CITIZENS, INC. (CIA) FY 2022 MD&A

Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This section of this Annual Report on Form 10-K generally discusses 2022 and 2021 items and year-to-year comparisons between 2022 and 2021. This discussion should be read in conjunction with the consolidated financial statements and notes thereto included elsewhere in this report.

OVERVIEW

For over 45 years, we have been fulfilling the needs of our policyholders and their families by providing insurance products that offer both living and death benefits. Citizens conducts insurance related operations through its insurance subsidiaries, which provide benefits to residents in 32 U.S. states and more than 70 different countries. We specialize in offering primarily ordinary whole life insurance, endowment products and final expense insurance in niche markets where we believe we can optimize our competitive position.

As an insurance provider, we collect premiums on an ongoing basis from our policyholders and invest the majority of the premiums to pay future benefits, including claims, surrenders and policyholder dividends. Accordingly, the Company derives its revenues principally from: (1) life insurance premiums earned for insurance coverages provided to insureds in our two operating segments – Life Insurance and Home Service Insurance; and (2) net investment income. In addition to paying and reserving for insurance benefits that we pay to our policyholders, our expenses consist primarily of the costs of selling our insurance products (e.g., commissions, underwriting, marketing expenses), operating expenses and income taxes.

Objective of our Management's Discussion and Analysis

We refer to our Management’s Discussion and Analysis of Financial Condition and Results of Operations as our “MD&A”. The objective of our MD&A is to provide investors with a succinct analysis of the Company's financial performance from management's perspective. We start by discussing the factors that we believe drive our operating results and then we discuss how industry developments and economic circumstances in general (e.g., low interest rates, the COVID-19 pandemic) affected or could affect our financial performance. After telling you about our industry, we discuss our 2022 financial highlights, the impacts of certain events on our business during 2022, and then we break-down our results of operations in detail so an investor understands the various line items of our profit and loss statements from management’s perspective. Since our investments are one of two principal sources of revenues, we describe them in detail. Finally, we discuss our capital resources and liquidity so investors better understand how those resources are utilized and how we are able to meet our cash needs.

Throughout the MD&A, we describe how we view the Company and which matters we believe are reasonably likely to affect future operations. We describe our priorities for the business in Item 1. Business - “Strategic Initiatives” and in the MD&A, we describe how we performed on those initiatives and any known trends or uncertainties that might impact our ability to achieve our goals.

The Factors that Drive our Operating Results

We see the following as the primary factors that drive our operating results:

•Sales (e.g., premium revenues)

•Our investments

•Death claims and surrenders

•Operating expenses

Premium revenues and investment income are our two primary sources of income and thus key to our profitability.

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Premium revenues consist of both new sales (first year premiums) and renewal premiums. Throughout the MD&A and in Item 1 - Business, we describe the actions and initiatives that are taken to increase sales and improve retention, how we performed in 2022, and how we view trends with respect to sales and retention.

Our Life Insurance segment first year premiums increased by 4% due to the introduction of a new whole life product in our international markets, as well as focused marketing campaigns. Our Home Service Insurance segment first year premiums declined, which we believe is attributed to inflationary pressures and the cessation of COVID-19 government aid programs in 2022.

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Renewal premiums in our Life Insurance segment declined primarily due to impact from a higher level of surrenders during the last few years and from matured endowment benefits, which we expected due to contractual expiration dates. Our Home Service Insurance renewal premiums increased in 2022 due to the lack of hurricanes in Louisiana in 2022; Hurricane Ida negatively impacted renewal premiums in this segment in 2021.

Our net investment income increased by $3.9 million from 2021 to 2022 due primarily to investment income from our limited partnership investments, a growing diversified invested asset base and reinvesting matured or called fixed income maturity securities into a higher interest rate environment.

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Payment of policyholder benefits for claims and surrenders is our largest expense and thus also key to our profitability. In 2022, our death claim benefits decreased compared to 2021 due to a lower number of reported death claims as 2021 period was negatively impacted by COVID-19-related deaths. Our surrenders decreased by $2.9 million in 2022, which we believe was in large part due to our retention initiatives.

Operating expenses are our second largest expense and thus also drive our operating results. Our general operating expenses increased by $1.8 million in 2022 as compared to 2021 mainly due to our sales convention in 2022, which was cancelled in the prior year due to the COVID-19 pandemic, and by higher home office expenses.

ECONOMIC AND INSURANCE INDUSTRY DEVELOPMENTS

The following significant trends and developments are currently impacting our business and industry:

•Increase in Interest Rates; Volatility in Equity and Credit Markets; Inflation. The material uptick in interest rates over the past year has benefited the life insurance sector with respect to increased yields, net investment income and spreads. However, this benefit was offset by inflation and macroeconomic volatility in 2022. The volatility was substantial and the industry moved into material unrealized loss positions on fixed-income portfolios.

Inflation has also impacted our industry over the past year. As the price of energy and food rises, customers will have less discretionary income to spend on insurance products. As the inflationary environment continues, the industry may see policy lapses rise, especially among lower and middle-income customers.

•Sustained Low Interest Rate Environment Prior to 2022. Market interest rates are a key driver of our results. The multi-year sustained low interest rate environment significantly reduced the overall yield on investments, as regulations require that the vast majority of a life insurance company's portfolio consist of fixed income securities, which are primarily callable. As interest rates declined, these fixed income securities were called and had to be re-invested in lower rate investments. This has reduced and may continue to reduce profit margins for life insurers by:

◦Reducing the spread between guaranteed interest rates credited to policyholders and interest earned on supporting assets. As older endowment and annuity products are maturing, the guaranteed interest rates may be higher than current yields;

◦Products sold during the last several years with lower interest rate guarantees may be surrendered or lapsed, as customers look to invest in higher interest rate products; or

◦Because products may have been priced with assumptions of higher interest rates (and higher interest earned on supporting assets), life insurance companies may have to

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increase reserves, trigger loss recognition events related to policy liabilities, accelerate amortization of DAC or COIA, and potentially impair intangible assets.

•Impact of COVID-19. COVID-19 and its related economic conditions have caused a lot of uncertainty in the world in the past three years. Our industry and our Company are no exception to the negative, uncertain and unpredictable impacts the pandemic has brought. While the direct impacts of COVID-19 (e.g., deaths) have begun to wane, the scope, duration and magnitude of the direct and indirect effects of COVID-19 are difficult or impossible to anticipate. As a result, it is not possible to predict its impact on the Company's results in 2023 or beyond.

The positive impact to our industry is that people have a higher awareness for the need for life insurance to protect their families and loved ones. However, the long-term nature of life insurance products means premiums are not yet capturing the risk that deaths or long-term illness from COVID-19 will likely remain higher than previously estimated. Additionally, life insurers will need to decide how to underwrite COVID-19 survivors, as the long-term effects of COVID-19 are still unclear.

•Availability of Reinsurance. Reinsurance market dynamics including increased cybersecurity concerns, significant weather-related losses, pandemic losses, and similar to the life insurance industry, economic-related market losses, have led to a decline in the availability of reinsurance, tighter terms (such as, for example, pandemic exclusions) and/or increased reinsurance prices. While we currently cede a limited amount of our primary insurance business to reinsurers, we may encounter difficulty in obtaining reinsurance in the future, forcing us to resort to a more expensive reinsurance market.  If we are unable to obtain affordable reinsurance coverage, this may impact our net exposures and the number of underwriting commitments.

•Technology Adoption. Innovation and digital development strategies continue to evolve and impact all industries, including the insurance industry. The onset of the COVID-19 pandemic in 2020 caused companies to adapt to a more digital operations platform, almost overnight. The insurance industry is focused on digitizing distribution channels and empowering agents with advanced digital capabilities. Access to real-time data has streamlined the way we underwrite our products. The rapid development of artificial intelligence and the demand for fee-based, value-added services are challenging our industry. Therefore, it is critical that we embrace these changes for the benefit of our policyholders, agents, employees and stockholders.

FINANCIAL EVENTS THAT MATERIALLY IMPACTED OUR BUSINESS IN 2022 AND 2021

EVENTS THAT IMPACTED 2022 RESULTS

Impact of Inflation and Rising Interest

As discussed above, the impact of inflation, which has led to market volatility and rising interest rates, had a material impact on both our results of operations and balance sheet in 2022.

The market volatility affected the fair value of our equity securities, leading to investment related losses of $10.3 million in 2022, compared to net gains $11.0 million in 2021. Investment related losses in 2022 (and gains in 2021) derive principally from our investments in equity securities and includes unrealized losses (and gains) from market price changes during the period. Investment related gains and losses can cause significant fluctuations from period to period and are not indicative of our operating results. We believe that investment related gains and losses, whether realized from dispositions or unrealized from changes in market prices of equity securities, have no bearing in understanding our reported results or in evaluating the economic performance of our business. These gains and losses have caused and will continue to cause significant volatility in our periodic earnings.

In addition, interest rates rose significantly in 2022 after being ultra-low for almost a decade. Higher interest rates typically reduce the market values of fixed income assets, as the interest payments from existing fixed income assets become less competitive relative to newer higher rate fixed income instruments. Long duration fixed maturity securities were particularly impacted by the rising rates in 2022. Because we strive to match our asset duration to our liability duration, the vast majority of our total investments are invested in longer-term fixed maturity securities and we reported a pre-tax net unrealized loss of $201.7 million on our available-for-sale securities at December 31,

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2022. The credit ratings and default risk of our fixed maturity securities were not significantly impacted by the rise in interest rates and volatility in 2022 and because we intend to hold the long-term investments to maturity, we do not believe that the current unrealized loss is indicative of our long-term financial strength. These unrealized losses were the single largest negative impact that led to total stockholders' equity of $1.0 million at December 31, 2022.

We also believe that the inflationary environment has led to higher surrenders and lapses in 2022 as well as lower sales, as our policyholders conserve cash due to concerns over inflation and rising costs, particularly in our Home Service Insurance segment, where our customer base is primarily middle- and lower-income individuals.

EVENTS THAT IMPACTED 2021 RESULTS

We disclosed the following events in our Annual Report on Form 10-K for the year ended December 31, 2021 and are repeating below so investors can better understand material changes to our financial results between year end 2022 and 2021.

COVID-19 Pandemic

The overall impact of COVID-19 and its related economic conditions on the Company's financial results continue to be highly uncertain and unpredictable. While the Company has implemented new strategies and processes to mitigate this impact, the scope, duration and magnitude of the direct and indirect effects of COVID-19 are difficult or impossible to anticipate. As a result, it is not possible to predict its impact on the Company's results in 2023 or beyond. Currently, some of the most significant factors affecting our business that could cause our future results to differ significantly from our prior results or forward-looking statements include:

•a higher level of claims due to COVID-19 deaths;

•decreased premium revenue due to disruption to our workforce or distribution channel resulting from required isolation, travel limitations and business restrictions;

•higher surrenders and lapses due to cash needs our policyholders may have due to concerns over COVID-19 economic impacts, particularly in our international business; and

•volatility in our investment portfolio due to market disruptions caused by COVID-19 related concerns such as inflation.

Federal Income Tax Benefit

The results of operations for the fiscal year ended December 31, 2021 included a significant income tax benefit for the release of most of the uncertain tax position of $43.8 million. The uncertain tax position from previous years is related to the tax treatment of tax reserves pursuant to Internal Revenue Code ("IRC") Section 807, specifically due to ramifications on the determination of those reserves from our product qualification issues in the past. The uncertain tax position released during the fourth quarter of 2021 is due to the expiration of the statute of limitations for the year ended December 31, 2017.

Goodwill Impairment

The release of the liability for the uncertain tax position referenced above, increased the carrying value of our Life Insurance segment. Due to such increase in carrying value and the continued low interest rate environment (which negatively affected the fair value of our net assets by decreasing expected cash flows), we determined that the carrying value of our Life Insurance segment exceeded its implied fair value, resulting in an impairment of goodwill (the excess of the amount paid by us to acquire various life insurance companies over the fair value of their net assets as of the date of acquisition). Accordingly, as of December 31, 2021, we wrote-off the goodwill and recognized an expense of $12.6 million for 2021.

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2022 HIGHLIGHTS

Summary

Due to the impact inflation has had on market volatility and rising interest rates during 2022, we had a net loss of $6.6 million, compared to net income of $36.8 million in 2021. As an insurance company, we hold significant invested assets in order to pay future policy liabilities. Changes in the fair value of our limited partnership investments drove investment related losses of $10.3 million in 2022, compared to investment related gains of $11.0 million in 2021. We did not sell these investments during 2022, but as discussed in Part IV, Item 15, Note 3. Fair Value Measurements, changes in fair values of our equity securities are reflected as investment related gains or losses, in addition to executed transactions that result in a gain or loss. As mentioned above, we consider investment related gains and losses, whether realized or unrealized, as non-core and incidental in understanding the quarterly or annual operating results of our insurance business. In addition to the change in investment related gains and losses, 2021 net income was positively affected by the above-described one-time $43.8 million non-cash tax benefit. Due to these investment related losses, our net loss per share of Class A common stock was $0.13 for the year ended December 31, 2022.

Key operating results (comparison of 2022 v. 2021):

↑ $3.9 million of net investment income

↓ $6.8 million of total insurance benefits paid or provided, partially offset by

↑ $1.8 million of general operating expenses

↓ $1.0 million of premium revenue

Revenue Highlights

As discussed above, insurance premiums and investment income are our primary sources of revenue and increased by $2.9 million in 2022 compared to 2021.

•Insurance premiums declined slightly in 2022 compared to 2021, totaling $173.7 million and $174.7 million, respectively due to:

◦4% growth in first year premiums in our Life Insurance segment was more than offset by lower renewal premiums in this segment due to increases in expiring matured endowments;

◦our Home Service Insurance segment insurance premiums in 2022 decreased 2% compared to 2021; and

◦our property insurance premiums increased by $1.2 million due to rate increases and the lack of hurricanes in Louisiana in 2022 versus 2021 (Hurricane Ida).

•Net investment income increased 6% in 2022 compared to 2021, totaling $65.4 million and $61.5 million, respectively, from a higher average portfolio yield in 2022 as well as a growing invested asset base. The average yield on our consolidated investment portfolio was 4.4% in 2022, a 16 basis point increase from 2021.

Benefits and Expenses Highlights

The primary use of our funds is payment of insurance benefits for claims and surrenders as well as our general operating expenses. In 2022:

•Total insurance benefits paid or provided decreased by 4% due primarily to lower future policy benefit reserves, which were a result of higher matured endowments in 2022, partially offset by increases to the future policy benefit reserves due to improved first year sales and better persistency in our Life Insurance segment.

•General expenses increased as described above.

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Financial Condition at December 31, 2022

•Total assets of $1.6 billion.

•Total investments of $1.3 billion; fixed maturity securities comprised 88.0% of total investments.

•$4.8 billion of direct insurance in force.

•No debt.

CONSOLIDATED RESULTS OF OPERATIONS

Our Operating Segments

We manage our business in two operating segments: Life Insurance and Home Service Insurance. See Part I. Item 1, Business for a discussion about the business operated in each segment.

Our insurance operations are the primary focus of the Company, as those operations generate most of our income.  See the discussion under Segment Operations below for detailed analysis. The amount of insurance, number of policies, and average face amounts for ordinary life policies issued during the periods indicated are shown below.

As we have previously discussed, our strategic initiatives include the introduction of new products tailored to our specific markets. These new products helped drive the increase in total insurance issued of $263.4 million, or 64%, in 2022 compared to 2021. The growth in insurance issued was a result of both a greater number of policies issued and higher average policy face amounts issued in both segments.

The growth in our Life Insurance segment is attributable to strong sales from our new international whole life product, which accounted for 62% of total insurance issued in this segment in 2022. We continue focusing on sales promotions and campaigns and prioritizing recruiting new independent contractors and we believe we have seen the impact of these efforts in 2022.

In our Home Service Insurance segment, the increase in average policy face amounts issued is attributable to sales campaigns that focused on increasing the face amount of insurance sold as well as the introduction of our new whole life product in this segment, which has a higher maximum face value than our legacy products.

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REVENUES

Our revenues are primarily generated from insurance renewal premiums and investment income from invested assets.

Total premiums decreased slightly due to lower Life insurance premiums, which declined slightly, somewhat offset by higher property insurance premiums. The increase in property insurance premiums resulted from rate increases and lower catastrophic reinsurance premiums in 2022 due to no hurricanes impacting Louisiana.

Our renewal premiums comprised 90% of our total premium revenue in 2022 and 2021. Renewal premiums declined slightly in 2022 compared to 2021; we believe the decline in Life Insurance segment renewal premiums is due to the impact from a higher level of surrenders during the last few years and increasing matured endowment benefits.

Our first year premiums declined 1% in 2022 compared to 2021. We believe this is attributed to inflationary pressures, primarily in our Home Service Insurance segment.

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Net Investment Income. Our net investment income and investment performance is summarized as follows:

Net investment income increased 6% to $65.4 million in 2022 compared to $61.5 million in 2021 driven by a growing diversified asset base as well as the rising interest rate environment.

The annualized yield increased by 16 basis points in 2022 compared to 2021 as a result of the rising interest rate environment.

Investment Related Gains (Losses).  Investment related gains and losses are as follows:

Net investment related losses in 2022 is a primary driver of our net loss in 2022. A significant portion of these losses are related to the impact from the equity markets on the fair value in our limited partnership investments. We did not sell these investments during 2022, but as discussed in Part IV, Item 15, Note 3. Fair Value Measurements, changes in fair values of our equity securities are reflected as investment related gains or losses, in addition to executed transactions that result in a gain or loss.

In 2021, the Company realized a gain of $1.0 million on the sale of its former training facility near Austin, Texas with a gross sale price of $3.8 million. The facility was owned by Citizens and was held in Other Non-Insurance Enterprises.

Other Income. Other income consists primarily of supplemental contracts issued to policyholders in our Life Insurance segment upon the surrender or maturity of their original policies. We believe this income has been increasing due to a higher level of matured endowment benefits as well as our retention initiatives.

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BENEFITS AND EXPENSES

Claims and Surrenders.  Payments of death claims, surrender benefits and matured endowment benefits are our primary uses of cash.

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•Death claim benefits decreased 18% in 2022 compared to 2021. We believe that 2021 was negatively impacted by COVID-19 related deaths, which reduced significantly in 2022. Mortality experience and COVID-19 impacts continue to be closely monitored by the Company.

•Surrender benefits decreased 6% in 2022 compared to 2021. The decrease in surrender benefits is primarily within our Life Insurance segment. Surrender benefits, which had been increasing prior to 2021 due to international policies that had been in force for an extended period and had little or no associated surrender charges, have been decreasing the past two years. We have focused our efforts on retaining policyholders and believe we have begun to see positive benefits from these efforts starting in the second half of 2021, particularly in our international business. We believe the impact of inflation and curtailment of COVID-19 relief government aid in 2022 negatively impacted retention in our Home Service Insurance segment. Surrender benefits represented approximately 1% of total direct life insurance in force of $4.8 billion as of December 31, 2022.

•Many of our endowment policies are reaching their contractual maturity dates and thus matured endowment benefits are increasing. We anticipated the $11.2 million increase in 2022 based upon the contractual maturity dates and expect continued increases in matured endowment benefits over the next few years as these contracts expire.

•Property claim expenses decreased 63% in 2022 compared to 2021 due to no hurricanes impacting Louisiana in 2022.

Increase in Future Policy Benefit Reserves.  Future policy benefit reserves reflect the liability established to provide for the payment of policy benefits that we expect to pay in the future and thus generally increase when we have a larger in force block of business due to higher sales and better persistency (i.e., more policies on which we expect to pay future benefits) and decrease when we have lower sales and persistency. In 2022, despite issuing more insurance and increasing our in force block of business, policy benefit reserves decreased 19% compared to 2021 due to the impact of reserves released from higher matured endowment benefits.

Commissions. Commission expenses are a cost of acquiring business, as commissions are the primary compensation paid to our independent consultants and independent agents for selling our products. First year commission rates are higher than renewal commission rates. Commissions fluctuate directly in relation to sales and thus the increase in commissions in 2022 as compared to 2021 was due to higher sales in our Life Insurance segment in 2022.

Other General Expenses.  Total general expenses increased $1.8 million, or 4%, in 2022 compared to 2021 due primarily to expenses related to our sales convention, which we did not hold in 2021 due to COVID-19, as well as severance costs related to moving our international business from Bermuda to Puerto Rico. We continue to work on managing controllable operating expenses while investing in growth initiatives.

Capitalization of Deferred Policy Acquisition Costs ("DAC").  We capitalize costs related to successful sales of our insurance products, which include certain commissions, policy issuance costs, and underwriting and agency expenses. These costs vary based upon amounts or premiums received related to new and renewal business. Capitalized DAC was $24.9 million and $22.7 million in 2022 and 2021, respectively.  Increases in capitalized amounts are in line with the increases in new sales activity.  Significantly lower amounts are capitalized related to renewal business in correlation with the lower commissions paid on that business compared to first year business, which has higher commission rates.

Amortization of Deferred Policy Acquisition Costs. Amortization of DAC totaled $26.5 million and $25.0 million in 2022 and 2021, respectively. Amortization of DAC is impacted by new business, persistency and the level of surrenders. The increase in amortization is a result of less favorable persistency in the Home Service Insurance segment and sales.

Goodwill Impairment. In 2021, we recognized a goodwill impairment in our Life Insurance segment of $12.6 million. The impairment was triggered by increases in our carrying value of the Life Insurance segment due to the release of a $43.8 million uncertain tax position in the fourth quarter of 2021 following the expiration of the statute of limitations for the tax year ended December 31, 2017.

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Federal Income Tax.  Federal income tax benefits of $0.4 million in 2022 and $43.5 million in 2021 resulted in effective tax rates of 6% and 650%, respectively. The significant tax benefit in 2021 is the release of the uncertain tax position of $43.8 million related to the expiration of the statute of limitations for the year ended December 31, 2017.  Differences between our effective tax rate and the statutory tax rate result from income and expense items that are treated differently for financial reporting and tax purposes. Refer to Note 9. Income Taxes in the notes to our consolidated financial statements for further discussion.

SEGMENT OPERATIONS

As described above, our business is comprised of two operating business segments:

•Life Insurance

•Home Service Insurance

These segments are reported in accordance with U.S. GAAP. The Company evaluates profit and loss performance based on net income (loss) before federal income taxes for these segments. The Company's Other Non-Insurance enterprises include non-insurance operations such as IT and corporate-support functions, which are included in the table presented below to properly reconcile the segment information with the consolidated financial statements of the Company.

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LIFE INSURANCE

Our Life Insurance segment primarily issues ordinary whole life insurance and endowment policies in U.S. dollar-denominated amounts to non-U.S. residents in more than 70 countries through almost 1,000 active independent marketing consultants as of December 31, 2022.

In our Life Insurance segment we reported a loss before federal income tax of $0.7 million in 2022 as compared to income of $0.9 million in 2021. As in our consolidated operations, the current year reflected investment related losses which can cause significant fluctuations from period to period and are not indicative of our operating results. The change in investment related gains (losses) between periods were somewhat offset by higher net investment income, lower death claim benefits and the goodwill impairment that impacted 2021.

Life Insurance Segment premium breakout is detailed below.

Over 90% of our Life Insurance premium revenue in both 2022 and 2021 was generated by renewal premiums. While first year premiums increased by 4% in 2022 as compared to 2021, overall premium revenue decreased slightly in 2022 compared to 2021 as renewal premiums declined by 2%. Renewal premiums have been declining

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over the last several years, due in part to the continued decline in production in Venezuela from one of our top distributors leaving our Company. As we discuss in Item 3 - Legal Proceedings, we believe these distributors are illegally competing with us and stealing our trade secrets and business. We began to stem the decline of renewal premiums in 2021, which we believe is due in part to our retention efforts that we also discuss in Part I. Item 1, Business - Strategic Initiatives.

We believe that the increase in first year premiums is the result of actions we have taken over the past two years in executing on our strategic initiatives to issue new products and improve distribution through focused sales promotions and campaigns. In 2022, we introduced a new whole life product tailored to our specific markets and for the first time, whole life sales became a significant percentage of our international new business sales, making up 47% of our total 2022 sales.

International Premiums. The following table sets forth, for our top five producing countries, our direct premiums from our international life insurance business for the periods indicated.

The five countries listed above represented the majority of the new and renewal premiums in both 2022 and 2021. Colombia and Argentina experienced growth in 2022 as compared to 2021, which we believe was driven by previously mentioned sales campaigns and the introduction of our new whole life product as well as our retention initiatives. Taiwan, Venezuela and Ecuador experienced declines in 2022 as compared to 2021, which is due to the overall decline in our renewal business as well as items discussed above.

Domestic Premiums. Domestic premiums in our Life Insurance segment were $4.6 million in 2022, compared to $5.0 million in 2021. The majority of the premium recorded in 2021 and 2022 is related to blocks of business of insurance companies we have acquired over the years as we ceased selling ordinary life in 2017. We currently offer credit life, credit disability, critical illness and final expense products domestically.

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Net Investment Income.  Net investment income in our Life Insurance segment increased 7% in 2022 compared to 2021 due to a growing diversified invested asset base and reinvestment into a higher interest rate environment. The majority of investment income is derived from fixed maturity securities; however, long-term investment income continued to increase as our limited partnership asset base grew.

Investment Related Gains (Losses), Net.  The investment related losses in 2022 were a result of the change in estimated fair market value for our limited partnerships, as previously discussed.

Claims and Surrenders. The following table sets forth our primary claims and surrender benefits within our Life Insurance segment.

The majority of our claims and surrender benefits in our Life Insurance segment were related to payment of surrender benefits and matured endowment benefits. Policy surrenders decreased 8% in 2022 as compared to 2021 and matured endowment benefits increased by 57% in 2022 as compared to 2021. Policy surrenders decreased the past couple of years as we have instituted new programs seeking to curb surrenders. Many of our endowment policies are reaching their contractual maturity dates and thus matured endowment benefits are increasing.

The other key component of claims and surrender benefits is death claim benefits, which decreased 25% in 2022 compared to 2021 due to a lower volume of reported claims, including COVID-19 related deaths. Mortality experience is closely monitored by the Company as a key performance indicator and these amounts were within expected levels.

Increase in future policy benefit reserves. The change in future policy benefit reserves decreased 19% in 2022 compared to 2021 as a result of reserves released from higher matured endowment benefits offsetting increases in insurance issued and better persistency. In addition, the change in future policy reserves for 2021 was lower due to

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an $0.8 million adjustment for the conversion of a small block of policies to our new actuarial valuation system for our Life Insurance segment during the second quarter of 2021.

Other General Expenses. General expenses increased in 2022 compared to 2021 due primarily to expenses associated with our home office and expenses related to our convention and severance costs related to the move of our international business from Bermuda to Puerto Rico. We did not have a convention in 2021 due to the COVID-19 pandemic.

HOME SERVICE INSURANCE

Our Home Service Insurance products consist primarily of small face amount ordinary whole life and pre-need policies, which are designed to fund final expenses for the insured, primarily consisting of funeral and burial costs. In June 2021, we added a new whole life product to this market that has higher allowable face values; and in the fourth quarter of 2021, we added a new critical illness insurance product. Our Home Service Insurance segment also sells property insurance policies covering dwellings and contents with maximum coverage of $30,000 per dwelling.

In our Home Service segment our net loss before income tax decreased by $0.3 million in 2022 due primarily to lower death claims benefits and fewer hurricane property claims partially offset by investment related losses due to the changes in the fair value of our equity securities, higher other general operating expenses and increased amortization of deferred policy acquisition costs.

Total Home Service Insurance segment premium revenue increased slightly in 2022 compared to 2021. Our first year life insurance premiums declined in 2022 compared to 2021. We believe our premium revenue is impacted by lower persistency due to inflationary pressures. Our total number of issued policies within our Home Service segment is up approximately 20% in 2022 compared to 2021. Property insurance premiums increased in 2022

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compared to 2021 due to the impact of higher catastrophic reinsurance reinstatement premiums in 2021 related to the impact of Hurricane Ida.

Claims and Surrenders.  Claims and surrender benefits, which are the largest portion of our expenses in the Home Service Insurance segment are summarized below:

The majority of claims and surrender benefits in our Home Service Insurance segment relate to death claim benefits. Death claim benefits decreased 15% in 2022 compared to 2021 due to a lower volume of reported claims, including COVID-19 related deaths. Mortality experience is closely monitored by the Company and can fluctuate based on reported claims as a key performance indicator.

Surrender benefits increased in 2022 compared to 2021. We believe the impact of inflation and curtailment of COVID-19 relief government aid in 2022 is negatively impacting persistency.

Property claims decreased in 2022 compared to 2021. The Company was impacted by Hurricane Ida in 2021. We have a reinsurance agreement that covers catastrophic events such as hurricanes. This 2021 agreement contains a maximum coverage of $11.0 million per event and a retention level of $0.5 million per event. With no hurricane activity in 2022, our property claims decreased in 2022 compared to 2021.

Increase in future policy benefit reserves. The change in future policy benefit reserves decreased 19.0% in 2022 compared to 2021 due to lower persistency as discussed above.

Other general expenses. Other general expenses increased in 2022 compared to 2021 due primarily from higher expenses related to our convention and 2021 included a released tax compliance best estimate liability of $1.8 million partially offset by lower employee health benefit costs.

Amortization of Deferred Policy Acquisition Costs. Amortization is impacted by persistency, surrenders, and new sales production and thus it may fluctuate from period to period depending on these factors. Amortization has increased in 2022, compared to 2021 from changes in persistency and higher surrenders as discussed above.

OTHER NON-INSURANCE ENTERPRISES

This operating unit represents the administrative support entities to the insurance operations whose revenues are primarily intercompany and have been eliminated in consolidation under U.S. GAAP, which typically results in a segment loss. Revenue in this operating unit consists primarily of net investment income and investment related gains or losses, while expenses consist of other general expenses. The loss reported for 2022 declined as other general expenses decreased in 2022 by not incurring fees in the current year related to the change in control of the

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Company nor consulting fees paid to our former CEO as we did in 2021. The Company also sold its former training facility located near Austin, Texas during 2021, resulting in a gain on the sale of $1.0 million.

INVESTMENTS

Our investments play a significant role in the success of our business, as we invest the majority of premiums collected to pay for future benefits and rely on net investment income for our ongoing operations. The administration of our investment portfolio is handled by our management and a third-party investment manager, pursuant to Board-approved investment guidelines. State insurance statutes prescribe the quality and percentage of the various types of investments that may be made by insurance companies and generally permit investment in qualified state, municipal, federal and foreign government obligations, high quality corporate bonds, preferred and common stock, mortgage loans and real estate within certain specified percentages. Our investment guidelines comply with the applicable statutes and thus fixed maturity securities comprise a majority of our investment portfolio. The assets are intended to mature in accordance with the average maturity of the insurance products and to provide the cash flow for our insurance company subsidiaries to meet their respective policyholder obligations and operating expenses.

In executing investing activities our management and third-party investment manager are incorporating environmental, social and governance factors into their respective investment processes as appropriate. These factors include investing in opportunities to help mitigate climate change by pursuing relevant investments across asset classes.

The following table shows the carrying value of our investments by investment category and cash along with the percentage of each to total invested assets.

(1) Includes $133.2 million and $158.6 million of securities guaranteed by third parties at December 31, 2022 and 2021, respectively.

(2) Includes $98.8 million and $133.7 million of U.S. Government agencies and government-sponsored enterprises at December 31, 2022 and 2021, respectively.

The carrying value of the Company’s fixed maturity securities investment portfolio at December 31, 2022 was $1.2 billion compared to $1.5 billion at December 31, 2021. As discussed above, this decline reflects the impact of interest rate sensitivity on the fair value of our fixed maturity securities. The distribution of the credit ratings of our portfolio of fixed maturity securities by carrying value as of December 31, 2022 did not materially change from December 31, 2021 – the weighted average was “A” at both dates.

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Cash and cash equivalents decreased as of December 31, 2022 compared to December 31, 2021 due to timing of cash inflows and investments of cash into marketable securities. In 2022, as fixed maturity securities matured or were called, we utilized the cash to invest into higher yielding bonds as interest rates were rising.

Other long-term investments increased to $69.6 million as of December 31, 2022, as compared to $57.4 million as of December 31, 2021, primarily due to investments of $13.3 million in limited partnerships.

At December 31, 2022, investments in fixed maturity and equity securities were 87% of our total cash and invested assets.  All of our fixed maturity securities were classified as available-for-sale at December 31, 2022 and 2021.  We had no fixed maturity securities that were classified as trading securities at December 31, 2022 or 2021.

The following table shows annualized investment yields by segment and on a consolidated basis as of December 31 for each year presented.

Yields on investment assets vary between segment operations due to different portfolio mixes and durations in the segments. The consolidated yields include our other non-insurance enterprises. The annualized yield increased across our segments in 2022 compared to 2021 resulting primarily from the rising interest rate environment. The sustained low interest rate environment of the past several years for fixed maturity assets, which account for the majority of our investment portfolio, has required us to reinvest a portion of our portfolio at lower interest rates. Diversification of our investment portfolio into limited partnership investments helped offset a challenging investment environment for fixed maturity securities. However, insurance regulations limit the amount we can invest in these alternative investments.

Credit quality is an important feature of our investment guidelines for our fixed maturity securities. Credit ratings reported for the periods indicated are assigned by a Nationally Recognized Statistical Rating Organization ("NRSRO") such as Moody’s Investors Service, Standard & Poor’s and Fitch Ratings.  A credit rating assigned by a NRSRO is a quality-based rating, with AAA representing the highest quality and D the lowest, with BBB and above being considered investment grade.  If there is no NRSRO rating, the Company may use credit ratings of the NAIC Securities Valuation Office ("SVO") as assigned.  Securities rated by the SVO are grouped in the equivalent NRSRO category as stated by the SVO, and securities that are not rated by a NRSRO are included in the "other" category.

The following table shows the distribution of the credit ratings of our portfolio of fixed maturity securities by carrying value.

The Company made new investments in investment grade bonds during 2022.  Non-investment grade securities are the result of downgrades of issuers or securities acquired during acquisitions of other companies, as the Company has not purchased below investment grade securities.

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As of December 31, 2022, the Company held municipal fixed maturity securities that include third-party guarantees.  Detailed below is a presentation by credit rating of our municipal holdings by funding type.

The table below shows the categories in which the Company held investments in special revenue bonds that were greater than 10% of fair value based upon the Company's portfolio of municipal fixed maturity securities at December 31, 2022.

The Company's municipal holdings are spread across many states. However, municipal fixed maturity securities from Texas and California comprise the most significant concentration of the total municipal holdings portfolio as of December 31, 2022.

The Company holds 22% and 13% of its municipal holdings in Texas and California issuers, respectively, as of December 31, 2022. There were no other states or individual issuer holdings that represented or exceeded 10% of the total municipal portfolio as of December 31, 2022.

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The table below represents the Company's detailed exposure to municipal bond portfolio by credit rating in Texas at December 31, 2022.

The table below represents the Company's detailed exposure to municipal bond portfolio by credit rating in California at December 31, 2022.

IMPAIRMENT CONSIDERATIONS RELATED TO INVESTMENTS IN FIXED MATURITY AND EQUITY SECURITIES

The Company assesses available-for-sale ("AFS") fixed maturity securities in an unrealized loss position for expected credit losses. The Company did not record any credit valuation allowances on fixed maturity securities in 2022 or 2021.

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Gross unrealized losses on AFS fixed maturity securities amounted to $205.3 million as of December 31, 2022 and $3.0 million as of December 31, 2021.  This increase in gross unrealized losses during 2022 was a result of the increase in average market interest rates compared to 2021.

Information on both unrealized and realized gains and losses by category is set forth in Note 2. Investments of the notes to our consolidated financial statements.

REINSURANCE

As is customary among insurance companies, our insurance company subsidiaries reinsure, with other companies, portions of the life insurance risks they underwrite.  A primary purpose of reinsurance agreements is to enable an insurance company to reduce the amount of risk by reinsuring the amount exceeding the maximum amount the insurance company is willing to retain.  Even though a portion of the risk may be reinsured, our insurance company subsidiaries remain liable to perform all the obligations imposed by the policies issued by them and could be liable if their reinsurers were unable to meet their obligations under the reinsurance agreements.

We believe we have established appropriate reinsurance coverage based upon our net retained insured liabilities compared to our surplus.

The effect of reinsurance on premiums is as follows.

Our insurance subsidiaries monitor the solvency of their reinsurers in seeking to minimize the risk of loss in the event of default by a reinsurer.  The primary reinsurers of our insurance subsidiaries are large, well-capitalized entities who have ratings by A.M. Best Company ranging from A- (Excellent) to A+ (Superior).

The effect of reinsurance on life insurance in force is as follows.

Our property insurance company, SPFIC, currently carries first and second event catastrophe reinsurance coverage of $11.0 million per event and a retention level of $1.4 million per event.  Thus, SPFIC is responsible for the first $0.8 million of incurred claims and any claims in excess of $11.0 million per event. In addition, SPFIC shares responsibility with our reinsurers for up to an additional $0.6 million of incurred claims should total incurred claims reach $11.0 million per event.

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LIQUIDITY AND CAPITAL RESOURCES

Below are our primary capital resources (based on carrying value) at each of December 31, 2022 and 2021.

Liquidity refers to a company's ability to generate sufficient cash flows to meet the needs of its operations.  In the year ended December 31, 2022, our operations provided $56.9 million in net cash. We manage our insurance operations as described herein in order to ensure that we have stable and reliable sources of cash flows to meet our obligations. We currently anticipate meeting our short-term and long-term cash needs with cash generated by our insurance operations and from our invested assets. From time-to-time we may raise capital by selling shares in our SIP (as defined below) and we may also access our Credit Facility if needed (also as described below).

PARENT COMPANY LIQUIDITY AND CAPITAL RESOURCES

Citizens is a holding company and has had minimal operations of its own. Our assets consist of the capital stock of our subsidiaries, cash and investments. Our liquidity requirements are met primarily from two sources: cash generated from our operating subsidiaries and our invested assets. Our ability to obtain cash from our insurance subsidiaries depends primarily upon the availability of statutorily permissible payments, including payments Citizens receives from service agreements with our insurance subsidiaries and dividends from the subsidiaries. The ability to make payments to the holding company is limited by applicable laws and regulations of Bermuda (and as of January 1, 2023, Puerto Rico), and U.S. states of domicile which subject insurance operations to significant regulatory restrictions. As discussed in Part I, Item 1, Business and Part I. Item 1A. Risk Factors, these laws and regulations require, among other things, that our insurance subsidiaries maintain minimum capital and surplus requirements, which limit the amount of dividends that can be paid to the holding company. The regulations also require approval of our service agreements with the applicable regulatory authority in order to prevent insurance subsidiaries from moving large amounts of cash to the less regulated holding company.

In addition to the above-mentioned sources of cash, we offer a Stock Investment Plan ("SIP"), whereby investors, policyholders, independent contractors and agents, employees and directors can directly purchase our stock. At our option, purchases of stock under the SIP can be made from newly issued or treasury stock, rather than in the open market, in which case, we can raise capital by selling our shares.

On May 5, 2021, we entered into a Credit Facility with Regions Bank. See Part IV, Item 15, Note 7, Commitments and Contingencies in the notes to our consolidated financial statements, herein, for a description of the Credit Facility. The Credit Facility provides additional liquidity to the Company for short-term and longer-term needs. As of December 31, 2022, we have not borrowed any money under the Credit Facility and have no immediate plans to do so.

INSURANCE COMPANY SUBSIDIARY LIQUIDITY AND CAPITAL RESOURCES

The liquidity requirements of our insurance operations are primarily met by premium revenues, investment income and investment maturities. Our primary uses of cash are for payments of policy benefits to policyholders, investment purchases, and operating expenses. Historically, cash flow from our operations has been sufficient to meet our cash needs and we have not had to liquidate a material amount of investments to pay our expenses and we did not do so in 2022. Premium revenue was $173.7 million and $174.7 million in the years ended December 31, 2022 and 2021, respectively. See Contractual Obligations and Off-balance Sheet Arrangements below for a discussion of known and estimated cash needs related to payments of future policy benefits and policy claims. Cash flow projections and cash flow tests under various market interest rate scenarios are performed annually to assist in evaluating liquidity needs and adequacy.

Cash from Operating Activities. Cash provided by operating activities is an important liquidity metric because it reflects, during a given period, the amount of cash generated that is available to pay our operating expenses, invest

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in our business or make strategic acquisitions. Cash provided by operating activities was $56.9 million and $40.5 million for the years ended December 31, 2022 and 2021, respectively. Cash provided by operations was higher in 2022 due to (i) the $8.8 million severance payment to our former CEO in 2021, and (ii) decreased death and surrender benefits in 2022.

Cash from/used in Investing Activities. We have traditionally also had significant cash flows from both scheduled and unscheduled investment security maturities, redemptions, and prepayments. These cash flows, for the most part, are reinvested in fixed income securities and to a lesser extent limited partnerships or other alternative investments. Net cash outflows from investing activities totaled $60.7 million and $41.1 million for the years ended December 31, 2022 and 2021, respectively. The investing activities fluctuate from period to period due to timing of securities activities such as calls and maturities and reinvestment of those funds. During 2022, we used a higher amount of cash in investing activities, as we were able to invest at higher interest rates than the past several years, thus increasing our yields. 88% of our investments consist of marketable fixed maturity securities classified as available-for-sale that could be readily converted to cash for liquidity needs.

Trends, Demands and Restrictions on our Uses of Cash

Because claims and surrenders are our largest expense, a primary liquidity concern is the risk of either (i) an extraordinary level of early policyholder surrenders, or (ii) higher than expected mortality experience. In order to mitigate the risk of early policyholder surrenders, we include provisions in our insurance policies, such as surrender charges, that help limit and discourage early withdrawals. As previously discussed, surrender benefits have been higher than usual the last several years as many of our policies have reached the age where surrender charges have expired and due to other reasons, like the loss of one of our biggest distributors in Venezuela (see Part I, Item 3. Legal Proceedings). However, policy surrenders decreased 5.6% in 2022 when compared to 2021 as we have instituted new programs seeking to curb surrenders. To the extent that early surrenders are higher than expected, our liquidity could be negatively impacted. We continue to monitor surrenders and early withdrawals.

Our endowment products provide the policyholder with alternatives once the policy matures - they can choose to take a lump sum payout or leave the money on deposit at interest with the Company. As of December 31, 2022, 38% of the Company's total insurance in force was in endowment products. Approximately 17% of the endowments in force will mature in the next five years. Policyholder election behavior is unknown, but if too many policyholders elect lump sum distributions, the Company could be exposed to liquidity risk in years of high maturities. Meeting these distributions could require the Company to sell its investments at inopportune times to pay policyholder withdrawals. Alternatively, if the policyholders were to leave the money on deposit with the Company at interest, our profitability could be impacted if the product guaranteed rate is higher than the market rate we are earning on our investments. We currently anticipate that our available operating cash flow and capital resources will be adequate to meet our needs for funds, but we will monitor closely our policyholder behavior patterns.

We experienced increased death claim benefits in 2021, primarily due to the COVID-19 pandemic. Because the pandemic was an unforeseen event that was not priced into our product assumptions, to the extent we continue to experience increased claims and the associated death benefit payouts as a result of the COVID-19 pandemic or any other unforeseen event, our liquidity could be negatively impacted. Some of our policies include pandemic exclusions, and we carry reinsurance to offset some of these risks. However, death claim benefits decreased by 17.9% in 2022 compared to 2021.

As discussed above, we are subject to regulatory capital requirements that could affect the Company’s ability to access capital from our insurance operations or cause the Company to have to put additional cash in our wholly-owned subsidiaries.

Our domestic companies are subject to minimum capital requirements set by the NAIC in the form of risk-based capital ("RBC"). RBC considers the type of business written by an insurance company, the quality of its assets, and various other aspects of an insurance company's business to develop a minimum level of capital called "Authorized Control Level Risk-Based Capital". This level of capital is then compared to an adjusted statutory capital that includes capital and surplus as reported under statutory accounting principles, plus certain investment reserves. Should the ratio of adjusted statutory capital to control level RBC fall below 200% for our domestic companies, a series of remedial actions by the affected company would be required. Additionally, we have a parental guarantee

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between Citizens and CICA, Citizens' wholly-owned subsidiary domiciled in Colorado, to maintain a RBC level above 350%. At December 31, 2022, our domestic insurance subsidiaries were above the required minimum RBC levels.

CICA International is a Bermuda domiciled company. The BMA requires Bermuda insurers to maintain available statutory economic capital and surplus at a level equal to or in excess of the BMA's Enhanced Capital Requirement, which requires a certain Target Capital Level ("TCL"). As of December 31, 2022, CICA International was above the TCL threshold. As the Insurance Act permits, we requested a modification under Section 6C of the Insurance Act to remove the impact of unrealized gains or losses from the Minimum Margin of Solvency (“MMS”) requirement. On January 19, 2023, the BMA granted CICA International a permitted practice, effective December 31, 2022, pursuant to Section 6C (1) of the Insurance Act to report its fixed income maturity securities at amortized cost in its unconsolidated statutory financial statements. At the request of the BMA, on April 15, 2021, Citizens and CICA International entered into a Keep Well Agreement. The Keep Well Agreement requires Citizens to contribute up to $10 million in capital to CICA International as necessary to ensure that CICA International has a minimum capital level of 120%. Since CICA International's capital level currently exceeds 120%, Citizens is not currently required to make a capital contribution. Any capital injection that Citizens is required to make under the parental guarantee with CICA or under the Keep Well Agreement or change in our permitted practice with CICA International could negatively impact the Company's capital resources and liquidity.

CICA PR is a Puerto Rico domiciled company. The Insurance Code does not specifically set forth minimum capital and surplus standards, but rather requires that an insurer submit a business plan for approval to the OIC that includes proposed minimum capital and surplus. CICA PR is required to maintain a minimum of $750,000 in capital and maintain a premium to surplus ratio of 7 to 1. CICA PR began issuing new business as of January 1, 2023 and since higher costs are associated with new business than renewal business (e.g., first year commissions), we expect that Citizens will have to contribute capital to CICA PR in the foreseeable future in order to maintain the required premium to surplus ratio. Like with CICA International, any capital that Citizens is required to contribute could negatively impact the Company's capital resources and liquidity.

CONTRACTUAL OBLIGATIONS AND OFF-BALANCE SHEET ARRANGEMENTS

Our material cash requirements from known contractual and other obligations primarily relate to our policy liabilities. Expected timing of those payments are as follows:

Future Policy Benefit Reserves and Policy Claims Payable. As a life insurance company, the vast majority of our known cash requirements are for payments related to future policy benefits and policy claims payable, which we estimated in the table above. These amounts have been projected utilizing assumptions based upon our historical experience and anticipated future experience. We have reflected the majority of the obligation in the more than five-years category due to the age of the insured, years to policy maturity and our past experience with claims and surrenders.

Real Estate Lease. The Company entered into a long-term lease agreement with an unrelated party for its home office in Austin, Texas. Payments under this long-term lease agreement average approximately $112,000 per month.

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The Company does not have off-balance sheet arrangements at December 31, 2022. We do not utilize special purpose entities as investment vehicles, nor do we invest in any such entities that engage in speculative activities of any nature. In addition, we do not hedge our investment positions.

We have no known material cash requirements other than those described above.

CRITICAL ACCOUNTING POLICIES

The preparation of consolidated financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect reported amounts and related disclosures.  Management considers an accounting estimate to be critical if: (1) it requires assumptions to be made that were uncertain at the time the estimate was made; and (2) changes in the estimate, or different estimates that could have been selected, could have a material effect on our consolidated results of operations or financial condition.  While we believe that our estimates, assumptions and judgments are reasonable, they are based on information presently available.  Changes in our assumptions, estimates or assessments as a result of unforeseen events or otherwise could have a material impact on our financial position or results of operations.

Management has discussed the development and selection of its critical accounting estimates with the Audit Committee of the Board of Directors, and the Audit Committee has reviewed the disclosure presented.  See Note 1. Summary of Significant Accounting Policies in the notes to our consolidated financial statements for further information on our critical accounting policies.

VALUATION OF INVESTMENTS IN FIXED MATURITY SECURITIES

Based upon current accounting guidance, investment securities must be classified as held-to-maturity, available-for-sale ("AFS") or trading.  Management determines the appropriate classification at the time of purchase.  The classification of securities is significant since it directly impacts the accounting for unrealized gains and losses on securities.  Fixed maturity securities are classified as held-to-maturity and carried at amortized cost when management has the positive intent and the Company has the ability to hold the securities to maturity.  Securities not classified as held-to-maturity are classified as AFS and are carried at fair value, with the unrealized holding gains and losses, net of tax, reported in other comprehensive income (loss) and do not affect earnings until realized. The Company currently does not hold any fixed maturity securities classified as held-to-maturity.

The Company monitors all fixed maturity securities on an on-going basis relative to changes in credit ratings, market prices, earnings trends and financial performance, in addition to specific region or industry reviews.  The Company evaluates whether a credit impairment exists for fixed maturity securities by considering primarily the following factors: (a) changes in the financial condition of the security's underlying collateral; (b) whether the issuer is current on contractually obligated interest and principal payments; (c) changes in the financial condition, credit rating and near-term prospects of the issuer; and (d) the payment structure of the security.  The Company's best estimate of expected future cash flows used to determine the credit loss amount is a quantitative and qualitative process.  Quantitative review includes information received from third-party sources such as financial statements, pricing and rating changes, liquidity and other statistical information.  Qualitative factors include judgments related to business strategies, economic impacts on the issuer, overall judgment related to estimates and industry factors as well as the Company's intent to sell the security, or if it is more likely than not that the Company would be required to sell a security before recovery of its amortized cost.

The Company's best estimate of future cash flows involves assumptions including, but not limited to, various performance indicators, such as historical and projected default and recovery rates, credit ratings, and current delinquency rates.  These assumptions require the use of significant management judgment and include the probability of issuer default and estimates regarding timing and amount of expected recoveries, which may include estimating the underlying collateral value.  In addition, projections of expected future fixed maturity security cash flows may change based upon new information regarding the performance of the issuer. Any credit losses are presented as an allowance rather than as a write-down of AFS fixed maturity securities.

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DEFERRED POLICY ACQUISITION COSTS

Acquisition costs, consisting of commissions and policy issuance, underwriting and agent convention expenses that are directly related to and vary with the successful production of new business are deferred.  These deferred amounts, referred to as deferred policy acquisition costs ("DAC"), are recorded as an asset on the consolidated balance sheets and amortized to income in a systematic manner, based on related contract revenues or gross profits as appropriate.

Traditional life insurance and accident and health insurance acquisition costs are amortized over the premium-paying period of the related policies using assumptions consistent with those used in computing future policy benefit liabilities.  For universal life type contracts and investment contracts that include significant surrender charges or that yield significant revenues from sources other than the investment contract holders' funds, the deferred contract acquisition cost amortization is matched to the recognition of gross profit.  The effect on the DAC asset that would result from realization of unrealized gains or losses is recognized with an offset to accumulated other comprehensive income in consolidated stockholders' equity.  If an internal replacement of insurance or investment contract modification substantially changes a contract as defined in current accounting guidance, then the DAC is written off immediately through income and any new deferrable costs associated with the new replacement are deferred.  If a contract modification does not substantially change the contract, the DAC amortization on the original contract will continue and any acquisition costs associated with the related modification are immediately expensed.

The ending DAC asset balance is calculated at a seriatim level for policies in force at the end of each reporting period based on the remaining unamortized asset. The assumptions used to calculate DAC are set when a policy is issued and do not change with changes in actual experience, unless a loss recognition event occurs. The seriatim method ensures that policies lapsed or surrendered during the reporting period are no longer included in the DAC calculation. This method limits the amount of deferred costs to its estimated realizable value, provided actual experience is comparable to that contemplated in the locked-in assumptions.

Inherent in the capitalization and amortization of DAC are certain management judgments about what acquisition costs are deferred, the ending asset balance and the annual amortization.  Approximately 94.6% of our capitalized DAC are attributed to first year and renewal excess commissions.  The remaining 5.4% are attributed to other costs that vary with and are directly related to the successful acquisition of new insurance business.  Those costs generally include costs related to the production, underwriting and issuance of new business.

DAC is subject to recoverability testing at the time of policy issuance and loss recognition testing on an annual basis, or when an event occurs that might require loss recognition testing. If loss recognition or impairment is necessary, DAC would be written off to the extent that anticipated future premiums and investment income is insufficient to cover expected future policy benefits and expenses. Loss recognition testing considers, among other things, actual experience and projected future experience and calculates the available premium (gross premium less the benefit and expense portion of premium) for the next 50 years.  DAC is evaluated for recoverability using best estimate assumptions related to interest rates, mortality and lapses. Based on the results of DAC recoverability and loss recognition testing, management believes that our DAC for the years ended December 31, 2022 and 2021 is recorded at its estimated realizable value. However, if mortality increases by more than 125% from our underlying assumptions a loss recognition event could occur in our Home Service Insurance segment. Likewise, if interest rates decline significantly, a loss recognition event could occur in both of our operating segments.

For DAC related to long-duration traditional insurance contracts, if the assets supporting the liabilities are in a net unrealized gain position at the balance sheet date, loss recognition testing assumptions are updated to exclude such gains from future cash flows by reflecting the impact of reinvestment rates on future yields. If a future loss is anticipated under this basis, any additional shortfall indicated by loss recognition tests is recognized as a reduction in accumulated other comprehensive income (shadow loss recognition). Similar to other loss recognition on long-duration insurance contracts, such shortfall is first reflected as a reduction in DAC and secondly as an increase in liabilities for future policy benefits. The change in these adjustments, net of tax, is included with the change in net unrealized appreciation of investments that is credited or charged directly to other comprehensive income (loss).

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COST OF INSURANCE ACQUIRED

Cost of Insurance Acquired ("COIA") is established when we purchase a block of insurance.  COIA is amortized over the emerging profit of the related policies using the same assumptions as were used in computing liabilities for future policy benefits.  Inherent in the amortization of COIA are certain management judgments about the ending asset balance and the annual amortization.  The key assumptions used are based upon interest, mortality and lapses at the time of purchase.

A recoverability test that considers, among other things, actual experience and projected future experience is performed at least annually. These annual recoverability tests are based initially on an estimate of the available premium (gross premium less the benefit and expense portion of premium) for the next 50 years using best estimate assumptions related to interest rates, mortality and lapses.  Management believes that our COIA is recoverable for the years ended December 31, 2022 and 2021.  This belief is based upon the analysis performed on estimated future results of the block and our annual recoverability testing.

POLICY LIABILITIES

Future policy benefit reserves have been computed using the net level premium method with assumptions as to investment yields, dividends on participating business, mortality, lapses and withdrawals based upon our experience.  The preparation of consolidated financial statements requires management to make estimates and assumptions that affect the reported amount of policy liabilities and the increase in future policy benefit reserves.  Management's judgments and estimates for future policy benefit reserves provide for possible adverse deviation.

We continue to use the original assumptions (including a provision for the risk of adverse deviation) in subsequent periods to determine the changes in the liability for future policy benefits (the "lock-in concept”) unless a premium deficiency exists.  Management monitors these assumptions and has determined that a premium deficiency did not exist as of December 31, 2022.  Management believes that our policy liabilities and increase in future policy benefit reserves as of the years ended December 31, 2022 and 2021 are based upon assumptions, including a provision for the risk of adverse deviation, that do not warrant revision. Annually, the Company completes experience studies with respect to mortality, lapse, interest and expenses. The results of these studies are used for current year reserve adequacy testing, which includes loss recognition and establishing benefit liabilities and DAC for the following year's new issues.

TAX ACCOUNTING

Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in net income in the period in which the change is enacted.  CICA International, a wholly-owned subsidiary of Citizens, is considered a controlled foreign corporation for U.S. federal tax purposes. As a result, the insurance activity of CICA International is subject to Subpart F of the IRC and is included in Citizens taxable income on its U.S. federal income tax return. Due to the 0% enacted tax rate in Bermuda there are no deferred taxes recorded for CICA International's temporary differences.

As required by U.S. GAAP, we evaluated the recoverability of deferred tax assets and the establishment of a valuation allowance, if necessary, to reduce the deferred tax asset to an amount that is more likely than not to be realized. For the year ended December 31, 2022, changes in market conditions including rising interest rates, resulted in deferred tax assets related to the net unrealized capital losses in our investment portfolio. When assessing the need for a valuation allowance on the unrealized capital loss deferred tax assets, we assert a tax planning strategy to hold a majority of the underlying securities to recovery or maturity. Our ability to assert such a tax planning strategy is dependent upon factors such as our asset/liability matching process, overall investment strategy, projected future product sales and expected liquidity needs. In the event these estimates differ from our prior estimates due to the receipt of new information, we may be required to significantly change the income tax expense recorded in the consolidated financial statements. This includes a further significant decline in the value of

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assets incorporated into our tax planning strategies which could lead to an increase in our valuation allowance on deferred tax assets having an adverse effect on current and future results.

RECENT ACCOUNTING PRONOUNCEMENTS

See Item 8. Financial Statements and Supplementary Data and "Accounting Pronouncements" in Note 1. Summary of Significant Accounting Policies in the notes to our consolidated financial statements.