United States

Securities and Exchange Commission

Washington, D.C. 20549

FORM 10-K

(Mark One)

Commission file number 000-52613

FIRST TRINITY FINANCIAL CORPORATION

(Exact name of small business issuer as specified in its charter)

(918) 249-2438

(Issuer's telephone number)

Securities registered pursuant to Section 12(b) of the Exchange Act:

Title of Each Class 

None

Securities registered pursuant to section 12(g) of the Exchange Act:

Title of Each Class 

Common Stock, $.01 Par Value

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    

Yes  ☐    No  ☒

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    

Yes  ☐    No  ☒

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.    

Yes  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted 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 and post such files).

Yes ☒  No ☐

Indicate by check mark 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.  ☒

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer, accelerated filer and smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act).

Yes ☐       No ☒

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter.

Because of the absence of an established trading market for the common stock, the registrant is unable to calculate the aggregate market value of the voting stock held by non-affiliates as of the last business day of the registrant’s most recently completed fiscal quarter.

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.    Common stock $.01 par value as of March 10, 2014: 7,851,984 shares

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s definitive Proxy Statement to be used in connection with its 2014 Annual Meeting of Shareholders, which is expected to be filed with the Securities and Exchange Commission within 120 days after the close of the fiscal year covered by this Form 10-K, are incorporated by reference into Part III of this report.

FIRST TRINITY FINANCIAL CORPORATION

TABLE OF CONTENTS

Exhibit 21.1

Exhibit 31.1

Exhibit 31.2

Exhibit 32.1

Exhibit 32.2

Exhibit No 101.INS

Exhibit No. 101.SCH

Exhibit No. 101.CAL

Exhibit No. 101.DEF

Exhibit No. 101.LAB

Exhibit No. 101.PRE

PART I

Item 1. Business

Business Development

First Trinity Financial Corporation (the “Company”) is the parent holding company of Trinity Life Insurance Company, Family Benefit Life Insurance Company, First Trinity Capital Corporation and Southern Insurance Services, LLC.

The Company was incorporated in Oklahoma on April 19, 2004, for the primary purpose of organizing a life insurance subsidiary. The Company raised $1,450,000 from two private placement stock offerings during 2004. On June 22, 2005, the Company’s intrastate public stock offering filed with the Oklahoma Department of Securities for $12,750,000, which included a 10% "over-sale" provision (additional sales of $1,275,000), was declared effective. The offering was completed February 23, 2007. The Company raised $14,025,000 from this offering. On June 29, 2010, the Company commenced a public offering of its common stock registered with the U.S. Securities and Exchange Commission and the Oklahoma Department of Securities. The offering was completed April 30, 2012. The Company raised $11,000,010 from this offering.

On August 15, 2012, the Company commenced a private placement of its common stock primarily in the states of Kansas, Missouri and South Dakota. The private placement was for 600,000 shares of the Company’s common stock for $8.50 per share. If all shares would have been sold, the Company would have received $4,335,000 after reduction for estimated offering expenses. This offering was suspended on March 8, 2013 and resulted in gross proceeds of $644,470 from the subscription of 75,820 shares of its common stock and incurred $321,944 in offering costs.

The Company purchased First Life America Corporation (“FLAC”) on December 23, 2008. On August 31, 2009, two of the Company’s subsidiaries, Trinity Life Insurance Company (“Old TLIC”) and FLAC, were merged, with FLAC being the surviving company. Immediately following the merger, FLAC changed its name to Trinity Life Insurance Company (“TLIC”). After the merger, the Company had two wholly owned subsidiaries, First Trinity Capital Corporation (“FTCC”) and TLIC, domiciled in Oklahoma.

TLIC is primarily engaged in the business of marketing, underwriting and distributing a broad range of individual life and annuity insurance products to individuals in eight states primarily in the Midwest. TLIC’s current product portfolio consists of a modified premium whole life insurance policy with a flexible premium deferred annuity rider, whole life, term, final expense, accidental death and dismemberment and annuity products. The term products are both renewable and convertible and issued for 10, 15, 20 and 30 years. They can be issued with premiums fully guaranteed for the entire term period or with a limited premium guarantee. The final expense is issued as either a simplified issue or as a graded benefit, determined by underwriting. The products are sold through independent agents in the states of Illinois, Kansas, Kentucky, Nebraska, North Dakota, Ohio, Oklahoma and Texas.

TLIC purchased Family Benefit Life Insurance Company (“Family Benefit Life”) on December 28, 2011. Family Benefit Life is primarily engaged in the business of marketing, underwriting and distributing a broad range of individual life and annuity insurance products to individuals in sixteen states. Family Benefit Life’s current product portfolio consists of whole life, term, accidental death and dismemberment and annuity products. The products are sold through independent agents in the states of Arizona, Colorado, Kansas, Missouri, Nebraska, New Mexico and Oklahoma. Family Benefit Life has recently been licensed in Arkansas, Illinois, Indiana, Kentucky, North Dakota, Pennsylvania, South Dakota, Texas and West Virginia.

FTCC was incorporated in 2006, and began operations in January 2007. FTCC provided financing for casualty insurance premiums for individuals and companies and was licensed to conduct premium financing business in the states of Alabama, Arkansas, Louisiana, Mississippi and Oklahoma. The Company’s management decided to focus on the Company’s core life and annuity insurance business and discontinue offering premium finance contracts. Specifically on May 16, 2012, the Company determined and then announced that FTCC would not accept new premium financing contracts after June 30, 2012. FTCC continued to process payments and service all existing premium financing contracts after June 30, 2012 through the duration that the property and casualty premium financing contracts were in force. The Company virtually completed processing and servicing its premium finance operations on June 30, 2013 subject to minor refunds, minor collections of past due accounts and legal matters. The Company incurred minimal costs related to exiting its premium financing operations since resources were redeployed into its growing life and annuity insurance operations.

The Company also owns 100% of Southern Insurance Services, LLC, (“SIS”), a limited liability company acquired in 2009, that operated as a property and casualty insurance agency but currently has no operations.

Our operations have been financed primarily through the private placement of equity securities and an intrastate public stock offering. Through December 31, 2013, we have received $27,119,480 from the sale of our shares. The Company was a development stage company until commencing operations in 2007. Net losses of $3,480,907 occurred from 2004 through 2009. Those losses resulted primarily from costs incurred while raising capital and establishing the subsidiary companies as well as losses resulting from issuing and administering new and renewal life insurance policies and financing casualty insurance premiums for individuals and companies. The Company’s operations produced combined net income of $9,442,533 in 2010, 2011, 2012 and 2013. The Company has therefore had cumulative net income since inception of $5,961,626.

The Company issued 323,777 shares in connection with a stock dividend paid to shareholders of record as of March 10, 2011, however, that resulted in accumulated earnings being charged $2,428,328 with an offsetting credit of $2,428,328 to common stock and additional paid-in capital. The Company also issued 378,928 shares in connection with a stock dividend paid to shareholders of record as of March 10, 2012, that resulted in accumulated earnings being charged an additional $2,841,960 with an offsetting credit of $2,841,960 to common stock and additional paid-in capital. The impact of these two stock dividend charges of $5,270,288 to accumulated earnings decreased the balance of accumulated earnings as of December 31, 2013 to $691,338, as shown in the accumulated earnings balance in the December 31, 2013 consolidated statement of financial position.

Acquisition of Other Companies 

On December 23, 2008, FTFC acquired 100% of the outstanding common stock of First Life America Corporation from an unaffiliated company (the “FLAC acquisition”). The FLAC acquisition was accounted for as a purchase. The aggregate purchase price for the FLAC acquisition was approximately $2,695,000 (including direct cost associated with the acquisition of approximately $195,000). The FLAC acquisition was financed with the working capital of FTFC. On December 31, 2008, FTFC made FLAC a 15 year loan in the form of a surplus note in the amount of $250,000 with an interest rate of 6% payable monthly, that was approved by the Oklahoma Insurance Department. This surplus note is eliminated in consolidation.

On December 28, 2011, TLIC acquired 100% of the outstanding common stock of Family Benefit Life from Family Benefit Life’s shareholders (the “Family Benefit Life acquisition”). The Family Benefit Life acquisition was accounted for as a purchase. The aggregate purchase price for the Family Benefit Life acquisition was $13,855,129 and was paid in cash.

Financial Information about Segments

Our business is comprised of three primary operating business segments: Life and Annuity Insurance Operations, Premium Finance Operations and Corporate Operations. Results for the parent holding company, after elimination of intercompany amounts, are allocated to the corporate operations segment. See Note 12 of the “Notes to Consolidated Financial Statements” for operating results of our segments for each of the years ended December 31, 2013 and 2012.

Life and Annuity Insurance Operations

Our Life and Annuity Insurance Operations consists of issuing ordinary whole life insurance, modified premium whole life with an annuity rider, term, final expense, accidental death and dismemberment and annuity products. The policies can be issued with premiums fully guaranteed for the entire term period or with a limited premium guarantee. The final expense is issued as either a simplified issue or as a graded benefit, determined by underwriting.

TLIC renewed its administrative services agreement with Investors Heritage Life Insurance Company (“IHLIC”) on August 28, 2012. Under the terms of this agreement, the services provided by IHLIC include underwriting, actuarial, policy issue, accounting, claims processing and other services incidental to the operations of TLIC. The agreement is effective for a period of five (5) years from September 1, 2012 through August 31, 2017 and includes a provision that the agreement may be terminated at any time by either party with a 180 day prior notice.

Family Benefit Life entered into an administrative services agreement with IHLIC on November 28, 2012. Under the terms of this agreement, the services provided by IHLIC include underwriting, actuarial, policy issue, accounting, claims processing and other services incidental to the operations of Family Benefit Life. The agreement is effective for a period of five (5) years from November 1, 2012 through October 31, 2017 and includes a provision that the agreement may be terminated at any time by either party with a 180 day prior notice.

FTFC entered into an administrative services agreement with IHLIC on January 7, 2011. Under the terms of this agreement, IHLIC provides services incidental to the operation of FTFC as a financial holding company. The agreement is effective for a period of five (5) years from January 1, 2011 through December 31, 2015 and includes a provision that the agreement may be terminated at any time by either party with a 180 day prior notice.

TLIC continues to seek to serve middle income households in the states of Illinois, Kansas, Kentucky, Nebraska, North Dakota, Ohio, Oklahoma and Texas. TLIC markets its products through independent agents. With the acquisition of Family Benefit Life in late 2011, we expanded into Arizona, Colorado, Missouri and New Mexico. In late 2012, Family Benefit Life was initially licensed in Arkansas, Indiana, Kentucky, North Dakota, South Dakota, Texas and West Virginia. In 2013, Family Benefit Life was initially licensed in Illinois and Pennsylvania.

The following table sets forth our direct collected life insurance premiums and annuity considerations by the policyholder’s state of residence at the time of premium collection, for the most significant states in which we are licensed, for the years ended December 31, 2013 and 2012, in accordance with statutory accounting practices prescribed by the states of domicile of TLIC and Family Benefit Life.

Reinsurance

TLIC cedes reinsurance under various agreements allowing management to control exposure to potential losses arising from large risks and providing additional capacity for growth and risk diversification. TLIC reinsures all amounts of risk on any one life in excess of $55,000 for individual life insurance with Investors Heritage Life Insurance Company, Munich American Reassurance Company, Optimum Re Insurance Company and Wilton Reassurance Company.

TLIC is a party to an Automatic Retrocession Pool Agreement (the “Reinsurance Pool”) with Optimum Re Insurance Company, Catholic Order of Foresters, American Home Life Insurance Company and Woodmen of the World. The agreement provides for automatic retrocession of coverage in excess of Optimum Re Insurance Company’s retention on business ceded to Optimum Re Insurance Company by the other parties to the Reinsurance Pool. TLIC’s maximum exposure on any one insured under the Reinsurance Pool is $50,000. As of January 1, 2008, the Reinsurance Pool stopped accepting new cessions.

Effective September 29, 2005, FLAC and Wilton Reassurance Company executed a binding letter of intent whereby both parties agreed that FLAC would cede the simplified issue version of its Golden Eagle Whole Life (Final Expense) product to Wilton Reassurance Company on a 50/50 quota share original term coinsurance basis. The letter of intent was executed on a retroactive basis to cover all applicable business issued by FLAC subsequent to January 1, 2005. Wilton Reassurance Company agreed to provide various commission and expense allowances to FLAC in exchange for FLAC ceding 50% of the applicable premiums to Wilton Reassurance Company as they were collected. As of June 24, 2006, Wilton Reassurance Company terminated the reinsurance agreement for new business issued after the termination date. Family Benefit Life also participates in reinsurance in order to provide risk diversification, additional capacity for future growth and limit the maximum net loss potential arising from large risk. Family Benefit Life reinsures initial amounts of risk on any one life in excess of $50,000 for individual life insurance with Optimum Re Insurance Company. Family Benefit Life also reinsures its accidental death benefit portion of their life policies under a bulk agreement with Optimum Re Insurance Company.

Family Benefit Life participated in the Servicemembers’ Group Life Insurance Pool, administered by Prudential Life Insurance Company, in which it assumed group life insurance on a percentage based on the total inforce amount of participating companies.  The group plan permitted conversion to permanent insurance with the initial face amount reinsured with the Office of Servicemembers’ Group Life Insurance. Family Benefit Life cancelled its participation in 2013.

To the extent that the reinsurance companies are unable to meet their obligations under the reinsurance agreements, TLIC and Family Benefit Life remain primarily liable for the entire amount at risk.

Competition 

The U.S. life insurance industry is a mature industry that, in recent years, has experienced little to no growth. Competition is intense because the life insurance industry is consolidating, with larger, more efficient and more effective organizations emerging from consolidation. In addition, legislation became effective in the United States that permits commercial banks, insurance companies and investment banks to combine. These factors have increased competitive pressures in general.

Many domestic life insurance companies have significantly greater financial, marketing and other resources, longer business histories and more diversified lines of insurance products than we do. We also face competition from companies marketing in person as well as with direct mail and internet sales campaigns. Although we may be at a competitive disadvantage to these entities, we believe that our premium rates and policy features are generally competitive with those of other life insurance companies selling similar types of products.

Governmental Regulation 

TLIC and Family Benefit Life, respectively, are subject to regulation and supervision by the Oklahoma Insurance Department (“OID”) and the Missouri Department of Insurance (“MDOI”). The insurance laws of Oklahoma and Missouri give the OID and MDOI broad regulatory authority, including powers to: (i) grant and revoke licenses to transact business; (ii) regulate and supervise trade practices and market conduct; (iii) establish guaranty associations; (iv) license agents; (v) approve policy forms; (vi) approve premium rates for some lines of business; (vii) establish reserve requirements; (viii) prescribe the form and content of required financial statements and reports; (ix) determine the reasonableness and adequacy of statutory capital and surplus; and (x) regulate the type and amount of permitted investments.

TLIC and Family Benefit Life can be required, under the solvency or guaranty laws of most states in which they do business, to pay assessments (up to prescribed limits) to fund policyholder losses or liabilities of other insurance companies that become insolvent. These assessments may be deferred or foregone under most guaranty laws if they would threaten an insurer's financial strength and, in certain instances, may be offset against future premium taxes.

TLIC is subject to Oklahoma laws and Family Benefit Life is subject to Missouri laws that limit the amount of dividends insurance companies can pay to stockholders without approval of the respective Departments of Insurance. The maximum dividend, which may be paid in any twelve-month period without notification or approval, is limited to the greater of 10% of statutory surplus as of December 31 of the preceding year or the net gain from operations of the preceding calendar year. Cash dividends may only be paid out of surplus derived from realized net profits. Based on these limitations, there is capacity for TLIC to pay a dividend up to $1,283,361 in 2014 without prior approval. In addition, based on those limitations, there is the capacity for Family Benefit Life to pay a dividend up to $976,941 in 2014 without prior approval. Family Benefit Life paid dividends of $850,000 and $1,515,975 to TLIC in 2013 and 2012, respectively. These dividends are eliminated in consolidation.

There are certain factors particular to the life insurance business which may have an adverse effect on the statutory operating results of TLIC and Family Benefit Life. One such factor is that the costs associated with issuing a new policy in force is usually greater than the first year’s policy premium. Accordingly, in the early years of a new life insurance company, these initial costs and the required provisions for reserves often have an adverse effect on statutory operating results.

Premium Finance Operations

The Company’s management decided to focus on the Company’s core life and annuity insurance business and discontinue offering premium finance contracts. Specifically on May 16, 2012, the Company determined and then announced that FTCC would not accept new premium financing contracts after June 30, 2012. FTCC continued to process payments and service all existing premium financing contracts after June 30, 2012 through the duration that the property and casualty premium financing contracts were in force. The Company virtually completed processing and servicing its premium finance operations on June 30, 2013 subject to minor refunds, minor collections of past due accounts and legal matters. The Company incurred minimal costs related to exiting its premium financing operations since resources were redeployed into its growing life and annuity insurance operations.

The premium finance subsidiary, FTCC, has provided premium financing to individuals and businesses. Many casualty insurance carriers require their premiums to be paid on an annual or lump sum basis. A premium finance company finances these casualty premiums. A typical premium finance contract requires the insured to pay 25% of the premium up front and the balance is paid over a nine month period. Premium financing is unique in that the unpaid balance due the company is lower than the unearned premium, which has in effect been assigned to the company in the event of non-payment, thus, the element of risk is minimized.

FTCC was capitalized with $4,000,000 from FTFC. The Company engaged in the premium finance business, independent of its life insurance business. FTCC is licensed to conduct premium finance business in Alabama, Arkansas, Louisiana, Mississippi and Oklahoma. Until the May 16, 2012 announcement discussed above, FTCC had historically contracted with over 200 insurance agencies to finance their casualty insurance premiums but focused on financing with approximately 30 agencies primarily in Oklahoma. There was no guarantee that those agencies would write premium financing contracts with FTCC. FTCC was not dependent on a single customer or a few major customers. During 2011, FTCC returned $1,000,000 of capital to FTFC. During 2012, FTCC returned $650,000 of capital to FTFC. During 2013, FTCC returned $200,000 of capital to FTFC.

Premium finance companies are regulated by the individual states with no uniformity among state regulations. Commercial insurance premium finance transactions are not regulated directly in Oklahoma. Consumer insurance premium finance transactions are considered a consumer credit sale and are subject to the Oklahoma Uniform Consumer Credit Code. Therefore the regulation of the transaction is by the Oklahoma Department of Consumer Credit under the consumer credit laws. FTCC is regulated by the Department of Banking in Mississippi.

SIS, a property and casualty insurance agency acquired in 2009, wrote commercial and personal lines of insurance, primarily in the state of Mississippi. SIS is no longer operating as a property and casualty insurance agency and currently has no operations.

Employees 

As of March 10, 2014, the Company had six full-time employees and one part-time employee.

Item 2. Properties

The Company leases 6,769 square feet of office space pursuant to a five-year lease that began October 1, 2010. Under the terms of the home office lease, the monthly rent is $7,897 from October 1, 2010 through September 30, 2015. The Company incurred rent expense of $76,192 and $76,136 for the years ended December 31, 2013 and 2012, respectively, under this lease and other minor leases. The Company received a $120,000 leasehold improvement allowance from the lessor that is being amortized over the non-cancellable lease term that reduced incurred rent expense by $25,263 for each of the years ended December 31, 2013 and 2012. Future minimum lease payments to be paid under non-cancellable lease agreements are $94,764 for 2014 and $71,073 in 2015.

TLIC owns approximately six and one-half acres of land located in Topeka, Kansas. A 20,000 square foot office building has been constructed on approximately one-half of this land. On December 24, 2009, TLIC entered into a five year lease of approximately 7,500 square feet of its building in Topeka, Kansas with an option for the lessee to renew the lease for five additional years. The terms of the lease leave TLIC responsible for paying real estate taxes, building insurance and building and ground maintenance. The monthly lease payments are as follows: $9,130 in 2012 and $9,371 in 2013 and 2014.

TLIC has also leased 10,000 square feet in the Topeka, Kansas office building under a lease that was renewed during 2006 to run through June 30, 2011 with a 90 day notice to terminate the lease by the lessee. This lease was renewed on July 1, 2011 to run through June 30, 2016. Beginning July 1, 2014, the lessee can terminate the lease with a 180 day written notice. The terms of the lease leave TLIC responsible for paying real estate taxes, building insurance and building and ground maintenance. The lease agreement calls for minimum monthly base lease payments of $17,535.

Effective August 29, 2005, TLIC executed a lease agreement for 2,500 square feet of the Topeka, Kansas office building. The base lease period commenced on September 1, 2005 and ended on August 31, 2010. The lease automatically renewed on August 15, 2010, for another five years with a 90 day notice by the lessee to terminate the lease. The terms of the lease leave TLIC responsible for paying real estate taxes, building insurance and building and ground maintenance. The lease agreement called for minimum monthly base lease payments of $4,332 through August 31, 2010. The lease payments decreased to $3,100 per month for the period September 1, 2010 through August 31, 2015.

In December 2013, TLIC purchased one acre of land in Greensburg, Indiana and a 3,975 square foot building constructed on approximately 8% of this land at a cost of $2,393,687. The building is leased through October 31, 2027 with future lease extensions on November 1, 2017 and November 1, 2022 through October 31, 2022 and October 31, 2027, respectively. The terms of the lease have the lessee responsible for paying real estate taxes, building insurance and building and ground maintenance. The monthly lease payments are as follows: $14,661 in 2014; $14,881 in 2015; $15,104 in 2016 and $15,331 in 2017.

In December 2013, TLIC also purchased one acre of land in Norman, Oklahoma, and a 9,100 square foot building constructed on approximately 18% of this land at a cost of $1,481,500. The building is leased through August 31, 2028 with future lease extensions on September 1, 2018 and September 1, 2023 through August 31, 2023 and August 31, 2028, respectively. The terms of the lease have the lessee responsible for paying real estate taxes, building insurance and building and ground maintenance. The monthly lease payments are $8,004 through August 31, 2018.

The future minimum lease payments to be received under the above non-cancellable lease agreements are $632,052, $509,840, $382,506, $249,358 and $64,032 for the years 2014 through 2018, respectively.

Family Benefit Life owned approximately one and one-half acres of land located in Jefferson City, Missouri. A 6,100 square foot building (serving as Family Benefit Life’s headquarters) and a 2,200 square foot building (leased to a third party) are on one acre of this land and the other half acre is held for sale. In October 2012, both of the buildings and the related land were sold.

With respect to the 2,200 square foot building, Family Benefit Life entered into a one-year lease beginning August 1, 2010 and ending July 31, 2011. The lease could have been renewed annually if no termination notice was given by either party on or before May 1. No notice was given by either party on May 1, 2011 or May 1, 2012 and therefore the lease was renewed for additional one-year periods. The tenant paid Family Benefit Life $15,000 per year in monthly installments of $1,250. In connection with the October 2012 sale of the two buildings, the underlying third party lease was transferred to the new owner. The new owner also charged the Company $12,152 of rent during the last three months of 2012.

Item 3. Legal Proceedings

The Company and Chairman, President and Chief Executive Officer, Gregg E. Zahn, filed an action in the District Court of Tulsa County, Oklahoma in 2013, Case No. CJ-2013-03385, against former Company Board of Directors member, Wayne Pettigrew and Mr. Pettigrew’s company, Group & Pension Planners, Inc. (the "Defendants").  The petition filed in the case alleges that Mr. Pettigrew, during and after the time he was a member of the Company’s Board of Directors, made defamatory statements regarding the Company and Mr. Zahn.  The defendants are alleged to have made defamatory statements to certain shareholders of the Company, to the press and to the Oklahoma Insurance Department and the Oklahoma Department of Securities.  Mr. Pettigrew has denied the allegations.

The Board of Directors, represented by independent counsel, concluded that there was no action to be taken against Mr. Zahn and that the allegations by Mr. Pettigrew were without substance.  The Company has been informed by the Oklahoma Insurance Department that it would take no action and also informed that the Oklahoma Department of Securities, after its investigation of the allegations, concluded that no proceedings were needed with respect to the alleged matters.

It is the Company’s intention to vigorously prosecute this action against the Defendants for damages and for the correction of the defamatory statements.  In the opinion of the Company’s management, the ultimate resolution of any contingencies that may arise from this litigation is not considered material in relation to the financial position or results of operations of the Company.

Prior to its acquisition by TLIC, Family Benefit Life developed, marketed, and sold life insurance products known as “Decreasing Term to 95” policies. On January 17, 2013, Family Benefit Life’s Board of Directors voted that, effective March 1, 2013, it was not approving, and therefore was not providing, a dividend for the Decreasing Term to 95 policies. On November 22, 2013, three individuals who owned Decreasing Term to 95 policies filed a Petition in the Circuit Court of Greene County, Missouri asserting claims against Family Benefit Life relating to Family Benefit Life’s decision to not provide a dividend under the Decreasing Term to 95 policies.

The Petition asserts claims for breach of contract and anticipatory breach of contract and alleges that Family Benefit Life breached, and will anticipatorily breach, the Decreasing Term to 95 policies of insurance by not providing a dividend sufficient to purchase a one year term life insurance policy which would keep the death benefit under the Decreasing Term to 95 policies the same as that provided during the first year of coverage under the policy. In addition to these claims, the Petition asserts claims for negligent misrepresentation, fraud, and violation of the Missouri Merchandising Practices Act. It alleges that during its sale of the Decreasing Term to 95 policies, Family Benefit Life represented that the owners of these policies would always be entitled to dividends to purchase a one-year term life insurance policy and that the owners would have a level death benefit without an increase in premium.

The Petition also seeks to certify a class of individuals with similar claims but no class has been certified by the Court. Family Benefit Life denies the allegations in the Petition and will continue to defend against them. It is the Company’s intention to vigorously defend the request for class certification, as well as to defend vigorously against the individual allegations. The Company is unable to determine the potential magnitude of the claims in the event of a final certification and the plaintiffs prevailing on the substantive action.

Item 4. Mine Safety Disclosures

None

PART II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Small Business Issuer Purchases of Equity Securities

(a)     Market Information

Trading of the Company’s common stock is limited and an established public market does not exist.

(i)     Holders

As of March 10, 2014, there were approximately 4,000 shareholders of the Company’s outstanding common stock.

(ii)     Dividends

The Company has not paid any cash dividends since inception (April 19, 2004). The Board of Directors of the Company has not adopted a dividend payment policy; however, dividends must necessarily depend upon the Company's earnings and financial condition, applicable legal restrictions, and other factors relevant at the time the Board of Directors considers a dividend policy. Cash available for dividends to shareholders of the Company must initially come from income and capital gains earned on its investment portfolio and dividends paid by the Company’s subsidiaries.

Provisions of the Oklahoma Insurance Code relating to insurance holding companies subject transactions between the Company and TLIC and the Company and Family Benefit Life, including dividend payments, to certain standards generally intended to prevent such transactions from adversely affecting the adequacy of life insurance subsidiaries' capital and surplus available to support policyholder obligations. In addition, under the Oklahoma General Corporation Act, the Company may not pay dividends if, after giving effect to a dividend, it would not be able to pay its debts as they become due in the usual course of business or if its total liabilities would exceed its total assets.

On January 10, 2011, the Company’s Board of Directors approved a 5% share dividend by which shareholders received a share of common stock for each 20 shares of common stock of the Company they hold. The dividend was payable to the holders of shares of the Corporation as of March 10, 2011. Fractional shares were rounded to the nearest whole number of shares. The Company issued 323,777 shares in connection with the stock dividend that resulted in accumulated deficit being charged $2,428,328 with an offsetting credit of $2,428,328 to common stock and additional paid-in capital.

On January 11, 2012, the Company’s Board of Directors approved another 5% share dividend by which shareholders received a share of common stock for each 20 shares of common stock of the Company they hold. The dividend was payable to the holders of shares of the Corporation as of March 10, 2012. Fractional  shares were rounded to the nearest whole number of shares. The Company issued 378,928 shares in connection with the stock dividend that resulted in accumulated deficit being charged $2,841,960 with an offsetting credit of $2,841,960 to common stock and additional paid-in capital.

(iii)    Securities Authorized for Issuance Under Equity Compensation Plans

There are no plans under which equity securities are authorized for issuance.

(b)     None

(c)     Purchases of Equity Securities by Issuer

The Company repurchased 185,313 shares of its common stock from former members of the Board of Directors at a cost of $648,595 during 2012 and during 2013 repurchased 12,896 shares of its common stock for $45,136 from a former member of the Board of Directors and a charitable organization for which that former Director had donated 10,250 shares of the Company’s common stock.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview 

First Trinity Financial Corporation (“we” “us”, “our”, or the Company) conducts operations as an insurance holding company emphasizing ordinary life insurance products in niche markets and a premium finance company, financing casualty insurance premiums.

As an insurance provider, we collect premiums in the current period to pay future benefits to our policy and contract holders. Our core TLIC operations include issuing modified premium whole life insurance with a flexible premium deferred annuity, ordinary whole life, final expense, term and annuity products to predominately middle income households in the states of Illinois, Kansas, Kentucky, Nebraska, North Dakota, Ohio, Oklahoma and Texas through independent agents. With the acquisition of Family Benefit Life in late 2011, we expanded into Arizona, Colorado, Missouri and New Mexico. In late 2012, Family Benefit Life was initially licensed in Arkansas, Indiana, Kentucky, North Dakota, South Dakota, Texas and West Virginia. In 2013, Family Benefit Life was initially licensed in Illinois and Pennsylvania.

We also realize revenues from our investment portfolio, which is a key component of our operations. The revenues we collect as premiums from policyholders are invested to ensure future benefit payments under the policy contracts. Life insurance companies earn profits on the investment spread, which reflects the investment income earned on the premiums paid to the insurer between the time of receipt and the time benefits are paid out under policies. Changes in interest rates, changes in economic conditions and volatility in the capital markets can all impact the amount of earnings that we realize from our investment portfolio.

Prior to June 30, 2013, we provided financing for casualty insurance premiums through independent property and casualty insurance agents. We are licensed in the states of Alabama, Arkansas, Louisiana, Mississippi and Oklahoma.

The Company’s management decided two years ago to focus on the Company’s core life and annuity insurance business and discontinue offering premium finance contracts. Specifically on May 16, 2012, the Company determined and then announced that FTCC would not accept new premium financing contracts after June 30, 2012. FTCC continued to process payments and service all existing premium financing contracts after June 30, 2012 through the duration that the property and casualty premium financing contracts were in force. The Company virtually completed processing and servicing its premium finance operations on June 30, 2013 subject to minor refunds, minor collections of past due accounts and legal matters. The Company incurred minimal costs related to exiting its premium financing operations since resources were redeployed into its growing life and annuity insurance operations.

Recent Acquisitions 

The Company expects to facilitate growth through acquisitions of other life insurance companies and/or blocks of life insurance business. In late December 2008, the Company completed its acquisition of 100% of the outstanding stock of First Life America Corporation, included in the life insurance segment, for $2,500,000 and had additional acquisition related expenses of $195,000.

In late December 2011, the Company completed its acquisition of 100% of the outstanding stock of Family Benefit Life Insurance Company, included in the life insurance segment, for $13,855,129 paid in cash.

Critical Accounting Policies and Estimates

The discussion and analysis of our financial condition, results of operations and liquidity and capital resources is based on our consolidated financial statements that have been prepared in accordance with accounting principles generally accepted in the United States. Preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses. We evaluate our estimates and assumptions continually, including those related to investments, deferred acquisition costs, value of insurance business acquired and policy liabilities. We base our estimates on historical experience and on various other factors and assumptions that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe the following accounting policies, judgments and estimates are the most critical to the preparation of our consolidated financial statements.

Investments in Fixed Maturities and Equity Securities

We hold fixed maturities and equity interests in a variety of companies. We continuously evaluate all of our investments based on current economic conditions, credit loss experience and other developments. We evaluate the difference between the cost/amortized cost and estimated fair value of our investments to determine whether any decline in fair value is other-than-temporary in nature. This determination involves a degree of uncertainty. If a decline in the fair value of a security is determined to be temporary, the decline is recognized in other comprehensive income (loss) within shareholders’ equity. If a decline in a security’s fair value is considered to be other-than-temporary, we then determine the proper treatment for the other-than-temporary impairment.

For fixed maturities, the amount of any other-than-temporary impairment related to a credit loss is recognized in earnings and reflected as a reduction in the cost basis of the security. The amount of any other-than-temporary impairment related to other factors is recognized in other comprehensive income (loss) with no change to the cost basis of the security. For equity securities, the amount of any other-than-temporary impairment is recognized in earnings and reflected as a reduction in the cost basis of the security.

The assessment of whether a decline in fair value is considered temporary or other-than-temporary includes management’s judgment as to the financial position and future prospects of the entity issuing the security. It is not possible to accurately predict when it may be determined that a specific security will become impaired. Future adverse changes in market conditions, poor operating results of underlying investments and defaults on interest and principal payments could result in losses or an inability to recover the current carrying value of the investments, thereby possibly requiring an impairment charge in the future. In addition, if a change occurs in our intent to sell temporarily impaired securities prior to maturity or recovery in value, or if it becomes more likely than not that we will be required to sell such securities prior to recovery in value or maturity, a future impairment charge could result. If an other-than-temporary impairment related to a credit loss occurs with respect to a bond, we amortize the reduced book value back to the security’s expected recovery value over the remaining term of the bond. We continue to review the security for further impairment that would prompt another write-down in the book value.

Deferred Policy Acquisition Costs

Commissions and other acquisition costs which vary with and are primarily related to the successful production of new and renewal insurance contracts are deferred and amortized in a systematic manner based on the related contract revenues or gross profits as appropriate. The recovery of deferred acquisition costs is dependent on the future profitability of the underlying business for which acquisition costs were incurred. Each reporting period, we evaluate the recoverability of the unamortized balance of deferred acquisition costs. We consider estimated future gross profits or future premiums; expected mortality or morbidity; interest earned and credited rates; persistency and expenses in determining whether the balance is recoverable.

If we determine a portion of the unamortized balance is not recoverable, it is immediately charged to amortization expense. The assumptions we use to amortize and evaluate the recoverability of the deferred acquisition costs involve significant judgment. A revision to these assumptions may impact future financial results. Deferred acquisition costs related to the successful production of new and renewal insurance business for traditional life insurance contracts are deferred to the extent deemed recoverable and amortized over the premium paying period of the related policies using assumptions consistent with those used in computing future policy benefit liabilities.

Deferred acquisition costs related to the successful production of new and renewal insurance and annuity products that subject us to mortality or morbidity risk over a period that extends beyond the period or periods in which premiums are collected and that have terms that are fixed and guaranteed (i.e., limited-payment long-duration annuity contracts) are deferred to the extent deemed recoverable and amortized in relation to the present value of actual and expected gross profits on the policies. To the extent that realized gains and losses on securities result in adjustments to deferred acquisition costs related to insurance and annuity products, such adjustments are reflected as a component of the amortization of deferred acquisition costs.

Deferred acquisition costs related to limited-payment long-duration insurance and annuity contracts are also adjusted, net of tax, for the change in amortization that would have been recorded if the unrealized gains (losses) from securities had actually been realized. This adjustment is included in the change in net unrealized appreciation (depreciation) on available-for-sale securities, a component of “Accumulated Other Comprehensive Income” in the shareholders’ equity section of the statement of financial position.

Value of Insurance Business Acquired

As a result of our purchases of FLAC and Family Benefit Life, an asset was recorded in the application of purchase accounting to recognize the value of acquired insurance in force.  The Company’s value of acquired insurance in force is an intangible asset with a definite life and is amortized under Financial Accounting Standards Board (“FASB”) guidance.  The value of acquired insurance in force is amortized primarily over the emerging profit of the related policies using the same assumptions that were used in computing liabilities for future policy benefits. The recovery of the value of insurance business acquired is dependent on the future profitability of the underlying business that was initially recorded in the purchases of FLAC and Family Benefit Life. Each reporting period, we evaluate the recoverability of the unamortized balance of the value of insurance business acquired.

For the amortization of the value of acquired insurance in force, the Company reviews its estimates of gross profits each reporting period. The most significant assumptions involved in the estimation of gross profits include interest rate spreads; future financial market performance; business surrender and lapse rates; mortality and morbidity; expenses and the impact of realized investment gains and losses. In the event actual experience differs significantly from assumptions or assumptions are significantly revised, the Company is required to record a charge or credit to amortization expense for the period in which an adjustment is made.

As of December 31, 2013 and 2012, there was $1,653,087 and $1,230,982, respectively, of accumulated amortization of the value of insurance business acquired due to the purchases of FLAC and Family Benefit Life. The Company expects to amortize the value of insurance business acquired by the following amounts over the next five years:  $444,757 in 2014, $419,319 in 2015, $387,194 in 2016, $359,659 in 2017 and $308,631 in 2018.

Future Policy Benefits

Our liability for future policy benefits is primarily comprised of the present value of estimated future payments to or on behalf of policyholders, where the timing and amount of payment depends on policyholder mortality or morbidity, less the present value of future net premiums. For life insurance and annuity products, expected mortality and morbidity is generally based on the Company’s historical experience or standard industry tables including a provision for the risk of adverse deviation. Interest rate assumptions are based on factors such as market conditions and expected investment returns. Although mortality and morbidity and interest rate assumptions are “locked-in” upon the issuance of new insurance with fixed and guaranteed terms, significant changes in experience or assumptions may require the Company to provide for expected future losses on a product by establishing premium deficiency reserves.

Estimating liabilities for our long-duration insurance contracts requires management to make various assumptions, including policyholder persistency; mortality rates; investment yields; discretionary benefit increases; new business pricing and operating expense levels. We evaluate historical experience for these factors when assessing the need for changing current assumptions. However, since many of these factors are interdependent and subject to short-term volatility during the long-duration contract period, substantial judgment is required. Actual experience may emerge differently from that originally estimated. Any such difference would be recognized in the current year’s consolidated statement of operations.

Recent Accounting Pronouncements

Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income

In February 2013, the FASB issued updated guidance to improve the reporting of reclassifications out of accumulated other comprehensive income. The guidance requires an entity to present, either on the face of the statement of operations or in the notes, separately for each component of comprehensive income, the current period reclassifications out of accumulated other comprehensive income by the respective line items of net income affected by the reclassification.

The updated guidance is effective prospectively for reporting periods beginning after December 15, 2012. The Company adopted the updated guidance effective March 31, 2013, and such adoption did not have any effect on the Company’s results of operations, financial position or liquidity.

Future Application of Accounting Standards

The Company is currently required to prepare its financial statements in accordance with U.S. Generally Accepted Accounting Principles (GAAP), as promulgated by the FASB. During the last several years, the Securities and Exchange Commission (SEC) has been evaluating whether, when and how International Financial Reporting Standards (IFRS) should be incorporated into the U.S. financial reporting system. Before making a decision, the SEC set forth a work plan to evaluate the remaining differences between GAAP and IFRS, determine whether IFRS represent high quality standards, consider how the International Accounting Standards Board (IASB) is funded and its governance structure and examine the variations in the way IFRS was applied by various foreign companies that file financial statements with the SEC. In July 2012, the SEC staff issued a final report on the SEC work plan which concluded that IFRS provided high quality accounting standards, but also indicated concerns with funding, consistency of application and enforcement of IFRS globally. The report did not give a recommendation to the SEC on whether, when and how IFRS should be incorporated into the U.S. financial reporting system. In addition, the SEC has not indicated a timeline for further consideration of incorporating IFRS.

The FASB and the IASB have a convergence program with the intent of developing global standards for several significant areas of accounting, including the accounting for insurance contracts. In June 2012, the FASB issued a statement that indicated that based on the nature and totality of differences between the FASB's and IASB's views, it is not likely that the two boards will achieve convergence on this project. The FASB further noted that the FASB and IASB have very different perspectives on the project, given that the U.S. has existing guidance on insurance contracts whereas there is currently no comprehensive IFRS accounting standard for insurance contracts. In June 2013, each board issued for comment an exposure draft of the accounting for insurance contracts that has significant differences from the other board's draft as well as from current GAAP. Both exposure drafts propose changes that, if ultimately adopted, could significantly impact the accounting by insurers, including the Company, for premiums, policyholders’ account balances, future policy benefits, policy claims and claims adjustment expenses, reinsurance and deferred acquisition costs. The Boards are reviewing the comments received on the exposure drafts and are expected to begin re-deliberations in the first quarter of 2014. As a result of this, it is currently unclear what changes, if any, may be made to the accounting for insurance contracts under GAAP as a result of this project. In addition, any new standards issued by the Boards regarding insurance contracts may involve methodologies for valuing insurance contract liabilities that may be significantly different from the methodologies required by current GAAP. It is also possible that the Boards could issue different final standards. In February 2014, the FASB announced that it has decided to consider targeted improvements to GAAP related to insurance contracts rather than a comprehensive overhaul of GAAP related to insurance contracts.

The FASB and the IASB also continue to deliberate the three remaining projects intended to bring convergence between GAAP and IFRS for revenue recognition, accounting for financial instruments and leasing. The revenue recognition project is largely converged and the Boards are expected to issue final guidance in the first half of 2014. The Boards currently have different positions on certain key aspects of the financial instrument project (the classification and measurement and impairment) but both Boards intend to complete their financial instrument project during the first half of 2014. The timing of the leasing project is not known at this time.

The Company is not able to predict whether it will be required to adopt IFRS or how the adoption of IFRS (or the potential convergence of GAAP and IFRS, including the joint project for valuing insurance contract liabilities) may impact the Company's financial statements in the future.

Business Segments

FASB guidance requires a "management approach" in the presentation of business segments based on how management internally evaluates the operating performance of business units. The discussion of segment operating results that follows is being provided based on segment data prepared in accordance with this methodology. Our business segments are as follows:

Please see Note 12 to the Consolidated Financial Statements for additional information regarding segment data.

The following is a discussion and analysis of our financial condition, results of operations and liquidity and capital resources.

FINANCIAL HIGHLIGHTS

Consolidated Condensed Results of Operations for the Years Ended December 31, 2013 and 2012

Consolidated Condensed Financial Position as of December 31, 2013 and 2012

Results of Operations – Years Ended December 31, 2013 and 2012

Revenues

Our primary sources of revenue are life insurance premium income and investment income. Premium payments are classified as first-year, renewal and single. In addition, realized investment gains and losses can significantly impact revenues from period to period.

Our revenues for the years ended December 31, 2013 and 2012 are summarized as follows:

The increase of $1,339,713 in total revenues for the year ended December 31, 2013 is discussed below.

Premiums

Our premiums for the years ended December 31, 2013 and 2012 are summarized as follows:

The $95,229 decrease in premiums for the year ended December 31, 2013 is primarily due to $716,413 of decreased whole life and term first year and renewal premiums and final expense first year premiums that exceeded an increase of $621,184 in final expense renewal premiums. The decreases in first year premiums are due to less new production. The decrease in whole life and term renewal premiums is as expected due to the Company’s focus on annuity and final expense production.

Income from Premium Financing

The income from premium financing has steadily decreased. There was a decrease of $58,346 for the year ended December 31, 2013.

As introduced above, the Company’s management decided to focus on the Company’s core life and annuity insurance business and discontinue offering premium finance contracts. Specifically on May 16, 2012, the Company determined and then announced that FTCC would not accept new premium financing contracts after June 30, 2012. FTCC continued to process payments and service all existing premium financing contracts after June 30, 2012 through the duration that the property and casualty premium financing contracts were in force. The Company virtually completed processing and servicing its premium finance operations on June 30, 2013 subject to minor refunds, minor collections of past due accounts and legal matters. The Company incurred minimal costs related to exiting its premium financing operations since resources were redeployed into its growing life and annuity insurance operations.

Net Investment Income

The major components of our net investment income for the years ended December 31, 2013 and 2012 are summarized as follows:

The $1,349,110 increase in gross investment income for the year ended December 31, 2013 is due to the 2013 investment of excess cash primarily in fixed maturity securities, other long-term investments (lottery receivables) and mortgage loans.

The $242,382 increase in investment expenses for the year ended December 31, 2013 is primarily due to $180,000 of increased fees associated with increased purchasing of fixed maturity securities, mortgage loans, investment real estate and lottery receivables. In addition, during 2013, the Company established a $58,000 allowance for possible uncollectible mortgage loans on real estate that are not subject to funds held in escrow. As of December 31, 2013, $201,936 of cash and $203,841 of independent mortgage loan balances are held in escrow by a third party for the benefit of the Company related to its investment in mortgage loans on real estate with one loan originator.    

Net Realized Investment Gains

There was a $385,562 increase in net realized investment gains for the year ended December 31, 2013.

The net realized investment gains from the sales and maturities of fixed maturity securities available-for-sale of $915,009 for the year ended December 31, 2013 resulted from proceeds of $10,805,866 for these securities that had carrying values of $9,890,857 at the 2013 disposal dates.

The net realized investment losses from the sales and impairment of equity securities available-for-sale of $46,954 for the year ended December 31, 2013 resulted from proceeds of $97,975 for these securities that had carrying values of $144,929 at the 2013 disposal dates. An equity security with a carrying value of $42,500 was deemed to be fully impaired in fourth quarter 2013 with the decrease in value reported as a realized loss.

The net realized investment gains from mortgage loans on real estate of $264,396 for the year ended December 31, 2013, resulted from the early payoff of mortgage loans that the Company had acquired at a discounted price.

The net realized investment gains from the sales and maturities of fixed maturity securities available-for-sale of $228,320 for the year ended December 31, 2012 resulted from proceeds of $9,511,967 for these securities that had carrying values of $9,283,647 at the 2012 disposal dates.

The net realized investment gains from the sales of equity securities available-for-sale of $442,737 for the year ended December 31, 2012 resulted from proceeds of $1,114,426 for these securities that had carrying values of $671,689 at the 2012 disposal dates.

The net realized investment gains from the sale of investment real estate of $75,832 for the year ended December 31, 2012 resulted from proceeds of $512,500 from the sale of two buildings that had a carrying value of $436,668 at the 2012 disposal date.

We recorded no other-than-temporary impairments in 2013 or 2012 other than the $42,500 realized loss recorded on the equity security that was deemed to be fully impaired in fourth quarter 2013.

Other Income

The $998 increase in other income for the year ended December 31, 2013 is primarily due to increased service fees.

Total Benefits, Claims and Expenses

Our benefits, claims and expenses are primarily generated from benefit payments, surrenders, interest credited to policyholders, change in reserves, commissions and other underwriting, insurance and acquisition expenses. Benefit payments can significantly impact expenses from period to period.

Our benefits, claims and expenses for the years ended December 31, 2013 and 2012 are summarized as follows:

The increase of $1,089,451 in total benefits, claims and expenses for the year ended December 31, 2013 is discussed below.

Benefits and Claims

The $360,077 increase in benefits and claims for the year ended December 31, 2013 is primarily due to the following:

Deferral and Amortization of Deferred Acquisition Costs

Certain costs related to the successful acquisition of traditional life insurance policies are capitalized and amortized over the premium-paying period of the policies. Certain costs related to the successful acquisition of insurance and annuity policies that subject us to mortality or morbidity risk over a period that extends beyond the period or periods in which premiums are collected and that have terms that are fixed and guaranteed (i.e., limited-payment long-duration annuity contracts) are capitalized and amortized in relation to the present value of actual and expected gross profits on the policies. These acquisition costs, which are referred to as deferred policy acquisition costs, include commissions and other successful costs of acquiring life insurance, which vary with, and are primarily related to, the successful production of new and renewal insurance and annuity contracts.

For the year ended December 31, 2013 and 2012, capitalized costs were $1,950,072 and $2,302,070, respectively. Amortization of deferred policy acquisition costs for the years ended December 31, 2013 and 2012 were $831,637 and $512,546, respectively.

The $351,998 decrease in the acquisition costs deferred is primarily due to a decline in commissions due to decreased 2013 final expense production and our decision, based upon the evaluation of 2013 operations, to decrease the deferral of non-commission acquisition costs for products sold in 2013. This reduction in the deferral of non-commission acquisition costs for products sold in 2013 amounted to approximately $150,000.

The $319,091 increase in the 2013 amortization of deferred acquisition costs primarily reflects an actuarial adjustment to increase the average policy size of final expense products that resulted in a $200,000 reduction in the per policy non-commission acquisition costs that had historically been capitalized through 2013. The remainder of the decrease reflects a slight reduction in persistency.

Amortization of Value of Insurance Business Acquired

The cost of acquiring insurance business is amortized over the emerging profit of the related policies using the same assumptions that were used in computing liabilities for future policy benefits. Amortization of the value of insurance business acquired was $422,105 and $403,573 for the years ended December 31, 2013 and 2012, respectively. The $18,532 increase in the 2013 amortization of value of insurance business acquired primarily is as expected and reflects a slight increase in surrender activity of the insurance policies and contracts acquired in the Family Benefit Life acquisition.

Commissions

Our commissions for the years ended December 31, 2013 and 2012 are summarized as follows:

The $295,644 decrease in commissions for the year ended December 31, 2013 is primarily due to:

Other Underwriting, Insurance and Acquisition Expenses

The $335,397 increase in other underwriting, insurance and acquisition expenses for the year ended December 31, 2013 is primarily attributed to the 2011 accrual of $250,000 of conversion costs related to the acquisition of Family Benefit Life and a 2012 decrease in salaries of $150,000 related to a reduction for estimated bonuses accrued in 2011 related to the acquisition of Family Benefit Life that were not ultimately paid during 2012. The remaining increase in other underwriting, insurance and acquisition expenses is primarily due to legal fees related to two cases. Please see Note 14 to the Consolidated Financial Statements for a description of the legal claims and assessments surrounding these two cases.

Federal Income Taxes

FTFC files a consolidated federal income tax return with FTCC but does not file a consolidated tax return with TLIC or Family Benefit Life. TLIC and Family Benefit Life are taxed as life insurance companies under the provisions of the Internal Revenue Code. Life insurance companies must file separate tax returns until they have been a member of the consolidated filing group for five years. However, in 2013, we filed a combined life insurance company 2012 federal tax return for TLIC and Family Benefit Life and intend to also file a combined life insurance company 2013 federal tax return for TLIC and Family Benefit Life in 2014. Certain items included in income reported for financial statement purposes are not included in taxable income for the current period, resulting in deferred income taxes.

For the years ended December 31, 2013 and 2012, current income tax expense was $100,820 and $273,054, respectively. Deferred income tax expense (benefit) was $217,932 and ($417,122), for the years ended December 31, 2013 and 2012, respectively.

Net Income Per Common Share Basic and Diluted

Net income was $889,323 ($0.11 per common share basic and diluted) and $1,101,881 ($0.14 per common share basic and diluted) for the years ended December 31, 2013 and 2012, respectively.

Net income per common share basic and diluted is calculated using the weighted average number of common shares outstanding and subscribed during the year. The weighted average outstanding and subscribed common shares basic and diluted for the year ended December 31, 2013 and 2012 were 7,852,014 and 7,883,901, respectively. These weighted average shares reflect the retrospective adjustment for the impact of the 5% stock dividend declared by the Company on January 11, 2012 and issued to holders of shares of the Company as of March 10, 2012.

Business Segments

The revenues and income (loss) before federal income taxes from our business segments for the years ended December 31, 2013 and 2012 are summarized as follows:

Life and Annuity Insurance Operations

The $1,603,793 increase in revenues from Life and Annuity Insurance Operations for the year ended December 31, 2013 is primarily due to the following:

The $548,533 increased profitability from Life and Annuity Insurance Operations for the year ended December 31, 2013 is primarily due to the following:

Premium Finance Operations

The $58,589 decrease in revenues from Premium Finance Operations for the year ended December 31, 2013 is due to decreased fee income as we discontinued offering premium finance contracts on July 1, 2012.

The $103,654 decreased profitability from Premium Finance Operations for the year ended December 31, 2013 is primarily due to $58,589 of decreased fee income and $45,000 of increased operating expenses primarily for legal fees.

Corporate Operations

The $205,491 decrease in revenues from Corporate Operations is primarily due to $350,000 of net realized investment gains from the sale of an equity security in 2012 that exceeded $187,009 of increased net investment income in 2013 less $42,500 of net realized investment losses from the 2013 full impairment of an equity security.

The $194,617 decreased Corporate Operations profitability for 2013 is primarily due to the $205,491 decrease in revenues discussed above that exceeded $11,000 of decreased operating expenses.

Consolidated Financial Condition

Our invested assets as of December 31, 2013 and 2012 are summarized as follows:

The $1,769,914 increase in available for sale fixed maturity securities for the year ended December 31, 2013 is primarily due to purchases of $17,407,413 in excess of sales and maturities of $10,805,866, net realized investment gains of $915,009, decrease in unrealized appreciation of $4,905,601 and premium amortization of $841,041. This portfolio is reported at fair value with unrealized gains and losses, net of applicable income taxes, reflected as a separate component in shareholders' equity within “Accumulated Other Comprehensive Income.” The available-for-sale fixed maturity securities portfolio is invested primarily in a variety of companies and U. S. government and foreign securities.

As of December 31, 2013, we held 154 available-for-sale fixed maturity securities with an unrealized loss of $1,596,459, fair value of $34,634,408 and amortized cost of $36,230,867. These unrealized losses were primarily due to rising market interest rates in the bond market as of December 31, 2013.

As of December 31, 2012, we held 35 available-for-sale fixed maturity securities with an unrealized loss of $133,611, fair value of $7,386,902 and amortized cost of $7,520,513.

The $126,064 decrease in available-for-sale equity securities for the year ended December 31, 2013 is primarily due to sales of $97,975, purchases of $16,780, net realized investment losses of $46,954 (primarily due to the full impairment in fourth quarter 2013 of an equity security valued at $42,500) and a $2,085 increase in unrealized appreciation of available-for-sale equity securities. This portfolio is also reported at fair value with unrealized gains and losses, net of applicable income taxes, reflected as a separate component in shareholders' equity within “Accumulated Other Comprehensive Income.” The available-for-sale equity securities portfolio is invested in a variety of companies.

As of December 31, 2013, we held three available-for-sale equity securities with an unrealized loss of $32,605, fair value of $185,840 and cost of $218,445. 

As of December 31, 2012 there were no available-for-sale equity securities in an unrealized loss position.

The $8,689,093 increase in mortgage loans for the year ended December 31, 2013 is primarily due to the origination of $10,643,970 of mortgage loans, $264,396 of realized gains on prepayment of mortgage loans purchased at a discount, $136,458 of capitalization of loan origination fees and discount accretion of $62,718 less principal payments of $2,323,743, amortization of loan origination fees of $36,511 and $58,195 for the establishment of a mortgage loan allowance account.

The $3,673,206 increase in investment real estate is primarily due to purchases of $4,011,307, sales of $180,000, net realized gains of $3,047 and depreciation of $161,148.

The $2,202,854 increase in other long-term investments (comprised of lottery receivables) for the year ended December 31, 2013 is primarily due to the purchases of $4,555,915 and $1,618,184 of accretion of discount less principal payments of $3,971,245. 

Our assets other than invested assets as of December 31, 2013 and December 31, 2012 are summarized as follows:

Other assets consist primarily of prepaid expenses, recoverable federal and state income taxes, advances, guaranty funds, other receivables and receivables for securities sold with trade dates and settlement dates in different accounting periods. The $1,172,844 increase in other assets is primarily due to $1,600,000 of increased advances to a third party to facilitate our purchase of discounted mortgage loans from the third party and $321,000 of increased recoverable federal and state income taxes that exceeded $601,530 of receivables for securities sold with trade dates in 2012 and settlement dates in 2013.

In addition, during second quarter 2013, FTCC foreclosed on a delinquent loan and recovered the former home office building of SIS for $125,464 and correspondingly reduced notes receivable (included in other assets in 2012) and increased investment real estate. This recovery of the note receivable and capitalization of the building was a non-cash investing and financing activity. This building was refurbished in the first half of 2013 at a cost of $10,656 and sold in third quarter 2013 for $140,000 resulting in a gain of $3,880. FTCC also sold a parcel of land in 2013 for $40,000 resulting in a loss of $833. This 2013 net realized gain on the sale of the FTCC building and land is included in other income in the statements of operations.

The progression of the Company’s loans from premium financing for the years ended December 31, 2013 and 2012 is summarized as follows:

Our liabilities as of December 31, 2013 and 2012 are summarized as follows:

Other liabilities consist primarily of accrued expenses, account payables, deposits on pending policy applications, unearned investment income and payable for securities purchased with trade dates and settlement dates in different years.

The $20,839,883 increase in policy liabilities is primarily due to $21,776,839 of deposits on annuity and deposit-type contracts less withdrawals of $6,815,520, $3,745,992 of interest credited to policyholder accounts, $2,288,894 of increased future policy benefit reserves, $106,104 of decreased liabilities for policy claims and $50,218 of decreased other policy liabilities.

The $757,699 decrease in deferred federal income taxes during the year ended December 31, 2013 was due to a $975,631 decrease in deferred federal income taxes on the unrealized appreciation of available-for-sale fixed maturity and equity securities. This increase was partially offset by $217,932 of operating deferred taxes.

The $721,756 increase in other liabilities is primarily due to a $1,364,000 increase in deposits on pending applications that exceeded a $600,000 payable for securities purchased with trade dates in 2012 and settlement dates in 2013 and a $36,000 increase in accrued expenses.

Liquidity and Capital Resources

Our operations have been financed primarily through the private placement of equity securities and an intrastate public stock offering. Through December 31, 2013, we have received $27,119,480 from the sale of our shares. Our operations have been profitable and have generated $5,961,626 of net income from operations since we were incorporated in 2004. The Company issued 323,777 shares in connection with a stock dividend paid to shareholders of record as of March 10, 2011, however, that resulted in accumulated earnings being charged $2,428,328 with an offsetting credit of $2,428,328 to common stock and additional paid-in capital. The Company also issued 378,928 shares in connection with a stock dividend paid to shareholders of record as of March 10, 2012, that resulted in accumulated earnings being charged an additional $2,841,960 with an offsetting credit of $2,841,960 to common stock and additional paid-in capital. The impact of these two stock dividend charges of $5,270,288 to accumulated earnings (deficit) decreased the balance of accumulated deficit as of December 31, 2013 to $691,338 as shown in the accumulated earnings (deficit) balance in the December 31, 2013 consolidated statement of financial position.

As of December 31, 2013, we had cash and cash equivalents totaling $10,608,438. As of December 31, 2013, cash and cash equivalents of $6,083,984 and $2,770,244, respectively, of the total $10,608,438 were held by TLIC and Family Benefit Life and may not be available for use by FTFC due to the required pre-approval by the Oklahoma Insurance Department and Missouri Department of Insurance of any dividend or intercompany transaction to transfer funds to FTFC. The maximum dividend, which may be paid in any twelve-month period without notification or approval, is limited to the greater of 10% of statutory surplus as of December 31 of the preceding year or the net gain from operations of the preceding calendar year. Cash dividends may only be paid out of surplus derived from realized net profits. Based on these limitations, there is capacity for TLIC to pay a dividend up to $1,283,361 in 2014 without prior approval. In addition, based on those limitations, there is the capacity for Family Benefit Life to pay a dividend up to $976,941 in 2014 without prior approval. Family Benefit Life paid dividends of $850,000 and $1,515,975 to TLIC in 2013 and 2012, respectively. These dividends are eliminated in consolidation.

The Company maintains cash and cash equivalents at multiple institutions. The Federal Deposit Insurance Corporation insures non-interest bearing accounts up to $250,000. Uninsured balances aggregate $2,576,504 as of December 31, 2013. Other funds are invested in mutual funds that invest in U.S. government securities. We monitor the solvency of all financial institutions in which we have funds to minimize the exposure for loss. The Company has not experienced any losses in such accounts.

Our cash flows for the years ended December 31, 2013 and 2012 are summarized as follows:

The $2,921,506 increase in cash provided by operating activities during the year ended December 31, 2013 is primarily due to increased net investment income and decreased commissions.

The $9,724,412 of decreased cash used for investing activities during the year ended December 31, 2013 was primarily related to decreased purchases of investments in fixed maturity securities and other long-term investments (lottery receivables).

The $3,773,283 increase in cash provided by financing activities for the year ended December 31, 2013 resulted from $4,978,863 of increased policyholder account deposits in excess of withdrawals; $1,809,039 of decreased net proceeds from the public and private placement stock offerings and $603,459 of decreased purchases of treasury shares.

Our shareholders’ equity as of December 31, 2013 and 2012 is summarized as follows:

The decrease in shareholders’ equity of $3,081,098 for the year ended December 31, 2013 is due to $22,772 of expenses incurred from a public stock offering (gross proceeds of $108,375 and offering expenses of $131,147), $3,902,513 of other comprehensive loss, $889,323 of net income less $45,136 for purchases of 12,896 shares of treasury stock from a former member of the Board of Directors and a charitable organization for which that former Director had donated 10,250 shares of the Company’s common stock.

Equity per common share outstanding decreased 9.1% to $3.90 as of December 31, 2013 compared to $4.29 per share as of December 31, 2012, based upon 7,851,984 common shares outstanding as of December 31, 2013 and 7,852,130 outstanding common shares as of December 31, 2012.

The Company issued 323,777 shares in connection with the 2011 stock dividend that resulted in accumulated deficit being charged $2,428,328 with an offsetting credit of $2,428,328 to common stock and additional paid-in capital. The Company issued 378,928 shares in connection with the 2012 stock dividend that resulted in accumulated deficit being charged $2,841,960 with an offsetting credit of $2,841,960 to common stock and additional paid-in capital. The issuance of these stock dividends were non-cash investing and financing activities.

The liquidity requirements of our life insurance companies are met primarily by funds provided from operations. Premium deposits and revenues, investment income and investment maturities are the primary sources of funds, while investment purchases, policy benefits, and operating expenses are the primary uses of funds. There were no liquidity issues in 2013 or 2012. Our investments consist primarily of marketable debt securities that could be readily converted to cash for liquidity needs.

We are subject to various market risks. The quality of our investment portfolio and the current level of shareholders’ equity continue to provide a sound financial base as we strive to expand our marketing to offer competitive products. Our investment portfolio had unrealized appreciation on available-for-sale securities of $2,360,624 and $7,264,140 as of December 31, 2013 and 2012, respectively, prior to the impact of income taxes and deferred acquisition cost adjustments. This $4,903,516 decrease in unrealized gains arising for the year ended December 31, 2013 has been offset by the 2013 net realized investment gains of $1,132,451 originating from the sale and call activity for available-for-sale fixed maturity securities, sale of available-for-sale equity securities and early payoffs of mortgage loans on real estate purchased at a discount.

A primary liquidity concern is the risk of an extraordinary level of early policyholder withdrawals. We include provisions within our insurance policies, such as surrender charges, that help limit and discourage early withdrawals. Individual life insurance policies are less susceptible to withdrawal than annuity reserves and deposit liabilities because policyholders may incur surrender charges and undergo a new underwriting process in order to obtain a new insurance policy. Cash flow projections and cash flow tests under various market interest rate scenarios are also performed annually to assist in evaluating liquidity needs and adequacy. We currently anticipate that available liquidity sources and future cash flows will be adequate to meet our needs for funds.

One of our significant risks relates to the fluctuations in interest rates. Regarding interest rates, the value of our available-for-sale fixed maturity securities investment portfolio will increase or decrease in an inverse relationship with fluctuations in interest rates, while net investment income earned on newly acquired available-for-sale fixed maturity securities increases or decreases in direct relationship with interest rate changes. From an income perspective, we are exposed to rising interest rates which could be a significant risk, as TLIC's and Family Benefit Life’s annuity business is impacted by changes in interest rates. Life insurance company policy liabilities bear fixed rates. From a liquidity perspective, our fixed rate policy liabilities are relatively insensitive to interest rate fluctuations.

We believe gradual increases in interest rates do not present a significant liquidity exposure for the life insurance policies. We maintain conservative durations in our fixed maturity portfolio. As of December 31, 2013, cash and the fair value of fixed maturity available-for-sale securities with maturities of less than one year and the fair value of lottery receivables with maturities of less than one year equaled 14.5% of total policy liabilities. If interest rates rise significantly in a short time frame, there can be no assurance that the life insurance industry, including the Company, would not experience increased levels of surrenders and reduced sales, and thereby be materially adversely affected.

In addition to the measures described above, TLIC and Family Benefit Life must comply with the NAIC promulgated Standard Valuation Law ("SVL") which specifies minimum reserve levels and prescribes methods for determining them, with the intent of enhancing solvency. Upon meeting certain tests, which TLIC and Family Benefit Life met during 2013 and 2012, the SVL also requires the Company to perform annual cash flow testing for TLIC and Family Benefit Life. This testing is designed to ensure that statutory reserve levels will maintain adequate protection in a variety of potential interest rate scenarios. The Actuarial Standards Board of the American Academy of Actuaries also requires cash flow testing as a basis for the actuarial opinion on the adequacy of the reserves which is a required part of the annual statutory reporting process.

Our marketing plan could be modified to emphasize certain product types and reduce others. New business levels could be varied in order to find the optimum level. We believe that our current liquidity, current bond portfolio maturity distribution and cash position give us substantial resources to administer our existing business and fund growth generated by direct sales.

We will service other expenses and commitments by: (1) using available cash, (2) dividends from TLIC and Family Benefit Life that are limited by law to the lesser of prior year net operating income or 10% of prior year-end surplus unless specifically approved by the controlling insurance department, (3) return of invested capital from FTCC as those operations are discontinued, (4) public and private offerings of our common stock and (5) corporate borrowings, if necessary.

We will use the majority of our capital provided from the public stock offerings to expand life insurance operations and acquire life insurance companies. The operations of TLIC and Family Benefit Life may require additional capital contributions to meet statutory capital and surplus requirements mandated by state insurance departments. Life insurance contract liabilities are generally long term in nature and are generally paid from future cash flows.

On June 29, 2010, the Company commenced a public offering of its common stock registered with the U.S. Securities and Exchange Commission and the Oklahoma Department of Securities. The offering was completed April 30, 2012. The Company raised $11,000,010 from this offering and incurred $1,650,001 in offering costs resulting in $9,350,009 in net proceeds.

On August 15, 2012, the Company commenced a private placement of its common stock primarily in the states of Kansas, Missouri and South Dakota. The private placement was for 600,000 shares of the Company’s common stock for $8.50 per share. If all shares were sold, the Company would have received $4,335,000 after reduction for estimated offering expenses. This offering was suspended on March 8, 2013 and resulted in gross proceeds of $644,470 from the subscription of 75,820 shares of its common stock and incurred $321,944 in offering costs.

We are not aware of any commitments or unusual events that could materially affect our capital resources. We are not aware of any current recommendations by any regulatory authority which, if implemented, would have a material adverse effect on our liquidity, capital resources or operations. We believe that our existing cash and cash equivalents as of December 31, 2013 will be sufficient to fund our anticipated operating expenses.

Off-Balance Sheet Arrangements

The Company does not have any off-balance sheet arrangements.

SPECIAL NOTE CONCERNING FORWARD-LOOKING STATEMENTS

Certain statements contained herein are forward-looking statements. The forward-looking statements are made pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995, and include estimates and assumptions related to economic, competitive and legislative developments. Forward-looking statements may be identified by words such as “expects,” “intends,” “anticipates,” “plans,” “believes,” “estimates,” “will” or words of similar meaning; and include, but are not limited to, statements regarding the outlook of our business and financial performance. These forward-looking statements are subject to change and uncertainty, which are, in many instances, beyond our control and have been made based upon our expectations and beliefs concerning future developments and their potential effect upon us. There can be no assurance that future developments will be in accordance with our expectations, or that the effect of future developments on us will be as anticipated. These forward-looking statements are not a guarantee of future performance and involve risks and uncertainties. There are certain important factors that could cause actual results to differ, possibly materially, from expectations or estimates reflected in such forward-looking statements. These factors include among others:

It is not our corporate policy to make specific projections relating to future earnings, and we do not endorse any projections regarding future performance made by others. In addition, we do not publicly update or revise forward-looking statements based on the outcome of various foreseeable or unforeseeable developments.

FIRST TRINITY FINANCIAL CORPORATION AND SUBSIDIARIES

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2013 AND 2012

Report of Independent Registered Public Accounting Firm

To the Board of Directors and

Shareholders of First Trinity Financial Corporation

We have audited the accompanying consolidated statements of financial position of First Trinity Financial Corporation and Subsidiaries (the Company) as of December 31, 2013 and 2012, and the related consolidated statements of operations, comprehensive income (loss), changes in shareholders’ equity, and cash flows for the years then ended.  The Company’s management is responsible for these financial statements.  Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of First Trinity Financial Corporation and Subsidiaries as of December 31, 2013 and 2012, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.

Springfield, Illinois

March 10, 2014

First Trinity Financial Corporation and Subsidiaries

Consolidated Statements of Financial Position

See notes to consolidated financial statements.

First Trinity Financial Corporation and Subsidiaries

Consolidated Statements of Operations

See notes to consolidated financial statements.

First Trinity Financial Corporation and Subsidiaries

Consolidated Statements of Comprehensive Income (Loss)

See notes to consolidated financial statements.

First Trinity Financial Corporation and Subsidiaries

Consolidated Statements of Changes in Shareholders' Equity

Years Ended December 31, 2013 and 2012

See notes to consolidated financial statements.

First Trinity Financial Corporation and Subsidiaries

Consolidated Statements of Cash Flows