Edgar Filing: CITIZENS INC

CIA-2013.3.31-10Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

___________________________

x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended March 31, 2013

¨ 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: 000-16509

CITIZENS, INC.

(Exact name of registrant as specified in its charter)



Colorado	84-0755371
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

400 East Anderson Lane, Austin, TX	78752
(Address of principal executive offices)	(Zip Code)



	(512) 837-7100

(Registrant's telephone number, including area code)



	N/A

(Former name, former address and former fiscal year, if changed since last report)



Indicate by check mark 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. x Yes ¨ No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x Yes o No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a small reporting company. (Check one):
Large accelerated filer ¨	Accelerated filer x	Non-accelerated filer ¨	Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ Yes x No

As of April 29, 2013, the Registrant had 49,080,114 shares of Class A common stock, no par value, outstanding and 1,001,714 shares of Class B common stock outstanding.

THIS PAGE INTENTIONALLY LEFT BLANK

TABLE OF CONTENTS



			Page Number
Part I.	Financial Information
	Item 1.	Financial Statements

		Consolidated Statements of Financial Position, March 31, 2013 (Unaudited) and December 31, 2012	2

		Consolidated Statements of Comprehensive Income, Three Months Ended March 31, 2013 and 2012 (Unaudited)	4

		Consolidated Statements of Cash Flows, Three Months Ended March 31, 2013 and 2012 (Unaudited)	5

		Notes to Consolidated Financial Statements	7

	Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	24

	Item 3.	Quantitative and Qualitative Disclosures about Market Risk	45

	Item 4.	Controls and Procedures	46

Part II.	Other Information

	Item 1.	Legal Proceedings	47

	Item 1A.	Risk Factors	47

	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	49

	Item 3.	Defaults Upon Senior Securities	49

	Item 4.	Mine Safety Disclosures	49

	Item 5.	Other Information	49

	Item 6.	Exhibits	50

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PART I. FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS

CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES Consolidated Statements of Financial Position (In thousands)



	March 31, 2013		December 31, 2012
Assets	(Unaudited)
Investments:
Fixed maturities available-for-sale, at fair value (cost: $603,947 and $559,736 in 2013 and 2012, respectively)	$	647,682	604,520
Fixed maturities held-to-maturity, at amortized cost (fair value: $174,966 and $193,739 in 2013 and 2012, respectively)	167,707		187,008
Equity securities available-for-sale, at fair value (cost: $52,553 and $52,744 in 2013 and 2012, respectively)	54,029		53,741
Mortgage loans on real estate	1,376		1,509
Policy loans	44,872		42,993
Real estate held for investment (less $1,321 and $1,287 accumulated depreciation in 2013 and 2012, respectively)	8,503		8,496
Other long-term investments	56		57
Short-term investments	2,853		2,340
Total investments	927,078		900,664
Cash and cash equivalents	42,608		56,299
Accrued investment income	10,912		10,304
Reinsurance recoverable	6,829		9,651
Deferred policy acquisition costs	137,311		135,569
Cost of customer relationships acquired	24,606		25,116
Goodwill	17,160		17,160
Other intangible assets	872		879
Federal income tax receivable	—		270
Property and equipment, net	7,279		7,383
Due premiums, net (less $1,285 and $1,345 allowance for doubtful accounts in 2013 and 2012, respectively)	10,231		10,527
Prepaid expenses	1,613		344
Other assets	1,077		782
Total assets	$	1,187,576	1,174,948

(Continued)

See accompanying notes to consolidated financial statements.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES Consolidated Statements of Financial Position (In thousands, except share amounts)



	March 31, 2013			December 31, 2012
Liabilities and Stockholders' Equity	(Unaudited)
Liabilities:
Policy liabilities:
Future policy benefit reserves:
Life insurance	$	778,481		762,319
Annuities	52,450			51,750
Accident and health	2,775			5,491
Dividend accumulations	12,300			11,962
Premiums paid in advance	29,629			27,455
Policy claims payable	10,783			11,015
Other policyholders' funds	8,505			9,440
Total policy liabilities	894,923			879,432
Commissions payable	2,095			2,606
Federal income tax payable	1,130			—
Deferred federal income tax	16,180			17,301
Payable for securities in process of settlement	—			2,358
Other liabilities	9,246			10,143
Total liabilities	923,574			911,840
Commitments and contingencies (Note 7)
Stockholders' equity:
Class A, no par value, 100,000,000 shares authorized, 52,215,852 shares issued and outstanding in 2013 and 2012, including shares in treasury of 3,135,738 in 2013 and 2012	259,383			259,383
Class B, no par value, 2,000,000 shares authorized, 1,001,714 shares issued and outstanding in 2013 and 2012	3,184			3,184
Accumulated deficit	(16,479		)	(17,335	)
Accumulated other comprehensive income:
Unrealized gains on securities, net of tax	28,925			28,887
Treasury stock, at cost	(11,011		)	(11,011	)
Total stockholders' equity	264,002			263,108
Total liabilities and stockholders' equity	$	1,187,576		1,174,948

See accompanying notes to consolidated financial statements.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIE Consolidated Statements of Comprehensive Income Three Months Ended March 31, (In thousands, except per share amounts) (Unaudited)

	2013					2012
Revenues:
Premiums:
Life insurance			$	39,414			37,406
Accident and health insurance			349				413
Property insurance			1,177				1,277
Net investment income			8,389				7,577
Realized investment gains, net			31				98
Decrease in fair value of warrants			—				36
Other income			186				98
Total revenues			49,546				46,905
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders			14,806				14,754
Increase in future policy benefit reserves			16,959				14,141
Policyholders' dividends			2,074				1,874
Total insurance benefits paid or provided			33,839				30,769
Commissions			9,058				8,664
Other general expenses			6,699				6,616
Capitalization of deferred policy acquisition costs			(6,362		)		(5,939	)
Amortization of deferred policy acquisition costs			4,626				4,126
Amortization of cost of customer relationships acquired			578				576
Total benefits and expenses			48,438				44,812
Income before federal income tax			1,108				2,093
Federal income tax expense			252				581
Net income			856				1,512
Per Share Amounts:
Basic earnings per share of Class A common stock	$	0.02				0.03
Basic earnings per share of Class B common stock	0.01					0.02
Diluted earnings per share of Class A common stock	0.02					0.03
Diluted earnings per share of Class B common stock	0.01					0.02
Other comprehensive income:
Unrealized gains on available-for-sale securities:
Unrealized holding gains arising during period			96				2,561
Reclassification adjustment for gains included in net income			(31		)		(86	)
Unrealized gains on available-for-sale securities, net			65				2,475
Income tax expense on unrealized gains on available-for-sale securities			27				896
Other comprehensive income			38				1,579
Comprehensive income			$	894			3,091

See accompanying notes to consolidated financial statements.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES Consolidated Statements of Cash Flows Three Months Ended March 31, (In thousands) (Unaudited)


	2013			2012
Cash flows from operating activities:
Net income	$	856		1,512
Adjustments to reconcile net income to net cash provided by operating activities:
Realized gains on sale of investments and other assets	(31		)	(98	)
Net deferred policy acquisition costs	(1,736		)	(1,813	)
Amortization of cost of customer relationships acquired	578			576
Decrease in fair value of warrants	—			(36	)
Depreciation	320			299
Amortization of premiums and discounts on investments	2,297			1,015
Deferred federal income tax benefit	(1,148		)	(636	)
Change in:
Accrued investment income	(608		)	(1,066	)
Reinsurance recoverable	2,822			(32	)
Due premiums	296			498
Future policy benefit reserves	14,504			14,026
Other policyholders' liabilities	1,345			370
Federal income tax receivable	1,400			1,297
Commissions payable and other liabilities	(1,408		)	190
Other, net	(1,410		)	(890	)
Net cash provided by operating activities	18,077			15,212
Cash flows from investing activities:
Sale of fixed maturities, available-for-sale	58			503
Maturities and calls of fixed maturities, available-for-sale	15,851			70,619
Maturities and calls of fixed maturities, held-to-maturity	18,465			22,000
Purchase of fixed maturities, available-for-sale	(64,046		)	(37,650	)
Purchase of fixed maturities, held-to-maturity	—			(42,508	)
Calls of equity securities, available-for-sale	200			325
Principal payments on mortgage loans	133			11
Increase in policy loans, net	(1,879		)	(1,080	)
Sale of other long-term investments	1			2
Purchase of other long-term investments	(42		)	(69	)
Purchase of property and equipment	(181		)	(215	)
Purchase of short-term investments	(531		)	—
Net cash provided by (used in) investing activities	(31,971		)	11,938

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES Consolidated Statements of Cash Flows, Continued Three Months Ended March 31, (In thousands) (Unaudited)

	2013			2012


Cash flows from financing activities:
Warrants exercised	$	—		68
Annuity deposits	1,242			1,586
Annuity withdrawals	(1,039		)	(963	)
Net cash provided by financing activities	203			691
Net increase (decrease) in cash and cash equivalents	(13,691		)	27,841
Cash and cash equivalents at beginning of year	56,299			33,255
Cash and cash equivalents at end of period	$	42,608		61,096
Supplemental disclosures of operating activities:
Cash paid (received) during the period for income taxes, net	$	—		(79	)

Supplemental Disclosures of Non-Cash Investing Activities:

None.

See accompanying notes to consolidated financial statements.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements

March 31, 2013

(Unaudited)

(1) Financial Statements

Basis of Presentation and Consolidation

The accompanying consolidated financial statements of Citizens, Inc. and its wholly-owned subsidiaries have been prepared in conformity with U.S. generally accepted accounting principles ("U.S. GAAP").

The consolidated financial statements include the accounts and operations of Citizens, Inc. ("Citizens"), a Colorado corporation, and its wholly-owned subsidiaries, CICA Life Insurance Company of America ("CICA"), Security Plan Life Insurance Company ("SPLIC"), Security Plan Fire Insurance Company ("SPFIC"), Citizens National Life Insurance Company ("CNLIC"), Computing Technology, Inc. ("CTI") and Insurance Investors, Inc. ("III"). Citizens and its wholly-owned subsidiaries are collectively referred to as "the Company," "we," "us" or "our."

The consolidated statements of financial position for March 31, 2013, and the consolidated statements of comprehensive income and cash flows for the three-month periods ended March 31, 2013 and 2012, have been prepared by the Company without audit. In the opinion of management, all adjustments to present fairly the financial position, results of operations, and changes in cash flows at March 31, 2013 and for comparative periods have been made. The consolidated financial statements have been prepared in accordance with U.S. GAAP accounting principles for interim financial information and with the instructions to Form 10-Q adopted by the Securities and Exchange Commission (“SEC”). Accordingly, the financial statements do not include all of the information and footnotes required for complete financial statements and should be read in conjunction with the Company’s consolidated financial statements, and notes thereto, for the year ended December 31, 2012. Operating results for the interim periods disclosed herein are not necessarily indicative of the results that may be expected for a full year or any future period.

We provide primarily life insurance and a small amount of health insurance policies through our insurance subsidiaries: CICA, SPLIC, and CNLIC. CICA and CNLIC issue ordinary whole-life policies, credit life and disability, burial insurance, pre-need policies, and accident and health related policies, throughout the Midwest and southern United States. CICA also issues ordinary whole-life policies to non-U.S. residents. SPLIC offers final expense and home service life insurance in Louisiana, Arkansas and Mississippi and SPFIC, a wholly-owned subsidiary of SPLIC, writes a limited amount of property insurance in Louisiana.

CTI provides data processing systems and services, as well as furniture and equipment, to the Company. III provides aviation transportation to the Company.

Use of Estimates

The preparation of financial statements, in conformity with U.S. GAAP, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the 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 from those estimates.

The most significant estimates include those used in the evaluation of other-than-temporary impairments on debt and equity securities and valuation allowances on investments, actuarially determined assets and liabilities and assumptions, goodwill impairment, valuation allowance on deferred tax assets, and contingencies relating to 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.

Reclassification

Reclassifications have been made in the current year related to certain prior year reported amounts to provide consistent presentation.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

Significant Accounting Policies

For a description of significant accounting policies, see Note 1 of the Notes to Consolidated Financial Statements included in our 2012 Form 10-K Annual Report, which should be read in conjunction with these accompanying Consolidated Financial Statements.

(2) Accounting Pronouncements

Accounting Standards Recently Adopted

In February 2013, the FASB issued ASU No. 2013-02, “Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income” (“ASU 2013-02”), which requires enhanced reporting of such amounts either on the face of the financial statements or in the notes to the financial statements. Under ASU 2013-02, the type of reclassification out of accumulated other comprehensive income, as defined under current GAAP, will dictate whether the disclosure must provide the effect of the reclassification on the respective financial statement line items or whether cross-referencing to other disclosures that provide additional detail about the reclassification will be required. The amendments in ASU 2013-02 are effective prospectively for reporting periods beginning after December 15, 2012. We have included the enhanced disclosures in the financial statements.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

(3) Segment Information

The Company has three reportable segments: Life Insurance, Home Service Insurance, and Other Non-Insurance Enterprises. The accounting policies of the segments are in accordance with U.S. GAAP and are the same as those used in the preparation of the consolidated financial statements. The Company evaluates profit and loss performance based on U.S. GAAP income before federal income taxes for its three reportable segments.

The Company has no reportable differences between segments and consolidated operations.



	Three Months Ended
	March 31, 2013
	Life Insurance			Home Service Insurance		Other Non-Insurance Enterprises		Consolidated
	(In thousands)
Revenues:
Premiums	$	30,117		10,823		—		40,940
Net investment income	4,904			3,180		305		8,389
Realized investment gains, net	—			30		1		31
Other income	63			90		33		186
Total revenue	35,084			14,123		339		49,546
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders	9,338			5,468		—		14,806
Increase in future policy benefit reserves	16,042			917		—		16,959
Policyholders' dividends	2,059			15		—		2,074
Total insurance benefits paid or provided	27,439			6,400		—		33,839
Commissions	5,579			3,479		—		9,058
Other general expenses	2,852			3,266		581		6,699
Capitalization of deferred policy acquisition costs	(5,086		)	(1,276	)	—		(6,362	)
Amortization of deferred policy acquisition costs	3,985			641		—		4,626
Amortization of cost of customer relationships acquired	167			411		—		578
Total benefits and expenses	34,936			12,921		581		48,438
Income (loss) before income tax expense	$	148		1,202		(242	)	1,108

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)



	Three Months Ended
	March 31, 2012
	Life Insurance			Home Service Insurance		Other Non-Insurance Enterprises		Consolidated
	(In thousands)
Revenues:
Premiums	$	28,169		10,927		—		39,096
Net investment income	4,158			3,155		264		7,577
Realized investment gains, net	2			87		9		98
Decrease in fair value of warrants	—			—		36		36
Other income	57			6		35		98
Total revenue	32,386			14,175		344		46,905
Benefits and expenses:
Insurance benefits paid or provided:
Claims and surrenders	9,927			4,827		—		14,754
Increase in future policy benefit reserves	13,218			923		—		14,141
Policyholders' dividends	1,862			12		—		1,874
Total insurance benefits paid or provided	25,007			5,762		—		30,769
Commissions	5,022			3,642		—		8,664
Other general expenses	2,920			2,964		732		6,616
Capitalization of deferred policy acquisition costs	(4,512		)	(1,427	)	—		(5,939	)
Amortization of deferred policy acquisition costs	3,651			475		—		4,126
Amortization of cost of customer relationships acquired	209			367		—		576
Total benefits and expenses	32,297			11,783		732		44,812
Income (loss) before income tax expense	$	89		2,392		(388	)	2,093

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

(4) Earnings Per Share

The following tables set forth the computation of basic and diluted earnings per share.



	Three Months Ended
	March 31, 2013		March 31, 2012
	(In thousands, except per share amounts)
Basic and diluted earnings per share:
Numerator:
Net income	$	856	1,512
Net income allocated to Class A common stock	$	848	1,497
Net income allocated to Class B common stock	8		15
Net income	$	856	1,512
Denominator:
Weighted average shares of Class A outstanding - basic	49,080		48,959
Weighted average shares of Class A outstanding - diluted	49,080		49,004
Weighted average shares of Class B outstanding - basic and diluted	1,002		1,002
Basic earnings per share of Class A common stock	$	0.02	0.03
Basic earnings per share of Class B common stock	0.01		0.02
Diluted earnings per share of Class A common stock	0.02		0.03
Diluted earnings per share of Class B common stock	0.01		0.02

(5) Investments

The Company invests primarily in fixed maturity securities, which totaled 84.1% of total investments and cash and cash equivalents at March 31, 2013.



	March 31, 2013				December 31, 2012
	Carrying Value		% of Total Carrying Value		Carrying Value		% of Total Carrying Value
	(In thousands)				(In thousands)
Fixed maturity securities	$	815,389	84.1	%	$	791,528	82.7	%
Equity securities	54,029		5.6	%	53,741		5.6	%
Mortgage loans	1,376		0.1	%	1,509		0.2	%
Policy loans	44,872		4.6	%	42,993		4.5	%
Real estate and other long-term investments	8,559		0.9	%	8,553		0.9	%
Short-term investments	2,853		0.3	%	2,340		0.2	%
Cash and cash equivalents	42,608		4.4	%	56,299		5.9	%
Total cash, cash equivalents and investments	$	969,686	100.0	%	$	956,963	100.0	%

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

The following tables represent the cost, gross unrealized gains and losses and fair value for fixed maturities and equity securities as of the periods indicated.



	March 31, 2013
	Cost or Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Fair Value
	(In thousands)
Fixed maturities:
Available-for-sale:
U.S. Treasury securities	$	10,155	3,581	—	13,736
U.S. Government-sponsored enterprises	69,444		3,584	14	73,014
States and political subdivisions	314,560		17,756	1,182	331,134
Foreign governments	105		34	—	139
Corporate	204,478		19,724	190	224,012
Commercial mortgage-backed	416		16	2	430
Residential mortgage-backed	4,789		429	1	5,217
Total available-for-sale securities	603,947		45,124	1,389	647,682
Held-to-maturity securities:
U.S. Government-sponsored enterprises	16,482		458	—	16,940
States and political subdivisions	118,638		5,957	293	124,302
Corporate	32,587		1,144	7	33,724
Total held-to-maturity securities	167,707		7,559	300	174,966
Total fixed maturities	$	771,654	52,683	1,689	822,648
Equity securities:
Stock mutual funds	$	10,463	905	—	11,368
Bond mutual funds	41,504		396	185	41,715
Common stock	17		—	2	15
Preferred stock	569		362	—	931
Total equity securities	$	52,553	1,663	187	54,029

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)



	December 31, 2012
	Cost or Amortized Cost		Gross Unrealized Gains	Gross Unrealized Losses	Fair Value
	(In thousands)
Fixed maturities:
Available-for-sale securities:
U.S. Treasury securities	$	10,170	3,773	—	13,943
U.S. Government-sponsored enterprises	81,788		3,815	22	85,581
States and political subdivisions	265,812		17,227	777	282,262
Foreign governments	105		36	—	141
Corporate	195,755		20,536	286	216,005
Commercial mortgage-backed	481		17	2	496
Residential mortgage-backed	5,625		469	2	6,092
Total available-for-sale securities	559,736		45,873	1,089	604,520
Held-to-maturity securities:
U.S. Government-sponsored enterprises	28,632		514	—	29,146
States and political subdivisions	125,634		5,435	378	130,691
Corporate	32,742		1,160	—	33,902
Total held-to-maturity securities	187,008		7,109	378	193,739
Total fixed maturity securities	$	746,744	52,982	1,467	798,259
Equity securities:
Stock mutual funds	$	10,463	250	28	10,685
Bond mutual funds	41,504		541	129	41,916
Common stock	17		—	2	15
Preferred stock	760		365	—	1,125
Total equity securities	$	52,744	1,156	159	53,741

At March 31, 2013, the Company had $5.2 million of mortgage-backed security holdings based on amortized cost, of which $4.8 million, or 92.3%, were residential U.S. Government-sponsored issues. Mortgage-backed securities are also referred to as securities not due at a single maturity date throughout this report. The majority of the Company's equity securities are diversified stock and bond mutual funds.

Valuation of Investments in Fixed Maturity and Equity Securities

Held-to-maturity securities are reported in the financial statements at amortized cost and available-for-sale securities are reported at fair value.

The Company monitors all debt and equity securities on an on-going basis relative to changes in credit ratings, market prices, earnings trends and financial performance, in addition to specific region or industry reviews. The assessment of whether impairments have occurred is based on a case-by-case evaluation of underlying reasons for the decline in fair value. The Company determines other-than-temporary impairment by reviewing relevant evidence related to the specific security issuer as well as the Company's intent to sell the security, or if it is more likely than not that the Company would be required to sell a security before recovery of its amortized cost.

When an other-than-temporary impairment has occurred, the amount of the other-than-temporary impairment recognized in earnings depends on whether the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis. If the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is recognized in earnings equal to the

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

entire difference between the investment's cost and its fair value at the balance sheet date. If the Company does not intend to sell the security and it is more likely than not that the Company will not be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is separated into the following: (a) the amount representing the credit loss; and (b) the amount related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings. The amount of the total other-than-temporary impairment related to other factors is recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the other-than-temporary impairment recognized in earnings becomes the new amortized cost basis of the investment. The new amortized cost basis is not adjusted for subsequent recoveries in fair value.

The Company evaluates whether a credit impairment exists for debt securities by considering primarily the following factors: (a) changes in the financial condition of the security's underlying collateral; (b) whether the issuer is current on contractually obligated interest and principal payments; (c) changes in the financial condition, credit rating and near-term prospects of the issuer; (d) the length of time to which the fair value has been less than the amortized cost of the security; and (e) the payment structure of the security. The Company's best estimate of expected future cash flows used to determine the credit loss amount is a quantitative and qualitative process. Quantitative review includes information received from third party sources such as financial statements, pricing and rating changes, liquidity and other statistical information. Qualitative factors include judgments related to business strategies, economic impacts on the issuer and overall judgment related to estimates and industry factors. The Company's best estimate of future cash flows involves assumptions including, but not limited to, various performance indicators, such as historical and projected default and recovery rates, credit ratings, and current delinquency rates. These assumptions require the use of significant management judgment and include the probability of issuer default and estimates regarding timing and amount of expected recoveries, which may include estimating the underlying collateral value. In addition, projections of expected future debt security cash flows may change based upon new information regarding the performance of the issuer.

The primary factors considered in evaluating whether an impairment exists for an equity security include, but are not limited to: (a) the length of time and the extent to which the fair value has been less than the cost of the security; (b) changes in the financial condition, credit rating and near-term prospects of the issuer; (c) whether the issuer is current on contractually obligated payments; and (d) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery.

The Company did not recognize any other-than-temporary impairments ("OTTI") during the three months ended March 31, 2013 and 2012.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

The following tables present the fair values and gross unrealized losses of fixed maturities and equity securities that have remained in a continuous unrealized loss position for the periods indicated.



	March 31, 2013
	Less than 12 months				Greater than 12 months			Total
	Fair Value		Unrealized Losses	# of Securities	Fair Value	Unrealized Losses	# of Securities	Fair Value	Unrealized Losses	# of Securities
	(In thousands, except for # of securities)
Fixed maturities:
Available-for-sale securities:
U.S. Government-sponsored enterprises	$	1,673	14	4	—	—	—	1,673	14	4
States and political subdivisions	83,191		843	97	6,365	339	4	89,556	1,182	101
Corporate	29,883		190	18	—	—	—	29,883	190	18
Commercial mortgage-backed	—		—	—	48	2	1	48	2	1
Residential mortgage-backed	—		—	—	51	1	1	51	1	1
Total available-for-sale securities	114,747		1,047	119	6,464	342	6	121,211	1,389	125
Held-to-maturity securities:
States and political subdivisions	26,685		293	25	—	—	—	26,685	293	25
Corporate	2,212		7	2	—	—	—	2,212	7	2
Total held-to-maturity securities	28,897		300	27	—	—	—	28,897	300	27
Total fixed maturities	$	143,644	1,347	146	6,464	342	6	150,108	1,689	152
Equity securities:
Bond mutual funds	$	9,301	123	2	2,938	62	2	12,239	185	4
Common stocks	15		2	1	—	—	—	15	2	1
Total equities	$	9,316	125	3	2,938	62	2	12,254	187	5

As of March 31, 2013, the Company had 6 available-for-sale securities and no held-to-maturity securities that were in an unrealized loss position for greater than 12 months. These securities consisted of municipals and mortgage-backed securities.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)



	12/31/2012
	Less than 12 months				Greater than 12 months			Total
	Fair Value		Unrealized Losses	# of Securities	Fair Value	Unrealized Losses	# of Securities	Fair Value	Unrealized Losses	# of Securities
	(In thousands, except for # of securities)
Fixed maturities:
Available-for-sale securities:
U.S. Government-sponsored enterprises	$	10,603	22	9	—	—	—	10,603	22	9
States and political subdivisions	54,115		443	61	5,099	334	2	59,214	777	63
Corporate	22,316		286	16	—	—	—	22,316	286	16
Commercial mortgage-backed	94		2	1	—	—	—	94	2	1
Residential mortgage-backed	—		—	—	52	2	1	52	2	1
Total available-for-sale securities	87,128		753	87	5,151	336	3	92,279	1,089	90
Held-to-maturity securities:
States and political subdivisions	40,611		378	32	—	—	—	40,611	378	32
Total held-to-maturity securities	40,611		378	32	—	—	—	40,611	378	32
Total fixed maturities	$	127,739	1,131	119	5,151	336	3	132,890	1,467	122
Equity securities:
Stock mutual funds	$	—	—	—	972	28	1	972	28	1
Bond mutual funds	3,335		88	1	2,959	41	2	6,294	129	3
Common stock	15		2	1	—	—	—	15	2	1
Total equities	$	3,350	90	2	3,931	69	3	7,281	159	5

We have reviewed these securities for the periods ended March 31, 2013 and December 31, 2012 and determined that no other-than-temporary impairment exists based on our evaluation of the credit worthiness of the issuers and the fact that we do not intend to sell the investments nor is it likely that we will be required to sell the securities before recovery of their amortized cost bases which may be maturity. We continue to monitor all securities on an on-going basis, and future information may become available which could result in impairments being recorded.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

The amortized cost and fair value of fixed maturity securities at March 31, 2013 by contractual maturity are shown in the table below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.



	March 31, 2013
	Amortized Cost		Fair Value
	(In thousands)
Available-for-sale securities:
Due in one year or less	$	235,637	253,011
Due after one year through five years	81,964		88,031
Due after five years through ten years	124,791		134,658
Due after ten years	156,350		166,335
Securities not due at a single maturity date	5,205		5,647
Total available-for-sale securities	603,947		647,682
Held-to-maturity securities:
Due in one year or less	13,236		13,349
Due after one year through five years	34,427		35,047
Due after five years through ten years	46,058		49,283
Due after ten years	73,986		77,287
Total held-to-maturity securities	167,707		174,966
Total fixed maturities	$	771,654	822,648

The securities not due at a single maturity date are primarily mortgage-backed obligations of U.S. Government-sponsored enterprises and corporate securities.

The Company uses the specific identification method of the individual security to determine the cost basis used in the calculation of realized gains and losses related to security sales. Proceeds and gross realized gains from sales of securities for the three months ended March 31, 2013 and 2012 are summarized as follows.



		Fixed Maturities, Available-for-sale			Equity Securities
		Three Months Ended			Three Months Ended
		March 31, 2013			March 31, 2012
		2013		2012	2013	2012
	(In thousands)
Proceeds		$	58	503	—	—
Gross realized gains		$	1	1	—	—
Gross realized losses		$	—	—	—	—

During the three months ended March 31, 2013, one fixed maturity security was sold which resulted in a minimal realized gain. There were no securities sold at a loss during the three month period ended March 31, 2013 or 2012. There were no securities sold from the held-to-maturity portfolio for the three months ended March 31, 2013 or 2012.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

(6) Fair Value Measurements

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. We hold available-for-sale fixed maturity securities and equity securities, which are carried at fair value.

Fair value measurements are generally based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our view of market assumptions in the absence of observable market information. We utilize valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. All assets and liabilities carried at fair value are required to be classified and disclosed in one of the following three categories:


•	Level 1 - Quoted prices for identical instruments in active markets.


•	Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs or whose significant value drivers are observable.


•	Level 3 - Instruments whose significant value drivers are unobservable.

Level 1 primarily consists of financial instruments whose value is based on quoted market prices such as U.S. Treasury securities and actively traded mutual fund and stock investments.

Level 2 includes those financial instruments that are valued by independent pricing services or broker quotes. These models are primarily industry-standard models that consider various inputs, such as interest rates, credit spreads and foreign exchange rates for the underlying financial instruments. All significant inputs are observable, or derived from observable information in the marketplace or are supported by observable levels at which transactions are executed in the marketplace. Financial instruments in this category primarily include corporate securities, U.S. Government-sponsored enterprise securities, municipal securities and certain mortgage and asset-backed securities.

Level 3 is comprised of financial instruments whose fair value is estimated based on non-binding broker prices utilizing significant inputs not based on or corroborated by readily available market information. This category consists of two private placement mortgage-backed securities.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

The following tables set forth our assets and liabilities that are measured at fair value on a recurring basis as of the dates indicated.



	March 31, 2013
Available-for-sale investments	Level 1		Level 2	Level 3	Total Fair Value
	(In thousands)
Financial assets:
Fixed maturities:
U.S. Treasury and U.S. Government-sponsored enterprises	$	13,736	73,014	—	86,750
States and political subdivisions	—		331,134	—	331,134
Corporate	—		224,012	—	224,012
Commercial mortgage-backed	—		61	369	430
Residential mortgage-backed	—		5,217	—	5,217
Foreign governments	—		139	—	139
Total fixed maturities	13,736		633,577	369	647,682
Equity securities:
Stock mutual funds	11,368		—	—	11,368
Bond mutual funds	41,715		—	—	41,715
Common stock	15		—	—	15
Preferred stock	931		—	—	931
Total equity securities	54,029		—	—	54,029
Total financial assets	$	67,765	633,577	369	701,711



	December 31, 2012
Available-for-sale investments	Level 1		Level 2	Level 3	Total Fair Value
	(In thousands)
Financial assets:
Fixed maturities:
U.S. Treasury and U.S. Government-sponsored enterprises	$	13,943	85,581	—	99,524
States and political subdivisions	—		282,262	—	282,262
Corporate	—		216,005	—	216,005
Commercial mortgage-backed	—		109	387	496
Residential mortgage-backed	—		6,092	—	6,092
Foreign governments	—		141	—	141
Total fixed maturities	13,943		590,190	387	604,520
Equity securities:
Stock mutual funds	10,685		—	—	10,685
Bond mutual funds	41,916		—	—	41,916
Common stock	15		—	—	15
Preferred stock	1,125		—	—	1,125
Total equity securities	53,741		—	—	53,741
Total financial assets	$	67,684	590,190	387	658,261

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

Financial Instruments Valuation

Fixed maturity securities, available-for-sale. At March 31, 2013, our fixed maturity securities, valued using a third-party pricing source, totaled $633.6 million for Level 2 assets and comprised 90.3% of total reported fair value of our financial assets. The Level 1 and Level 2 valuations are reviewed and updated quarterly through random testing by comparisons to separate pricing models, other third-party pricing services, and back tested to recent trades. In addition, we obtain information relative to the third-party pricing models and review model parameters for reasonableness. Fair values for Level 3 assets are based upon unadjusted broker quotes that are non-binding, and consist of two private placement mortgage-backed securities with a total value of $0.4 million. Our Level 3 assets are current relative to principal and interest payments and are considered immaterial to our financial statements. For the three months ended March 31, 2013, there were no material changes to the valuation methods or assumptions used to determine fair values, and no broker or third party prices were changed from the values received.

Equity securities, available-for-sale. Our available-for-sale equity securities are classified as Level 1 assets as their fair values are based upon quoted market prices.

The following table presents additional information about fixed maturity securities measured at fair value on a recurring basis that are classified as Level 3 assets and for which we have utilized significant unobservable inputs to determine fair value.



	March 31, 2013			December 31, 2012
	(In thousands)

Balance at beginning of period	$	387		459
Total realized and unrealized gains (losses)
Included in net income	—			—
Included in other comprehensive income	(1		)	(6	)
Principal paydowns	(17		)	(66	)
Transfer in and (out) of Level 3	—			—
Balance at end of period	$	369		387

We review the fair value hierarchy classifications each reporting period. Changes in the observability of the valuation attributes may result in a reclassification of certain financial assets. Such reclassifications are reported as transfers in and out of Level 3 at the beginning fair value for the reporting period in which the changes occur. There were no transfers in or out of Level 1 or 2.

Financial Instruments not Carried at Fair Value

Estimates of fair values are made at a specific point in time, based on relevant market prices and information about the financial instruments. The estimated fair values of financial instruments presented below are not necessarily indicative of the amounts the Company might realize in actual market transactions.

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

The carrying amount and fair value for the financial assets and liabilities on the consolidated balance sheets not otherwise disclosed for the periods indicated are as follows:



	March 31, 2013			December 31, 2012
	Carrying Value		Fair Value	Carrying Value	Fair Value
	(In thousands)
Financial assets:
Fixed maturities, held-to-maturity	$	167,707	174,966	187,008	193,739
Mortgage loans	1,376		1,417	1,509	1,503
Policy loans	44,872		44,872	42,993	42,993
Short-term investments	2,853		2,853	2,340	2,340
Cash and cash equivalents	42,608		42,608	56,299	56,299
Financial liabilities:
Annuity benefit reserves	52,450		58,239	51,750	54,981

Fair values for fixed income securities, which are characterized as Level 2 assets in the fair value hierarchy, are based on quoted market prices for the same or similar securities. In cases where quoted market prices are not available, fair values are based on estimates using present value or other assumptions, including a discount rate and estimates of future cash flows.

Mortgage loans are secured principally by residential and commercial properties. Weighted average interest rates for these loans were approximately 6.5% and 6.6% as of March 31, 2013 and December 31, 2012, respectively, with maturities ranging from 1 to 30 years. Management estimated the fair value using an annual interest rate of 6.25% at March 31, 2013. Our mortgage loans are considered Level 3 assets in the fair value hierarchy.

Policy loans had a weighted average annual interest rate of 7.7% as of March 31, 2013 and December 31, 2012, and no specified maturity dates. The aggregate fair value of policy loans approximates the carrying value reflected on the consolidated balance sheets. These loans typically carry an interest rate that is tied to the crediting rate applied to the related policy and contract reserves. Policy loans are an integral part of the life insurance policies we have in force, cannot be valued separately and are not marketable. Therefore, the fair value of policy loans approximates the carrying value and policy loans are considered Level 3 assets in the fair value hierarchy.

The fair value of short-term investments approximate carrying value due to their short-term nature. Our short-term investments are considered Level 2 assets in the fair value hierarchy.

The fair value of cash and cash equivalents approximate carrying value and are characterized as Level 1 assets in the fair value hierarchy.

The fair value of the Company's liabilities under annuity contract policies, which are considered Level 3 assets, was estimated at March 31, 2013 using discounted cash flows based upon a swap rate curve with interest rates ranging from 0.24% to 4.03% based upon swap rates adjusted for various risk adjustments. The fair value of liabilities under all insurance contracts are taken into consideration in the overall management of interest rate risk, which seeks to minimize exposure to changing interest rates through the matching of investment maturities with amounts due under insurance contracts.

(7) Commitments and Contingencies

We are a defendant in a lawsuit filed on August 6, 1999, in the Texas District Court, Austin, Texas, now styled Delia Bolanos Andrade, et al., Plaintiffs, v. Citizens Insurance Company of America, et al., Defendants in which a class was originally certified by the trial court and reversed by the Texas Supreme Court in 2007 with an order to the trial court to conduct further proceedings

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CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES

Notes to Consolidated Financial Statements, Continued

March 31, 2013

(Unaudited)

consistent with its ruling. The underlying lawsuit alleged that certain life insurance policies CICA made available to non-U.S. residents, when combined with a policy feature that allowed certain cash benefits to be assigned to two non-U.S. trusts for the purpose of accumulating ownership of our Class A common stock, along with allowing the policyholders to make additional contributions to the trusts, were actually offers and sales of securities that occurred in Texas by unregistered dealers in violation of the Texas securities laws. The remedy sought was rescission and return of the insurance premium payments. On December 9, 2009, the trial court denied the recertification of the class after conducting additional proceedings in accordance with the Texas Supreme Court's ruling. The remaining plaintiffs must now proceed individually, and not as a class, if they intend to pursue their claims against us. Since the December 9, 2009 trial court ruling, no individual cases have been further pursued by the plaintiffs. The probability of the plaintiffs further pursuing their cases individually remains unknown. An estimate of any possible loss or range of losses cannot be made at this time in regard to individuals pursuing claims. However, should the plaintiffs further pursue their claims individually, we intend to vigorously defend any proceedings.

In 2007 and in the aftermath of Hurricane Katrina, the Attorney General for the State of Louisiana filed suit in the Civil District Court for the Parish of New Orleans (later removed to the United States District Court for the Eastern District of Louisiana) against SPFIC and every other homeowner insurer doing business in the State of Louisiana, on behalf of the State of Louisiana, as assignee, and on behalf of certain Road Home fund recipients. In April 2013, SPFIC and the State of Louisiana reached a confidential settlement agreement resolving substantially all claims against SPFIC in the Road Home matter for approximately $183,000. This amount has been accrued in the March 31, 2013 financial statements and did not have a material impact on the consolidated financials.

SPFIC is vigorously defending a number of matters in various stages of development filed in the aftermath of Hurricane Katrina and Hurricane Rita in addition to the Road Home Litigation, including a number of individual lawsuits, which are immaterial to the Company's financial statements.

We are defending these claims vigorously. However, in doing so, we continue to incur significant defense costs, including attorneys' fees, other direct litigation costs and the expenditure of substantial amounts of management time that otherwise would be devoted to our business.

By letter dated September 7, 2012, three state departments of treasury (or equivalent state agencies) notified the Company they intend to audit Citizens, Inc. and certain of its affiliates for compliance with unclaimed property laws. As of December 31, 2012, all three states had agreed to allow the Company to complete its own internal audit during 2013. The Company is currently performing the internal audit related to unclaimed property for all legal reporting entities. This audit began in the prior year and based upon the review to date, we have identified certain polici