ITEM 1. FINANCIAL STATEMENTS.

See Notes to Consolidated Financial Statements.

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See Notes to Consolidated Financial Statements.

4

See Notes to Consolidated Financial Statements.

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See Notes to Consolidated Financial Statements.

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MIDWEST HOLDING INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1. Nature of Operations and Basis of Presentation

Nature of Operations

Midwest Holding Inc. (“Midwest,” “the Company,” “we,” “our,” or “us”) was incorporated in Nebraska on October 31, 2003 for the primary purpose of operating a financial services company. The Company is in the life and annuity insurance business and operates through its wholly owned subsidiary, American Life & Security Corp. (“American Life”). As discussed in Note 3 , on June 28, 2018, we underwent a change in control as a result of the closing of a Loan, Convertible Preferred Stock and Convertible Senior Secured Note Purchase Agreement dated May 9, 2018 (the “Agreement”) with a non-affiliated third party, Xenith Holdings LLC, a Delaware limited liability company (“Xenith”). Xenith owns 100% of the voting stock of Vespoint LLC, a Delaware limited liability company (“Vespoint”), which is also the manager of Xenith.

Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with United States of America generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions from the Securities and Exchange Commission (“SEC”) Quarterly Report on Form 10-Q, including Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. The information contained in the Notes to Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018 (“2018 Form 10-K”), should be read in connection with the reading of these interim unaudited consolidated financial statements.

Certain GAAP policies, which significantly affect the determination of financial condition, results of operations and cash flows, are summarized in our 2018 Form 10-K.

In the opinion of management, these statements include all normal recurring adjustments necessary for a fair presentation of the Company’s results. Operating results for the three months ended March 31, 2019, are not necessarily indicative of the results that may be expected for the full year ending December 31, 2019. All material inter-company accounts and transactions have been eliminated in consolidation.

Investments

All fixed maturities owned by the Company are considered available-for-sale and are included in the consolidated financial statements at their fair value as of the financial statement date. Bond premiums and discounts are amortized using the scientific-yield method over the term of the bonds. Realized gains and losses on securities sold during the year are determined using the specific identification method. Unrealized holding gains and losses, net of applicable income taxes, are included in comprehensive loss.

Declines in the fair value of available for sale securities below their amortized cost are evaluated to assess whether any other-than-temporary impairment loss should be recorded. In determining if these losses are expected to be other-than-temporary, the Company considers severity of impairment, duration of impairment, forecasted recovery period, industry outlook, financial condition of the issuer, issuer credit ratings, and the intent and ability of the Company to hold the investment until the recovery of the cost.

The recognition of other-than-temporary impairment losses on debt securities is dependent on the facts and circumstances related to the specific security. If the Company intends to sell a security or it is more likely than not that the Company would be required to sell a security prior to recovery of the amortized cost, the difference between amortized cost and fair value is recognized in the statement of comprehensive income as an other-than-temporary impairment. If the Company does not expect to recover the amortized basis, does not plan to sell the security and if it is not more likely than not that the Company would be required to sell a security before the recovery of its amortized cost, the recognition of the other-than-temporary impairment is bifurcated. The Company recognizes the credit loss portion in the income statement and the noncredit loss portion in accumulated other comprehensive loss. The credit component of an other-than-temporary impairment is determined by comparing the net present value of projected cash flows with the amortized cost basis of the debt security. The net present value is calculated by discounting the Company’s best estimate of projected future cash flows at the effective interest rate implicit in the fixed income security at the date of acquisition. Cash flow estimates are driven by assumptions regarding probability of default, including changes in credit ratings, and estimates regarding timing and amount of recoveries associated with a default. No other-than-temporary impairments were recognized during the three months ended March 31, 2019 or 2018.

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Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

Investment income consists of interest, dividends, and real estate income, which are recognized on an accrual basis and amortization of premiums and discounts.

Policy loans

Policy loans are carried at unpaid principal balances. Interest income on policy loans is recognized in net investment income at the contract interest rate when earned. No valuation allowance is established for these policy loans as the amount of the loan is fully secured by the death benefit of the policy and cash surrender value.

Cash

The Company considers all liquid investments with original maturities of three months or less when purchased to be cash equivalents. At March 31, 2019 and December 31, 2018, the Company had no cash equivalents.

Deferred acquisition costs

Deferred acquisition costs (“DAC”) consist of incremental direct costs, net of amounts ceded to reinsurers, that result directly from and are essential to the contract acquisition transaction and would not have been incurred by the Company had the contract acquisition not occurred. These costs are capitalized, to the extent recoverable, and amortized over the life of the premiums produced. The Company evaluates the types of acquisition costs it capitalizes. The Company capitalizes agent compensation and benefits and other expenses that are directly related to the successful acquisition of contracts. The Company also capitalizes expenses directly related to activities performed by the Company, such as underwriting, policy issuance, and processing fees incurred in connection with successful contract acquisitions.

Recoverability of deferred acquisition costs is evaluated periodically by comparing the current estimate of the present value of expected pretax future profits to the unamortized asset balance. If this current estimate is less than the existing balance, the difference is charged to expense. The Company performs a recoverability analysis annually in the fourth quarter unless events occur which require an immediate review. The Company determined that no events occurred in the three months ended March 31, 2019 that suggest a review should be undertaken.

Property and equipment

Property and equipment are stated at cost net of accumulated depreciation. Annual depreciation is primarily computed using straight-line methods for financial reporting and straight-line and accelerated methods for tax purposes. Furniture and equipment is depreciated over 3 to 7 years and computer software and equipment is generally depreciated over 3 years. Depreciation expense totaled $9,506 and $12,558 for the three months ended March 31, 2019 and 2018, respectively. Accumulated depreciation totaled $944,986 and $943,323 as of March 31, 2019 and December 31, 2018, respectively.

Maintenance and repairs are expensed as incurred. Replacements and improvements which extend the useful life of the asset are capitalized. The net book value of assets sold or retired are removed from the accounts, and any resulting gain or loss is reflected in earnings.

Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. An impairment loss is recognized if the carrying amount of an asset may not be recoverable and exceeds estimated future undiscounted cash flows of the asset. A recognized impairment loss reduces the carrying amount of the asset to its fair value. Management has determined that no such events occurred in the three months ended March 31, 2019 that would indicate the carrying amounts may not be recoverable.

Reinsurance

In the normal course of business, the Company seeks to limit any single exposure to losses on large risks by purchasing reinsurance. The amounts reported in the consolidated balance sheets as reinsurance recoverable include amounts billed to reinsurers on losses paid as well as estimates of amounts expected to be recovered from reinsurers on insurance liabilities that have not yet been paid. Reinsurance recoverable on unpaid losses are estimated based upon assumptions consistent with those used in establishing the liabilities related to the underlying reinsured contracts. Insurance liabilities are reported gross of reinsurance recoverable. Management believes the recoverables are appropriately established. The Company generally strives to diversify its credit risks related to reinsurance ceded. Reinsurance premiums are generally reflected in income in a manner consistent with the recognition of premiums on the reinsured contracts. Reinsurance does not extinguish the Company’s primary liability under the policies written. Therefore, the Company regularly evaluates the financial condition of its reinsurers including their activities with respect to claim settlement practices and commutations, and establishes allowances for uncollectible reinsurance recoverable as appropriate. There were no allowances as of March 31, 2019 or December 31, 2018.

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Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

Benefit reserves

The Company establishes liabilities for amounts payable under insurance policies, including traditional life insurance and annuities. Generally, amounts are payable over an extended period of time. Liabilities for future policy benefits of traditional life insurance have been computed by a net level premium method based upon estimates at the time of issue for investment yields, mortality and withdrawals. These estimates include provisions for experience less favorable than initially expected. Mortality assumptions are based on industry experience expressed as a percentage of standard mortality tables.

Policy claims

Policy claims are based on reported claims plus estimated incurred but not reported claims developed from trends of historical data applied to current exposure.

Deposit-type contracts

Deposit-type contracts consist of amounts on deposit associated with deferred annuity riders, premium deposit funds and supplemental contracts without life contingencies.

Income taxes

The Company is subject to income taxes in the U.S. federal and various state jurisdictions. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. With few exceptions, the Company is no longer subject to U.S. federal, state or local tax examinations by tax authorities for the years before 2015. The Company is not currently under examination for any open years. The provision for income taxes is based on income as reported in the financial statements. The income tax provision is calculated under the asset and liability method. Deferred tax assets are recorded based on the differences between the financial statement and tax basis of assets and liabilities at the enacted tax rates. The principal assets and liabilities giving rise to such differences are investments, insurance reserves, and deferred acquisition costs. A deferred tax asset valuation allowance is established when there is uncertainty that such assets would be realized. The Company has no uncertain tax positions that it believes are more-likely-than not that the benefit will not to be realized. When applicable, the Company recognizes interest accrued related to unrecognized tax benefits and penalties in income tax expense. The Company had no accruals for payments of interest and penalties at March 31, 2019 or December 31, 2018.

Revenue recognition and related expenses

Amounts received as payment for annuities are recognized as deposits to policyholder account balances and included in future insurance policy benefits. Revenues from these contracts are comprised of fees earned for administrative and contract-holder services and cost of insurance, which are recognized over the period of the contracts, and included in revenue. Deposits are shown as a financing activity in the consolidated statements of cash flows.

Liabilities for future policy benefits are provided and acquisition costs are amortized by associating benefits and expenses with earned premiums to recognize related profits over the life of the contracts. Acquisition costs are amortized over the expected life of the annuity contracts.

Comprehensive loss

Comprehensive loss is comprised of net loss and other comprehensive income (loss). Other comprehensive income (loss) includes unrealized gains and losses from marketable securities classified as available for sale, net of applicable taxes.

Common and preferred stock and earnings (loss) per share

Common and preferred stock and earnings (loss) per share: The par value per common share is $0.001 with 1,970,000,000 voting common shares authorized, 20,000,000 non-voting common shares authorized, and 10,000,000 preferred shares authorized. At March 31, 2019 and December 31, 2018, the Company had 22,873,764 voting common shares issued and outstanding and 1,500,000 shares of Series C preferred stock issued and outstanding.

The Class C preferred shares are cumulative, voting and convertible by the holder to voting common shares at any time and from time to time after the original Series C issue date at a rate of approximately $0.02 per share of voting common shares for each preferred share. The par value per preferred share is $0.001 with 1,500,000 shares authorized. The stated annual dividend rate on the Class C preferred shares is 8%. As of March 31, 2019 and December 31, 2018, the Company had dividends in arrears of approximately $90,000 and $60,000, respectively, related to the Class C preferred stock.

Loss per basic share attributable to the Company’s common stockholders was computed based on the weighted average number of shares outstanding during each period. The weighted average number of shares outstanding during the three months ended March 31, 2019 and 2018 was 22,860,701 and 22,860,701 shares, respectively.

Loss per diluted share attributable to the Company’s common stockholders was computed based on the average shares outstanding and the Xenith Notes payable and Preferred Shares as converted during each period. The weighted average number of shares outstanding during the three months ended March 31, 2019 and 2018 was 1,052,792,914 and 1,052,779,851 shares, respectively.

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Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

Reclassifications

Reclassifications have been made on the Consolidated Balance Sheets and Statements of Comprehensive Loss for the year ended December 31, 2018 and the three months ended March 31, 2018. These reclassifications do not impact the overall Net loss or Net loss per common shares line items of the Consolidated Statement of Comprehensive Loss for the three months ended March 31, 2018.

Note 2. New Accounting Standards

Adoption of New Accounting Standards

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842). The guidance in this ASU supersedes the leasing guidance in Topic 840, Leases. Under the new guidance, lessees are required to recognize lease assets and lease liabilities on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The lease liability is measured at the present value of the lease payments over the lease term with the right-of-use asset measured as the lease liability amount and including adjustments for certain lease incentives and initial direct costs. Lease expense recognition will continue to differentiate between finance leases and operating leases resulting in a similar pattern of lease expense recognition as under current GAAP. This ASU permitted a modified retrospective adoption approach that includes a number of optional practical expedients that entities may elect upon adoption.

On January 1, 2019, the Company adopted this standard using a modified retrospective adoption approach. The adoption resulted in the Company identifying three operating leases and one financial lease which are subject to this guidance. The impact to the Consolidated Statements of Comprehensive Income (Loss) was minimal. We have one finance lease with a net asset of $11,651 and $14,564 and a finance lease liability of $7,439 and $9,299 for the three months ended March 31, 2019 and the year ended December 31, 2018, respectively. The other three leases have been classified as operating leases with right of use assets established of $561,582 and $592,065 and operating lease liabilities of $616,268 and $646,519 as of March 31, 2019 and December 31, 2018, respectively.

On February 14, 2018, the FASB issued ASU No. 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income . It allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act. The ASU is effective for all entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted, including adoption in any interim period for public business entities for reporting periods for which financial statements have not yet been issued. The Company has evaluated the impact of this update and has determined that this does not impact us currently due to not recording unrealized losses or gains net of tax. The Company has incurred net operating losses since inception so it does not record deferred tax assets or deferred tax liabilities due to establishing a valuation allowance.

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers. The core principle of ASU 2014-09 is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date (“ASU 2015-14”). This amendment defers the effective date of the previously issued ASU 2014-09 until the interim and annual reporting periods beginning after December 15, 2017. Earlier application is permitted for interim and annual reporting periods beginning after December 15, 2016. In addition, the FASB has issued four related ASU’s on principal versus agent guidance (ASU 2016-08), identifying performance obligations and the licensing implementation guidance (ASU 2016-10) a revision of certain SEC Staff Observer comments (ASU 2016-11) and implementation guidance (ASU 2016-12). The guidance permits two methods of transition upon adoption; full retrospective and modified retrospective. The Company adopted ASU 2014-09 on January 1, 2018 and utilized the modified retrospective method. Insurance contracts, lease contracts and investments are not within the scope of ASU 2014-09; therefore, this standard would did not apply to the majority of our consolidated revenues. For the Company's miscellaneous income, which is within the scope of this guidance, the Company reviewed its service fee income revenue streams and compared its historical accounting policies and practices to the new adopted standard. The Company believes its historical revenue recognition was materially consistent with the way we recognized service fee income as of March 31, 2019.

Future adoption of New Accounting Standards

In August 2018, the FASB issued ASU No. 2018-15, Intangibles—Goodwill and Other— Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computer Arrangement That is a Service Contract . Under ASU No. 2018-15, the amendment aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The accounting for the service element of a hosting arrangement that is a service contract is not affected by the amendments in this update. In order to determine which costs can be capitalized, we are to follow the guidance in Subtopic 350-40. Cost for implementation activities in the application development stage are capitalized depending on the nature of the costs, while costs incurred during the preliminary project and the post-implementation stage are expensed as the activities are performed. The amendments in this update are effective for public business entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. The amendments in this update should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. Management has reviewed and evaluated the impact of this pending new standard and will implement this starting in fiscal year 2020. The Company has incurred substantial implementation costs related to the new cloud based technology that were incurred in 2018 and decided not to early adopt this ASU.

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Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

In August 2018, the FASB issued ASU No. 2018-12, Financial Services-Insurance (Topic 944). This update 1) improves the timeliness of recognizing changes in the liability for future policy benefits and modifies the rate used to discount future cash flows, 2) simplifies and improves the accounting for certain market-based options or guarantees associated with deposit contracts, 3) simplifies the amortization of deferred acquisition costs, and 4) improves the effectiveness of the required disclosures. This ASU becomes effective for fiscal years, and interim periods within those years, beginning after December 15, 2020. We anticipate that the adoption of ASU 2018-12 will have a pervasive impact on our consolidated financial statements and related disclosures and will require us to make changes to some of our processes , systems and controls. We are unable to determine the impact at this time as we are still in the process of evaluating the standard.

In November 2018, the FASB issued ASU No. 2018-10, Codification Improvements to Topic 326, Financial Instruments—Credit Losses. The amendments in this update include items brought to the Board’s attention by stakeholders to clarify the guidance in the amendments in ASU 2016-13, Financial Instruments – Credit Losses (Topic 326) which was issued in June 2016. This update amendments clarify that receivables arising from operating leases are not within the scope of Subtopic 326-20. Under ASU 2016-13, this replaces the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to perform credit loss estimates. This update changes the methodology from an incurred loss to an expected credit loss. An allowance for the expected credit loss will be set up and the net income will be impacted. The credit losses will be evaluated in the current period and an adjustment to the allowance can be made. The new standard becomes effective after December 15, 2019. We are currently evaluating the impact of our pending adoption of the new standard on our consolidated financial statements.

Note 3. Change in Control

On June 28, 2018 we underwent a change in control as a result of the closing of a Loan, Convertible Preferred Stock and Convertible Senior Secured Note Purchase Agreement dated May 9, 2018 (the “Agreement”) with a non-affiliated third party, Xenith Holdings LLC, a Delaware limited liability company (“Xenith”). Xenith owns 100% of the voting stock of Vespoint LLC, a Delaware limited liability company (“Vespoint”), which is also the manager of Xenith. Vespoint is owned and managed by AMS Advisors LLC, a Delaware limited liability company, and Rendezvous Capital LLC, a New York limited liability company. Each of these three companies is a private investment company; they are controlled by A. Michael Salem and Michael Minnich, who are Co-Chief Executive Officers of Vespoint.

The terms and conditions of the Agreement were described in Midwest’s Current Report on Form 8-K filed with the Securities and Exchange Commission (“SEC”) on May 14, 2018. All conditions to consummation of the Agreement, including approval of the transactions contemplated therein by the State of Nebraska Department of Insurance (“NDOI”) , were subsequently met and a closing was held pursuant to the Agreement on June 28, 2018 (the “Closing”).

Issuance of Class C Convertible Preferred Stock . At the closing of the Agreement, we issued 1,500,000 shares of newly created Class C Convertible Preferred Stock (“Class C Preferred Stock”) to Xenith for $1,500,000, which is recorded in our balance sheet as Mezzanine Equity. The Class C Preferred Stock is convertible, at Xenith’s election, into approximately 72,900,000 shares of our voting common stock (“Common Stock”) at approximately $0.02 per share, and ranks senior to the common stock on liquidation with a preference of $1.00 per share. Subject to the availability of funds, annual dividends of 8% of the Class C Preferred Stock liquidation preference are payable by us; if not paid the dividends accrue. Also, at any time after June 28, 2025 and subject to Nebraska law, Xenith may require us to redeem the Class C Preferred Stock at the liquidation preference (plus accrued dividends) or fair market value, whichever is greater. If the shares are not redeemed for any reason, an interest rate of 12% per year begins. The Preferred Stock votes along with the Common Stock as a single class on an “as converted” basis. Also, Holders of Preferred Stock voting as a separate class are entitled to elect five of the Company’s eight members of its Board of Directors. The Preferred Stock has several protections against the Company taking action that would adversely affect the rights of holders of Preferred Stock such as mergers, liquidation, dilutive stock issuances, among others.

At Closing, Xenith loaned a total of $600,000 to Midwest, repayable upon maturity in 10 years with cash interest of 4% per annum payable quarterly and accrued interest of another 4% per annum payable upon maturity. The loans were made under two notes of $500,000 and $100,000, respectively. The first $500,000 note is convertible, at Xenith’s election, into approximately 24,300,000 shares of Midwest’s voting common stock which equates to approximately $0.02 per share. The remaining $100,000 note is also convertible at the same rate.

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Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

The notes are secured under a security agreement which is collateralized by all of the issued and outstanding shares of American Life. Xenith has the right to foreclose on the collateral under events of default, which include our failure to pay interest or principal on the notes when due, failure to observe any material provision of the Agreement, misrepresentations under the Agreement or bankruptcy or insolvency proceedings involving us. All interest on the notes through January 31, 2019 has been waived.

The Agreement further provided that Xenith, in its sole discretion, may loan up to an additional $23,500,000 to Midwest. Any loans made by Xenith under this election (“Subsequent Loans”) will also be convertible into Midwest’s Common Stock at the rate of $0.02 per share. Xenith contributed an additional $18,500,000 in the fourth quarter of 2018 following the amendment of the Midwest Articles of Incorporation to increase its authorized voting common shares to 1,970,000,000.

Proceeds from the Loans and Preferred Stock were contributed to Midwest’s insurance subsidiary, American Life, to be held by it and used for general business purposes (except for up to $100,000 which has been used by Midwest to cover a portion of its expenses in entering into and complying with its obligations under the Agreement).

To summarize the above for purposes of illustration assuming the Notes and shares of Preferred Stock are converted in the Company’s voting common stock:

Note 4. Assets and Liabilities Held for Sale

On November 30, 2018, American Life entered into an Assumption and Indemnity Reinsurance Agreement (“Agreement”) with Unified Life Insurance Company (“Unified”), a Texas domiciled stock insurance company. The Agreement provides that American Life ceded and Unified agreed to reinsure, on an indemnity reinsurance basis, 100% of the liabilities and obligations under substantially all of American Life’s life, annuity and health policies (“Policies”). The Agreement closed on December 10, 2018, as previously disclosed in Midwest’s Current Report on Form 8-K filed with the Securities and Exchange Commission (the “SEC”) on December 12, 2018. The effective date of the Agreement was July 1, 2018.

After the Closing, Unified began the process of preparing and delivering certificates of assumption and other materials to policy holders of American Life in order to effect an assumption of the Policies by Unified such that all of American Life’s rights and obligations under the Policies arising on and after July 1, 2018 are completely assumed by Unified without further indemnification or other obligations of American Life, except for liabilities, claims and obligations incurred before July 1, 2018. Unified is obligated to indemnify American Life against all liabilities and claims and all of its Policy obligations from and after the July 1, 2018.

American Life provided administrative services with respect to the Policies during a transition period that ended on February 1, 2019, at which time Unified assumed all administrative functions with respect to the Policies.

The consideration paid by Unified to American Life under the Agreement upon Closing was $3,500,000 (“Ceding Commission”), subject to minor settlement adjustments. At Closing, American Life transferred the Statutory Reserves and Liabilities, as defined in the Agreement, directly related to the Policies, to Unified.

The Ceding Commission will be amortized on a straight-line basis over the life of the Policies. When the Policies are converted to assumptive, the remaining Ceding Commission will be recognized in the income statement.

As of March 31, 2019, 25% of the indemnity policies have been converted to assumptive policies releasing American Life from its legal obligations related to those policies.

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The Company has two securities that individually exceed 10% of the total of the state and political subdivisions categories as of March 31, 2019. The amortized cost, fair value, credit ratings, and description of each security is as follows:

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Based on our review of the securities in an unrealized loss position at March 31, 2019 and December 31, 2018, no other-than-temporary impairments were deemed necessary. Management believes that the Company will fully recover its cost basis in the securities held at March 31, 2019, and management does not have the intent to sell nor is it more likely than not that the Company will be required to sell such securities until they recover or mature.

The amortized cost and estimated fair value of fixed maturities at March 31, 2019, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

The Company is required to hold assets on deposit for the benefit of policyholders in accordance with statutory rules and regulations. At March 31, 2019 and December 31, 2018, these required deposits had a total amortized cost of $3,153,553 and $2,958,178 and fair values of $3,038,059 and $2,772,809, respectively.

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Proceeds for the three months ended March 31, 2019 and 2018 from sales of investments classified as available-for-sale were $360,600 and $3,312,368, respectively. Gross gains of $1,624 and $24,910 and gross losses of $6,021 and $74,581 were realized on those sales during the three months ended March 31, 2019 and 2018, respectively.

Note 6. Fair Values of Financial Instruments

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. We use valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, accounting standards establish a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

A review of fair value hierarchy classifications is conducted on a quarterly basis. Changes in the valuation inputs, or their ability to be observed, may result in a reclassification for certain financial assets or liabilities. Reclassifications impacting Level 3 of the fair value hierarchy are reported as transfers in/out of the Level 3 category as of the beginning of the period in which the reclassifications occur.

A description of the valuation methodologies used for assets measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.

Notes payable: Notes payable consist of the convertible notes entered into due to the Xenith transaction and were recorded net of issuance costs.

Fixed maturities: Fixed maturities are recorded at fair value on a recurring basis utilizing a third-party pricing source. The valuations are reviewed and validated quarterly through random testing by comparisons to separate pricing models or other third party pricing services. For the period ended March 31, 2019, there were no material changes to the valuation methods or assumptions used to determine fair values, and no broker or third party prices were changed from the values received. Securities with prices based on validated quotes from pricing services are reflected within Level 2.

Cash: The carrying value of cash and cash equivalents and short-term investments approximate the fair value because of the short maturity of the instruments.

Policy loans: Policy loans are stated at unpaid principal balances. As these loans are fully collateralized by the cash surrender value of the underlying insurance policies, the carrying value of the policy loans approximates their fair value. Policy loans are categorized as Level 3 in the fair value hierarchy.

16

Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

Deposit-type contracts: The fair value for direct and assumed liabilities under deposit-type insurance contracts (accumulation annuities) is calculated using a discounted cash flow approach. Cash flows are projected using actuarial assumptions and discounted to the valuation date using risk-free rates adjusted for credit risk and nonperformance risk of the liabilities. These liabilities are categorized as Level 3 in the fair value hierarchy.

The following table presents the Company’s fair value hierarchy for those financial instruments measured at fair value on a recurring basis as of March 31, 2019 and December 31, 2018.

There were no transfers of financial instruments between any levels during the three months ended March 31, 2019 or during the year ended December 31, 2018.

Accounting standards require disclosure of the fair value of financial assets and financial liabilities, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or non-recurring basis. The methodologies for estimating the fair value of financial assets and financial liabilities that are measured at fair value on a recurring basis are discussed above. There were no financial assets or financial liabilities measured at fair value on a non-recurring basis.

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At March 31, 2019 and December 31, 2018, the Company recorded a valuation allowance of $1,984, 487 and $1,928,454, respectively, on the deferred tax assets to reduce the total to an amount that management believes will ultimately be realized. Realization of deferred tax assets is dependent upon sufficient future taxable income during the period that deductible temporary differences and carryforwards are expected to be available to reduce taxable income.

Section 382 of the Internal Revenue limits the utilization of U.S. net operating loss (“NOL”) carryforwards following a change of control, which occurred on June 28, 2018. As of March 31, 2019, the deferred tax assets included the expected tax benefit attributable to federal NOLs of $8,267,328. The federal NOLs generated prior to June 28, 2018 which are subject to Section 382 limitation can be carried forward. If not utilized, the NOLs of $890,636 prior to 2017 will expire through the year of 2032, and the NOLs generated from June 28, 2018 to March 31, 2019 do not expire and will carry forward indefinitely, but their utilization in any carry forward year is limited to 80% of taxable income in that year. The Company believes that is more likely than not that the benefit from federal NOL carryforward will not be realized, thus we have recorded a full valuation allowance of $1,736,139 on the deferred tax assets related to these federal NOLs carryforwards.

There was no income tax expense for the three months ended March 31, 2019 and 2018. This differed from the amounts computed by applying the statutory U.S. federal income tax rate of 21% to pretax income, as a result of the following:

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The following table provides a summary of the significant reinsurance balances recoverable on paid and unpaid policy claims by reinsurer:

Effective July 1, 2018, American Life entered into an assumptive and indemnity coinsurance transaction with Unified to transfer 100% of the risk related to the remaining legacy block of business, see Note 4 above for further discussion. We transferred $19,311,616 of GAAP net adjusted reserves as of July 1, 2018 to Unified for cash of $14,320,817, which was net of a ceding allowance of $3,500,000 plus the accrued interest on the transaction from July 1, 2018 until it closed on December 10, 2018. Unified assumed certain responsibilities for incurred claims, surrenders and commission from the effective date.

The ceding commission of $3,500,000 was recorded net of the difference between statutory and GAAP net adjusted reserves, the elimination of DAC of $1,890,013, VOBA of $338,536, and the remaining deferred profit from our legacy business of $26,896. The remaining $3,069,690 was reflected as a deferred gain and will be recognized into income over the expected duration of the legacy blocks of business. As of March 31, 2019, Unified had converted 25% of the indemnity coinsurance to assumptive coinsurance. American Life amortized $38,371 for the three months ended March 31, 2019 and amortized $76,742 for the year ended December 31, 2018. As a result of the assumption of 25% of the indemnity policies, $741,860 was additionally released into income for the three months ended March 31, 2019. The ending deferred ceding commission at March 31, 2019 was $2,212,716.

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Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

American Life and Security National Life Insurance (“SNL”) reached an agreement to commutate the assumed block of life business effective July 31, 2018. American Life recorded a GAAP loss of $154,780 due to the difference between the GAAP and statutory reserves and the write-off of the remaining VOBA. Net adjusted reserves transferred back to SNL totaled $2,543,898 on a GAAP basis.

At March 31, 2019 and December 31, 2018, total benefit reserves, policy claims, deposit-type contracts, and due premiums ceded by American Life to Sagicor were $11,331,045 and $11,494,161, respectively. At March 31, 2019 and December 31, 2018, total benefit reserves, policy claims, deposit-type contracts, and due premiums ceded by American Life to US Alliance was $11,517,627 and $11,149,888, respectively. American Life remains contingently liable on the ceded reinsurance should Sagicor or US Alliance be unable to meet their obligations.

The use of reinsurance does not relieve American Life of its primary liability to pay the full amount of the insurance benefit in the event of the failure of a reinsurer to honor its contractual obligation for all blocks of business except what is included in the Unified transaction. The reinsurance agreement with Unified discharges American Life’s responsibilities once all the policies have changed from indemnity to assumptive reinsurance. As of March 31, 2019, Unified assumed 25% of the coinsured block of business discharging American Life’s responsibilities on those policies. No reinsurer of business ceded by American Life has failed to pay policy claims (individually or in the aggregate) with respect to our ceded business.

American Life monitors several factors that it considers relevant to satisfy itself as to the ongoing ability of a reinsurer to meet all obligations of the reinsurance agreements. These factors include the credit rating of the reinsurer, the financial strength of the reinsurer, significant changes or events of the reinsurer, and any other relevant factors. If the Company believes that any reinsurer would not be able to satisfy its obligations with the Company, a separate contingency reserve may be established. At March 31, 2019 and December 31, 2018, no contingency reserve was established.

Note 9. Notes Payable

At Closing of the transaction with Xenith as mentioned in Note 3 . Change in Control, Xenith loaned a total of $600,000 to Midwest, repayable upon maturity in 10 years with cash interest of 4% per annum payable quarterly and accrued interest of another 4% per annum payable upon maturity. The loans were made under two notes of $500,000 and $100,000, respectively. The first $500,000 note is convertible, at Xenith’s election, into approximately 24,300,000 shares of Midwest’s voting common stock which equates to approximately $0.02 per share. The remaining $100,000 note is also convertible at the same rate.

The notes are secured under a security agreement which is collateralized by all of the issued and outstanding shares of American Life. Xenith has the right to foreclose on the collateral under events of default, which include our failure to pay interest or principal on the notes when due, failure to observe any material provision of the Agreement, misrepresentations under the Agreement or bankruptcy or insolvency proceedings involving us. All interest on the notes through January 31, 2019 has been waived.

The Agreement further provided that Xenith, in its sole discretion, may loan up to an additional $23,500,000 to Midwest under the same terms as the previous notes. Any loans made by Xenith under this election (“Subsequent Loans”) will also be convertible into Midwest’s Common Stock at the rate of $0.02 per share. Xenith contributed an additional $18,500,000 in the fourth quarter of 2018 following the amendment of the Midwest Articles of Incorporation to increase its authorized voting common shares to 1,970,000,000.

The Company had total accrued interest of $513,713 on the Xenith notes as of March 31, 2019. This included interest not recorded from June 28, 2018 through December 31, 2018 of $131,711 and interest from January 1, 2019 through March 31, 2019 of $382,002. The interest in 2018 and January 2019 was waived for repayment by Xenith so this interest was added as an additional capital contribution.

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Under the terms of American Life’s historical coinsurance agreement with a third party, American Life assumed certain deposit-type contract obligations. These were commutated effective July 31, 2018. The deposits, withdrawals and interest credited in the table above represents the sales of the multi-year guaranteed annuity (“MYGA”) product for 2019 and activity from the third party through July 31, 2018.

Note 11. Contingencies and Commitments

Legal Proceedings: We are involved in litigation incidental to our operations from time to time. We are not presently a party to any legal proceedings other than litigation arising in the ordinary course of our business, and we are not aware of any claims that could materially affect our financial position or results of operations.

Regulatory Matters : State regulatory bodies and other regulatory bodies regularly make inquiries and conduct examinations or investigations concerning the Company’s compliance with laws in relation to, but not limited to, insurance and securities matters. The company received a Certificate of Authority to conduct business in Iowa during the first quarter of 2019. Plans are to seek approval in additional states during 2019.

Note 12. Leases

On January 1, 2019, the Company adopted ASU 2016-02, Leases (Topic 842). The new lease guidance supersedes Topic 840 and requires us to segregate all identified finance and operating leases on our balance sheet as lease liabilities with a corresponding right-of-use (ROU) asset. There are no substantive changes on the income statement due to adoption of this ASU.

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Midwest Holding Inc. and Subsidiary
Notes to Consolidated Financial Statements – Continued

We have finance and operating leases for our corporate offices, postage machine, copiers and computer hardware that we have identified with terms greater than 12 months. Our leases have remaining lease terms of two years to six years.

Finance Lease

Hardware and service lease: The Company entered into a financial lease in April of 2017 to pay for hardware and services. The term of the lease was for 36 months and ends March 31, 2020. The Company owns the hardware and the financial institution has a security interest in the hardware which will be released at the end of the term.

Operating Leases

Office Lease: The Company leases office space in Lincoln, Nebraska under an agreement executed October 17, 2013 that expires on January 31, 2024. Rent expense for the three months ended March 31, 2019 and 2018 was $47,493 and $47,461, respectively.

Machine Leases: The Company entered into a 63 month contract on January 8, 2016 to lease a postage meter machine. At the end of the lease we can; a) enter into a new lease; b) purchase the machine “as is, where is” for fair market value ; or c) return the machine in its original condition with reasonable wear and tear. If we do not pick one of the above options, then it will be automatically renewed for an additional 12 months. The Company also leases copiers under an agreement entered into on December 12, 2016, which expires on December 31, 2021. The Company has the option to purchase the equipment at fair market value, renew the agreement, or return the equipment.

Supplemental balance sheet information related to leases was as follows:

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Note 13. Statutory Net Income and Surplus

American Life is required to prepare statutory financial statements in accordance with statutory accounting practices prescribed or permitted by the Nebraska Department of Insurance. Statutory practices primarily differ from GAAP by charging policy acquisition costs to expense as incurred, establishing future policy benefit liabilities using different actuarial assumptions as well as valuing investments and certain assets and accounting for deferred taxes on a different basis. American Life’s statutory net loss for the three months ended March 31, 2019 and 2018 were $1,308,563 and $651,716, respectively. Capital and surplus of American Life as of March 31, 2019 and December 31, 2018 was $18,857,378 and $20,979,285, respectively. The net loss was primarily due to the continuing expenses incurred to provide services on the new software and related technology to distribute products through marketing organizations. The multi-year guaranteed annuity (“MYGA”) sales began late in January 2019 with $8,292,617 issued during the first quarter of 2019. An additional $6,902,677 was pending as of March 31, 2019. Even though American Life had a significant increase in statutory revenue, the earnings profile of MYGA products are characterized by up-front statutory losses.

Note 14. Surplus Notes

Our surplus notes of $300,000 and $250,000 matured on August 1, 2016 and September 1, 2016, respectively. The Company retired the notes in full as of December 31, 2018, including any accrued interest, through the transfer of the 10 condominiums in Hawaii owned by American Life. The book value of the surplus notes, including interest, was $876,400. The book value of the 10 condominiums in Hawaii was $493,648. We recognized a gain of $382,752 on the settlement of the condos and surplus notes.

Note 15. Third Party Administration

The Company commenced its third party administrative (“TPA”) services in 2012 as an additional revenue source. These services are offered to non-affiliated entities. These agreements, for various levels of administrative services on behalf of each company, generate fee income for the Company. Services provided vary based on their needs and can include some or all aspects of back-office accounting and policy administration. We have been able to perform our TPA services using our existing in-house resources. Fees earned during the three months ended March 31, 2019 and 2018 amounted to $15,540 and $24,240, respectively.