issued by a corporation, trust or custodian, or by a U.S.
Government agency or instrumentality, that is

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collateralized by a portfolio or pool of mortgages, mortgage-backed securities,
U.S. Government securities or other assets. The issuer's obligation to make
interest and principal payments is secured by the underlying pool or portfolio
of securities. Collateralized obligations issued or guaranteed by a U.S.
Government agency or instrumentality, such as the Federal Home Loan Mortgage
Corporation, are considered U.S. Government securities for purposes of this
prospectus. Privately-issued collateralized obligations collateralized by a
portfolio of U.S. Government securities are not direct obligations of the U.S.
Government or any of its agencies or instrumentalities and are not considered
U.S. Government securities for purposes of this prospectus. A variety of types
of collateralized obligations are available currently and others may become
available in the future.

Since the collateralized obligations may be issued in classes with varying
maturities and interest rates, the investor may obtain greater predictability of
maturity than with direct investments in mortgage-backed securities. Classes
with shorter maturities may have lower volatility and lower yield while those
with longer maturities may have higher volatility and higher yield. This
provides the investor with greater control over the characteristics of the
investment in a changing interest rate environment. With respect to interest
only and principal only securities, an investor has the option to select from a
pool of underlying collateral the portion of the cash flows that most closely
corresponds to the investor's forecast of interest rate movements. These
instruments tend to be highly sensitive to prepayment rates on the underlying
collateral and thus place a premium on accurate prepayment projections by the
investor.

A Portfolio, other than the Money Market Portfolio, may invest in collateralized
obligations whose yield floats inversely against a specified index rate. These
"inverse floaters" are more volatile than conventional fixed or floating rate
collateralized obligations and the yield thereon, as well as the value thereof,
will fluctuate in inverse proportion to changes in the index upon which rate
adjustments are based. As a result, the yield on an inverse floater will
generally increase when market yields (as reflected by the index) decrease and
decrease when market yields increase. The extent of the volatility of inverse
floaters depends on the extent of anticipated changes in market rates of
interest. Generally, inverse floaters provide for interest rate adjustments
based upon a multiple of the specified interest index, which further increases
their volatility. The degree of additional volatility will be directly
proportional to the size of the multiple used in determining interest rate
adjustments.

Additional information concerning collateralized obligations is contained in the
Statement of Additional Information under "Investment Policies and
Techniques--Collateralized Obligations."

NET ASSET VALUE

TOTAL RETURN, HIGH YIELD, EQUITY, GOVERNMENT SECURITIES, INTERNATIONAL AND SMALL
CAP PORTFOLIOS. The net asset value per share is determined by calculating the
total value of a Portfolio's assets, deducting total liabilities, and dividing
the result by the number of shares outstanding of such Portfolio. Portfolio
securities traded on a domestic securities exchange or securities listed on the
NASDAQ National Market are valued at the last sale price on the exchange or
market where primarily traded or listed or, if there is no recent sale price
available, at the last current bid quotation. Portfolio securities that are
primarily traded on foreign securities exchanges are generally valued at the
preceding closing values of such securities on their respective exchanges where
primarily traded. A security that is listed or traded on more than one exchange
is valued at the quotation on the exchange determined to be the primary market
for that security by the Board of Trustees or its delegates. Securities not so
traded or listed are valued at the last current bid quotation if market
quotations are available. Fixed income securities are valued by using market
quotations, or independent pricing services that use prices provided by market
makers or estimates of market values obtained from yield data relating to
instruments or securities with similar characteristics. Equity options are
valued at the last sale price unless the bid price is higher or the asked price
is lower, in which event such bid or asked price is used. Exchange traded fixed
income options are valued at the last sale price unless there is no sale price,
in which event current prices provided by market makers are used.
Over-the-counter traded fixed income options are valued based upon current
prices provided by market makers. Financial futures and options thereon are
valued at the settlement price established each day by the board of trade or
exchange on which they are traded. Other securities and assets are valued at
fair value as determined in good faith by the Board of Trustees. Because of the
need to obtain prices as of the close of trading on various exchanges throughout
the world; the calculation of net asset value does not necessarily take place
contemporaneously with the determination of the prices of a Portfolio's foreign
securities. For purposes of determining a Portfolio's net asset value, any
assets and liabilities initially expressed in foreign currency values will be
converted into U.S. Dollar values at the mean between the bid and offered
quotations of such currencies against U.S. Dollars as last quoted by a
recognized dealer. If an event were to occur, after the value of a security was
so established but before the net asset value per share was determined, which
was likely to materially change the net asset value, then that security would be
valued using fair value considerations by the Board of Trustees or its
delegates. On each day the New York Stock Exchange ("Exchange") is open for
trading, the net asset value is determined as of the earlier of 3:00 p.m.
Central time or the

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close of the Exchange, except that the net asset value will not be computed on a
day in which no order to purchase shares was received or no shares were tendered
for redemption.

MONEY MARKET PORTFOLIO. The net asset value per share of the Money Market
Portfolio is determined at 11:00 a.m. and as of the earlier of 3:00 p.m. Central
time or the close of the Exchange on each day the Exchange is open for trading,
except that the net asset value will not be computed on a day in which no orders
to purchase shares were received or no shares were tendered for redemption. The
net asset value per share is determined by dividing the total assets of the
Portfolio minus its liabilities by the total number of its shares outstanding.
The net asset value per share of the Money Market Portfolio is ordinarily $1.00
calculated at amortized cost in accordance with Rule 2a-7 under the 1940 Act.
While this rule provides certainty in valuation, it may result in periods during
which value, as determined by amortized cost, is higher or lower than the price
the Portfolio would have received if all its investments were sold. Under the
direction of the Board of Trustees, certain procedures have been adopted to
monitor and stabilize the price per share for the Portfolio. Calculations are
made to compare the value of its investments valued at amortized cost with
market-based values. Market-based values will be obtained by using actual
quotations provided by market makers, estimates of market value, or values
obtained from yield data relating to classes of money market instruments or
government securities published by reputable sources at the mean between the bid
and asked prices for the instruments. In the event that a deviation of 1/2 of 1%
or more exists between the Portfolio's $1.00 per share net asset value,
calculated at amortized cost, and the net asset value calculated by reference to
market-based quotations, or if there is any other deviation that the Board of
Trustees believes would result in a material dilution to shareholders or
purchasers, the Board of Trustees will promptly consider what action, if any,
should be initiated. In order to value its investments at amortized cost, the
Money Market Portfolio purchases only securities with a maturity of one year or
less and maintains a dollar-weighted average portfolio maturity of 90 days or
less. In addition, the Money Market Portfolio limits its portfolio investments
to securities that meet the quality and diversification requirements of Rule
2a-7. Under the quality requirements of Rule 2a-7, the Money Market Portfolio
may only purchase U.S. Dollar-denominated instruments that are determined to
present minimal credit risks and that are at the time of acquisition "Eligible
Securities" as defined in Rule 2a-7. "Eligible Securities" under Rule 2a-7
include only securities that are rated in the top two rating categories by the
required number of nationally recognized statistical rating organizations (at
least two or, if only one such organization has rated the security that one
organization) or, if unrated, are deemed comparable in quality. The
diversification requirements of Rule 2a-7 provide generally that the Fund may
not at the time of acquisition invest more than 5% of its assets in securities
of any one issuer or invest more than 5% of its assets in securities that are
Eligible Securities that have not been rated in the highest category by the
required number of rating organizations or, if unrated, have not been deemed
comparable in quality, except U.S. Government securities and repurchase
agreements of such securities.

PURCHASE AND REDEMPTION

The separate accounts of the Participating Insurance Companies place orders to
purchase and redeem shares of each Portfolio based on, among other things, the
amount of premium payments to be invested and surrender and transfer requests to
be effected on that day pursuant to VLI and VA contracts. The shares of Total
Return, High Yield, Equity, Government Securities, International and Small Cap
Portfolios are each purchased and redeemed at the net asset value of each
Portfolio's shares determined that same day or, in the case of an order not
resulting automatically from VLI and VA contract transactions, next determined
after an order in proper form is received. An order is considered to be in
proper form if it is communicated by telephone or wire by an authorized employee
of the Participating Life Insurance Company.

From time to time, the Fund may temporarily suspend the offering of shares of
one or more of its Portfolios. During the period of such suspension,
shareholders of such Portfolio are normally permitted to continue to purchase
additional shares and to have dividends reinvested.

The Fund seeks to have its Money Market Portfolio as fully invested as possible
at all times in order to achieve maximum income. Since the Money Market
Portfolio will be investing in instruments which normally require immediate
payment in Federal funds (monies credited to a bank's account with its regional
Federal Reserve Bank), the Fund has adopted certain procedures for the
convenience of its shareholders and to ensure that the Money Market Portfolio
receives investable funds.

No fee is charged the shareholders when they purchase or redeem Portfolio
shares.

21
<PAGE> 99

DIVIDENDS AND TAXES

DIVIDENDS FOR MONEY MARKET PORTFOLIO. The Money Market Portfolio's net
investment income is declared as a dividend daily. Shareholders will receive
dividends monthly in additional shares. If a shareholder withdraws its entire
account, all dividends accrued to the time of withdrawal will be paid at that
time.

DIVIDENDS FOR ALL PORTFOLIOS EXCEPT MONEY MARKET PORTFOLIO. The Fund normally
follows the practice of declaring and distributing substantially all the net
investment income and any net short-term and long-term capital gains of these
Portfolios at least annually.

TAXES. Under the current Internal Revenue Code ("Code"), Participating
Insurance Companies are taxed as life insurance companies and the operations of
their separate accounts are taxed as part of their total operations. Under
current interpretations of existing federal income tax law, investment income
and capital gains of separate accounts are not subject to federal income tax to
the extent applied to increase the values of VLI or VA contracts. Tax
consequences to VLI or VA contract holders are described in the separate
prospectuses issued by the Participating Insurance Companies.

Each Portfolio intends to continue to qualify as a regulated investment company
under subchapter M of the Code. As a result, with respect to any fiscal year in
which a Portfolio distributes all its net investment income and net realized
capital gains, that Portfolio will not be subject to federal income tax.
Subchapter M includes other requirements relating to the diversification of
investments. Subchapter M's diversification requirements are in addition to
diversification requirements under Section 817(h) of the Code and the 1940 Act.
Each applicable law's diversification requirement could require the sale of
assets of a Portfolio, which could have an adverse impact on the net asset value
of such Portfolio.

The preceding is a brief summary of certain of the relevant tax considerations.
The Statement of Additional Information includes a more detailed discussion.
This discussion is not intended, even as supplemented by the Statement of
Additional Information, as a complete explanation or a substitute for careful
tax planning and consultation with individual tax advisers.

CAPITAL STRUCTURE AND GENERAL INFORMATION

The Fund was organized as a business trust under the laws of Massachusetts on
March 24, 1987. The Fund may issue an unlimited number of shares of beneficial
interest all having no par value. Since the Fund offers multiple Portfolios, it
is known as a "series company." Shares of a Portfolio have equal noncumulative
voting rights and equal rights with respect to dividends, assets and liquidation
of such Portfolio. Shares are fully paid and nonassessable when issued, and have
no preemptive or conversion rights. The Fund is not required to hold annual
shareholders' meetings and does not intend to do so. However, it will hold
special meetings as required or deemed desirable for such purposes as electing
trustees, changing fundamental policies or approving an investment advisory
contract. If shares of more than one Portfolio are outstanding, shareholders
will vote by Portfolio and not in the aggregate except when voting in the
aggregate is required under the 1940 Act, such as for the election of trustees.
The Board of Trustees may authorize the issuance of additional Portfolios if
deemed desirable, each with its own investment objective, policies and
restrictions.

On November 3, 1989, KILICO Money Market Separate Account, KILICO Total Return
Separate Account, KILICO Income Separate Account and KILICO Equity Separate
Account (collectively, the Accounts), which were separate accounts organized as
open-end management investment companies, were restructured into one continuing
separate account (KILICO Variable Annuity Separate Account) in unit investment
trust form with subaccounts investing in corresponding Portfolios of the Fund.
An additional subaccount also was created to invest in the Fund's Government
Securities Portfolio. The restructuring and combining of the Accounts is
referred to as the Reorganization. In connection with the Reorganization,
approximately $550,000,000 in assets was added to the Fund (which at that time
consisted of approximately $6,000,000 in assets). Because the assets added to
the Fund as a result of the Reorganization were significantly greater than the
existing assets of the Fund, the per share financial highlights of the Money
Market, Total Return, High Yield and Equity Portfolios in this Prospectus
reflect the Accounts as the continuing entities.

Information about the Portfolios' investment performance is contained in the
Fund's 1994 Annual Report to Shareholders, which may be obtained without charge
from the Fund.

Shareholder inquiries should be made by writing the Fund at the address shown on
the front cover of this Prospectus.

22
<PAGE> 100

INVESTMENT MANAGER

INVESTMENT MANAGER. Kemper Financial Services, Inc. ("KFS"), 120 South LaSalle
Street, Chicago, Illinois 60603, is the investment manager of the Fund and
provides the Fund with continuous professional investment supervision. KFS is
one of the largest investment managers in the country and has been engaged in
the management of investment funds for more than forty-five years. KFS and its
affiliates provide investment advice and manage investment portfolios for the
Kemper Funds, the Kemper insurance companies, Kemper Corporation and other
corporate, pension, profit-sharing and individual accounts representing
approximately $60 billion under management. KFS acts as investment adviser for
24 open-end and seven closed-end investment companies, with 60 separate
investment portfolios representing more than 3 million shareholder accounts. KFS
is a wholly-owned subsidiary of Kemper Financial Companies, Inc., which is a
financial services holding company that is more than 96% owned by Kemper
Corporation, a diversified insurance and financial services holding company.

Kemper Corporation has entered into an agreement in principle with an investor
group led by Zurich Insurance Company ("Zurich") pursuant to which Kemper
Corporation would be acquired by the investor group in a merger transaction. As
part of the transaction, Zurich or an affiliate would purchase KFS.

A definitive agreement is expected in early May, 1995, subject to the completion
of the investor group's due diligence. Consummation of the transaction is
subject to a number of contingencies, including approval by the board and
stockholders of Kemper Corporation and the Zurich board and regulatory
approvals. Because the transaction would constitute an assignment of the Fund's
investment management agreement with KFS under the Investment Company Act of
1940, and therefore a termination of such agreement, the transaction is subject
also to approval of new agreements by Kemper Fund boards and shareholders. If
the contingencies are timely met, the transaction is expected to close early in
the fourth quarter of 1995.

After consummation of the transaction, it is anticipated that the KFS management
team and the Kemper Fund portfolio managers would remain in place and that the
Kemper Funds would be operated in the same manner as they are currently.

Responsibility for overall management of the Fund rests with the Board of
Trustees and officers of the Fund. Professional investment supervision is
provided by KFS. The investment management agreement provides that KFS shall act
as the Fund's investment adviser, manage its investments and provide it with
various services and facilities. For its services, KFS is paid a management fee
at an effective annual rate, payable monthly, of .50%, .55%, .60%, .60%, .55%,
.75% and .65% of average daily net assets of the Money Market, Total Return,
High Yield, Equity, Government Securities, International and Small
Capitalization Equity Portfolios, respectively. KFS may from time to time use
the services of Kemper Investment Management Company Limited ("KIMCO"), 1 Fleet
Place, London EC4M 7RQ, a wholly owned subsidiary of KFS, with respect to
foreign securities investments of the Portfolios including analysis, research,
execution and trading services.

Frank J. Rachwalski, Jr. is the portfolio manager of the Money Market Portfolio.
He has served in this capacity since the Portfolio commenced operations in 1982.
Mr. Rachwalski joined KFS in January 1973 and is currently a Senior Vice
President of KFS and a Vice President of the Fund. He received a B.B.A. and an
M.B.A. from Loyola University, Chicago, Illinois.

Karen A. Hussey has been the portfolio manager of the Small Cap Portfolio since
September 1994 when she joined KFS. She is a Vice President of the Fund. Prior
to joining KFS, she was a portfolio manager for a national bank. She received a
B.S. from Southwest Missouri State, Springfield, Missouri and did graduate work
towards an M.B.A. at St. Louis University. Ms. Hussey is a Chartered Financial
Analyst.

Dennis H. Ferro has been the portfolio manager for the International Portfolio
since March 1994 when he joined KFS. He is an Executive Vice President and the
Director of International Equity Investments of KFS and a Vice President of the
Fund. Mr. Ferro was President, Managing Director and Chief Investment Officer of
an international investment advisory firm prior to joining KFS. He received a
B.A. in Political Science from Villanova University, Villanova, Pennsylvania and
an MBA in Finance from St. Johns University, Jamaica, New York. Mr. Ferro is a
Chartered Financial Analyst.

Michael A. McNamara (since 1990) and Harry E. Resis, Jr. (since 1993) are the
co-portfolios managers of the High Yield Portfolio. Mr. McNamara joined KFS in
February 1972 and is currently a Senior Vice President of KFS and a Vice
President of the Fund. He received a B.S. in Business Administration from the
University of Missouri, St. Louis, Missouri, and an M.B.A. in Finance from
Loyola University, Chicago, Illinois. Mr. Resis joined KFS in 1988 and is
currently a First Vice President of KFS and a Vice President of the Fund. He
received a B.A. in Finance from Michigan State University, Lansing, Michigan.
Mr. Resis holds a number of NYSE and NASD licenses.

23
<PAGE> 101

C. Beth Cotner has been the portfolio manager of the Equity Portfolio since
1986. Ms. Cotner joined KFS in January 1985 and is currently an Executive Vice
President and the Director of Domestic Equity Portfolio Management of KFS and a
Vice President of the Fund. She received a B.A. from Ohio State University,
Columbus, Ohio, and an M.B.A. from George Washington University, Washington,
D.C.

Paul F. Sloan has been the portfolio manager of the Government Securities
Portfolio since April 1995 when he joined KFS. Prior to joining KFS, Mr. Sloan
was the Director of Institutional Portfolio Management at an investment
management company and prior thereto he was a Vice President and Investment
Officer for a regional bank. He received a B.A. in English Literature from the
University of Detroit, Detroit, Michigan, and an M.B.A. in Finance and Business
Economics from Wayne State University, Detroit, Michigan.

Gary A. Langbaum has been the portfolio manager for the Total Return Portfolio
since February 1995. He is assisted by investment personnel who specialize in
certain areas. Mr. Langbaum joined KFS in 1988 and is currently an Executive
Vice President of KFS. He received a B.A. in Finance from the University of
Maryland, College Park, Maryland.

KFS has an Equity Investment Committee that determines overall investment
strategy for equity portfolios managed by KFS. The Equity Investment Committee
is currently comprised of the following members: Daniel J. Bukowski, Tracy
McCormick Chester, C. Beth Cotner, James H. Coxon, Richard A. Goers, Karen A.
Hussey, Frank D. Korth, Gary A. Langbaum, James R. Neel, Thomas M. Regner and
Stephen B. Timbers. The portfolio managers work together as a team with the
Equity Investment Committee and various equity analysts and equity traders to
manage the Fund's equity Portfolios. Equity analysts--through research, analysis
and evaluation--work to develop investment ideas appropriate for these
Portfolios. These ideas are studied and debated by the Equity Investment
Committee and, if approved, are added to a list of eligible investments. The
portfolio managers use the list of eligible securities to help them structure
the Portfolios in a manner consistent with each Portfolio's objective. The KFS
international investments area, directed by Dennis H. Ferro, provides research
and analysis regarding foreign investments to the portfolio managers. After
investment decisions are made, equity traders execute the portfolio manager's
instructions through various broker-dealer firms.

KFS also has a Fixed Income Investment Committee that determines overall
investment strategy for fixed income portfolios managed by KFS. The Fixed
Income Committee is currently comprised of the following members: J. Patrick
Beimford, Jr., Frank E. Collecchia, George Klein, Michael A. McNamara,
Christopher J. Mier, Frank J. Rachwalski, Jr., Harry E. Resis, Jr., Robert H.
Schumacher, John E. Silvia, Paul F. Sloan and Christopher T. Vincent. The
portfolio managers work together as a team with the Fixed Income Committee and
various fixed income analysts and traders to manage the Fund's fixed income
Portfolios. Analysts provide market, economic and financial research and
analysis that is used by the Fixed Income Committee to establish broad
parameters for these Portfolios, including duration and cash levels. In
addition, credit research by analysts is used by portfolio managers in selecting
securities appropriate for the Portfolios' policies. The KFS international
investments area provides research and analysis regarding foreign investments to
the fixed income portfolio managers, as it does for the equity portfolio
managers. After investment decisions are made, fixed income traders execute the
portfolio manager's instructions through various broker-dealer firms.

CUSTODIAN. Investors Fiduciary Trust Company ("IFTC"), 127 West 10th Street,
Kansas City, Missouri 64105, as custodian, and the United Missouri Bank, n.a.,
Tenth and Grand Streets, Kansas City, Missouri 64106 and State Street Bank and
Trust Company, 225 Franklin Street, Boston, Massachusetts 02110, as
sub-custodians, have custody of all securities and cash of the Fund maintained
in the United States. The Chase Manhattan Bank, N.A., Chase MetroTech Center,
Brooklyn, New York 11245, as custodian, has custody of all securities and cash
held outside the United States. They attend to the collection of principal and
income, and payment for and collection of proceeds of securities bought and sold
by the Fund. IFTC is also the Fund's transfer agent and dividend-paying agent.
IFTC receives an annual custodian fee from the Portfolios of $.085 for each
$1,000 of average monthly net assets plus certain transaction charges and
out-of-pocket expense reimbursements subject to the custody agreement. For its
services as custodian and transfer agent for the fiscal year ended December 31,
1994, IFTC received fees of $514,000. Prior to February 1, 1995, IFTC was 50%
owned by KFS.

PORTFOLIO TRANSACTIONS. KFS places all orders for purchases and sales of a
Portfolio's securities. Subject to seeking best execution of orders, KFS may
consider sales of shares of the Fund and other funds managed by KFS or variable
life insurance and variable annuity contracts funded by the Fund as a factor in
selecting broker-dealers. See "Portfolio Transactions" in the Statement of
Additional Information.

Each Portfolio pays its respective fees and expenses of independent auditors,
counsel, custodian, the cost of reports and notices to owners of VLI and VA
contracts, brokerage commissions or transaction costs, taxes and registration
fees.

24
<PAGE> 102

DISTRIBUTOR

Kemper Distributors, Inc. ("KDI"), an affiliate of KFS, serves as distributor
and principal underwriter for the Fund pursuant to an underwriting agreement.
KDI bears all its expenses of providing services pursuant to the agreement. KDI
provides for the preparation of advertising or sales literature, and bears the
cost of printing and mailing prospectuses to persons other than shareholders.
KDI bears the cost of qualifying and maintaining the qualification of Fund
shares for sale under the securities laws of Massachusetts and the Fund bears
the expense of registering its shares with the Securities and Exchange
Commission. KDI will pay all fees and expenses in connection with its
qualification and registration as a broker or dealer under Federal and state
laws, a portion of the toll free telephone service and of computer terminals,
and of any activity which is primarily intended to result in the sale of shares
issued by the Fund, unless a plan pursuant to Rule 12b-1 under the 1940 Act
("12b-1 Plan") is in effect that provides that the Fund shall bear some or all
of such expenses.

KDI currently offers shares of each Portfolio of the Fund continuously to the
separate accounts of Participating Insurance Companies where permitted by
applicable law. The underwriting agreement provides that KDI accepts orders for
shares at net asset value, as no sales commission or load is charged. KDI has
made no firm commitment to acquire shares of the Fund.

NOTE: Although the Fund does not currently have a 12b-1 Plan and shareholder
approval would be required in order to adopt one, the underwriting agreement
provides that the Fund will also pay those fees and expenses permitted to be
paid or assumed by the Fund pursuant to a 12b-1 Plan, if any, adopted by the
Fund, notwithstanding any other provision to the contrary in the underwriting
agreement, and the Fund or a third party will pay those fees and expenses not
specifically allocated to KDI in the underwriting agreement.

25
<PAGE> 103

APPENDIX--PORTFOLIO COMPOSITION OF HIGH YIELD BONDS

The table below reflects the composition by quality rating of the investment
portfolio of the High Yield Portfolio. Percentages for the Portfolio reflect the
net asset weighted average of the percentage for each category on the last day
of each month in the 12 month period ended December 31, 1994. The table reflects
the percentage of net assets represented by fixed income securities rated by
Moody's or S&P, by non-rated fixed income securities and by other assets. The
percentage shown reflects the higher of the Moody's or S&P rating. U.S.
Government securities, whether or not rated, are reflected as Aaa and AAA
(highest quality). Cash equivalents include money market instruments, repurchase
agreements, net payables and receivables and cash. Other assets include options,
financial futures contracts and equity securities. As noted under "Investment
Objectives, Policies and Risk Factors," the High Yield Portfolio invests in high
yielding, fixed income securities without relying upon published ratings. The
allocations in the table are not necessarily representative of the composition
of the Portfolio at other times. Portfolio composition will change over time.

END OF THE MONTH COMPOSITION OF PORTFOLIO BY QUALITY AS A PERCENTAGE OF
NET ASSETS (JANUARY 1994--DECEMBER 1994)

<TABLE>
<CAPTION>
HIGH
MOODY'S/S&P RATING YIELD GENERAL DESCRIPTION
OR OTHER CATEGORY PORTFOLIO OF BOND QUALITY
- ------------------------------------- ---- -------------------------------------------------
<S> <C> <C>
Cash Equivalents..................... 6%
Aaa/AAA.............................. 2 Highest quality
Aa/AA................................ 0 High quality
A/A.................................. 0 Upper medium grade
Baa/BBB.............................. 0 Medium grade
Ba/BB................................ 18 Some speculative elements
B/B.................................. 61 Speculative
Caa/CCC.............................. 6 More speculative
Ca/CC, C/C........................... 1 Very speculative
D.................................... 1 In default
Non-rated, Not in Default............ 2
Non-rated, In Default................ 0
Other Assets......................... 3
----
Net Assets........................... 100%
</TABLE>

The description of each bond quality category set forth in the table above is
intended to be a general guide and not a definitive statement as to how Moody's
and S&P define such rating category. A more complete description of the rating
categories is set forth under "Appendix--Ratings of Investments" in the
Statement of Additional Information. The ratings of Moody's and S&P represent
their opinions as to the quality of the securities that they undertake to rate.
It should be emphasized, however, that ratings are relative and subjective and
are not absolute standards of quality.

26
<PAGE> 104

Distributor:
INVESTORS BROKERAGE SERVICES, INC.

A Variable and Market Value Adjusted Annuity Issued by:
KEMPER INVESTORS LIFE INSURANCE COMPANY
- -------------------------------------------------------------------------------
1 Kemper Drive
Long Grove, Illinois 60049 [KEMPER LOGO]
708/320-4500

[RECYCLE LOGO]
PRINTED ON RECYLED PAPER

PAS-01 Policy Form Series L-1600

<PAGE> 105

STATEMENT OF ADDITIONAL INFORMATION

MAY 1, 1995

- --------------------------------------------------------------------------------

INDIVIDUAL AND GROUP VARIABLE AND MARKET VALUE ADJUSTED

DEFERRED ANNUITY CONTRACTS

- --------------------------------------------------------------------------------

PASSPORT

ISSUED BY

KEMPER INVESTORS LIFE INSURANCE COMPANY

HOME OFFICE: 1 KEMPER DRIVE, LONG GROVE, ILLINOIS 60049 (708) 320-4500

This Statement of Additional Information is not a prospectus. This Statement of
Additional Information should be read in conjunction with the Prospectus of the
Separate Account dated May 1, 1995. The Prospectus may be obtained from Kemper
Investors Life Insurance Company by writing or calling the address or telephone
number listed above.

------------------

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Services to the Separate Account....................................... B-1
Performance Information of Subaccounts................................. B-1
State Regulation....................................................... B-4
Experts................................................................ B-4
Financial Statements................................................... B-4
Independent Auditors' Report........................................... B-5
Financial Statements of the Separate Account........................... B-6
</TABLE>
<PAGE> 106
SERVICES TO THE SEPARATE ACCOUNT

Kemper Investors Life Insurance Company ("KILICO") maintains the books and
records of the KILICO Variable Annuity Separate Account (the "Separate
Account"). KILICO holds the assets of the Separate Account. The assets are kept
segregated and held separate and apart from the general funds of KILICO. KILICO
maintains records of all purchases and redemptions of shares of each Portfolio
of the Kemper Investors Fund (the "Fund") by each of the Subaccounts. All
expenses incurred in the operations of the Separate Account, except the charge
for mortality and expense risk and administrative expenses, and records
maintenance charge (as described in the Prospectus) are borne by KILICO.

The independent auditors for the Separate Account are KPMG Peat Marwick LLP,
Chicago, Illinois. The firm performs an annual audit of the financial statements
of the Separate Account and KILICO.

The Certificates are sold by licensed insurance agents, where the Certificates
may be lawfully sold, who are registered representatives of broker-dealers which
are registered under the Securities Exchange Act of 1934 and are members of the
National Association of Securities Dealers, Inc. The Certificates are
distributed through the principal underwriter for the Separate Account,
Investors Brokerage Services, Inc., a subsidiary of KILICO, which enters into
selling group agreements with the affiliated and unaffiliated broker-dealers.
Subject to the provisions of the Contracts, units of the Subaccounts under the
Contract are offered on a continuous basis.

KILICO pays commissions to the seller which may vary but are not anticipated to
exceed in the aggregate an amount equal to six percent (6%) of Purchase
Payments. During 1994 and 1993, KILICO incurred gross commissions payable of
approximately $5.5 and $4.9 million to licensed insurance agents.

PERFORMANCE INFORMATION OF SUBACCOUNTS

As described in the prospectus, a Subaccount's historical performance may be
shown in the form of "average annual total return" and "total return"
calculations in the case of all Subaccounts, except "average annual total
return" is not shown for Money Market Subaccount #1 and Money Market Subaccount
#2 (collectively, the "Money Market Subaccounts"); "yield" information may be
provided in the case of the High Yield Subaccount and the Government Securities
Subaccount; and "yield" and "effective yield" information may be provided in the
case of the Money Market Subaccounts. These various measures of performance are
described below.

A Subaccount's average annual total return quotation is computed in accordance
with a standard method prescribed by rules of the Securities and Exchange
Commission. The average annual total return for a Subaccount for a specific
period is found by first taking a hypothetical $1,000 investment in each of the
Subaccount's units on the first day of the period at the maximum offering price,
which is the Accumulation Unit value per unit ("initial investment") and
computing the ending redeemable value ("redeemable value") of that investment at
the end of the period. The redeemable value reflects the effect of the
applicable Withdrawal Charge and Record Maintenance Charge that may be imposed
at the end of the period as well as all other recurring charges and fees
applicable under the Certificates to all Owners' accounts. Premium taxes are not
included in the term charges. The redeemable value is then divided by the
initial investment and this quotient is taken to the Nth root (N represents the
number of years in the period) and 1 is subtracted from the result, which is
then expressed as a percentage. Average annual total return quotations for
various periods are set forth in Appendix A.

No standard formula has been prescribed for calculating total return
performance. Total return performance for a specific period is calculated by
first taking an investment (assumed to be $40,000) in each Subaccount's units on
the first day of the period at the maximum offering price, which is the
Accumulation Unit Value per unit ("initial investment") and computing the ending
value ("ending value") of that investment at the end of the period. The ending
value does not include the effect of the applicable Withdrawal Charge that may
be imposed at the end of the period, and thus may be higher than if such charge
were deducted. The total return percentage is then determined by subtracting the
initial investment from the ending value and dividing the remainder by the
initial investment and expressing the result as a percentage. An assumed
investment of $40,000 was chosen because that approximates the expected size of
a typical account. The account size used affects the performance figure because
the Records Maintenance Charge is a fixed per account charge. Total return
quotations for various periods are set forth in Appendix A.

The yield for the High Yield Subaccount and the Government Securities Subaccount
is computed in accordance with a standard method prescribed by rules of the
Securities and Exchange Commission. The yields for the High Yield Subaccount and
Government Securities Subaccount, based upon the one month period ended March
31, 1995, were

B-1
<PAGE> 107

9.27% and 5.34%, respectively. The yield quotation is computed by dividing the
net investment income per unit earned during the specified one month or 30-day
period by the accumulation unit values on the last day of the period, according
to the following formula that assumes a semi-annual reinvestment of income:

a - b
YIELD = 2[( ------- +1)(6) - 1
cd

a = net dividends and interest earned during the period by the Fund attributable
to the Subaccount

b = expenses accrued for the period (net of reimbursements)

c = the average daily number of Accumulation Units outstanding during the period

d = the Accumulation Unit value per unit on the last day of the period

The yield of each Subaccount reflects the deduction of all recurring fees and
charges applicable to each Subaccount, but does not reflect the deduction of
Withdrawal Charges or premium taxes.

The Money Market Subaccounts yields are computed in accordance with a standard
method prescribed by rules of the Securities and Exchange Commission. Under that
method, the current yield quotation is based on a seven-day period and computed
as follows: the net change in the Accumulation Unit Value during the period is
divided by the Accumulation Unit Value at the beginning of the period ("base
period return") and the result is divided by 7 and multiplied by 365 and the
current yield figure carried to the nearest one-hundredth of one percent.
Realized capital gains or losses and unrealized appreciation or depreciation of
the Account's portfolio are not included in the calculation. The yield for the
seven-day period ended March 31, 1995 was 4.36% for Money Market Subaccount #1
and 5.61% for Money Market Subaccount #2. The average portfolio maturity was 27
days.

The Money Market Subaccount's effective yield is determined by taking the base
period return (computed as described above) and calculating the effect of
assumed compounding. The formula for the effective yield is: (base period return
+1) (365 L 7) - 1. The effective yield for the seven-day period ended March 31,
1995 was 4.46% for Money Market Subaccount #1 and 5.77% for Money Market
Subaccount #2.

In computing yield, the Separate Account follows certain standard accounting
practices specified by Securities and Exchange Commission rules. These practices
are not necessarily consistent with the accounting practices that the Separate
Account uses in the preparation of its annual and semiannual financial
statements.

A Subaccount's performance quotations are based upon historical earnings and are
not necessarily representative of future performance. The Subaccount's units are
sold at Accumulation Unit value. Performance figures and Accumulation Unit value
will fluctuate. Factors affecting a Subaccount's performance include general
market conditions, operating expenses and investment management. Units of a
Subaccount are redeemable at Accumulation Unit value, which may be more or less
than original cost. The performance figures include the deduction of all
expenses and fees, including a prorated portion of the Records Maintenance
Charge. Redemptions within the first six years after purchase may be subject to
a Withdrawal Charge that ranges from 6% the first year to 0% after six years;
however, the aggregate Withdrawal Charge will not exceed 9% of aggregate
Purchase Payments under the Certificate. Yield, effective yield and total return
do not reflect the effect of the Withdrawal Charge or premium taxes that may be
imposed upon the redemption of units. Average annual total return reflects the
effect of the applicable Withdrawal Charge (but not premium tax) that may be
imposed at the end of the applicable period.

The figures in Appendix A show performance information for periods from March 5,
1982 (inception) for the Money Market Subaccounts, Total Return Subaccount and
High Yield Subaccount and for periods from December 9, 1983 (inception) for the
Equity Subaccount to December 31, 1994. For the Government Securities
Subaccount, performance figures will reflect investment experience as if the
Government Securities Subaccount had been available under the Certificates since
September 3, 1987, the inception date of the Government Securities Portfolio.
Performance of the Subaccounts will vary from time to time, and these results
are not necessarily representative of future results. Performance information is
also shown for the year ended December 31, 1994. The total return performance of
each Subaccount is calculated for a specified period of time by assuming an
initial Purchase Payment of $40,000 fully allocated to each Subaccount and the
deduction of all expenses and fees, including a prorated portion of the $30
annual Records Maintenance Charge. No withdrawals are assumed. The percentage
increases are determined by subtracting the initial Purchase Payment from the
ending value and dividing the remainder by the beginning value.

B-2
<PAGE> 108

Comparative information may be shown for certain Subaccounts with respect to the
Dow Jones Industrial Average, the Standard & Poor's 500 Stock Index, the
Consumer Price Index, the CDA Certificate of Deposit Index, the Lehman Brothers
Government and Corporate Bond Index, the Salomon Brothers High Grade Corporate
Bond Index, the Merrill Lynch Government/Corporate Master Index, the CDA Mutual
Fund--International Index and the Morgan Stanley Capital International Europe
Australia Far East Index. The Total Return, Equity and International Subaccounts
may be compared to the Dow Jones Industrial Average and the Standard & Poor's
500 Stock Index because these indices are generally considered representative of
the U. S. stock market. The Consumer Price Index is generally considered to be a
measure of inflation and thus the performance of the Money Market, Total Return,
High Yield, Equity, Government Securities and International Subaccounts may be
compared to that index. The High Yield and Government Securities Subaccounts may
be compared to the Lehman Brothers Government and Corporate Bond Index, the
Salomon Brothers High Grade Corporate Bond Index and the Merrill Lynch
Government/Corporate Master Index because such indices are generally considered
to represent the performance of intermediate and long term bonds during various
market cycles. The Money Market Subaccounts may also be compared to the CDA
Certificate of Deposit Index because certificates of deposit represent an
alternative current income producing product. The International Subaccount may
be compared to the CDA Mutual Fund-- International Index because the index is a
weighted performance average of other mutual funds that invest primarily in
securities of foreign issuers. The International Subaccount may also be compared
to the Morgan Stanley Capital International Europe, Australia, Far East Index
because the index is an unmanaged index that is considered to be generally
representative of major non-United States stock markets. Please note the
differences and similarities between the investments which a Subaccount may
purchase and the investments measured by the indexes which are described below.
In particular, it should be noted that certificates of deposit may offer fixed
or variable yields and principal is guaranteed and may be insured. The units of
the Subaccounts are not insured. Also, the value of the Subaccounts will
fluctuate.

The Dow Jones Industrial Average is an unmanaged unweighted average of thirty
blue chip industrial corporations listed on the New York Stock Exchange which
assumes reinvestment of dividends. The Standard & Poor's 500 Stock Index is an
unmanaged weighted average of 500 stocks, over 95% of which are listed on the
New York Stock Exchange which assumes reinvestment of dividends. The Consumer
Price Index, published by the U.S. Bureau of Labor Statistics, is a statistical
measure of change, over time, in the prices of goods and services in major
expenditure groups. The CDA Certificate of Deposit Index is provided by CDA
Investment Technologies, Inc., Silver Spring, Maryland, and is based upon a
statistical sampling of the yield of 30-day certificates of deposit of major
commercial banks. Yield is based upon a monthly compounding of interest. The
Salomon Brothers High Grade Corporate Bond Index is on a total return basis with
all dividends reinvested and is comprised of high grade long-term industrial and
utility bonds rated in the top two rating categories. The Lehman Brothers
Government/ Corporate Bond Index is on a total return basis and is comprised of
all publicly issued, non-convertible, domestic debt of the U.S. Government or
any agency thereof, quasi-Federal corporation, or corporate debt guaranteed by
the U.S. Government and all publicly issued, fixed-rate, non-convertible,
domestic debt of the three major corporate classifications: industrial, utility,
and financial. Only notes and bonds with a minimum outstanding principal amount
of $1,000,000 and a minimum of one year are included. Bonds included must have a
rating of at least Baa by Moody's Investors Service, BBB by Standard & Poor's
Corporation or in the case of bank bonds not rated by either Moody's or Standard
& Poor's, BBB by Fitch Investors Service. The Merrill Lynch Government/Corporate
Master Index is based upon the total return with all dividends reinvested of
4,000 corporate and 300 government bonds issued with an intermediate average
maturity and an average quality rating of Aa (Moody's Investors Service, Inc.)
/AA (Standard & Poor's Corporation).

The performance of the Subaccounts may be compared over various periods with
that of other variable annuity funds within the categories described below
according to data reported by Lipper Analytical Services, Inc. ("Lipper"), New
York, New York, a mutual fund reporting service. Lipper rankings are based on
changes in net asset value, with all income and capital gain dividends
reinvested. Such calculations do not include the effect of any sales charges and
may not include the deduction of mortality and expense risk charges and other
asset based charges. Deductions of these charges may cause the rankings to be
different. Future performance cannot be guaranteed. Lipper publishes performance
analyses on a regular basis from which the rankings are derived. The Money
Market Subaccounts, Total Return Subaccount, High Yield Subaccount, Equity
Subaccount, Government Securities Subaccount and International Subaccount are
ranked by Lipper in the Money Market, Flexible Portfolio, High Current Yield,
Capital Appreciation, U.S. Government and International Funds categories,
respectively. Variable annuity funds in these categories have a variety of
objectives, policies and market and credit risks that should be considered in
reviewing the rankings. The performance of the Subaccounts may also be compared
to other variable annuity funds ranked by the VARDS Report and Morningstar, Inc.

B-3
<PAGE> 109

STATE REGULATION

KILICO is subject to the laws of Illinois governing insurance companies and to
regulation by the Illinois Department of Insurance. An annual statement in a
prescribed form is filed with the Illinois Department of Insurance each year.
KILICO's books and accounts are subject to review by the Department of Insurance
at all times, and a full examination of its operations is conducted
periodically. Such regulation does not, however, involve any supervision of
management or investment practices or policies. In addition, KILICO is subject
to regulation under the insurance laws of other jurisdictions in which it may
operate.

EXPERTS

The financial statements of KILICO and the Separate Account have been included
in the Prospectus and in the Statement of Additional Information in reliance
upon the reports of KPMG Peat Marwick LLP, independent certified public
accountants, appearing elsewhere herein, and upon the authority of said firm as
experts in accounting and auditing. As discussed in the notes to KILICO's
consolidated financial statements, effective January 1, 1994, KILICO changed its
method of accounting for investment securities to adopt the provisions of the
Financial Accounting Standards Board's Statement of Financial Accounting
Standards ("SFAS") 115, Accounting for Certain Investments in Debt and Equity
Securities. Also, as discussed in the notes effective January 1, 1993, KILICO
changed its method of accounting for impairment of loans receivable to adopt the
provisions of SFAS 114 Accounting by Creditors for Impairment of a Loan, and
changed its method of accounting for income taxes to adopt the provisions of
SFAS 109, Accounting for Income Taxes. Further, as discussed in the notes,
KILICO adopted the provisions of SFAS 106, Employers' Accounting for
Postretirement Benefits Other than Pensions in 1992.

FINANCIAL STATEMENTS

This Statement of Additional Information contains financial statements for the
Separate Account which reflect assets attributable to the Certificates and also
reflect assets attributable to other variable annuity contracts offered by
KILICO through the Separate Account.

B-4
<PAGE> 110

INDEPENDENT AUDITORS' REPORT

THE BOARD OF DIRECTORS
KEMPER INVESTORS LIFE INSURANCE COMPANY:

We have audited the accompanying combined statement of assets and liabilities
and contract owners' equity of the KILICO Variable Annuity Separate Account as
of December 31, 1994, and the related combined statement of operations for the
year then ended, and the combined statements of changes in contract owners'
equity for the years ended December 31, 1994 and 1993. 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.

In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the combined financial position of the KILICO
Variable Annuity Separate Account as of December 31, 1994, and the combined
results of its operations for the year then ended, and the combined changes in
its contract owners' equity for the years ended December 31, 1994 and 1993, in
conformity with generally accepted accounting principles.

KPMG PEAT MARWICK LLP
Chicago, Illinois
February 13, 1995

B-5
<PAGE> 111

KILICO VARIABLE ANNUITY SEPARATE ACCOUNT

COMBINED STATEMENT OF ASSETS AND LIABILITIES AND CONTRACT OWNERS' EQUITY

DECEMBER 31, 1994 (IN THOUSANDS)

<TABLE>
<CAPTION>
SMALL
MONEY MONEY TOTAL HIGH GOVERNMENT CAPITALIZATION
MARKET MARKET RETURN YIELD EQUITY SECURITIES INTERNATIONAL EQUITY
COMBINED SUBACCOUNT SUBACCOUNT #2 SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT
---------- ---------- ------------- ---------- ---------- ---------- ---------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Investments,
at
current
value............ $1,432,488 78,837 3,676 584,469 217,698 320,586 91,604 122,709 12,909
Dividends
and
other
receivables...... 301 216 9 23 10 21 4 6 12
---------- -------- ------- --------- --------- ---------- --------- --------- --------
Total
assets............ 1,432,789 79,053 3,685 584,492 217,708 320,607 91,608 122,715 12,921
---------- -------- ------- --------- --------- ---------- --------- --------- --------
LIABILITIES AND
CONTRACT
OWNERS' EQUITY
Liabilities:
Mortality
and
expense
risk
and
administrative
charges............ 1,525 99 -- 627 220 337 99 131 12
Other............ 110 4 -- -- -- -- -- -- 106
---------- -------- ------- --------- --------- ---------- --------- --------- --------
Total
liabilities... 1,635 103 -- 627 220 337 99 131 118
---------- -------- ------- --------- --------- ---------- --------- --------- --------
Contract
owners'
equity........... $1,431,154 78,950 3,685 583,865 217,488 320,270 91,509 122,584 12,803
========== ======== ======= ========= ========= ========== ========= ========= ========
ANALYSIS OF CONTRACT
OWNERS' EQUITY
Excess of
proceeds
from
units
sold
over
payments
for
units
redeemed............ $ 971,895 17,494 3,265 394,080 103,120 243,967 79,529 117,687 12,753
Accumulated
net
investment
income
(loss)............ 378,073 61,456 420 159,772 122,056 19,327 16,110 (907) (161)
Accumulated
net
realized
gain
(loss)
on sales
of
investments...... 72,532 -- -- 44,173 (4,720) 29,760 1,041 2,355 (77)
Unrealized
appreciation
(depreciation)
of
investments...... 8,654 -- -- (14,160) (2,968) 27,216 (5,171) 3,449 288
---------- -------- ------- --------- --------- ---------- --------- --------- --------
Contract
owners'
equity........... $1,431,154 78,950 3,685 583,865 217,488 320,270 91,509 122,584 12,803
========== ======== ======= ========= ========= ========== ========= ========= ========
</TABLE>

See accompanying notes to combined financial statements.

B-6
<PAGE> 112

KILICO VARIABLE ANNUITY SEPARATE ACCOUNT

COMBINED STATEMENT OF OPERATIONS

FOR THE YEAR ENDED DECEMBER 31, 1994 (IN THOUSANDS)

<TABLE>
<CAPTION>
SMALL
MONEY MONEY TOTAL GOVERNMENT CAPITALIZATION
MARKET MARKET RETURN HIGH YIELD EQUITY SECURITIES INTERNATIONAL EQUITY
COMBINED SUBACCOUNT SUBACCOUNT #2 SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT(A)
--------- ---------- -------------- ---------- ---------- ---------- ---------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Dividends
and
capital
gains
distributions... $ 105,315 3,840 153 58,451 19,146 14,860 7,695 1,170 --
Expenses:
Mortality
and
expense
risk and
administrative
charges......... 20,153 1,266 1 8,636 2,988 4,137 1,379 1,585 161
--------- -------- ---- ---------- ---------- ---------- ---------- --------- -----
Net
investment
income
(loss).......... 85,162 2,574 152 49,815 16,158 10,723 6,316 (415) (161)
--------- -------- ---- ---------- ---------- ---------- ---------- --------- -----
Net realized
and
unrealized
gain
(loss) on
investments:
Net
realized
gain
(loss)
on sales
of
investments... 11,105 -- -- 878 3,164 5,853 (726) 2,013 (77)
Change in
unrealized
appreciation
(depreciation)
of
investments... (199,366) -- -- (121,752) (27,264) (32,435) (10,070) (8,133) 288
--------- -------- ---- ---------- ---------- ---------- ---------- --------- -----
Net realized
and
unrealized
gain
(loss) on
investments..... (188,261) -- -- (120,874) (24,100) (26,582) (10,796) (6,120) 211
--------- -------- ---- ---------- ---------- ---------- ---------- --------- -----
Net increase
(decrease)
in
contract
owners'
equity
resulting
from
operations...... $(103,099) 2,574 152 (71,059) (7,942) (15,859) (4,480) (6,535) 50
========= ======== ==== ========== ========== ========== ========== ========= =====
</TABLE>

(a) For the period from May 2, 1994 (commencement of operations) to December 31,
1994.

See accompanying notes to combined financial statements.

B-7
<PAGE> 113

KILICO VARIABLE ANNUITY SEPARATE ACCOUNT

COMBINED STATEMENTS OF CHANGES IN CONTRACT OWNERS' EQUITY

FOR THE YEARS ENDED DECEMBER 31, 1994 AND 1993
(IN THOUSANDS)

<TABLE>
<CAPTION>
MONEY MARKET MONEY MARKET
COMBINED SUBACCOUNT SUBACCOUNT #2
---------------------------- ----------------------- ---------------------
1994 1993 1994 1993 1994 1993
---------- --------- ------- ------- ------ ------
<S> <C> <C> <C> <C> <C> <C>
Operations:
Net investment income (loss)....... $ 85,162 49,841 2,574 997 152 127
Net realized gain (loss) on sales
of investments................... 11,105 19,074 -- -- -- --
Change in unrealized appreciation
(depreciation) of investments.... (199,366) 72,722 -- -- -- --
---------- --------- ------- ------- ------ ------
Net increase (decrease) in
contract owners' equity
resulting from operations...... (103,099) 141,637 2,574 997 152 127
---------- --------- ------- ------- ------ ------

Account unit transactions:
Proceeds from units sold........... 254,411 266,721 19,971 12,800 6,673 4,794
Net transfers (to) from affiliate
and subaccounts.................. 3,471 48,524 16,310 (2,660) (6,297) (8,394)
Payments for units redeemed........ (152,336) (104,210) (24,064) (13,103) (68) (84)
---------- --------- ------- ------- ------ ------
Net increase (decrease) in
contract owners' equity from
account unit transactions...... 105,546 211,035 12,217 (2,963) 308 (3,684)
---------- --------- ------- ------- ------ ------
Total increase (decrease) in contract
owners' equity..................... 2,447 352,672 14,791 (1,966) 460 (3,557)

Contract owners' equity:
Beginning of period................ 1,428,707 1,076,035 64,159 66,125 3,225 6,782
---------- --------- ------- ------- ------ ------
End of period...................... $1,431,154 1,428,707 78,950 64,159 3,685 3,225
========== ========= ======= ======= ====== ======
</TABLE>

(a) For the period from May 2, 1994 (commencement of operations) to December 31,
1994.

See accompanying notes to combined financial statements.

B-8
<PAGE> 114
<TABLE>
<CAPTION>
SMALL
GOVERNMENT CAPITALIZATION
TOTAL RETURN HIGH YIELD EQUITY SECURITIES INTERNATIONAL EQUITY
SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT
- ------------------- ------------------ ------------------ ------------------ ----------------- ------------------
1994 1993 1994 1993 1994 1993 1994 1993 1994 1993 1994(A) 1993
- -------- ------- ------- ------- ------- ------- ------- ------- ------- ------ ------ ----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
49,815 28,972 16,158 11,854 10,723 2,502 6,316 5,694 (415) (305) (161) --
878 6,051 3,164 2,654 5,853 9,420 (726) 632 2,013 317 (77) --
(121,752) 23,970 (27,264) 19,150 (32,435) 18,912 (10,070) (1,182) (8,133) 11,872 288 --
- -------- ------- ------- ------- ------- ------- ------- ------- ------- ------ ------ ----
(71,059) 58,993 (7,942) 33,658 (15,859) 30,834 (4,480) 5,144 (6,535) 11,884 50 --
- -------- ------- ------- ------- ------- ------- ------- ------- ------- ------ ------ ----

89,169 104,977 34,261 39,600 52,913 56,537 15,214 32,889 32,734 15,124 3,476 --
(16,297) (5,727) (15,720) 15,978 25,150 9,542 (24,188) (4,289) 15,006 44,074 9,507 --
(58,032) (43,640) (24,877) (18,723) (24,735) (16,241) (12,918) (10,666) (7,412) (1,753) (230) --
- -------- ------- ------- ------- ------- ------- ------- ------- ------- ------ ------ ----
14,840 55,610 (6,336) 36,855 53,328 49,838 (21,892) 17,934 40,328 57,445 12,753 --
- -------- ------- ------- ------- ------- ------- ------- ------- ------- ------ ------ ----
(56,219) 114,603 (14,278) 70,513 37,469 80,672 (26,372) 23,078 33,793 69,329 12,803 --

640,084 525,481 231,766 161,253 282,801 202,129 117,881 94,803 88,791 19,462 -- --
- -------- ------- ------- ------- ------- ------- ------- ------- ------- ------ ------ ----
583,865 640,084 217,488 231,766 320,270 282,801 91,509 117,881 122,584 88,791 12,803 --
======== ======= ======= ======= ======= ======= ======= ======= ======= ====== ====== =====

</TABLE>

B-9
<PAGE> 115

KILICO VARIABLE ANNUITY SEPARATE ACCOUNT

NOTES TO COMBINED FINANCIAL STATEMENTS

(1) GENERAL INFORMATION AND SIGNIFICANT ACCOUNTING POLICIES

ORGANIZATION.

KILICO Variable Annuity Separate Account (the "Separate Account") is a unit
investment trust registered under the Investment Company Act of 1940, as
amended, established by Kemper Investors Life Insurance Company ("KILICO"). The
Separate Account is used to fund contracts or certificates (collectively
referred to as "contracts") for ADVANTAGE III periodic and flexible payment
variable annuity contracts and PASSPORT individual and group variable and market
value adjusted deferred annuity contracts. The Separate Account is divided into
eight Subaccounts and each Subaccount invests exclusively in a corresponding
Portfolio of the Kemper Investors Fund (the "Fund"), an open-end diversified
management investment company.

SECURITY VALUATION.

The investments are stated at current value which is based on the closing bid
price, net asset value, at December 31, 1994.

SECURITY TRANSACTIONS AND INVESTMENT INCOME.

Security transactions are accounted for on the trade date (date the order to buy
or sell is executed). Dividends and capital gains distributions are recorded as
income on the ex-dividend date. Realized gains and losses from security
transactions are reported on an identified cost basis.

ACCUMULATION UNIT VALUATION.

On each day the New York Stock Exchange (the "Exchange") is open for trading,
the accumulation unit value is determined as of the earlier of 3:00 p.m.
(Chicago time) or the close of the Exchange by dividing the total value of each
Subaccount's investments and other assets, less liabilities, by the number of
accumulation units outstanding in the respective Subaccount.

FEDERAL INCOME TAXES.

The operations of the Separate Account are included in the Federal income tax
return of KILICO. Under existing Federal income tax law, investment income and
realized capital gains and losses of the Separate Account increase liabilities
under the contract and are, therefore, not taxed. Thus the Separate Account may
realize net investment income and capital gains and losses without Federal
income tax consequences.

(2) SUMMARY OF INVESTMENTS

Investments, at cost, at December 31, 1994, are as follows (in thousands):

<TABLE>
<CAPTION>
SHARES
OWNED COST
-------- ----------
<S> <C> <C>
INVESTMENTS
Kemper Investors Fund Money Market Portfolio (Money Market and
Money Market #2 Subaccounts)................................................................ 82,513 $ 82,513
Kemper Investors Fund Total Return Portfolio.................................................. 276,685 598,629
Kemper Investors Fund High Yield Portfolio.................................................... 183,754 220,666
Kemper Investors Fund Equity Portfolio........................................................ 120,300 293,370
Kemper Investors Fund Government Securities Portfolio......................................... 80,232 96,775
Kemper Investors Fund International Portfolio................................................. 98,620 119,260
Kemper Investors Fund Small Capitalization Equity Portfolio................................... 12,420 12,621
----------
TOTAL INVESTMENTS....................................................................... $1,423,834
==========
</TABLE>

The underlying investments and significant industry concentrations of the Fund's
portfolios are summarized below.

MONEY MARKET PORTFOLIO: This Portfolio invests primarily in short-term
obligations of major banks and corporations. The Money Market Subaccount
represents the ADVANTAGE III Money Market Subaccount and the PASSPORT Money
Market Subaccount #1. Money Market Subaccount #2 represents funds allocated by
the owner of a contract to the dollar cost averaging program. Under the dollar
cost averaging program, an owner may predesignate a portion of the Subaccount
value to be automatically transferred on a monthly basis to one or more of

B-10
<PAGE> 116

NOTES TO COMBINED FINANCIAL STATEMENTS--(CONTINUED)

the other Subaccounts. This option is only available to PASSPORT individual and
group variable and market value adjusted deferred annuity contracts. At December
31, 1994, no industry exceeded 20% of the Portfolio's assets.

TOTAL RETURN PORTFOLIO: This Portfolio's investments will normally consist of
fixed-income and equity securities. Fixed-income securities will include bonds
and other debt securities and preferred stocks. Equity investments normally will
consist of common stocks and securities convertible into or exchangeable for
common stocks, however, the Portfolio may also make private placement
investments (which are normally restricted securities). At December 31, 1994, no
industry exceeded 20% of the Portfolio's assets.

HIGH YIELD PORTFOLIO: This Portfolio invests in fixed-income securities, a
substantial portion of which are high yielding fixed-income securities. These
securities ordinarily will be in the lower rating categories of recognized
rating agencies or will be non-rated, and generally will involve more risk than
securities in the higher rating categories. At December 31, 1994, 21.3% of the
Portfolio's assets were invested in the manufacturing, metals and mining
industry. No other industry exceeded 20% of the Portfolio's assets.

EQUITY PORTFOLIO: This Portfolio's investments normally will consist of common
stocks and securities convertible into or exchangeable for common stocks,
however, it may also make private placement investments (which are normally
restricted securities). At December 31, 1994, no industry exceeded 20% of the
Portfolio's assets.

GOVERNMENT SECURITIES PORTFOLIO: This Portfolio invests primarily in U.S.
Government securities. The Portfolio will also invest in fixed-income securities
other than U.S. Government securities and will engage in options and financial
futures transactions. At December 31, 1994, the Portfolio had 89.6% of its
assets invested in U.S. Government obligations.

INTERNATIONAL PORTFOLIO: This Portfolio's investments will normally consist of
equity securities of non-United States issuers, however, it may also invest in
convertible and debt securities of non-United States issuers and foreign
currencies. At December 31, 1994, 32% of the Portfolio's assets were invested in
Japan. No other industry or country exceeded 20% of the Portfolio's assets.

SMALL CAPITALIZATION EQUITY PORTFOLIO: This Portfolio's investments will consist
primarily of common stocks and securities convertible into or exchangeable for
common stocks and to a limited degree in preferred stocks and debt securities.
At least 65% of the Portfolio's total assets will be invested in equity
securities of companies having a market capitalization of $1 billion or less at
the time of initial investment. At December 31, 1994 no industry exceeded 20% of
the Portfolio's assets.

(3) TRANSACTIONS WITH AFFILIATES

KILICO assumes mortality risks associated with the annuity contracts and incurs
all expenses involved in administering the contracts. In return, KILICO assesses
that portion of each Subaccount representing assets under the ADVANTAGE III
flexible payment contracts with a daily charge for mortality and expense risk
and administrative costs which amounts to an aggregate of one percent (1.00%)
per annum. KILICO also assesses that portion of each Subaccount representing
assets under the ADVANTAGE III periodic payment contracts with a daily asset
charge for mortality and expense risk and administrative costs which amounts to
an aggregate of one and three-tenths percent (1.30%) per annum. KILICO assesses
that portion of each Subaccount representing assets under PASSPORT individual
and group variable and market value adjusted deferred annuity contracts with a
daily asset charge for mortality and expense risk and administrative costs which
amounts to an aggregate of one and one-quarter percent (1.25%) per annum. The
PASSPORT DCA Money Market Subaccount #2, available for participation in the
dollar cost averaging program, has no daily asset charge deduction.

KILICO also assesses against each ADVANTAGE III contract participating in one or
more of the Subaccounts at any time during the year a records maintenance
charge. For contracts purchased prior to June 1, 1993, the charge is $25 and is
assessed on December 31st of each calendar year. For contracts purchased June 1,
1993 and subsequent, the charge is $36 and is assessed ratably every quarter of
each calendar year, except in those states which have yet to approve these
contract changes. The charge is assessed whether or not any purchase payments
have been made during the year. KILICO also assesses against each PASSPORT
contract participating in one or more of the Subaccounts a records maintenance
charge of $30 at the end of each contract year.

For contracts issued prior to May 1, 1994, KILICO has undertaken to reimburse
each of the ADVANTAGE III Money Market, Total Return, High Yield, and Equity
Subaccounts whose direct and indirect operating expenses exceed eighty
hundredths of one percent (.80%) of average daily net assets. In determining
reimbursement of direct and

B-11
<PAGE> 117

NOTES TO COMBINED FINANCIAL STATEMENTS--(CONTINUED)

indirect operating expenses, for each Subaccount, charges for mortality and
expense risks and administrative expenses, and records maintenance charges are
excluded and, for each Portfolio, charges for taxes, extraordinary expenses, and
brokerage and transaction costs are excluded. During the year ended December 31,
1994, no such payment was made.

Proceeds payable on the redemption of units are reduced by the amount of any
applicable contingent deferred sales charge due to KILICO. During the year ended
December 31, 1994, KILICO received contingent deferred sales charges of
$1,568,200.

Kemper Financial Services, Inc., an affiliated company, is the investment
manager and principal underwriter of the Portfolios of the Fund which serve as
the underlying investments of the Separate Accounts.

(4) NET TRANSFERS (TO) FROM AFFILIATED DIVISIONS AND SUBACCOUNTS

Net transfers (to) from affiliated divisions or accounts include transfers of
all or part of the contract owner's interest to or from another Subaccount or to
the general account of KILICO.

(5) CONTRACT OWNERS' EQUITY

The contract owners' equity is affected by the investment results of each
Portfolio and contract charges. The accompanying financial statements include
only contract owners' payments pertaining to the variable portions of their
contracts and exclude any payments for the market value adjusted or fixed
portions, the latter being included in the general account of KILICO. Contract
owners may elect to annuitize the contract under one of several annuity options,
as specified in the prospectus.

B-12
<PAGE> 118

NOTES TO COMBINED FINANCIAL STATEMENTS--(CONTINUED)

Contract owners' equity at December 31, 1994, is as follows (in thousands,
except unit value; differences are due to rounding):

<TABLE>
<CAPTION>
CONTRACT
NUMBER OF UNIT OWNERS'
UNITS VALUE EQUITY
--------- ------ ----------
<S> <C> <C> <C>
ADVANTAGE III SUBACCOUNT
MONEY MARKET
Flexible Payment, Qualified.................................... 733 $2.111 $ 1,547
Flexible Payment, Nonqualified................................. 6,914 2.111 14,596
Periodic Payment, Qualified.................................... 15,997 2.033 32,519
Periodic Payment, Nonqualified................................. 7,343 2.033 14,926
----------
Total........................................................ 63,588
----------
TOTAL RETURN
Flexible Payment, Qualified.................................... 1,299 3.796 4,932
Flexible Payment, Nonqualified................................. 6,613 3.515 23,244
Periodic Payment, Qualified.................................... 110,428 3.656 403,681
Periodic Payment, Nonqualified................................. 24,773 3.406 84,376
----------
Total........................................................ 516,233
----------
HIGH YIELD
Flexible Payment, Qualified.................................... 532 4.372 2,324
Flexible Payment, Nonqualified................................. 3,621 4.186 15,157
Periodic Payment, Qualified.................................... 26,546 4.210 111,758
Periodic Payment, Nonqualified................................. 12,416 4.101 50,918
----------
Total........................................................ 180,157
----------
EQUITY
Flexible Payment, Qualified.................................... 238 3.345 795
Flexible Payment, Nonqualified................................. 1,370 3.334 4,568
Periodic Payment, Qualified.................................... 58,845 3.238 190,522
Periodic Payment, Nonqualified................................. 19,776 3.233 63,935
----------
Total........................................................ 259,820
----------
GOVERNMENT SECURITIES
Flexible Payment, Qualified.................................... 237 1.337 317
Flexible Payment, Nonqualified................................. 1,465 1.337 1,958
Periodic Payment, Qualified.................................... 24,332 1.317 32,039
Periodic Payment, Nonqualified................................. 23,487 1.317 30,926
----------
Total........................................................ 65,240
----------
INTERNATIONAL
Flexible Payment, Qualified.................................... 625 1.234 771
Flexible Payment, Nonqualified................................. 2,450 1.234 3,024
Periodic Payment, Qualified.................................... 61,490 1.223 75,223
Periodic Payment, Nonqualified................................. 14,546 1.223 17,795
----------
Total........................................................ 96,813
----------
SMALL CAPITALIZATION EQUITY
Flexible Payment, Qualified.................................... 14 1.033 14
Flexible Payment, Nonqualified................................. 227 1.033 234
Periodic Payment, Qualified.................................... 8,304 1.031 8,558
Periodic Payment, Nonqualified................................. 1,242 1.031 1,280
----------
Total........................................................ 10,086
----------
TOTAL ADVANTAGE III CONTRACT OWNERS' EQUITY................................................ $1,191,937
----------
</TABLE>

B-13
<PAGE> 119

NOTES TO COMBINED FINANCIAL STATEMENTS--(CONTINUED)

<TABLE>
<CAPTION>
CONTRACT
NUMBER OF UNIT OWNERS'
UNITS VALUE EQUITY
--------- ------ ----------
<S> <C> <C> <C>
PASSPORT SUBACCOUNT
MONEY MARKET #1
Qualified................................................................. 4,014 $1.065 $ 4,275
Nonqualified.............................................................. 10,409 1.065 11,087
----------
Total................................................................... 15,362
----------
MONEY MARKET #2
Qualified................................................................. 858 1.105 949
Nonqualified.............................................................. 2,475 1.105 2,736
----------
Total................................................................... 3,685
----------
TOTAL RETURN
Qualified................................................................. 17,755 0.991 17,606
Nonqualified.............................................................. 50,452 0.991 50,026
----------
Total................................................................... 67,632
----------
HIGH YIELD
Qualified................................................................. 7,119 1.308 9,311
Nonqualified.............................................................. 21,426 1.308 28,020
----------
Total................................................................... 37,331
----------
EQUITY
Qualified................................................................. 16,003 1.093 17,491
Nonqualified.............................................................. 39,305 1.093 42,959
----------
Total................................................................... 60,450
----------
GOVERNMENT SECURITIES
Qualified................................................................. 5,654 1.061 5,999
Nonqualified.............................................................. 19,106 1.061 20,270
----------
Total................................................................... 26,269
----------
INTERNATIONAL
Qualified................................................................. 5,886 1.225 7,211
Nonqualified.............................................................. 15,149 1.225 18,560
----------
Total................................................................... 25,771
----------
SMALL CAPITALIZATION EQUITY
Qualified................................................................. 881 1.031 907
Nonqualified.............................................................. 1,756 1.031 1,810
----------
Total................................................................... 2,717
----------
TOTAL PASSPORT CONTRACT OWNERS' EQUITY................................................................. 239,217
----------
TOTAL CONTRACT OWNERS' EQUITY.......................................................................... $1,431,154
==========
</TABLE>

B-14
<PAGE> 120

APPENDIX A

TABLE OF HISTORICAL HYPOTHETICAL* ACCUMULATION UNIT VALUES
AND PERFORMANCE INFORMATION

The historical accumulation unit values are for the life of the Separate Account
in its present organization as a unit investment trust and in its prior
organization as several managed separate accounts based on current deductions
and charges applicable to the Certificates. The Certificates were first offered
January 6, 1992.

HISTORICAL HYPOTHETICAL ACCUMULATION UNIT VALUES
<TABLE>
<CAPTION>
TOTAL
MONEY MARKET MONEY MARKET RETURN
SUBACCOUNT #1 SUBACCOUNT #2 SUBACCOUNT
- ----------------------------------- ----------------------------------- ---------------------------------
UNIT UNIT UNIT
DATE VALUES DATE VALUES DATE VALUES
- -------- --------- -------- --------- -------- ------
<S> <C> <C> <C> <C> <C>
04/06/82 .............. .521904 04/06/82 .............. .488861 04/14/82 .............. .271127
12/31/82 .............. .561706 12/31/82 .............. .526477 12/31/82 .............. .334579
12/31/83 .............. .605415 12/31/83 .............. .569164 12/31/83 .............. .388564
12/31/84 .............. .661060 12/31/84 .............. .623384 12/31/84 .............. .364932
12/31/85 .............. .705934 12/31/85 .............. .669150 12/31/85 .............. .462836
12/31/86 .............. .743260 12/31/86 .............. .709261 12/31/86 .............. .526008
12/31/87 .............. .782353 12/31/87 .............. .752167 12/31/87 .............. .522732
12/31/88 .............. .830274 12/31/88 .............. .804725 12/31/88 .............. .578123
12/31/89 .............. .894703 12/31/89 .............. .874829 12/31/89 .............. .707717
12/31/90 .............. .955536 12/31/90 .............. .944037 12/31/90 .............. .734077
12/31/91 .............. .999459 12/31/91 .............. .999255 12/31/91 .............. .997337
12/31/92 .............. 1.021027 12/31/92 .............. 1.033619 12/31/92 .............. 1.001657
12/31/93 .............. 1.037409 12/31/93 .............. 1.063332 12/31/93 .............. 1.109293
12/31/94 .............. 1.065127 12/31/94 .............. 1.105349 12/31/94 .............. .991561

GOVERNMENT
HIGH YIELD EQUITY SECURITIES
SUBACCOUNT SUBACCOUNT SUBACCOUNT
- ----------------------------------- ----------------------------------- ---------------------------------------
UNIT UNIT UNIT
DATE VALUES DATE VALUES DATE VALUES
- -------- --------- -------- --------- -------- -------
<S> <C> <C> <C> <C> <C>
04/14/82 .............. .309713 12/13/83 .............. .336632 07/13/87 .............. .700085
12/31/82 .............. .382894 12/31/83 .............. .346384 12/31/87 .............. .710087
12/31/84 .............. .482077 12/31/85 .............. .468051 12/31/88 .............. .723278
12/31/85 .............. .579127 12/31/86 .............. .504874 12/31/89 .............. .811610
12/31/86 .............. .673071 12/31/87 .............. .507011 12/31/90 .............. .881949
12/31/87 .............. .703823 12/31/88 .............. .502672 12/31/91 .............. 1.004106
12/31/88 .............. .805071 12/31/89 .............. .636443 12/31/92 .............. 1.050227
12/31/89 .............. .784945 12/31/90 .............. .632214 12/31/93 .............. 1.104499
12/31/90 .............. .655406 12/31/91 .............. .995577 12/31/94 .............. 1.060977
12/31/91 .............. .982658 12/31/92 .............. 1.018405
12/31/92 .............. 1.142847 12/31/93 .............. 1.152836
12/31/93 .............. 1.354484 12/31/94 .............. 1.092975
12/31/94 .............. 1.307729

<CAPTION>
INTERNATIONAL SUBACCOUNT SMALL CAP SUBACCOUNT
- ----------------------------------- -----------------------------------
UNIT UNIT
DATE VALUES DATE VALUES
- -------- --------- -------- ---------
<S> <C> <C> <C>
12/31/92 .............. .980721 12/31/94 .............. 1.030937
12/31/93 .............. 1.286576
12/31/94 .............. 1.225134

</TABLE>

- ---------------
* As of January 6, 1992 the accumulation unit values are based on actual
performance.

B-15

<PAGE> 121

PERFORMANCE INFORMATION

<TABLE>
<CAPTION>
VALUES OF INITIAL
$40,000 INVESTMENT IN
SUBACCOUNTS-- COMPARED TO
DECEMBER 31, 1994 ------------------------------------
----------------------- DOW JONES STANDARD CONSUMER
ENDING PERCENTAGE INDUSTRIAL & POOR'S PRICE EAFE
TOTAL RETURN TABLE VALUE INCREASE AVERAGE(1) 500(2) INDEX(3) (13)
- -------------------------------------------- --------- ---------- ---------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
EQUITY SUBACCOUNT
Life of Subaccount(4)..................... 129,463 223.66% 351.28 304.56 47.95
Ten years................................. 115,150 187.88 349.67 282.68 42.14
Five years................................ 68,550 71.38 63.05 51.60 18.72
One year.................................. 37,895 (5.26) 5.02 1.31 2.67

TOTAL RETURN SUBACCOUNT
Life of Subaccount(5)..................... 136,238 240.6% 664.33 553.57 58.41
Ten years................................. 108,611 171.53 349.67 282.68 42.14
Five years................................ 56,023 40.06 63.05 51.60 18.72
One year.................................. 35,724 (10.69) 5.02 1.31 2.67

INTERNATIONAL SUBACCOUNT(14)
Life of Subaccount........................ 48,971 22.43% 31.94 19.99 8.56 26.64
One year.................................. 38,069 (4.83) 5.02 1.31 2.67 8.06

SMALL CAP SUBACCOUNT
Life of Subaccount(15).................... 41,228 3.07%
</TABLE>

<TABLE>
<CAPTION>
VALUES OF INITIAL COMPARED TO
$40,000 --------------------------------------------------------------
INVESTMENT IN SALOMON
SUBACCOUNTS-- BROS. LEHMAN MERRILL
DECEMBER 31, 1994 HIGH GRADE BROS. LYNCH
--------------------- CONSUMER CDA CERT. CORP. GOVT./CORP. GOVT./CORP.
ENDING PERCENTAGE PRICE OF DEPOSIT BOND BOND MASTER
TOTAL RETURN TABLE VALUE INCREASE INDEX(3) INDEX(6) INDEX(7) INDEX(8) INDEX(9)
- ----------------------------------------- ------- ---------- -------- ---------- ---------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
MONEY MARKET SUBACCOUNT #1
Life of Subaccount(10)................. 81,367 103.42% 58.41 153.99 404.53 301.86 302.39
Ten years.............................. 64,234 60.58 42.14 90.66 198.97 155.53 157.17
Five years............................. 47,474 18.68 18.72 29.69 49.43 44.93 45.45
One year............................... 41,026 2.57 2.67 5.05 (5.74) (3.51) (3.27)

MONEY MARKET SUBACCOUNT #2
Life of Subaccount(10)................. 90,181 125.45% 58.41 153.99 404.53 301.86 302.39
Ten years.............................. 70,720 76.8 42.14 90.66 198.97 155.53 157.17
Five years............................. 50,410 26.03 18.72 29.69 49.43 44.93 45.45
One year............................... 41,558 3.90 2.67 5.05 (5.74) (3.51) (3.27)

HIGH YIELD SUBACCOUNT
Life of Subaccount(11)................. 164,271 310.68% 58.41 153.99 404.53 301.86 302.39
Ten years.............................. 108,267 170.67 42.14 90.66 198.97 155.53 157.17
Five years............................. 66,480 66.2 18.72 29.69 49.43 44.93 45.45
One year............................... 38,592 (3.52) 2.67 5.05 (5.74) (3.51) (3.27)

GOVERNMENT SECURITIES SUBACCOUNT
Life of Subaccount(12)................. 59,836 49.59% 30.86 57.55 100.07 84.45 85.30
Five years............................. 52,166 30.42 18.72 29.69 49.43 44.93 45.45
One year............................... 38,395 (4.01) 2.67 5.05 (5.74) (3.51) (3.27)
</TABLE>

B-16
<PAGE> 122

<TABLE>
<CAPTION>
COMPARED TO
--------------------------------
AVERAGE DOW STANDARD
ANNUAL JONES & POOR'S CONSUMER
AVERAGE ANNUAL TOTAL TOTAL INDUSTRIAL 500 STOCK PRICE EAFE
RETURN TABLE RETURN AVERAGE(1) INDEX(2) INDEX(3) (13)
-------------------- ------ ----- ----- ---- ----
<S> <C> <C> <C> <C> <C>
EQUITY SUBACCOUNT
Life of Subaccount(4)................................. 10.51% 14.56 13.44 3.60
Ten years............................................. 10.28 16.22 14.36 3.58
Five years............................................ 8.71 10.27 8.68 3.49
One year.............................................. (12.93) 5.02 1.31 2.67

TOTAL RETURN SUBACCOUNT
Life of Subaccount(5)................................. 9.08% 17.29 15.86 3.67
Ten years............................................. 9.12 16.22 14.36 3.58
Five years............................................ 3.86 10.27 8.68 3.49
One year.............................................. (18.31) 5.02 1.31 2.67

INTERNATIONAL SUBACCOUNT
Life of Subaccount(14)................................ 4.39% 9.68 6.26 2.77 8.19
One year.............................................. (11.92) 5.02 1.31 2.67 8.06

SMALL CAP SUBACCOUNT
Life of Subaccount(15)................................ (4.98)%
</TABLE>

<TABLE>
<CAPTION>
COMPARED TO
-----------------------------------------------------
SALOMON LEHMAN MERRILL
AVERAGE BROS. BROS. LYNCH
ANNUAL CONSUMER HIGH GRADE GOVT./CORP. GOVT./CORP.
AVERAGE ANNUAL TOTAL TOTAL PRICE CORP. BOND BOND MASTER
RETURN TABLE RETURN INDEX(3) INDEX(7) INDEX(8) INDEX(9)
----------------------- -------- -------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
HIGH YIELD SUBACCOUNT
Life of Subaccount(11).................................. 11.17% 3.67 13.53 11.53 11.54
Ten years............................................... 9.46 3.58 11.57 9.84 9.91
Five years.............................................. 7.73 3.49 8.36 7.70 7.78
One year................................................ (11.20) 2.67 (5.74) (3.51) (3.27)

GOVERNMENT SECURITIES SUBACCOUNT
Life of Subaccount(12).................................. 4.44% 3.74 9.92 8.71 8.77
Five years.............................................. 2.67 3.49 8.36 7.70 7.78
One year................................................ (11.82) 2.67 (5.74) (3.51) (3.27)
</TABLE>

<TABLE>
<CAPTION>
YIELD INFORMATION QUALIFIED AND NON-QUALIFIED
------------------- ----------------------------
<S> <C>
HIGH YIELD SUBACCOUNT
30 day period ended 3/31/95................................................................ 9.27%
GOVERNMENT SECURITIES SUBACCOUNT
30 day period ended 3/31/95................................................................ 5.34%
MONEY MARKET SUBACCOUNT
7 day period ended 3/31/95................................................................. 4.36%
</TABLE>

(1) The Dow Jones Industrial Average is an unmanaged unweighted average of
thirty blue chip industrial corporations listed on the New York Stock Exchange.
Assumes reinvestment of dividends.

(2) The Standard & Poor's 500 Stock Index is an unmanaged weighted average of
500 stocks, over 95% of which are listed on the New York Stock Exchange. Assumes
reinvestment of dividends.

(3) The Consumer Price Index, published by the U.S. Bureau of Labor Statistics,
is a statistical measure of change, over time, in the prices of goods and
services in major expenditure groups.

(4) From December 9, 1983 to December 31, 1994.

(5) From March 5, 1982 to December 31, 1994.

(6) The CDA Certificate of Deposit Index is provided by CDA Investment
Technologies, Inc., Silver Spring, Maryland, and is based upon a statistical
sampling of the yield of 30-day certificates of deposit of major commercial
banks. Yield is based upon a monthly compounding of interest.

(7) The Salomon Brothers High Grade Corporate Bond Index is on a total return
basis with all dividends reinvested and is comprised of high grade long-term
industrial and utility bonds rated in the top two rating categories.

(8) The Lehman Brothers Government/Corporate Bond Index is on a total return
basis and is comprised of all publicly issued, non-convertible, domestic debt of
the U.S. Government or any agency thereof, quasi-Federal corporation, or
corporate debt guaranteed by the U.S. Government and all publicly issued,
fixed-rate, non-convertible, domestic debt of the three major corporate
classifications: industrial, utility, and financial. Only notes and bonds with a
minimum outstanding principal amount of $1,000,000 and a minimum of one year are
included. Bonds included must have a rating of at least Baa by Moody's Investors
Service, BBB by Standard & Poor's Corporation or in the case of bank bonds not
rated by either Moody's or Standard & Poor's, BBB by Fitch Investors Service.

B-17
<PAGE> 123

(9) The Merrill Lynch Government/Corporate Master Index is based upon the total
return with all dividends reinvested of 4,000 corporate and 300 government bonds
issued with an intermediate average maturity and an average quality rating of Aa
(Moody's Investors Service, Inc.) /AA (Standard & Poor's Corporation).

(10) From March 5, 1982 to December 31, 1994.

(11) From March 5, 1982 to December 31, 1994.

(12) From September 3, 1987 to December 31, 1994.

(13) The EAFE is the Morgan Stanley Capital International's Europe, Australia,
Far East index. This index is an unmanaged index that is considered to be
generally representative of major non-United States stock markets.

(14) From January 6, 1992 to December 31, 1994.

(15) From May 2, 1994 to December 31, 1994.

The following table compares the performance of the subaccounts over various
periods with that of other variable annuity funds within the categories
described below according to data reported by Lipper Analytical Services Inc.
("Lipper") New York, New York, mutual fund reporting service. Lipper rankings
are based on changes in net asset value with all income and capital gain
reinvested such calculations do not include the effect of any sales charges and
include the deduction of mortality and expense risk charges and other asset
based charges. Future performance cannot be guaranteed. Lipper published
performance analyses on a regular basis from which the following rankings were
derived.

The Total Return Subaccount, High Yield Subaccount, Equity Subaccount, Money
Market Subaccount, International Subaccount and Government Securities Subaccount
are ranked by Lipper in the Flexible Portfolio, High Current Yield, Capital
Appreciation, Money Market, International, and Government Securities--U.S.
Mortgage and GNMA categories, respectively. Variable annuity funds in these
categories have a variety of objectives, policies and market and credit risks
that should be considered in reviewing the rankings. The performance of the
Subaccount may also be compared to other variable annuity funds ranked by
Morningstar, Inc. or VARDS Inc.

<TABLE>
<CAPTION>
LIPPER VARIABLE ANNUITY
PERFORMANCE ANALYSES
SUBACCOUNT -----------------------
--------------------------------------------------- 2/28/94 TO
2/28/95 ---------------
<S> <C>
Total Return....................................... 111 out of 117
High Yield......................................... 19 out of 60
Equity............................................. 40 out of 84
Money Market #1.................................... 73 out of 169
Money Market #2.................................... 3 out of 169
Government Securities.............................. 7 out of 12
International...................................... 41 out of 48
</TABLE>

B-18
<PAGE> 124

APPENDIX B

STATE PREMIUM TAX CHART

<TABLE>
<CAPTION>
RATE OF TAX
-------------------------------
QUALIFIED NON-QUALIFIED
STATE PLANS PLANS
------------------------------------------------------------------- --------- -------------
<S> <C> <C>
California......................................................... .50% 2.35%*
District of Columbia............................................... 2.25% 2.25%*
Kansas............................................................. -- 2.00%*
Kentucky........................................................... 2.00%* 2.00%*
Maine.............................................................. -- 2.00%
Mississippi........................................................ -- 1.00%
Nevada............................................................. -- 3.50%*
Pennsylvania....................................................... -- 2.00%
South Dakota....................................................... -- 1.25%
West Virginia...................................................... 1.00% 1.00%
Wyoming............................................................ -- 1.00%
</TABLE>

* Taxes become due when annuity benefits commence, rather than when the
premiums are collected. At the time of annuitization, the premium tax
payable will be charged against the Certificate Value.

B-19