Company Quick10K Filing
Quick10K
Talcott Resolution Life Insurance
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$51.42 361 $18,550
10-K 2018-12-31 Annual: 2018-12-31
10-Q 2018-09-30 Quarter: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
10-Q 2015-09-30 Quarter: 2015-09-30
10-Q 2015-06-30 Quarter: 2015-06-30
10-Q 2015-03-31 Quarter: 2015-03-31
10-K 2014-12-31 Annual: 2014-12-31
10-Q 2014-09-30 Quarter: 2014-09-30
10-Q 2014-06-30 Quarter: 2014-06-30
10-Q 2014-03-31 Quarter: 2014-03-31
10-K 2013-12-31 Annual: 2013-12-31
8-K 2018-07-18 Officers
8-K 2018-06-07 Enter Agreement
8-K 2018-06-06 Enter Agreement, Control, Officers, Amend Bylaw, Code of Ethics, Exhibits
ERIC Ericsson Lm Telephone 31,950
FNB FNB 3,720
INDB Independent Bank 2,970
WMS Advanced Drainage Systems 1,610
SGMO Sangamo Therapeutics 1,380
CPRX Catalyst Pharmaceuticals 565
OFED Oconee Federal Financial 151
ZFGN Zafgen 101
FUTU Future Healthcare of America 0
IMNP Immune Pharmaceuticals 0
HIG 2018-12-31
Part I
Item 1. Business
Item 1A. Risk Factors
Item 2. Properties
Item 3. Legal Proceedings
Part II
Item 5. Market for Talcott Resolution Life Insurance Company's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6. Selected Financial Data
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 9A. Controls and Procedures
Part III
Item 10. Directors, Executive Officers and Corporate Governance of Talcott Resolution Life Insurance Company
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13. Certain Relationships and Related Transactions and Director Independence
Item 14. Principal Accounting Fees and Services
Part IV
Item 15. Exhibits, Financial Statement Schedules
EX-21.01 tl10-k12312018ex2101.htm
EX-23.01 tl10-k12312018ex2301.htm
EX-24.01 tl10-k12312018ex2401.htm
EX-31.01 tl10-k12312018ex3101.htm
EX-31.02 tl10-k12312018ex3102.htm
EX-32.01 tl10-k12312018ex3201.htm
EX-32.02 tl10-k12312018ex3202.htm

Talcott Resolution Life Insurance Earnings 2018-12-31

HIG 10K Annual Report

Balance SheetIncome StatementCash Flow

10-K 1 tl10k12312018document.htm 10-K Document
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
  FORM 10-K
(Mark One)
ý
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2018
or
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                          to                         
Commission file number 001-32293  
talcottresolutionlogo.jpg
TALCOTT RESOLUTION LIFE INSURANCE COMPANY
(Exact name of registrant as specified in its charter)
Connecticut
 
06-0974148
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
One Griffin Road North, Windsor, Connecticut 06095
(Address of principal executive offices) (Zip Code)
(800) 862-6668
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark:
Yes
  
No
•        if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
¨
  
ý
•        if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.
¨
  
ý
•        whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
ý
  
¨
•        whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
ý
  
¨
•        if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.
ý
  
¨
•        whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer ¨
Accelerated filer ¨
Non Accelerated filer x
Smaller reporting company ¨
     Emerging growth company ¨
•        whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.)
¨
  
ý
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ¨
The aggregate market value of the shares of Common Stock held by non-affiliates of the registrant as of June 30, 2018 was $0, because all of the outstanding shares of Common Stock were owned by Talcott Resolution Life, Inc.
As of February 22, 2019, there were outstanding 1,000 shares of Common Stock, $5,690 par value per share, of the registrant.

1


TALCOTT RESOLUTION LIFE INSURANCE COMPANY
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2018
TABLE OF CONTENTS
 
Item
Description
Page
 
 
1
1A.
1B.
None
2
3
4
Not applicable
 
 
5
Market for Talcott Resolution Life Insurance Company's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
6
7
7A.
[a]
8
[b]
9
None
9A.
9B.
None
 
 
10
Directors, Executive Officers and Corporate Governance of Talcott Resolution Life Insurance Company
11
Executive Compensation
12
13
14
 
 
15
16
Form 10-K Summary
Not applicable
 
Exhibits Index
II-1
 
Signatures
II-2
[a]
The information required by this item is set forth in the Enterprise Risk Management section of Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations and is incorporated herein by reference.
[b]
See Index to Consolidated Financial Statements and Schedules elsewhere herein.
 
 

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Forward-Looking Statements
Certain of the statements contained herein are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by words such as “anticipates,” “intends,” “plans,” “seeks,” “believes,” “estimates,” “expects,” “projects,” and similar references to future periods.
Forward-looking statements are based on management's current expectations and assumptions regarding future economic, competitive, legislative and other developments and their potential effect upon Talcott Resolution Life Insurance Company (formerly "Hartford Life Insurance Company") and its subsidiaries (collectively, the “Company”). Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. Actual results could differ materially from expectations, depending on the evolution of various factors, including the risks and uncertainties identified below, as well as factors described in such forward-looking statements or in Part I, Item 1A. Risk Factors, in Part II, Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, and those identified from time to time in our other filings with the Securities and Exchange Commission ("SEC").
Risks Relating to Economic, Political and Global Market Conditions:
challenges related to the Company's current operating environment, including global, political, economic and market conditions, and the effect of financial market disruptions, economic downturns or other potentially adverse macroeconomic developments on our products, the returns in our investment portfolios and the hedging costs associated with our run-off annuity block;
financial risk related to the continued reinvestment of our investment portfolios and performance of our hedge program for our run-off annuity block;
market risks associated with our business, including changes in credit spreads, equity prices, interest rates, market volatility and foreign exchange rates;
the impact on our investment portfolio if our investment portfolio is concentrated in any particular segment of the economy;
Insurance Industry and Product-Related Risks:
volatility in our statutory earnings and earnings calculated in conformity with accounting principles generally accepted in the United States of America ("U.S. GAAP") and potential material changes to our results resulting from our adjustment of our risk management program to emphasize protection of statutory surplus and economic value;
the possibility of a terrorist attack, a pandemic, or other natural or man-made disaster that may increase the Company's mortality exposure and adversely affect its businesses;
the possibility of losses from increased life expectancy trends among policyholders receiving long-term life contingent benefit payments;
the possibility that the liability reserves for our payout annuities may be inadequate if there are medical improvements or other technological improvements that change our mortality assumptions;
the possibility of policyholders utilizing benefits within their fixed or variable annuity contracts in a manner or to a degree different than Company expectations, particularly during adverse market conditions;
Financial Strength, Credit and Counterparty Risks:
risks to our business, financial position, prospects and results associated with negative rating actions or downgrades in the Company's financial strength and credit ratings or negative rating actions or downgrades relating to our investments;
the impact on our statutory capital of various factors, including many that are outside the Company’s control, which can in turn affect our credit and financial strength ratings, cost of capital, regulatory compliance and other aspects of our business and results;
losses due to nonperformance or defaults by others, including sourcing partners, derivative counterparties and other third parties;
the potential for losses due to our reinsurers' unwillingness or inability to meet their obligations under reinsurance contracts and the availability, pricing and adequacy of reinsurance to protect the Company against losses;
regulatory limitations on the ability of the Company and certain of its subsidiaries to declare and pay dividends;

3


Risks Relating to Estimates, Assumptions and Valuations:
risk associated with the use of analytical models in making decisions in key areas such as capital management, hedging, and reserving;
the potential for differing interpretations of the methodologies, estimations and assumptions that underlie the Company’s fair value estimates for its investments and the evaluation of the other-than-temporary impairments on available-for-sale securities;
the potential for further acceleration in amortization of the value of the business acquired ("VOBA") and an increase in reserve for certain guaranteed benefits in our variable annuities;
the potential for valuation allowances against deferred tax assets;
Strategic and Operational Risks:
the risks associated with separating our operations from those of our former parent and establishing a stand-alone company, including increased costs related to replacing third-party arrangements previously obtained through our former parent;
the Company’s ability to maintain the availability of its systems and safeguard the security of its data in the event of a disaster, cyber or other information security incident or other unanticipated event;
the potential for difficulties arising from outsourcing and similar third-party relationships;
the risks, challenges and uncertainties associated with the Company's initiatives and other actions, which may include acquisitions and divestitures;
the Company’s ability to protect its intellectual property and defend against claims of infringement;
Regulatory and Legal Risks:
the cost and other potential effects of increased regulatory and legislative developments, including those that could adversely impact the Company’s operating costs and required capital levels;
unfavorable judicial or legislative developments;
the impact of changes in federal or state tax laws that could impact the tax-favored status of life and annuity contracts; and
the impact of potential changes in accounting and financial reporting requirements of the liability for future policy benefits, including how we account for our long-duration insurance contracts, including the discounting of life contingent fixed annuities.
Any forward-looking statement made by the Company in this document speaks only as of the date of the filing of this Form 10-K. Factors or events that could cause the Company’s actual results to differ may emerge from time to time, and it is not possible for the Company to predict all of them. The Company undertakes no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise.

4


PART I
Item 1.
BUSINESS
(Dollar amounts in millions unless otherwise stated)
General
Talcott Resolution Life Insurance Company, formerly Hartford Life Insurance Company, (together with its subsidiaries, “TL,” “Company,” “we” or “our”) is a provider of insurance and investment products in the United States (“U.S.”) and is a wholly-owned subsidiary of Talcott Resolution Life, Inc., a Delaware corporation ("TLI"). Hopmeadow Holdings LP (“Hopmeadow Holdings", or "HHLP ”) is a parent of the Company.
On May 31, 2018 ("Talcott Acquisition Date"), the Company's former indirect parent, Hartford Holding, Inc. ("HHI") completed the sale of the Company's parent to a group of investors led by Cornell Capital LLC, Atlas Merchant Capital LLC, TRB Advisors LP, Global Atlantic Financial Group ("Global Atlantic"), Pine Brook and J. Safra Group. Although Talcott Resolution Life Insurance Company is no longer affiliated with The Hartford Financial Services Group, Inc. ("The Hartford") or any of its subsidiaries, The Hartford retained a 9.7 percent ownership interest in HHLP ("Talcott Resolution Sale Transaction").
On June 1, 2018, TL executed reinsurance agreements to reinsure certain fixed immediate and deferred annuity contracts, variable payout separate account annuity contracts, standard mortality structured settlements, and period certain structured settlement annuity contracts ("Commonwealth Annuity Reinsurance Agreement") to Commonwealth Annuity and Life Insurance Company ("Commonwealth"), a subsidiary of Global Atlantic which is a member of the acquiring investment group. TL reinsured an 85% quota share, except 75% for standard mortality structured settlements, in exchange for a $357 ceding commission that was fixed based on reinsuring approximately $9.3 billion of reserves as of December 31, 2016, plus annuitizations through closing and annuitizations from market value adjusted annuities post-close. The reinsurance agreement was executed after the Talcott Acquisition Date and as such, the accounting for the agreement was recorded after the TL balance sheet was adjusted to fair value in purchase and pushdown accounting. A deferred gain of approximately $1 billion was recorded in Other liabilities on the Consolidated Balance Sheet related to this reinsurance agreement and will be amortized over the life of the underlying policies reinsured.
At close, the Company had no continuing involvement in the pension and other post-employment benefits plans of The Hartford.
Subsequent to the closing, the Company will continue to write and cede to Hartford Life and Accident Insurance Company ("HLA") certain group and individual benefits business. Additionally, the Company will provide administrative services for structured settlements and terminal funding agreements written by HLA that will be retained by The Hartford.
In conjunction with the sale, the Company entered into a transition services agreement with The Hartford to provide general ledger, cash management, investment accounting and information technology infrastructure services for a period of up to two years. These transition services are not considered a material change in internal controls as the controls are substantially similar to those that existed prior to the Talcott Resolution Sale Transaction. The Company monitors and maintains oversight of the control environment provided by The Hartford covering these services and considers these controls in the evaluation of our internal control environment. The Company also entered into an administrative service agreement whereby The Hartford will manage invested assets of the Company for an initial term of five years. In addition, the Company will continue to collect revenue sharing fees from The Hartford’s mutual funds business related to Hartford HLS funds held in the Company’s separate accounts.
Organization
The Company's mission is to profitably grow and efficiently manage the business while honoring the Company's obligations to its contractholders. The Company manages approximately 651 thousand annuity contracts with retained account value of approximately $42 billion and private placement life insurance with account value of approximately $42 billion as of December 31, 2018.
The Company’s results of operations are primarily influenced by the financial results of the variable and fixed annuity, institutional investment and private placement products as well as the capital gain and loss activity associated with the Company’s variable annuity hedging program. Total assets and total stockholder’s equity were $150.1 billion and $2.0 billion, respectively, at December 31, 2018.
The Company previously sold fixed and variable annuities, individual life insurance, retirement plans, institutional investment products, private placement life insurance and group life and group and individual disability benefits. In 2013, the Company sold its retirement plans business and substantially all of its individual life business via reinsurance transactions.

5


The individual annuity business in run-off includes both variable and fixed annuities with many contracts in an asset accumulation phase before the contract reaches the payout or annuitization phase. Most of the Company's variable annuity contracts sold to individuals provide a guaranteed minimum death benefit ("GMDB") during the accumulation period that is generally equal to the greater of (a) the contract value at death or (b) premium payments less any prior withdrawals and may include adjustments that increase the benefit, such as for maximum anniversary value ("MAV"). In addition, some of the variable annuity contracts provide a guaranteed minimum withdrawal benefit ("GMWB") whereby if the account value is reduced to a specified level through a combination of market declines and withdrawals, the contract holder is entitled to a guaranteed remaining balance ("GRB"), which is generally equal to premiums less withdrawals. Many policyholders with a GMDB also have a GMWB. These benefits are not additive. Policyholders that have a product with both guarantees can receive, at most, the greater of the GMDB or GMWB.
chart-baa4b3f5fea0687ac5f.jpg
Principal Products and Services
Variable Annuity
Represents variable insurance contracts entered into between the Company and an individual policyholder. Products provide a current or future income stream based on the value of the individual's contract at annuitization, and can include a variety of guaranteed minimum death and withdrawal benefits.
Fixed Annuity
Fixed Annuities represent fixed insurance contracts entered into between the Company and an individual policyholder. Products guarantee a minimum rate of interest and fixed amount of periodic payments.
Payout Annuity
These are primarily in the form of structured settlements and terminal funding agreements. Structured settlements are contracts that provide periodic payments to claimants in settlement of a claim, a portion of which is related to the Company's settlement of property and casualty insurance claims from The Hartford. Terminal funding agreements are single premium group annuities, most typically purchased by companies to fund pension plan liabilities. These also include single premium immediate payouts, deferred and matured contracts.
Private Placement Life Insurance
Represents variable life insurance policies that have a cash value which appreciates based on investment performance of funds held and includes individual high net worth and Corporate Owned Life Insurance ("COLI")
Reserves
The Company and its insurance subsidiaries establish and carry as liabilities, reserves for its insurance products to estimate for the following:
account value is a liability equal to the balance of the life and annuity insurance policyholder as of a point in time;
a liability for future policy benefits, representing the present value of future benefits to be paid to or on behalf of policyholders less the present value of future estimated net premiums;

6


fair value reserves for living benefits embedded derivative guarantees; and
death and living benefit reserves which are computed based on a percentage of revenues less actual claim costs.
The reserve for future policy benefits is calculated based on actuarially recognized methods using morbidity and mortality tables, which are modified to reflect the Company’s actual experience when appropriate. Liabilities for future policy benefits, less the present value of future estimated net premiums and with interest thereon at certain assumed rates, are calculated at amounts that are expected to be sufficient to meet the Company’s policy obligations at their maturities or in the event of the death, disability, or survival of an insured. Other insurance liabilities include those for unearned premiums and benefits in excess of account value. Reserves for assumed reinsurance are computed in a manner that is comparable to direct insurance reserves.
Reinsurance
The Company cedes insurance to unaffiliated insurers to enable the Company to manage capital and risk exposure. Such arrangements do not relieve the Company of its primary liability to policyholders. Failure of reinsurers to honor their obligations could result in losses to the Company. The Company regularly monitors the financial condition and ratings of its reinsurers and structures agreements to provide collateral funds where necessary. Reinsurance accounting is followed for ceded transactions that provide indemnification against loss or liability relating to insurance risk (i.e. risk transfer). If the ceded transactions do not provide risk transfer, the Company accounts for these transactions as financing transactions.
Investment Operations
The majority of the Company’s investment portfolios are managed by Hartford Investment Management Company (“HIMCO”). HIMCO manages the Company's portfolios to maximize economic value, and generate the returns necessary to support the Company’s various product obligations, within internally established objectives, guidelines and risk tolerances. The portfolio objectives and guidelines are developed based upon the asset/liability profile, including duration, convexity and other characteristics within specified risk tolerances. The risk tolerances considered include, but are not limited to, asset sector, credit issuer allocation limits and maximum portfolio limits for below investment grade holdings. The Company attempts to minimize adverse impacts to the portfolio and the Company’s results of operations from changes in economic conditions through asset diversification, asset allocation limits, asset/liability duration matching and through the use of derivatives. For further discussion of HIMCO’s portfolio management approach, see Part II, Item 7, MD&A – Enterprise Risk Management. Following the Talcott Resolution Sale Transaction, HIMCO will continue to manage invested assets of the Company for an initial term of five years.
Enterprise Risk Management
The Company has insurance, operational and financial risks. For a discussion on how the Company manages these risks, see Part II, Item 7, MD&A - Enterprise Risk Management.
Regulations
State Insurance Department Regulation. State insurance laws are intended to supervise and regulate insurers with the goal of protecting policyholders and ensuring the solvency of the insurers. As such, the insurance laws and regulations grant broad authority to state insurance departments (the “Departments”) to oversee and regulate the business of insurance. The Departments monitor the financial stability of an insurer by requiring insurers to maintain certain solvency standards and minimum capital and surplus requirements; invested asset requirements; state deposits of securities; guaranty fund premiums and assessments to cover certain obligations of insolvent insurance companies; restrictions on the size of risks which may be insured under a single policy; and adequate reserves and other necessary provisions for unearned premiums, benefits, losses and loss adjustment expenses and other liabilities, both reported and unreported. In addition, the Departments perform periodic market and financial examinations of insurers and require insurers to file annual and other reports on the financial condition of the companies. Policyholder protection is also regulated by the Departments through licensing of insurers, agents and brokers and others; approval of premium rates and policy forms; claims administration requirements; and maintenance of minimum rates for accumulation of surrender values.
Many states also have laws regulating insurance holding company systems. These laws require insurance companies, which are formed and chartered in the state (referred to as “domestic insurers”), to register with the state department of insurance (referred to as their “domestic state or regulator”) and file information concerning the operations of companies within the holding company system that may materially affect the operations, management or financial condition of the insurers within the system. Insurance holding company regulations principally relate to (i) state insurance approval of the acquisition of domestic insurers, (ii) prior review or approval of certain transactions between the domestic insurer and its affiliates, and (iii) regulation of dividends made by the domestic insurer. All transactions within a holding company system affecting domestic insurers must be determined to be fair and equitable.
The National Association of Insurance Commissioners (“NAIC”), the organization that works to promote standardization of best practices and assists state insurance regulatory authorities and insurers, conducted the “Solvency Modernization Initiative” (the “Solvency Initiative”). The effort focused on reviewing the U.S. financial regulatory system and financial regulation affecting insurance

7


companies including: (1) capital requirements; (2) corporate governance and risk management; (3) group supervision; (4) statutory accounting and financial reporting; and (5) reinsurance. As a result of the Solvency Initiative, among other items, the NAIC adopted the Corporate Governance Annual Disclosure Model Act, which was enacted by the Company’s lead domestic state of Connecticut. The model law requires insurers to make an annual confidential filing regarding their corporate governance policies. In addition, the NAIC adopted the Risk Management and Own Risk and Solvency Assessment Model Act (“ORSA”), which also has been adopted by Connecticut. ORSA requires insurers to maintain a risk management framework and conduct an internal risk and solvency assessment of the insurer’s material risks in normal and stressed environments. Many state insurance holding company laws, including those of Connecticut, have also been amended to require insurers to file an annual confidential enterprise risk report with their lead domestic regulator, disclosing material risks within the entire holding company system that could pose an enterprise risk to the insurer.
Federal Regulation. Prior to the Company going into run off in 2012, the Company sold variable life insurance, variable annuity, and some fixed guaranteed products that are “securities” registered with the SEC under the Securities Act of 1933, as amended. Some of the products have separate accounts that are registered as investment companies under the Investment Company Act of 1940, as amended (the “1940 Act”), and/or are regulated by state law. Separate account investment products are also subject to state insurance regulation. Moreover, each registered separate account is divided into sub-accounts, each of which invests in an underlying mutual fund that is also registered as an investment company under the 1940 Act.
Privacy Regulation. Moreover, federal law and the laws of many states require financial institutions to protect the security and confidentiality of customer information and to notify customers about their policies and practices relating to collection and disclosure of customer information and their policies relating to protecting the security and confidentiality of that information. Federal law and the laws of many states also regulate disclosures and disposal of customer information. Congress, state legislatures, and regulatory authorities are expected to consider additional regulation relating to privacy and other aspects of customer information.
Failure to comply with federal and state laws and regulations may result in fines, the issuance of cease-and-desist orders or suspension, termination or limitation of the activities of our operations and/or our employees.
Intellectual Property
The Company relies on a combination of contractual rights and copyright, trademark, patent and trade secret laws to establish and protect our intellectual property.
The Company has a trademark portfolio that we consider important in the marketing of our products and services, including, among others, the trademarks of the Talcott name. The duration of trademark registrations may be renewed indefinitely subject to country-specific use and registration requirements. We regard our trademarks as extremely valuable assets in marketing our products and services and vigorously seek to protect them against infringement. In addition, we own a number of patents and patent applications, some of which may be important to our business operations. Patents are of varying duration depending on filing date, and will typically expire at the end of their natural term.
Employees
At December 31, 2018, the Company had no direct employees. The Company's operations are managed by employees of its parent, TLI, and the costs of these services are allocated to the Company through an intercompany services and cost allocation agreement.
Available Information
The Company's Internet address is www.talcottresolution.com. Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports are available, without charge, on the financial statement sections of our website https://www.talcottresolution.com/financialinformation.html as soon as reasonably practicable after they are filed electronically with the SEC. Reports filed with the SEC may be viewed at www.sec.gov or obtained at the SEC's Public Reference Room at 100 F Street, N.E., Washington D.C. Information regarding the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330. References in this report to our website address are provided only as a convenience and do not constitute, and should not be viewed as, an incorporation by reference of the information contained on, or available through, the website. Therefore, such information should not be considered part of this report.

8


Item 1A.
RISK FACTORS
In deciding whether to invest in securities of the Company, you should carefully consider the following risks, any of which could have a material adverse effect on our business, financial condition, results of operation, or liquidity of the Company. These risks are not exclusive, and additional risks to which we are subject include, but are not limited to, the factors mentioned under “Forward-Looking Statements” above and the risks of our businesses described elsewhere in this Annual Report on Form 10-K.
The following risk factors have been organized by category for ease of use, however many of the risks may have impacts in more than one category. The occurrence of certain of them may, in turn, cause the emergence or exacerbate the effect of others. Such a combination could materially increase the severity of the impact of these risks on our business, results of operations, financial condition or liquidity.
Risks Relating to Economic, Political and Global Market Conditions
Unfavorable economic, political and global market conditions may adversely impact our business and results of operations.
The Company’s investment portfolio and insurance liabilities are sensitive to changes in economic, political and global capital market conditions, such as the effect of a weak economy and changes in credit spreads, equity prices and interest rates. Weak economic conditions, such as high unemployment, low labor force participation, lower family income, a weak real estate market, lower business investment and lower consumer spending, may impact the Company's profitability and may affect policyholder behavior in a manner that results in increased full and partial surrender rates. In addition, the Company’s investment portfolio includes limited partnerships and other alternative investments for which changes in value are reported in earnings. These investments may be adversely impacted by political turmoil and economic volatility, including real estate market deterioration, which could impact our net investment returns and result in an adverse impact on operating results.
Below are several key factors impacted by changes in economic, political, and global market conditions and their potential effect on the Company’s business and results of operation:
Credit Spread Risk - Credit spread exposure is reflected in the market prices of fixed income instruments where lower rated securities generally trade at a higher credit spread. If issuer credit spreads increase or widen, the market value of our investment portfolio may decline. If the credit spread widening is significant and occurs over an extended period of time, the Company may recognize other-than-temporary impairments, resulting in decreased earnings. If credit spreads tighten, the Company’s net investment income associated with new purchases of fixed maturities may be reduced. In addition, the value of credit derivatives under which the Company assumes exposure or purchases protection are impacted by changes in credit spreads, with losses occurring when credit spreads widen for assumed exposure or when credit spreads tighten if credit protection has been purchased.
Our statutory surplus is also affected by widening credit spreads as a result of the accounting for the assets and liabilities on our fixed market value adjusted (“MVA”) annuities and in certain of our terminal funding contracts. Statutory separate account assets supporting the fixed MVA annuities are recorded at fair value. In determining the statutory reserve for the fixed MVA annuity payments we owe contract-holders, we are required to use current crediting rates. In many capital market scenarios, current crediting rates are highly correlated with market rates implicit in the fair value of statutory separate account assets. As a result, the change in the statutory reserve from period to period will likely substantially offset the change in the fair value of the statutory separate account assets. However, in periods of volatile credit markets, actual credit spreads on investment assets may increase sharply for certain sub-sectors of the overall credit market, resulting in statutory separate account asset market value losses. As actual credit spreads are not fully reflected in current crediting rates, the calculation of statutory reserves may not substantially offset the change in fair value of the statutory separate account assets, resulting in reductions in statutory surplus. This may result in the need to devote additional capital to support the fixed MVA product.
Equity Markets Risk - A decline in equity markets may result in lower earnings from our operations where fee income is earned based upon the fair value of the assets under management. A decline in equity markets may also decrease the value of equity securities and limited partnerships and other alternative investments held in the Company’s general account portfolio, thereby negatively impacting our financial condition or reported earnings. In addition, certain of our annuity products have GMDBs or GMWBs. Expected claims related to these guarantees increase when equity markets decline requiring us to hold more statutory capital. While our hedging assets seek to reduce the statutory surplus impact and net economic sensitivity of our potential obligations from guaranteed benefits to market fluctuations, because of the accounting asymmetries between our hedging targets and statutory and GAAP accounting principles for our guaranteed benefits, rising equity markets and/or rising interest rates may result in statutory or GAAP losses.
Interest Rate Risk - Global economic conditions may result in the persistence of a low interest rate environment which would continue to pressure our net investment income and could result in lower margins on certain products. Due to the long-term nature of the Company's liabilities, such as structured settlements and guaranteed benefits on variable annuities, declines in interest rates over an extended period of time would result in lower reinvestment yields, increased hedging costs, reduced spreads on our annuity products and greater capital volatility. On the other hand, a rise in interest rates, in the absence of other countervailing changes, would reduce the market value of our investment portfolio and, if long-term interest rates were to rise dramatically, certain of our products might be exposed to

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disintermediation risk. Disintermediation risk refers to the risk that our policyholders may surrender their contracts in a rising interest rate environment, requiring us to liquidate assets in an unrealized loss position.
Concentration of our investment portfolio increases the potential for significant losses.
The concentration of our investment portfolios in any particular industry, collateral type, group of related industries or geographic sector could have an adverse effect on our investment portfolios and consequently on our business, financial condition, results of operations, and liquidity. Events or developments that have a negative impact on any particular industry, collateral type, group of related industries or geographic region may have a greater adverse effect on our investment portfolio than if the portfolio were more diversified. Further, if issuers of securities or loans we hold are acquired, merge or otherwise consolidate with other issuers of securities or loans held by the Company, our investment portfolio’s concentration risk could increase, at least until the Company is able to sell securities to get back in compliance with the established investment policies.
Insurance Industry and Product Related Risks
We are vulnerable to losses from catastrophes, both natural and man-made.
Our operations are exposed to risk of loss from both natural and man-made catastrophes associated with pandemics, terrorist attacks and other events that could significantly increase our mortality exposures. Claims arising from such events could have a material adverse effect on our results of operations and liquidity, either directly or as a result of their effect on our reinsurers or other counterparties. In addition, the continued threat of terrorism and the occurrence of terrorist attacks, as well as heightened security measures and military action in response to these threats, may cause significant volatility in global financial markets, which could have an adverse effect on the value of the assets in our investment portfolio and in our separate accounts.
Our program to manage interest rate and equity risk related to our variable annuity guaranteed benefits may be ineffective which could result in statutory and GAAP volatility in our earnings and potentially material charges to net income.
Some of our in-force business, especially variable annuities, offer guaranteed benefits, including GMDBs and GMWBs. These GMDBs and GMWBs expose the Company to interest rate risk and significant equity risk. A decline in equity markets would not only result in lower fee income, but would also increase our exposure to liability for benefit claims. We use reinsurance and benefit designs, such as caps, to mitigate the exposure associated with GMDBs. We also use reinsurance in combination with product management actions, such as rider fee increases, investment restrictions and buyout offers, as well as derivative instruments to attempt to minimize the claim exposure and to reduce the volatility of net income associated with the GMWB liability. We remain liable for the guaranteed benefits in the event that reinsurers or derivative counterparties are unable or unwilling to pay, which could result in a need for additional capital to support in-force business.
From time to time, we may adjust our risk management program based on contracts in force, market conditions, or other factors. While we believe that these actions improve the efficiency of our risk management related to these benefits, changes to the risk management program may result in greater statutory and GAAP earnings volatility and, based upon the types of hedging instruments used, can result in potentially material charges to net income (loss) in periods of rising equity market pricing levels, higher interest rates and declines in volatility. We are also subject to the risk that these management actions prove ineffective or that unanticipated policyholder behavior, combined with adverse market events, produces economic losses beyond the scope of the risk management techniques employed, which individually or collectively may have a material adverse effect on our business, financial condition, results of operations and liquidity.
Unanticipated policyholder behavior, combined with adverse market events, may have a material adverse effect on our business, financial condition, results of operations and liquidity.
In general, policyholder behavior risk can be thought of as how efficiently policyholders are utilizing the options embedded within their contracts, especially during adverse market conditions when benefit guarantees are more likely to be more valuable.  These options may include but are not limited to lapses, the timing and/or amount of partial withdrawals, utilization of features available through withdrawal benefit riders, and utilization of investment options.  Unanticipated policyholder behavior, combined with adverse market events, may have a material adverse effect on our business, financial condition, results of operations and liquidity.

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Our payout annuity liabilities could prove to be inadequate if there are substantial medical improvements or other fundamental changes in the life expectancies of our annuitants.
Our payout annuity liabilities are calculated using assumptions for mortality rates and improvement rates in mortality. If there is a substantial medical breakthrough that materially changes the life expectancies of our annuitants, liability reserves for our payout annuities may prove to be inadequate, especially with respect to our terminal funding, single premium immediate annuities and structured settlements books of business. This change in future mortality rates could also impact our variable annuities with lifetime GMWBs.
Financial Strength, Credit and Counterparty Risks
The amount of statutory capital that we must hold to maintain our financial strength and credit ratings and meet other requirements can vary significantly from time to time and is sensitive to a number of factors outside of our control.
As a licensed insurance company, we are subject to statutory accounting standards and statutory capital and reserve requirements prescribed by insurance regulators and the National Association of Insurance Commissioners (“NAIC”). The minimum capital we must hold is based on risk-based capital (“RBC”) formulas for life companies. The RBC formula for life companies establishes capital requirements relating to insurance, business, asset and interest rate risks, including equity, interest rate and expense recovery risks.
In any particular year, statutory surplus amounts and RBC ratios may increase or decrease depending on a variety of factors, including:
the amount of statutory income or losses we generate,
changes to statutory liabilities,
changes in future cash flows,
the amount of additional capital we must hold,
the amount of dividends made to our parent company,
changes in equity market levels,
the value of certain fixed-income and equity securities in our investment portfolio,
the value of certain derivative instruments,
changes in interest rates,
changes to federal tax laws,
admissibility of deferred tax assets, and
changes to the NAIC RBC formulas.
Most of these factors are outside of the Company's control. The Company's financial strength and credit ratings are significantly influenced by our statutory surplus amounts and RBC ratios. In addition, rating agencies may implement changes to their internal models that have the effect of increasing the amount of statutory capital we must hold in order to maintain our current ratings. Also, in extreme scenarios of equity market declines and other capital market volatility, the amount of additional statutory reserves that we are required to hold for our variable annuity guarantees increases at a greater than linear rate. This reduces the statutory surplus used in calculating our RBC ratios. When equity markets increase, surplus levels and RBC ratios would generally be expected to increase. However, as a result of a number of factors and market conditions, including the level of hedging costs and other risk transfer activities, statutory reserve requirements for death and withdrawal benefit guarantees and increases in RBC requirements, surplus and RBC ratios may not increase when equity markets increase.
Moreover, the NAIC is considering modifications to several components of its risk-based capital formula, including C-1 factors for asset risk, C-2 factors for annuitant longevity risk, the C3 Phase 2 formula for variable annuities, and the C3 Phase 1 formula for fixed annuities. The details and timing of the implementation of these changes are uncertain, but should they be adopted, they are likely to increase the required capital for the Company.
The Company is also rated as a run-off operation, which translates into a lower rating than a similarly capitalized company not in run-off. If our statutory capital resources are insufficient to maintain a particular rating and if we were not to raise additional capital, either at its discretion or because it was unable to do so, our financial strength and credit ratings might be downgraded by one or more rating agencies. Downgrades below certain thresholds could trigger counterparty rights to require us to assign certain of our products to other carriers or to terminate reinsurance treaties. Downgrades in the Company's RBC ratio or downgrades in our financial strength or credit ratings below certain contractual thresholds could also result in additional collateral requirements on certain of our derivative instruments and counterparty rights to terminate derivative relationships, both of which could limit our ability to purchase additional derivative instruments. The occurrence of certain of these downgrade events could have an adverse material impact on the Company's results of operations, financial condition or liquidity.

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Losses due to nonperformance or defaults by counterparties can have a material adverse effect on the value of our investments, reduce our profitability or sources of liquidity.
We have credit risk with counterparties on investments, derivatives, premiums receivable and reinsurance recoverables. Among others, our counterparties include issuers of fixed maturity and equity securities we hold, borrowers of mortgage loans we hold, customers, trading counterparties, counterparties under swaps and other derivative contracts, reinsurers, clearing agents, exchanges, clearing houses and other financial intermediaries and guarantors. These counterparties may default on their obligations to us due to bankruptcy, insolvency, lack of liquidity, adverse economic conditions, operational failure, fraud, government intervention and other reasons. In addition, for exchange-traded derivatives, such as futures, options and "cleared" over-the-counter derivatives, the Company is generally exposed to the credit risk of the relevant central counterparty clearing house. Defaults by these counterparties on their obligations to us could have a material adverse effect on the value of our investments, business, financial condition, results of operations and liquidity. Additionally, if the underlying assets supporting the structured securities we invest in default on their payment obligations, our securities will incur losses.
The availability of reinsurance and our ability to recover under reinsurance contracts may not be sufficient to protect us against losses.
As an insurer, we frequently use reinsurance to reduce the effect of losses from businesses that can cause unfavorable results of operations. Under these reinsurance arrangements, other insurers assume a portion of our losses and related expenses; however, we remain liable as the direct insurer on all risks reinsured. Consequently, ceded reinsurance arrangements do not eliminate our obligation to pay claims, and we are subject to our reinsurers' credit risk with respect to our ability to recover amounts due from them. The inability or unwillingness of any reinsurer to meet its financial obligations to us, including the impact of any insolvency or rehabilitation proceedings involving a reinsurer that could affect the Company's access to collateral held in trust, could have a material adverse effect on our financial condition, results of operations and liquidity. This risk may be magnified by a concentration of reinsurance-related credit risk resulting from the sale of the Company’s Individual Life and Retirement Products businesses and the Annuity Reinsurance Agreement with Commonwealth. Further details of such concentration can be found in Part I, Item 2, MD&A - Enterprise Risk Management - Reinsurance Risk.
Further, due to the inherent uncertainties as to collection and the length of time before reinsurance recoverables will be due, it is possible that future adjustments to the Company’s reinsurance recoverables, net of the allowance for uncollectible reinsurance, could be required, which could have a material adverse effect on the Company’s consolidated results of operations or cash flows in a particular quarterly or annual period.
Our ability to declare and pay dividends is subject to limitations.
Connecticut state laws limit the payment of dividends and require notice to and approval by the state insurance commissioner for the declaration or payment of dividends above certain levels. As a result of the Talcott Resolution Sale Transaction, the Connecticut Department of Insurance ("CTDOI") would need to approve any declaration of dividends prior to May 31, 2020.
Dividends paid from our operations and that of our insurance subsidiaries are further dependent on each insurer’s cash requirements. In addition, in the event of our liquidation or reorganization or that of a subsidiary, prior creditor claims may take precedence over our parent’s right to a dividend or distribution except to the extent that our parent may be a creditor of ours or of one of our subsidiaries.
Risks Relating to Estimates, Assumptions and Valuations
Actual results could materially differ from the analytical models we use to assist our decision making in key areas such as capital management, hedging, and reserving.
We use models to help make decisions related to, among other things, capital management, reserving, investments, hedging, and reinsurance. Both proprietary and third party models we use incorporate numerous assumptions and forecasts about the future level and variability of interest rates, capital requirements, currency exchange rates, policyholder behavior, mortality/longevity, equity markets and inflation, among others. The models are subject to the inherent limitations of any statistical analysis as the historical internal and industry data and assumptions used in the models may not be indicative of what will happen in the future. Consequently, actual results may differ materially from our modeled results. The profitability and financial condition of the Company substantially depends on the extent to which our actual experience is consistent with assumptions we use in our models and ultimate model outputs. If, based upon these models or other factors, our estimates of capital adequacy or the risks we are exposed to prove to be materially inaccurate, our business, financial condition, results of operations or liquidity may be adversely affected.
The valuation of our securities and investments and the determination of allowances and impairments are highly subjective and based on methodologies, estimations and assumptions that are subject to differing interpretations and market conditions.
Estimated fair values of the Company’s investments are based on available market information and judgments about financial instruments, including estimates of the timing and amounts of expected future cash flows and the credit standing of the issuer or

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counterparty. During periods of market disruption, it may be difficult to value certain of our securities if trading becomes less frequent and/or market data becomes less observable. There may be certain asset classes that were in active markets with significant observable data that become illiquid due to the financial environment. In addition, there may be certain securities whose fair value is based on one or more unobservable inputs, even during normal market conditions. As a result, the determination of the fair values of these securities may include inputs and assumptions that require more estimation and management judgment and the use of complex valuation methodologies. These fair values may differ materially from the value at which the investments may be ultimately sold. Further, rapidly changing or unprecedented credit and equity market conditions could materially impact the valuation of securities and the period-to-period changes in value could vary significantly. Decreases in value could have a material adverse effect on our business, results of operations, financial condition and liquidity.
Similarly, management’s decision on whether to record an other-than-temporary impairment or write down is subject to significant judgments and assumptions regarding changes in general economic conditions, the issuer's financial condition or future recovery prospects, estimated future cash flows, the effects of changes in interest rates or credit spreads, the expected recovery period and the accuracy of third party information used in internal assessments. As a result, management’s evaluations and assessments are highly judgmental and its projections of future cash flows over the life of certain securities may ultimately prove incorrect as facts and circumstances change.
If assumptions used in estimating future gross profits differ from actual experience, we may be required to accelerate the amortization of the value of the business acquired (VOBA) and increase reserves for GMDB and GMWB on variable annuities, which could adversely affect our results of operation.
The Company has established VOBA associated with the expected future profits of its variable annuity products. This VOBA is amortized over the expected life of the variable annuity contracts. The remaining cost is referred to as the VOBA asset. We amortize these costs based on the ratio of actual gross profits in the period to the present value of current and future estimated gross profits (“EGPs”). The Company evaluates the EGPs compared to the VOBA asset to determine if an impairment exists. The Company also establishes reserves for GMDB and the life contingent portion of GMWB using components of EGPs. The projection of EGPs, or components of EGPs, requires the use of certain assumptions that may not prove accurate, including those related to the separate account fund returns, full or partial surrender rates, mortality, withdrawal benefit utilization, withdrawal rates, annuitization, policy maintenance expenses, and hedging costs.
In addition, if our assumptions about policyholder behavior (e.g., full or partial surrenders, benefit utilization and annuitization) and costs related to mitigating risks, including hedging costs, prove to be inaccurate or if significant or sustained equity market declines occur, we could be required to accelerate the amortization of VOBA related to variable annuity contracts, and increase reserves for GMDB and life-contingent GMWB which would result in a charge to net income.
If our businesses do not perform well, we may be required to establish a valuation allowance against the deferred income tax asset.
Our income tax expense may include deferred income taxes arising from temporary differences between the financial reporting and tax bases of assets and liabilities and carry-forwards for foreign tax credits, capital losses, and net operating losses. Deferred tax assets are assessed quarterly by management to determine if it is more likely than not that the deferred income tax assets will be realized. Factors in management's determination include the performance of the business, including the ability to generate, from a variety of sources and tax planning strategies, sufficient future taxable income and capital gains before net operating loss and capital loss carry-forwards expire. If based on available information, it is more likely than not that we are unable to recognize a full tax benefit on deferred tax assets, then a valuation allowance will be established with a corresponding charge to net income (loss). Charges to increase our valuation allowance could have a material adverse effect on our results of operations and financial condition.
Strategic and Operational Risks
The Company may be unsuccessful in separating our operations from those of our former parent in a timely and cost effective manner, which could negatively impact the financial condition and results of operation of the Company, and there may be opportunity costs associated with our separation from our former parent.
The Talcott Resolution Sale Transaction involves risks, including difficulties associated with the separation of our operations, services and personnel from our former parent and the stand-up of the Company as an independent entity (the “Separation”). There can be no certainty that all risks associated with the Separation are known or that management will be able to mitigate all such risks. Difficulties associated with the Separation may include expanding our infrastructure to support our operations, the diversion of management’s attention from our business, the potential loss of key employees, operational disruptions, regulatory scrutiny, greater reliance on third-party service providers, increased potential for a cybersecurity breach, and re-negotiation of service agreements, any of which could result in a material adverse effect to our financial condition, results of operations or cash flows.
In connection with the Talcott Resolution Sale Transaction, Talcott Resolution Life, Inc. ("TLI"), the Company's parent, has entered into a Transition Services Agreement (the “Transition Services Agreement”) with Hartford Fire Insurance Company (“HFIC”), a subsidiary

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of The Hartford, under which HFIC and its affiliates will provide certain services to TLI and its affiliates, including the Company. The services to be provided pursuant to the Transition Services Agreement include certain operational, information technology, compliance, communication and marketing, investment portfolio management, accounting and other services that HFIC will provide TLI for agreed-upon fees. If we are unsuccessful in expanding our infrastructure to the extent necessary to fully transition these services to the Company on a timely and cost efficient basis as part of our Separation, our results of operation and financial condition could be adversely impacted.
The Company has begun to make infrastructure investments in order to operate without the same access to The Hartford’s existing operational and administrative infrastructure; however, there can be no assurance that the Company will be able to establish and expand its operations and infrastructure to the desired extent or in the time or at the costs anticipated, or without disrupting our ongoing business operations in a material way. In addition, our business has benefited from The Hartford’s purchasing power when procuring goods and services. As a standalone company, the Company may be unable to obtain such goods and services at comparable prices or on terms as favorable as those obtained prior to the Talcott Resolution Sale Transaction, which could decrease our overall profitability.
Our businesses may suffer and we may incur substantial costs if we are unable to access our systems and safeguard the security of our data in the event of a disaster, cyber breach or other information security incident.
We use technology to process, store, retrieve, evaluate and utilize customer and company data and information. Our information technology and telecommunications systems, in turn, interface with and rely upon third-party systems. We and our third party vendors must be able to access our systems to process premium payments, make changes to existing policies, file and pay claims and administer life and annuity products, provide customer support, manage our investment portfolios and hedge programs, report on financial results and perform other necessary business functions.
Systems failures or outages could compromise our ability to perform these business functions in a timely manner, which could harm our ability to conduct business and hurt our relationships with our business partners and customers. In the event of a disaster such as a natural catastrophe, a pandemic, an industrial accident, a cyber-attack, a blackout, a terrorist attack (including conventional, nuclear, biological, chemical or radiological) or war, systems upon which we rely may be inaccessible to our employees, customers or business partners for an extended period of time. Even if our employees and business partners are able to report to work, they may be unable to perform their duties for an extended period of time if our data or systems used to conduct our business are disabled or destroyed.
Our systems have been, and will likely continue to be, subject to viruses or other malicious codes, unauthorized access, cyber-attacks or other computer related penetrations. The frequency and sophistication of such threats continue to increase as well. While, to date, the Company is not aware of having experienced a material breach of our cybersecurity systems, administrative and technical controls as well as other preventive actions may be insufficient to prevent physical and electronic break-ins, denial of service, cyber-attacks or other security breaches to our systems or those of third parties with whom we do business. Such an event could compromise our confidential information as well as that of our clients and third parties, impede or interrupt our business operations and result in other negative consequences, including remediation costs, loss of revenue, additional regulatory scrutiny and litigation and reputational damage. In addition, we routinely transmit to third parties personal, confidential and proprietary information, which may be related to employees and customers, by email and other electronic means, along with receiving and storing such information on our systems. Although we attempt to protect privileged and confidential information, we may be unable to secure the information in all events, especially with clients, vendors, service providers, counterparties and other third parties who may not have appropriate controls to protect confidential information.
Our businesses must comply with regulations to control the privacy of customer, employee and third party data, and state and federal regulations regarding data privacy are becoming increasingly more complex. A misuse or mishandling of confidential or proprietary information could result in legal liability, regulatory action and reputational harm.
Third parties, including third party administrators, are also subject to cyber-breaches of confidential information, along with the other risks outlined above, any one of which may result in our incurring substantial costs and other negative consequences, including a material adverse effect on our business, reputation, financial condition, results of operations and liquidity. While we maintain cyber liability insurance that provides both third party liability and first party insurance coverages, our insurance may not be sufficient to protect against all loss.
Performance problems due to outsourcing and other third-party relationships may compromise our ability to conduct business.
We outsource certain business and administrative functions and rely on third-party vendors to perform certain functions or provide certain services on our behalf and have a significant number of information technology and business processes outsourced with a single vendor. If we are unable to reach agreement in the negotiation of contracts or renewals with certain third-party providers, or if such third-party providers experience disruptions or do not perform as anticipated, we may be unable to meet our obligations to customers and claimants, and incur higher costs which may have a material adverse effect on our business and results of operations. For other risks associated with our outsourcing of certain functions, see the immediately preceding risk factor.

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The Company may pursue one or more transactions or take other actions, which may include pursuing strategic acquisitions or divestitures or other strategic initiatives, any of which could subject the Company to a number of challenges, uncertainties and risks or negatively impact the Company’s business, financial condition, results of operations or liquidity.
We may pursue one or more transactions or take other actions, which may include pursuing strategic acquisitions or divestitures or other strategic transactions. Because these transactions involve a number of challenges, uncertainties and risks, we may not be able to consummate any such transaction or, if concluded, achieve some or all of the benefits that we expected to derive from it. Pursuit of these initiatives may also, among other things, result in a loss of employees or clients, negatively affect policyholder behavior or result in potentially adverse capital, ratings or tax consequences. In addition, the completion of an acquisition may require use of our capital and may involve difficulty integrating acquired businesses into our existing operations. Moreover, completion of an acquisition, divestiture or other strategic initiative may require regulatory approvals or other third-party approvals, and such approvals may not be able to be obtained or may involve significant additional cost, time, regulatory capital commitments and other regulatory conditions and obligations. There can be no assurances that we will manage acquisitions and dispositions or other strategic initiatives successfully, that strategic opportunities will be available to us on acceptable terms or at all, or that we will be able to consummate desired transactions. As a result of any of the foregoing, our business, financial condition, results of operations and liquidity could be negatively impacted.
We may not be able to protect our intellectual property and may be subject to infringement claims.
We rely on a combination of contractual rights and copyright, trademark, patent and trade secret laws to establish and protect our intellectual property. Although we use a broad range of measures to protect our intellectual property rights, third parties may infringe or misappropriate our intellectual property. We may have to litigate to enforce and protect our intellectual property and to determine its scope, validity or enforceability, which could divert significant resources and may not prove successful. Litigation to enforce our intellectual property rights may not be successful and cost a lot of money. The inability to secure or enforce the protection of our intellectual property assets could harm our reputation and have a material adverse effect on our business and our ability to compete. We also may be subject to costly litigation in the event that another party alleges our operations or activities infringe upon their intellectual property rights, including patent rights, or violate license usage rights. Any such intellectual property claims and any resulting litigation could result in significant expense and liability for damages, and in some circumstances we could be enjoined from providing certain products or services to our customers, or utilizing and benefiting from certain patent, copyrights, trademarks, trade secrets or licenses, or alternatively could be required to enter into costly licensing arrangements with third parties, all of which could have a material adverse effect on our business, results of operations and financial condition.
Regulatory and Legal Risks
Regulatory and legislative developments could have a material adverse impact on our business, financial condition, results of operations and liquidity.
In the U.S., state and federal regulatory initiatives and legislative developments may significantly affect our operations in ways that we cannot predict.
The Company and its insurance subsidiaries are regulated by the insurance departments of the states in which we are domiciled, licensed or authorized to conduct business. As a result, we are subject to extensive laws and regulations that are complex, subject to change and often conflicting in their approach or intended outcomes. Compliance with these laws and regulations can increase costs. State regulations generally seek to protect the interests of policyholders rather than an insurer or the insurer’s shareholders and other investors. U.S. state laws grant insurance regulatory authorities broad administrative powers with respect to, among other things, licensing and authorizing lines of business, approving policy forms and premium rates, setting statutory capital and reserve requirements and limiting the types and amounts of certain investments. State insurance departments also set constraints on domestic insurer transactions with affiliates and dividends and, in many cases, must approve affiliate transactions and extraordinary dividends as well as strategic transactions such as acquisitions and divestitures.
In addition, future regulatory initiatives could be adopted at the federal or state level that could impact the profitability of our businesses. For example, the NAIC and state insurance regulators are continually reexamining existing laws and regulations, specifically focusing on modifications to statutory accounting principles, interpretations of existing laws and the development of new laws and regulations. The NAIC continues to enhance the U.S. system of insurance solvency regulation, with a particular focus on group supervision, risk-based capital, accounting and financial reporting, enterprise risk management and reinsurance. Any proposed or future legislation or NAIC initiatives, if adopted, may be more restrictive on our ability to conduct business than current regulatory requirements or may result in higher costs or increased statutory capital and reserve requirements. In addition, the Federal Reserve Board and the International Association of Insurance Supervisors ("IAIS") each have initiatives underway to develop insurance group capital standards. While the Company would not currently be subject to either of these capital standard regimes, it is possible that in the future, standards similar to what is being contemplated by the Federal Reserve Board or the IAIS could apply to the Company, with unclear implications. The NAIC is in the process of developing a U.S. group capital calculation that will employ a methodology based on aggregated risk-based capital with unclear implications.

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The Dodd-Frank Act was enacted on July 21, 2010, mandating changes to the regulation of the financial services industry that could adversely affect our financial condition and results of operations. The Dodd-Frank Act requires central clearing of certain derivatives transactions and greater margin requirements for those transactions, which increases the costs of our hedging program. The amount of collateral we may be required to pledge under our derivative transactions may increase as a result of a new requirement to pledge initial margin for uncleared OTC derivative transactions entered which will likely be applicable to us in September 2020. This would increase our costs and could adversely affect the liquidity of our investments and the composition of our investment portfolio. In addition, the proprietary trading and market making limitation of the Volcker Rule could adversely affect the pricing and liquidity of our investment securities and limitations of banking entity involvement in and ownership of certain asset-backed securities transactions could adversely affect the market for insurance-linked securities. It is unclear whether and to what extent Congress will make changes to the Dodd-Frank Act, and how those changes might impact us or our business, financial conditions, results of operations and liquidity.
There also continues to be an increase in the promulgation of laws relating to cybersecurity and data privacy at the state and federal level. See "Legislative and Regulatory Developments" under Item 7 "Capital Resources and Liquidity" in Part III. For example, New York's Cybersecurity Regulation, enacted in February 2017, places cybersecurity requirements upon all covered financial institutions, and each institution is required to sign a certificate of compliance annually. Other states have adopted similar cybersecurity requirements that apply to the Company. This trend in advanced cybersecurity requirements could have a negative impact on the Company, due to increased costs of implementation.
In addition, data privacy laws continue to be on the rise, with an ever increasing number of strict requirements. To illustrate, the California Consumer Privacy Act of 2018, slated to go into effect in 2020, creates numerous consumer rights, including, but not limited to, giving consumers the right to know what personal information is collected about them, whether such information is being sold and to whom and the right to access or delete such personal information. This rise in stricter privacy regulations, as well as the differences between each state’s laws, is costly to implement and non-compliance can result in material losses to Company, all of which could have a material negative impact on the Company's results of operations, liquidity and financial condition.
Further, a particular regulator or enforcement authority may interpret a legal, accounting, or reserving issue differently than we have, exposing us to different or additional regulatory risks. The application of these regulations and guidelines by insurers involves interpretations and judgments that may be challenged by state insurance departments. The result of those potential challenges could require us to increase levels of statutory capital and reserves or incur higher operating and/or tax costs.
Unfavorable judicial or legislative developments in claim litigation could adversely affect our results of operations or financial condition.
The Company is involved in litigation arising in the ordinary course of business related to products previously sold and is also involved in legal actions outside of the ordinary course, some of which assert claims for substantial amounts. Significant changes in the legal environment could cause our ultimate liabilities to change from our current expectations. Such changes could be judicial in nature, like trends in the size of jury awards and developments in the law relating to contractual rights and obligations of insurers.  Legislative developments, like changes in federal or state laws relating to the rights and obligations of insurers, could have a similar effect. It is impossible to forecast such changes reliably, much less to predict how they might affect our reserves. Thus, significant judicial or legislative developments could adversely affect the Company’s business, financial condition, results of operations and liquidity.
Changes in federal or state tax laws could adversely affect our business, financial condition, results of operations and liquidity.
Changes in federal or state tax laws and tax rates or regulations could have a material adverse effect on our profitability and financial condition. For example, the recent reduction in tax rates due to the Tax Cuts and Jobs Act reduced our deferred tax assets resulting in a charge against earnings. A reduction in tax rates or change in laws could adversely affect the Company’s value of deferred tax assets.
In the context of deficit reduction or overall tax reform, federal and/or state tax legislation could modify or eliminate provisions of current tax law that are beneficial to the Company, including the dividends received deduction, tax credits, and insurance reserve deductions, or could impose new taxes.
On December 22, 2017, the U.S. government enacted comprehensive tax reform legislation commonly referred to as the "Tax Cuts and Jobs Act" ("Tax Reform"). The exact impacts of many of the provisions will not be fully known until Treasury and the IRS provide clarification by issuing rules, regulations and advice. In response to the recent changes in the federal tax law, we could see states enact changes to their tax laws which, in turn, could affect the Company negatively.  Among other risks, there is risk that these additional clarifications could increase the taxes on the Company or further increase administrative costs.
Changes in accounting principles and financial reporting requirements could adversely affect our results of operations or financial condition.
As an SEC registrant, we are currently required to prepare our financial statements in accordance with U.S. GAAP, as promulgated by the Financial Accounting Standards Board ("FASB"). Accordingly, we are required to adopt new guidance or interpretations which may have a material effect on our results of operations and financial condition that is either unexpected or has a greater impact than expected.

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For a description of changes in accounting standards that are currently pending and, if known, our estimates of their expected impact, see Note 1 of the Consolidated Financial Statements.


17


Item 2.
PROPERTIES
The Company's principal executive offices are located in Windsor, Connecticut. In connection with the Talcott Resolution Sale Transaction, the Company sold its Windsor, Connecticut facility to The Hartford Financial Services Group, Inc. and leases approximately 65,000 square feet of office space. The Company believes its properties and facilities are suitable and adequate for current operations. For further discussion of this transaction, see Note 1 - Basis of Presentation and Significant Accounting Policies of Notes to Consolidated Financial Statements.
Item 3.
LEGAL PROCEEDINGS
Litigation
The Company is involved in claims litigation arising in the ordinary course of business with respect to group and individual life insurance products and annuity contracts. The Company accounts for such activity through the establishment of reserves for future policy benefits. Management expects that the ultimate liability, if any, with respect to such ordinary-course claims litigation, after consideration of provisions made for potential losses and costs of defense, will not be material to the consolidated financial condition, results of operations or cash flows of the Company.
The Company is, from time to time, also involved in other kinds of legal actions, some of which assert claims for substantial amounts. Such actions have alleged, for example, bad faith in the handling of insurance claims and improper sales practices in connection with the sale of insurance and investment products. Some of these actions also seek punitive damages. Management expects that the ultimate liability, if any, with respect to such lawsuits, after consideration of provisions made for estimated losses, will not be material to the consolidated financial condition of the Company. Nonetheless, given the large or indeterminate amounts sought in certain of these actions, and the inherent unpredictability of litigation, it is possible that an adverse outcome in certain matters could, from time to time, have a material adverse effect on the Company’s consolidated financial condition, results of operations or cash flows in particular quarterly or annual periods.
PART II
Item 5.
MARKET FOR TALCOTT RESOLUTION LIFE INSURANCE COMPANY’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
All of the Company’s outstanding shares are ultimately owned by Talcott Resolution Life, Inc. As of February 22, 2019, the Company had issued and outstanding 1,000 shares of common stock, $5,690 par value per share. There is no established public trading market for the Company’s common stock.
For a discussion regarding the Company’s payment of dividends, and the restrictions related thereto, see the Capital Resources and Liquidity section of Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") under “Dividends”.

18




Item 6.
SELECTED FINANCIAL DATA
The following table sets forth the Company's selected consolidated financial data at the dates and for the periods indicated below. The selected financial data should be read in conjunction with MD&A presented in Item 7 and the Company's Consolidated Financial Statements and the related Notes beginning on page F-1.
 
Successor Company
Predecessor Company
 
June 1, 2018 to December 31, 2018
January 1, 2018
to
May 31, 2018
For the Years Ended December 31,
($ In millions)
2017
2016
2015
2014
Income Statement Data
 
 
 
 
 
 
Total revenues [1]
1,222

836

2,232

2,382

2,499

3,362

Net income (loss) [2]
409

94

(46
)
282

500

676

[1]
The decline in Total revenues is primarily driven by lower fees and lower NII due to the continued run off of the business.
[2]
Net income (loss) is driven by the impacts to Total revenues as well as impacts from DAC/VOBA unlocks and Tax Reform in 2017.
 
Successor Company
Predecessor Company
 
As of
December 31, 2018
As of December 31,
($ In millions)
2017
2016
2015
2014
Balance Sheet Data
 
 
 
 
 
Total assets [3]
150,146

168,732

170,346

175,350

191,775

Total stockholder's equity [4]
2,005

6,680

7,821

8,162

9,291

[3]
The decline in Total assets is primarily driven by the continued run off of the business and the Commonwealth Annuity Reinsurance Agreement entered into on June 1, 2018.
[4]
Total stockholder's equity declined due to the application of pushdown accounting related to the Talcott Resolution Sale Transaction and the continued run off of the business.
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollar amounts in millions unless otherwise stated)
The MD&A addresses the financial condition of Talcott Resolution Life Insurance Company and its subsidiaries (“TL” or the “Company”) as of and for the year ended December 31, 2018 "Successor Company" along with the reporting periods ending May 31, 2018 and the 2017 and 2016 periods "Predecessor Company". This discussion should be read in conjunction with the Consolidated Financial Statements and related Notes beginning on page F-1. Certain reclassifications have been made to prior year financial information to conform to the current year presentation.
INDEX

19


CONSOLIDATED RESULTS OF OPERATIONS
Operating Summary
 
Successor Company
Predecessor Company
 
June 1, 2018 to December 31, 2018
January 1, 2018 to May 31, 2018
For the Year Ended December 31, 2017
For the Year Ended December 31, 2016
Fee income and other
$
502

$
381

$
906

$
969

Earned premiums
31

42

105

203

Net investment income
509

520

1,281

1,373

Net realized capital gains (losses)
142

(107
)
(60
)
(163
)
Amortization of deferred reinsurance gain
38




Total revenues
1,222

836

2,232

2,382

Benefits, losses and loss adjustment expenses
415

534

1,406

1,437

Amortization of deferred policy acquisition costs ("DAC") and value of business acquired ("VOBA")
98

16

48

114

Insurance operating costs and other expenses
235

183

400

472

Other intangible asset amortization
4




Dividends to policyholders
2

2

2

3

Total benefits, losses and expenses
754

735

1,856

2,026

Income before income taxes
468

101

376

356

Income tax expense [1]
59

7

422

74

Net income (loss)
$
409

$
94

$
(46
)
$
282

[1]
The effective tax rate differs from the U.S. statutory rate of 21% in 2018 and 35% in 2017 and 2016, respectively, primarily due to the separate account dividends received deduction ("DRD"). For a reconciliation of the income tax provision at the U.S. Federal statutory rate to the provision for income taxes, see Note 10 - Income Taxes of Notes to Consolidated Financial Statements.
For the period of June 1, 2018 to December 31, 2018 (Successor Company)
Net income was primarily driven by fee income and other as well as net investment income and net realized capital gains due to macro hedge program gains partially offset by benefits, losses and loss adjustment expenses, amortization of VOBA and insurance operating costs and other expenses.
Fee income and other for the period continued to decline due to the run off of the variable annuity block of business. Net investment income was primarily impacted by lower income from fixed maturities driven by lower asset levels due to the reinsurance agreement that the Company entered into with Commonwealth as well as the continued run off of the Company's business, partially offset by an increase in income from limited partnerships and other alternative investments. Amortization of VOBA increased due to macro hedge program gains. Insurance operating costs and other expenses include separation, stand-up and reinsurance related costs which were partially offset by the amortization of the deferred gain on the Commonwealth Annuity Reinsurance Agreement.
For the period of January 1, 2018 to May 31, 2018 (Predecessor Company)
Net income was primarily driven by net investment income and fee income and other, partially offset by benefits, losses and loss adjustment expenses and insurance operating costs and other expenses and net realized capital losses.
Fee income and insurance operating costs and other expenses for the period continued to decline due to the run off of the variable annuity block of business. Net investment income was primarily impacted by lower income from fixed maturities driven by lower asset levels, partially offset by an increase in income from limited partnerships and other alternative investments. Net realized capital losses were primarily driven by losses on sales including the transfer of property recognized in connection with the May 31, 2018 sale of the Company as well as hedge program losses.

20


For the year ended December 31, 2017 compared to the year ended December 31, 2016 (Predecessor Company)
The decrease in net income was primarily due to a charge to income tax expense of $396 arising from the reduction of net deferred tax assets due to the enactment of lower Federal income tax rates, partially offset by a decline in net realized capital losses. The effect of lower amortization of deferred policy acquisition costs, lower benefits, losses and loss adjustment expenses, and lower insurance operating costs and other expenses, was offset by lower earned premiums and lower fee income and other.
Fee income, earned premiums, and insurance operating costs and other expenses decreased primarily due to the continued run off of the variable annuity block of business.
Benefits, losses and loss adjustment expenses decreased due to lower death benefits and interest credited primarily due to the continued run off of the variable annuity block of business.
The decrease in DAC amortization was primarily driven by the effect of a favorable unlock in 2017 compared to an unfavorable unlock in 2016. For further discussion of the unlock, see MD&A - Estimated Gross Profits.
Total net investment income decreased primarily due to lower asset levels as well as lower income received from previously impaired securities. For further discussion, see MD&A - Investments Results, Net Investment Income.
Net realized capital losses decreased primarily due to the effect of transactional foreign currency revaluation, higher net gains on sales and lower impairments, partially offset by greater losses on non-qualifying foreign currency derivatives and the variable annuity hedge program. For further information, see MD&A - Investment Results, Net Realized Capital Gains (Losses).
Insurance operating costs and expenses decreased largely due to the run off of the business requiring less staff and other operating expenses.

21


INVESTMENT RESULTS
Composition of Invested Assets
 
Successor Company
Predecessor Company
 
December 31, 2018
December 31, 2017
 
Amount
Percent
Amount
Percent
Fixed maturities, available-for-sale ("AFS"), at fair value
$
13,839

71.2
%
$
22,799

77.0
%
Fixed maturities, at fair value using the fair value option ("FVO")
12

0.1
%
32

0.1
%
Equity securities, at fair value [1]
116

0.6
%

%
Equity securities, AFS, at fair value

%
154

0.5
%
Mortgage loans
2,100

10.8
%
2,872

9.7
%
Policy loans, at outstanding balance
1,441

7.4
%
1,432

4.9
%
Limited partnerships and other alternative investments
894

4.6
%
1,001

3.4
%
Other investments [2]
201

1.0
%
213

0.7
%
Short-term investments
844

4.3
%
1,094

3.7
%
Total investments
$
19,447

100
%
$
29,597

100
%
[1]
Effective January 1, 2018, with the adoption of new accounting standards for financial instruments, equity securities, AFS were reclassified to equity securities at fair value.
[2]
Primarily relates to derivative instruments.
Total investments decreased since December 31, 2017 (Predecessor Company), primarily as a result of reinsurance agreements to reinsure certain fixed immediate and deferred annuity contracts, standard mortality structured settlements and period certain structured settlement annuity contracts to Commonwealth as well as the continued run off of the Company's business. The aggregate amount of invested assets that the Company transferred to the reinsurer or sold to fund the Commonwealth Annuity Reinsurance Agreement was approximately $8.5 billion.
Net Investment Income
 
Successor Company
Predecessor Company
 
 
June 1, 2018 to December 31, 2018
January 1, 2018 to May 31, 2018
For the years ended December 31,
 
2017
2016
(Before-tax)
Amount
Yield [1]
Amount
Yield [1]
Amount
Yield [1]
Amount
Yield [1]
Fixed maturities [2]
$
343

4.0
%
$
395

4.6
%
$
995

4.5
%
$
1,049

4.6
%
Equity securities
9

7.7
%
4

4.3
%
9

3.8
%
8

3.7
%
Mortgage loans
49

4.1
%
54

4.5
%
124

4.4
%
135

4.7
%
Policy loans
48

5.7
%
32

5.3
%
79

5.5
%
83

5.8
%
Limited partnerships and other alternative investments
67

13.7
%
41

10.4
%
75

8.3
%
86

8.3
%
Other [3]
11

 
13

 
54

 
64

 
Investment expense
(18
)
 
(19
)
 
(55
)
 
(52
)
 
Total net investment income
$
509

4.5
%
$
520

4.7
%
$
1,281

4.5
%
$
1,373

4.6
%
Total net investment income excluding limited partnerships and other alternative investments
$
442

4.1
%
$
479

4.5
%
$
1,206

4.4
%
$
1,287

4.5
%
[1]
Yields calculated using annualized net investment income divided by the monthly average invested assets at amortized cost as applicable, excluding repurchase agreement and securities lending collateral, if any, and derivatives book value.
[2]
Includes net investment income on short-term investments.
[3]
For the period of June 1, 2018 to December 31, 2018, includes dividends received from seed money investments in Hartford funds and other business which is reinsured. For the period of January 1, 2018 to May 31, 2018 (Predecessor Company) and for the years ended December 31, 2017 and 2016 (Predecessor Company), primarily includes income from derivatives that qualify for hedge accounting and hedge fixed maturities.

22




For the period June 1, 2018 to December 31, 2018 (Successor Company)
Total net investment income for the period of June 1, 2018 to December 31, 2018 was $509. Total net investment income was primarily impacted by lower income from fixed maturities driven by lower asset levels due to the Commonwealth Annuity Reinsurance Agreement that the Company entered into as well as the continued run off of the Company's business.
The annualized net investment income yield, excluding limited partnerships and other alternative investments, was 4.1% for the period of June 1, 2018 to December 31, 2018. Excluding make-whole payments on fixed maturities and mortgage loan pre-payments, the annualized investment income yield, excluding limited partnerships and other alternative investments, was 4.1% for the same period.
The new money yield for the period of June 1, 2018 to December 31, 2018, excluding certain U.S. Treasury securities and cash equivalent securities, was approximately 4.3%, which was above the average yield of sales and maturities of 3.9% for the same period due to higher interest rates.
We expect the annualized net investment income yield in 2019, excluding limited partnerships and other alternative investments, to be slightly higher than the portfolio yield earned for the period June 1, 2018 to December 31, 2018 due to higher reinvestment rates. The estimated impact on net investment income is subject to change as the composition of the portfolio changes through portfolio management and trading activities and changes in market conditions.
For the period January 1, 2018 to May 31, 2018 (Predecessor Company)
Total net investment income for the period of January 1, 2018 to May 31, 2018 was $520. Total net investment income was primarily impacted by lower income from fixed maturities driven by lower asset levels, partially offset by an increase in income from limited partnerships and other alternative investments.
The annualized net investment income yield, excluding limited partnerships and other alternative investments, was 4.5% for the period. Excluding non-routine items, which primarily include make-whole payments on fixed maturities and mortgage loan pre-payments, the annualized investment income yield, excluding limited partnerships and other alternative investments, was 4.4%.
The new money yield for the period, excluding certain U.S. Treasury securities and cash equivalent securities, was approximately 4.3%, which was above the average yield of sales and maturities of 3.9% for the same period due to higher interest rates.
Year ended December 31, 2017 (Predecessor Company), compared to the year ended December 31, 2016 (Predecessor Company)
Total net investment income for the years ended December 31, 2017 and 2016 was $1,281 and $1,373, respectively. Total net investment income decreased primarily due to lower asset levels as well as lower income received from previously impaired securities.
The annualized net investment income yield, excluding limited partnerships and other alternative investments, decreased slightly to 4.4% in 2017, versus 4.5% in 2016. The decrease was primarily attributable to lower income from previously impaired securities as well as lower make-whole payment income on fixed maturities and prepayment penalties on mortgage loans.
The new money yield, excluding certain U.S. Treasury securities and cash equivalent securities, for the year ended December 31, 2017 was approximately 3.6%, which was below the average yield of sales and maturities of 3.8% for the same period. For the year ended December 31, 2017, the new money yield of 3.6% increased slightly from 3.5% in 2016 largely due to a slight increase in interest rates.

23




Net Realized Capital Gains (Losses)
 
Successor Company
Predecessor Company
 
 
June 1, 2018
to
December 31, 2018

January 1, 2018 to May 31, 2018
For the years ended December 31,
(Before-tax)
2017
2016
Gross gains on sales
$
12

$
49

$
226

$
211

Gross losses on sales
(38
)
(112
)
(58
)
(93
)
Equity securities [1]
(21
)
2



Net OTTI losses recognized in earnings
(7
)

(14
)
(28
)
Valuation allowances on mortgage loans
(5
)

2


Results of variable annuity hedge program
 


 
GMWB derivatives, net
12

12

48

(38
)
Macro hedge program
153

(36
)
(260
)
(163
)
Total results of variable annuity hedge program
165

(24
)
(212
)
(201
)
Transactional foreign currency revaluation
9

(6
)
(1
)
(70
)
Non-qualifying foreign currency derivatives
(10
)
7

(5
)
57

Other, net [2]
37

(23
)
2

(39
)
Net realized capital gains (losses)
$
142

$
(107
)
$
(60
)
$
(163
)
[1]
Effective January 1, 2018, with adoption of new accounting standards for equity securities, includes all changes in fair value and trading gains and losses for equity securities at fair value.
[2]
Primarily consists of changes in value of non-qualifying derivatives, including credit derivatives, interest rate derivatives used to manage duration, and embedded derivatives associated with modified coinsurance reinsurance contracts.
Gross Gains and Losses on Sales
Gross gains and losses on sales for the period of June 1, 2018 to December 31, 2018 (Successor Company) resulted from duration, liquidity and credit management within corporate and U.S. Treasury securities.
Gross gains and losses on sales for the period of January 1, 2018 to May 31, 2018 (Predecessor Company) were primarily the result of sales of fixed maturities, AFS executed in order to fund the Commonwealth Annuity Reinsurance Agreement. Gross gains and losses on sales also resulted from duration, liquidity and credit management within corporate and U.S. Treasury securities. In addition, gross losses on sales include the transfer of property recognized in connection with the May 31, 2018 sale of the Company.
Gross gains and losses on sales were primarily the result of duration, liquidity and credit management within corporate securities, equity securities and U.S. Treasury securities for the years ended December 31, 2017 (Predecessor Company) and December 31, 2016 (Predecessor Company), respectively.
Variable Annuity Hedge Program
For the period of June 1, 2018 to December 31, 2018 (Successor Company), gains on the variable annuity hedge program included gains related to the macro hedge program of $134 driven by declines in the domestic equity markets, gains of $35 driven by an increase in equity market volatility, and gains of $34 due to a decrease in interest rates, partially offset by losses of $52 driven by time decay of options. The gains on the combined GMWB derivatives, net, which include the GMWB product, reinsurance, and hedging derivatives, are primarily due to non-market factors.
For the period of January 1, 2018 to May 31, 2018 (Predecessor Company), losses on the variable annuity hedge program included losses related to the macro hedge program primarily due to losses of $33 driven by time decay on options and losses of $8 driven by an increase in domestic equity markets, partially offset by gains of $7 related to a increase in equity market volatility. These losses were partially offset by gains on the combined GMWB derivative, net which include the GMWB product, reinsurance and hedging derivatives was primarily due to a increase in volatility of $3 and policy holder behavior of $3, as well as an increase in interest rates of $2.

24




For the year ended December 31, 2017 (Predecessor Company), losses on the variable annuity hedge program included losses related to the macro hedge program primarily due to losses of $180 driven by improvements in the equity markets and $85 driven by time decay of options. These losses were partially offset by gains on the combined GMWB derivatives, net, which include the GMWB product, reinsurance, and hedging derivatives, primarily due to gains of $25 driven by time decay of options, $20 due to a decline in the equity market volatility and $20 due to policyholder behavior.
For the year ended December 31, 2016 (Predecessor Company), the loss related to the combined GMWB derivatives, net, which include the GMWB product, reinsurance, and hedging derivatives, was primarily driven by losses of $53 due to liability/model assumption updates, $22 due to the effect of increases in equity markets and losses of $12 resulting from regression updates and other changes, partially offset by gains of $40 resulting from policyholder behavior and $29 related to an outperformance of the underlying actively managed funds compared to their respective indices. The macro hedge program loss was primarily due to a loss of $96 due to an increase in equity markets and a loss of $58 driven by time decay on options.
Other, net
Other, net gains for the period of June 1, 2018 to December 31, 2018 (Successor Company), was primarily due to gains on interest rate derivatives due to a decrease in interest rates.
Other, net losses for the period of January 1, 2018 to May 31, 2018 (Predecessor Company) were primarily due to losses on interest rate derivatives partially offset by gains associated with modified coinsurance reinsurance contracts, both driven by an increase in interest rates. Modified coinsurance reinsurance contracts are accounted for as embedded derivatives and transfer to the reinsurer the investment experience related to the assets supporting the reinsured policies.
Other, net loss for the year ended December 31, 2016, was primarily due to losses of $17 on interest rate derivatives and losses of $13 related to equity derivatives which were hedging against a decline in the equity market on the investment portfolio.

25


CRITICAL ACCOUNTING ESTIMATES
The preparation of financial statements, in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”), 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 and expenses during the reporting period. Actual results could differ, and in the past have differed, from those estimates.
The Company has identified the following estimates as critical in that they involve a higher degree of judgment and are subject to a significant degree of variability:
estimated gross profits used in the valuation and amortization of assets (including VOBA) and liabilities associated with variable annuity and other universal life-type contracts;
deferred gain on reinsurance;
living benefits required to be fair valued (in other policyholder funds and benefits payable);
valuation of investments and derivative instruments including evaluation of other-than-temporary impairments on available-for-sale securities and valuation allowances on mortgage loans;
valuation allowance on deferred tax assets; and
contingencies relating to corporate litigation and regulatory matters.
Certain of these estimates are particularly sensitive to market conditions, and deterioration and/or volatility in the worldwide debt or equity markets could have a material impact on the Consolidated Financial Statements. In developing these estimates management makes subjective and complex judgments that are inherently uncertain and subject to material change as facts and circumstances develop. Although variability is inherent in these estimates, management believes the amounts provided are appropriate based upon the facts available upon compilation of the financial statements.
Estimated Gross Profits
Estimated gross profits (“EGPs”) are used in the valuation and amortization of the VOBA (Successor Company) and DAC (Predecessor Company) assets. Portions of EGPs are also used in the valuation of reserves for death and other insurance benefit features on variable annuity and other universal life-type contracts.
Significant EGP-based Balances
 
Successor Company
Predecessor Company
 
As of December 31, 2018
As of December 31, 2017
DAC [1]
$

$
405

VOBA [1]
$
716

$

Death and Other Insurance Benefit Reserves, net of reinsurance [2]
$
178

$
409

[1]
For additional information on DAC and VOBA, see Note 6 - Deferred Policy Acquisition Costs and Value of Business Acquired of Notes to Consolidated Financial Statements.
[2]
For additional information on death and other insurance benefit reserves, see Note 7 - Reserves for Future Policy Benefits and Separate Account Liabilities of Notes to Consolidated Financial Statements.

26


Benefit (Charge) to Income, Net of Tax, as a Result of Unlock [1]
 
Successor Company
Predecessor Company
 
June 1, 2018 to December 31, 2018
January 1, 2018 to
May 31, 2018
For the Years Ended December 31,
 
2017
2016
DAC
$

$
(3
)
$
2

$
(74
)
VOBA
(19
)



Death and Other Insurance Benefit Reserves
7


(20
)
14

Total (pre-tax)
(12
)
(3
)
(18
)
(60
)
Income tax effect
(3
)
(1
)
(7
)
(21
)
Total (after-tax)
$
(9
)
$
(2
)
$
(11
)
$
(39
)
[1]
For further information, see Note 1 - Basis of Presentation and Significant Accounting Policies and Note 6 - Deferred Policy Acquisition Costs and Value of Business Acquired of Notes to Consolidated Financial Statements.
The Unlock benefit (charge) in the table above includes both assumption unlocks and market unlocks.
Successor Company
The Unlock charge, after-tax, for the period of June 1, 2018 to December 31, 2018 was primarily related to modifying the reversion-to-mean ("RTM") separate account return assumption to consider returns since May 31, 2018, rather than March 31, 2009 as well as the annual assumption updates associated with the macro hedge program and expense assumptions. For further discussion on RTM assumptions, please see the Market Unlocks section below. For further information regarding the elimination of DAC and the establishment of VOBA during pushdown accounting, see Note 1 - Basis of Presentation and Significant Accounting Policies and Note 6 - Deferred Policy Acquisition Costs and Value of Business Acquired of Notes to Consolidated Financial Statements.
Predecessor Company
The Unlock charge, after-tax, for the period of January 1, 2018 to May 31, 2018 was primarily due to separate account returns being below our aggregated estimated returns during the period largely due to a decrease in equity markets.
The Unlock charge, after-tax, for the year ended December 31, 2017 was primarily due to updates to the macro hedging program cost assumption to reflect 2017 activity, and the effect of updates for variable annuities, including a reduction to the assumed general account investment rates, largely offset by separate account returns being above our aggregated estimated returns during the period.
The Unlock charge, after-tax, for the year ended December 31, 2016 was primarily due to the reduction of the fixed annuity DAC balance to zero, updates to the macro hedging program cost to reflect 2016 activity, and the effect of assumption updates for variable annuities, including to mortality. These impacts were partially offset by separate account returns being above our aggregated estimated returns during the period, largely due to an increase in equity markets, as well as the effect of reducing the assumption about expected future lapses of variable annuities.
Use of Estimated Gross Profits in Amortization and Reserving
For variable annuity contracts, the Company estimates gross profits over 20 years as EGPs emerging subsequent to that time frame are immaterial. Future gross profits are projected over the estimated lives of the underlying contracts, based on future account value projections for variable annuity products. The projection of future account values requires the use of certain assumptions including: separate account returns; separate account fund mix; fees assessed against the contract holder’s account balance; full and partial surrender rates; interest credited; mortality; and annuitization rates. Changes in these assumptions and changes to other assumptions such as expenses and hedging costs cause EGPs to fluctuate, which impacts earnings.
The Company determines EGPs using a set of stochastic RTM separate account return projections which is an estimation technique commonly used by insurance entities to project future separate account returns. Through this estimation technique, the Company’s model is adjusted to reflect actual market performance at the end of each quarter. Through consideration of recent market returns, the Company will unlock, or adjust, projected returns over a future period so that the account value returns to the long-term expected rate of return, providing that those projected returns do not exceed certain caps.
Annual Unlock of Assumptions
In the fourth quarter of 2018, the Company completed a comprehensive policyholder behavior assumption study which resulted in a non-market related after-tax charge of $15 and incorporated the results of that study into its projection of future gross profits. Additionally, throughout the year, the Company evaluates various aspects of policyholder behavior and will revise its policyholder assumptions if credible emerging data indicates that changes are warranted. The Company will continue to evaluate its assumptions related to

27


policyholder behavior as initiatives to reduce the size of the annuity business are implemented by management. Upon completion of an annual assumption study or evaluation of credible new information, the Company will revise its assumptions to reflect its current best estimate. These assumption revisions will change the projected account values and the related EGPs in the VOBA amortization models, as well as the death and other insurance benefit reserving model.
All assumption changes that affect the estimate of future EGPs including: the update of current account values; the use of the RTM estimation technique; and policyholder behavior assumptions are considered an Unlock in the period of revision. An Unlock adjusts VOBA and death and other insurance benefit reserve balances in the Consolidated Balance Sheets with an offsetting benefit or charge in the Consolidated Statements of Operations in the period of the revision. An Unlock that results in an after-tax benefit generally occurs as a result of actual experience or future expectations of product profitability being favorable compared to previous estimates. An Unlock that results in an after-tax charge generally occurs as a result of actual experience or future expectations of product profitability being unfavorable compared to previous estimates.
EGPs are also used to determine the expected excess benefits and assessments included in the measurement of death and other insurance benefit reserves. The determination of death and other insurance benefit reserves is also impacted by discount rates, lapses, volatilities, mortality assumptions and benefit utilization, including assumptions of annuitization rates.
Market Unlocks
In addition to updating assumptions in the fourth quarter of each year, an Unlock revises EGPs, on a quarterly basis, to reflect the Company’s current best estimate assumptions and market updates of policyholder account value. The Unlock for future separate account returns is determined each quarter. Under RTM, the expected long term rate of return is 8.3%. The annual return assumed over the next five years of approximately 10.5% was calculated based on the return needed over that period to produce an 8.3% return since the date VOBA was established in pushdown accounting, May 31, 2018. Based on the expected trend of policy lapses and annuitizations, the Company expects approximately 40% of its block of variable annuities to run off in the next 5 years.
Aggregate Recoverability
After each quarterly Unlock, the Company also tests the aggregate recoverability of VOBA by comparing the VOBA balance to the present value of future EGPs. The margin between the VOBA balance and the present value of future EGPs for variable annuities was 66% as of December 31, 2018 (Successor Company). If the margin between the VOBA asset and the present value of future EGPs is exhausted, then further reductions in EGPs would cause portions of VOBA to be unrecoverable and the VOBA asset would be written down to equal future EGPs.
Accounting for Amortization of Deferred Gain on Reinsurance Contracts
A deferred gain was recorded in Other liabilities on the Consolidated Balance Sheet related to the Commonwealth Annuity Reinsurance Agreement. This gain was calculated based on the underlying contract values adjusted to fair value in pushdown accounting. The deferred gain will be amortized into income over the life of the underlying policies reinsured.
Living Benefits Required to be Fair Valued
Fair values for GMWBs classified as embedded derivatives and included in other policyholder funds and benefits payable, are calculated using the income approach based upon internally developed models, because active, observable markets do not exist for those items. The fair value of these GMWBs and the related reinsurance and customized freestanding derivatives are calculated as an aggregation of the following components: Best Estimate Claim Payments; Credit Standing Adjustment; and Margins. The resulting aggregation is reconciled or calibrated, if necessary, to market information that is, or may be, available to the Company, but may not be observable by other market participants, including reinsurance discussions and transactions. The Company believes the aggregation of these components, as calibrated to the market information, results in an amount that the Company would be required to transfer to or receive from market participants in an active liquid market, if one existed, for those market participants to assume the risks associated with the guaranteed minimum benefits and the related reinsurance and customized derivatives. The fair value is likely to materially diverge from the ultimate settlement of the liability as the Company believes settlement will be based on our best estimate assumptions rather than those best estimate assumptions plus risk margins. In the absence of any transfer of the guaranteed benefit liability to a third party, the release of risk margins is likely to be reflected as realized gains in future periods’ net income.
A multidisciplinary group of finance, actuarial and risk management professionals reviews and approves changes to the Company's valuation model as well as associated controls.
For further discussion on the impact of fair value changes from living benefits see Note 2 - Fair Value Measurements of Notes to the Consolidated Financial Statements, and for a discussion on the sensitivities of certain living benefits due to capital market factors see Part II, Item 7, MD&A - Variable Product Guarantee Risks and Risk Management.

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Valuation of Investments and Derivative Instruments
Fixed Maturities, Equity Securities, Short-term Investments and Free-standing Derivatives
The Company generally determines fair values using valuation techniques that use prices, rates, and other relevant information evident from market transactions involving identical or similar instruments. Valuation techniques also include, where appropriate, estimates of future cash flows that are converted into a single discounted amount using current market expectations. The Company uses a "waterfall" approach comprised of the following pricing sources which are listed in priority order: quoted prices, prices from third-party pricing services, internal matrix pricing, and independent broker quotes. The fair value of free-standing derivative instruments is determined primarily using a discounted cash flow model or option model technique and incorporates counterparty credit risk. In some cases, quoted market prices for exchange-traded transactions and transactions cleared through central clearing houses ("OTC-cleared") may be used and in other cases independent broker quotes may be used. For further discussion, see the Fixed Maturities, Equity Securities, Short-term Investments and Free-standing Derivatives section in Note 2 - Fair Value Measurements of Notes to Consolidated Financial Statements. For further discussion on the GMWB customized derivative valuation methodology, see the GMWB Embedded, Customized and Reinsurance Derivatives section in Note 2 - Fair Value Measurements of Notes to Consolidated Financial Statements.
Evaluation of Other-Than-Temporary Impairments on Available-for-Sale Securities and Valuation Allowances on Mortgage Loans
Each quarter, a committee of investment and accounting professionals evaluates investments to determine if an other-than-temporary impairment (“impairment”) is present for AFS securities or a valuation allowance is required for mortgage loans. This evaluation is a quantitative and qualitative process, which is subject to risks and uncertainties. For further discussion of the accounting policies, see Note 1 - Basis of Presentation and Significant Accounting Policies of Notes to Consolidated Financial Statements. For a discussion of impairments recorded, see the Other-Than-Temporary Impairments within the Investment Portfolio Risks and Risk Management section of the MD&A.
Valuation Allowance on Deferred Tax Assets
Deferred tax assets represent the tax benefit of future deductible temporary differences and tax credit carryforwards. Deferred tax assets are measured using the enacted tax rates expected to be in effect when such benefits are realized if there is no change in tax law. Under U.S. GAAP, we test the value of deferred tax assets for impairment on a quarterly basis at the entity level within each tax jurisdiction, consistent with our filed tax returns. Deferred tax assets are reduced by a valuation allowance if, based on the weight of available evidence, it is more likely than not that some portion, or all, of the deferred tax assets will not be realized. The determination of the valuation allowance for our deferred tax assets requires management to make certain judgments and assumptions. In evaluating the ability to recover deferred tax assets, we have considered all available evidence as of December 31, 2018 including past operating results, forecasted earnings, future taxable income, and prudent and feasible tax planning strategies. In the event we determine it is more likely than not that we will not be able to realize all or part of our deferred tax assets in the future, an increase to the valuation allowance would be charged to earnings in the period such determination is made. Likewise, if it is later determined that it is more likely than not that those deferred tax assets would be realized, the previously provided valuation allowance would be reversed. Our judgments and assumptions are subject to change given the inherent uncertainty in predicting future performance and specific industry and investment market conditions.
As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the Company had no valuation allowance. In assessing the need for a valuation allowance, management considered future taxable temporary difference reversals, future taxable income exclusive of reversing temporary differences and carryovers, taxable income in open carry back years and other tax planning strategies. From time to time, tax planning strategies could include holding a portion of debt securities with market value losses until recovery, making investments which have specific tax characteristics, and business considerations such as asset-liability matching. Management views such tax planning strategies as prudent and feasible and would implement them, if necessary, to realize the deferred tax assets.
Contingencies Relating to Corporate Litigation and Regulatory Matters
Management evaluates each contingent matter separately. A loss is recorded if probable and reasonably estimable. Management establishes reserves for these contingencies at its “best estimate,” or, if no one number within the range of possible losses is more probable than any other, the Company records an estimated reserve at the low end of the range of losses.

29




The Company has a quarterly monitoring process involving legal and accounting professionals. Legal personnel first identify outstanding corporate litigation and regulatory matters posing a reasonable possibility of loss. These matters are then jointly reviewed by accounting and legal personnel to evaluate the facts and changes since the last review in order to determine if a provision for loss should be recorded or adjusted, the amount that should be recorded, and the appropriate disclosure. The outcomes of certain contingencies currently being evaluated by the Company, which relate to corporate litigation and regulatory matters, are inherently difficult to predict, and the reserves that have been established for the estimated settlement amounts are subject to significant changes. Management expects that the ultimate liability, if any, with respect to such lawsuits, after consideration of provisions made for estimated losses, will not be material to the consolidated financial condition of the Company. In view of the uncertainties regarding the outcome of these matters, as well as the tax-deductibility of payments, it is possible that the ultimate cost to the Company of these matters could exceed the reserve by an amount that would have a material adverse effect on the Company’s consolidated results of operations and liquidity in a particular quarterly or annual period.

30


ENTERPRISE RISK MANAGEMENT
The Company’s Board of Directors (“the Board”) has ultimate responsibility for risk oversight while management is tasked with the day-to-day management of the Company’s risks. The Board executes risk oversight through Hopmeadow Holdings GP, LLC's Finance, Investment and Enterprise Risk Committee ("FIRMCo").
The Company manages and monitors risk through risk policies, controls and limits.
At the senior management level, an Enterprise Risk and Capital Committee (“ERCC”) oversees the risk profile and risk management practices of the Company. ERCC reports to FIRMCo on Talcott's overall risk profile and adherence to risk limits. As illustrated below, a number of functional committees sit underneath the ERCC, providing oversight of specific risk areas.
 
 
 
Enterprise Risk and Capital Committee - "ERCC"
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Capital Planning Committee
 
 
 
Financial & Investment Committee
 
 
 
Risk and Governance Committee
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Capital Outlook
 
 
 
 
Investment & Hedging Risk
 
 
 
 
Model Oversight
 
 
 
 
 
 
Operating Plan
 
 
 
 
 
 
 
 
Emerging Risk
 
 
 
 
 
 
Liquidity Risk
 
 
 
 
 
 
 
 
 
 
Operational Risk
 
 
 
ERCC Members
President (Chair)
Chief Actuary
Chief Auditor
Chief Communications Officer
General Counsel
Chief Financial Officer
Chief Human Resource Officer
Chief Information Officer
Chief Investment Officer
Chief Risk Officer
Others as deemed necessary by the Committee Chair
The Company's enterprise risk management ("ERM") function supports the ERCC and functional committees, and is tasked with, among other things:
risk identification and assessment;
the development of risk appetites, tolerances, and limits;
risk monitoring; and
internal and external risk reporting.
The Company categorizes its main risks as financial risk, operational risk and insurance risk, each of which is described in more detail below.
Financial Risk Management
Financial risks include direct and indirect risks to the Company's financial objectives coming from events that impact market conditions or prices. Some events may cause correlated movement in multiple risk factors. The primary sources of financial risks are the Company's general account and separate account assets and the liabilities and the guarantees which the company has written over various liability products, particularly its fixed and variable annuities. Consistent with its risk appetite, the Company establishes financial risk limits to control potential loss on a U.S. statutory and economic basis. Exposures are actively monitored, and mitigated where appropriate. The Company uses various risk management strategies, including reinsurance and over-the-counter and exchange traded derivatives with counterparties meeting the appropriate regulatory and due diligence requirements. Derivatives are utilized to achieve one of four

31




Company-approved objectives: hedging risk arising from interest rate, equity market, commodity market, credit spread and issuer default, price or currency exchange rate risk or volatility; managing liquidity; controlling transaction costs; or entering into synthetic replication transactions. Derivative activities are monitored and evaluated by the Company’s compliance and risk management teams and reviewed by senior management.
The Company identifies different categories of financial risk, including liquidity, credit, interest rate, equity and foreign exchange as described below.
Liquidity Risk
Liquidity risk is the risk to current or prospective earnings or capital arising from the Company's inability or perceived inability to meet its contractual funding obligations when they come due.
Sources of Liquidity Risk
Sources of Liquidity Risk include funding risk, company-specific liquidity risk and market liquidity risk resulting from differences in the amount and timing of sources and uses of cash as well as company-specific and general market conditions. Stressed market conditions may impact the ability to sell assets or otherwise transact business and may result in a significant loss in value.
Impact
Inadequate capital resources and liquidity could negatively affect the Company’s overall financial strength and its ability to generate cash flows from its businesses, borrow funds at competitive rates, and raise new capital to meet operating and growth needs.
Management
The Company has defined ongoing monitoring and reporting requirements to assess liquidity across the enterprise under both current and stressed market conditions. The Company measures and manages liquidity risk exposures and funding needs within prescribed limits across legal entities, taking into account legal, regulatory and operational limitations to the transferability of liquidity. The Company also monitors internal and external conditions, and identifies material risk changes and emerging risks that may impact liquidity. The Company's Treasurer has primary responsibility for liquidity risk.
For further discussion on liquidity see the section on Capital Resources and Liquidity.
Credit Risk
Credit risk is the risk to earnings or capital due to uncertainty of an obligor’s or counterparty’s ability or willingness to meet its obligations in accordance with contractually agreed upon terms. Credit risk is comprised of three major factors: the risk of change in credit quality, or credit migration risk; the risk of default; and the risk of a change in value due to changes in credit spread.
Sources of Credit Risk
The majority of the Company’s credit risk is concentrated in its investment holdings but it is also present in the Company's derivative counterparty exposure, reinsurance transactions, and to a lesser extent variable annuity fund assets under management.
Impact
A decline in creditworthiness is typically associated with an increase in an investment’s credit spread, potentially resulting in an increase in other-than-temporary impairments and an increased probability of a realized loss upon sale. Derivative exposure and reinsurance recoverables are also subject to credit risk based on the counterparty’s unwillingness or inability to pay. The value of variable annuity fund assets under management can also be affected by an increase in investment credit spreads or defaults on underlying investments.
Management
The objective of the Company’s enterprise credit risk management strategy is to identify, quantify, and manage credit risk on an aggregate portfolio basis and to limit potential losses in accordance with an established credit risk management policy. The Company primarily manages its credit risk by holding a diversified mix of investment grade issuers and counterparties across its investment, reinsurance, and insurance portfolios. Potential losses are also limited within portfolios by diversifying across geographic regions, asset types, and sectors.
The Company manages credit risk on an on-going basis through the use of various processes and analyses. Both the investment and reinsurance areas have formulated procedures for counterparty approvals and authorizations, which establish minimum levels of creditworthiness and financial stability. Credits considered for investment are subjected to underwriting reviews. Within the investment portfolio, private securities are subject to management approval. Mitigation strategies vary across the three sources of credit risk, but may include:
Investing in a portfolio of high-quality and diverse securities;

32




Selling investments subject to credit risk;
Hedging through use of single name or basket credit default swaps;
Clearing transactions through central clearing houses that require daily variation margin;
Entering into contracts only with strong creditworthy institutions and
Requiring collateral.
The Company has developed credit exposure thresholds which are based upon counterparty ratings. Aggregate counterparty credit quality and exposure is monitored on a monthly basis utilizing an enterprise-wide credit exposure information system that contains data on issuers, ratings, exposures, and credit limits. Exposures are tracked on a current and potential basis and aggregated by ultimate parent across investments, reinsurance receivables, insurance products with credit risk, and derivative counterparties.
As of December 31, 2018 (Successor Company), the Company had no investment exposure to any credit concentration risk of a single issuer, or derivative counterparty greater than 10% of the Company's stockholder's equity, other than the U.S. government and certain U.S. government agencies. For further discussion of concentration of credit risk in the investment portfolio, see the Concentration of Credit Risk section in Note 3 - Investments of Notes to Consolidated Financial Statements.
Credit Risk of Derivatives
The Company uses various derivative counterparties in executing its derivative transactions. The use of counterparties creates credit risk that the counterparty may not perform in accordance with the terms of the derivative transaction. A reduction in the financial strength ratings as set by nationally recognized statistical agencies or a decline in the risk-based capital ("RBC") ratio of the Company’s insurance operating companies may have adverse implications for its use of derivatives including those used to hedge benefit guarantees of variable annuities. Derivative counterparties for over-the-counter ("OTC") derivatives and clearing brokers for OTC-cleared derivatives have the right to cancel and settle outstanding derivative trades or require additional collateral to be posted if the Company's financial strength falls below certain thresholds. In addition if the Company does not meet these thresholds, counterparties and clearing brokers may becoming unwilling to engage in or clear additional derivatives or may require collateralization before entering into any new trades. This would restrict the supply of derivative instruments commonly used to hedge variable annuity guarantees, particularly long-dated equity derivatives and interest rate swaps.
Managing the Credit Risk of Counterparties to Derivative Instruments
The Company has derivative counterparty exposure policies which limit the Company’s exposure to credit risk. The Company monitors counterparty exposure on a monthly basis to ensure compliance with Company policies and statutory limitations. The Company’s policies with respect to derivative counterparty exposure establishes market-based credit limits, favors long-term financial stability and creditworthiness of the counterparty and typically requires credit enhancement/credit risk reducing agreements, which are monitored and evaluated by the Company’s risk management team and reviewed by senior management.
The Company minimizes the credit risk of derivative instruments by entering into transactions with high quality counterparties primarily rated A or better. The Company also generally requires that OTC derivative contracts be governed by an International Swaps and Derivatives Association ("ISDA") Master Agreement, which is structured by legal entity and by counterparty and permits right of offset. The Company enters into credit support annexes in conjunction with the ISDA agreements, which require daily collateral settlement based upon agreed upon thresholds.
The Company has developed credit exposure thresholds which are based upon counterparty ratings. Credit exposures are measured using the market value of the derivatives, resulting in amounts owed to the Company by its counterparties or potential payment obligations from the Company to its counterparties. The notional amounts of derivative contracts represent the basis upon which pay or receive amounts are calculated and are not reflective of credit risk. For purposes of daily derivative collateral maintenance, credit exposures are generally quantified based on the prior business day’s market value and collateral is pledged to and held by, or on behalf of, the Company to the extent the current value of the derivatives exceed the contractual thresholds. In accordance with industry standard and the contractual agreements, collateral is typically settled on same business day. The Company has exposure to credit risk for amounts below the exposure thresholds which are uncollateralized, as well as for market fluctuations that may occur between contractual settlement periods of collateral movements.
Most of the company's derivative counterparty relationships have a zero uncollateralized threshold. Currently, the Company only transacts OTC derivatives with two counterparties and in two legal entities where the collateralized thresholds to the Company is greater than zero. The maximum combined threshold in those relationships is $10. Based on the contractual terms of the collateral agreements, these thresholds may be immediately reduced due to a downgrade in the counterparty's credit rating. For further discussion, see the Derivative Commitments section of Note 11 - Commitments and Contingencies of Notes to Consolidated Financial Statements.
For the period of June 1, 2018 to December 31, 2018 (Successor Company) and January 1, 2018 to May 31, 2018 (Predecessor Company), the Company incurred no losses on derivative instruments due to counterparty default.

33




Use of Credit Derivatives
The Company may also use credit default swaps to manage credit exposure or to assume credit risk to enhance yield. The Company uses credit derivatives to purchase credit protection with respect to a single entity, referenced index, or asset pool. The Company purchases credit protection through credit default swaps to economically hedge and manage credit risk of certain fixed maturity investments across multiple sectors of the investment portfolio. As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the notional amount related to credit derivatives that purchase credit protection was $45 and $80, respectively, while the fair value was $(1) and $(3), respectively. These amounts do not include positions that are in offsetting relationships.
The Company also enters into credit default swaps that assume credit risk as part of replication transactions. Replication transactions are used as an economical means to synthetically replicate the characteristics and performance of assets that are permissible investments under the Company’s investment policies. These swaps reference investment grade single corporate issuers and baskets, which include customized diversified portfolios of corporate issuers. These baskets are established within sector concentration limits and may be divided into tranches which possess different credit ratings. As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the notional amount related to credit derivatives that assume credit risk was $372 and $380, respectively, while the fair value was $3, respectively. These amounts do not include positions that are in offsetting relationships.
For further information on credit derivatives, see Note 4 - Derivative Instruments of Notes to Consolidated Financial Statements.
Interest Rate Risk
Interest rate risk is the risk of financial loss due to adverse changes in the value of assets and liabilities arising from movements in interest rates. Interest rate risk encompasses exposures with respect to changes in the level of interest rates, the shape of the term structure of rates and the volatility of interest rates. Interest rate risk does not include exposure to changes in credit spreads.
Sources of Interest Rate Risk
The Company has exposure to interest rates arising from its fixed maturity securities and interest sensitive liabilities. In addition, certain product liabilities, including those containing GMWB or GMDB, expose the Company to interest rate risk but also have significant equity risk. These liabilities are discussed as part of the Variable Product Guarantee Risks and Risk Management section. Management also evaluates performance of certain products based on net investment spread which is, in part, influenced by changes in interest rates.
Impact
Changes in interest rates from current levels can have both favorable and unfavorable effects for the Company.
Change in Interest Rates
 
Favorable Effects
 
Unfavorable Effects
ñ
 
Additional investment income
 
Decrease in the fair value of the fixed maturity investment portfolio
 
Lower cost of the variable annuity hedge
 
Potential increase in policyholder surrenders, requiring the Company to liquidate assets in an unrealized loss position to fund liability surrender value
 
Lower margin erosion associated with minimum guaranteed crediting rates on certain products
 
Potential impact on the Company's tax planning strategies
 
 
 
Higher interest expense
ò
 
Increase in the fair value of the fixed maturity investment portfolio
 
Lower net investment income due to reinvesting at lower investment yields
 
Lower interest expense
 
Lower interest income on variable rate investments
 
 
 
Acceleration in paydowns and prepayments or calls of certain mortgage-backed and municipal securities
 
 
 
Increased cost of variable annuity hedge program
 
 
 
Potential margin erosion associated with minimum guaranteed crediting rates on certain products

34


Management
The Company primarily manages its exposure to interest rate risk by constructing investment portfolios that maintain asset allocation limits and asset/liability duration matching targets which may include the use of derivatives. The Company analyzes interest rate risk using various models including parametric models and cash flow simulation under various market scenarios of the liabilities and their supporting investment portfolios. Key metrics that the Company uses to quantify its exposure to interest rate risk inherent in its invested assets and interest rate sensitive liabilities include duration, convexity and key rate duration.
The Company may also utilize a variety of derivative instruments to mitigate interest rate risk associated with its investment portfolio or to hedge liabilities. Interest rate caps, floors, swaps, swaptions, and futures may be used to manage portfolio duration. Interest rate swaps are primarily used to convert interest receipts or payments to a fixed or variable rate. The use of such swaps enables the Company to customize contract terms and conditions to desired objectives and manage the duration profile within established tolerances. Interest rate swaps are also used to hedge the variability in the cash flows of a forecasted purchase or sale of fixed rate securities due to changes in interest rates.
As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), notional amounts pertaining to derivatives utilized to manage interest rate risk, including offsetting positions, totaled $3.2 billion and $4.7 billion, respectively, $3.1 billion and $4.7 billion, respectively, related to investments and $2 and $34, respectively, related to liabilities. The fair value of these derivatives was $(101) and $(356) as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), respectively. These amounts do not include derivatives associated with the Variable Annuity Hedging Program.
Assets and Liabilities subject to Interest Rate Risk
Fixed Income Investments
The fair value of fixed income investments, which include fixed maturities, commercial mortgage loans, and short-term investments, was $16.8 billion and $26.8 billion at December 31, 2018 (Successor Company) and 2017 (Predecessor Company), respectively. The weighted average duration of the portfolio, including derivative instruments, was approximately 7.7 years and 7.6 years as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), respectively.
Liabilities
The Company’s issued investment contracts and certain insurance product liabilities, other than non-guaranteed separate accounts, include asset accumulation vehicles such as fixed annuities, guaranteed investment products, and other investment and universal life-type contracts. The primary risk associated with these products is that, despite the use of market value adjustment features and surrender charges, the spread between investment return and credited rate may not be sufficient to earn targeted returns.
Asset accumulation vehicles primarily require a fixed rate payment, often for a specified period of time, and fixed rate annuities contain surrender values that are based on a market value adjusted formula if held for shorter periods. As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the Company had $4,069 and $4,751, respectively, of liabilities for fixed annuities predominantly with 3% minimum interest guarantees and $94 and $120, respectively, of liabilities for guaranteed investment products.
In addition, certain products such as corporate owned life insurance ("COLI") contracts and the general account portion of variable annuity products credit interest to policyholders subject to market conditions and minimum interest rate guarantees. As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the Company had $1,785 and $1,806 of general account COLI, respectively, with minimum interest guarantees ranging from 4.0% to 4.5%. As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the general account portion of variable annuity contracts was $2,984 and $3,225, respectively, with minimum guarantees ranging from 1.5% to 4.0%.
The Company's issued non-investment type contracts include structured settlement contracts, terminal funding agreements, and on-benefit payout annuities (i.e., the annuitant is currently receiving benefits). The cash outflows associated with these policy liabilities are not interest rate sensitive but do vary based on actual to expected mortality experience. Similar to investment-type products, the aggregate cash flow payment streams are relatively predictable. Products in this category may rely upon actuarial pricing assumptions (including mortality and morbidity) and have an element of cash flow uncertainty. Additionally, due to the long duration of these liabilities, these products are subject to reinvestment risk. As of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the Company had $11,104 and $6,841, respectively, of liabilities for structured settlements and terminal funding agreements and $1,696 and $1,627, respectively, of liabilities for on-benefit payout annuities. The increase in liabilities for structured settlements and terminal funding agreements as of December 31, 2018 was due to the election of purchase and pushdown accounting as a result of the sale of the Company to HHLP on May 31, 2018. For further information see Note 1 - Basis of Presentation and Significant Accounting Policies of Notes to Consolidated Financial Statements.

35


Interest Rate Sensitivity
Fixed Liabilities and the Invested Assets Supporting Them
Included in the following table is the before-tax change in the net economic value of investment contracts including structured settlements, fixed annuity contracts and terminal funding agreements for which the payment rates are fixed at contract issuance and/or the investment experience is substantially absorbed by the Company’s operations, along with the corresponding invested assets. Also included in this analysis are the interest rate sensitive derivatives used by the Company to hedge its exposure to interest rate risk in the investment portfolios supporting these contracts. Note that for purposes of the sensitivities outlined below, the net economic value is shown, which is net of reinsurance and is the difference between the change in the market value of the assets, and the change in the market value of the liabilities utilizing the Company's internal methodology for calculating economic value.
The calculation of the estimated hypothetical change in net economic value below assumes a 100 basis point upward and downward parallel shift in the yield curve.
Change in Net Economic Value as of December 31,
 
Successor Company
Predecessor Company
Interest rate sensitivity of fixed liabilities and invested assets supporting them
2018
2017
Basis point shift
-100

+100

-100

+100

 (Decrease) increase in economic value, before tax
$
(307
)
$
214

$
(902
)
$
550

The carrying value of fixed maturities, commercial mortgage loans and short-term investments related to the businesses included in the table above was $12.4 billion and $22.7 billion, as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), respectively. The assets supporting the fixed liabilities are monitored and managed within set duration guidelines, and are evaluated on a daily basis, as well as annually using scenario simulation techniques in compliance with regulatory requirements. For further discussion on the reinsurance agreements with Commonwealth and the impact to invested assets, please see Part II, Item 7, MD&A - Composition of Invested Assets.
Invested Assets Not Supporting Fixed Liabilities
The following table provides an analysis showing the estimated before-tax change in the fair value of the Company’s investments and related derivatives, excluding assets supporting fixed liabilities which are included in the table above, assuming 100 basis point upward and downward parallel shifts in the yield curve as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company).
Change in Fair Value as of December 31,
 
Successor Company
Predecessor Company
Interest rate sensitivity of invested assets not supporting fixed liabilities
2018
2017
Basis point shift
-100

+100

-100

+100

 Increase (decrease) in fair value, before tax
$
324

$
(264
)
$
281

$
(215
)
The carrying value of fixed maturities, commercial mortgage loans and short-term investments related to the businesses included in the table above was $2.8 billion and $2.2 billion, as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), respectively.
The selection of the 100 basis point parallel shift in the yield curve was made only as an illustration of the potential hypothetical impact of such an event and should not be construed as a prediction of future market events. Actual results could differ materially from those illustrated above due to the nature of the estimates and assumptions used in the above analysis. The Company’s sensitivity analysis calculation assumes that the composition of invested assets and liabilities remain materially consistent throughout the year and that the current relationship between short-term and long-term interest rates will remain constant over time. As a result, these calculations may not fully capture the impact of portfolio re-allocations, significant product sales or non-parallel changes in interest rates.
Equity Risk
Equity risk is the risk of financial loss due to changes in the value of global equities or equity indices.
Sources of Equity Risk
The Company has exposure to equity risk from general account assets, variable annuity fund assets under management and embedded derivatives within the Company’s variable annuity products. The Company’s variable products are significantly influenced by the U.S. and other equity markets, as discussed below.

36




Impact of Equity Risk on General Account Products
Declines in equity markets may result in losses due to sales or reductions in market value that are recorded within reported earnings. Declines in equity markets may also decrease the value of limited partnerships and other alternative investments or result in losses on derivatives, including on embedded product derivatives, thereby negatively impacting our reported earnings.
Managing Equity Risk on Variable Annuity Products
Most of the Company’s variable annuities include GMDB and certain contracts with GMDB also include GMWB features.
Impact
The Company’s variable annuity contracts are significantly influenced by the U.S. and other equity markets. Generally, declines in equity markets will:
reduce the value of assets under management and the amount of fee income generated from those assets;
increase the value of derivative assets used to hedge product guarantees resulting in realized capital gains;
increase the costs of the hedging instruments we use in our hedging program;
increase the Company’s net amount at risk ("NAR"), described below, for GMDB and GMWB;
increase the amount of required assets to be held backing variable annuity guarantees to maintain required regulatory reserve levels and targeted risk based capital ratios; and
decrease the Company’s estimated future gross profits, resulting in a VOBA unlock charge.
Increases in equity markets will generally have the inverse impact of those listed in the preceding discussion.
Declines in the equity markets will increase the Company’s liability for these benefits. Many contracts with a GMDB include a MAV, which in rising markets resets the guarantee on the anniversary to be "at the money". As the MAV increases, it can increase the NAR for subsequent declines in account value. Generally, a GMWB contract is "in the money" if the contractholder’s GRB becomes greater than the account value.
The NAR is generally defined as the guaranteed minimum benefit amount in excess of the contractholder’s current account value. Variable annuity account values with guarantee features were $31.8 billion and $39.0 billion as of December 31, 2018 (Successor Company) and December 31, 2017 (Predecessor Company), respectively.
The following tables summarize the account values of the Company’s variable annuities with guarantee features and the NAR split between various guarantee features (retained net amount at risk is net of reinsurance, but does not take into consideration the effects of the variable annuity hedge programs currently in place as of each balance sheet date).
Total Variable Annuity Guarantees as of December 31, 2018
Successor Company
($ in billions)
Account Value
Gross Net Amount at Risk
Retained Net Amount at Risk
% of Contracts In the Money[2]
% In the Money[2][3]
Variable Annuity [1]
 
 
 
 
 
GMDB [4]
$
31.8

$
4.0

$
1.2

59
%
13
%
GMWB
14.2

0.3

0.2

11
%
13
%
Total Variable Annuity Guarantees as of December 31, 2017
Predecessor Company
($ in billions)
Account Value
Gross Net Amount at Risk
Retained Net Amount at Risk
% of Contracts In the Money[2]
% In the Money[2][3]
Variable Annuity [1]
 
 
 
 
 
GMDB [4]
$
39.0

$
2.9

$
0.6

15
%
26
%
GMWB
17.8

0.2

0.1

4
%
19
%
[1]
Contracts with a guaranteed living benefit also have a guaranteed death benefit. The NAR for each benefit is shown; however these benefits are not additive.
[2]
Excludes contracts that are fully reinsured.
[3]
For all contracts that are "in the money", this represents the percentage by which the average contract was "in the money".
[4]
Excludes contracts without a GMDB due to certain elections made by policyholders or their beneficiaries. Such contracts had $1.8 billion of account value as of December 31, 2018 (Successor Company) and $1.9 billion as of December 31, 2017 (Predecessor Company).

37




Many policyholders with a GMDB also have a GMWB. These benefits are not additive. Policyholders that have a product with both guarantees can receive, at most, the greater of the GMDB or GMWB. The GMDB NAR disclosed in the preceding tables is a point in time measurement and assumes that all participants utilize the GMDB on that measurement date.
The Company expects to incur GMDB payments in the future only if the policyholder has an "in the money" GMDB at their death. For policies with a GMWB rider, the company expects to incur GMWB payments in the future only if the account value is reduced over time to a specified level through a combination of market performance and periodic withdrawals, at which point the contractholder will receive an annuity with total payments equal to the GRB, which is generally equal to premiums less withdrawals. For the Company’s "lifetime" GMWB products, this annuity can have total payments exceeding the GRB. As the account value fluctuates with equity market returns on a daily basis and the "lifetime" GMWB payments may exceed the GRB, the ultimate amount to be paid by the Company, if any, is uncertain and could be significantly more or less than the Company’s current carried liability. For additional information on the Company’s GMWB liability, see Note 2 - Fair Value Measurements of Notes to Consolidated Financial Statements. For additional information on the Company's GMDB liability, see Note 7 - Reserves for Future Policy Benefits and Separate Account Liabilities of Notes to Consolidated Financial Statements.
Variable Annuity Market Risk Exposures
The following table summarizes the broad Variable Annuity Guarantees offered by the Company and the market risks to which the guarantee is most exposed from a U.S. GAAP accounting perspective.
Variable Annuity Guarantees [1]
U.S. GAAP Treatment [1]
Primary Market Risk Exposures [1]
GMDB and life-contingent component of the GMWB
Accumulation of the portion of fees required to cover expected claims, less accumulation of actual claims paid
Equity Market Levels
GMWB (excluding life-contingent portions)
Fair Value
Equity Market Levels / Implied Volatility / Interest Rates
[1]
Each of these guarantees and the related U.S. GAAP accounting volatility will also be influenced by actual and estimated policyholder behavior.
Risk Hedging
Variable Annuity Hedging Program
Through the use of reinsurance, capital market derivatives and other derivative instruments, the Company’s variable annuity hedging program is primarily focused on reducing the economic exposure to market risks associated with guaranteed benefits that are embedded in our variable annuity contracts. The variable annuity hedging program also considers the potential impacts on statutory capital.
Reinsurance
The Company uses reinsurance for a portion of contracts with GMWB riders issued prior to the second quarter of 2006. The Company also uses reinsurance for a majority of the GMDB riders where the GMDB is higher than a return of premium death benefit or account value benefit.
GMWB Hedge Program
Under the dynamic hedging program, the Company enters into derivative contracts to hedge market risk exposures associated with the portions of GMWB liabilities that are not life-contingent and are not reinsured. These derivative contracts include customized swaps, interest rate swaps and futures, and equity swaps, options, and futures on certain indices including the S&P 500 index, EAFE index and NASDAQ index.
Additionally, the Company holds customized capital market derivative contracts to provide protection from certain capital market risks for the remaining term of specified blocks of non-reinsured GMWB riders. These customized derivative contracts are based on policyholder behavior assumptions specified at the inception of the derivative contracts. The Company retains the risk for differences between assumed and actual policyholder behavior and between the performance of the actively managed funds underlying the separate accounts and their respective indices.
While the Company actively manages this dynamic hedging program, increased U.S. GAAP earnings volatility may result from factors including, but not limited to: policyholder behavior, capital markets, divergence between the performance of the underlying funds and the hedging indices, changes in hedging positions and the relative emphasis placed on various risk management objectives.

38




Macro Hedge Program
The Company’s macro hedging program uses derivative instruments, such as options and futures on equities and interest rates, to provide protection against the statutory tail scenario risk arising from GMWB and GMDB liabilities on the Company’s statutory surplus as well as to protect a portion of the expected fee revenue to be received on variable annuity contracts. These macro hedges cover some of the residual risks not otherwise covered by the dynamic hedging program. Management assesses this residual risk under various scenarios in designing and executing the macro hedge program. The macro hedge program will result in additional U.S. GAAP earnings volatility as changes in the value of the macro hedge derivatives, which are designed to reduce statutory reserve and capital volatility, may not be closely aligned to changes in U.S. GAAP liabilities.
Variable Annuity Hedging Program Sensitivities
The underlying guaranteed withdrawal benefit liabilities (excluding the life contingent portion of GMWB contracts) and hedge assets within the GMWB hedge and Macro hedge programs are carried at fair value.
The following table presents our estimates of the potential instantaneous impacts from sudden market stresses related to equity market prices, interest rates, and implied market volatilities. The following sensitivities represent: (1) the net estimated difference between the change in the fair value of GMWB liabilities and the underlying hedge instruments and (2) the estimated change in fair value of the hedge instruments for the macro program, before the impacts of amortization of VOBA and taxes. As noted in the preceding discussion, certain hedge assets are used to hedge liabilities that are not carried at fair value and will not have a liability offset in the U.S. GAAP sensitivity analysis. All sensitivities are measured as of December 31, 2018 (Successor Company) and are related to the fair value of liabilities and hedge instruments in place at that date for the Company’s variable annuity hedge programs. The impacts presented in the table that follows are estimated individually and measured without consideration of any correlation among market risk factors.
GAAP Sensitivity Analysis (before tax and VOBA) as of December 31, 2018 [1]
Successor Company
 
GMWB
Macro
Equity Market Return
-20
 %
-10
 %
10
 %
-20
 %
-10
 %
10
 %
Potential Net Fair Value Impact
$
(6
)
$
(2
)
$
(1
)
$
432

$
181

$
(132
)
Interest Rates
-50bps

-25bps

+25bps

-50bps

-25bps

+25bps

Potential Net Fair Value Impact
$
(4
)
$
(1
)
$
(1
)
$
47

$
23

$
(22
)
Implied Volatilities
10
 %
2
 %
-10
 %
10
 %
2
 %
-10
 %
Potential Net Fair Value Impact
$
(79
)
$
(14
)
$
59

$
259

$
53

$
(270
)
[1]
These sensitivities are based on the following key market levels as of December 31, 2018: 1) S&P of 2,507; 2) 10yr U.S. swap rate of 2.73% and 3) S&P 10yr volatility of 23.00%.
The preceding sensitivity analysis is an estimate and should not be used to predict the future financial performance of the Company's variable annuity hedge programs. The actual net changes in the fair value liability and the hedging assets illustrated in the preceding table may vary materially depending on a variety of factors which include but are not limited to:
The sensitivity analysis is only valid as of the measurement date and assumes instantaneous changes in the capital market factors and no ability to rebalance hedge positions prior to the market changes;
Changes to the underlying hedging program, policyholder behavior, and variation in underlying fund performance relative to the hedged index, which could materially impact the liability; and
The impact of elapsed time on liabilities or hedge assets, any non-parallel shifts in capital market factors, or correlated moves across the sensitivities.
The Company holds hedge positions in the macro hedge program to reduce open equity risk exposure, which increased the sensitivity that changes in equity market returns would have on GAAP net income.
Foreign Currency Exchange Risk
Foreign currency exchange risk is the risk of financial loss due to changes in the relative value between currencies.
Sources of Currency Risk
The Company has foreign currency exchange risk in non-U.S. dollar denominated investments, which primarily consist of fixed maturity and equity investments, foreign denominated cash and a yen denominated fixed payout annuity.

39




Impact
Changes in relative values between currencies can create variability in cash flows and realized or unrealized gains and losses on changes in the fair value of assets and liabilities. Based on the fair values of the Company’s non-U.S. dollar denominated securities and derivative instruments as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), management estimates that a hypothetical 10% unfavorable change in exchange rates would decrease the fair values by an immaterial amount.
Management
The open foreign currency exposure of non-U.S. dollar denominated investments will most commonly be reduced through the sale of the assets or through hedges using currency futures/forwards/swaps. In order to manage the currency risk related to any non-U.S. dollar denominated liability contracts, the Company enters into foreign currency swaps or holds non-U.S. dollar denominated investments.
Assets and Liabilities Subject to Foreign Currency Exchange Risk
Non-U.S. dollar denominated fixed maturities, equities and cash
The fair values of the non-U.S. dollar denominated fixed maturities and equities at December 31, 2018 (Successor Company) and 2017 (Predecessor Company) were approximately $94 and $104, respectively. Included in these amounts are $4 and $5 at December 31, 2018 (Successor Company) and 2017 (Predecessor Company), respectively, related to non-U.S. dollar denominated fixed maturities and equities that directly support liabilities denominated in the same currencies. The currency risk of the remaining non-U.S. dollar denominated fixed maturities and equities are hedged with foreign currency swaps. As of December 31, 2018 (Successor Company), the Company holds $203 of yen-denominated cash, of which $203 is derivative cash collateral pledged by counterparties and has an offsetting collateral liability. As of December 31, 2018 (Successor Company), the Company also holds $1 of Canadian-denominated cash.
Non-U.S. dollar denominated funding agreement liability contracts
The Company hedged the foreign currency risk associated with these liability contracts with currency rate swaps. At December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the derivatives used to hedge foreign currency exchange risk related to foreign denominated liability contracts had a total notional amount of $94, and a total fair value of $(13) and $(11), respectively.
Operational Risk
Operational risk is the risk of loss resulting from inadequate or failed internal processes and systems, human error, or from external events.
Sources of Operational Risk
Operational risk is inherent in the Company's business and functional areas. Operational risks include legal; cyber and information security; models; third party vendors; technology; operations; business continuity; disaster recovery; internal and external fraud; and compliance. The Company will be exposed to an increased level of operational risk as it separates from the current transition services agreement ("TSA") with The Hartford.
Impact
Operational risk can result in financial loss, disruption of our business, regulatory actions or damage to our reputation.
Management
Responsibility for day-to-day management of operational risk lies within each functional area. ERM provides an enterprise-wide view of the Company's operational risk. ERM is responsible for establishing, maintaining and communicating the framework, principles and guidelines of the Company's operational risk management program. Operational risk mitigation strategies include the following:
Establishing policies and monitoring risk tolerances and exceptions;
Conducting business risk assessments and implementing action plans where necessary;
Validating existing crisis management protocols;
Identifying and monitoring emerging risks; and
Purchasing insurance coverage.
Cybersecurity Risk
In connection with the Talcott Resolution Sale Transaction, the Company entered into a TSA with The Hartford for a period of up to two years. These transition services include general ledger and cash management, investment accounting and information technology infrastructure services. Pursuant to the TSA, the Company leverages and monitors the controls of The Hartford while it continues to operate on their Information Technology ("IT") environment. The Hartford has implemented information protection and privacy programs with established governance routines that promote an adaptive approach for assessing and managing risks. The Hartford has

40


invested to build a ‘defense-in-depth’ strategy that uses multiple security measures to protect the integrity of the Company's information assets. This ‘defense-in-depth’ strategy aligns to the National Institute of Standards and Technology ("NIST") Cyber Security Framework and provides preventative, detective and responsive measures that collectively protects the company. Various cyber assurance methods, including security metrics, third party security assessments, external penetration testing, red team exercises and cyber war game exercises are used to test the effectiveness of the overall cybersecurity control environment.
The Hartford, like many other large financial services companies, blocks attempted cyber intrusions on a daily basis. In the event of a cyber intrusion, the company invokes its Cyber Incident Response Program commensurate with the nature of the intrusion. While the actual methods employed differ based on the event, the approach employs internal teams and outside advisors with specialized skills to support the response and recovery efforts and requires elevation of issues, as necessary, to senior management.
From a governance perspective, senior members of our Enterprise Risk Management, Information Protection and Internal Audit functions provide detailed reports on cybersecurity matters to the Company's Board, including the Audit Committee, which has principal responsibility for oversight of cybersecurity risk, and/or the FIRMCo, which oversees controls for the Company's major risk exposures. The topics to be covered by these updates include the Company's activities, policies and procedures to prevent, detect and respond to cybersecurity incidents, as well as lessons learned from cybersecurity incidents and internal and external testing of our protection measures. The Audit Committee will meet at each regular Board meeting and will be briefed on cyber risks at least annually.
Insurance Risks - Policyholder Behavior, Mortality, and Longevity Risk Management
Insurance risks exist in the form of adverse policyholder behavior, mortality, and longevity risks that can affect value within our underlying annuity products.
Policyholder behavior risk is the risk of policyholders utilizing benefits/options within their fixed and variable annuity contract in a manner or to a degree different than the Company's current expectations.
Additional insurance risks that exist within the annuity products offered by the Company include mortality and longevity risk. Mortality and longevity risk are contingent risks on variable annuity products. The impact of higher or lower mortality only impacts these products to the extent the equity markets perform below longer term market growth expectations, thus increasing the guaranteed benefit amounts and exposing the Company to withdrawal benefit or death benefit guarantees that exceed the variable annuity account value during the payout phase or at death.
Longevity risk also exists across the Company's payout annuity blocks of business, which includes structured settlements, terminal funding, and single premium immediate annuities. Longevity risks for these businesses include medical advances that would specifically impact the life expectancy of annuitants for substandard structured settlements as well as mortality improvement at a greater rate than the Company's current expectations.
Management
The Company’s procedures for managing these risks include periodic experience exposure monitoring and reporting, risk modeling, risk transfer, and capital management strategies.
Reinsurance as a Risk Management Strategy
The Company cedes insurance to unaffiliated insurers to enable the Company to manage capital and risk exposure. Such arrangements do not relieve the Company of its primary liability to policyholders.
Impact
Failure of reinsurers to honor their obligations could result in losses to the Company.
Management
Reinsurance is a centralized function across the Company to support a consistent strategy and to ensure that the reinsurance activities are fully integrated into the organization's risk management processes.
The Company uses reinsurance for its life insurance, retirement and a portion of its fixed and payout annuity businesses. In addition, the Company uses reinsurance on a portion of contracts with GMWB riders issued prior to the second quarter of 2006 and for a majority of the GMDB riders where the GMDB is higher than a return of premium death benefit or account value benefit.

41




The components of the gross and net reinsurance recoverables are summarized as follows:
 
Successor Company
Predecessor Company
Reinsurance Recoverables
As of December 31, 2018
As of December 31, 2017
Reserve for future policy benefits and other policyholder funds and benefits payable
$
29,564

$
20,785

Less: Allowance for uncollectible reinsurance [1]


Net reinsurance recoverables
$
29,564

$
20,785

[1]
No allowance for uncollectible reinsurance was required as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company). Although management has determined that no allowance is required at this time, the Company closely monitors the financial condition, ratings and current market information of all its counterparty reinsurers.
As of December 31, 2018 (Successor Company), the Company had reinsurance recoverables from Commonwealth, Massachusetts Mutual Life Insurance Company ("MassMutual") and Prudential Financial, Inc. ("Prudential") of $9.0 billion, $8.1 billion and $11.3 billion, respectively. As of December 31, 2017 (Predecessor Company), the Company had reinsurance recoverables from MassMutual and Prudential of $8.3 billion and $11.1 billion, respectively. The Company's obligations to its direct policyholders that have been reinsured to Commonwealth, MassMutual and Prudential are primarily secured by invested assets held in trust.
Financial Risk on Statutory Capital
Statutory surplus amounts and RBC ratios may increase or decrease in any period depending upon a variety of factors and may be compounded in extreme scenarios or if multiple factors occur at the same time. In general, as equity market levels and interest rates decline, the amount and volatility of both our actual or potential obligation, as well as the related statutory surplus and capital margin can be materially negatively affected, sometimes at a greater than linear rate. At times the impact of changes in certain market factors or a combination of multiple factors on RBC ratios can be counterintuitive. Factors include:
Differences in performance of variable subaccounts relative to indices and/or realized equity and interest rate volatilities may affect RBC ratios.
Rising equity markets will generally result in an increase in statutory surplus and RBC ratios. However, as a result of a number of factors and market conditions, including the level of hedging costs and other risk transfer activities, reserve requirements for variable annuity death and living benefit guarantees and RBC requirements could increase with rising equity markets, resulting in lower RBC ratios. The Company has reinsured approximately 42% of its risk associated with GMWB and 70% of its risk associated with the aggregate GMDB exposure. These reinsurance agreements reduce the Company’s exposure to changes in the statutory reserves and the related capital and RBC ratios associated with changes in the capital markets.
A decrease in the value of certain fixed-income, alternative investments, and equity securities in our investment portfolio, due in part to credit spreads widening and/or equity markets declining, may result in a decrease in statutory surplus and RBC ratios.
Credit spreads on invested assets may increase sharply for certain sub-sectors of the overall credit market, resulting in statutory separate account asset market value losses. As actual credit spreads are not fully reflected in the current crediting rates, the calculation of statutory reserves may not substantially offset the change in fair value of the statutory separate account assets, resulting in reductions in statutory surplus. This may result in the need to devote additional capital to support the fixed MVA product and certain of our terminal funding contracts.
Decreases in the value of certain derivative instruments that do not get hedge accounting, may reduce statutory surplus and RBC ratios.
Sustained low interest rates with respect to the fixed annuity business may result in a reduction in statutory surplus and an increase in NAIC required capital.
Non-market factors, which can also impact the amount and volatility of both our actual potential obligation, as well as the related statutory surplus and capital margin, include actual and estimated policyholder behavior experience as it pertains to lapsation, partial withdrawals and mortality.
Most of these factors are outside of the Company’s control. The Company’s financial strength and credit ratings are significantly influenced by its statutory surplus amounts and RBC ratios of our insurance company subsidiaries. In addition, rating agencies may implement changes to their internal models that have the effect of increasing or decreasing the amount of statutory capital we must hold in order to maintain our current ratings.

42




Investment Portfolio Risk
Investment Portfolio Composition
The following table presents the Company’s fixed maturities, AFS, by credit quality. The credit ratings referenced throughout this section are based on availability, and are generally the midpoint of the available ratings among Moody’s, S&P, and Fitch. If no rating is available from a rating agency, then an internally developed rating is used.
Fixed Maturities by Credit Quality
 
Successor Company
Predecessor Company
 
December 31, 2018
December 31, 2017
 
Amortized Cost
Fair Value
Percent of Total Fair Value
Amortized Cost
Fair Value
Percent of Total Fair Value
United States Government/Government agencies
$
1,887

$
1,890

13.7
%
$
2,845

$
3,058

13.4
%
AAA
1,301

1,297

9.4
%
1,470

1,552

6.8
%
AA
1,629

1,614

11.7
%
2,334

2,465

10.8
%
A
4,166

4,111

29.7
%
6,874

7,718

33.9
%
BBB
4,387

4,276

30.9
%
6,142

6,702

29.4
%
BB & below
665

651

4.6
%
1,249

1,304

5.7
%
Total fixed maturities, AFS
$
14,035

$
13,839

100
%
$
20,914

$
22,799

100
%
The fair value of AFS securities decreased, as compared with December 31, 2017 (Predecessor Company), primarily driven by the Commonwealth Annuity Reinsurance Agreement that the Company entered into as well as the continued run off of the Company's business. Fixed Maturities, FVO, are not included in the preceding table. For further discussion on FVO securities, see Note 2 - Fair Value Measurements of Notes to Consolidated Financial Statements.

43




The following table presents the Company’s AFS securities by type, as well as fixed maturities and equity, FVO.
Securities by Type
 
Successor Company
Predecessor Company
 
December 31, 2018
December 31, 2017
 
Cost or Amortized Cost [1]
Gross Unrealized Gains
Gross Unrealized losses
Fair Value
Percent of Total Fair Value
Cost or Amortized Cost
Gross Unrealized Gains
Gross Unrealized losses
Fair Value
Percent of Total Fair Value
Asset backed securities ("ABS")
 
 
 
 
 
 
 
 
 
 
Consumer loans
$
437

$
2

$

$
439

3.2
%
$
646

$
4

$
(10
)
$
640

2.8
%
Other
77



77

0.5
%
175

5

(1
)
179

0.8
%
Collateralized loan obligations ("CLOs")
971

5

(13
)
963

7.0
%
886

2


888

3.9
%
Commercial mortgage-backed securities ("CMBS")
 
 
 
 
 
 
 
 
 
 
Agency backed [2]
507

2

(4
)
505

3.6
%
697

9

(10
)
696

3.1
%
Bonds
803

4

(3
)
802

5.8
%
1,116

30

(10
)
1,136

5.0
%
Interest only (“IOs”)
99

2


100

0.7
%
248

6

(2
)
252

1.1
%
Corporate
 
 
 
 
 
 
 
 
 
 
Basic industry
407

1

(17
)
393

2.8
%
677

74


751

3.3
%
Capital goods
646


(14
)
634

4.6
%
972

85

(2
)
1,055

4.6
%
Consumer cyclical
349

1

(8
)
346

2.5
%
648

56

(1
)
703

3.1
%
Consumer non-cyclical
1,069

1

(38
)
1,038

7.5
%
1,774

196

(6
)
1,964

8.6
%
Energy
880


(38
)
849

6.1
%
1,358

167

(4
)
1,521

6.7
%
Financial services
1,363

2

(34
)
1,334

9.6
%
2,349

264

(5
)
2,608

11.4
%
Tech./comm.
1,209

10

(35
)
1,189

8.6
%
1,695

278

(3
)
1,970

8.6
%
Transportation
297

1

(11
)
287

2.1
%
512

45


557

2.4
%
Utilities
1,520

3

(39
)
1,490

10.8
%
2,443

306

(10
)
2,739

12.0
%
Other
120


(2
)
118

0.9
%
159

12

(1
)
170

0.8
%
Foreign govt./govt. agencies
383

3

(6
)
377

2.7
%
379

30

(2
)
407

1.8
%
Municipal bonds
 
 
 
 
 
 
 
 
 
 
Taxable
738

5

(10
)
734

5.3
%
1,125

142

(1
)
1,266

5.5
%
Residential mortgage-backed securities ("RMBS")
 
 
 
 
 
 
 
 
 
 
Agency
254

1

(1
)
254

1.8
%
481

12

(1
)
492

2.2
%
Non-agency
329

1

(1
)
329

2.4
%
202

1

(1
)
202

0.9
%
Alt-A
23



23

0.2
%
43

3


46

0.2
%
Sub-prime
428

1

(2
)
427

3.1
%
662

25


687

3.0
%
U.S. Treasuries
1,126

8

(3
)
1,131

8.2
%
1,667

206

(3
)
1,870

8.2
%
Fixed maturities, AFS
$
14,035

$
53

$
(279
)
$
13,839

100
%
$
20,914

$
1,958

$
(73
)
$
22,799

100
%
Equity securities
 
 
 
 
 
 
 
 
 
 
Financial services
 
 
 
 
 
40

8


48

31.2
%
Other
 
 
 
 
 
100

6


106

68.8
%
Equity securities, AFS [3]
 
 
 
 
 
140

14


154

100
%
Total AFS securities
$
14,035

$
53

$
(279
)
$
13,839

 
$
21,054

$
1,972

$
(73
)
$
22,953

 
Fixed maturities, FVO
 
 
 
$
12

 
 
 
 
$
32

 
Equity securities, at fair value [3]
 
 
 
$
116

 
 
 
 
 
 
[1]
The cost or amortized cost of assets that support modified coinsurance reinsurance contracts were not adjusted as part of the application of pushdown accounting. As a result, gross unrealized gains (losses) only include subsequent changes in value recorded in Accumulated Other Comprehensive Income ("AOCI") beginning June 1, 2018. Prior changes in value have been recorded in additional paid-in capital.
[2]
Includes securities with pools of loans issued by the Small Business Administration which are backed by the full faith and credit of the U.S. government.
[3]
Effective January 1, 2018, with the adoption of new accounting standards for financial instruments, equity securities, AFS were reclassified to equity securities, at fair value.
The decline in the fair value of AFS securities as compared to December 31, 2017 (Predecessor Company), was driven by the Commonwealth Annuity Reinsurance Agreement that the Company entered into as well as the continued run off of the Company's business.

44




European Exposure
While Europe is still growing above potential, the International Monetary Fund cut its 2019 growth forecasts for the region, citing the prospect for a more turbulent external environment, including escalating trade tensions and slowing global demand. Political risk will likely remain elevated in Europe during 2019 due to uncertainty surrounding the Brexit process, increasing pressure on centrist governments in France and Germany and ongoing friction over Italian fiscal policy. The Company manages the credit risk associated with the European securities within the investment portfolio on an on-going basis using several processes which are supported by macroeconomic analysis and issuer credit analysis. For additional details regarding the Company’s management of credit risk, see the Credit Risk section of this MD&A.
As of December 31, 2018 (Successor Company), the Company’s European investment exposure had an amortized cost and fair value of $990 and $964, respectively, or 5% of total invested assets; as of December 31, 2017 (Predecessor Company), amortized cost and fair value totaled $1.7 billion and $1.9 billion, respectively, or 6% of total invested assets. The investment exposure largely relates to corporate entities which are domiciled in or generate a significant portion of their revenue within the United Kingdom, the Netherlands, Germany and Belgium. As of both December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the weighted average credit quality of European investments was BBB+. Entities domiciled in the United Kingdom comprise the Company's largest exposure; as of December 31, 2018 (Successor Company) and 2017 (Predecessor Company), the U.K. exposure totals less than 2% of total invested assets and largely relates to industrial and financial services securities and has an average credit rating of BBB. The majority of the European investments are U.S. dollar-denominated, and those securities that are British pound or euro-denominated are hedged to U.S. dollars. For a discussion of foreign currency risks, see the Foreign Currency Exchange Risk section of this MD&A.
Commercial and Residential Real Estate
The following tables, present the Company’s exposure to CMBS and RMBS by current credit quality included in the preceding Securities by Type table.
Successor Company
Exposure to CMBS and RMBS as of December 31, 2018
 
AAA
AA
A
BBB
BB and Below
Total

Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
CMBS
























   Agency
$
507

$
505

$

$

$

$

$

$

$

$

$
507

$
505

   Bonds
238

236

249

249

188

188

121

121

7

8

803

802

   Interest Only
76

77

16

16

3

3

3

3

1

1

99

100

Total CMBS
821

818

265

265

191

191

124

124

8

9

1,409

1,407

RMBS
 
 
 
 
 
 
 
 
 
 
 
 
   Agency
254

254









254

254

   Non-Agency
153

153

89

89

68

68

17

17

2

2

329

329

   Alt-A


5

5



3

3

15

15

23

23

   Sub-Prime
14

14

9

9

111

111

97

97

197

196

428

427

Total RMBS
421

421

103

103

179

179

117

117

214

213

1,034

1,033

Total CMBS & RMBS
$
1,242

$
1,239

$
368

$
368

$
370

$
370

$
241

$
241

$
222

$
222

$
2,443

$
2,440


45




Predecessor Company
Exposure to CMBS and RMBS as of December 31, 2017
 
AAA
AA
A
BBB
BB and Below
Total
 
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
CMBS
 
 
 
 
 
 
 
 
 
 
 
 
   Agency
$
697

$
696

$

$

$

$

$

$

$

$

$
697

$
696

   Bonds
351

361

478

480

182

187

94

96

11

12

1,116

1,136

   Interest Only
155

157

79

80

9

9

3

3

2

3

248

252

Total CMBS
1,203

1,214

557

560

191

196

97

99

13

15

2,061

2,084

RMBS
 
 
 
 
 
 
 
 
 
 
 
 
   Agency
481

492









481

492

   Non-Agency
85

85

23

23

53

53