<PAGE>
VARIABLE ANNUITY
FLEXIBLE PREMIUM DEFERRED COMBINATION
FIXED AND VARIABLE ANNUITY CONTRACT
OFFERED BY: STATEMENT OF ADDITIONAL
INFORMATION
USAA LIFE INSURANCE COMPANY
9800 FREDERICKSBURG ROAD Dated May 1, 1996
SAN ANTONIO, TEXAS 78288
This Statement of Additional Information ("SAI") is not a prospectus, but should
be read in conjunction with the Prospectus, dated May 1, 1996 for the Separate
Account of USAA Life Insurance Company ("USAA Life"). Capitalized terms used in
this SAI that are not otherwise defined herein have the same meanings given to
them in the Prospectus. A copy of the Prospectus may be obtained by writing
USAA Life at the address above, or by calling 1-800-531-8000.
1
<PAGE>
TABLE OF CONTENTS
-----------------
<TABLE>
<CAPTION>
Caption Page
- ----------------------------------------------------------- ------
<S> <C>
GENERAL INFORMATION........................................ 3
DISTRIBUTOR................................................ 3
SAFEKEEPING OF THE ASSETS OF THE SEPARATE ACCOUNT.......... 3
REGULATION AND RESERVES.................................... 3
SERVICES................................................... 4
TAX SHELTERED ANNUITY LOANS................................ 5
TERMS OF EXEMPTIVE RELIEF IN CONNECTION WITH
MORTALITY AND EXPENSE RISK CHARGE..................... 6
INDEPENDENT AUDITORS....................................... 7
LEGAL MATTERS.............................................. 7
CALCULATION OF PERFORMANCE INFORMATION..................... 8
USAA Life Money Market Variable Annuity Fund Account 8
Other Variable Annuity Fund Accounts 9
ANNUITY PAYMENTS........................................... 11
Gender of Annuitant................................... 11
Misstatement of Age or Sex and Other Errors 11
Annuity Unit Value 11
FINANCIAL STATEMENTS....................................... 13
</TABLE>
2
<PAGE>
GENERAL INFORMATION
USAA Life is a stock insurance company incorporated in the State of Texas in
1963. USAA Life is principally engaged in writing life insurance policies,
fixed annuity contracts and health insurance policies. USAA Life is authorized
to transact insurance business in all 50 states of the United States and the
District of Columbia. USAA Life is a wholly-owned stock subsidiary of the
United Services Automobile Association ("USAA"), the parent company of the USAA
Group of Companies.
As of April 1, 1996, USAA Life beneficially owned certain assets (not
attributable to the Contracts or to accumulated deductions or reserves relating
to the Contracts) of certain Variable Annuity Fund Accounts, as follows:
NAME OF VARIABLE ANNUITY FUND ACCOUNT
- --------------------
USAA Life Variable Annuity Income Fund Account 15.85%
USAA Life Variable Annuity Growth and Income Fund Account 14.09%
USAA Life Variable Annuity World Growth Fund Account 16.07%
USAA Life Variable Annuity Diversified Assets Fund Account 16.32%
DISTRIBUTOR
The Contracts are primarily sold in a continuous offering by direct response
through salaried sales account representatives employed by USAA Life. These
individuals are appropriately licensed at the state level to sell variable
annuity contracts and are registered with the National Association of Securities
Dealers, Inc. (the "NASD") as registered representatives or principals with USAA
Investment Management Company ("USAA IMCO"). USAA IMCO, an affiliate of USAA
Life, is registered as a broker-dealer with the SEC and the NASD.
SAFEKEEPING OF THE ASSETS OF THE SEPARATE ACCOUNT
All assets of the Separate Account are held in the custody and safekeeping of
USAA Life. The assets are kept physically segregated and held separate and
apart from the assets of USAA Life's General Account. USAA Life maintains
records of all purchases and redemptions of shares of the Funds by each of the
Variable Annuity Fund Accounts.
3
<PAGE>
REGULATION AND RESERVES
USAA Life is subject to regulation by the Texas Department of Insurance and by
insurance departments of other states and jurisdictions in which it is licensed
to do business. This regulation covers a variety of areas, including benefit
reserve requirements, adequacy of insurance company capital and surplus, various
operational standards, and accounting and financial reporting procedures. USAA
Life's operations and accounts are subject to periodic examination by insurance
regulatory authorities. The Contracts described in the Prospectus are filed
with and (where required) approved by insurance officials in each state and
jurisdiction in which Contracts are sold.
Although the federal government generally has not directly regulated the
business of insurance, federal initiatives often have an impact on the insurance
business in a variety of ways. Federal measures that may adversely affect the
insurance business include employee benefit regulation, tax law changes
affecting the taxation of insurance companies or of insurance products, changes
in the relative desirability of various personal investment vehicles, and
removal of impediments on the entry of banking institutions into the insurance
business. Also, both the executive and legislative branches of the federal
government periodically have under consideration various insurance regulatory
matters, which could ultimately result in direct federal regulation of some
aspects of the insurance business. It is not possible to predict whether this
will occur or, if so, what the effect on USAA Life would be.
Pursuant to state insurance laws and regulations, USAA Life is obligated to
carry on its books, as liabilities, reserves to meet its obligations under
outstanding insurance contracts. These reserves are based on assumptions about,
among other things, future claims experience and investment returns. Neither
the reserve requirements nor the other aspects of state insurance regulation
provide absolute protection to holders of insurance contracts, including the
Contracts, if USAA Life were to incur claims or expenses at rates significantly
higher than expected, or significant unexpected losses on its investments.
SERVICES
USAA Life has entered into a Third Party Administrator Agreement with Continuum
Administrative Services Corporation ("CASCO"), pursuant to which CASCO will
provide certain services in connection with the Separate Account including,
among other things, application and premium processing, issuance of the
Contracts, and recordkeeping. CASCO has developed a computerized recordkeeping
system for annuity accounting and has the necessary data processing equipment
and personnel to provide and support remote terminal access to its system for
the maintenance of annuity records, processing information, and the generation
of output with respect to the records and information. USAA Life paid CASCO
$1,200,021 for services rendered during the period from February 6, 1995
(commencement of Separate Account operations) through December 31, 1995 of
which, $1,008,625 was attributable to developmental costs.
4
<PAGE>
USAA Life has entered into a Service Agreement with USAA Transfer Agency Company
d/b/a USAA Shareholder Account Services ("USAA SAS"), pursuant to which, USAA
SAS will receive and forward to USAA Life applications and premium payments for
certain Tax Sheltered Annuity Contracts.
TAX SHELTERED ANNUITY LOANS
We do not provide loans secured by a Contract except in connection with
Contracts that fund section 403(b) Tax Sheltered Annuities ("TSAs"). USAA Life
may permit, at its discretion, loans to be made against the Contract Value in
the Fixed Fund Account and/or Variable Annuity Fund Account(s). Loans must
conform to the requirements mandated by Section 72(p) of the Internal Revenue
Code. If you borrow against the Fixed Fund Account and/or Variable Annuity Fund
Account(s), the portion equal to the loan amount will be transferred from the
particular Account(s) to a "Loan Collateral Account." The "Loan Collateral
Account" is part of the Company's general assets and liabilities.
Loans are not available on TSA Contracts where the TSA plan is subject to the
Title I of the Employee Retirement Income Security Act (ERISA). Also, loans are
not permitted when the Systematic Withdrawal Program has been elected or when
the Contract has been annuitized. If you have taken a loan in the past which is
still outstanding, limits for any subsequent loans will be reduced by the amount
of the outstanding loan plus accrued interest. Any renegotiation of an existing
loan becomes a new loan for tax purposes.
The amount of the loan you may obtain depends upon your Contract Value as shown
below. The maximum loan amount may not exceed an aggregate of $50,000 on all
TSA accounts. The minimum loan amount is $2,500.
<TABLE>
<CAPTION>
CONTRACT VALUE MAXIMUM LOAN AMOUNT
- -------------------- -------------------
<S> <C>
$3,572 - $ 11,999 70% of value/*/
$12,000 - $ 19,999 $10,000/**/
$20,000 - $ 99,999 50% of value/**/
$100,000 or more $50,000/**/
- -----------------------------------------
</TABLE>
/*/ 70% of maximum loan amount available for Contract Values of $3,572 -
$11,999 allows for coverage of Fixed Fund Account Withdrawal Charges, the
Contract Maintenance Charge, interest charges and applicable taxes.
/**/ Internal Revenue Code requirements may be subject to change.
5
<PAGE>
Only one TSA loan may be requested in any twelve month period. A TSA loan must
be repaid within a maximum of five years. Because the amount of the loan may be
removed from both the Fixed Fund Account and/or Variable Annuity Fund
Account(s), a loan will have a permanent effect on the Contract Value. The
longer the loan is outstanding the greater the effect is likely to be.
The loan must be repaid on a monthly schedule amortized over the term of the
loan. The loan may be prepaid in full or in part at any time. Loan payments
will be due as agreed upon at the time of the loan approval. An amount equal to
the amount of loan repayment will be transferred from the Loan Collateral
Account to the Fixed Fund Account and the Variable Annuity Fund Account(s) in
the same proportion as purchase payments are currently allocated, unless the
Owner requests otherwise.
The entire loan balance must be repaid before a withdrawal from the Contract or
before annuitization begins. If the loan is repaid in full before the end of
the loan term, loan interest due will be prorated and an appropriate credit will
be provided. Upon the death of the Owner, the death benefit will be reduced by
the outstanding loan balance and loan interest.
A TSA loan is not a taxable distribution if the loan does not exceed the maximum
limitations and repayment does not become overdue. If a default in loan
repayment occurs, USAA Life Insurance Company may declare the entire outstanding
loan balance, plus interest plus any Fixed Fund Account Withdrawal Charge stated
in the Contract also immediately due and payable. Please note that a default as
to any installment payment under your loan amortization schedule may have
adverse tax consequences possibly subjecting you to tax on the defaulted payment
or possibly the entire value of the amount of the loan, plus payment of the 10%
distribution penalty if prior to age 59 1/2. Such a distribution will include
any applicable federal income tax withholding and state taxes, if any. We
recommend that you consult with a professional advisor regarding your particular
tax situation.
Before a loan can be made under a TSA Contract, a properly completed Written
Request and Loan Agreement must be signed. A Loan Agreement can be obtained by
calling our toll free number 1-800-531-4265 and requesting a copy from a
representative at our Service Office.
TERMS OF EXEMPTIVE RELIEF IN CONNECTION WITHMORTALITY AND EXPENSE RISK CHARGE
USAA Life and USAA IMCO have obtained exemptive relief from the SEC in
connection with deducting the mortality and expense risk charge pursuant to the
Contracts. In the application for the exemption, USAA Life and USAA IMCO have
represented and undertaken, among other things, that:
6
<PAGE>
. The level of the mortality and expense risk charge is within the range
of industry practice for comparable annuity contracts;
. This conclusion is based upon a review that USAA Life and USAA IMCO
have conducted of publicly-available information regarding annuity
contracts of other companies and they will maintain at their Home
Office, and make available on request to the SEC or its staff, a
memorandum setting forth the variable annuity products analyzed and the
methodology and results of the comparative review;
. There is a reasonable likelihood that the proposed distribution
financing arrangements with respect to the Contracts will benefit the
Separate Account and Contract Owners, and the basis for this conclusion
is set forth in a memorandum that USAA Life will maintain at its Home
Office and will be available to the SEC or its staff on request.
INDEPENDENT AUDITORS
The financial statements of the Separate Account included in its Annual Report,
and the audited consolidated financial statements and schedules of USAA Life
Insurance Company and its subsidiary as of December 31, 1995, 1994, and 1993 and
for each of the years then ended have been included in the registration
statement in reliance upon the report of KPMG Peat Marwick LLP, independent
certified public accountants, through their offices located at 112 East Pecan,
Suite 2400, San Antonio, Texas 78205, and upon the authority of said firm as
experts in accounting and auditing.
LEGAL MATTERS
The legal validity of the Contracts has been passed upon by Richard T. Halinski,
Jr., Esq., of the legal department of USAA Life. Freedman, Levy, Kroll &
Simonds, Washington D.C., has advised USAA Life on certain federal securities
law matters.
7
<PAGE>
CALCULATION OF PERFORMANCE INFORMATION
From time to time, the Separate Account may include in advertisements, sales
literature, and reports to contract owners or prospective investors information
relating to the performance of its Variable Annuity Fund Accounts. The
performance information that may be presented is not an estimate or guarantee of
future investment performance and does not represent the actual experience of
amounts invested by a particular Owner. Set out below is a description of the
standardized and non-standardized methods used in calculating the performance
information for the Variable Annuity Fund Accounts. All standardized performance
quotations will reflect the deduction of the Mortality and Expense Risk Charge,
the Administrative Expense Charge and the Contract Maintenance Charge, based on
an estimated average Contract size of $29,883 and Fund operating expenses (net
of reimbursements), but will not reflect charges for any state premium taxes.
The Contracts are not subject to a charge for withdrawals from any Variable
Annuity Fund Account.
USAA LIFE MONEY MARKET VARIABLE ANNUITY FUND ACCOUNT
YIELD and EFFECTIVE YIELD quotations for the USAA Life Money Market Variable
Annuity Fund Account are computed in accordance with standard methods prescribed
by the SEC. Under these methods, the USAA Life Money Market Variable Annuity
Fund Account's yield is calculated based on a hypothetical Contract having a
beginning balance of one Accumulation Unit in the USAA Life Money Market
Variable Annuity Fund Account for a specified seven-day period. Yield is
determined by dividing the net change in the Accumulation Unit Value during the
seven-day period, reduced by the estimated daily equivalent of the Contract
Maintenance Charge, by its beginning value to obtain the base period return,
then multiplying the base period return by the fraction 365/7. The net change
in Accumulation Unit Value will reflect the value of additional shares purchased
with the dividends paid by the Trust, but will not reflect any realized capital
gains or losses or unrealized appreciation or depreciation in the assets of the
Variable Annuity Fund Account.
The effective yield of the USAA Life Money Market Variable Annuity Fund Account
reflects the effects of compounding, and is computed according to the following
formula prescribed by the SEC:
Effective Yield = [(Base Period Return + 1) /365/7/] - 1
For the seven day period ended December 31, 1995, the current yield of the USAA
Life Variable Annuity Money Market Fund Account was 4.29%.
8
<PAGE>
OTHER VARIABLE ANNUITY FUND ACCOUNTS
Each Variable Annuity Fund Account may state its TOTAL RETURN or YIELD in sales
literature and advertisements. Any statements of total return, yield, or other
performance data of a Variable Annuity Fund Account, other than yield quotations
of the USAA Life Money Market Variable Annuity Fund Account, will be accompanied
by information on that Variable Annuity Fund Account's standardized average
annual total return for the most recent 1, 5, or 10 year periods or, if less,
the period from the Variable Annuity Fund Account's inception of operation.
9
<PAGE>
AVERAGE ANNUAL TOTAL RETURN. Standardized average annual total return is
computed according to the following formula prescribed by the SEC, based on a
hypothetical $1,000 Contract Value:
P (1 + T)/n/ = ERV
Where:
P = A hypothetical initial premium payment of $1,000.
T = Average annual total return.
n = Number of years.
ERV = Ending redeemable value of a hypothetical $1,000 Contract Value at the
end of the period.
Non-standardized average annual total return is computed in a similar manner,
except that different time periods and hypothetical initial payments may be
used, and certain charges may not be reflected.
The standardized average annual total returns for each Variable Annuity Fund
Account for the period from February 6, 1995 (commencement of operations)
through December 31, 1995 were as follows:
Standardized Average
Variable Annuity Fund Account Annual Total Return*
USAA Life VA Money Market Fund Account 3.97%
USAA Life VA Income Fund Account 18.39%
USAA Life VA Growth and Income Fund Account 25.70%
USAA Life VA World Growth Fund Account 19.37%
USAA Life VA Diversified Assets Fund Account 22.34%
Scudder VLIF Capital Growth Portfolio 25.33%
Alger American Fund Growth Portfolio 30.86%
*Periods less than a year are not annualized
10
<PAGE>
CUMULATIVE TOTAL RETURN. Cumulative total return is calculated in a manner
similar to standardized average annual total return, except that the results are
not annualized. The SEC has not prescribed a standard formula for calculating
cumulative total return. Cumulative total return is calculated by finding the
cumulative rates of return of a hypothetical initial investment of $1,000 over
various periods, according to the following formula, and then expressing that as
a percentage:
C = (ERV/P) - 1
Where:
P= A hypothetical initial payment of $1,000.
C= Cumulative total return.
ERV= Ending redeemable value of a hypothetical $1,000 payment made at the
beginning of the applicable period.
Cumulative total returns for each Variable Annuity Fund Account for the period
from February 6, 1995 (commencement of operations) through December 31, 1995 are
the same as the average annual total returns (un-annualized) as shown
above.
30-DAY YIELD. Each Variable Annuity Fund Account, other than the USAA Life
Money Market Variable Annuity Fund Account, may also advertise its yield based
on a specified 30-day period. Yield is determined by dividing the net
investment income per Accumulation Unit earned during the 30-day period by the
Accumulation Unit Value on the last day of the period and annualizing the
resulting figure, according to the following formula prescribed by the SEC,
which assumes a semi-annual reinvestment of income:
[ a-b /6/ ]
YIELD = 2 [(----- + 1) - 1]
[ cd ]
11
<PAGE>
Where:
a = Net investment income earned during the period by the Fund whose shares
are owned by the Variable Annuity Fund Account.
b = Expenses accrued for the period.
c = The average daily number of Accumulation Units outstanding during the
period.
d = The maximum offering price per Accumulation Unit on the last day of the
period.
ANNUITY PAYMENTS
GENDER OF ANNUITANT
When annuity payments are based on life expectancy, the amount of each annuity
payment ordinarily will be higher if the Annuitant or other measuring life is a
male, as compared with a female under an otherwise identical Contract, because,
statistically, females tend to have longer life expectancies than males.
However, there will be no differences between males and females in any
jurisdiction, including Montana, where such differences are not permitted. We
may also make available Contracts with no such differences in connection with
certain employer-sponsored benefit plans. Employers should be aware that under
most such plans, Contracts that make distinctions based on gender are prohibited
by law.
MISSTATEMENT OF AGE OR SEX AND OTHER ERRORS
If the age or sex of an Annuitant has been misstated to us, any amount payable
will be that which the premium payments paid would have purchased at the correct
age and sex. If we made any overpayments because of incorrect information about
age or sex, or any error or miscalculation, we will deduct the overpayment from
the next payment or payments due. We will add any underpayments to the next
payment. The amount of any adjustment will be credited or charged with interest
at the effective annual rate of 3% per year.
ANNUITY UNIT VALUE
Annuity Unit Value is calculated at the same time that Accumulation Unit Value
is calculated and is based on the same values for shares of the Funds. The
following illustrations show, by use of hypothetical examples, the methods of
determining the Annuity Unit Value and the amount of Variable Annuity Payments.
12
<PAGE>
Illustration of Calculation of Annuity Unit Value
- -------------------------------------------------
Annuity at age 65: Life with 120 payments certain:
<TABLE>
<CAPTION>
<S> <C>
1. Annuity Unit Value, beginning of $ .980000
period
2. Assume Net Investment Factor for 1.001046
period equal to
3. Daily adjustment for 3.0% Assumed .999919
Investment Rate
4. (2) x (3) 1.000965
5. Annuity Unit Value, end of period $ .980946
(1) x (4)
Illustration of Annuity Payments
- ----------------------------------------
Annuity at age 65: Life with 120
payments certain:
1. Number of Accumulation Units at 10,000.00
Annuity Date
2. Assume Accumulation Unit Value (as
of the end of the Valuation Period
immediately prior to the tenth day 1.800000
before the first monthly payment)
equal to
3. Contract Value (1) x (2) $18,000.00
4. First monthly annuity payment per $ 5.48
$1,000 of Contract Value
5. First monthly annuity payment (3) x $ 98.64
(4) /$ 1,000
6. Annuity Unit Value (as of the end
of the Valuation Period immediately
prior to the tenth day before the $ .980000
first month payment)
7. Number of Annuity Units (5) / (6) 100.653
8. Assume Annuity Unit Value for
second month equal to $ .997000
9. Second monthly annuity payment (7) $ 100.35
x (8)
10. Assume annuity unit value for
third month equal to $ .953000
11. Third monthly annuity payment (7) $ 95.92
x (10)
</TABLE>
13
<PAGE>
FINANCIAL STATEMENTS
The financial statements for the Company and the accompanying Report of
Independent Auditors are set out below. The financial statements for the Company
included herein should be considered only as bearing upon the ability of the
Company to meet its obligations under the Contracts, which include death
benefits and its assumption of mortality and expense risks. The financial
statements for the Separate Account for the period from February 6, 1995
(commencement of operations) through December 31, 1995, and the accompanying
Report of Independent Auditors are incorporated into this SAI by reference to
the Separate Account's Annual Report.
14
<PAGE>
[LETTERHEAD OF KPMG PEAT MARWICK LLP APPEARS HERE]
INDEPENDENT AUDITORS' REPORT
The Board of Directors
USAA LIFE INSURANCE COMPANY:
We have audited the accompanying consolidated balance sheets of USAA
LIFE INSURANCE COMPANY and subsidiary as of December 31, 1995, 1994, and 1993,
and the related consolidated statements of income, stockholders' equity, and
cash flows for the years then ended. 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 USAA LIFE INSURANCE
COMPANY and subsidiary as of December 31, 1995, 1994, and 1993, and the results
of their operations and their cash flows for the years then ended in conformity
with generally accepted accounting principles.
/s/ KPMG Peat Marwick LLP
March 28, 1996
<PAGE>
USAA LIFE INSURANCE COMPANY
Consolidated Balance Sheet
December 31, 1995, 1994, and 1993
(Dollars in Thousands)
<TABLE>
<CAPTION>
Assets 1995 1994 1993
- ------ ----------- ---------- ---------
<S> <C> <C> <C>
Investments:
Debt securities, at amortized cost
or fair value $5,319,084 4,690,325 4,350,147
Equity securities, at fair value 211,073 151,676 229,828
Mortgage loans 5,775 5,866 5,857
Policy loans 106,609 89,298 81,687
Short-term securities 1,008 10,013 21,364
---------- --------- ---------
Total investments 5,643,549 4,947,178 4,688,883
Cash and cash equivalents 31,476 98,101 7,391
Premium balances receivable 1,611 1,265 1,074
Note receivable - affiliate - 30,000 -
Accounts receivable - affiliates - - 81
Furniture and equipment 1,162 1,036 132
Accrued investment income 59,423 52,252 47,883
Deferred policy acquisition costs 164,831 161,861 140,148
Deferred tax 19,878 53,431 9,688
Other assets 12,257 18,518 10,975
Separate account 122,819 - -
---------- --------- ---------
Total assets $6,057,006 5,363,642 4,906,255
========== ========= =========
Liabilities
- -----------
Insurance reserves 791,247 569,938 521,004
Funds on deposit 4,542,292 4,214,311 3,836,325
Accounts payable and accrued expenses 54,421 45,568 31,459
Accounts payable - affiliates 10,062 6,668 3,923
Other liabilities 48,833 53,546 49,339
Separate account 21,709 - -
---------- --------- ---------
Total liabilities 5,468,564 4,890,031 4,442,050
---------- --------- ---------
Stockholders' Equity
- ---------------------
Capital stock 42,500 42,500 22,500
Additional paid-in capital 51,408 51,408 50,583
Net unrealized gains (losses) on investments 16,446 (38,607) 31,281
Retained earnings 465,016 418,310 359,841
Increase in net unrealized gains on
separate account 13,072 - -
---------- --------- ---------
Total stockholders' equity 588,442 473,611 464,205
---------- --------- ---------
Total liabilities
and stockholders' equity $6,057,006 5,363,642 4,906,255
========== ========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
1
<PAGE>
USAA LIFE INSURANCE COMPANY
Consolidated Statement of Income
Years ended December 31, 1995, 1994, and 1993
(Dollars in Thousands)
<TABLE>
<CAPTION>
1995 1994 1993
---------- -------- --------
<S> <C> <C> <C>
Revenues
- --------
Premiums $305,898 279,766 247,521
Investment income, net 406,922 372,354 351,364
Fees, sales and loan income 8,345 7,637 7,357
Realized investment gains(losses) 1,748 (321) 11,739
Other revenues 14,587 8,559 12,314
-------- ------- -------
Total revenues 737,500 667,995 630,295
-------- ------- -------
Benefits and expenses
- ----------------------
Losses, benefits and settlement expenses 462,032 400,136 391,952
Deferred policy acquisition costs 3,915 6,315 5,518
Dividends to policyholders 45,588 44,188 40,930
Other operating expenses 124,318 111,442 94,055
-------- ------- -------
Total benefits and expenses 635,853 562,081 532,455
-------- ------- -------
Income before income taxes and
cumulative effect of change
in accounting principle 101,647 105,914 97,840
-------- ------- -------
Federal income tax expense (benefit):
Current 38,447 44,530 40,500
Deferred (3,107) (7,684) (11,720)
-------- ------- -------
Total Federal income tax expense 35,340 36,846 28,780
-------- ------- -------
Income before cumulative
effect of change in
accounting principle 66,307 69,068 69,060
Cumulative effect of change in
accounting principle - - (406)
-------- ------- -------
Net income $ 66,307 69,068 68,654
======== ======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
2
<PAGE>
USAA LIFE INSURANCE COMPANY
Consolidated Statement of Stockholders' Equity
Years ended December 31, 1995, 1994, and 1993
(Dollars in Thousands)
<TABLE>
<CAPTION>
1995 1994 1993
---------- -------- --------
<S> <C> <C> <C>
Capital
- -------
Balance at beginning of year $ 93,908 73,083 73,083
Issuance of preferred stock - 20,000 -
Contribution of equipment - 825 -
-------- ------- -------
End of year 93,908 93,908 73,083
-------- ------- -------
Retained Earnings
- -----------------
Beginning of year 418,310 359,841 291,759
Net income 66,307 69,068 68,654
Dividends to parent and affiliate (19,601) (10,599) (572)
-------- ------- -------
End of year 465,016 418,310 359,841
-------- ------- -------
Net unrealized gains(losses) on investments
- -------------------------------------------
Beginning of year (38,607) 31,281 20,904
Increase (decrease) in net unrealized
gains (losses) on investments 55,053 (69,888) 10,377
-------- ------- -------
End of year 16,446 (38,607) 31,281
-------- ------- -------
Net unrealized gains on separate account
- ----------------------------------------
Beginning of year - - -
Increase in net unrealized
gains on separate account 13,072 - -
-------- ------- -------
End of year 13,072 - -
-------- ------- -------
Total stockholders' equity $588,442 473,611 464,205
======== ======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
USAA LIFE INSURANCE COMPANY
Consolidated Statement of Cash Flow
Years ended December 31, 1995, 1994, and 1993
(Dollars in Thousands)
<TABLE>
<CAPTION>
1995 1994 1993
------------ --------- -----------
<S> <C> <C> <C>
Cash from operating activities:
Net income $ 66,307 69,068 68,654
Adjustments to reconcile net income to net
cash provided by (used in) oper. activities:
Realized investment (gains) losses (1,748) 321 (11,739)
Inc. in deferred policy acquisition costs (18,993) (13,162) (13,112)
Depreciation and amortization (5,298) (2,451) 490
Deferred income tax benefit (3,107) (7,684) (11,720)
(Inc.)Dec. in premium balances receivable (346) (191) 1,443
(Inc.)Dec. in accounts receivable 5,174 (8,258) 2,790
(Inc.)Dec. in accounts receivable-affiliates - 81 (81)
(Inc.)Dec. in accrued investment income (7,171) (4,369) 26
Dec. in other assets 1,023 3,109 4,534
Inc.(Dec.) in insurance reserves 65,721 48,934 (87,162)
Inc. in accounts payable and accrued exp. 8,852 14,109 7,123
Inc.(Dec.) in accounts payable-affiliates 3,394 2,745 (624)
Inc.(Dec.) in other liabilities (4,712) 4,207 (16,326)
Other 40 2,706 (2,524)
----------- -------- ----------
Net cash provided by (used in) operating
activities 109,136 109,165 (58,228)
----------- -------- ----------
Cash flows from investing activities:
Proceeds from sales and maturities of
available-for-sale securities 420,818 294,734 122,010
Proceeds from maturities of held-to-maturity
securities 184,729 61,397 269,125
Proceeds from principal collections on
investments 292,673 565,649 965,788
Other investments sold 934 1,404 1,513
Retirement of notes receivable 30,000 - -
Securities purchased - available-for-sale (1,313,784) (610,097) (472,997)
Securities purchased - held-to-maturity - (719,097) (1,439,839)
Other investments purchased (1,382) (1,826) (1,528)
Issuance of notes receivable - (30,000) -
Investment in variable annuity separate account (81,000) - -
----------- -------- ----------
Net cash used in investing activities (467,012) (437,836) (555,928)
----------- -------- ----------
Cash flows from financing activities:
Deposits and interest credited to funds
on deposit 655,626 671,938 804,708
Withdrawals from funds on deposit (344,774) (261,958) (193,291)
Proceeds from issuance of preferred stock - 20,000 -
Dividends to parent and affiliate (19,601) (10,599) (572)
----------- -------- ----------
Net cash provided by financing activities 291,251 419,381 610,845
----------- -------- ----------
Net increase (decrease) in cash and cash
equivalents (66,625) 90,710 (3,311)
Cash and cash equivalents at beginning of year 98,101 7,391 10,702
----------- -------- ----------
Cash and cash equivalents at end of year $ 31,476 98,101 7,391
=========== ======== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
(1) Summary of significant accounting policies
------------------------------------------
(a) Organization
------------
USAA LIFE INSURANCE COMPANY (the Company) is a wholly-owned subsidiary
of UNITED SERVICES AUTOMOBILE ASSOCIATION (USAA). The Company markets
individual life insurance policies, annuity contracts, and individual and group
accident and health policies primarily to individuals eligible for membership in
USAA. The Company is licensed to do business in all 50 states and the District
of Columbia. The Company's subsidiary (USAA Life General Agency) offers
additional products of other insurance companies requested by USAA membership,
which are not sold by USAA Life. The consolidated financial statements include
the accounts of the Company and its subsidiary. All significant intercompany
balances and transactions have been eliminated in consolidation.
(b) Investments
-----------
On December 31, 1993, the company adopted Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities." Under Statement 115, debt securities, including bonds,
mortgage-backed securities (MBS's), and redeemable preferred stocks, have been
classified as either held-to-maturity or available-for-sale. Debt securities
classified as held-to-maturity are carried at amortized cost. Securities
classified as available-for-sale are carried at fair value with unrealized gains
or losses (net of related deferred income taxes, deferred acquisition cost, and
future policyholder benefits) reflected in stockholders' equity.
Bonds, at amortized cost of approximately $1,582, $1,708, and $1,709,
were on deposit with various state governmental agencies at December 31, 1995,
1994, and 1993, respectively.
Mortgage-backed securities held at December 31, 1995, 1994, and 1993
represent participating interests in pools of long term first mortgage loans
originated and serviced by the issuers of the securities. Market interest rate
fluctuations can affect the prepayment speed of principal and the yield on the
securities.
All equity securities, which include common and nonredeemable preferred
stocks, have been classified as available-for-sale and are carried at fair
value.
Real estate mortgages and policy loans are carried at their unpaid
principal balances with interest rates ranging from 4.8% to 10.0% at December
31, 1995.
Short-term securities are carried at cost.
Interest is not accrued on debt securities or mortgage loans for which
principal or interest payments are determined to be uncollectible.
(Continued)
5
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
Realized gains and losses are included in net income based upon specific
identification of the investment sold. When impairment of the value of an
investment is considered to be other than temporary, a provision for the
writedown to estimated net realizable value is recorded.
(c) Cash and cash equivalents
-------------------------
For purposes of the consolidated statement of cash flow, all highly
liquid marketable securities that have a maturity at purchase of three months or
less and money market mutual funds are considered to be cash equivalents. Cash
and cash equivalents includes $259 of separate account purchases held in
clearing awaiting reinvestment. These funds are restricted from the Company's
use.
(d) Federal income taxes
--------------------
The Company and its subsidiary are included in the consolidated Federal
income tax return filed by USAA. Taxes are allocated to the separate companies
of USAA based on a tax allocation agreement, whereby companies receive a current
benefit to the extent their losses are utilized by the consolidated group.
Separate company current taxes are the higher of taxes computed at a 35% rate on
regular taxable income or taxes computed at a 20% rate on alternative minimum
taxable income, adjusted for any consolidated benefits allocated to the
companies based on the use of separate company losses within the group.
Deferred income taxes are recognized for the tax consequences of
"temporary differences" by applying enacted statutory tax rates applicable to
future years to differences between the financial statement carrying amounts and
the tax bases of existing assets and liabilities. The effect on deferred income
taxes of a change in tax rates is recognized in income in the period that
includes the enactment date.
(e) Fair value of financial instruments
-----------------------------------
The fair value estimates of the company's financial instruments were
made at a point in time, based on relevant market information about the related
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
holding of a particular financial instrument. In addition, the tax
ramifications related to the effect of fair market value estimates have not been
considered in the estimates.
(f) Use of estimates
----------------
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues
(Continued)
6
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
and expenses during the reporting period. Actual results could differ from
those estimates.
(g) Deferred policy acquisition costs
---------------------------------
Policy acquisition costs, consisting primarily of premium taxes and
certain underwriting and selling expenses, are deferred and amortized.
Traditional individual life and health acquisition costs are amortized in
proportion to anticipated premium income after allowing for lapses and
terminations (20 years; but not to exceed the life of the policy). Acquisition
costs for universal life and annuities are amortized in relation to the present
value of estimated gross profits from surrender charges and investment,
mortality and expense margins (20 years).
Deferred policy acquisition costs are reviewed to determine that the
unamortized portion does not exceed expected future income or gross profits.
(h) Insurance reserves
------------------
Included in reserves are traditional life and health products and payout
annuities with life contingencies. Payout annuities without life contingencies,
deferred annuities, and universal life products are classified as funds on
deposit. Traditional life and health reserves are computed using a net level
premium method and are based on assumed or guaranteed investment yields and
assumed rates of mortality, morbidity, withdrawals, expenses and anticipated
future policyholder dividends. These assumptions vary by such characteristics
as plan, year of issue, policy duration, date of receipt of funds, and may
include provisions for adverse deviation.
(i) Insurance revenues and expenses
-------------------------------
Premiums on traditional life insurance products are recognized as
revenues as they become due. Benefits and expenses are matched with premiums in
arriving at profits by providing for policy benefits over the lives of the
policies and by amortizing acquisition costs. For universal life and investment
annuity contracts, revenues consist of investment earnings and policy charges
for the cost of insurance, policy administration, and surrender charges assessed
during the period. Expenses for these policies include interest credited to
policy account balances, benefit claims incurred in excess of policy account
balances, and administrative expenses. The related deferred policy acquisition
costs are amortized in relation to the present value of expected gross profits
from surrender charges and investment, mortality, and expense margins.
(j) Funds on deposit
----------------
Funds on deposit are liabilities for universal life and investment-
related products. These liabilities are determined following the "retrospective
deposit" method and consist principally of policy account balances before
applicable surrender charges.
(Continued)
7
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
(k) Participating business
----------------------
Certain life insurance policies contain dividend payment provisions
which enable the policyholder to participate in the earnings of the life
insurance operations. The participating insurance in force accounted for 10% of
the total life insurance in force at December 31, 1995 and 1994, respectively,
and 11% of life insurance in force at December 31, 1993. Participating policies
accounted for 14% of the premium income in 1995 and 1994, respectively, and 13%
of the premium income in 1993. The provision for policyholders' dividends is
based on current dividend scales.
The Company guarantees to pay dividends in aggregate, on all policies
issued after December 31, 1983, in the total amount of $10,997 in 1996.
Income attributable to participating policies in excess of policyholder
dividends is restricted by several states for participating policyholders of
those states, otherwise income in excess of policyholder dividends is accounted
for as belonging to the shareholders.
(2) Basis of accounting
-------------------
The consolidated financial statements have been prepared on the basis of
generally accepted accounting principles (GAAP), which differs from the basis of
accounting followed in reporting to insurance regulatory authorities.
Reconciliations of statutory net income and capital and surplus, as determined
using statutory accounting principles, to the amounts included in the
accompanying consolidated financial statements are as follows:
<TABLE>
<CAPTION>
1995 1994 1993
----------- -------- --------
<S> <C> <C> <C>
Statutory net income $ 55,213 48,775 36,934
Gain(loss) on sale of investments (1,719) (8,199) 16,857
Deferred policy acquisition costs 18,993 13,162 13,112
Tax adjustment 397 5,652 2,738
Participating policyholder earnings (40) (147) (356)
Other (6,537) 9,825 (631)
--------- ------- -------
GAAP net income 66,307 69,068 68,654
========= ======= =======
Statutory capital and surplus, 396,676 341,166 302,204
Increases (decreases):
Deferred policy acquisition costs 164,831 161,861 140,148
Federal income taxes 19,974 53,420 7,807
Asset valuation reserve 96,742 56,490 62,635
Interest maintenance reserve 4,894 6,625 14,569
Participating policyholder liability (5,398) (5,337) (5,098)
Policyholder reserve and funds (160,447) 6,777 (54,713)
Unearned income (3,622) (3,698) (3,915)
Investment valuation difference 145,352 (76,083) 58,861
Premiums deferred and uncollected (70,193) (68,915) (62,561)
Non-admitted assets and other adjustments (367) 1,305 4,268
--------- ------- -------
GAAP capital and surplus $ 588,442 473,611 464,205
========= ======= =======
</TABLE>
(Continued)
8
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
(3) Investments
-----------
The amortized cost, estimated fair values and carrying values of
investments in debt and equity securities as of December 31, 1995 were as
follows:
<TABLE>
<CAPTION>
Held-to-Maturity
------------------------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair Carrying
cost gains losses value value
------------ ------------ ----------- ----------- --------
<S> <C> <C> <C> <C> <C>
Debt securities
- ---------------
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 21,125 2,603 - 23,728 21,125
Obligations of states and
political subdivisions 43,492 2,482 47 45,927 43,492
Debt securities issued by
foreign governments and
corporations 53,328 1,063 4 54,387 53,328
Mortgage backed securities 1,004,373 37,119 2,202 1,039,290 1,004,373
Corporate securities 585,440 36,125 2,218 619,347 585,440
Redeemable preferred stock 3,091 118 - 3,209 3,091
---------- ------- ----- --------- ---------
Total debt securities $1,710,849 79,510 4,471 1,785,888 1,710,849
========== ======= ===== ========= =========
Available-for-Sale
----------------------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair Carrying
cost gains losses value value
------------ ------------ ----------- ----------- --------
Debt securities
- ---------------
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 127,491 1,862 1 129,352 129,352
Obligations of states and
political subdivisions 9,777 1,640 8 11,409 11,409
Debt securities issued by
foreign governments and
corporations 103,719 6,410 - 110,129 110,129
Mortgage backed securities 1,792,252 66,021 4,235 1,854,038 1,854,038
Corporate securities 1,427,379 67,519 1,041 1,493,857 1,493,857
Redeemable preferred stock 10,000 - 550 9,450 9,450
---------- ------- ----- --------- ---------
Total debt securities $3,470,618 143,452 5,835 3,608,235 3,608,235
========== ======= ===== ========= =========
Equity Securities
- -----------------
Common stock $ 130,991 45,851 1,369 175,473 175,473
Nonredeemable preferred stock 26,883 8,804 87 35,600 35,600
---------- ------- ----- --------- ---------
Total equity securities $ 157,874 54,655 1,456 211,073 211,073
========== ======= ===== ========= =========
</TABLE>
(Continued)
9
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
In December, 1995, the Company transferred held-to-maturity securities
with an amortized cost of $1,349,015 to the available for sale category. The
transfer of these securities resulted in an unrealized gain of $28,119. The
securities were transferred in accordance with the special one-time reassessment
of held-to-maturity securities allowed by the Financial Accounting Standards
Board, and was deemed by management to better position the Company's portfolio.
The amortized cost, estimated fair values and carrying values of
investments in debt and equity securities as of December 31, 1994 were as
follows:
<TABLE>
<CAPTION>
Held-to-Maturity
-----------------------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair Carrying
cost gains losses value value
------------ ------------ ----------- --------- ---------
<S> <C> <C> <C> <C> <C>
Debt securities
- ------------------------
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 23,700 403 341 23,762 23,700
Obligations of states and
political subdivisions 51,279 2,013 294 52,998 51,279
Debt securities issued by
foreign governments and
corporations 98,287 2 9,282 89,007 98,287
Mortgage backed securities 2,173,553 12,528 153,069 2,033,012 2,173,553
Corporate securities 974,683 10,854 52,719 932,818 974,683
Redeemable preferred stock 38,727 3,416 - 42,143 38,727
---------- ------ ------- --------- ---------
Total debt securities $3,360,229 29,216 215,705 3,173,740 3,360,229
========== ====== ======= ========= =========
</TABLE>
(Continued)
10
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
<TABLE>
<CAPTION>
Available-for-Sale
----------------------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair Carrying
cost gains losses value value
------------ ------------ ----------- ----------- --------
<S> <C> <C> <C> <C> <C>
Debt securities
- ---------------
U.S. Treasury securities
and obligations of U.S.
Government corporations
and agencies $ 3,032 - 72 2,960 2,960
Debt securities issued by
foreign governments and
corporations 9,020 - 218 8,802 8,802
Mortgage backed securities 1,206,098 4,831 80,952 1,129,977 1,129,977
Corporate securities 179,464 1,954 1,811 179,607 179,607
Redeemable preferred stock 10,000 - 1,250 8,750 8,750
---------- ------ ------ --------- ---------
Total debt securities $1,407,614 6,785 84,303 1,330,096 1,330,096
========== ====== ====== ========= =========
Equity Securities
- -----------------
Common stock $ 109,101 13,275 4,197 118,179 118,179
Nonredeemable preferred stock 30,450 4,149 1,102 33,497 33,497
---------- ------ ------ --------- ---------
Total equity securities $ 139,551 17,424 5,299 151,676 151,676
========== ====== ====== ========= =========
</TABLE>
The amortized cost, estimated fair values and carrying values of
investments in debt and equity securities as of December 31, 1993 were as
follows:
<TABLE>
<CAPTION>
Held-to-Maturity
--------------------------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair Carrying
cost gains losses value value
------------ ------------ ----------- ----------- --------
<S> <C> <C> <C> <C> <C>
Debt securities
- --------------------------
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 13,643 3,401 - 17,044 13,643
Obligations of states and
political subdivisions 56,920 6,754 18 63,656 56,920
Mortgage backed securities 1,990,939 69,135 6,447 2,053,627 1,990,939
Corporate securities 935,255 65,296 1,519 999,032 935,255
Redeemable preferred stock 40,383 4,115 - 44,498 40,383
---------- ------- ----- --------- ---------
Total debt securities $3,037,140 148,701 7,984 3,177,857 3,037,140
========== ======= ===== ========= =========
</TABLE>
(Continued)
11
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
<TABLE>
<CAPTION>
Available-for-Sale
-------------------------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair Carrying
cost gains losses value value
------------ ------------ ----------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Debt securities
- ---------------
U.S. Treasury securities
and obligations of U.S.
Government corporations
and agencies $ 4,606 125 2 4,729 4,729
Mortgage backed securities 1,109,873 43,151 2,179 1,150,845 1,150,845
Corporate securities 147,459 10,024 50 157,433 157,433
---------- ------ ----- --------- ---------
Total debt securities $1,261,938 53,300 2,231 1,313,007 1,313,007
========== ====== ===== ========= =========
Equity Securities
- -----------------
Common stock $ 137,241 35,373 3,266 169,348 169,348
Nonredeemable preferred stock 50,070 10,519 109 60,480 60,480
---------- ------ ----- --------- ---------
Total equity securities $ 187,311 45,892 3,375 229,828 229,828
========== ====== ===== ========= =========
</TABLE>
The amortized cost and estimated fair values of debt securities
classified as held to maturity and available for sale at December 31, 1995, by
contractual maturity, are shown by category below. Expected maturities may
differ from contractual maturities because borrowers may have the right to
prepay obligations.
<TABLE>
<CAPTION>
Held-to-Maturity
---------------------
Estimated
Amortized fair
cost value
---------- ---------
<S> <C> <C>
Due in one year or less $ 57,909 59,403
Due after one year through five years 311,636 329,631
Due after five years through ten years 267,543 279,586
Due after ten years 66,297 74,769
---------- ---------
703,385 743,389
Mortgage-backed securities 1,004,373 1,039,290
Redeemable preferred stock 3,091 3,209
---------- ---------
$1,710,849 1,785,888
========== =========
</TABLE>
(Continued)
12
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
<TABLE>
<CAPTION>
Available-for-Sale
---------------------
Estimated
Amortized fair
cost value
---------- ---------
<S> <C> <C>
Due in one year or less $ 17,782 17,928
Due after one year through five years 298,524 309,345
Due after five years through ten years 1,257,847 1,313,455
Due after ten years 94,213 104,018
---------- ---------
1,668,366 1,744,746
Mortgage-backed securities 1,792,252 1,854,038
Redeemable preferred stock 10,000 9,450
---------- ---------
$3,470,618 3,608,234
========== =========
</TABLE>
Proceeds from sales of investments in debt securities during 1995, 1994,
and 1993 were $385,688, $143,454, and $48,684, respectively. Gross gains and
losses of $941 and $6,782 respectively for 1995, and $239 and $14,516
respectively for 1994, and $1,063 and $672 respectively for 1993, were realized
on those sales. Cost for these sales was determined using the specific
identification method.
Gross investment income during 1995, 1994, and 1993 was $410,912,
$375,636, and $353,876, respectively. Investment expenses were $3,990, $3,282,
and $2,512 for 1995, 1994, and 1993, respectively.
(Continued)
13
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
(4) Federal income taxes
---------------------
The expected statutory Federal income tax amounts for the years ended
December 31, 1995, 1994, and 1993 differ from the effective tax amounts as
follows:
<TABLE>
<CAPTION>
1995 1994 1993
---------- -------- -------
<S> <C> <C> <C>
Income before income taxes and
cumulative effect of change in
accounting principle $101,647 105,914 97,840
======== ======= ======
Federal income tax expense at 35% statutory rate 35,577 37,070 34,244
Increase (decrease) in tax resulting from:
Dividends received deduction (536) (807) (812)
Other, net 299 583 (4,652)
-------- ------- ------
Federal income tax expense $ 35,340 36,846 28,780
======== ======= ======
</TABLE>
Deferred income tax benefit for the years ended December 31, 1995, 1994,
and 1993 was primarily attributable to differences between the valuation of
assets and insurance liabilities for financial reporting and tax purposes.
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at December 31
are presented below:
<TABLE>
<CAPTION>
1995 1994 1993
---------- ------ --------
<S> <C> <C> <C>
Deferred tax assets:
Investments $ 628 518 2,016
Depreciable assets 22 100 348
Insurance reserves 58,624 55,290 48,103
Accounts payable and accrued expenses 2,001 4,892 2,917
Policyholder dividends 6,619 4,878 3,852
Other, net 4,315 3,042 5,155
-------- ------ -------
Total gross deferred tax assets 72,209 68,720 62,391
-------- ------ -------
Deferred tax liabilities:
Investments 1,117 193 377
Depreciable assets - - 95
Deferred policy acquisition costs 35,344 33,982 34,189
Insurance reserves - 801 992
Other, net - 1,124 1,960
-------- ------ -------
Total gross deferred tax liabilities 36,461 36,100 37,613
-------- ------ -------
Deferred tax (liability) benefit on
unrealized gains (losses) on investments (15,870) 20,811 (15,090)
======== ====== =======
Net deferred tax asset $ 19,878 53,431 9,688
======== ====== =======
</TABLE>
(Continued)
14
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
Management believes that the realization of the deferred tax asset is
more likely than not based on the expectation that such benefits will be
utilized in the future consolidated tax returns of the USAA group.
At December 31, 1995, 1994, and 1993, other liabilities included the
following Federal income tax payable amounts:
<TABLE>
<CAPTION>
1995 1994 1993
------ ------ ------
<S> <C> <C> <C>
Current Federal income taxes $3,976 10,636 6,222
</TABLE>
Aggregate cash payments to USAA for income taxes were $44,965, $41,314,
and $41,924 for USAA Life Insurance Company and $126, $214, and $330 for its
subsidiary during the years ended December 31, 1995, 1994, and 1993,
respectively.
(5) Fair value of financial instruments
-----------------------------------
The following tables present the carrying amounts and estimated fair
values of the Company's financial instruments at December 31. Financial
Accounting Statement No. 107, "Disclosures about Fair Value of Financial
Instruments", defines the fair value of a financial instrument as the amount at
which the instrument could be exchanged in a current transaction between willing
parties.
<TABLE>
<CAPTION>
1995
---------------------
Carrying Fair
Amount Value
---------- ---------
<S> <C> <C>
Financial assets
Cash and cash equivalents $ 31,476 31,476
Debt securities 5,319,084 5,394,122
Equity securities 211,073 211,073
Mortgage loans 5,775 6,112
Policy loans 106,609 106,609
Short-term securities 1,008 1,008
Premium balances receivable 1,611 1,611
Accrued investment income 59,423 59,423
Financial liabilities
Deferred annuities and annuities without
life contingencies 3,643,138 3,643,138
Policyholder dividend accumulations 24,867 24,867
Policy dividends declared but unpaid 24,016 24,016
Accounts payable and accrued expenses 54,421 54,421
</TABLE>
(Continued)
15
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
<TABLE>
<CAPTION>
1994
---------------------
Carrying Fair
Amount Value
---------- ---------
<S> <C> <C>
Financial assets
Cash and cash equivalents $ 98,101 98,101
Debt securities 4,690,325 4,503,836
Equity securities 151,676 151,676
Mortgage loans 5,866 5,539
Policy loans 89,298 89,298
Short-term securities 10,013 10,013
Premium balances receivable 1,265 1,265
Accrued investment income 52,252 52,252
Financial liabilities
Deferred annuities and annuities without
life contingencies 3,395,327 3,395,327
Policyholder dividend accumulations 23,112 23,112
Policy dividends declared but unpaid 24,165 24,165
Accounts payable and accrued expenses 45,568 45,568
1993
---------------------
Carrying Fair
Amount Value
----------- ---------
Financial assets
Cash and cash equivalents $ 7,391 7,391
Debt securities 4,350,147 4,490,864
Equity securities 229,828 229,828
Mortgage loans 5,857 6,206
Policy loans 81,687 81,687
Short-term securities 21,364 21,364
Premium balances receivable 1,074 1,074
Accrued investment income 47,883 47,883
Financial liabilities
Deferred annuities and annuities without
life contingencies 3,057,331 3,057,331
Policyholder dividend accumulations 21,516 21,516
Policy dividends declared but unpaid 22,935 22,935
Accounts payable and accrued expenses 31,459 31,459
</TABLE>
The carrying amounts of financial assets and liabilities shown in the
above table are included in the balance sheet under the indicated captions with
the following exceptions: deferred annuities and annuities without life
contingencies are included in funds on deposit, policyholder dividend
accumulations are included in funds on deposit, and policy dividends declared
and unpaid are included in other liabilities.
The following methods and assumptions were used to estimate the fair
value of each class of financial instruments:
Cash and cash equivalents: Cash and the cash equivalents approximates
fair value because of the short maturity of these instruments.
Debt and equity securities: Fair market values for bonds and stocks are
determined using quoted market prices from Merrill Lynch Pricing Services,
Bloomberg Services or individual brokers.
(Continued)
16
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
Mortgage loans: The fair value of mortgage loans and the mortgage loan
component of other assets are estimated by discounting the future cash flows
using interest rates currently being offered for mortgage loans with similar
characteristics and maturities.
Policy loans: In the Company's opinion, the book value of the policy
loans approximates their fair value. Policy loans are shown on the financial
statements at face value, and carry interest rates ranging from 4.8% to 7.4% in
advance.
Short-term securities: Short-term securities approximates fair value
because of the short maturity of these instruments.
Premiums receivable: The recorded amount for premiums receivable
approximates fair value because only a slight percentage of total policies
issued by the company lapse.
Accrued investment income: The accrued amount of investment income
approximates its fair value because of the superior quality of the Company's
investment portfolio combined with the short term nature of the collectible
period.
Deferred annuities and annuities without life contingencies: The fair
value of the deferred annuities is estimated as the aggregate cash value of the
annuity, which approximates the carrying value. The fair value of annuities
without life contingencies is estimated as the commuted value of the annuity.
Policyholder dividend accumulations: The fair value of policyholder
dividend accumulations is estimated using the book value less a percentage of
accrued interest anticipated to be forfeited as a result of policy
cancellations. Carrying value of policyholder dividends approximates fair value.
Policy dividends declared but unpaid: The carrying value of policy
dividends declared but unpaid approximates the fair value because the carrying
value reflects anticipated forfeitures as a result of policy cancellations.
Accounts payable and accrued expenses: The fair value of accounts
payable and accrued expenses approximates its carrying value because of the
short term nature of the obligations.
(6) Borrowings
----------
For 1995, the Company borrowed $0 from Bankers Trust Company through the
use of reverse repurchase agreements and there were no outstanding balances as
of December 31, 1995. The borrowings were $251,755, and $19,180 in 1994 and
1993, respectively, with no outstanding December 31 balances for the years then
ended. The interest associated with the reverse repurchase agreements was $0,
$102, and $10 for the years 1995, 1994, and 1993, respectively. Additional
borrowing agreements are described in note 7, "Transactions with affiliates".
(Continued)
17
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
(7) Transactions with affiliates
----------------------------
Certain services have been contracted from USAA, such as rental of
office space, utilities, mail processing, data processing, printing, and
employee benefits. The Company allocates these and other expenses to affiliates
for administrative services performed by the Company. The contracted services
and allocations are based upon various formulas or agreements with the net
amounts included in expenses. The aggregate amount of the USAA contracted
services was $66,787, $55,651, and $52,877 for 1995, 1994, and 1993,
respectively. The aggregate amount of the Company's allocations to affiliates
was $3,910, $3,246, and $2,799 for 1995, 1994, and 1993, respectively.
The Company has an agreement with USAA Investment Management Company
regarding the reimbursement of costs for investment services provided. The
aggregate amount of the USAA Investment Management Company contracted services
was $2,941, $1,509, and $1,380 for 1995, 1994 and 1993, respectively.
The Company also received premium and annuity considerations from USAA
of $6,145, $7,526, and $9,721 in 1995, 1994, and 1993, respectively,
representing amounts received for structured settlements issued to claimants of
USAA and for group insurance on USAA employees. A contribution in the amount of
$1,684 was made to the USAA Foundation in 1994, and $2,000 in 1993. No
contributions were made to the USAA Foundation in 1995.
The Company has intercompany funding agreements with USAA CAPITAL
CORPORATION (CAPCO) and USAA FUNDING COMPANY (FUNDCO) for unsecured borrowings
up to $150,000 in the aggregate, at an interest rate based upon CAPCO's or
FUNDCO's cost of funding. As of December 31, 1995, 1994, and 1993 the Company
had no liability for borrowed money. The Company borrowed $1,809,466 during 1995
and $2,160,999 during 1994, through the use of these funding agreements. The
interest associated with these intercompany funding agreements was $898, $893,
and $804 in 1995, 1994, and 1993, respectively.
In 1995, the Company retired a $30,000 note receivable from an
affiliate, USAA Funding Corporation. The note was outstanding for 1994.
(8) Reinsurance
-----------
In 1993, the Company adopted Statement of Financial Accounting Standards
No. 113, "Accounting and Reporting for Reinsurance of Short-Duration and Long-
Duration Contracts." This statement specifies the accounting and reporting by
insurance enterprises for the reinsurance of insurance contracts. The adoption
of this statement did not have a material impact on the Company's operating
results or surplus.
The Company is party to several reinsurance agreements. The Company's
general policy is to reinsure that portion of any risk in excess of $600 with a
$100 corridor on the life of any one individual. Although the ceding of
reinsurance does not discharge the Company from its primary legal
(Continued)
18
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
liability to a policyholder, the reinsurance company assumes the related risk.
Life insurance in force in the amounts of $3,690,040, $3,658,829, and $3,478,079
is ceded on a yearly renewable term basis; $716,596, $472,032, and $156,908 is
ceded on a coinsurance basis; and $1,000,581, $989,819, and $959,872 is ceded on
an other basis at December 31, 1995, 1994, and 1993, respectively. In
accordance with the reinsurance contracts, reinsurance receivables including
amounts related to claims incurred but not reported and liabilities for future
policy benefits totaled $221, $642, and $254 at December 31, 1995, 1994, and
1993, respectively. Premium revenues were reduced by $14,206, $11,765, and
$12,085 for reinsurance premiums ceded during the years ended December 31, 1995,
1994, and 1993 respectively. Benefits were reduced by $8,257, $5,678, and $5,676
for reinsurance recoverables during the years ended December 31, 1995, 1994, and
1993, respectively.
In 1991, the Company entered into a $30,000 stop-loss agreement with
five reinsurers to minimize the risk of exposure to significant unexpected
losses. The cost of reinsurance was $1,491, $1,356 and $1,225 for 1995, 1994,
and 1993, respectively. The Company received an experience refund of $741, $35
and $6,970 in 1995, 1994 and 1993, respectively. Experience refunds of $3,325,
$2,469, and $22 have been accrued as of December 31, 1995, 1994, and 1993,
respectively.
(Continued)
19
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
(9) Deferred policy acquisition costs and future policy benefits
------------------------------------------------------------
Deferred policy acquisitions costs and premiums for the year ended
December 31, 1995 are summarized below:
<TABLE>
<CAPTION>
Accident
Life Annuity and health Total
---------- -------- ----------- ---------
<S> <C> <C> <C> <C>
Balance at
January 1, 1993 $ 99,766 20,019 10,423 130,208
-------- ------- ------ -------
Additions 15,049 2,312 1,665 19,026
Amortization (4,137) (502) (1,203) (5,842)
FAS 115 DAC (328) (2,916) - (3,244)
-------- ------- ------ -------
Net change 10,584 (1,106) 462 9,940
-------- ------- ------ -------
Balance at
December 31, 1993 $110,350 18,913 10,885 140,148
-------- ------- ------ -------
Additions 15,617 1,524 2,120 19,261
Amortization (4,256) (662) (1,397) (6,315)
FAS 115 DAC 427 8,340 - 8,767
-------- ------- ------ -------
Net change 11,788 9,202 723 21,713
-------- ------- ------ -------
Balance at
December 31, 1994 $122,138 28,115 11,608 161,861
-------- ------- ------ -------
Additions 15,676 4,498 2,658 22,832
Amortization (4,375) 1,926 (1,466) (3,915)
FAS 115 DAC (2,051) (13,896) - (15,947)
-------- ------- ------ -------
Net change 9,250 (7,472) 1,192 2,970
-------- ------- ------ -------
Balance at
December 31, 1995 $131,388 20,643 12,800 164,831
======== ======= ====== =======
1995 Premiums $240,234 4,630 61,034 305,898
======== ======= ====== =======
1994 Premiums $217,336 2,854 59,576 279,766
======== ======= ====== =======
1993 Premiums $187,859 5,613 54,049 247,521
======== ======= ====== =======
</TABLE>
Additions to deferred acquisition costs consist primarily of premium
taxes and certain underwriting and selling expenses.
The liabilities for future policy benefits and related insurance in
force at December 31, 1995, 1994, and 1993 are summarized below:
<TABLE>
<CAPTION>
Future Policy
Benefits
-------------------------
1995 1994 1993
-------- ------- ------
<S> <C> <C> <C>
Life and annuity:
Individual $750,881 535,574 493,474
Group 1,306 740 775
-------- ------- -------
Total life and annuity 752,187 536,314 494,249
======== ======= =======
Accident and health $ 39,060 33,624 26,755
======== ======= =======
</TABLE>
(Continued)
20
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
<TABLE>
<CAPTION>
Insurance in force
-----------------------------------
1995 1994 1993
----------- ---------- ----------
<S> <C> <C> <C>
Life and annuity:
Individual $62,648,704 57,565,565 51,988,782
Group 1,500,896 1,384,393 1,263,248
----------- ---------- ----------
Total life and annuity $64,149,600 58,949,958 53,252,030
=========== ========== ==========
</TABLE>
Life Insurance and Annuities:
Interest assumptions used in the calculation of future policy benefits
for Traditional Life policies are as follows:
Participating term 9.28%
Participating permanent 8.68% to 9.28%
Non - Participating term 7.25% to 8.91%
Future policy benefits for Universal Life and Deferred Annuities are
equal to the current account value without anticipation of any applicable
surrender charges.
Future policy benefits for Payout Annuities use the original pricing
interest rates.
Mortality and withdrawal assumptions are based on the Company's
experience.
Health Insurance:
Interest assumptions used for future policy benefits on health policies
are calculated using a level interest rate of 6%.
Morbidity for Income Replacement policies are based on the 1985 CIDA
table. Morbidity for In Hospital Cash policies are based on 1966-67 Intercompany
Experience table.
Termination assumptions are based on the Company and industry
experience.
(10) Capital stock
-------------
The Company has outstanding 400,000 shares of Annually Adjustable
Cumulative Perpetual Preferred Stock; 100,000 shares each of Series A, Series B,
Series C, and Series D. All preferred stock is owned by USAA Funding Company, an
affiliate of USAA Life Insurance Company. Series C and Series D were issued in
1994 for $20,000. No other stock ranks Senior to the Series A-D preferred stock.
The dividend rate will be 65% of the cost of the funds for CAPCO, an affiliate
of USAA Life, on Commercial paper having a 180-day maturity on the first
business day of each Dividend Period. The preferred stock has a par value of
$100 and a liquidation value of $100 per share. The Preferred Stock shares are
redeemable at the option of the Company for cash, in whole or in part, on the
15th day of each December for Series A and Series B and on the 15th day of each
June for Series C and Series D at par value plus accrued and unpaid dividends.
(Continued)
21
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
Preferred stock dividends of $1,601, $599, and $572 were paid in 1995, 1994, and
1993 respectively, and $64 has accrued since the last payment on December 15,
1995.
The Company has authorized 30,000 shares of common capital stock, $100
par value, of which 25,000 shares were issued and outstanding at December 31,
1995, 1994, and 1993. A cash dividend of $18,000 was paid on the common stock
during 1995, and $10,000 was paid in 1994. No cash dividends were paid on common
stock in 1993.
(11) Unassigned surplus and dividend restrictions
--------------------------------------------
In accordance with the interpretation of the New York statutes by the
Superintendent of Insurance of the State, the Company has acquiesced with the
Superintendent's interpretation that so long as participating policies and
contracts are held by residents of New York, no profits on participating
policies and contracts in excess of the larger of (a) ten percent of such
profits or (b) fifty cents per year per thousand dollars of participating life
insurance in force at the year-end shall inure to the benefit of the Company's
shareholders. Such New York statutes further provide that such excess profits
shall be exhibited as "participating policyholders' surplus" in annual
statements filed with the Superintendent and shall be used only for the payment
or apportionment of dividends to participating policyholders at least to the
extent required by statute or for the purposes of making up any loss on
participating policies.
In the opinion of counsel for the Company, ultimate ownership of the
entire surplus, regardless of classification, is a matter to be determined under
Texas law. Under Texas law, in counsel's opinion, such surplus ownership resides
in the Company's shareholders, subject, of course, to the authority of the Texas
Insurance Commissioner (and the similar authority of the other state insurance
regulators) to require the maintenance of certain regulatory deposits, minimum
surplus, and reserves for the protection of policyholders until all policy
contracts are discharged.
The Company is relying on the legal opinion that the earnings
attributable to participating policies in excess of the amounts paid as
dividends to policyholders belong to the shareholders rather than the
policyholders, and such earnings are so treated by the Company.
Due to capital and surplus restrictions imposed by various state
regulations (including New York), unassigned surplus available for distribution
as dividends to the shareholder was $281,381, $185,560 and $212,185 at December
31, 1995, 1994 and 1993, respectively.
Texas law limits the payment of dividends to shareholders. The maximum
dividend that may be paid without prior approval of the Insurance Commissioner
is limited to the greater of net gain from operations of the preceding calendar
year or 10% of capital and surplus as of the prior December 31. As a result,
dividend payments to shareholders were limited to approximately $41,072 in 1995
and are limited to $52,722 in 1996. Dividends are paid as determined by the
Board of Directors and at its discretion.
(Continued)
22
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
The Texas Department of Insurance imposes minimum risk-based capital
requirements on insurance companies that were developed by the National
Association of Insurance Commissioners (NAIC). The formulas for determining the
amount of risk-based capital (RBC) specify various weighting factors that are
applied to statutory financial balances or various levels of activity based on
the perceived degree of risk. Regulatory compliance is determined by a ratio of
the Company's regulatory total adjusted capital to its authorized control level
RBC, as defined by the NAIC. Companies below specific trigger points or ratios
are classified within certain levels, each of which requires specified
corrective action. The Company's current statutory capital and surplus is
significantly in excess of the threshold RBC requirements.
The Company does not use permitted practices in preparation of financial
statements.
(12) Employee benefit plans
----------------------
(a) Pension plan
------------
Substantially all employees are covered under a pension plan
administered by USAA which is accounted for on a group basis. The benefits are
determined based on years of service and the employee's salary at date of
retirement. The total net pension cost allocated to the Company on the basis of
salary expense was $1,913, $2,095, and $1,220 in 1995, 1994 and 1993,
respectively. At December 31, 1995, 1994, and 1993, a liability of $1,250,
$2,092, and $2,340, respectively, has been recorded which represents the excess
of net periodic pension cost allocated to the Company over its allocated funding
requirements.
(b) Postretirement benefit plan
---------------------------
Substantially all employees may become eligible for certain medical and
life insurance benefits provided for retired employees under a plan administered
by USAA, if they meet minimum age and service requirements and retire while
working for USAA. The total postretirement benefit cost allocated to the
Company was approximately $843, $817, and $496 in 1995, 1994, and 1993,
respectively. At December 31, 1995, a prepaid asset totaling $1,318 has been
recorded which represents the excess of the Company's allocated funding
requirements over the net periodic postretirement benefit cost allocated to the
Company.
(c) Special retirement benefits
---------------------------
During 1993, management of USAA offered special retirement benefits to
eligible employees of USAA and its subsidiaries, including USAA Life Insurance
Company. Additional special termination benefit cost as a result of this special
retirement offer, which was not covered by the employee benefit plans, totaled
$521 in 1993, and are included in employee benefits on the 1993 statement of
income.
(Continued)
23
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
(d) Postemployment benefits
-----------------------
All employees who suffer total disability as a result of illness or
injury are eligible for long-term disability benefits. In 1993, the provisions
of Statement of Financial Accounting Standards No. 112, "Employer's Accounting
for Postemployment Benefits," were adopted by the Company. Statement 112
requires the accrual of future benefits on reported claims payable to former or
inactive employees after employment but before retirement. In prior years, the
Company accrued and funded current claims payable.
The cumulative effect of this accounting change, allocated to the
Company based on salaries was to decrease net income in 1993 by approximately
$710. The postemployment benefit cost allocated to the Company for 1995, 1994
and 1993 based on salaries was approximately $43, $68 and $282, respectively.
(13) Separate account
----------------
The Separate Account is a segregated asset account established under
Texas law through which USAA Life Insurance Company invests the premium payments
received from Contract Owners. The assets of the Separate Account are the
property of the Company. However, the assets of the Separate Account not in
excess of the reserves, and other Contract liabilities with respect to the
Separate Account, are not chargeable with liabilities arising out of any other
business the Company may conduct. Income, gains and losses, whether or not
realized, are, in accordance with the Contracts, credited to or charged against
the Separate Account without regard to other income, gains or losses of the
Company. The Company's obligations arising under the Contracts are general
corporate obligations.
The Separate Account currently is divided into seven Variable Annuity
Fund Accounts, each of which invests in a corresponding Fund. The Funds that are
available under this Contract include five funds of USAA Life Investment Trust,
the Capital Growth Portfolio of the Scudder Variable Life Investment Fund, and
the Growth Portfolio of The Alger American Fund. The Accumulated Unit Value of
the Contract in a Variable Fund Account will vary, primarily based on the
investment experience of the Fund in whose shares the Variable Fund Account
invests. The value of the Funds' securities are carried at market value, or, in
the case of the USAA Life Variable Annuity Money Market Fund, at amortized cost,
which approximates market value.
USAA Life incurs mortality and administrative expenses on behalf of
Separate Account contract holders. The Company collects fees for these expenses
from contract holders at set amounts. In addition, the Company incurs various
expenses related to conducting the business or operations of the USAA Life
Investment Trust (Trust) as outlined by an underwriting and administrative
services agreement. The Company, out of its general account, has agreed to pay
directly or reimburse the Trust for Trust expenses exceeding established limits.
(Continued)
24
<PAGE>
USAA LIFE INSURANCE COMPANY
Notes to Consolidated Financial Statements
(Dollars in Thousands)
The Separate Account has an excess of assets over liabilities which is
attributable to the initial Company investment of $81,000 plus the associated
unrealized gains, net of tax.
(14) Commitments and contingencies
-----------------------------
The Company has established a liability associated with the failure of
various life insurance companies in the amount of $12,038, $8,097, and $4,896
for 1995, 1994 and 1993, respectively.
25
