2007 Annual Report - AIG.com

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American International Group, Inc. and Subsidiaries Management’s Discussion and Analysis of Financial Condition and Results of Operations Continued DAC for Life Insurance & Retirement Services products arises from the deferral of costs that vary with, and are directly related to, the acquisition of new or renewal business. Policy acquisition costs for life insurance products are generally deferred and amortized over the premium paying period in accordance with FAS 60. Policy acquisition costs that relate to universal life and investment-type products are deferred and amortized, with interest in relation to the incidence of estimated gross profits to be realized over the estimated lives of the contracts in accordance with FAS 97. Value of Business Acquired (VOBA) is determined at the time of acquisition and is reported on the consolidated balance sheet with DAC and amortized over the life of the business, similar to DAC. AIG offers sales inducements to contract holders (bonus interest) on certain annuity and investment contracts. Sales inducements are recognized as part of the liability for policyholders contract deposits on the consolidated balance sheet and are amortized over the life of the contract similar to DAC. Total deferred acquisition and sales inducement costs increased $549 million in 2007 compared to 2006 primarily due to higher production in the Foreign Life Insurance operations partially offset by lower Domestic Life Insurance & Retirement Services sales. Total amortization expense decreased $328 million compared to 2006. Annualized amortization expense levels in 2007 and 2006 were approximately 10 percent and 13 percent, respectively, of the opening DAC balance. The decline in amortization expense levels relates to changes in actuarial estimates, which is substantially offset by related adjustments to incurred policy losses and benefits. comprehensive income until the bond is sold or deemed to be other-than-temporarily impaired. For the Domestic Life Insurance and Domestic Retirement Services operations, the higher net realized capital losses resulted principally from other-than-temporary impairment charges of $1.8 billion in 2007 compared to $560 million in 2006 and from the sale of securities in 2007 to reposition assets in certain investment portfolios. Net realized capital losses in the Domestic Life Insurance operations in 2007 included losses of $186 million related to derivatives that did not qualify for hedge accounting treatment under FAS 133 compared to a gain of $25 million in 2006. Derivatives in the Domestic Life Insurance operations include affiliated interest rate swaps used to economically hedge cash flows on bonds and option contracts used to economically hedge cash flows on indexed annuity and universal life products. The corresponding gain or loss with respect to the economically hedged bond is deferred in accumulated other comprehensive income until the bond is sold, matures or deemed to be other- than-temporarily impaired. See Invested Assets — Valuation of Invested Assets — Portfolio Review herein. 2006 and 2005 Comparison Net realized capital gains (losses) in 2006 improved $246 million compared to 2005 primarily due to gains on derivative instruments primarily used to economically hedge cash flows that did not qualify for hedge accounting treatment under FAS 133 and related primarily to the Foreign Life Insurance & Retirement Services operations. Deferred Policy Acquisition Costs and Sales Inducement Assets 78 AIG 2007 Form 10-K
American International Group, Inc. and Subsidiaries The following table summarizes the major components of the changes in DAC/Value of Business Acquired (VOBA) and Sales Inducement Assets (SIA) for 2007 and 2006: 2007 2006 (in millions) DAC/VOBA SIA Total DAC/VOBA SIA Total Foreign Life Insurance & Retirement Services Balance at beginning of year $21,153 $ 404 $21,557 $17,638 $ 192 $17,830 Acquisition costs deferred 5,640 241 5,881 4,991 112 5,103 Amortization (charged) or credited to operating income: Related to net realized capital gains (losses) 117 1 118 5 (3) 2 Related to unlocking future assumptions (17) (2) (19) 102 2 104 All other amortization (a) (1,979) 11 (1,968) (2,399) (4) (2,403) Change in unrealized gains (losses) on securities 301 16 317 (132) (6) (138) Increase due to foreign exchange 831 10 841 948 13 961 Other (b) 129 — 129 — 98 98 Balance at end of year (a) $26,175 $ 681 $26,856 $21,153 $ 404 $21,557 Domestic Life Insurance Balance at beginning of year $ 6,006 $ 46 $ 6,052 $ 5,184 $ 31 $ 5,215 Acquisition costs deferred 895 15 910 1,115 18 1,133 Amortization (charged) or credited to operating income: Related to net realized capital gains (losses) 13 — 13 23 — 23 Related to unlocking future assumptions 6 (1) 5 (42) (1) (43) All other amortization (a) (671) (7) (678) (671) (2) (673) Change in unrealized gains (losses) on securities 162 — 162 398 — 398 Increase (decrease) due to foreign exchange 85 — 85 (1) — (1) Other (b) (64) — (64) — — — Balance at end of year $ 6,432 $ 53 $ 6,485 $ 6,006 $ 46 $ 6,052 Domestic Retirement Services Balance at beginning of year $ 5,651 $ 887 $ 6,538 $ 5,284 $ 871 $ 6,155 Acquisition costs deferred 741 201 942 717 231 948 Amortization (charged) or credited to operating income: Related to net realized capital gains (losses) 161 41 202 62 19 81 Related to unlocking future assumptions (7) (18) (25) (3) — (3) All other amortization (a) (990) (174) (1,164) (789) (143) (932) Change in unrealized gains (losses) on securities 282 54 336 380 (91) 289 Balance at end of year $ 5,838 $ 991 $ 6,829 $ 5,651 $ 887 $ 6,538 Total Life Insurance & Retirement Services Balance at beginning of year $32,810 $1,337 $34,147 $28,106 $1,094 $29,200 Acquisition costs deferred 7,276 457 7,733 6,823 361 7,184 Amortization (charged) or credited to operating income: Related to net realized capital gains (losses) 291 42 333 90 16 106 Related to unlocking future assumptions (18) (21) (39) 57 1 58 All other amortization (a) (3,640) (170) (3,810) (3,859) (149) (4,008) Change in unrealized gains (losses) on securities 745 70 815 646 (97) 549 Increase due to foreign exchange 916 10 926 947 13 960 Other (b) 65 — 65 — 98 98 Balance at end of year $38,445 $1,725 $40,170 $32,810 $1,337 $34,147 (a) In 2007, Foreign Life Insurance & Retirement Services includes lower amortization of $836 million related to changes in actuarial estimates, mostly offset in incurred policy losses and benefits. Domestic Retirement Services includes a higher amortization of $104 million related to changes in actuarial estimates. (b) In 2007, includes $(118) million for the cumulative effect of adoption of SOP 05-1 and $189 million related to balance sheet reclassifications. In 2006, primarily represents a balance sheet reclassification. DAC, VOBA and SIA for insurance-oriented, investment-oriented and retirement services products are reviewed for recoverability, which involves estimating the future profitability of current business. This review involves significant management judgment. If actual future profitability is substantially lower than estimated, AIG’s DAC, VOBA and SIA may be subject to an impairment charge Because AIG operates in various global markets, the estimated gross profits used to amortize DAC, VOBA and sales inducements can be subject to differing market returns and interest rate environments in any single period. The combination of market returns and interest rates may lead to acceleration of amortization in some products and regions and simultaneous deceleration of amortization in other products and regions. AIG 2007 Form 10-K 79
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AMERICAN INTERNATIONAL GROUP, INC.
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FINANCIAL HIGHLIGHTS (in millions,
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overall financial condition, althou
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Group Executive Committee We are ad
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AIG’s life insurance network is t
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We have also begun to address the e
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WHAT WE SEE The ability to see and
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The Major Accounts Practice within
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Around the world, the middle class
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WE SEE GROWTH OPPORTUNITIES IN EMER
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To grow the strength of the AIG glo
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Since 2003, the AIG Disaster Relief
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RESPECT Respect encompasses how we
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Life Insurance & Retirement Service
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Domestic Brokerage Group— Gross P
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In the summer of 2007, widespread f
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in gross premiums written. It launc
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It grew new business premiums from
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emerging markets for its services,
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ILFC—Revenues by Region Total = $
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AIG Investments acquired a 94 perce
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and changing interest rates, as wel
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American International Group, Inc.
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UNITED STATES SECURITIES AND EXCHAN
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Index of Notes to Consolidated Fina
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SHAREHOLDER INFORMATION Corporate H
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