UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

þ	Quarterly Report Pursuant To Section 13 or 15(d) of the Securities Exchange Act Of 1934
	For the quarterly period ended June 30, 2014
¨	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
	For the transition period from                                          to
	Commission file no. 001-35834

Tower Group International, Ltd.

(Exact name of registrant as specified in its charter)

Bermuda	N/A
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
Bermuda Commercial Bank Building 19 Par-la-Ville Road Hamilton, HM 11	N/A
(Address of principal executive offices)	(Zip Code)

(441) 279-6610

(Registrant’s telephone number, including area code

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.x Yes  ¨ No

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

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

Large accelerated filer þ Accelerated filer ¨ Non-accelerated filer ¨ Smaller reporting company ¨

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 57,292,302 shares of common stock, par value $0.01 per share, as of August 19, 2014.

Tower Group International, Ltd.

Quarterly Report on Form 10-Q

For the Period Ended June 30, 2014

INDEX

	Page
PART I FINANCIAL INFORMATION
Item 1. Financial Statements of Tower Group International, Ltd.
Consolidated Balance Sheets – June 30, 2014 (Unaudited) and December 31, 2013 (Audited)		1
Consolidated Statements of Operations (Unaudited) - Three and Six Months Ended June 30, 2014 and 2013		2
Consolidated Statements of Comprehensive Income (Unaudited) - Three and Six Months Ended June  30, 2014 and 2013		3
Consolidated Statements of Changes in Shareholders’ Equity (Unaudited) - Six Months Ended June  30, 2014 and 2013		4
Consolidated Statements of Cash Flows (Unaudited) – Six Months Ended June 30, 2014 and 2013		5
Notes to Consolidated Financial Statements (Unaudited)		6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		37
Item 3. Quantitative and Qualitative Disclosures about Market Risk		59
Item 4. Controls and Procedures		59
PART II OTHER INFORMATION
Item 1. Legal Proceedings		61
Item 1A. Risk Factors		62
Item 1B. Unresolved Staff Comments		63
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		63
Item 5. Other Information		63
Item 6. Exhibits		64
SIGNATURES

Part I – FINANCIAL INFORMATION

Item 1. Financial Statements

Tower Group International, Ltd.

Consolidated Balance Sheets

($ in thousands, except par value and share amounts)	(Unaudited) June 30, 2014			(Audited) December 31, 2013
Assets
Investments - Tower
Available-for-sale investments, at fair value:
Fixed-maturity securities (amortized cost of $1,184,119 and $1,364,157)	$	1,203,335		$	1,390,146
Equity securities (cost of $13,369 and $94,957)		12,791			104,107
Short-term investments (cost of $2,000 and $5,925)		2,000			5,897
Other invested assets		55,617			96,155
Investments - Reciprocal Exchanges
Available-for-sale investments, at fair value:
Fixed-maturity securities (amortized cost of $224,426 and $249,477)		231,044			252,549
Equity securities (cost of $2,751 and $2,751)		2,772			2,523
Total investments		1,507,559			1,851,377
Cash and cash equivalents (includes $17,366 and $5,684 relating to Reciprocal Exchanges)		264,850			293,898
Investment income receivable (includes $1,980 and $2,325 relating to Reciprocal Exchanges)		9,685			17,493
Premiums receivable (includes $43,132 and $42,348 relating to Reciprocal Exchanges)		266,720			309,499
Reinsurance recoverable on paid losses (includes $2,858 and $1,989 relating to Reciprocal Exchanges)		51,281			68,963
Reinsurance recoverable on unpaid losses (includes $14,259 and $15,392 relating to Reciprocal Exchanges)		455,472			570,860
Prepaid reinsurance premiums (includes $22,495 and $22,226 relating to Reciprocal Exchanges)		462,688			186,476
Deferred acquisition costs, net (includes $10,841 and $9,611 relating to Reciprocal Exchanges)		10,720			95,096
Intangible assets (includes $6,104 and $6,337 relating to Reciprocal Exchanges)		79,431			79,936
Funds held by reinsured companies		77,289			98,816
Other assets (includes $1,307 and $1,395 relating to Reciprocal Exchanges)		265,860			383,131
Total assets	$	3,451,555		$	3,955,545
Liabilities
Loss and loss adjustment expenses (includes $100,257 and $107,315 relating to Reciprocal Exchanges)	$	1,987,558		$	2,081,285
Unearned premium (includes $107,484 and $106,067 relating to Reciprocal Exchanges)		641,256			763,112
Reinsurance balances payable (includes $5,556 and $4,872 relating to Reciprocal Exchanges)		157,654			89,820
Funds held under reinsurance agreements (includes $22 and $22 relating to Reciprocal Exchanges)		82,021			222,159
Other liabilities (includes $19,401 and $17,234 relating to Reciprocal Exchanges)		189,390			286,171
Deferred income taxes (includes $19,181 and $19,181 relating to Reciprocal Exchanges)		29,858			29,508
Debt		384,373			382,770
Total liabilities		3,472,110			3,854,825
Contingencies (Note 16)		-			-
Shareholders’ equity
Common stock ($0.01 par value; 150,000,000 shares authorized, 57,437,157 and 57,437,157 shares issued, and 57,297,589 and 57,381,686 shares outstanding)		574			574
Treasury stock (139,568 and 55,471 shares)		(88	)		(39	)
Paid-in-capital		815,096			815,119
Accumulated other comprehensive loss		(30,740	)		(19,507	)
Retained earnings (accumulated deficit)		(795,816	)		(700,596	)
Tower Group International, Ltd. shareholders’ equity (deficit)		(10,974	)		95,551
Noncontrolling interests		(9,581	)		5,169
Total shareholders’ equity (deficit)		(20,555	)		100,720
Total liabilities and shareholders’ equity (deficit)	$	3,451,555		$	3,955,545

See accompanying notes to the unaudited consolidated financial statements.

1

Tower Group International, Ltd.

Consolidated Statements of Operations

(Unaudited)

	Three Months Ended June 30,						Six Months Ended June 30,
(in thousands, except per share amounts)	2014			2013			2014			2013
Revenues
Net premiums earned	$	94,667		$	418,364		$	206,211		$	840,250
Ceding commission revenue		17,720			2,884			28,522			8,323
Insurance services revenue		48			532			613			660
Policy billing fees		2,759			3,321			5,435			6,471
Net investment income		10,210			28,402			25,568			58,719
Net realized investment gains (losses):
Other-than-temporary impairments		(1,069	)		(4,456	)		(2,327	)		(5,145	)
Portion of loss recognized in other comprehensive income		20			-			371			-
Other net realized investment gains		14,487			2,422			37,657			9,962
Total net realized investment gains (losses)		13,438			(2,034	)		35,701			4,817
Total revenues		138,842			451,469			302,050			919,240
Expenses
Loss and loss adjustment expenses		94,905			559,892			197,466			835,624
Commission expense		36,422			98,928			61,471			181,449
Other operating expenses		51,022			86,609			129,899			169,345
Acquisition-related transaction costs		2,397			665			3,043			19,721
Interest expense		7,322			7,635			14,332			15,443
Total expenses		192,068			753,729			406,211			1,221,582
Other income (expense)
Equity income in unconsolidated affiliate		-			7,838			-			7,966
Goodwill and fixed asset impairment		-			(214,049	)		-			(214,049	)
Income (loss) before income taxes		(53,226	)		(508,471	)		(104,161	)		(508,425	)
Income tax expense (benefit)		766			(1,930	)		1,729			(3,520	)
Net income (loss)	$	(53,992	)	$	(506,541	)	$	(105,890	)	$	(504,905	)
Less: Net income (loss) attributable to Noncontrolling interests		(5,250	)		801			(10,670	)		(10,480	)
Net income (loss) attributable to Tower Group International, Ltd.	$	(48,742	)	$	(507,342	)	$	(95,220	)	$	(494,425	)
Earnings (loss) per share attributable to Tower Group International, Ltd. shareholders:
Basic	$	(0.85	)	$	(8.88	)	$	(1.67	)	$	(9.61	)
Diluted	$	(0.85	)	$	(8.88	)	$	(1.67	)	$	(9.61	)
Weighted average common shares outstanding:
Basic		57,171			57,135			57,161			51,487
Diluted		57,171			57,135			57,161			51,487
Dividends declared and paid per common share	$	-		$	0.17		$	-		$	0.34

See accompanying notes to the unaudited consolidated financial statements.

2

Tower Group International, Ltd.

Consolidated Statements of Comprehensive Income

(Unaudited)

	Three Months Ended June 30,						Six Months Ended June 30,
($ in thousands)	2014			2013			2014			2013
Net income (loss)	$	(53,992	)	$	(506,541	)	$	(105,890	)	$	(504,905	)
Other comprehensive income (loss) before tax
Gross unrealized investment holding gains (losses) arising during periods		17,935			(80,963	)		27,788			(81,334	)
Less: Reclassification adjustment for investment (gains) losses included in net income		(14,733	)		1,938			(35,703	)		(4,529	)
Portion of other-than-temporary impairment losses recognized in other comprehensive income		(20	)		-			(371	)		-
Cumulative translation adjustment		-			(53	)		-			(3,664	)
Deferred gain (loss) on cash flow hedge		417			2,220			845			3,818
Other comprehensive income (loss) before tax		3,599			(76,858	)		(7,441	)		(85,709	)
Income tax benefit (expense) related to items of other comprehensive income (loss)		-			(2,721	)		-			-
Other comprehensive income (loss), net of income tax	$	3,599		$	(79,579	)		(7,441	)		(85,709	)
Comprehensive income (loss)	$	(50,393	)	$	(586,120	)	$	(113,331	)	$	(590,614	)
Less: Comprehensive income (loss) attributable to Noncontrolling interests		(3,109	)		(9,526	)		(6,878	)		(22,492	)
Comprehensive income (loss) attributable to Tower Group International, Ltd.	$	(47,284	)	$	(576,594	)	$	(106,453	)	$	(568,122	)

See accompanying notes to the unaudited consolidated financial statements.

3

Tower Group International, Ltd.

Consolidated Statements of Changes in Shareholders’ Equity

(Unaudited)

	Common Stock						Treasury			Paid-in			Accumulated Other Comprehensive			Retained Earnings (Accumulated			Noncontrolling			Total Shareholders’
(in thousands)	Shares			Amount			Stock			Capital			Income (loss)			Deficit)			Interests			Equity (Deficit)
Balance at December 31, 2012		53,048		$	530		$	(181,435	)	$	780,036		$	82,756		$	268,171		$	34,160		$	984,218
Dividends declared		-			-			-			-			-			(16,676	)		-			(16,676	)
Stock based compensation		245			3			(5,870	)		11,952			-			-			-			6,085
Merger Transaction with Canopius Bermuda		14,026			140			-			207,207			-			-			-			207,347
Extinguishment of treasury stock in connection with Canopius Merger Transaction		(9,882	)		(99	)		187,288			(187,189	)		-			-			-			-
Termination of convertible senior notes hedge and warrants		-			-			-			541			-			-			-			541
Net income (loss)		-			-			-			-			-			(494,425	)		(10,480	)		(504,905	)
Other comprehensive income (loss)		-			-			-			-			(73,696	)		-			(12,013	)		(85,709	)
Balance at June 30, 2013		57,437		$	574		$	(17	)	$	812,547		$	9,060		$	(242,930	)	$	11,667		$	590,901
Balance at December 31, 2013		57,437		$	574		$	(39	)	$	815,119		$	(19,507	)	$	(700,596	)	$	5,169		$	100,720
Dividends declared		-			-			-			-			-			-			-			-
Stock based compensation		-			-			(49	)		(23	)		-			-			-			(72	)
Net income (loss)		-			-			-			-			-			(95,220	)		(10,670	)		(105,890	)
Other comprehensive income (loss)		-			-			-			-			(11,233	)		-			3,792			(7,441	)
Ownership change in noncontrolling interest in consolidated partnerships		-			-			-			-			-			-			(7,872	)		(7,872	)
Balance at June 30, 2014		57,437		$	574		$	(88	)	$	815,096		$	(30,740	)	$	(795,816	)	$	(9,581	)	$	(20,555	)

See accompanying notes to the unaudited consolidated financial statements.

4

Tower Group International, Ltd.

Consolidated Statements of Cash Flows

(Unaudited)

	Six Months Ended June 30,
($ in thousands)	2014			2013
Cash flows provided by (used in) operating activities:
Net income (loss)	$	(105,890	)	$	(504,905	)
Adjustments to reconcile net income to net cash provided by (used in) operations:
Gain on investment in acquired unconsolidated affiliate		-			(7,966	)
Net realized investment (gains) losses		(35,701	)		(4,817	)
Depreciation and amortization		2,576			22,080
Goodwill and fixed asset impairment		-			214,049
Amortization of bond premium or discount		3,235			6,124
Amortization of debt issuance costs		(730	)		(956	)
Amortization of restricted stock		205			12,622
Deferred income taxes		350			44,743
Excess tax benefits from share-based payment arrangements		-			(1,108	)
Changes in operating assets and liabilities:
Investment income receivable		7,808			(850	)
Premiums receivable		42,779			19,612
Reinsurance recoverable		133,070			228,391
Prepaid reinsurance premiums		(276,212	)		90,195
Deferred acquisition costs, net		84,376			(5,871	)
Funds held by reinsured companies		21,527			(53,822	)
Other assets		45,228			36,061
Loss and loss adjustment expenses		(93,727	)		26,059
Unearned premium		(121,856	)		(92,610	)
Reinsurance balances payable		67,834			5,873
Funds held under reinsurance agreements		(140,138	)		(2,020	)
Other liabilities		(84,972	)		(52,376	)
Net cash flows provided by (used in) operations		(450,238	)		(21,492	)
Cash flows provided by (used in) investing activities:
Cash acquired in Canopius Merger Transaction		-			134,741
Purchase of fixed assets		-			(15,661	)
Purchase of fixed-maturity securities		(652,324	)		(814,924	)
Purchase of equity securities		(57,795	)		(796,800	)
Change in short-term investments		3,947			18,309
Net sales (purchases) of other invested assets		37,266			(19,252	)
Sale of fixed-maturity securities		869,764			664,401
Maturity of fixed-maturity securities		34,589			79,230
Sale of equity securities		146,692			802,297
Change in restricted cash		11,821			5,228
Net cash flows provided by (used in) investing activities		393,960			57,569
Cash flows provided by (used in) financing activities:
Decrease in deposit assets		35,151			-
Noncontrolling interests - change in ownership interest		(7,872	)		-
Proceeds from convertible senior notes hedge termination		-			2,380
Payment for warrants termination		-			(1,000	)
Issuance of common stock under stock-based compensation programs		-			2
Excess tax benefits from share-based payment arrangements		-			1,106
Treasury stock acquired-net employee share-based compensation		(49	)		(5,870	)
Dividends paid		-			(16,676	)
Net cash flows provided by (used in) financing activities		27,230			(20,058	)
Increase (decrease) in cash and cash equivalents		(29,048	)		16,019
Cash and cash equivalents, beginning of period		293,898			83,800
Cash and cash equivalents, end of period	$	264,850		$	99,819
Supplemental disclosures of cash flow information:
Cash paid for income taxes	$	-		$	-
Cash paid for interest		8,209			9165

See accompanying notes to the unaudited consolidated financial statements.

5

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Note 1—Nature of Business

Tower Group International, Ltd. (“TGIL”, the “Company” or “Tower”) offers a range of commercial, assumed reinsurance and personal property and casualty insurance products and services through its subsidiaries to businesses and to individuals. The Company’s common stock is publicly traded on the NASDAQ Global Select Market under the symbol “TWGP”.

Significant Business Developments and Risks and Uncertainties

Shareholder Vote on Proposed Merger with ACP Re

The Company held its special general meeting of shareholders on August 6, 2014. At that special general meeting, the Company’s shareholders voted to approve and adopt the Agreement and Plan of Merger, dated as of January 3, 2014, as amended pursuant to Amendment No. 1 to the Agreement and Plan of Merger, by and among the Company, ACP Re, Ltd. and London Acquisition Company Limited, and the agreement between the Company, ACP Re, Ltd. and London Acquisition Company Limited required by Section 105 of the Bermuda Companies Act of 1981, as amended, and to approve the merger.

The closing of the merger is contingent, among other things, on the satisfaction of the closing conditions discussed below in “Proposed Merger with ACP Re.” Notwithstanding any other statement in this Form 10-Q or any other document, many of the conditions for closing the ACP Re Merger Agreement (as defined below) remain outstanding and there can be no assurance that they will be satisfied or that the transaction will be consummated or when it may close.

Proposed Merger with ACP Re

On January 3, 2014, Tower entered into an Agreement and Plan of Merger (the “Original ACP Re Merger Agreement”) with ACP Re Ltd. (“ACP Re”), and a wholly-owned subsidiary of ACP Re (“Merger Sub”). Subject to the satisfaction or waiver of the conditions therein, it is expected Merger Sub would merge with and into Tower (the “Merger”), with Tower as the surviving corporation in the Merger and a wholly owned subsidiary of ACP Re. ACP Re is a Bermuda based reinsurance company. The controlling shareholder of ACP Re is a trust established by the founder of AmTrust Financial Services, Inc. (“AmTrust”), National General Holdings Corporation (“NGHC”) and Maiden Holdings, Ltd.

On May 8, 2014, Tower entered into Amendment No. 1 to the Agreement and Plan of Merger (the “ACP Re Amendment”, and, together with the Original ACP Re Merger Agreement, the “ACP Re Merger Agreement”) with ACP Re and Merger Sub. The ACP Re Amendment, among other things, (1) reduces the per share consideration to be received by holders of Tower’s common shares in the Merger from $3.00 per share to $2.50 per share, (2) reduces the termination fee that Tower would, under certain circumstances, be required to pay to ACP Re in the event of a termination of the merger agreement, (3) extends to November 15, 2014 both the date by which Tower must hold its shareholders meeting to vote on the Merger and the deadline for completing the merger before either party can terminate the ACP Re Merger Agreement, (4) excludes from the material adverse effect closing condition any continued adverse results of Tower’s operations or deterioration of its financial condition resulting from (a) losses and loss adjustment expenses incurred under new, renewal or in-force insurance and reinsurance related policies, insurance and reinsurance related contracts, and insurance and reinsurance related binders, (b) operating expenses, including acquisition expenses, associated with the maintenance by Tower of its agency relationships, employees and facilities to operate its business in the ordinary course or (c) the insufficiency of Tower’s loss reserves (including IBNR reserves), (5) also excludes from the material adverse effect closing condition any effect resulting from facts or circumstances disclosed in any of Tower’s previous SEC filings, (6) eliminates the condition in the Original ACP Re Merger Agreement that holders of shares representing more than 15% of Tower’s share capital shall not have exercised dissenter’s rights, (7) provides that the closing condition in the Original ACP Re Merger Agreement requiring that each of Tower’s U.S. insurance subsidiaries shall have risk based capital that is equal to or exceeds its relevant company action level risk based capital will be deemed to have been satisfied if Tower and its subsidiaries have, on a consolidated basis, sufficient capital that could be reallocated among Tower’s insurance subsidiaries so that such condition could be satisfied and (8) provides that all of Tower’s representations and warranties in the ACP Re Merger Agreement will be qualified by disclosures made in Tower’s previous SEC filings.

Pursuant to the terms of the ACP Re Merger Agreement, at the effective time of the merger, each outstanding share of Tower’s common stock, par value $0.01 per share (the “Common Shares”), following the settlement of all outstanding equity awards, will be converted into the right to receive $2.50 in cash, with an aggregate value of approximately $143.3 million.

Each of the parties has made representations and warranties in the ACP Re Merger Agreement. Tower has agreed to certain covenants and agreements, including, among others, (i) to conduct its business in the ordinary course of business, consistent with past practice, during the period between the execution of the ACP Re Merger Agreement and the closing of the merger, (ii) not to solicit alternate transactions, subject to a customary “fiduciary out” provision which allows Tower under certain circumstances to provide information to and participate in discussions with third parties with respect to unsolicited alternative acquisition proposals that Tower’s Board of Directors has determined, in its good faith judgment, is appropriate in furtherance of the best interests of Tower, and (iii) to call and hold a special shareholders’ meeting and recommend adoption of the ACP Re Merger Agreement. (See Shareholder Vote on Proposed Merger with ACP Re)

6

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

On the same day as the execution of the Original ACP Re Merger Agreement, the controlling shareholder of ACP Re provided to Tower a guarantee for the payment of the merger consideration, effective upon the closing of the merger.

The ACP Re Merger Agreement was unanimously approved by the respective Boards of Directors of ACP Re and Tower, and is conditioned, among other things, on: (i) the approval of Tower’s shareholders, which approval was obtained on August 6, 2014 at a special general meeting of shareholders, (ii) receipt of governmental approvals, including antitrust, insurance regulatory including approvals from the insurance departments of the states of California, Florida, Illinois, Maine, Massachusetts, New Jersey, New Hampshire and New York and Bermuda Monetary Authority approvals, (iii) the absence of any law, order or injunction prohibiting the merger, (iv) the accuracy of each party’s representations and warranties (subject to customary materiality qualifiers), and (v) each party’s compliance with its covenants and agreements contained in the ACP Re Merger Agreement. On January 30, 2014, the Company was granted early termination of the Hart-Scott-Rodino waiting period which requires persons contemplating certain mergers or acquisitions to give the Federal Trade Commission and the Assistant Attorney General advanced notice and to wait designated periods before consummation of such plans. The Company expects that, in accordance with applicable regulatory requirements, the insurance departments in Massachusetts, New Hampshire and New Jersey will conduct hearings as part of approval process in such states. The Maine Bureau of Insurance conducted a hearing on ACP Re’s Form A application on August 11, 2014. In addition, ACP Re’s obligation to consummate the merger is subject to the non-occurrence of any material adverse effect on Tower, as well as the absence of any insolvency-related event affecting Tower.

There is no financing condition to consummation of the transactions contemplated by the ACP Re Merger Agreement.

The ACP Re Merger Agreement provides certain termination rights for each of Tower and ACP Re, and further provides that upon termination of the ACP Re Merger Agreement, under certain circumstances, Tower will be obligated to reimburse ACP Re for certain of its transaction expenses, subject to a cap of $2 million, and to pay ACP Re a termination fee of $6.8 million, net of any transaction expenses it has reimbursed.

In addition, on June 26, 2014 the Company delivered a letter to ACP Re which in pertinent part reads as follows:

“Various of your representatives have orally suggested to us that an unwaived Insolvency Event has or may have occurred under Section 6.02(f)(i) of the merger agreement in the form of Amended Order of Administrative Supervision of the Massachusetts Insurance Department dated May 20, 2014. We do not believe that any such Insolvency Event has occurred. Tower intends to satisfy all conditions to closing the Merger applicable to Tower.

Furthermore, we note that on June 26, 2014, the Company confirmed to the Massachusetts Insurance Department that it would immediately contribute $3 million to its wholly owned subsidiary, Tower National Insurance Company, a Massachusetts domiciled insurance company (“TNIC”). In considerations for such payment, and subject to the approval of the Massachusetts Insurance Department, TNIC will issue a surplus note to the Company in the aggregate principal amount of $3 million. The effect of these transactions will be to increase the policyholders’ surplus of TNIC to a level in excess of the minimum required capital and surplus.

Tower by this letter requests that ACP Re, Ltd. unequivocally assure Tower in writing of its commitment to close the Merger on the terms and conditions set forth in the merger agreement and affirm that an Insolvency Event has not occurred. If such assurances are not received by Tower by 5:00 p.m. Monday, June 30, 2014, Tower will conclude that ACP Re will not voluntarily close the merger agreement at the price set forth therein. Tower reserves all of its rights, positions, and remedies under the merger agreement or otherwise, including to make disclosures that may be required under applicable law.”

On June 27, 2014, ACP Re’s counsel delivered a letter to the Company which in pertinent part reads as follows:

“I am writing on behalf of our client, ACP Re, Ltd., in response to your letter dated June 26, 2014. ACP Re will comply in all respects with its obligations under the parties’ Merger Agreement. ACP Re reserves all its rights under the Merger Agreement, with respect to the matters reference in your letter or otherwise.”

On June 27, 2014, the Company contributed $3 million to TNIC in consideration, and subject to the approval of the Massachusetts Insurance Department, for TNIC’s issuance to the Company of a surplus note in the aggregate principal amount of $3 million.

Cut-Through Reinsurance Agreements

On the same day as the execution of the Original ACP Re Merger Agreement, several subsidiaries of Tower entered into two Cut-Through Reinsurance Agreements, pursuant to which a subsidiary of AmTrust and a subsidiary of NGHC provide 100% quota share reinsurance and a cut-through endorsement to cover all eligible new and renewal commercial and personal lines business, respectively, and at their option, losses incurred on or after January 1, 2014 on not less than 60% of the in-force business. Tower received confirmation on January 16, 2014 from AmTrust and NGHC that they would exercise such option to reinsure on a cut-through basis losses incurred on or after January 1, 2014 under in-force policies with respect to (1) in the case of AmTrust, approximately 65.7% of Tower’s unearned premium reserves as of December 31, 2013 with respect to its ongoing commercial lines business, and (2) in the case of NGHC, 100% of Tower’s unearned premium reserves as of December 31, 2013 with respect to its personal lines segment business. Tower receives a 20% ceding commission from AmTrust or NGHC on all Tower unearned premiums that are subject to the Cut-Through Reinsurance Agreements and a 22% ceding commission on 2014 ceded premiums.

As a result of the Cut-Through Reinsurance Agreements, unearned premiums net of reinsurance aggregating $327.7 million at December 31, 2013 (of which $194.0 million and $133.7 million were from the commercial insurance and personal insurance segments, respectively) were transferred to AmTrust and NGHC. The transfer of the unearned premium reserves at December 31, 2013 are recorded as negative written premiums in the first six months of 2014. In the first six months of 2014, net written premiums of $330.8 million were transferred to AmTrust and NGHC for renewal business and new policies issued with policy effective dates in 2014 (of which $227.0 million and $103.8 million were from the commercial insurance and personal insurance segments, respectively).

The accompanying financial statements for 2014 reflect the impact of the Cut-Through Reinsurance Agreements, and therefore the trends and relationships of net premiums written, premiums earned, acquisition expenses and losses incurred will differ materially from the same periods in 2013.

Managing General Agent Agreements

On April 1, 2014, a wholly-owned subsidiary of the Company, Tower Risk Management (“TRM”), entered into managing general agent agreements (the “MGA Agreements”), dated as of January 3, 2014, with AmTrust and NGHC pursuant to which TRM serves as underwriting manager on behalf of AmTrust and NGHC with respect to certain commercial lines business and personal lines business.

Under the MGA Agreements, TRM solicits, receives, underwrites, accepts, non-renews and cancels insurance risks for certain commercial lines business and personal lines business of AmTrust and NGHC in return for commissions.

The MGA Agreements will terminate on January 2, 2015 unless terminated earlier by TRM, AmTrust or NGHC by mutual agreement or by either of the parties under certain circumstances. With respect to AmTrust and NGHC, they may terminate their respective MGA Agreements if, among other things, the merger as contemplated by the merger agreement is consummated, if TRM or any of its affiliates, including the Company, becomes insolvent or if all or a controlling portion of TRM’s capital stock or all or any portion of its business is sold, transferred or merged into a third party and AmTrust or NGHC believes that such sale, transfer or merger has, or could have, a material adverse impact on AmTrust’s or NGHC’s interests.

7

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Other Reinsurance Agreements

In the third quarter of 2013, Tower entered into agreements with three reinsurers, Arch Reinsurance Ltd. (“Arch”), Hannover Re (Ireland) Plc. (“Hannover”) and Southport Re (Cayman), Ltd. (“Southport Re”). These agreements provided for surplus enhancement and improved certain financial leverage ratios, while increasing the Company’s financial flexibility. The agreements with Arch and Hannover each consisted of one reinsurance agreement while the arrangement with Southport Re consisted of several agreements. The agreements with Arch and Hannover covered business written from July 1, 2013 to December 31, 2013, as well as unearned premiums at June 30, 2013.

As a result of the announced merger agreement with ACP Re, it was decided that the Southport treaties should be commuted. As a result of a negotiation between the Company and Southport, the treaties were commuted effective as of February 19, 2014, with the result of the commutation being that all premiums paid to Southport by the Company were returned to the Company, and all liabilities assumed by Southport were cancelled, and such liabilities became the obligation of the Company.

A.M. Best, Fitch and Demotech Downgrade the Company’s Financial Strength and Issuer Credit Ratings

On May 9, 2014, A.M. Best lowered the financial strength ratings of each of Tower’s insurance subsidiaries from “B” (Fair) to “C++” (Marginal), as well as the issuer credit ratings of each of Tower’s insurance subsidiaries from “bb” to “b”. In addition, on May 9, 2014, A.M. Best downgraded the issuer credit rating of Tower Group, Inc. (“TGI”) as well as the debt rating on its $150 million 5.00% senior convertible notes due 2014 (the “Notes”) to “cc” from “b-”. On the same date, A.M. Best also downgraded the financial strength rating of CastlePoint Reinsurance Company, Ltd. (Bermuda) to “C++” (Marginal) from “B-” (Fair) and its issuer credit rating to “b” from “bb” and downgraded the issuer credit rating of Tower Group International, Ltd. to “cc” from “b-”. TGI and each of its insurance subsidiaries currently are and will continue to be under review with developing implications. In downgrading Tower’s ratings, A.M. Best stated that its actions took “into consideration Tower’s most recent Securities and Exchange Commission 10K filing, which included an additional $63 million of prior year reserve development, further reductions in GAAP shareholders’ equity as well as ongoing declines in statutory policyholders’ surplus and risk-adjusted capitalization, as measured by Best’s Capital Adequacy Ratio (BCAR). These ratings factors are in addition to the diminished shareholder’s equity and reserves actions already taken by Tower during the year. These rating actions also consider the material adverse impact these changes had on all of Tower’s entities in terms of their ability to operate as going concerns. This action also contemplates the amended merger agreement announced by Tower.”

On May 13, 2014, Fitch withdrew all ratings on Tower and its operating subsidiaries due to a lack of robust data to maintain the ratings. Previously, on January 6, 2014, Fitch revised Tower’s rating watch status to “evolving” from “negative” following the ACP Re merger announcement, and stated that “[t]he Evolving Watch reflects that the ratings could go up if the merger closes; however, ratings could be lowered if the merger does not occur and [the Company] is unsuccessful in addressing upcoming debt maturity or if additional reserve deficiencies develop.” On January 2, 2014, Fitch downgraded Tower’s issuer default rating from “B” to “CC” and the insurer strength ratings of its insurance subsidiaries from “BB” to “B”. On October 7, 2013, Fitch downgraded Tower’s issuer default rating to “B” (the sixth highest of 11 such ratings) from “BBB” and the insurer strength ratings of its insurance subsidiaries to “B” (the fifth highest of Fitch Ratings’ nine such ratings) from “A-”. In downgrading such ratings, Fitch stated that it “is concerned that Tower’s competitive position has been materially damaged, negatively impacting the Company’s financial flexibility and ability to write new business” and that “the magnitude of the second quarter charges was large enough to cause several key ratios to fall well outside of previously established ratings downgrade triggers, which resulted in the multi-notch downgrade.”

On December 24, 2013, Demotech, Inc. (“Demotech”) announced the withdrawal of its Financial Stability Ratings^® (FSRs) assigned to the following insurance subsidiaries: Kodiak Insurance Company, Massachusetts Homeland Insurance Company, Tower Insurance Company of New York and York Insurance Company of Maine. Concurrently, Demotech advised that the FSRs assigned to Adirondack Insurance Exchange, Mountain Valley Indemnity Company, New Jersey Skylands Insurance Association and New Jersey Skylands Insurance Company remain under review.

Previously, on October 7, 2013, Demotech had lowered its rating on Tower Insurance Company of New York (“TICNY”) and three other U.S. based insurance subsidiaries (Kodiak Insurance Company, Massachusetts Homeland Insurance Company and York Insurance Company of Maine) from A’ (A prime) to A (A exceptional). In addition, Demotech removed its previous A’ (A prime) rating on six other U.S. based insurance subsidiaries (CastlePoint Florida Insurance Company, CastlePoint Insurance Company, CastlePoint National Insurance Company, Hermitage Insurance Company, North East Insurance Company and Preserver Insurance Company). Demotech also affirmed its A ratings on Adirondack Insurance Exchange, New Jersey Skylands Insurance Association, New Jersey Skylands Insurance Company and Mountain Valley Indemnity Company.

8

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Management believes these rating actions, in combination with other items that have impacted the Company in 2013, may result in a significant decrease in the amount of premiums the insurance subsidiaries are able to write. The Company had gross written premiums of $609.5 million and $1,040.6 million in the six months ended June 30, 2014 and 2013, respectively. The majority of the 2014 written premiums were transferred to AmTrust and NGHC pursuant to the Cut-Through Reinsurance Agreements.

Statutory Capital

The Company is required to maintain minimum capital and surplus for each of its insurance subsidiaries.

U.S. based insurance companies are required to maintain capital and surplus above Company Action Level, which is a calculated capital and surplus number using a risk-based formula adopted by the state insurance regulators. The basis for this formula is the National Association of Insurance Commissioners’ (“NAIC’s”) risk-based capital (“RBC”) system and is designed to measure the adequacy of a U.S. regulated insurer’s statutory capital and surplus compared to risks inherent in its business. If an insurance entity falls into Company Action Level, its management is required to submit a comprehensive financial plan that identifies the conditions that contributed to the financial condition. This plan must contain proposals to correct the financial problems and provide projections of the financial condition, both with and without the proposed corrections. The plan must also outline the key assumptions underlying the projections and identify the quality of, and problems associated with, the underlying business. Depending on the level of actual capital and surplus in comparison to the Company Action Level, the state insurance regulators could increase their regulatory oversight, restrict the placement of new business, or place the company under regulatory control. Bermuda based insurance entities’ minimum capital and surplus requirements are calculated from a solvency formula prescribed by the Bermuda Monetary Authority (the “BMA”).

Tower has in place several intercompany reinsurance transactions between its U.S. based insurance subsidiaries and its Bermuda based insurance subsidiaries. The U.S. based insurance subsidiaries have historically reinsured on a quota share basis obligations to CastlePoint Reinsurance Company (“CastlePoint Re”), one of its Bermuda based insurance subsidiaries. The obligations that CastlePoint Re assumes from the U.S. based insurance subsidiaries are then retroceded to Tower Reinsurance, Ltd. (“TRL”), Tower’s other Bermuda based insurance subsidiary. On February 5, 2014, the BMA approved the transfer of $167.3 million in unencumbered liquid assets from TRL to CastlePoint Re, allowing CastlePoint Re to increase the funding in the reinsurance trust for the benefit of TICNY. As of June 30, 2014, CastlePoint Re is required to collateralize $547.6 million of its assumed reserves in a reinsurance trust for the benefit of TICNY, the lead pool company of the U.S. insurance companies. As of June 30, 2014, CastlePoint Re held $532.0 million in its reinsurance trust.

Based on RBC calculations as of December 31, 2013, six of Tower’s ten U.S. based insurance subsidiaries had capital and surplus below Company Action Level and did not meet the minimum capital and surplus requirements of their respective state regulators. As a result, management has discussed the ACP Re Merger Agreement and the Cut-Through Reinsurance Agreements and provided its 2014 RBC forecasts to the regulators to document the Company’s business plan to bring two of these U.S based insurance subsidiaries’ capital and surplus levels above Company Action Level.

As a result of the recognition of the ceding commission relating to the Cut-Through Reinsurance Agreements executed with AmTrust and NGHC in January 2014, the U.S. based insurance subsidiaries’ capital and surplus increased significantly from December 31, 2013 to January 1, 2014, as the U.S. based subsidiaries transferred a significant portion of their commercial lines unearned premium to a subsidiary of AmTrust and all of their personal lines unearned premiums to a subsidiary of NGHC. Accordingly, as of January 1, 2014, the effect of the Cut-Through Reinsurance Agreements increased the surplus of two of the U.S. based insurance subsidiaries such that their capital and surplus levels exceeded Company Action Level.

In 2013, the New York State Department of Financial Services (“NYDFS”) issued orders for seven of Tower’s insurance subsidiaries, subjecting them to heightened regulatory oversight, which includes providing the NYDFS with increased information with respect to the insurance subsidiaries’ business, operations and financial condition. In addition, the NYDFS has placed limitations on payments and transactions outside the ordinary course of business and material changes in the insurance subsidiaries’ management and related matters. Tower’s management and Board of Directors have held discussions with the NYDFS, and Tower has been complying with the orders and oversight.

On April 21, 2014, the NYDFS issued additional orders for two of Tower’s insurance subsidiaries instructing them to provide plans to address weaknesses in such insurance subsidiaries’ risk based capital levels as shown in their statutory annual financial statements, and imposing further enhanced reporting and prior approval requirements and limitations on writings of new business. On the same date, the NYDFS issued a letter pertaining to one of Tower’s insurance subsidiaries requiring the submission of a plan to address weaknesses in risk based capital levels. Tower discussed the risk based capital plan with the NYDFS in June 2014.

9

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

On May 7, 2014, the Illinois Department of Insurance (the “IDI”) sent a letter to the Company’s Illinois insurance subsidiary instructing such subsidiary to provide a plan to strengthen its risk based capital level as shown in its statutory annual financial statement. The subsidiary submitted such plan to the IDI on June 20, 2014 in accordance with the letter, and on July 18, 2014 the subsidiary received a letter indicating that the plan is satisfactory to the IDI

On May 20, 2014, the Massachusetts Department of Insurance (the “MDOI”) entered an amended order of administrative supervision with respect to two of Tower’s insurance subsidiaries (collectively, the “Massachusetts Insurers”). Under the terms of the order, the Massachusetts Insurers are subject to enhanced reporting requirements to the MDOI and are restricted from selling or encumbering assets or incurring debt, making material changes in management, entering into employment agreements, writing any new business other than policies that are 100% reinsured to affiliates of AmTrust and NGHC pursuant to the Cut-Through Reinsurance Agreements that are currently in effect with such entities, declaring or paying dividends, making new investments or changing investment practices, entering into new reinsurance agreements and increasing the compensation of officers or directors, in each case without the consent of the MDOI. Given that substantially all of the new business production of the Massachusetts Insurers is reinsured pursuant to the Cut-Through Reinsurance Agreements referenced above, the Company believes that the order will not have a material impact on the ability of the Massachusetts Insurers to continue to write new business. Also, under the terms of the order, the Company was required to prepare and submit to the MDOI a preliminary operations plan no later than June 1, 2014, including detailed information describing the steps the Company is taking to enable it to repay its convertible senior debt holders and continue operations as a going concern in the event its pending merger with ACP Re does not occur. The Company submitted such plan on May 29, 2014. On June 27, 2014 the Company contributed $3 million to one of the Massachusetts domiciled subsidiaries in consideration for such subsidiary’s issuance to the Company of a surplus note in the aggregate principal amount of $3 million.

The Maine Bureau of Insurance entered a Corrective Order imposing certain conditions on Maine domestic insurers York Insurance Company of Maine (“YICM”) and North East Insurance Company (“NEIC”). The Corrective Order imposes increased reporting obligations on YICM and NEIC with respect to business operations and financial condition and imposes restrictions on payments or other transfers of assets from YICM and NEIC outside the ordinary course of business.

On April 11, 2014, the New Jersey Department of Banking and Insurance imposed an enhanced reporting requirement on the intercompany transactions involving Tower’s two New Jersey domiciled insurance subsidiaries and Tower’s New Jersey managed insurer. Such companies are now required to submit for prior approval any transactions with affiliates, even transactions that would otherwise not be reportable under the applicable holding company act.

On June 4, 2014, Tower National Insurance Company (“TNIC”), a Massachusetts domiciled insurance subsidiary of the Company, received notice from the Ohio Department of Insurance (“ODOI”) in respect of the decrease in TNIC’s statutory capital below Ohio’s minimum capital requirements. On June 11, 2014, TNIC agreed to enter into a consent agreement with the ODOI, pursuant to which TNIC agreed to cease writing any new or renewal business in Ohio as a result of the shortfall in TNIC’s statutory capital. Pending confirmation that TNIC’s statutory capital deficiency has been resolved to the satisfaction of the ODOI, the Company expects TNIC will be authorized to resume writing new and renewal insurance business in Ohio. For the year ended December 31, 2013, TNIC wrote $843,000 of premium in Ohio. TICNY has a license to write business in Ohio, and there have been no restrictions placed against this license.

As of December 31, 2013, TRL and CastlePoint Re had capital and surplus that did not meet the minimum solvency requirements of the BMA. Management has discussed the ACP Re Merger Agreement and provided 2014 solvency forecasts to the BMA.

The BMA has issued directives for TRL and CastlePoint Re, subjecting them to heightened regulatory oversight and requiring BMA approval before certain transactions can be executed. Tower has been complying with the directives issued by the BMA.

Liquidity

TGI is the obligor under the $150 million Convertible Senior Notes due September 15, 2014. The indebtedness of TGI is guaranteed by TGIL.

The Company’s plan to repay the Notes is related to the closing of the ACP Re Merger Agreement. If the Merger with ACP Re does not close prior to September 15, 2014, the maturity date of the Notes, the Company will not have adequate liquidity to pay principal and accrued interest that would be due to holders of the Notes on such date. The Company is evaluating its options with respect to the Notes, including, without limitation, a possible restructuring of the terms of the Notes, the issuance of securities in exchange for the Notes or a possible tender offer for the Notes which tender would be intended to close on or promptly after the closing of the ACP Re merger. No assurances can be given that the Company will attempt to implement any of these options and, even if the Company attempts to implement any of these options, that any such implementation will be successful.

As of June 30, 2014, there were $235.1 million of subordinated debentures outstanding. The subordinated debentures do not have financial covenants that would cause an acceleration of their stated maturities. The earliest stated maturity date is on a $10 million debenture, which matures in May 2033. If an event of default occurs and is continuing, the entire principal and the interest accrued on the affected subordinated indenture may be declared to be due and payable immediately. Pursuant to a notice sent to the applicable holders of the subordinated debentures on June 18, 2014, four indirect wholly-owned non-insurance subsidiaries (the “Issuers”) of Tower Group International, Ltd. exercised their respective contractual rights pursuant to an

10

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

indenture, dated as of December 1, 2006, by and between CastlePoint Management Corp. and Wilmington Trust Company, an indenture, dated as of December 14, 2006, by and between CastlePoint Management Corp. and Wilmington Trust Company, an indenture, dated as of September 27, 2007, by and between CastlePoint Bermuda Holdings, Ltd. and Wilmington Trust Company, an indenture, dated as of January 25, 2007, by and between Tower Group, Inc. and Wilmington Trust Company, an indenture, dated as of May 15, 2003, by and between Tower Group, Inc. and U.S. Bank, an indenture, dated as of December 21, 2004, by and between Tower Group, Inc. and JPMorgan Chase Bank, National Association, an indenture, dated as of December 15, 2004, by and between Tower Group, Inc. and Wilmington Trust Company, an indenture, dated as of March 31, 2006, by and between Tower Group, Inc. and Wells Fargo Bank, National Association, and an indenture, dated as of May 26, 2004, by and between Preserver Group, Inc. and Wilmington Trust Company, to defer the payment of regularly scheduled interest payments on their outstanding junior subordinated debentures issued in connection with outstanding trust preferred securities. Under the terms of such indentures, the Issuers may defer interest payments for twenty consecutive quarterly periods without default or penalty. The interest on these debentures will continue to accrue.

The merger with ACP Re is expected to close in the third quarter of 2014, subject to the approval of regulatory authorities in eight states and the Bermuda Monetary Authority, as well as satisfaction or waiver of other conditions of closing set forth in the ACP Re Merger Agreement, and there are contractual termination rights available to each of Tower and ACP Re under various circumstances. There can be no assurance that the merger will close, or that it will close under the same terms and conditions contained in the ACP Re Merger Agreement, or as to when it may close.

Dividends

U.S. state insurance regulations restrict the ability of our insurance subsidiaries to pay dividends to Tower Group International, Ltd. as their ultimate parent (the “Holding Company”). Generally dividends may only be paid out of earned surplus, and the amount of an insurer’s surplus following payment of any dividends must be reasonable in relation to the insurer’s outstanding liabilities and adequate to meet its financial needs. As of June 30, 2014, no dividends may be paid to the Holding Company without the approval of the state regulators or BMA, as appropriate.

Going Concern

There can be no guarantee that the Company will be able to remedy current statutory capital deficiencies in certain of its insurance subsidiaries, maintain adequate levels of statutory capital in the future, or generate sufficient liquidity to repay the Notes due in 2014. Consequently, there is substantial doubt about the Company’s ability to continue as a going concern. Should the Company be unable to successfully execute the merger with ACP Re or generate sufficient funds to repay the Notes and remedy the capital deficiencies, these conditions would have a material adverse effect on its business, results of operations and financial position.

Resignation of Tower’s Chairman of the Board, President and Chief Executive Officer and Appointment of new Chairman of the Board and new President and Chief Executive Officer

On February 6, 2014, Tower and Michael H. Lee entered into a Separation and Release Agreement in connection with the resignation of Mr. Lee from his positions as Chairman of the Board of Directors, President and Chief Executive Officer, effective as of February 6, 2014. Mr. Lee’s employment with the Company was terminated effective as of February 6, 2014. In connection with his resignation, Mr. Lee received on March 31, 2014 a severance payment of approximately $3.3 million calculated pursuant to terms of his employment agreement.

Jan R. Van Gorder, who is the lead independent director of the Board and a member of the Board’s Audit Committee, Compensation Committee and Corporate Governance and Nominating Committee, was appointed on February 9, 2014 to succeed Mr. Lee as Chairman of the Board. William W. Fox, Jr., who had served as a member of the Board and of the Board’s Audit Committee and Corporate Governance and Nominating Committee until his resignation from the Board on December 31, 2013, succeeded Mr. Lee as President and Chief Executive Officer of Tower, effective as of February 14, 2014.

Other

Tower received a document request from the U.S. Securities and Exchange Commission (the “SEC”) dated January 13, 2014, as part of an informal inquiry (the “SEC Request”). The SEC Request asks for documents related to Tower’s financial statements, accounting policies, and analysis. Tower is cooperating with the SEC’s inquiry and has provided the requested information.

The Company and certain of its current and former senior officers have been named as defendants in several class action lawsuits instituted against them by certain shareholders. In addition, the Company and certain of its current and former directors, along with certain other parties, have been named as defendants in a putative class action lawsuit instituted against them by another purported shareholder. See “Note 16 – Contingencies” for additional detail on such litigation.

11

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Note 2—Accounting Policies and Basis of Presentation

Basis of Presentation

The 2013 Canopius Merger Transaction (see “Note 3 – Canopius Merger Transaction” in the Notes to the consolidated financial statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013 filed on May 2, 2014 (“the 2013 Form 10-K”)) was accounted for as a reverse acquisition, under which TGI was identified and treated as the accounting acquirer. As such, the Company’s 2013 unaudited consolidated financial statements include the accounts and operations of TGI and its insurance subsidiaries, managing general agencies and management companies as its historical financial statements, with the results of Tower Group International, Ltd., as accounting acquiree, being included from March 13, 2013, the effective date of the Canopius Merger Transaction. The unaudited consolidated financial statements also include the accounts of Adirondack Insurance Exchange, a New York reciprocal insurer, and New Jersey Skylands Insurance Association, a New Jersey reciprocal insurer (together, the “Reciprocal Exchanges”). The Company does not own the Reciprocal Exchanges but manages their business operations through its wholly-owned management companies.

The unaudited consolidated financial statements included in this report have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Securities and Exchange Commission (“SEC”) Form 10-Q and Article 10 of SEC Regulation S-X. The principles for condensed interim financial information do not require the inclusion of all the information and footnotes required by GAAP for complete financial statements. Therefore, these financial statements should be read in conjunction with the Company’s consolidated financial statements as of and for the year ended December 31, 2013 and notes thereto included in the Company’s 2013 Form 10-K. The accompanying consolidated financial statements have not been audited by an independent registered public accounting firm in accordance with standards of the Public Company Accounting Oversight Board (United States) but, in the opinion of management, such financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the Company’s financial position, results of operations and cash flows. All intercompany transactions have been eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Reclassifications

Certain reclassifications have been made to prior year’s financial information to conform to the current year presentation.

Accounting Pronouncements

Accounting guidance adopted in 2014

In March 2013, the Financial Accounting Standards Board (“FASB”) issued an Accounting Standard Codification (“ASC”) update addressing whether consolidation guidance or foreign currency guidance applies to the release of the cumulative translation adjustment into net income when a parent sells all or a part of its investment in a foreign entity or no longer holds a controlling financial interest in a subsidiary or net assets that are a business (other than a sale of in-substance real estate) within a foreign entity. The guidance also resolves the diversity in practice for the cumulative translation adjustment treatment in business combinations achieved in stages involving foreign entities.

Under this standard, the entire amount of the cumulative translation adjustment associated with the foreign entity should be released into earnings when there has been: (i) a sale of a subsidiary or group of net assets within a foreign entity and the sale represents a complete or substantially complete liquidation of the foreign entity in which the subsidiary or the net assets had resided; (ii) a loss of a controlling financial interest in an investment in a foreign entity; or (iii) a change in accounting method from applying the equity method to an investment in a foreign entity to consolidating the foreign entity. The standard is effective for fiscal years and interim periods beginning after December 15, 2013, and will be applied prospectively. We adopted the standard effective January 1, 2014 with no material effect on our consolidated financial condition, results of operations or cash flows.

12

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

In July 2013, the FASB clarified the applicable guidance for the presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. An unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward as long as it is available, at the reporting date under the tax law of the applicable jurisdiction, to settle any additional income taxes that would result from the disallowance of a tax position (with certain exceptions). The assessment of whether a deferred tax asset is available is based on the unrecognized tax benefit and deferred tax asset that exist at the reporting date and should be made presuming disallowance of the tax position at the reporting date. This ASC update is effective for annual and interim periods beginning after December 15, 2013, with early adoption permitted, and is to be applied prospectively to all unrecognized tax benefits that exist at the effective date. Retrospective application is permitted. We adopted the standard effective January 1, 2014 with no material effect on our consolidated financial condition, results of operations or cash flows.

In July 2013, the FASB issued an accounting standard that permits the Federal Funds Effective Swap Rate (or Overnight Index Swap Rate) to be used as a U.S. benchmark interest rate for hedge accounting purposes in addition to U.S. Treasury rates and LIBOR. The standard also removes the prohibition on the use of differing benchmark rates when entering into similar hedging relationships. The standard became effective on a prospective basis for qualifying new or redesignated hedging relationships entered into on or after July 17, 2013 to the extent the Federal Funds Effective Swap Rate is used as a U.S. benchmark interest rate for hedge accounting purposes. The Company will apply this guidance if and when it enters into any new hedging relationships.

Accounting guidance not yet effective

In April 2014, the FASB issued updated guidance on reporting discontinued operations. Under this updated guidance, a discontinued operation will include a disposal of a major part of an entity’s operations and financial results such as a separate major line of business or a separate major geographical area of operations. The guidance raises the threshold to be a major operation but no longer precludes discontinued operations presentation where there is significant continuing involvement or cash flows with a disposed component of an entity. The guidance expands disclosures to include cash flows where there is significant continuing involvement with a discontinued operation and the pre-tax profit or loss of disposal transactions not reported as discontinued operations. The updated guidance is effective prospectively for years beginning on or after December 15, 2014, with early application permitted. The Company will apply this new guidance in any future disposals and the impacts, if any, on the Company’s consolidated financial condition, results of operations or cash flows will be dependent on the nature of such disposals.

In May 2014, the FASB issued accounting guidance on the recognition of revenue from customers. The FASB notes that the core principle of the guidance is that an entity should recognize 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.

The guidance sets out five steps an entity should undertake to fulfill the core principle of the guidance as follows:

• Identify the contract(s) with a customer.

• Identify the performance obligations in the contract.

• Determine the transaction price.

• Allocate the transaction price to the performance obligations in the contract.

• Recognize revenue when (or as) the entity satisfies a performance obligation.

For a public entity, the amendments in this update are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early application is not permitted. While the guidance specifically excludes revenues from insurance contracts, investments and financial instruments from the scope of the new guidance, the guidance will be applicable to the Company’s other forms of revenue not specifically exempted from the guidance. The Company is currently evaluating the impact this guidance will have on its consolidated financial condition, results of operations, cash flows and disclosures and is currently unable to estimate the impact of adopting this guidance.

Note 3—Investment in Canopius Group Limited (“Canopius Group”)

See “Note 3 – Canopius Merger Transaction” in the Notes to the consolidated financial statements in the Company’s 2013 Form 10-K for further discussion on the March 13, 2013 Canopius Merger transaction.

On December 13, 2013, Tower closed a sale to an investment fund managed by Bregal Capital LLP (“Bregal”) of all of the shares of the capital stock of Canopius Group owned by Tower. The initial purchase price for the Canopius shares was $69.7 million (£42.5 million), which has been paid in full to Tower. In addition, if Bregal subsequently entered into a legally binding contract for the sale or other transfer of shares representing a majority of the voting power of Canopius Group within six months after the date of Tower’s sale of such stock to Bregal, a further cash payment would be made by Bregal to Tower. This additional cash

13

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

payment would be equivalent to the excess, if any, of (1) one-third of the difference between the amount in British pound sterling paid for the shares previously owned by Tower in such sale and £40.6 million (plus Tower’s share of expenses of such sale), minus (2) £1.95 million (the “Additional Payment”). On May 1, 2014, NKSJ Holdings closed on its acquisition, through its insurance subsidiary Sompo Japan Insurance, Inc. of 100% of the shares of Canopius Group from Bregal. The Additional Payment meets the definition of a derivative. As of December 31, 2013, the fair value of this derivative recorded in other assets was $9.3 million. In the three and six months ended June 30, 2014, Tower recorded net realized gains (losses) of $1.4 million and $(0.1) million, respectively, for changes in fair value of the derivative. In the second quarter of 2014, Tower received $5.8 million relating to the Additional Payment which brought the balance of this asset to $3.4 million at June 30, 2014. In July 2014, the final $3.4 million was received.

Note 4—Variable Interest Entities (“VIEs”)

Through its management companies, Tower is the attorney-in-fact for the Reciprocal Exchanges and has the ability to direct their activities. The Reciprocal Exchanges are policyholder-owned insurance carriers organized as unincorporated associations. Each policyholder insured by the Reciprocal Exchanges shares risk with the other policyholders.

In the event of dissolution, policyholders would share any residual unassigned surplus in the same proportion as the amount of insurance purchased but are not subject to assessment for any deficit in unassigned surplus of the Reciprocal Exchanges. Tower receives management fee income for the services provided to the Reciprocal Exchanges. The assets of the Reciprocal Exchanges can be used only to settle the obligations of the Reciprocal Exchanges and general creditors to their liabilities have no recourse to Tower as the primary beneficiary.

In addition, Tower holds the surplus notes issued by the Reciprocal Exchanges when they were originally capitalized. The obligation to repay principal and interest on the surplus notes is subordinated to the Reciprocal Exchanges’ other liabilities including obligations to policyholders and claimants for benefits under insurance policies. Principal and interest on the surplus notes are payable only with regulatory approval. The Company has no ownership interest in the Reciprocal Exchanges.

The Company determined that each of the Reciprocal Exchanges qualifies as a VIE and that the Company is the primary beneficiary as it has both the power to direct the activities of the Reciprocal Exchanges that most significantly impact their economic performance and the risk of economic loss through its ownership of the surplus notes. Accordingly, the Company consolidates these Reciprocal Exchanges and eliminates all intercompany balances and transactions with Tower.

For the three months ended June 30, 2014, the Reciprocal Exchanges recognized total revenues, total expenses and net income (loss) of $44.4 million, $49.7 million and $(5.3) million, respectively. For the three months ended June 30, 2013, the Reciprocal Exchanges recognized total revenues, total expenses and net income of $46.3 million, $46.2 million and $0.8 million, respectively.

For the six months ended June 30, 2014, the Reciprocal Exchanges recognized total revenues, total expenses and net income (loss) of $91.7 million, $102.7 million and $ (11.0) million, respectively. For the six months ended June 30, 2013, the Reciprocal Exchanges recognized total revenues, total expenses and net income (loss) of $92.9 million, $103.2 million and $(10.5) million, respectively.

14

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Note 5—Investments

The cost or amortized cost and fair value of the Company’s investments in fixed maturity and equity securities, gross unrealized gains and losses, and other-than-temporary impairment losses (“OTTI”) as of June 30, 2014 and December 31, 2013 are summarized as follows:

($ in thousands)	Cost or Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value		Unrealized OTTI Losses (1)
June 30, 2014
U.S. Treasury securities	$	457,224	$	1,236	$	(2,997	)	$	455,463	$	-
U.S. Agency securities		98,877		1,313		(28	)		100,162		-
Municipal bonds		237,595		11,312		(702	)		248,205		-
Corporate and other bonds
Finance		102,041		4,183		(146	)		106,078		-
Industrial		206,417		5,601		(219	)		211,799		-
Utilities		35,896		599		(346	)		36,149		-
Commercial mortgage-backed securities		80,792		5,703		(259	)		86,236		(20	)
Residential mortgage-backed securities
Agency backed securities		125,333		983		(274	)		126,042		-
Non-agency backed securities		224		3		-			227		-
Asset-backed securities		64,146		90		(218	)		64,018		-
Total fixed-maturity securities		1,408,545		31,023		(5,189	)		1,434,379		(20	)
Preferred stocks, principally financial sector		16,120		250		(807	)		15,563		-
Short-term investments		2,000		-		-			2,000		-
Total, June 30, 2014	$	1,426,665	$	31,273	$	(5,996	)	$	1,451,942	$	(20	)
Tower	$	1,199,488	$	23,721	$	(5,083	)	$	1,218,126	$	(20	)
Reciprocal Exchanges		227,177		7,552		(913	)		233,816		-
Total, June 30, 2014	$	1,426,665	$	31,273	$	(5,996	)	$	1,451,942	$	(20	)
December 31, 2013
U.S. Treasury securities	$	370,959	$	729	$	(7,726	)	$	363,962	$	-
U.S. Agency securities		110,362		1,420		(561	)		111,221		-
Municipal bonds		277,382		7,981		(6,257	)		279,106		-
Corporate and other bonds
Finance		148,132		9,797		(1,028	)		156,901		-
Industrial		316,474		8,286		(3,008	)		321,752		-
Utilities		47,838		1,341		(1,890	)		47,289		(17	)
Commercial mortgage-backed securities		189,808		16,852		(1,754	)		204,906		(634	)
Residential mortgage-backed securities
Agency backed securities		63,668		891		(1,218	)		63,341		-
Non-agency backed securities		30,228		4,659		(31	)		34,856		(13	)
Asset-backed securities		58,783		681		(103	)		59,361		-
Total fixed-maturity securities		1,613,634		52,637		(23,576	)		1,642,695		(664	)
Preferred stocks, principally financial sector		21,330		54		(2,536	)		18,848		-
Common stocks, principally industrial and financial sectors		76,378		11,432		(28	)		87,782		-
Short-term investments		5,925		-		(28	)		5,897		-
Total, December 31, 2013	$	1,717,267	$	64,123	$	(26,168	)	$	1,755,222	$	(664	)
Tower	$	1,465,039	$	56,480	$	(21,369	)	$	1,500,150	$	(664	)
Reciprocal Exchanges		252,228		7,643		(4,799	)		255,072		-
Total, December 31, 2013	$	1,717,267	$	64,123	$	(26,168	)	$	1,755,222	$	(664	)

(1) Represents the gross unrealized loss on other-than-temporarily impaired securities recognized in accumulated other comprehensive income (loss).

In accordance with Lloyd’s operating guidelines, the Company deposits funds at Lloyd’s to support underwriting operations. These funds are available only to fund claims obligations. These restricted assets, which are reported in other assets on the consolidated balance sheets, consisted of approximately $106.6 million of cash and cash equivalents as of both June 30, 2014 and December 31, 2013. In addition, the Company had $219.6 million and $248.9 million of cash and cash equivalents and investments as of June 30, 2014 and December 31, 2013, respectively, held by counterparties as collateral or in trusts to support letters of credit issued on the Company’s behalf, reinsurance liabilities on certain assumed reinsurance treaties, collateral posted for certain leases and other purposes.

15

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

The Company also deposits funds with various state and governmental authorities in the U.S. For a discussion of the Company’s deposits with state and governmental authorities, see “Note 5 – Investments” of the Notes to Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

Major categories of net investment income are summarized as follows:

	Three Months Ended June 30,						Six Months Ended June 30,
($ in thousands)	2014			2013			2014			2013
Income
Fixed-maturity securities	$	9,224		$	20,562		$	21,801		$	41,535
Equity securities		437			6,808			1,748			13,292
Cash and cash equivalents		(20	)		19			30			70
Other invested assets		1,404			2,158			3,786			6,414
Other		160			288			241			615
Total		11,205			29,835			27,606			61,926
Expenses
Investment expenses		(995	)		(1,433	)		(2,038	)		(3,207	)
Net investment income	$	10,210		$	28,402		$	25,568		$	58,719
Tower		10,065			27,612			24,762			57,195
Reciprocal Exchanges		1,812			2,458			4,127			4,839
Elimination of interest on Reciprocal Exchange surplus notes		(1,667	)		(1,668	)		(3,321	)		(3,315	)
Net investment income	$	10,210		$	28,402		$	25,568		$	58,719

Proceeds from the sale of fixed-maturity securities were $869.8 million and $664.4 million for the six months ended June 30, 2014 and 2013, respectively. Proceeds from the sale of equity securities were $146.7 million and $802.3 million for the six months ended June 30, 2014 and 2013, respectively.

Gross realized gains, losses and impairment write-downs on investments are summarized as follows:

	Three Months Ended June 30,						Six Months Ended June 30,
($ in thousands)	2014			2013			2014			2013
Fixed-maturity securities
Gross realized gains	$	7,094		$	10,479		$	35,662		$	17,843
Gross realized losses		(474	)		(1,672	)		(2,038	)		(1,862	)
		6,620			8,807			33,624			15,981
Equity securities
Gross realized gains		7,148			5,323			10,466			9,559
Gross realized losses		(203	)		(12,717	)		(3,236	)		(17,530	)
		6,945			(7,394	)		7,230			(7,971	)
Other
Gross realized gains		922			2,100			549			3,855
Gross realized losses		-			(1,091	)		(3,746	)		(1,903	)
		922			1,009			(3,197	)		1,952
Net realized gains (losses) on investments		14,487			2,422			37,657			9,962
Other-than-temporary impairment losses:
Fixed-maturity securities		(1,049	)		(23	)		(1,956	)		(187	)
Equity securities		-			(4,433	)		-			(4,958	)
Total other-than-temporary impairment losses recognized in earnings		(1,049	)		(4,456	)		(1,956	)		(5,145	)
Total net realized investment gains (losses)	$	13,438		$	(2,034	)	$	35,701		$	4,817
Tower	$	13,405		$	(2,243	)	$	32,205		$	3,990
Reciprocal Exchanges		33			209			3,496			827
Total net realized investment gains (losses)	$	13,438		$	(2,034	)	$	35,701		$	4,817

16

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Management may dispose of a particular security due to changes in facts and circumstances related to the invested asset that have arisen since the last analysis supporting management’s determination whether or not it intended to sell the security, and if not, whether it is more likely than not that the Company would be required to sell the security before recovery of its amortized cost basis.

Impairment Review

Management regularly reviews the Company’s fixed-maturity and equity portfolios to evaluate the necessity of recording impairment losses for OTTI in accordance with its impairment policy. The determination of OTTI is a subjective process and different judgments and assumptions could affect the timing of loss realization.

Management, in conjunction with its outside portfolio managers, analyzes its commercial mortgage-backed securities (“CMBS”) holdings using analytical techniques and various metrics including the level of subordination, debt-service-coverage ratios, loan-to-value ratios, delinquencies, defaults and foreclosures.

For the non-structured fixed-maturity securities (U.S. Treasury and Agency securities, municipal bonds, and corporate debt), unrealized losses are reviewed to determine whether full recovery of principal and interest will be received. The estimate of expected cash flows is determined by projecting a recovery value and a recovery time frame and assessing whether further principal and interest will be received. The determination of recovery value incorporates an issuer valuation assumption utilizing one or a combination of valuation methods as deemed appropriate by management. The present value of the cash flows is determined by applying the effective yield of the security at the date of acquisition (or the most recent implied rate used to accrete the security if the implied rate has changed as a result of a previous impairment) and an estimated recovery time frame. For securities for which the issuer is financially troubled but not in bankruptcy, that time frame is generally longer. Included in the present value calculation are expected principal and interest payments; however, for securities for which the issuer is classified as bankrupt or in default, the present value calculation assumes no interest payments and a single recovery amount. In situations for which a present value of cash flows cannot be estimated, a write-down to fair value is recorded.

In estimating the recovery value, significant judgment is involved in the development of assumptions related to the issuer including, but not limited to, revenue, margin and earnings projections, the likely market or liquidation values of assets, potential additional debt to be incurred pre- or post- bankruptcy/restructuring, the ability to shift existing or new debt to different priority layers, the amount of restructuring/bankruptcy expenses, the size and priority of unfunded pension obligations, litigation or other contingent claims, the treatment of intercompany claims and the likely outcome with respect to inter-creditor conflicts.

17

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

The following table shows the fixed-maturity and equity securities OTTI amounts for the three and six months ended June 30, 2014 and 2013:

	Three Months Ended June 30,						Six Months Ended June 30,
($ in thousands)	2014			2013			2014			2013
Municipal bonds		(1	)		-			(673	)		-
Corporate and other bonds		(1,006	)		-			(1,105	)		-
Commercial mortgage-backed securities		(62	)		(23	)		(426	)		(47	)
Residential mortgage-backed securities		-			-			(123	)		(140	)
Equities		-			(4,433	)		-			(4,958	)
Other-than-temporary-impairments		(1,069	)		(4,456	)		(2,327	)		(5,145	)
Portion of loss recognized in accumulated other comprehensive income (loss)		20			-			371			-
Impairment losses recognized in earnings	$	(1,049	)	$	(4,456	)	$	(1,956	)	$	(5,145	)
Tower	$	(1,049	)	$	(4,456	)	$	(1,711	)	$	(5,145	)
Reciprocal Exchanges		-			-			(245	)		-
Impairment losses recognized in earnings	$	(1,049	)	$	(4,456	)	$	(1,956	)	$	(5,145	)

The following table provides a rollforward of the cumulative amounts of credit OTTI for securities held as of June 30, 2014 and 2013 showing the amounts that have been included in earnings on a pretax basis for the three months ended June 30, 2014 and 2013:

	Three Months Ended June 30,
($ in thousands)	2014			2013
Balance, April 1,	$	7,515		$	4,516
Additional credit losses recognized during the period, related to securities for which:
No OTTI has been previously recognized		43			(117	)
OTTI has been previously recognized		1,006			-
Reductions due to:
Securities sold during the period (realized)		(3,367	)		140
Balance, June 30,	$	5,197		$	4,539

The following table provides a rollforward of the cumulative amounts of credit OTTI for securities held as of June 30, 2014 and 2013 showing the amounts that have been included in earnings on a pretax basis for the six months ended June 30, 2014 and 2013:

	Six Months Ended   June 30,
($ in thousands)	2014			2013
Balance, January 1,	$	7,817		$	4,492
Additional credit losses recognized during the period, related to securities for which:
No OTTI has been previously recognized		815			47
OTTI has been previously recognized		1,141			-
Reductions due to:
Securities sold during the period (realized)		(4,576	)		-
Balance, June 30,	$	5,197		$	4,539

Unrealized Losses

There are 151 securities at June 30, 2014, including fixed maturities and equity securities, which account for the gross unrealized loss, none of which is deemed by management to be OTTI. Management considered all relevant factors, including expected recoverability of cash flows, in assessing whether a loss was other-than-temporary. The gross unrealized loss position associated with the fixed-maturity portfolio was $5.2 million as of June 30, 2014, consisting primarily of U.S. Treasury, municipal bonds and corporate and other bonds of $4.4 million. The total fixed-maturity portfolio of gross unrealized losses included 148 securities which were, in aggregate, approximately 2% below amortized cost. Of the 148 fixed maturity investments identified, 102 have been in an unrealized loss position for more than 12 months. The total unrealized loss on these investments at June 30, 2014 was $4.8 million. Management does not consider these investments to be other-than-temporarily impaired.

18

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

In the equity portfolio, there were 3 securities in a loss position at June 30, 2014 totaling $0.8 million. Management evaluated the financial condition of the common stock issuers, the severity and duration of the impairment, and the Company’s ability and intent to hold to recovery. The evaluation consisted of a detailed review, including but not limited to some or all of the following factors for each security: the current S&P rating, analysts’ reports, past earnings trends and analysts’ earnings expectations for the next 12 months, liquidity, near-term financing risk, and whether the company was currently paying dividends on its equity securities. Management does not consider these investments to be other-than-temporarily impaired.

The following table presents information regarding invested assets that were in an unrealized loss position at June 30, 2014 and December 31, 2013 by amount of time in a continuous unrealized loss position:

	Less than 12 Months					12 Months or Longer					Total
($ in thousands)	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Aggregate Fair Value		Unrealized Losses
June 30, 2014
U.S. Treasury securities	$	24,975	$	(23	)	$	184,185	$	(2,974	)	$	209,160	$	(2,997	)
U.S. Agency securities		2,495		(3	)		2,254		(25	)		4,749		(28	)
Municipal bonds		4,946		(14	)		34,090		(688	)		39,036		(702	)
Corporate and other bonds
Finance		19,851		(33	)		7,994		(113	)		27,845		(146	)
Industrial		15,849		(61	)		7,666		(158	)		23,515		(219	)
Utilities		-		-			10,600		(346	)		10,600		(346	)
Commercial mortgage-backed securities		4,442		(24	)		18,240		(235	)		22,682		(259	)
Residential mortgage-backed securities
Agency backed		4,231		(6	)		10,416		(268	)		14,647		(274	)
Non-agency backed		-		-			-		-			-		-
Asset-backed securities		52,777		(218	)		-		-			52,777		(218	)
Total fixed-maturity securities		129,566		(382	)		275,445		(4,807	)		405,011		(5,189	)
Preferred stocks		-		-			10,889		(807	)		10,889		(807	)
Total, June 30, 2014	$	129,566	$	(382	)	$	286,334	$	(5,614	)	$	415,900	$	(5,996	)
Tower	$	118,219	$	(343	)	$	241,468	$	(4,740	)	$	359,687	$	(5,083	)
Reciprocal Exchanges		11,347		(39	)		44,866		(874	)		56,213		(913	)
Total, June 30, 2014	$	129,566	$	(382	)	$	286,334	$	(5,614	)	$	415,900	$	(5,996	)
December 31, 2013
U.S. Treasury securities	$	273,217	$	(7,726	)	$	-	$	-		$	273,217	$	(7,726	)
U.S. Agency securities		51,808		(561	)		-		-			51,808		(561	)
Municipal bonds		109,345		(5,056	)		4,268		(1,201	)		113,613		(6,257	)
Corporate and other bonds
Finance		37,811		(1,005	)		335		(23	)		38,146		(1,028	)
Industrial		124,869		(2,550	)		10,023		(458	)		134,892		(3,008	)
Utilities		27,698		(805	)		7,292		(1,085	)		34,990		(1,890	)
Commercial mortgage-backed securities		26,469		(597	)		20,397		(1,157	)		46,866		(1,754	)
Residential mortgage-backed securities
Agency backed		37,660		(925	)		5,166		(293	)		42,826		(1,218	)
Non-agency backed		1,027		(19	)		182		(12	)		1,209		(31	)
Asset-backed securities		32,461		(103	)		-		-			32,461		(103	)
Total fixed-maturity securities		722,365		(19,347	)		47,663		(4,229	)		770,028		(23,576	)
Preferred stocks		10,538		(2,285	)		6,154		(251	)		16,692		(2,536	)
Common stocks		7,125		(28	)		-		-			7,125		(28	)
Short-term investments		3,897		(28	)		-		-			3,897		(28	)
Total, December 31, 2013	$	743,925	$	(21,688	)	$	53,817	$	(4,480	)	$	797,742	$	(26,168	)
Tower	$	663,127	$	(19,335	)	$	23,096	$	(2,034	)	$	686,223	$	(21,369	)
Reciprocal Exchanges		80,798		(2,353	)		30,721		(2,446	)		111,519		(4,799	)
Total, December 31, 2013	$	743,925	$	(21,688	)	$	53,817	$	(4,480	)	$	797,742	$	(26,168	)

Management evaluated the severity of the impairment in relation to the carrying values for the securities referred to above and considered all relevant factors in assessing whether the loss was other-than-temporary.

19

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Fixed-Maturity Investment—Time to Maturity

The following table shows the amortized cost and fair value of the fixed-maturity portfolio by contractual time to maturity at June 30, 2014 and December 31, 2013:

	Tower				Reciprocal Exchanges				Total
($ in thousands)	Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value
June 30, 2014
Remaining Time to Maturity
Less than one year	$	26,178	$	26,490	$	12,636	$	12,802	$	38,814	$	39,292
One to five years		572,182		578,040		30,674		31,003		602,856		609,043
Five to ten years		293,067		299,813		63,945		66,110		357,012		365,923
More than 10 years		100,907		104,124		38,460		39,473		139,367		143,597
Mortgage and asset-backed securities		191,785		194,868		78,711		81,656		270,496		276,524
Total, June 30, 2014	$	1,184,119	$	1,203,335	$	224,426	$	231,044	$	1,408,545	$	1,434,379
December 31, 2013
Remaining Time to Maturity
Less than one year	$	33,305	$	33,727	$	7,866	$	8,021	$	41,171	$	41,748
One to five years		507,388		513,841		39,469		41,381		546,857		555,222
Five to ten years		459,070		459,251		82,003		81,515		541,073		540,766
More than 10 years		100,977		102,801		41,069		39,693		142,046		142,494
Mortgage and asset-backed securities		263,417		280,526		79,070		81,939		342,487		362,465
Total, December 31, 2013	$	1,364,157	$	1,390,146	$	249,477	$	252,549	$	1,613,634	$	1,642,695

Other Invested Assets

The following table shows the composition of the other invested assets as of June 30, 2014 and December 31, 2013:

($ in thousands)	June 30, 2014		December 31, 2013
Limited partnerships, equity method	$	36,960	$	46,521
Real estate, amortized cost		-		6,054
Securities reported under the fair value option		18,657		43,580
Total	$	55,617	$	96,155

Other invested assets reported under the fair value option include six securities, which contain embedded derivatives and other features. The significant inputs used to determine fair value are considered Level 3 pursuant to the fair value hierarchy. See “Note 6 – Fair Value Measurements” below.

As of June 30, 2014, the Company and its insurance companies had future funding commitments of $22.9 million including but not limited to the limited partnerships.

Note 6—Fair Value Measurements

GAAP establishes a three-level hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). If the inputs used to measure the assets or liabilities fall within different levels of the hierarchy, the classification is based on the lowest level input that is significant to the fair value measurement of the asset or liability. Classification of assets and liabilities within the hierarchy considers the markets in which the assets and liabilities are traded, including during periods of market disruption, and the reliability and transparency of the assumptions used to determine fair value. The hierarchy requires the use of observable market data when available. The levels of the hierarchy are as follows:

Level 1 — Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities traded in active markets. Included are those equity securities that are traded on active exchanges, such as the NASDAQ Global Select Market.

20

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Level 2 — Inputs to the valuation methodology include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability and market-corroborated inputs. Included are investments in U.S. Treasury and Agency securities and, together with municipal bonds, corporate debt securities, commercial mortgages, residential mortgage-backed securities and asset-backed securities. Additionally, interest-rate swap contracts utilize Level 2 inputs in deriving fair values.

Level 3 — Inputs to the valuation methodology are unobservable in the market for the asset or liability and are significant to the fair value measurement. Material assumptions and factors considered in pricing investment securities may include projected cash flows, collateral performance including delinquencies, defaults and recoveries, and any market clearing activity or liquidity circumstances in the security or similar securities that may have occurred since the prior pricing period.

The availability of observable inputs varies and is affected by a wide variety of factors. When the valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires significantly more judgment. The degree of judgment exercised by management in determining fair value is greatest for investments categorized as Level 3. For investments in this category, management considers prices and inputs that are current as of the measurement date. In periods of market dislocation, as characterized by current market conditions, the ability to observe stable prices and inputs may be reduced for many instruments. This condition could cause a security to be reclassified between levels.

21

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

As at June 30, 2014 and December 31, 2013, the Company’s financial instruments carried at fair value are allocated among levels as follows:

($ in thousands)	Level 1		Level 2			Level 3		Total
June 30, 2014
Fixed-maturity securities
U.S. Treasury securities	$	-	$	455,463		$	-	$	455,463
U.S. Agency securities		-		100,162			-		100,162
Municipal bonds		-		248,205			-		248,205
Corporate and other bonds		-		351,606			2,420		354,026
Commercial mortgage-backed securities		-		86,236			-		86,236
Residential mortgage-backed securities
Agency		-		126,042			-		126,042
Non-agency		-		227			-		227
Asset-backed securities		-		64,018			-		64,018
Total fixed-maturities		-		1,431,959			2,420		1,434,379
Equity securities		15,563		-			-		15,563
Short-term investments		-		2,000			-		2,000
Total investments at fair value		15,563		1,433,959			2,420		1,451,942
Other invested assets (1)		-		-			18,657		18,657
Other Assets
Additional Payment derivative		-		-			3,403		3,403
Other liabilities									-
Interest rate swap contracts		-		(4,766	)		-		(4,766	)
Total, June 30, 2014	$	15,563	$	1,429,193		$	24,480	$	1,469,236
Tower	$	12,791	$	1,198,153		$	24,480	$	1,235,424
Reciprocal Exchanges		2,772		231,040			-		233,812
Total, June 30, 2014	$	15,563	$	1,429,193		$	24,480	$	1,469,236
December 31, 2013
Fixed-maturity securities
U.S. Treasury securities	$	-	$	363,962		$	-	$	363,962
U.S. Agency securities		-		111,221			-		111,221
Municipal bonds		-		279,106			-		279,106
Corporate and other bonds		-		522,516			3,426		525,942
Commercial mortgage-backed securities		-		204,906			-		204,906
Residential mortgage-backed securities
Agency		-		63,341			-		63,341
Non-agency		-		34,856			-		34,856
Asset-backed securities		-		59,361			-		59,361
Total fixed-maturities		-		1,639,269			3,426		1,642,695
Equity securities		106,630		-			-		106,630
Short-term investments		-		5,897			-		5,897
Total investments at fair value		106,630		1,645,166			3,426		1,755,222
Other invested assets (2)		-		-			43,580		43,580
Other Assets
Additional Payment derivative		-		-			9,343		9,343
Other liabilities
Interest rate swap contracts		-		(6,066	)		-		(6,066	)
Debt and equity securities sold, not yet purchased		-		(11,099	)		-		(11,099	)
Total, December 31, 2013	$	106,630	$	1,628,001		$	56,349	$	1,790,980
Tower	$	104,107	$	1,375,452		$	56,349	$	1,535,908
Reciprocal Exchanges		2,523		252,549			-		255,072
Total, December 31, 2013	$	106,630	$	1,628,001		$	56,349	$	1,790,980

(1) $18.6 million of the $55.6 million Other invested assets reported on the consolidated balance sheet at June 30, 2014 are reported at fair value. The remaining $37 million of Other invested assets are reported under the equity method of accounting.

(2) $43.6 million of the $96.2 million Other invested assets reported on the consolidated balance sheet at December 31, 2013 are reported at fair value. The remaining $52.6 million of Other invested assets are reported under the equity method of accounting or at amortized cost.

22

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

As of June 30, 2014, substantially all of the investment portfolio recorded at fair value was priced based upon quoted market prices or other observable inputs. For investments in active markets, the Company used the quoted market prices provided by the outside pricing services to determine fair value. In circumstances where quoted market prices were unavailable, the Company used fair value estimates based upon other observable inputs including matrix pricing, benchmark interest rates, market comparables and other relevant inputs. When observable inputs were adjusted to reflect management’s best estimate of fair value, such fair value measurements are considered a lower level measurement in the GAAP fair value hierarchy.

The Company’s process to validate the market prices obtained from the outside pricing sources includes, but is not limited to, periodic evaluation of model pricing methodologies and analytical reviews of certain prices. The Company also periodically performs testing of the market to determine trading activity, or lack of trading activity, as well as market prices. Several securities sold during the quarter were “back-tested” (i.e., the sales price is compared to the previous month end reported market price to determine reasonableness of the reported market price). If management believes that the price provided from the pricing source is distressed, management will use a valuation method that reflects an orderly transaction between market participants, generally a discounted cash flow method that incorporates relevant interest rate, risk and liquidity factors.

The ability to observe stable prices and inputs may be reduced for highly-customized and illiquid instruments which had been the case for certain non-agency residential and commercial mortgage-backed securities and asset-backed securities in previous periods.

Substantially all of the portfolio valuations at June 30, 2014, classified as Level 1 or Level 2 in the above table are determined utilizing several independent pricing services that provide a price quote for each security. There were no adjustments made to the prices obtained from the independent pricing sources and dealers on securities classified as Level 1 or Level 2.

In 2014 and 2013, there were no transfers of investments between Level 1 and Level 2 or between Level 2 and Level 3.

The fair values of the interest rate swaps were derived using an industry standard swap valuation model with market based inputs for swaps having similar characteristics.

The fair values of the debt and equity securities sold, not yet purchased were derived using quoted prices for similar securities in active markets. These instruments resulted in gross realized gains and losses of $0.2 million and $0.1 million for the six months ended June 30, 2014, respectively.

The Company holds six securities which are reported in other invested assets and have been classified as Level 3 of the fair value hierarchy. Management utilizes a discounted cash flow analysis to derive the fair values. One of the six securities is an investment in credit-linked notes which mature in 2017, and whose cash flows are supported by underlying short-term loans. The significant unobservable inputs include the underlying short-term loans’ probability of default and loss severity, and a discount for the security’s lack of marketability. Increases in the probability of default and loss severity assumptions (which generally move directionally with each other) would have the effect of decreasing the fair value of this security. The Company obtains credit ratings on the underlying short-term loans quarterly and considers these ratings when updating its assumptions.

Four securities are preferred equity interests in limited partnerships that invest in leisure hotels. The preferred interests pay a stated quarterly dividend with residual equity incentives payable after the General Partner’s minimum return thresholds are met. The significant unobservable inputs include the market discount rate and the instruments’ lack of marketability. These four preferred equity interest investments are carried at fair value and are modeled quarterly using discounted market yields from similar hotel properties.

The Company has one fixed-maturity security classified as Level 3. This security, a privately placed corporate convertible bond, is valued by management using a liquidation pricing methodology.

Management is responsible for the determination of the value of the investments carried at fair value and the supporting methodologies and assumptions. Management has reviewed the pricing techniques and methodologies of the independent pricing sources and believes that their policies adequately consider market activity, either based on specific transactions for the issue valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. Management monitors security-specific valuation trends and discusses material changes or the absence of expected changes with the portfolio managers to understand the underlying factors and inputs and to validate the reasonableness of pricing. Management also back-tests the prices on numerous sales of securities during the year to validate the previous pricing provided as well as utilizes other pricing sources to validate the pricing provided by the Company’s primary provider of the majority of the non-U.S. Treasury securities and non-agency securities included in Level 2.

23

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

The following table summarizes activity in Level 3 assets measured at fair value for the three months ended June 30, 2014 and 2013 for Tower (the Reciprocal Exchanges have no Level 3 assets):

	Three Months Ended June 30,
	2014												2013
($ in thousands)	Other Invested Assets			Fixed Maturity Securities (1)			Additional Payment Derivative			Total			Other Invested Assets
Beginning balance, April 1	$	18,778		$	3,426		$	7,843		$	30,047		$	25,000
Total gains (losses)-realized / unrealized
Included in net income		(121	)		(1,006	)		1,371			244			-
Included in other comprehensive income (loss)		-			-			-			-			-
Purchases		-			-			-			-			5,250
Settlements		-			-			(5,811	)		(5,811	)		-
Ending balance, June 30,	$	18,657		$	2,420		$	3,403		$	24,480		$	30,250

(1) Comprised of corporate and other bonds

The following table summarizes activity in Level 3 assets measured at fair value for the six months ended June 30, 2014 and 2013 for Tower (the Reciprocal Exchanges have no Level 3 assets):

	Six Months Ended June 30,
	2014												2013
($ in thousands)	Other Invested Assets			Fixed Maturity Securities (1)			Additional Payment Derivative			Total			Other Invested Assets
Beginning balance, January 1	$	43,580		$	3,426		$	9,343		$	56,349		$	25,000
Total gains (losses)-realized / unrealized
Included in net income		(63	)		(1,006	)		(129	)		(1,198	)		-
Included in other comprehensive income (loss)		-			-			-			-			-
Purchases		-			-			-			-			5,250
Settlements		(24,860	)		-			(5,811	)		(30,671	)		-
Ending balance, June 30,	$	18,657		$	2,420		$	3,403		$	24,480		$	30,250

(1) Comprised of corporate and other bonds

Note 7—Reinsurance

The Company utilizes various excess of loss, quota share and catastrophe reinsurance programs to limit its exposure to a maximum loss on any one risk.

In addition, as disclosed in “Note 1 – Nature of the Business,” as a result of the 2013 significant business developments and the execution of the ACP Re Merger Agreement, Tower had entered into two Cut-Through Reinsurance Agreements, pursuant to which a subsidiary of AmTrust and a subsidiary of NGHC agreed to provide 100% quota share reinsurance and a cut-through endorsement to cover all eligible new and renewal commercial and personal lines business, respectively, and at their option, losses incurred on or after January 1, 2014 of not less than 60% of the in-force business. Tower received confirmation on January 16, 2014 from AmTrust and NGHC that they would exercise such option to reinsure on a cut-through basis losses incurred on or after January 1, 2014 under in-force policies with respect to (1) in the case of AmTrust, 65.7% of Tower’s unearned premium reserves as of December 31, 2013 with respect to its ongoing commercial lines business, and (2) in the case of NGHC, 100% of Tower’s unearned premium reserves as of December 31, 2013 with respect to its personal lines segment business. Tower received a 20% ceding commission from AmTrust and NGHC on all unearned premiums as of December 31, 2013 that were subject to the Cut-Through Reinsurance Agreements and a 22% ceding commission on 2014 ceded premiums.

24

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Impact of Reinsurance on Premiums

The tables below show direct, assumed and ceded premiums for the three and six months ended June 30, 2014 and 2013:

	Three Months Ended June 30,
($ in thousands)	Direct		Assumed			Ceded - Other			Ceded - Cut- Through			Net
2014
Premiums written	$	284,934	$	21,893		$	75,286		$	162,754		$	68,787
Change in unearned premiums		50,697		(6,333	)		26,276			(7,792	)		25,880
Premiums earned	$	335,631	$	15,560		$	101,562		$	154,962		$	94,667
2013
Premiums written	$	430,688	$	58,655		$	87,354		$	-		$	401,989
Change in unearned premiums		4,749		8,535			(3,091	)		-			16,375
Premiums earned	$	435,437	$	67,190		$	84,263		$	-		$	418,364

	Six Months Ended June 30,
($ in thousands)	Direct			Assumed			Ceded - Other			Ceded - Cut- Through			Net
2014
Premiums written	$	566,136		$	43,352		$	142,814		$	647,795	(1)	$	(191,858	)
Change in unearned premiums		133,643			(11,786	)		64,488			(335,296	)		398,069
Premiums earned	$	699,779		$	31,566		$	207,302		$	312,499		$	206,211
2013
Premiums written	$	876,403		$	164,169		$	185,386		$	-		$	855,186
Change in unearned premiums		(11,379	)		(35,854	)		(32,297	)		-			(14,936	)
Premiums earned	$	865,024		$	128,315		$	153,089		$	-		$	840,250

(1) Includes $327.7 million of unearned premiums transferred on January 1, 2014 under Cut-Through Reinsurance Agreements.

Note 8—Loss and Loss Adjustment Expense

The following table provides a reconciliation of the beginning and ending consolidated balances for unpaid losses and loss adjustment expense (“LAE”) for the six months ended June 30, 2014 and 2013:

	Six Months Ended June 30,
	2014									2013
($ in thousands)	Tower			Reciprocal Exchanges			Total			Tower			Reciprocal Exchanges			Total
Balance at January 1	$	1,973,972		$	107,313		$	2,081,285		$	1,759,888		$	135,791		$	1,895,679
Less reinsurance recoverables on unpaid losses		(555,468	)		(15,392	)		(570,860	)		(407,068	)		(52,389	)		(459,457	)
		1,418,504			91,921			1,510,425			1,352,820			83,402			1,436,222
Net reserves, at fair value, of acquired entities		-			-			-			161,886			-			161,886
Change in net reserves for ADC (i)		313,229			-			313,229			-			-			-
Incurred related to:
Current year		103,790			60,084			163,874			451,020			57,688			508,708
Prior years unfavorable/(favorable) development		35,411			(1,819	)		33,592			326,749			167			326,916
Total incurred		139,201			58,265			197,466			777,769			57,855			835,624
Paid related to:
Current year		87,435			39,833			127,268			164,774			36,669			201,443
Prior years		337,411			24,355			361,766			359,786			10,221			370,007
Total paid		424,846			64,188			489,034			524,560			46,890			571,450
Net balance at end of period		1,446,088			85,998			1,532,086			1,767,915			94,367			1,862,282
Add reinsurance recoverables on unpaid losses		441,213			14,259			455,472			665,172			24,897			690,069
Balance at June 30,	$	1,887,301		$	100,257		$	1,987,558		$	2,433,087		$	119,264		$	2,552,351

(i) In the first quarter of 2014, Tower terminated the Southport Re ADCs (see “Note 1 - Nature of the Business” for further description). The termination of the Southport Re ADCs resulted in a direct increase to net loss reserves.

25

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

The consolidated net loss ratio, which includes the Reciprocal Exchanges, was 100.2% and 133.8% for the three months ended June 30, 2014 and 2013, respectively. Excluding the Reciprocal Exchanges, the net loss ratio was 122.1% and 142.7% for the three months ended June 30, 2014, and 2013, respectively.

Incurred losses and LAE for the three months ended June 30, 2014 attributable to events of prior years were $26.6 million including the Reciprocal Exchanges and $27.5 million excluding the Reciprocal Exchanges.

The consolidated net loss ratio, which includes the Reciprocal Exchanges, was 95.8% and 99.4% for the six months ended June 30, 2014 and 2013, respectively. Excluding the Reciprocal Exchanges, the net loss ratio was 109.4% and 102.7% for the six months ended June 30, 2014, and 2013, respectively.

Incurred losses and LAE for the six months ended June 30, 2014 attributable to events of prior years were $33.6 million including the Reciprocal Exchanges and $35.4 million excluding the Reciprocal Exchanges. These prior accident year losses include $37.1 million of unfavorable losses from the Commercial Insurance segment, $6.1 million of favorable development from the Assumed Reinsurance segment, and unfavorable loss development of $2.6 million in the Personal Insurance segment for the six months ended June 30, 2014.

The 2014 unfavorable incurred loss and LAE activity from prior accident years arose primarily from CMP Liability, Commercial Auto Liability, Other Liability and Workers’ Compensation lines of business. Reported loss activity for these lines of business was higher than expected resulting in higher selected ultimates for prior accident years. Consistent with prior quarters, the Company performed a comprehensive update to the internal actuarial study. The Company also retained an independent consulting firm to peer review the internal reserve study.

Prior year development is based upon numerous estimates by line of business and accident year. The Company’s management continually monitors claims activity to assess the appropriateness of carried case and incurred but not reported (“IBNR”) reserves, giving consideration to Company and industry trends.

Note 9—Shareholders’ Equity

Shares of Common Stock Issued

For both the three and six months ended June 30, 2014, zero new common shares were issued as the result of employee stock option exercises.

For both the three and six months ended June 30, 2014, zero new common shares were issued as the result of the Company’s restricted stock grants. For the three and six months ended June 30, 2013, 2,332 and 242,626 new common shares, respectively, were issued as the result of restricted stock grants.

For the three and six months ended June 30, 2014, zero and 17,364 shares, respectively, of common stock were purchased from employees in connection with the vesting of restricted stock issued under the Company’s equity compensation plans. For the three and six months ended June 30, 2013, 891 and 341,598 shares, respectively, of common stock were purchased from employees in connection with the vesting of restricted stock issued under the Company’s equity compensation plans. The shares were withheld at the direction of employees as permitted under the equity compensation plans in order to pay the expected amount of tax liability owed by the employees from the vesting of those shares. In addition, for the three and six months ended June 30, 2014, 13,899 and 66,733 shares, respectively, of common stock were surrendered as a result of restricted stock forfeitures. For the three and six months ended June 30, 2013, 7,167 and 14,015 shares, respectively of common stock were surrendered as a result of restricted stock forfeitures.

Share Repurchase Program

As part of Tower’s capital management strategy, Tower’s Board of Directors approved a $50 million share repurchase program on May 7, 2013. Purchases under this program can be made from time to time in the open market or in privately negotiated transactions in accordance with applicable laws and regulations. In the six months ended June 30, 2014 no shares of common stock were purchased under this program.

Dividends Declared

On November 14, 2013, the Company announced that its Board of Directors determined that it would not declare and pay a dividend to shareholders in the fourth quarter of 2013. There can be no assurance that we will resume paying dividends in the future even if the necessary financial conditions are met and if sufficient cash is available for distribution.

Dividends on common stock and participating unvested restricted stock of $9.5 million and $16.7 million for the three and six months ended June 30, 2013 were declared and paid.

26

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Note 10—Accumulated Other Comprehensive Income (Loss)

The following table provides a summary of changes in accumulated other comprehensive income, by component, for the six months ended June 30, 2014 and 2013, respectively, with all amounts reflected net of income taxes and noncontrolling interest:

($ in thousands)	Unrealized gains (losses) on available for sale securities			Gains (losses) on cash flow hedges			Cumulative translation adjustments			Total
Balance at December 31, 2012	$	87,412		$	(5,860	)	$	1,204		$	82,756
Other comprehensive income before reclassifications, net of tax		(71,210	)		1,406			(2,382	)		(72,186	)
Amounts reclassified from accumulated other comprehensive income, net of tax		(2,594	)		1,084			-			(1,510	)
Net current period other comprehensive income (loss)		(73,804	)		2,490			(2,382	)		(73,696	)
Balance at June 30, 2013	$	13,608		$	(3,370	)	$	(1,178	)	$	9,060
Balance at December 31, 2013	$	(15,528	)	$	(3,979	)	$	-		$	(19,507	)
Other comprehensive income before reclassifications, net of tax		20,129			(8	)		-			20,121
Amounts reclassified from accumulated other comprehensive income, net of tax		(32,207	)		853			-			(31,354	)
Net current period other comprehensive income (loss)		(12,078	)		845			-			(11,233	)
Balance at June 30, 2014	$	(27,606	)	$	(3,134	)	$	-		$	(30,740	)

The following provides a summary of the items that have been reclassified from accumulated other comprehensive income to net income in their entirety during the six months ended June 30, 2014 and 2013, including the line item on the consolidated statement of operations on which the impact is reflected. Unrealized gains (losses) on available for sale securities are reclassified from accumulated other comprehensive income when a security is sold or when a non-credit impairment is recorded. Gains (losses) on cash flow hedges are reclassified from accumulated other comprehensive income when the related hedged item (subordinated debentures floating rate interest payments) are recorded in the statement of operations.

($ in thousands)
Accumulated other comprehensive income components	Amounts reclassified from accumulated other comprehensive income						Affected line item in the consolidated statement of operations
	Six Months Ended June 30,
	2014			2013
Unrealized gains (losses) on available for sale securities	$	(32,207	)	$	(2,594	)	Other net realized investment gains
		-			-		Income tax expense
	$	(32,207	)	$	(2,594	)	Total net of income taxes
Gains (losses) on cash flow hedges interest rate swaps	$	853		$	1,084		Interest expense
		-			-		Income tax expense
	$	853		$	1,084		Total net of income taxes

Note 11—Debt

The Company’s borrowings consisted of the following at June 30, 2014 and December 31, 2013:

	June 30, 2014				December 31, 2013
($ in thousands)	Carrying Value		Fair Value		Carrying Value		Fair Value
Convertible senior notes	$	149,315	$	127,875	$	147,712	$	129,525
Subordinated debentures		235,058		122,121		235,058		114,900
Total	$	384,373	$	249,996	$	382,770	$	244,425

The fair value of the convertible senior notes is determined utilizing recent transaction prices for these securities between third-party market participants. The fair value of the subordinated debentures is based on discounted cash flow analysis. The significant inputs used for fair value are considered Level 2 in the fair value hierarchy.

27

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Total interest expense incurred, including interest expense on the funds held liabilities, was $7.3 million and $7.6 million for the three months ended June 30, 2014 and 2013, respectively. Total interest expense incurred, including interest expense on the funds held liabilities, was $14.3 million and $15.4 million for the six months ended June 30, 2014 and 2013, respectively.

Subordinated Debentures

The Company and its wholly-owned subsidiaries have issued trust preferred securities through wholly-owned Delaware statutory business trusts. The trusts use the proceeds of the sale of the trust preferred securities and common securities that the Company acquired from the trusts to purchase junior subordinated debentures from the Company with terms that match the terms of the trust preferred securities. Interest on the junior subordinated debentures and the trust preferred securities is payable quarterly. In some cases, the interest rate is fixed for an initial period of five years after issuance and then floats with changes in the London Interbank Offered Rate (“LIBOR”) and in other cases the interest rate floats with LIBOR without any initial fixed-rate period. As of June 30, 2014, the Company had outstanding par of $ 235.1 million relating to the subordinated debentures.

Interest Rate Swaps

In October 2010, the Company entered into interest rate swap contracts (the “Swaps”) with $190 million notional value to manage interest costs and cash flows associated with the floating rate subordinated debentures. The Swaps have terms of five years. The Swaps convert the subordinated debentures to rates ranging from 5.1% to 5.9%. As of June 30, 2014 and December 31, 2013, the Swaps had a fair value of $4.8 million and $6.1 million in a liability position, respectively, and are reported in Other Liabilities.

The Company has designated and accounts for the Swaps as cash flow hedges. The Swaps are considered to have no ineffectiveness and changes in their fair values are recorded in accumulated other comprehensive income (“AOCI”), net of tax. For the six months ended June 30, 2014 and 2013, $0.9 million and $1.1 million, respectively, were reclassified from AOCI to interest expense for the effects of the hedges. As of June 30, 2014, the Company had collateral on deposit with the counterparty amounting to $4.7 million pursuant to a Credit Support Annex.

Convertible Senior Notes

In September 2010, TGI issued $150.0 million principal amount of 5.0% convertible senior notes (“the Notes”), which mature on September 15, 2014. Interest on the Notes is payable semi-annually in arrears on March 15 and September 15 of each year, commencing March 15, 2011. The original terms of the Notes allowed Holders to convert their Notes into cash or common shares, at TGI’s option, at any time on or after March 15, 2014 or earlier under certain circumstances determined by: (i) the market price of TGI’s stock, (ii) the trading price of the Notes, or (iii) the occurrence of specified corporate transactions. Upon conversion, TGI intends to settle its obligation either entirely or partially in cash. Upon completion of the Canopius Merger Transaction, the change in control provision of the Indenture was triggered and the Holders were allowed, at their option, to convert their notes into cash or common shares of Tower Group International, Ltd. at a make-whole exchange ratio. As required by the terms of the Indenture, TGI delivered a Fundamental Company Change Notice (“Change Notice”) to the Holders on March 23, 2013. The Change Notice provided Holders the option to convert the Notes into cash or common shares of TGIL at a fundamental make-whole exchange ratio up to and including April 26, 2013. There were no bonds tendered or converted as a result of the Change Notice delivery.

The adjusted conversion rate at June 30, 2014 is 37.5605 shares of common stock per $1,000 principal amount of the Notes (equivalent to a conversion price of $26.62 per share), subject to further adjustment upon the occurrence of certain events, including the following: if Tower issues shares of common stock as a dividend or distribution on shares of the common stock, or if Tower effects a share split or share combination; if Tower issues to all or substantially all holders of common stock any rights, options or warrants entitling them, for a period of not more than 45 calendar days after the announcement date of such issuance, to subscribe for or purchase shares of the common stock at a price per share that is less than the average of the last reported sales price of the common stock for the ten consecutive trading day period ending on the date of announcement of such issuance; if Tower distributes shares of its capital stock, other indebtedness, other assets or property of Tower or rights, options or warrants to acquire capital stock or other securities of Tower, to all or substantially all holders of capital stock; if any cash dividend or distribution is made to all or substantially all holders of the common stock, other than a regular quarterly cash dividend that does not exceed $0.110 per share; if Tower makes a payment in respect of a tender offer or exchange offer for common stock, and the cash and value of any other consideration included in the payment per share of common stock exceeds the last reported sale price of the common stock on the trading day next succeeding the last day on which the tenders or exchange may be made.

The proceeds from the issuance of the Notes were allocated to the liability component and the embedded conversion option, or equity component. The equity component was reported as an adjustment to paid-in-capital, net of tax, and is reflected as an original issue discount (“OID”). After considering the contractual interest payments and amortization of the original issue

28

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

discount, the Notes’ effective interest rate is 7.2%. Transaction costs of $0.4 million associated with the equity component were netted with the equity component in paid-in-capital. Interest expense, including amortization of deferred origination costs, recognized on the Notes was $3.0 million for the six months ended June 30, 2014.

The following table shows the amounts recorded for the Notes as of June 30, 2014 and December 31, 2013:

	June 30,			December 31,
($ in thousands)	2014			2013
Liability component
Outstanding principal	$	150,000		$	150,000
Unamortized OID		(685	)		(2,288	)
Liability component		149,315			147,712
Equity component, net of tax	$	7,469		$	7,469

To the extent the market value per share of the Company’s common stock exceeds the conversion price, the Company will use the “treasury stock” method in calculating the dilutive effect on earnings per share.

Convertible Senior Notes Hedge and Warrant Transactions

In connection with the offering of the Notes, TGI also entered into convertible senior notes hedge transactions (the “Note Hedges” or “purchased call options”) and warrant transactions (the “Warrants”) with respect to its common stock with financial institutions. The Note Hedges and Warrants were intended generally to reduce the potential dilution of TGI’s common stock and to offset potential cash payments in excess of the principal of the Notes upon conversion. The Note Hedges and Warrants were separate transactions, entered into by TGI with the financial institutions, and were not part of the terms of the Notes.

In March 2013, as a result of the Canopius Merger Transaction, TGI terminated the Note Hedges and Warrants. The Company received $2.4 million and paid $1.0 million to terminate the Note Hedges and Warrants, respectively. The effects of the terminations and an associated tax adjustment of $0.8 million were recorded directly to paid-in-capital in shareholders’ equity.

Note 12—Stock Based Compensation

2008 Long-Term Equity Compensation Plan (“2008 LTEP”)

In 2008, the Company’s Board of Directors adopted and its shareholders approved the 2008 LTEP, which amended and revised the 2004 Long-Term Equity Compensation Plan.

The 2008 LTEP provides for the granting of non-qualified stock options, incentive stock options (within the meaning of Section 422 of the Internal Revenue Code), stock appreciation rights (“SARs”), restricted stock and restricted stock unit awards, performance shares and other cash or share-based awards. The maximum amount of share-based awards authorized is 2,325,446 of which 140,174 are available for future grants as of June 30, 2014.

2013 Long-Term Incentive Plan (“2013 LTIP”)

The Compensation Committee of the Board of Directors established, beginning in 2013 a new Long Term Incentive Plan (the “2013 LTIP”), to replace the Company’s existing 2008 LTEP. The 2013 LTIP was approved by the shareholders in May 2013. The maximum amount of share-based awards authorized is 2,150,000 of which 2,147,531 are available for future grants as of June 30, 2014.

29

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Restricted Stock

The following table provides an analysis of restricted stock activity for the six months ended June 30, 2014 and 2013:

	Six Months Ended June 30,
	2014					2013
	Number of Shares			Weighted Average Grant Date Fair Value		Number of Shares			Weighted Average Grant Date Fair Value
Outstanding, January 1		235,586		$	17.98		1,015,902		$	20.19
Granted		-			-		242,626			18.09
Vested		(42,670	)		18.07		(953,242	)		20.43
Forfeitures		(66,733	)		18.11		(14,015	)		19.26
Outstanding, June 30,		126,183		$	17.87		291,271		$	17.68

On March 13, 2013, 525,548 shares vested as a result of the Canopius Merger Transaction.

Stock Options

The following table provides an analysis of stock option activity for the six months ended June 30, 2014 and 2013:

	Six Months Ended June 30,
	2014					2013
	Number of Shares			Average Exercise Price		Number of Shares			Average Exercise Price
Outstanding, January 1		955,804		$	17.75		969,307		$	17.78
Exercised		-			-		(2,674	)		16.48
Forfeitures and expirations		(691,162	)		17.00		(7,657	)		17.72
Outstanding, June 30		264,642		$	19.73		958,976		$	17.78
Exercisable, June 30		264,642		$	19.73		958,976		$	17.78

Stock Based Compensation Expense

The following table provides an analysis of stock based compensation expense for the six months ended June 30, 2014 and 2013:

	Six Months Ended
	June 30,
($ in thousands)	2014		2013
Restricted stock
Expense, net of tax	$	205	$	8,204
Value of shares vested		959		21,042
Value of unvested shares		251		5,974
Stock options
Intrinsic value of outstanding options		-		3,471
Intrinsic value of vested outstanding options		-		3,471
Unrecognized compensation expense
Unvested restricted stock, net of tax		251		5,974
Weighted average years over which expense will be recognized (in years)		2.7		3.6

Note 13—Income Taxes

Under current Bermuda Law the Company is not required to pay any taxes on Bermuda based income or capital gains. The Company has received an undertaking from the Minister of Finance in Bermuda that in the event of such taxes being imposed, the Company will be exempted from taxation until the year 2035 pursuant to the Bermuda Exempted Undertakings Tax Protection Act of 1966. The Company’s United States-based subsidiaries are subject to federal, state and local taxes, as applicable, on income and capital gains earned by those subsidiaries.

The Company and TRL, its Bermuda reinsurance subsidiary, are deemed to have permanent establishments in Bermuda. The Bermuda companies have not and do not expect to conduct business that is through a permanent establishment in the U.S. All transactions between Tower’s U.S.-based subsidiaries and the Bermuda companies are subject to transfer pricing rules. The Company has executed certain reinsurance treaties and service agreements between its U.S.-based subsidiaries and TRL and management believes these arrangements to be conducted at current market rates and in accordance with transfer pricing rules.

During the three and six months ended June 30, 2014, Tower’s U.S. taxed subsidiaries (excluding the Reciprocal Exchanges) recognized pre-tax losses of approximately $(45.3) million and $(68.3) million, respectively. This resulted in $205.4 million of net

30

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

operating loss carryforwards in the deferred tax inventory and a net deferred tax asset, before any valuation allowance, of $287.3 million (excluding the Reciprocal Exchanges) as of June 30, 2014. Including the Reciprocal Exchanges, the net deferred tax asset, before any valuation allowance, was $288.6 million.

At June 30, 2014, a full valuation allowance was recorded against the deferred tax assets. For the six months ended June 30, 2014, $18.1 million of the valuation allowance was recorded in income tax expense (benefit) in the statement of operations. For the three months ended June 30, 2014 $12.9 million of the valuation allowance was recorded in income tax expense (benefit) in the statement of operations.

In 2013, management in its judgment concluded that a full valuation allowance was required for Tower’s U.S. taxed subsidiaries after its consideration of the cumulative three-year pre-tax loss in its U.S. taxed subsidiaries resulting from the 2013 and 2012 pre-tax losses. Management believed that the negative evidence associated with the realizability of its net deferred tax asset, including a cumulative three-year pre-tax loss outweighed the positive evidence that the deferred tax assets, including the net operating loss carryforward, would be realized, and recorded the full valuation allowance.

The Company’s effective tax rates of (0.2)% and (1.7)% for the three and six months ended June 30, 2014, respectively, reflect the recording of the full valuation allowance in the first and second quarters of 2014. Prior to the first quarter of 2014, Tower calculated an estimated annual effective tax rate on its U.S. taxed subsidiaries that differed from the U.S. statutory rate due to costs associated with tax exempt interest and dividends received deductions.

Note 14—Earnings (Loss) per Share

Undistributed net earnings (net income less dividends declared during the period) are allocated to both common stock and unvested share-based payment awards (“unvested restricted stock”). Because the common shareholders and unvested restricted stock holders share in dividends on a 1:1 basis, the earnings per share on undistributed earnings is equivalent, however, undistributed losses are allocated only to common stock holders. Undistributed earnings are allocated to all outstanding share-based payment awards, including those for which the requisite service period is not expected to be rendered.

The following table shows the computation of the earnings per share:

	Three Months						Six Months
	Ended June 30,						Ended June 30,
(in thousands, except per share amounts)	2014			2013			2014			2013
Numerator
Net income (loss) attributable to Tower Group International, Ltd.	$	(48,742	)	$	(507,342	)	$	(95,220	)	$	(494,425	)
Less: Dividends on unvested participating restricted stock		-			(48	)		-			(215	)
Net income (loss) available to common shareholders - Basic		(48,742	)		(507,390	)		(95,220	)		(494,640	)
Reallocation of income for unvested participating restricted stock		-			-			-			-
Net income (loss) available to common shareholders - Diluted		(48,742	)		(507,390	)		(95,220	)		(494,640	)
Denominator
Basic earnings per share denominator		57,171			57,135			57,161			51,487
Effect of dilutive securities:		-			-			-			-
Diluted earnings per share denominator		57,171			57,135			57,161			51,487
Earnings (loss) per share attributable to Tower Group International, Ltd. - Basic
Common stock:
Distributed earnings	$	-		$	0.17		$	-		$	0.34
Undistributed earnings		(0.85	)		(9.05	)		(1.67	)		(9.95	)
Total - basic		(0.85	)		(8.88	)		(1.67	)		(9.61	)
Earnings (loss) per share attributable to Tower Group International, Ltd. - Diluted	$	(0.85	)	$	(8.88	)	$	(1.67	)	$	(9.61	)

The computation of diluted earnings (loss) per share excludes outstanding options and other common stock equivalents in periods where inclusion of such potential common stock instruments would be anti-dilutive. For the three and six months ended June 30, 2014, 268,100 and, 268,100, respectively, options to purchase Company shares were excluded from the computation of diluted earnings (loss) per share because the exercise price of the options was greater than the average market price. For the three and six months ended June 30, 2013, 190,480 and, 188,890, respectively, options to purchase Company shares were excluded from the computation of diluted earnings (loss) per share because the exercise price of the options was greater than the average market price.

31

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Note 15—Segment Information

The accounting policies of the segments are the same as those described in TGIL’s summary of significant accounting policies in the Annual Report on Form 10-K for the year ended December 31, 2013.

Segment performance is evaluated based on segment profit, which excludes investment income, realized gains and losses, interest expense, income taxes, goodwill and fixed asset impairments and corporate expenses. The Company’s assets and liabilities are not allocated to segments because they are considered in total by management for decision-making purposes.

The Personal Insurance segment, which includes the Reciprocal Exchanges and the management companies, reports the management fees earned by Tower from the Reciprocal Exchanges for underwriting, investment management and other services as a reduction to other underwriting expenses. The effects of these management fees between Tower and the Reciprocal Exchanges are eliminated in consolidation to derive consolidated net income. However, the management fee income is reported in net income attributable to Tower Group International, Ltd. and included in basic and diluted earnings (loss) per share.

32

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

Business segment results are as follows:

	Three Months Ended						Six Months Ended
	June 30,						June 30,
($ in thousands)	2014			2013			2014			2013
Commercial Insurance Segment
Revenues
Premiums earned	$	35,896		$	247,495		$	91,669		$	505,913
Ceding commission revenue		1,678			(7,780	)		4,057			(7,332	)
Policy billing fees		1,264			1,422			2,540			2,792
Total revenues		38,838			241,137			98,266			501,373
Expenses
Loss and loss adjustment expenses		48,897			470,284			112,868			647,287
Underwriting expenses		36,055			93,635			87,076			185,917
Total expenses		84,952			563,919			199,944			833,204
Underwriting profit (loss)	$	(46,114	)	$	(322,782	)	$	(101,678	)	$	(331,831	)
Assumed Reinsurance Segment
Revenues
Premiums earned	$	15,532		$	45,548		$	31,565		$	94,913
Ceding commission revenue		-			-			-			-
Total revenues		15,532			45,548			31,565			94,913
Expenses
Loss and loss adjustment expenses		5,407			28,088			7,815			47,448
Underwriting expenses		9,246			26,742			10,118			44,535
Total expenses		14,653			54,830			17,933			91,983
Underwriting profit (loss)	$	879		$	(9,282	)	$	13,632		$	2,930
Personal Insurance Segment
Revenues
Premiums earned	$	43,239		$	125,321		$	82,977		$	239,424
Ceding commission revenue		16,042			6,004			24,465			10,993
Policy billing fees		1,495			1,899			2,895			3,679
Total revenues		60,776			133,224			110,337			254,096
Expenses
Loss and loss adjustment expenses		40,601			61,520			76,783			140,889
Underwriting expenses		36,412			57,669			75,991			109,781
Total expenses		77,013			119,189			152,774			250,670
Underwriting profit (loss)	$	(16,237	)	$	14,035		$	(42,437	)	$	3,426
Tower	$	(10,787	)	$	14,139		$	(27,071	)	$	16,156
Reciprocal Exchanges		(5,450	)		(104	)		(15,366	)		(12,730	)
Total underwriting profit (loss)	$	(16,237	)	$	14,035		$	(42,437	)	$	3,426

33

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

The following table reconciles revenue by segment to consolidated revenues:

	Three Months Ended					Six Months Ended
	June 30,					June 30,
($ in thousands)	2014		2013			2014		2013
Commercial Insurance segment	$	38,838	$	241,137		$	98,266	$	501,373
Assumed Reinsurance segment		15,532		45,548			31,565		94,913
Personal Insurance segment		60,776		133,224			110,337		254,096
Total segment revenues		115,146		419,909			240,168		850,382
Net investment income		10,210		28,402			25,568		58,719
Net realized gains (losses) on investments, including other-than-temporary impairments		13,438		(2,034	)		35,701		4,817
Insurance services revenue and other		48		5,192			613		5,322
Consolidated revenues	$	138,842	$	451,469		$	302,050	$	919,240

The following table reconciles the results of the Company’s individual segments to consolidated income before income taxes:

	Three Months Ended						Six Months Ended
	June 30,						June 30,
($ in thousands)	2014			2013			2014			2013
Commercial Insurance segment underwriting profit (loss)	$	(46,114	)	$	(322,782	)	$	(101,678	)	$	(331,831	)
Assumed Reinsurance segment underwriting profit (loss)		879			(9,282	)		13,632			2,930
Personal Insurance segment underwriting profit (loss)		(16,237	)		14,035			(42,437	)		3,426
Net investment income		10,210			28,402			25,568			58,719
Net realized gains on investments, including other-than-temporary impairments		13,438			(2,034	)		35,701			4,817
Corporate and other		(5,683	)		(2,299	)		(17,572	)		(5,239	)
Acquisition-related transaction costs		(2,397	)		(665	)		(3,043	)		(19,721	)
Interest expense		(7,322	)		(7,635	)		(14,332	)		(15,443	)
Goodwill and fixed asset impairment		-			(214,049	)		-			(214,049	)
Equity income in unconsolidated affiliate		-			7,838			-			7,966
Income before income taxes	$	(53,226	)	$	(508,471	)	$	(104,161	)	$	(508,425	)

Note 16—Contingencies

Legal Proceedings

On August 20, 2013, Robert P. Lang, a purported shareholder of Tower Group International Ltd. (“Tower”), filed a purported class action complaint (the “Lang Complaint”) against Tower and certain of its current and former officers in the United States District Court for the Southern District of New York. The Lang Complaint purports to be asserted on behalf of a class of persons who purchased Tower stock between July 30, 2012 and August 8, 2013. The Lang Complaint alleges that Tower and certain of its current and former officers violated federal securities laws and seeks unspecified damages. On September 3, 2013, a second purported shareholder class action complaint was filed by Dennis Feighay, another purported Tower shareholder, containing similar allegations to those set forth in the Lang Complaint (the “Feighay Complaint”). The Feighay Complaint purports to be asserted on behalf of a class of persons who purchased Tower stock between May 9, 2011 and August 7, 2013. On October 4, 2013, a third complaint was filed by Sanju Sharma (the “Sharma Complaint”). The Sharma Complaint names as defendants Tower and certain of its current and former officers, and purports to be asserted on behalf of a plaintiff class who purchased Tower stock between May 10, 2011 and September 17, 2013. On October 18, 2013, an amended complaint was filed in the Sharma case (the “Sharma Amended Complaint”). The Sharma Amended Complaint alleges additional false and misleading statements, and purports to be asserted on behalf of a plaintiff class who purchased Tower stock between March 1, 2011 and October 7, 2013. On October 21, 2013, a number of motions were filed seeking to consolidate the shareholder class actions into one matter and for appointment of a lead plaintiff. On June 17, 2014, the United States District Court for the Southern District of New York issued an order consolidating the Lang, Feighay, and Sharma actions (hereinafter the “Consolidated Securities Action”) and appointing Adar Enhanced Investment Fund, Ltd. and Adar Investment Fund, Ltd. (the “Adar Funds”) and Jacksonville Police and Fire Pension Fund, Oklahoma Firefighters Pension and Retirement System, and the Kansas City, Missouri Employees’ Retirement System (the “Public Pension Funds”) as co-lead plaintiffs in the Consolidated Securities Action and Bernstein Liebhard LLP, Saxena White P.A., and Bernstein Litowitz Berger & Grossmann LLP as co-lead counsel. On July 1, 2014, the Court entered a stipulation and order providing for the co-lead plaintiffs to file a Consolidated Class Action Complaint on August 22, 2014. The Company believes that it is not probable that the Consolidated Securities Action will result in a loss, and if it would result in a loss, that the amount of any such loss cannot reasonably be estimated.

34

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

On October 18, 2013, Cinium Financial Services Corporation (“Cinium”) and certain other affiliated parties (collectively, “Plaintiffs”) commenced an action against, among others, Tower, CastlePoint Insurance Company (“CastlePoint”), an indirect wholly owned subsidiary of Tower, and certain officers of Tower (the “New York Action”) in New York State Supreme Court. CastlePoint is a party to a Securityholders’ Agreement, dated as of June 14, 2012 (the “Securityholders’ Agreement”), among certain parties including Plaintiffs, and is also the holder of a senior note issued by Cinium dated May 15, 2012 that is convertible into shares of Cinium common stock (the “Senior Note”). On October 29, 2013, Plaintiffs filed a complaint which revised their initial pleading (the “Complaint”). Plaintiffs seek, among other things, (i) a declaratory judgment that CastlePoint has no right to exercise any control over Cinium under the Securityholders’ Agreement or to convert the Senior Note without prior regulatory approval; (ii) rescission of the Senior Note and Securityholders’ Agreement based on alleged fraudulent misrepresentations by Tower at the time these agreements were entered into; and (iii) damages of $150 million for alleged breach of fiduciary duties to Cinium and its shareholders by certain directors, and for alleged lender liability and fraudulent misrepresentation by the Company.

On April 22, 2014, counsel for Plaintiffs notified counsel for defendants of its intent to file a stipulation of discontinuance without prejudice of the New York Action within thirty days. On June 2, 2014, counsel for Plaintiffs filed a notice of discontinuance without prejudice against all defendants in the New York Action.

Tower received a document request from the U.S. Securities and Exchange Commission (the “SEC”) dated January 13, 2014, as part of an informal inquiry (the “SEC Request”). The SEC Request asks for documents related to Tower’s financial statements, accounting policies, and analysis. Tower is cooperating with the SEC’s inquiry and has provided the requested information.

On January 14, 2014, Derek Wilson, a purported shareholder of Tower, filed a purported class action complaint (the “Wilson Complaint”) against Tower, certain of its current and former directors, ACP Re Ltd. (“ACP Re”), London Acquisition Company Limited (“Merger Sub”), and AmTrust Financial Services, Inc. (“AmTrust”) in the United States District Court for the Southern District of New York. The Wilson Complaint alleges that the members of the Company’s Board of Directors breached their fiduciary duties owed to the shareholders of Tower under Bermuda law by approving Tower’s entry into the ACP Re Merger Agreement and failing to take steps to maximize the value of Tower to its public shareholders, and that Tower, ACP Re, Merger Sub, and AmTrust aided and abetted such breaches of fiduciary duties. The Wilson Complaint also alleges, among other things, that the proposed transaction undervalues Tower, that the process leading up to the ACP Re Merger Agreement was flawed, and that certain provisions of the ACP Re Merger Agreement improperly favor ACP Re and discourage competing offers for the Company. The Wilson Complaint further alleges oppressive conduct by the directors against Tower’s shareholders in violation of Bermuda law. The Wilson Complaint seeks, among other things, declaratory and injunctive relief concerning the alleged fiduciary breaches, injunctive relief prohibiting the defendants from consummating the proposed transaction, rescission of the ACP Re Merger Agreement to the extent already implemented, and other forms of equitable relief. On February 27, 2014, the same purported shareholder filed an amended complaint alleging, in addition, that the Company and the directors disseminated a materially false and misleading preliminary proxy statement regarding the ACP Re Merger Agreement in violation of Sections 14(a) and 20(a) of the Exchange Act and Rule 14a-9 promulgated thereunder (the “Wilson Amended Complaint”).

On March 3, 2014, another purported shareholder filed a purported class action complaint against the Company, certain of its current and former officers and directors, ACP Re, Merger Sub, and AmTrust, also in the United States District Court for the Southern District of New York (the “Raul Complaint”). The Raul Complaint alleges that the defendants disseminated a materially false and misleading preliminary proxy statement regarding the ACP Re Merger Agreement in violation of sections 14(a) and 20(a) of the Exchange Act and Rule 14a-9.

On May 12, 2014, the United States District Court for the Southern District of New York issued an order consolidating the Wilson and Raul actions (hereinafter the “Consolidated Federal Action”). On May 22, 2014, the Court issued an order appointing Wilson and George Strum, another purported shareholder of the Company, as co-lead plaintiffs in the Consolidated Federal Action and appointing Robbins Arroyo LLP and WeissLaw LLP as co-lead counsel.

On March 24, 2014, two purported shareholders of the Company filed a purported class action and shareholder derivative complaint against the Company, certain of its current and former officers and directors, and Tower Group, Inc. in the Supreme Court of the State of New York, County of New York (the “Bekkerman Complaint” and, together with the Wilson Amended Complaint and the Raul Complaint, the “Merger Complaints”). The Bekkerman Complaint alleges, among other things, that the members of the Company’s board of directors breached their fiduciary duties owed to the shareholders of the Company by failing to exercise appropriate oversight over the conduct of the Company’s business, awarding Michael Lee excessive compensation, approving the Company’s entry into the ACP Re Merger Agreement, failing to take steps to maximize the value of the Company to its public shareholders, and misrepresenting or omitting material information in connection with the proposed transaction, and that the Company and Tower Group, Inc. aided and abetted such breaches of fiduciary duties. The Bekkerman Complaint also alleges, among other things, that Lee was unjustly enriched as a result of the compensation he received while allegedly breaching

35

Tower Group International, Ltd.

Notes to Consolidated Financial Statements (Unaudited)

his fiduciary duties and by selling stock while in the possession of material, adverse, non-public information. The Bekkerman Complaint seeks, among other things, an award of money damages, declaratory and injunctive relief concerning the alleged fiduciary breaches, injunctive relief prohibiting the defendants from consummating the proposed transaction, rescission of the ACP Re Merger Agreement to the extent already implemented, and other forms of equitable relief. On May 16, 2014, the defendants removed the Bekkerman action to the United States District Court for the Southern District of New York, and requested that it be designated as related to the Consolidated Federal Action. On June 3, 2014, the United States District Court for the Southern District of New York accepted the designation of the Bekkerman Complaint as related to the Consolidated Federal Action. On July 21, 2014, the Court issued an order consolidating the Bekkerman action into the Consolidated Federal Action for all purposes.

On July 25, 2014, the defendants reached an agreement in principle with the plaintiffs to settle the Consolidated Federal Action. The settlement remains subject to appropriate documentation by the parties and approval by the Court. As part of the settlement, the Company agreed to make certain supplemental disclosures to Tower shareholders on Form 8-K, which was filed with the SEC on July 28, 2014. As set forth therein, the defendants deny all fault or liability and deny that they have committed any of the unlawful or wrongful acts alleged in the Merger Complaints or otherwise in relation to the Merger Agreement, or any of the events or actions related thereto, and specifically deny that any further disclosure was required to supplement the Proxy Statement under any applicable rule, statute, regulation or law. The Company agreed to provide those supplemental disclosures solely to minimize the cost of defending the litigation and to permit the special general meeting and stockholder vote to proceed without delay.

On July 29, 2014, the Court ordered that the Consolidated Federal Action be discontinued with prejudice but without costs, providing, however, that counsel for plaintiffs could apply by letter for restoration of the action to the calendar within 30 days of the order, in which event the action will be restored. The Company believes that it is not probable that the Merger Complaints will result in a loss, and if they would result in a loss, that the amount of any such loss cannot reasonably be estimated.

From time to time, the Company is involved in other various legal proceedings in the ordinary course of business. The Company does not believe that the resolution of any currently pending legal proceedings, either individually or taken as a whole, will have a material adverse effect on its business, results of operations or financial condition.

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

Note on Forward-Looking Statements

Some of the statements under “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Business” and elsewhere in this Form 10-Q may include forward-looking statements that reflect our current views with respect to future events and financial performance. These statements include forward-looking statements both with respect to us specifically and to the insurance sector in general. Statements that include the words “expect,” “intend,” “plan,” “believe,” “project,” “estimate,” “may,” “should,” “anticipate,” “will” and similar statements of a future or forward-looking nature identify forward-looking statements for purposes of the Federal securities laws or otherwise.

All forward-looking statements address matters that involve risks and uncertainties. Accordingly, there are, or will be, important factors that could cause our actual results to differ materially from those indicated in these statements. We believe that these factors include, but are not limited to, those described under “Risk Factors” and the following:

• changes in our financial strength or credit ratings could impact our ability to write new business, the cost of, and our ability to obtain, capital or our ability to attract and retain brokers, agents and customers;

• further decreases in the capital and surplus of our insurance subsidiaries and their ability to meet minimum capital and surplus requirements;

• changes in our ability to raise additional capital;

• the implementation and effectiveness of our capital improvement strategy;

• Tower’s ability to continue operating as a going concern;

• changes in our ability to meet ongoing cash requirements and pay dividends;

• greater frequency or severity of claims and loss activity, including as a result of natural or man-made catastrophic events, than our underwriting, reserving or investment practices anticipate based on historical experience or industry data;

• changes in the availability, cost or quality of reinsurance and failure of our reinsurers to pay claims timely or at all;

• changes in the availability, cost or quality of reinsurance or retrocessional coverage;

• decreased demand for our insurance or reinsurance products;

• increased competition on the basis of pricing, capacity, coverage terms or other factors;

• ineffectiveness or obsolescence of our business strategy due to changes in current or future market conditions;

• currently pending or future litigation or governmental proceedings;

• developments that may delay or limit our ability to enter new markets as quickly as we anticipate;

• loss of the services of any of our executive officers or other key personnel;

• changes in acceptance of our products and services, including new products and services;

• developments in the world’s financial and capital markets that could adversely affect the performance of our investments;

• the effects of acts of terrorism or war;

• changes in general economic conditions, including inflation, interest rates and other factors which could impact our performance and the performance of our investment portfolio;

• changes in accounting policies or practices;

• changes in legal theories of liability under our insurance policies;

• changes in rating agency policies or practices;

• declining demand for reinsurance due to increased retentions by cedents and other factors;

• a lack of opportunities to increase writings in Tower’s reinsurance lines of business and in specific areas of the reinsurance market;

• changes in the percentage of our premiums written that we cede to reinsurers;

• changes in regulations or laws applicable to us, our subsidiaries, brokers or customers, including regulatory limitations and restrictions on the declaration and payment of dividends and capital adequacy standards;

• the Bermudian regulatory system, and potential changes thereto;

• risks and uncertainties associated with technology, data security or outsourced services that could negatively impact our ability to conduct our business or adversely impact our reputation;

37

• the effects of mergers, acquisitions or divestitures;

• disruptions in Tower’s business arising from the integration of acquired businesses into Tower and the anticipation of potential or pending acquisitions or mergers; and

• any changes concerning the conditions, terms, termination, or closing of the merger with ACP Re.

The foregoing review of important factors should not be construed as exhaustive and should be read in conjunction with the other cautionary statements that are included in this Form 10-Q. We undertake no obligation to publicly update or review any forward-looking statement, whether as a result of new information, future developments or otherwise.

If one or more of these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may vary materially from what we project. Any forward-looking statements you read in this Form 10-Q reflect our views as of the date of this Form 10-Q with respect to future events and are subject to these and other risks, uncertainties and assumptions relating to our operations, results of operations, growth strategy and liquidity. All subsequent written and oral forward-looking statements attributable to us or individuals acting on our behalf are expressly qualified in their entirety by this paragraph. Before making an investment decision, you should specifically consider all of the factors identified in this Form 10-Q that could cause actual results to differ.

Overview

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to assist readers in understanding the interim consolidated results of operations and financial condition of Tower Group International, Ltd. and its subsidiaries (the “Company” or “Tower”) and should be read in conjunction with the interim consolidated financial statements and notes thereto included under Part I, Item 1 of this Form 10-Q, as well as the MD&A contained in Tower’s Annual Report on Form 10-K for the year ended December 31, 2013 (the “2013 Form 10-K”). References to “we,” “our,” “us” or similar terms refer to the business of Tower.

Tower, through its subsidiaries, offers a range of general commercial, specialty commercial and personal property and casualty insurance products and services to businesses in various industries and to individuals throughout the United States. We provide these products on both an admitted and an excess and surplus (“E&S”) lines basis. Insurance companies writing on an admitted basis are licensed by the states in which they sell policies and are required to offer policies using premium rates and forms that are filed with state insurance regulators. Non-admitted carriers writing in the E&S market are not bound by most of the rate and form regulations imposed on standard market companies, allowing them the flexibility to change the coverage offered and the rate charged without the time constraints and financial costs associated with the filing process.

See “Note 1 – Nature of Business, Significant Business Developments and Risks and Uncertainties” in the Notes to the Consolidated Financial Statements for discussion on significant events impacting Tower’s results of operations.

Critical Accounting Estimates

As of June 30, 2014, there were no material changes to our accounting policies on critical accounting estimates; refer to the Company’s 2013 Annual Report on Form 10-K for a complete discussion of critical accounting estimates.

Critical Accounting Policies and New Accounting Standards Not Yet Adopted

See “Note 2 – Accounting Policies and Basis of Presentation” for information related to our significant accounting policies, including details of policies that were adopted during the six months ended June 30, 2014.

38

Consolidating Supplemental Information

The following tables present the consolidating financial statements as of June 30, 2014 and December 31, 2013 and for three and six months ended June 30, 2014 and 2013:

	June 30, 2014
($ in thousands)	Tower			Reciprocal Exchanges			Eliminations			Total
Assets
Investments
Available-for-sale investments, at fair value:
Fixed-maturity securities	$	1,203,335		$	231,044		$	-		$	1,434,379
Equity securities		12,791			2,772			-			15,563
Short-term investments		2,000			-			-			2,000
Other invested assets		132,817			-			(77,200	)		55,617
Total investments		1,350,943			233,816			(77,200	)		1,507,559
Cash and cash equivalents		247,484			17,366			-			264,850
Investment income receivable		34,421			1,980			(26,716	)		9,685
Premiums receivable		223,588			45,439			(2,307	)		266,720
Reinsurance recoverable on paid losses		48,423			3,922			(1,064	)		51,281
Reinsurance recoverable on unpaid losses		441,213			23,326			(9,067	)		455,472
Prepaid reinsurance premiums		440,193			26,285			(3,790	)		462,688
Deferred acquisition costs, net		(121	)		10,841			-			10,720
Intangible assets		73,327			6,104			-			79,431
Funds held by reinsured companies		77,289			-			-			77,289
Other assets		272,575			1,307			(8,022	)		265,860
Total assets	$	3,209,335		$	370,386		$	(128,166	)	$	3,451,555
Liabilities
Loss and loss adjustment expenses	$	1,887,301		$	109,324		$	(9,067	)	$	1,987,558
Unearned premium		533,772			111,274			(3,790	)		641,256
Reinsurance balances payable		152,098			8,927			(3,371	)		157,654
Funds held under reinsurance agreements		81,999			22			-			82,021
Other liabilities		169,989			54,339			(34,938	)		189,390
Deferred income taxes		10,677			19,181			-			29,858
Debt		384,373			77,000			(77,000	)		384,373
Total liabilities		3,220,209			380,067			(128,166	)		3,472,110
Shareholders’ equity
Common stock		574			-			-			574
Treasury stock		(88	)		-			-			(88	)
Paid-in-capital		815,096			9,400			(9,400	)		815,096
Accumulated other comprehensive income (loss)		(30,740	)		5,130			(5,130	)		(30,740	)
Retained earnings (accumulated deficit)		(795,816	)		(24,211	)		24,211			(795,816	)
Noncontrolling interests		100			-			(9,681	)		(9,581	)
Total shareholders’ equity		(10,874	)		(9,681	)		-			(20,555	)
Total liabilities and shareholders’ equity	$	3,209,335		$	370,386		$	(128,166	)	$	3,451,555

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	December 31, 2013
($ in thousands)	Tower			Reciprocal Exchanges			Eliminations			Total
Assets
Investments
Available-for-sale investments, at fair value:
Fixed-maturity securities	$	1,390,146		$	252,549		$	-		$	1,642,695
Equity securities		104,107			2,523			-			106,630
Short-term investments		5,897			-			-			5,897
Other invested assets		173,355			-			(77,200	)		96,155
Total investments		1,673,505			255,072			(77,200	)		1,851,377
Cash and cash equivalents		288,214			5,684			-			293,898
Investment income receivable		38,564			2,325			(23,396	)		17,493
Premiums receivable		267,151			44,878			(2,530	)		309,499
Reinsurance recoverable on paid losses		66,974			3,028			(1,039	)		68,963
Reinsurance recoverable on unpaid losses		555,468			25,208			(9,816	)		570,860
Prepaid reinsurance premiums		164,250			26,514			(4,288	)		186,476
Deferred acquisition costs, net		85,485			9,611			-			95,096
Intangible assets		73,599			6,337			-			79,936
Funds held by reinsured companies		98,816			-			-			98,816
Other assets		391,258			1,395			(9,522	)		383,131
Total assets	$	3,703,284		$	380,052		$	(127,791	)	$	3,955,545
Liabilities
Loss and loss adjustment expenses	$	1,973,970		$	117,131		$	(9,816	)	$	2,081,285
Unearned premium		657,045			110,355			(4,288	)		763,112
Reinsurance balances payable		84,948			8,441			(3,569	)		89,820
Funds held under reinsurance agreements		222,137			22			-			222,159
Other liabilities		268,937			50,352			(33,118	)		286,171
Deferred income taxes		10,327			19,181			-			29,508
Debt		382,770			77,000			(77,000	)		382,770
Total liabilities		3,600,134			382,482			(127,791	)		3,854,825
Shareholders’ equity
Common stock		574			-			-			574
Treasury stock		(39	)		-			-			(39	)
Paid-in-capital		815,119			9,400			(9,400	)		815,119
Accumulated other comprehensive income		(19,507	)		1,338			(1,338	)		(19,507	)
Retained earnings (accumulated deficit)		(700,596	)		(13,168	)		13,168			(700,596	)
Noncontrolling interests		7,599			-			(2,430	)		5,169
Total shareholders’ equity		103,150			(2,430	)		-			100,720
Total liabilities and shareholders’ equity	$	3,703,284		$	380,052		$	(127,791	)	$	3,955,545

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	Three Months Ended June 30,
	2014												2013
($ in thousands)	Tower			Reciprocal Exchanges			Elimina- tions			Total			Tower			Reciprocal Exchanges			Elimina- tions			Total
Net premiums written	$	26,988		$	41,800		$	-		$	68,788		$	359,807		$	42,776		$	-		$	402,583
Revenues
Net premiums earned	$	54,539		$	40,128		$	-		$	94,667		$	376,554		$	41,810		$	-		$	418,364
Ceding commission revenue		15,826			2,311			(417	)		17,720			(285	)		1,830			1,339			2,884
Insurance services revenue		7,773			-			(7,725	)		48			8,804			-			(8,272	)		532
Policy billing fees		2,622			137			-			2,759			3,287			34			-			3,321
Net investment income		10,065			1,812			(1,667	)		10,210			27,611			2,459			(1,668	)		28,402
Total net realized investment gains (losses)		13,405			33			-			13,438			(2,243	)		209			-			(2,034	)
Total revenues		104,230			44,421			(9,809	)		138,842			413,728			46,342			(8,601	)		451,469
Expenses
Loss and loss adjustment expenses		66,573			28,332			-			94,905			537,435			22,457			-			559,892
Commission expense		28,996			7,843			(417	)		36,422			91,202			6,387			1,339			98,928
Other operating expenses		46,918			11,829			(7,725	)		51,022			79,948			14,933			(8,272	)		86,609
Acquisition-related transaction costs		2,397			-			-			2,397			665			-			-			665
Interest expense		7,322			1,667			(1,667	)		7,322			7,640			1,663			(1,668	)		7,635
Total expenses		152,206			49,671			(9,809	)		192,068			716,890			45,440			(8,601	)		753,729
Other income (expense)
Equity in income (loss) of unconsolidated affiliate		-			-			-			-			7,838			-			-			7,838
Goodwill and fixed asset impairment		-			-			-			-			(214,049	)		-			-			(214,049	)
Income (loss) before income taxes		(47,976	)		(5,250	)		-			(53,226	)		(509,373	)		902			-			(508,471	)
Income tax expense (benefit)		766			-			-			766			(2,031	)		101			-			(1,930	)
Net income (loss)	$	(48,742	)	$	(5,250	)	$	-		$	(53,992	)	$	(507,342	)	$	801		$	-		$	(506,541	)
Net income (loss) attributable to Noncontrolling interests		-			(5,250	)		-			(5,250	)		-			801			-			801
Net income (loss) attributable to Tower Group International, Ltd.	$	(48,742	)	$	-		$	-		$	(48,742	)	$	(507,342	)	$	-		$	-		$	(507,342	)
Ratios
Net loss and LAE		122.1	%		70.6	%					100.3	%		142.7	%		53.7	%					133.8	%
Net underwriting expenses		80.7	%		43.0	%					64.7	%		41.7	%		46.5	%					42.2	%
Net Combined		202.8	%		113.6	%					165.0	%		184.4	%		100.2	%					176.0	%

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	Six Months Ended June 30,
	2014												2013
($ in thousands)	Tower			Reciprocal Exchanges			Elimina- tions			Total			Tower			Reciprocal Exchanges			Elimina- tions			Total
Net premiums written		(272,008	)	$	80,151		$	-		$	(191,857	)	$	775,878		$	79,902		$	-		$	855,780
Revenues
Net premiums earned	$	127,208		$	79,003		$	-		$	206,211		$	757,438		$	82,812		$	-		$	840,250
Ceding commission revenue		24,548			4,789			(815	)		28,522			4,231			4,046			46			8,323
Insurance services revenue		15,691			-			(15,078	)		613			16,093			-			(15,433	)		660
Policy billing fees		5,194			241			-			5,435			6,134			337			-			6,471
Net investment income		24,762			4,127			(3,321	)		25,568			57,195			4,839			(3,315	)		58,719
Total net realized investment gains (losses)		32,205			3,496			-			35,701			3,990			827			-			4,817
Total revenues		229,608			91,656			(19,214	)		302,050			845,081			92,861			(18,702	)		919,240
Expenses
Loss and loss adjustment expenses		139,201			58,265			-			197,466			777,769			57,855			-			835,624
Commission Expense		46,496			15,790			(815	)		61,471			167,325			14,078			46			181,449
Other operating expenses		119,654			25,323			(15,078	)		129,899			156,786			27,992			(15,433	)		169,345
Acquisition-related transaction costs		3,043			-			-			3,043			19,721			-			-			19,721
Interest expense		14,332			3,321			(3,321	)		14,332			15,443			3,315			(3,315	)		15,443
Total expenses		322,726			102,699			(19,214	)		406,211			1,137,044			103,240			(18,702	)		1,221,582
Other income (expense)
Equity in income (loss) of unconsolidated affiliates		-			-			-			-			7,966			-			-			7,966
Goodwill and fixed asset impairment		-			-			-			-			(214,049	)		-			-			(214,049	)
Income (loss) before income taxes		(93,118	)		(11,043	)		-			(104,161	)		(498,046	)		(10,379	)		-			(508,425	)
Income tax expense (benefit)		1,729			-			-			1,729			(3,621	)		101			-			(3,520	)
Net income (loss)	$	(94,847	)	$	(11,043	)	$	-		$	(105,890	)	$	(494,425	)	$	(10,480	)	$	-		$	(504,905	)
Net income (loss) attributable to Noncontrolling interests		373			(11,043	)		-			(10,670	)		-			(10,480	)		-			(10,480	)
Net income (loss) attributable to Tower Group International, Ltd.	$	(95,220	)	$	-		$	-		$	(95,220	)	$	(494,425	)	$	-		$	-		$	(494,425	)
Ratios
Net loss and LAE		109.4	%		73.8	%					95.8	%		102.7	%		69.9	%					99.4	%
Net underwriting expenses		81.1	%		45.7	%					67.5	%		38.6	%		45.5	%					39.3	%
Net Combined		190.5	%		119.5	%					163.3	%		141.3	%		115.4	%					138.7	%

Insurance Ratios

Net loss ratio. The net loss ratio is the ratio of losses and LAE incurred to net premiums earned and measures the underwriting results of a company’s insurance business. Our net loss ratio is meaningful in evaluating our financial results, which are net of ceded reinsurance, as reflected in our consolidated financial statements. In addition, we use accident year and calendar year loss ratios to measure our underwriting performance. An accident year loss ratio measures losses and LAE for insured events occurring in a particular year, regardless of when they are reported, as a percentage of premiums earned during that particular accident year. A calendar year loss ratio measures losses and LAE for insured events occurring during a particular year and the changes in estimates in loss and LAE reserves from prior accident years as a percentage of premiums earned during that particular calendar year.

Net underwriting expense ratio. We calculate our net underwriting expense ratio after the effect of ceded reinsurance and policy billing fees. Ceding commission revenue and policy billing fees are applied to reduce our underwriting expenses in our insurance company operation. As discussed below, this is a non-GAAP measure.

Net combined ratio. We use the net combined ratio to measure our underwriting performance. The net combined ratio is the sum of the net loss ratio and the net underwriting expense ratio. If the net combined ratio is at or above 100%, an insurance company is not underwriting profitably and may not be profitable unless investment income is sufficient to offset underwriting losses. As discussed below, this is a non-GAAP measure.

Non-GAAP measures. The net underwriting expense ratio and net combined ratio are considered non-GAAP financial measures under applicable SEC rules because a component of those ratios, net underwriting expense, is calculated by reducing our underwriting expenses in our insurance companies’ operations with ceding commission revenues and policy billing fees. As discussed above, the Company uses these ratios to evaluate financial performance against historical results and establish targets on a consolidated basis. Other companies may calculate these measures differently, and, therefore, their measures may not be comparable to those used by the Company.

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Consolidated Results of Operations

Our results of operations are discussed below in two parts, consolidated results of operations and the results of each of our three segments.

Consolidated Results of Operations for the Three and Six Months Ended June 30, 2014 and 2013

Total revenues. Total revenues decreased by 69.2% and 67.1%, respectively for the three and six months ended June 30, 2014 compared to the same periods in 2013. These decreases are primarily attributable to the significant decline in net premiums earned offset by an increase in ceding commission revenues. In 2014, Tower has reinsured the majority of its business to AmTrust and NGHC through the Cut-Through Reinsurance Agreements.

Premiums earned. Net premiums earned for the three months ended June 30, 2014 and 2013 were $94.7 million and $418.4 million, respectively. The decrease of 77.4% for the three months ended June 30, 2014 compared to the same period in 2013 is directly attributable to $154.9 million of earned premiums ceded to AmTrust and NGHC as a result of the Cut-Through Reinsurance Agreement and to $35.0 million of earned premiums ceded relating to the quota share reinsurance agreements executed in the third and fourth quarters of 2013 with other unaffiliated entities. In addition, as a result of the rating agency downgrades, Tower’s premiums written have declined in the fourth quarter 2013 and first two quarters of 2014, resulting in a reduction in gross premiums earned.

Net premiums earned for the six months ended June 30, 2014 and 2013 were $206.2 million and $840.3 million, respectively. The decrease of 75.5% for the six months ended June 30, 2014 compared to the same period in 2013 is directly attributable to $317.8 million of earned premiums ceded to AmTrust and NGHC as a result of the Cut-Through Reinsurance Agreement and to $77.2 million of earned premiums ceded relating to the quota share reinsurance agreements executed in the third and fourth quarters of 2013 with other unaffiliated entities. In addition, as a result of the rating agency downgrades, Tower’s premiums written have declined in the fourth quarter 2013 and first two quarters of 2014, resulting in a reduction in gross premiums earned.

Commission and fee income. Commission and fee income, comprised of ceding commission revenue, insurance services revenue and policy billing fees, increased by $13.8 million in the three months ended June 30, 2014 compared to the same period in 2013. The increase is due primarily to ceding commission revenue earned on the Cut-Through Reinsurance Agreements.

Commission and fee income increased by $19.1 million in the six months ended June 30, 2014 compared to the same period in 2013. The increase is due primarily to ceding commission revenue earned on the Cut-Through Reinsurance Agreements.

Net investment income and net realized gains (losses). For the three months ended June 30, 2014, net investment income decreased $18.2 million compared to the same period in 2013, primarily due to lower investment balances in 2014 compared to 2013. Investment balances have declined due to the previously discussed significant events that impacted Tower in 2013. In addition, the Company has disposed of certain of its invested assets in the first and second quarters of 2014, generating net realized gains but reducing net investment income.

Net realized investment gains (losses), including OTTI, for the three months ended June 30, 2014 and 2013 were $13.4 million and $(2.0) million, respectively. The 2014 gains are primarily a function of the invested assets selected for sale by us to enhance our statutory capital position or when cash needs arise in the ordinary course of business.

For the three months ended June 30, 2014, $1.0 million of OTTI losses were recorded in net income compared to $4.5 million in 2013. The OTTI for the three months ended June 30, 2014 is related mostly to securities in the Company’s equity security portfolio.

For the six months ended June 30, 2014, net investment income decreased $33.2 million compared to the same period in 2013, primarily due to lower investment balances in 2014 compared to 2013. Investment balances have declined due to the previously discussed significant events that impacted Tower in 2013. In addition, the Company has disposed of certain of its invested assets in the first and second quarters of 2014, generating net realized gains but reducing net investment income.

Net realized investment gains (losses), including OTTI, for the six months ended June 30, 2014 and 2013 were $35.7 million and $4.8 million, respectively. These gains are primarily a function of the invested assets selected for sale by us to enhance our statutory capital position or when cash needs arise in the ordinary course of business.

For the six months ended June 30, 2014, $2.0 million of OTTI losses were recorded in net income compared to $5.1 million in 2013. The OTTI for the six months ended June 30, 2014 is related mostly to securities in the Company’s equity security portfolio.

Loss and loss adjustment expenses. The consolidated net loss ratio, which includes the Reciprocal Exchanges, was 100.3% and 133.8% for the three months ended June 30, 2014 and 2013, respectively. Excluding the Reciprocal Exchanges, the net loss ratio was 122.1% and 142.7% for the three months ended June 30, 2014 and 2013, respectively. The Reciprocal Exchanges’ net loss ratio was 70.6% and 53.7% for the three months ended June 30, 2014 and 2013, respectively.

43

Incurred losses and LAE for the three months ended June 30, 2014 attributable to insured events of prior years were unfavorable by $26.6 million. Excluding the Reciprocal Exchanges, the incurred losses and LAE from prior accident years were $27.5 million. These prior accident year losses include unfavorable loss development of $25.7 million in the Commercial Insurance segment, favorable loss development of $2.5 million in the Assumed Reinsurance segment and unfavorable loss development of $3.4 million in the Personal Insurance segment for the three months ended June 30, 2014.

The consolidated net loss ratio, which includes the Reciprocal Exchanges, was 95.8% and 99.4% for the six months ended June 30, 2014 and 2013, respectively. Excluding the Reciprocal Exchanges, the net loss ratio was 109.4% and 102.7% for the six months ended June 30, 2014 and 2013, respectively. The Reciprocal Exchanges’ net loss ratio was 73.8% and 69.9% for the six months ended June 30, 2014 and 2013, respectively.

Incurred losses and LAE for the six months ended June 30, 2014 attributable to insured events of prior years were unfavorable by $33.6 million. Excluding the Reciprocal Exchanges, the incurred losses and LAE from prior accident years were unfavorable by $35.4 million. These prior accident year losses include $37.1 million of unfavorable losses from the Commercial Insurance segment, $6.1 million of favorable development from the Assumed Reinsurance segment, and unfavorable loss development of $2.6 million in the Personal Insurance segment for the six months ended June 30, 2014.

The 2014 unfavorable incurred loss and LAE activity from prior accident years arose primarily from CMP Liability, Commercial Auto Liability, Other Liability and Workers’ Compensation lines of business. Reported loss activity for these lines of business was higher than expected resulting in higher selected ultimates for prior accident years. Consistent with prior quarters, the Company performed a comprehensive update to the internal actuarial study. The Company also retained an independent consulting firm to peer review the internal reserve study.

Commission and Other Operating expenses. Operating expenses, which include commission expenses and other operating expenses, were $87.4 million for the three months ended June 30, 2014, a decrease of $98.1 million or 52.9% compared to the same period in 2013. This decrease is primarily due to a $62.5 million decrease in commission expense from 2013 to 2014 which is attributable to the decline in direct and assumed earned premiums in the first and second quarters of 2014 resulting from the rating agency downgrades and commission expense reimbursements under the Cut-Through Reinsurance Agreements. Other underwriting expenses (“OUE”), which includes boards, bureaus and taxes (“BB&T”), decreased by $35.6 million in the second quarter of 2014 compared to the second quarter of 2013 due to lower compensation, lower depreciation and intangible asset amortization, and lower BB&T. As a result of the reduction in premiums written, the number of the Company’s full time employees decreased to 1,072 at June 30, 2014 from 1,391 and 1,463 full-time employees as of December 31, 2013 and June 30, 2013, respectively.

The consolidated gross underwriting expense ratio decreased to 31.4% for the three months ended June 30, 2014 from 36.2% in the same period in 2013. The commission portion of the gross underwriting expense ratio decreased to 17.4% for the three month period ended June 30, 2014 compared to 19.0% in 2013. The gross OUE ratio was 14.0% for the three months ended June 30, 2014 compared to 16.5% in the prior year. The decrease in the consolidated gross underwriting expense ratios is directly related to the reduction in expenses being greater than the relative reduction in gross earned premiums. The majority of these gross earned premiums are ceded to AmTrust and National General under the Cut-Through Reinsurance Agreements.

Operating expenses, which include commission expenses and other operating expenses, were $191.4 million for the six months ended June 30, 2014, a decrease of $159.4 million or 45.4% compared to the same period in 2013. This decrease is primarily due to a $120.1 million, or 66.1%, decrease in commission expense from 2013 to 2014, and is attributable to the decline in direct and assumed earned premiums in the first and second quarters of 2014 resulting from the rating agency downgrades and commission expense reimbursements under the Cut-Through Reinsurance Agreements. OUE decreased by $39.4 million in the six months ended June 30, 2014 compared to the same period in 2013 as a result of the reduction in direct and assumed business written in 2014, and BB&T expense reimbursements under the Cut-Through Reinsurance Agreements. As a result of the reduction in premiums written, the number of the Company’s full time employees decreased to 1,072 at June 30, 2014 from 1,391 and 1,463 full-time employees as of December 31, 2013 and June 30, 2013, respectively.

The consolidated gross underwriting expense ratio decreased to 32.7% for the six months ended June 30, 2014 from 35.1% in the same period in 2013. The commission portion of the gross underwriting expense ratio decreased to 16.2% for the six month period ended June 30, 2014 compared to 18.5% for the same period in 2013. The gross OUE ratio was 16.5% for the six months ended June 30, 2014 compared to 16.2% for the same period in the prior year. The decrease in the consolidated gross underwriting expense ratios is directly related to the reduction in expenses being greater than the relative reduction in gross earned premiums. The majority of these gross earned premiums are ceded to AmTrust and National General under the Cut-Through Reinsurance Agreements.

44

Acquisition-related transaction costs. Acquisition-related transaction costs for the three and six months ended June 30, 2014 were $2.4 million and $3.0 million, respectively, compared to $0.7 million and $19.7 million for the three and six months ended June 30, 2013, respectively. Acquisition-related transaction costs in 2014 related primarily to bankers costs associated with the ACP Re Merger. Acquisition–related transaction costs in 2013 related primarily to costs associated with the Canopius Merger Transaction which was completed on March 13, 2013.

Interest expense. Interest expense decreased by $0.3 million and $1.1 million for the three months and six months ended June 30, 2014, respectively, compared to the same periods in 2013. The decline is mainly due to outstanding borrowings under the credit facility of $70.0 million in 2013. There were no such outstanding borrowings in 2014 as all borrowings under the credit facility were paid in full on December 13, 2013.

Goodwill Impairment. Tower had no goodwill in 2014. In the second quarter of 2013, the Company recorded a charge of $214.0 million to impair the goodwill allocated to its Commercial Insurance reporting unit. In the third quarter of 2013, the Company impaired the remaining goodwill balance on the Personal Insurance reporting unit.

Income tax expense. Tower is liable for federal income tax on its U.S. taxed insurance subsidiaries.

Tower, excluding the Reciprocal Exchanges, for the three and six months ended June 30, 2014, had income tax expense (benefits) of $0.8 million and $1.7 million, respectively, compared to $(2.0) million and $(3.6) million for the three and six months ended June 30, 2013. The change in income tax expense (benefit) is attributable to the change in pre-tax losses relating to the items discussed above. These losses resulted in net operating loss carryforwards in the deferred tax inventory of $205.4 million as of June 30, 2014.

Management in its judgment concluded that a full valuation allowance was required for the net deferred tax assets after its consideration of the cumulative three-year pre-tax loss in its U.S. taxed subsidiaries resulting from certain 2012 and 2013 pre-tax losses.

The Reciprocal Exchanges had pre-tax income (loss) for the three and six months ended June 30, 2014, of $(5.3) million and $(11.0) million, respectively. A full valuation had previously been recorded on the Reciprocal Exchanges. The Reciprocal Exchanges’ valuation allowance as of June 30, 2014 was $20.5 million.

Net income (loss). Net loss attributable to Tower Group International, Ltd. was $(48.7) million for the three months ended June 30, 2014 compared to net loss of $(507.3) million for the same period in 2013. The net loss in the second quarter of 2014 was driven primarily by a decline in earned premium without a proportionate decline in Tower’s OUE. The net loss in the second quarter of 2013 is related primarily to significant adverse loss development and goodwill impairment charges.

Net loss attributable to Tower Group International, Ltd. for the six months ended June 30, 2014 was $(95.2) million compared to a net loss of $(494.4) million for the same period in 2013. The net loss in the first six months of 2014 was driven primarily by a decline in earned premium without a proportionate decline in Tower’s OUE. The net loss in the first six months of 2013 is related primarily to significant adverse loss development and goodwill impairment charges.

45

Commercial Insurance Segment Results of Operations

	Three Months Ended June 30.												Six Months Ended June 30,
($ in thousands)	2014			2013			Change			Percent			2014			2013			Change			Percent
Net premiums written	$	1,524		$	229,213		$	(227,689	)		-99.3	%	$	(183,386	)	$	506,366			(689,752	)		-136.2	%
Revenues
Net premiums earned	$	35,896		$	247,495		$	(211,599	)		-85.5	%	$	91,669		$	505,913		$	(414,244	)		-81.9	%
Ceding commission revenue		1,678			(7,780	)		9,458			-121.6	%		4,057			(7,332	)		11,389			-155.3	%
Policy billing fees		1,264			1,422			(158	)		-11.1	%		2,540			2,792			(252	)		-9.0	%
Total revenue		38,838			241,137			(202,299	)		-83.9	%		98,266			501,373			(403,107	)		-80.4	%
Expenses
Net loss and loss adjustment expenses		48,897			470,284			(421,387	)		-89.6	%		112,868			647,287			(534,419	)		-82.6	%
Underwriting expenses
Commission expenses		14,911			44,161			(29,250	)		-66.2	%		33,173			88,495			(55,322	)		-62.5	%
Other underwriting expenses		21,144			49,474			(28,330	)		-57.3	%		53,903			97,422			(43,519	)		-44.7	%
Total underwriting expenses		36,055			93,635			(57,580	)		-61.5	%		87,076			185,917			(98,841	)		-53.2	%
Underwriting profit (loss)	$	(46,114	)	$	(322,782	)	$	276,668			-85.7	%	$	(101,678	)	$	(331,831	)	$	230,153			-69.4	%
Ratios
Net loss and LAE		136.2	%		190.0	%								123.1	%		127.9	%
Net underwriting expenses		92.2	%		40.4	%								87.8	%		37.6	%
Net Combined		228.4	%		230.4	%								210.9	%		165.5	%

Commercial Insurance Segment Results of Operations for the Three and Six Months Ended June 30, 2014 and 2013

Premiums. Net premiums written for the three months ended June 30, 2014 decreased $227.7 million and net premiums earned for the three months ended June 30, 2014 decreased $211.6 million compared to the same period in 2013. These changes are attributable primarily to the Cut-Through Reinsurance Agreement executed in the first quarter of 2014 and the transfer of the December 31, 2013 unearned premium reserve of $194.0 million. (The unearned premium reserve of $194.0 million was recorded as gross premiums written in 2013, and ceded premiums written in 2014.) In addition, as a result of the rating agency downgrades, Tower’s premiums written and earned premiums have declined in 2014 compared to the written and earned premiums in 2013.

Net premiums written for the six months ended June 30, 2014 decreased $689.8 million and net premiums earned for the six months ended June 30, 2014 decreased $414.2 million compared to the same period in 2013. These changes are attributable primarily to the Cut-Through Reinsurance Agreement executed in the first quarter of 2014 and the transfer of the December 31, 2013 unearned premium reserve of $194.0 million. (The unearned premium reserve of $194.0 million was recorded as gross premiums written in 2013, and as ceded premiums written in 2014.) In addition, as a result of the rating agency downgrades, Tower’s written and earned premiums have declined in 2014 compared to its written and earned premiums in 2013.

Ceding commission revenue. Ceding commission revenue increased for the three months ended June 30, 2014 by $9.5 million compared to the same period in 2013 as a result of significant return ceding commission revenue recorded in 2013 due to the adverse loss development recorded in the second quarter of 2013. In addition, 2014 ceding commission increased as a result of (i) the Cut-Through Reinsurance Agreement and (ii) the new reinsurance contracts entered into on July 1, 2013.

Ceding commission revenue increased for the six months ended June 30, 2014 by $11.4 million compared to the same period in 2013 as a result of significant return ceding commission revenue recorded in 2013 due to the adverse loss development recorded in the second quarter of 2013. In addition, 2014 ceding commission increased as a result of (i) the Cut-Through Reinsurance Agreement and (ii) the new reinsurance contracts entered into on July 1, 2013.

Net loss and loss adjustment expenses. The net calendar year loss ratios were 136.2% and 190.0% for the three months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the three months ended June 30, 2014 and 2013 were 64.6% and 60.1%, respectively. The net loss ratio for the three months ending June 30, 2014 was impacted by the substantial reduction in net earned premium due to increased cessions to quota share reinsurance including the Cut-Through Reinsurance Agreement, and by an increase to the net unallocated loss adjustment expense ratio which is partially offset by ceding commission revenue. Incurred loss and LAE attributable to insured events of prior years were $25.7 million for the three months ended June 30, 2014, due to increases in ultimate loss estimates resulting from the update of the Company’s actuarial study completed during the quarter. The increase in ultimate loss estimates arose primarily from higher than expected reported loss activity for the CMP Liability, Commercial Auto Liability, Other Liability, and Workers Compensation lines of business. The net loss ratio for the three months ended June 30, 2014 was impacted by the low premium volume remaining within the segment which resulted from the Cut-Through Reinsurance Agreement that was executed in the first quarter of 2014.

46

The net calendar year loss ratios were 123.1% and 127.9% for the six months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the six months ended June 30, 2014 and 2013 were 82.7% and 63.3%, respectively. The net loss ratio for the six months ending June 30, 2014 was impacted by the substantial reduction in net earned premium due to increased cessions to quota share reinsurance including the Cut-Through Reinsurance Agreement, and by an increase to the net unallocated loss adjustment expense ratio which is partially offset by ceding commission revenue. Incurred loss and LAE attributable to insured events of prior accident years was $37.1 million for the six months ended June 30, 2014. The increase in ultimate loss estimates arose primarily from higher than expected reported loss activity for the CMP Liability, Commercial Auto Liability, Other Liability, and Workers Compensation lines of business. The net loss ratio for the six months ended June 30, 2014 was impacted by the low premium volume remaining within the segment which resulted from the Cut-Through Reinsurance Agreement that was in executed in the first quarter of 2014.

Underwriting expenses. Underwriting expenses, which include direct commissions and other underwriting expenses, decreased by $57.6 million, or 61.5% for the three months ended June 30, 2014 compared to the same period in 2013. The net underwriting expense ratio increased 51.8 percentage points for the three months ended June 30, 2014 from the same period in 2013. The increase in the underwriting expense ratio is primarily attributable to the reduction in net premiums earned resulting from the Cut-Through Reinsurance Agreement.

The gross underwriting expense ratio, which excludes the effect of the Cut-Through Reinsurance Agreement, was 28.8% for the three months ended June 30, 2014 compared to 34.5% in the same period in 2013. The commission portion of the gross underwriting expense ratio, which is expressed as a percentage of gross premiums earned, was 15.9% for the three months ended June 30, 2014 compared to 16.9% for the same period in 2013. The OUE ratio, including BB&T, was 12.9% for the three months ended June 30, 2014 compared to 17.6% for the same period in 2013. The decrease in the OUE ratio is due to a decline in direct earned premium. Direct earned premiums declined as a result of the rating agency downgrades in the fourth quarter of 2013 and first quarter of 2014.

Underwriting expenses decreased by $98.8 million, or 53.2% for the six months ended June 30, 2014 compared to the same period in 2013. The net underwriting expense ratio increased 50.2 percentage points for the six months ended June 30, 2014 from the same period in 2013. The increase in the underwriting expense ratio is primarily attributable to the reduction in net premiums earned resulting from the Cut-Through Reinsurance Agreement.

The gross underwriting expense ratio, which excludes the effect of the Cut-Through Reinsurance Agreement, was 30.9% for the six months ended June 30, 2014 compared to 33.8% in the same period in 2013. The commission portion of the gross underwriting expense ratio, which is expressed as a percentage of gross premiums earned, was 15.8% for the six months ended June 30, 2014 compared to 16.6% for the same period in 2013. The OUE ratio, including BB&T, was 15.1% for the six months ended June 30, 2014 compared to 17.1% for the same period in 2013. The decrease in the OUE ratio is due to a decline in direct earned premium. Direct earned premiums declined as a result of the rating agency downgrades in the fourth quarter of 2013 and first quarter of 2014.

Underwriting profit (loss) and combined ratio. The underwriting loss and net combined ratios for the three months ended June 30, 2014 were $(46.1) million and 228.4%, respectively, compared to $(322.8) million and 230.4%, respectively, for the same period in 2013. The reduction in underwriting losses and combined ratio in the second quarter of 2014 is primarily attributable to the significant reserve development recorded in the second quarter of 2013, compared to the reserve development in 2014, offset by the decline in premiums earned, offset slightly by an increase in ceding commission revenue, as discussed above.

The underwriting loss and net combined ratios for the six months ended June 30, 2014 were $(101.7) million and 210.9%, respectively, compared to $(331.8) million and 165.5%, respectively, for the same period in 2013. The reduction in underwriting losses and increase in combined ratio in the first six months of 2014 is primarily attributable to the significant reserve development recorded in the second quarter of 2013, compared to the reserve development in 2014, offset by the decline in premiums earned, offset slightly by an increase in ceding commission revenue, as discussed above.

47

Assumed Reinsurance Segment Results of Operations

	Three Months Ended June 30,												Six Months Ended June 30,
($ in thousands)	2014			2013			Change			Percent			2014			2013			Change			Percent
Net premiums written	$	22,173		$	42,410		$	(20,237	)		-47.7	%	$	46,813		$	143,580		$	(96,767	)		-67.4	%
Revenues
Net premiums earned	$	15,532		$	45,548		$	(30,016	)		-65.9	%	$	31,565		$	94,913		$	(63,348	)		-66.7	%
Total revenue		15,532			45,548			(30,016	)		-65.9	%		31,565			94,913			(63,348	)		-66.7	%
Expenses
Net loss and loss adjustment expenses		5,407			28,088			(22,681	)		-80.7	%		7,815			47,448			(39,633	)		-83.5	%
Underwriting expenses
Commission expenses		7,348			25,223			(17,875	)		-70.9	%		5,051			42,390			(37,339	)		-88.1	%
Other underwriting expenses		1,898			1,519			379			25.0	%		5,067			2,145			2,922			136.2	%
Total underwriting expenses		9,246			26,742			(17,496	)		-65.4	%		10,118			44,535			(34,417	)		-77.3	%
Underwriting profit (loss)	$	879		$	(9,282	)	$	10,161			-109.5	%	$	13,632		$	2,930		$	10,702			365.3	%
Ratios
Net loss and LAE		34.8	%		61.7	%								24.8	%		50.0	%
Net underwriting expenses		59.5	%		58.7	%								32.1	%		46.9	%
Net Combined		94.3	%		120.4	%								56.9	%		96.9	%

Assumed Reinsurance Segment Results of Operations for the Three and Six Months Ended June 30, 2014 and 2013

Premiums. Net premiums written for the three months ended June 30, 2014 decreased $20.2 million and net premiums earned for the three months ended June 30, 2014 decreased $30.0 million compared to the same period in 2013. The decrease in the three months ended June 30, 2014 net premiums written and earned is attributable to the reduction in Lloyd’s Syndicate assumed reinsurance agreements executed by Tower in 2014. This is a result of the significant business developments that impacted Tower in 2013, including the rating agency downgrades which resulted in Tower not having the financial flexibility to continue to support this business. All of the Lloyd’s Syndicate assumed reinsurance business requires Tower to fund collateral in proportion to premiums assumed under the treaties, and currently Tower is unable to secure many treaties that it may still find attractive from an underwriting basis.

Net premiums written for the six months ended June 30, 2014 decreased $96.8 million and net premiums earned for the six months ended June 30, 2014 decreased $63.3 million compared to the same period in 2013. The decrease in the six months ended June 30, 2014 net premiums written and earned is attributable to the reduction in Lloyd’s Syndicate assumed reinsurance agreements executed by Tower in 2014. This is a result of the significant business developments that impacted Tower in 2013, including the rating agency downgrades which resulted in Tower not having the financial flexibility to continue to support this business.

Net loss and loss adjustment expenses. The net calendar year loss ratios were 34.8% and 61.7% for the three months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the three months ended June 30, 2014 and 2013 were 51.1% and 41.5%, respectively. Incurred losses and LAE attributable to insured events of prior years had a favorable loss development of $2.5 million for the three months ended June 30, 2014. The favorable development was primarily attributable to reduced ultimate loss estimates on several assumed reinsurance contracts covering property risks.

The net calendar year loss ratios were 24.8% and 50.0% for the six months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the six months ended June 30, 2014 and 2013 were 44.1% and 41.2%, respectively. Incurred losses and LAE attributable to insured events of prior years had a favorable loss development of $6.1 million for the six months ended June 30, 2014. The favorable development was primarily attributable to reduced ultimate loss estimates on several assumed reinsurance contracts covering property risks

Underwriting expenses. Underwriting expenses, which include assumed commissions and other underwriting expenses, decreased by $17.5 million, or 65.4% for the three months ended June 30, 2014 compared to the same period in 2013. The net underwriting expense ratio increased 0.8 percentage points for the three months ended June 30, 2014 from the same period in 2013. The increase in expense ratio is directly attributable to the decline in earned premiums. Nearly all of the assumed reinsurance segment expenses are commission related, and directly related to the volume of business earned. The assumed reinsurance segment has relatively low OUE and fixed overhead costs.

The gross underwriting expense ratio was 64.2% for the three months ended June 30, 2014 compared to 58.5% in the same period in 2013. The assumed commission portion of the gross underwriting expense ratio, which is expressed as a percentage of assumed premiums earned, was 51.0% for the three months ended June 30, 2014 compared to 55.2% for the same period in 2013.

48

Underwriting expenses decreased by $34.4 million, or 77.3% for the six months ended June 30, 2014 compared to the same period in 2013. The net underwriting expense ratio decreased 14.8 percentage points for the six months ended June 30, 2014 from the same period in 2013. The decline in expense ratio is directly attributable to the decline in earned premiums.

The gross underwriting expense ratio was 28.6% for the six months ended June 30, 2014 compared to 46.8% in the same period in 2013. The assumed commission portion of the gross underwriting expense ratio, which is expressed as a percentage of assumed premiums earned, was 14.3% for the six months ended June 30, 2014 compared to 44.6% for the same period in 2013. The assumed commission expense in the first six months of 2014 includes favorable movement for the change in estimate for prior period profit commission calculations and a reversal of an accrual for federal excise taxes for certain premiums that were returned from our Bermuda based insurance subsidiaries back to our U.S. based subsidiaries (which were recorded in the first quarter of 2014). These premiums were ceded to our Bermuda based insurance subsidiaries in 2013.

Underwriting profit (loss) and combined ratio. The underwriting gain and net combined ratio for the three months ended June 30, 2014 was $0.9 million and 94.3%, respectively, compared to $(9.3) million and 120.4%, respectively, for the same period in 2013. The increase in the underwriting gain is a result of the reduced net loss ratio in 2014.

The underwriting gain and net combined ratio for the six months ended June 30, 2014 was $13.6 million and 56.9%, respectively, compared to $2.9 million and 96.9%, respectively, for the same period in 2013. The increase in the underwriting gain is a result of the reduced net loss ratio in 2014.

49

Personal Insurance Segment Results of Operations

	Three Months Ended June 30,
	2014									2013
($ in thousands)	Tower			Reciprocal Exchanges			Total			Tower			Reciprocal Exchanges			Total			Change			Percent
Net premiums written	$	3,292		$	41,801		$	45,093		$	88,185		$	42,775		$	130,960		$	(85,867	)		-65.6	%
Revenues
Net premiums earned	$	3,112		$	40,127		$	43,239		$	83,512		$	41,809		$	125,321		$	(82,082	)		-65.5	%
Ceding commission revenue		14,168			1,874			16,042			2,836			3,168			6,004			10,038			167.2	%
Policy billing fees		1,358			137			1,495			1,865			34			1,899			(404	)		-21.3	%
Total revenue		18,638			42,138			60,776			88,213			45,011			133,224			(72,448	)		-54.4	%
Expenses
Net loss and loss adjustment expenses		12,268			28,333			40,601			39,063			22,457			61,520			(20,919	)		-34.0	%
Underwriting expenses
Commission expenses		6,737			7,426			14,163			17,154			7,725			24,879			(10,716	)		-43.1	%
Other underwriting expenses		10,420			11,829			22,249			17,857			14,933			32,790			(10,541	)		-32.1	%
Total underwriting expenses		17,157			19,255			36,412			35,011			22,658			57,669			(21,257	)		-36.9	%
Underwriting profit (loss)	$	(10,787	)	$	(5,450	)	$	(16,237	)	$	14,139		$	(104	)	$	14,035		$	(30,272	)		-215.7	%
Ratios
Net loss and LAE		394.2	%		70.6	%		93.9	%		46.8	%		53.7	%		49.1	%
Net underwriting expenses		52.4	%		43.0	%		43.7	%		36.3	%		46.5	%		39.7	%
Net Combined		446.6	%		113.6	%		137.6	%		83.1	%		100.2	%		88.8	%

50

Personal Insurance Segment Results of Operations (continued)

	Six Months Ended June 30,
	2014									2013
($ in millions)	Tower			Reciprocal Exchanges			Total			Tower			Reciprocal Exchanges			Total			Change			Percent
Net premiums written	$	(135,435	)	$	80,151		$	(55,284	)	$	125,933		$	79,901		$	205,834			(261,118	)		-126.9	%
Revenues
Net premiums earned	$	3,975		$	79,002		$	82,977		$	156,612		$	82,812		$	239,424			(156,447	)		-65.3	%
Ceding commission revenue		20,511			3,954			24,465			6,901			4,092			10,993			13,472			122.6	%
Policy billing fees		2,654			241			2,895			3,342			337			3,679			(784	)		-21.3	%
Total revenue		27,140			83,197			110,337			166,855			87,241			254,096			(143,759	)		-56.6	%
Expenses
Net loss and loss adjustment expenses		18,518			58,265			76,783			83,034			57,855			140,889			(64,106	)		-45.5	%
Underwriting expenses
Commission expenses		8,272			14,975			23,247			31,776			14,124			45,900			(22,653	)		-49.4	%
Other underwriting expenses		27,421			25,323			52,744			35,889			27,992			63,881			(11,137	)		-17.4	%
Total underwriting expenses		35,693			40,298			75,991			67,665			42,116			109,781			(33,790	)		-30.8	%
Underwriting profit (loss)	$	(27,071	)	$	(15,366	)	$	(42,437	)	$	16,156		$	(12,730	)	$	3,426		$	(45,863	)		-1338.7	%
Ratios
Net loss and LAE		465.9	%		73.8	%		92.5	%		53.0	%		69.9	%		58.8	%
Net underwriting expenses		315.2	%		45.7	%		58.6	%		36.7	%		45.5	%		39.7	%
Net combined		781.1	%		119.5	%		151.1	%		89.7	%		115.4	%		98.5	%

Personal Insurance Segment Results of Operations for the Three and Six Months Ended June 30, 2014 and 2013

Premiums. Net premiums written for the three months ended June 30, 2014 decreased $85.9 million and net premiums earned for the three months ended June 30, 2014 decreased $82.1 million compared to the same period in 2013. These declines are attributable primarily to the Cut-Through Reinsurance Agreement executed in the first quarter of 2014 and the transfer of the December 31, 2013 unearned premium reserve of $133.7 million. (The unearned premium reserve of $133.7 million was recorded as gross premiums written in 2013, and ceded premiums written in 2014.) In addition, as a result of the rating agency downgrades, Tower’s written and earned premiums have declined in 2014 compared to 2013.

Net premiums written for the six months ended June 30, 2014 decreased $261.1 million and net premiums earned for the six months ended June 30, 2014 decreased $156.4 million compared to the same period in 2013. These declines are attributable primarily to the Cut-Through Reinsurance Agreement executed in the first quarter of 2014 and the transfer of the December 31, 2013 unearned premium reserve of $133.7 million. (The unearned premium reserve of $133.7 million was recorded as gross premiums written in 2013, and ceded premiums written in 2014.) In addition, as a result of the rating agency downgrades, Tower’s written and earned premiums have declined in 2014 compared to 2013.

Ceding commission revenue. Ceding commission revenue increased by $10.0 million for the three months ended June 30, 2014 compared to the same period in 2013. The increase was the result of (i) the Cut-Through Reinsurance Agreement and (ii) a new homeowners quota share treaty executed in the fourth quarter of 2013.

Ceding commission revenue increased by $13.5 million for the six months ended June 30, 2014 compared to the same period in 2013. The increase was the result of (i) the Cut-Through Reinsurance Agreement and (ii) a new homeowners quota share treaty executed in the fourth quarter of 2013.

Net loss and loss adjustment expenses. For Personal Insurance, including the Reciprocal Exchanges, the net calendar year loss ratios were 93.9% and 49.1% for the three months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the three months ended June 30, 2014 and 2013 were 86.0% and 58.2%, respectively. The net loss ratio excluding the Reciprocal Exchanges for the period ending June 30, 2014 was impacted by the substantial reduction in net earned premium due to increased cessions to quota share reinsurance including the Cut-Through Reinsurance Agreements, and by an increase to the net unallocated loss adjustment expense ratio which is partially offset by ceding commission revenue. Estimates of prior accident year loss and loss expenses increased by $14.9 million for the three months ended June 30, 2014.

For Tower personal lines, excluding the Reciprocal Exchanges, the net calendar year loss ratios were 394.2% and 46.8% for the three months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the three months ended June 30, 2014 and 2013 were 256.1% and 52.8%, respectively. Estimates of prior accident year loss and loss expenses increased by $9.4 million for the three months ended June 30, 2014. The net loss ratio for the period ending June 30, 2014 was impacted by the low

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premium volume remaining within the segment which resulted from the Cut-Through Reinsurance Agreement that was in place for the quarter. The Reciprocal Exchanges’ net calendar year loss ratios were 70.6% and 53.7% for the three months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the three months ended June 30, 2014 and 2013 were 72.8% and 69.0%, respectively. Estimates of prior accident year loss and loss adjustment expenses increased by $5.5 million for the three months ended June 30, 2014.

For Personal Insurance, including the Reciprocal Exchanges, the net calendar year loss ratios were 92.5% and 58.8% for the six months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the six months ended June 30, 2014 and 2013 were 89.4% and 62.4%, respectively. The net loss ratio excluding the Reciprocal Exchanges for the period ending June 30, 2014 was impacted by the substantial reduction in net earned premium due to increased cessions to quota share reinsurance including the Cut-Through Reinsurance Agreements, and by an increase to the net unallocated loss adjustment expense ratio which is partially offset by ceding commission revenue. Estimates of prior accident year loss and loss expenses increased by $11.2 million for the six months ended June 30, 2014.

For Tower personal lines, excluding the Reciprocal Exchanges, the net calendar year loss ratios were 465.9% and 53.0% for the six months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the six months ended June 30, 2014 and 2013 were 354.2% and 58.6%, respectively. Estimates of prior accident year loss and loss expenses increased by $13.2 million for the six months ended June 30, 2014. The net loss ratio for the period ending June 30, 2014 was impacted by the low premium volume remaining within the segment which resulted from the Cut-Through Reinsurance Agreement that was in place for the quarter. The Reciprocal Exchanges’ net calendar year loss ratios were 73.8% and 69.9% for the six months ended June 30, 2014 and 2013, respectively. The accident year loss ratios for the six months ended June 30, 2014 and 2013 were 76.1% and 69.7%, respectively. Estimates of prior accident year loss and loss adjustment expenses decreased by $2.0 million for the six months ended June 30, 2014.

Underwriting expenses. Underwriting expenses, which include direct commissions and other underwriting expenses, decreased $21.3 million or 36.9% for the three months ended June 30, 2014 compared to the same period in 2013. The net underwriting expense ratio increased 4.0 percentage points in the three months ended June 30, 2014 compared to the same period in 2013. The increase in the underwriting expense ratio is primarily attributable to the reduction in net premiums earned resulting from the Cut-Through Reinsurance Agreement.

The gross underwriting expense ratio, which excludes the effect of the Cut-Through Reinsurance Agreement, was 31.5% and 32.8% for the three months ended June 30, 2014 and 2013, respectively. The commission portion of the gross underwriting expense ratio was 16.0% and 14.3% for the three months ended June 30, 2014 and 2013, respectively. The gross OUE ratio, which includes BB&T, was 15.4% and 18.5% for the three months ended June 30, 2014 and 2013, respectively. The decrease in the OUE ratio is due to a decline in direct earned premiums. Direct earned premiums declined as a result of the rating agency downgrades in the fourth quarter of 2013 and first quarter of 2014.

Underwriting expenses decreased $33.8 million or 30.8% for the six months ended June 30, 2014 compared to the same period in 2013. The net underwriting expense ratio increased 18.9 percentage points in the six months ended June 30, 2014 compared to the same period in 2013. The increase in the underwriting expense ratio is primarily attributable to the reduction in net premiums earned resulting from the Cut-Through Reinsurance Agreement.

The gross underwriting expense ratio, which excludes the effect of the Cut-Through Reinsurance Agreement, was 35.6% and 34.0% for the six months ended June 30, 2014 and 2013, respectively. The commission portion of the gross underwriting expense ratio was 16.9% and 15.1% for the six months ended June 30, 2014 and 2013, respectively. The gross OUE ratio, which includes BB&T, was 18.7% and 18.8% for the six months ended June 30, 2014 and 2013, respectively. The decrease in the OUE ratio is due to a decline in direct earned premiums. Direct earned premiums declined as a result of the rating agency downgrades in the fourth quarter of 2013 and first quarter of 2014.

Underwriting profit (loss) and combined ratio. The underwriting gains (loss) and net combined ratio was $(16.2) million and 137.6%, respectively, for the three months ended June 30, 2014 compared to $14.0 million and 88.8%, respectively, for the same period in 2013. The change in underwriting losses and combined ratio in the second quarter of 2014 is primarily attributable to the adverse loss development recorded, in addition to the decline in premiums earned, offset slightly by an increase in ceding commission revenue, as discussed above.

The underwriting gains (loss) and net combined ratio was $(42.4) million and 151.1%, respectively, for the six months ended June 30, 2014 compared to $3.4 million and 98.5%, respectively, for the same period in 2013. The increase in underwriting losses and combined ratio in the second quarter of 2014 is primarily attributable to the adverse loss development recorded, in addition to the decline in premiums earned, offset slightly by an increase in ceding commission revenue, as discussed above.

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Investments

Portfolio Summary

The following table presents a breakdown of the amortized cost, aggregate fair value and unrealized gains and losses by investment type as of June 30, 2014 and December 31, 2013:

	Cost or		Gross		Gross Unrealized Losses								% of
($ in thousands)	Amortized Cost		Unrealized Gains		Less than 12 Months			More than 12 Months			Fair Value		Fair Value
June 30, 2014
U.S. Treasury securities	$	457,224	$	1,236	$	(23	)	$	(2,974	)	$	455,463		31.4	%
U.S. Agency securities		98,877		1,313		(3	)		(25	)		100,162		6.9	%
Municipal bonds		237,595		11,312		(14	)		(688	)		248,205		17.1	%
Corporate and other bonds		344,354		10,383		(94	)		(617	)		354,026		24.4	%
Commercial, residential and asset-backed securities		270,495		6,779		(248	)		(503	)		276,523		19.0	%
Total fixed-maturity securities		1,408,545		31,023		(382	)		(4,807	)		1,434,379		98.8	%
Equity securities		16,120		250		-			(807	)		15,563		1.1	%
Short-term investments		2,000		-		-			-			2,000		0.1	%
Total, June 30, 2014	$	1,426,665	$	31,273	$	(382	)	$	(5,614	)	$	1,451,942		100.0	%
Tower	$	1,199,489	$	23,721	$	(343	)	$	(4,740	)	$	1,218,128
Reciprocal Exchanges		227,176		7,552		(39	)		(874	)		233,814
Total, June 30, 2014	$	1,426,665	$	31,273	$	(382	)	$	(5,614	)	$	1,451,942
December 31, 2013
U.S. Treasury securities	$	370,959	$	729	$	(7,726	)	$	-		$	363,962		20.7	%
U.S. Agency securities		110,362		1,420		(561	)		-			111,221		6.3	%
Municipal bonds		277,382		7,981		(5,056	)		(1,201	)		279,106		15.9	%
Corporate and other bonds		512,444		19,424		(4,360	)		(1,566	)		525,942		30.0	%
Commercial, residential and asset-backed securities		342,487		23,083		(1,644	)		(1,462	)		362,464		20.7	%
Total fixed-maturity securities		1,613,634		52,637		(19,347	)		(4,229	)		1,642,695		93.6	%
Equity securities		97,708		11,486		(2,313	)		(251	)		106,630		6.1	%
Short-term investments		5,925		-		(28	)		-			5,897		0.3	%
Total, December 31, 2013	$	1,717,267	$	64,123	$	(21,688	)	$	(4,480	)	$	1,755,222		100.0	%
Tower	$	1,465,039	$	56,480	$	(19,335	)	$	(2,034	)	$	1,500,150
Reciprocal Exchanges		252,228		7,643		(2,353	)		(2,446	)		255,072
Total, December 31, 2013	$	1,717,267	$	64,123	$	(21,688	)	$	(4,480	)	$	1,755,222

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Credit Rating of Fixed-Maturity Securities

The average credit rating of our fixed-maturity securities, using ratings assigned to securities by Standard & Poor’s, Moody’s and Fitch, was AA- at June 30, 2014 and A+ at December 31, 2013. The following table shows the ratings distribution of our fixed-maturity portfolio:

	Tower					Reciprocal Exchanges
($ in thousands)	Fair Value		Percentage of Fair Value			Fair Value		Percentage of Fair Value
June 30, 2014
Rating
U.S. Treasury securities	$	432,614		36.0	%	$	22,849		9.9	%
AAA		90,032		7.5	%		33,718		14.6	%
AA		448,077		37.2	%		30,740		13.3	%
A		193,217		16.1	%		67,693		29.3	%
BBB		29,890		2.5	%		46,329		20.1	%
Below BBB		9,509		0.7	%		29,711		12.8	%
Total	$	1,203,339		100.0	%	$	231,040		100.0	%
December 31, 2013
Rating
U.S. Treasury securities	$	347,897		25.0	%	$	16,065		6.4	%
AAA		100,429		7.2	%		44,157		17.5	%
AA		429,975		31.0	%		32,617		12.8	%
A		229,774		16.5	%		75,911		30.1	%
BBB		131,596		9.5	%		51,028		20.2	%
Below BBB		150,475		10.8	%		32,771		13.0	%
Total	$	1,390,146		100.0	%	$	252,549		100.0	%

Municipal Bonds

As of June 30, 2014, our municipal bonds consisted of state general obligations, municipal general obligations and special revenue bonds. Municipal bonds by state at June 30, 2014 are as follows:

	State General				Municipal General				Special
	Obligations				Obligations				Revenue Bonds				Total
	Amortized		Fair		Amortized		Fair		Amortized		Fair		Amortized		Fair
($ in thousands)	Cost		Value		Cost		Value		Cost		Value		Cost		Value
Texas	$	4,344	$	4,678	$	500	$	542	$	30,535	$	32,437	$	35,379	$	37,657
New York		4,521		4,523		9,226		9,744		16,915		17,765		30,662		32,032
California		11,022		11,901		11,322		11,625		2,744		2,843		25,088		26,369
New Jersey		-		-		5,203		5,073		5,139		5,508		10,342		10,581
Arizona		2,919		3,169		-		-		8,751		9,411		11,670		12,580
Wisconsin		9,478		9,679		1,417		1,456		250		265		11,145		11,400
Florida		-		-		-		-		10,923		12,032		10,923		12,032
Washington		7,105		7,044		-		-		1,241		1,276		8,346		8,320
Missouri		7,372		7,536		-		-		-		-		7,372		7,536
Indiana		-		-		-		-		7,397		7,913		7,397		7,913
Massachusetts		-		-		-		-		8,525		8,709		8,525		8,709
Illinois		798		807		6,694		7,122		297		298		7,789		8,227
Other		18,782		19,115		20,103		20,532		24,072		25,202		62,957		64,849
Total	$	66,341	$	68,452	$	54,465	$	56,094	$	116,789	$	123,659	$	237,595	$	248,205

No one jurisdiction within “Other” in the table above exceeded 3% of the total fair value of municipal bonds. As of June 30, 2014, the special revenue bonds are supported primarily by water and sewer utilities, electric utilities, college revenues and highway tolls.

Fair Value Consideration

Under GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (an “exit price”). GAAP establishes a fair value hierarchy that distinguishes between

54

inputs based on market data from independent sources (“observable inputs”) and a reporting entity’s internal assumptions based upon the best information available when external market data are limited or unavailable (“unobservable inputs”). The fair value hierarchy in GAAP prioritizes fair value measurements into three levels based on the nature of the inputs. Quoted prices in active markets for identical assets have the highest priority (“Level 1”), followed by observable inputs other than quoted prices including prices for similar but not identical assets or liabilities (“Level 2”), and unobservable inputs, including the reporting entity’s estimates of the assumption that market participants would use, having the lowest priority (“Level 3”).

As of June 30, 2014, substantially all of the investment portfolio recorded at fair value was priced based upon quoted market prices or other observable inputs. For investments in active markets, we used the quoted market prices provided by the outside pricing services to determine fair value. In circumstances where quoted market prices were unavailable, we used fair value estimates based upon other observable inputs including matrix pricing, benchmark interest rates, market comparables and other relevant inputs. When observable inputs were adjusted to reflect management’s best estimate of fair value, such fair value measurements are considered a lower level measurement in the GAAP fair value hierarchy.

Our process to validate the market prices obtained from the outside pricing sources includes, but is not limited to, periodic evaluation of model pricing methodologies and analytical reviews of certain prices. We also periodically perform testing of the market to determine trading activity, or lack of trading activity, as well as market prices. Several securities sold during the year were “back-tested” (i.e., the sales price is compared to the previous month end reported market price to determine reasonableness of the reported market price).

In certain instances, we deemed it necessary to utilize Level 3 pricing over prices available through pricing services used throughout 2013 and 2012. The ability to observe stable prices and inputs may be reduced for highly-customized an illiquid instruments as currently is the case for certain non-agency residential and commercial mortgage-backed securities and asset-backed securities.

At June 30, 2014, securities with a fair value of $18.7 million included in other invested assets and 1 private convertible bond with a fair value of $2.4 million included in fixed maturity investments were priced in Level 3.

As more fully described in “Note 5 – Investments – Impairment Review” to our consolidated financial statements, we completed a detailed review of all our securities in a continuous loss position, including but not limited to residential and commercial mortgage-backed securities, and concluded that the unrealized losses in these asset classes are the result of a decrease in value due to technical spread widening and broader market sentiment.

Unrealized Losses

The fair value of our fixed maturity portfolio is directly affected by changes in interest rates and credit spreads. We regularly review both our fixed-maturity and equity portfolios to evaluate the necessity of recording impairment losses for other-than temporary declines in the fair value of investments.

For those fixed-maturity investments deemed not to be in an OTTI position, we believe that the gross unrealized investment loss was primarily caused by purchases made in a lower yield environment. We expect existing cash balances and cash flows from operations to be sufficient to meet our liquidity requirements and, therefore, we do not intend to sell these fixed maturity securities and we do not believe that we will be required to sell these securities before recovering their cost basis. For equity securities not considered OTTI, we believe we have the ability to hold these investments until a recovery of fair value to our cost basis.

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The following table presents information regarding our invested assets that were in an unrealized loss position at June 30, 2014 and December 31, 2013 by amount of time in a continuous unrealized loss position:

	Less than 12 Months					12 Months or Longer					Total
	Fair		Unrealized			Fair		Unrealized			Aggregate		Unrealized
($ in thousands)	Value		Losses			Value		Losses			Fair Value		Losses
June 30, 2014
U.S. Treasury securities	$	24,975	$	(23	)	$	184,185	$	(2,974	)	$	209,160	$	(2,997	)
U.S. Agency securities		2,495		(3	)		2,254		(25	)		4,749		(28	)
Municipal bonds		4,946		(14	)		34,090		(688	)		39,036		(702	)
Corporate and other bonds
Finance		19,851		(33	)		7,994		(113	)		27,845		(146	)
Industrial		15,849		(61	)		7,666		(158	)		23,515		(219	)
Utilities		-		-			10,600		(346	)		10,600		(346	)
Commercial mortgage-backed securities		4,442		(24	)		18,240		(235	)		22,682		(259	)
Residential mortgage-backed securities
Agency backed		4,231		(6	)		10,416		(268	)		14,647		(274	)
Non-agency backed		-		-			-		-			-		-
Asset-backed securities		52,777		(218	)		-		-			52,777		(218	)
Total fixed-maturity securities		129,566		(382	)		275,445		(4,807	)		405,011		(5,189	)
Preferred stocks		-		-			10,889		(807	)		10,889		(807	)
Common stocks		-		-			-		-			-		-
Short-term investments		-		-			-		-			-		-
Total, June 30, 2014	$	129,566	$	(382	)	$	286,334	$	(5,614	)	$	415,900	$	(5,996	)
Tower	$	118,219	$	(343	)	$	241,468	$	(4,740	)	$	359,687	$	(5,083	)
Reciprocal Exchanges		11,347		(39	)		44,866		(874	)		56,213		(913	)
Total, June 30, 2014	$	129,566	$	(382	)	$	286,334	$	(5,614	)	$	415,900	$	(5,996	)
December 31, 2013
U.S. Treasury securities	$	273,217	$	(7,726	)	$	-	$	-		$	273,217	$	(7,726	)
U.S. Agency securities		51,808		(561	)		-		-			51,808		(561	)
Municipal bonds		109,345		(5,056	)		4,268		(1,201	)		113,613		(6,257	)
Corporate and other bonds
Finance		37,811		(1,005	)		335		(23	)		38,146		(1,028	)
Industrial		124,869		(2,550	)		10,023		(458	)		134,892		(3,008	)
Utilities		27,698		(805	)		7,292		(1,085	)		34,990		(1,890	)
Commercial mortgage-backed securities		26,469		(597	)		20,397		(1,157	)		46,866		(1,754	)
Residential mortgage-backed securities
Agency backed		37,660		(925	)		5,166		(293	)		42,826		(1,218	)
Non-agency backed		1,027		(19	)		182		(12	)		1,209		(31	)
Asset-backed securities		32,461		(103	)		-		-			32,461		(103	)
Total fixed-maturity securities		722,365		(19,347	)		47,663		(4,229	)		770,028		(23,576	)
Preferred stocks		10,538		(2,285	)		6,154		(251	)		16,692		(2,536	)
Common stocks		7,125		(28	)		-		-			7,125		(28	)
Short-term investments		3,897		(28	)		-		-			3,897		(28	)
Total, December 31, 2013	$	743,925	$	(21,688	)	$	53,817	$	(4,480	)	$	797,742	$	(26,168	)
Tower	$	663,127	$	(19,335	)	$	23,096	$	(2,034	)	$	686,223	$	(21,369	)
Reciprocal Exchanges		80,798		(2,353	)		30,721		(2,446	)		111,519		(4,799	)
Total, December 31, 2013	$	743,925	$	(21,688	)	$	53,817	$	(4,480	)	$	797,742	$	(26,168	)

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The following table shows the fair value, unrealized loss amount and percentage below amortized cost and the ratio of fair value by security rating as of June 30, 2014:

			Unrealized Loss
						Percent of			Fair Value by Security Rating
($ in thousands)	Fair Value		Amount			Amortized Cost			AAA			AA			A			BBB			BB or Lower
U.S. Treasury securities	$	209,160	$	(2,997	)		-1	%		0	%		100	%		0	%		0	%		0	%
U.S. Agency securities		4,749		(28	)		-1	%		0	%		100	%		0	%		0	%		0	%
Municipal bonds		39,036		(702	)		-2	%		17	%		68	%		15	%		0	%		0	%
Corporate and other bonds		61,960		(711	)		-1	%		0	%		2	%		79	%		16	%		4	%
Commercial mortgage-backed securities		22,682		(259	)		-1	%		51	%		0	%		49	%		0	%		0	%
Residential mortgage-backed securities		14,647		(274	)		-2	%		0	%		100	%		0	%		0	%		0	%
Asset-backed securities		52,777		(218	)		0	%		100	%		0	%		0	%		0	%		0	%
Equities		10,889		(807	)		-7	%		0	%		0	%		0	%		100	%		0	%

See “Note 5—Investments” in our consolidated financial statements for further information about impairment testing and other-than-temporary impairments.

Liquidity and Capital Resources

Cash Flows

The primary sources of consolidated cash flows are from the insurance subsidiaries’ gross premiums collected, ceding commissions from quota share reinsurers, loss payments by reinsurers, investment income and proceeds from the sale or maturity of investments. Funds are used by the insurance subsidiaries for loss payments and loss adjustment expenses. The insurance subsidiaries also use funds for ceded premium payments to reinsurers, which are paid on a net basis after subtracting losses paid on reinsured claims and reinsurance commissions on our net business, commissions to producers, salaries and other underwriting expenses as well as to purchase investments, fixed assets and to pay dividends to the Holding Company. The management companies’ primary sources of cash are management fees for acting as the attorneys-in-fact for the Reciprocal Exchanges.

The reconciliation of net income to cash provided from operations is generally influenced by the collection of premiums in advance of paid losses, the timing of reinsurance, issuing company settlements and loss payments.

Cash flow and liquidity are categorized into three sources: (1) operating activities; (2) investing activities; and (3) financing activities, which are shown in the following table:

	Six Months Ended June 30,
($ in thousands)	2014			2013
Cash provided by (used in):
Operating activities	$	(450,238	)	$	(21,492	)
Investing activities		393,960			57,569
Financing activities		27,230			(20,058	)
Net increase (decrease) in cash and cash equivalents		(29,048	)		16,019
Cash and cash equivalents, beginning of year		293,898			83,800
Cash and cash equivalents, end of period	$	264,850		$	99,819

Comparison of Six Months Ended June 30, 2014 and 2013

For the six months ended June 30, 2014, net cash used in operating activities was $450.2 million compared to net cash used in operations of $21.5 million for the same period in 2013. The increase in cash used by operating activities in the first six months of 2014 is attributable to the payment of losses associated with periods prior to December 31, 2013 and to the reinsurance of substantially all of the Company’s business in 2014 resulting from the Cut-Through Reinsurance Agreements. The Company’s operating expenses are greater than the ceding commissions generated from the Cut-Through Reinsurance Agreements and the net investment income earned on the investment portfolio. Paid losses from years prior to 2014 were $361.8 million, and these paid losses are uses of operating cash.

Net cash flows provided by investing activities were $394.0 million for the six months ended June 30, 2014 compared to $57.6 million provided in the six months ended June 30, 2013. The increase in cash provided by investing activities is the result of Tower disposing of securities to transfer cash pursuant to the Cut-Through Reinsurance Agreements.

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The net cash flows provided by financing activities for the six months ended June 30, 2014 are primarily the result of the return of assets under the cancelled Southport Re Quota Share treaty. The Company used deposit accounting for this treaty, and, as such, changes in the deposit account are reflected as financing activities. In the six months ended June 30, 2013, the Company’s financing cash outflows reflected $16.7 million of dividends paid and $5.9 million for treasury-stock acquired in share-based compensation plans.

Current cash flow needs at the Holding Company level are primarily for interest and principal payments on the outstanding debt and other administrative expenses incurred by the Holding Company.

Statutory Capital

See “Note 1 – Nature of Business, Statutory Capital” in the Notes to the Consolidated Financial Statements for information relating to significant business developments and risks and uncertainties impacting Tower’s U.S. based and Bermuda based insurance subsidiaries.

Capital

Our capital resources consist of funds deployed or available to be deployed to support our business operations. At June 30, 2014 and December 31, 2013, our capital resources were as follows:

($ in thousands)	June 30, 2014			December 31, 2013
Subordinated debentures		235,058			235,058
Convertible Senior Notes		149,315			147,712
Tower Group International, Ltd. shareholders’ equity		(10,974	)		95,551
Total capitalization	$	373,399		$	478,321

The Company’s total capitalization declined $104.9 million, or 21.9%, from December 31, 2013 to June 30, 2014. This decline is primarily a result of Tower’s net loss in the first six months of 2014.

The Company has entered into the ACP Re Merger Agreement to address the 2013 and 2014 reduction in capital. In the event that the ACP Re Merger Agreement does not close, Tower’s production of new and renewal business will continue to be unfavorably impacted. See “Note 1 – Nature of Business, Proposed Merger with ACP Re” and “Note 1 – Nature of Business, Going Concern” in the Notes to the Consolidated Financial Statements for further detail.

The Company’s plan to repay TGI’s $150 million Convertible Senior Notes (due September 2014) is also related to the closing of the ACP Re Merger Agreement with ACP Re. If the Merger with ACP Re does not close prior to September 15, 2014, the maturity date of the Notes, the Company will not have adequate liquidity to pay principal and accrued interest that would be due to holders of the Notes on such date. The Company is evaluating its options with respect to the Notes, including, without limitation, a possible restructuring of the terms of the Notes, the issuance of securities in exchange for the Notes or a possible tender offer for the Notes which tender would be intended to close on or promptly after the closing of the ACP Re merger. No assurances can be given that the Company will attempt to implement any of these options and, even if the Company attempts to implement any of these options, that any such implementation will be successful.

On June 18, 2014, the Company sent notices informing holders of the subordinated indentures that the Company will defer interest payments. See “Note 1 – Nature of Business” for further discussion.

As discussed above in “Note 1 – Nature of Business, Statutory Capital” in the Notes to the Consolidated Financial Statements, the insurance subsidiaries capital and surplus levels are below Company Action Level. There are no guarantees the Company will be able to remedy the capital and surplus deficiencies in certain of these insurance subsidiaries or maintain adequate levels of capital in the future.

Adoption of New Accounting Pronouncements

For a discussion of accounting standards, see “Note 2 – Accounting Policies and Basis of Presentation” of Notes to Consolidated Financial Statements.

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

Market risk is the risk that we will incur losses in our investments due to adverse changes in market rates and prices. Market risk is directly influenced by the volatility and liquidity in the market in which the related underlying assets are invested. We believe that the way we manage them, and sensitivity to changes in interest rates, changes in credit quality of issuers of investment securities, and changes in equity price risks are summarized in Management’s Discussion and Analysis of Financial Condition and Results of Operations as of December 31, 2013, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013. There have been no material changes in the three and six months ended June  30, 2014.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

The Company’s management, with the participation of the Company’s CEO and CFO, evaluated the effectiveness of the Company’s disclosure controls and procedures (as described in Rules 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered under this report. Based on their evaluation, the Company’s CEO and CFO concluded that, as of June 30, 2014, the Company’s disclosure controls and procedures were not effective because of the material weaknesses in our internal control over financial reporting described below.

A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company’s annual or interim financial statements will not be prevented or detected on a timely basis.

The Company did not maintain effective monitoring controls. Specifically, the Company did not maintain effective ongoing and separate evaluation controls to monitor performance of certain other control activities. Ongoing and separate evaluation monitoring controls were not effective to achieve appropriate remediation of identified control deficiencies. This material weakness also contributed to the following material weaknesses:

(1) We did not maintain effective controls over the effectiveness of the loss reserve estimation process. Specifically, although the Company’s loss reserve committee evaluated the majority of methods, the Company did not maintain effective controls to effectively review and approve all significant assumptions, methodologies and data used to determine the actuarial central estimate.

(2) We did not maintain effective controls over the premium receivable account reconciliation. Specifically, although the majority of items identified in premiums receivable account analysis were evaluated and resolved, the Company did not maintain effective controls to effectively investigate and resolve reconciling items on a timely basis.

(3) We did not maintain effective controls over the impairment process of the long-lived tangible and intangible assets. Specifically, the Company did not evaluate all the triggering events indicating that the carrying value of its long-lived tangible and intangible assets may not be recoverable during 2013. The long-lived tangible and intangible assets include furniture, leasehold improvements, computer equipment, software, including internally developed software, and agency force lists.

(4) We did not maintain effective controls over the effectiveness of the tax valuation allowance estimation process. Specifically, the Company did not determine and monitor its valuation allowance of net deferred tax asset and the accuracy of its deferred taxes.

(5) We did not maintain effective control over certain information technology general controls. Specifically, the Company did not design and maintain effective controls with respect to segregation of duties, restricted access to programs and data, and change management activities. Consequently, controls that were dependent on the effective operation of information technology were not effectively designed to include adequate review of system generated data used in the operation of the controls and were determined not to be operating effectively.

(6) We did not maintain effective controls over the period-end financial reporting process. Specifically, the Company did not maintain sufficient personnel to perform its period-end financial reporting process effectively, including preparation and review of account reconciliations and evaluation of the accounting requirements resulting from recent events and circumstances. This in turn affected the timely preparation and review of interim and annual consolidated financial statements.

These deficiencies resulted in audit adjustments to the consolidated financial statements line items described above. Additionally, these deficiencies could have resulted in a material misstatement to the annual or interim consolidated financial statements that would not have been prevented or detected, and accordingly the Company’s CEO and CFO, in consultation with the Audit Committee, concluded that these control deficiencies constituted material weaknesses as of December 31, 2013.

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The Company’s CEO and CFO, in consultation with the Audit Committee, has concluded that as a result of control deficiencies listed above, and the fact that these control deficiencies could result in misstatements of the aforementioned accounts that would result in a material misstatement to the annual or interim consolidated financial statements that would not be prevented or detected, that these control deficiencies constitute material weaknesses and as a result that its internal control over financial reporting was not effective as of June 30, 2014.

Management’s Plan for Remediation

Management is implementing measures to remediate the material weaknesses in internal controls over financial reporting described above. Specifically, management is seeking to improve communications among its actuarial, underwriting, financial, and claims personnel involved on the loss reserve committee regarding the importance of documentation of its assessments and conclusions of its meetings, as well as supporting analyses. Management also continues to improve its systems to facilitate the gathering of underlying data used in the actuarial reserving process. Until such time as management and the Board have concluded that this process is performing effectively, management intends to engage external consulting resources to assist the Company in estimating its loss reserves, and reviewing and critiquing the loss reserve documentation during the financial reporting process.

In addition,

(i) the Company has obtained additional resources and enhanced the production of key reports to improve the accuracy of the elements used in its premiums receivable reconciliation process and timely evaluation and disposal of the reconciling items noted during the premiums reconciliation process, and

(ii) Management is designing enhanced controls to ensure long-lived tangible and intangible assets are evaluated timely for recoverability whenever events or changes in circumstances indicate that their carrying amount may not be recoverable.

(iii) Management is developing a more formal recertification process for its information technology group that encompasses privilege at a financially significant level rather that at an application level.

(iv) Management will explicitly incorporate the duration of tax assets and liabilities into its valuation allowance calculation and will work to improve the accuracy of the reconciliations of tax bases and statutory/GAAP bases.

(v) Management is evaluating and realigning the resource allocation within the financial processes, including the use of consulting specialists, to ensure appropriate and timely completion and review of account reconciliations and the evaluation of unique accounting situations that arise from recent events.

(iv) On January 3, 2014, Tower entered into an Agreement and Plan of Merger (“ACP Re Merger Agreement”) with ACP Re Ltd. (“ACP Re”), and a wholly-owned subsidiary of ACP Re (“Merger Sub”), pursuant to which, subject to the satisfaction or waiver of the conditions therein, it is expected that Merger Sub will merge with and into Tower, with Tower as the surviving corporation in the merger and a wholly owned subsidiary of ACP Re. The transaction is expected to close in the third quarter of 2014, subject to the satisfaction or waiver of the closing conditions contained in the ACP Re Merger Agreement. ACP Re is a Bermuda based reinsurance company. The controlling shareholder of ACP Re is a trust established by the founder of AmTrust Financial Services, Inc. (“AmTrust”), National General Holdings Corporation (“NGHC”) and Maiden Holdings, Ltd. Upon the consummation of the merger agreement, the Company believes it will have an enhanced ability to attract financial and operations personnel.

Changes in Internal Control over Financial Reporting

There have been no changes in internal control over financial reporting during the six months ended June 30, that have materially affected, or are reasonably likely to affect, the Company’s internal control over financial reporting, except for the following:

(i) Changes management has begun to implement to address the material weaknesses, as discussed in “Evaluation of Disclosure Controls and Procedures” above. The implementation of the remediation activities began with minimal changes to the control activities during the first six months of 2014

(ii) On January 3, 2014, Tower entered into an Agreement and Plan of Merger (“ACP Re Merger Agreement”) with ACP Re Ltd. (“ACP Re”), and a wholly-owned subsidiary of ACP Re (“Merger Sub”), pursuant to which, subject to the satisfaction or waiver of the conditions therein, it is expected that Merger Sub will merge with and into Tower, with Tower as the surviving corporation in the merger and a wholly owned subsidiary of ACP Re. The transaction is expected to close in the third quarter of 2014, subject to the satisfaction or waiver of the closing conditions contained in the ACP Re Merger Agreement. ACP Re is a Bermuda based reinsurance company. The controlling shareholder of ACP Re is a trust established by the founder of AmTrust Financial Services, Inc. (“AmTrust”), National General Holdings Corporation (“NGHC”) and Maiden Holdings, Ltd. Since the merger announcement, the Company has experienced more significant turnover in its accounting and operations units than in recent history, and it has found replacing such personnel to be difficult because the merger agreement is still pending completion.

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Part II – OTHER INFORMATION

Item 1. Legal Proceedings

On August 20, 2013, Robert P. Lang, a purported shareholder of Tower Group International Ltd. (“Tower”), filed a purported class action complaint (the “Lang Complaint”) against Tower and certain of its current and former officers in the United States District Court for the Southern District of New York. The Lang Complaint alleges that Tower and certain of its current and former officers violated federal securities laws and seeks unspecified damages. On September 3, 2013, a second purported shareholder class action complaint was filed by Dennis Feighay, another purported Tower shareholder, containing similar allegations to those set forth in the Lang Complaint (the “Feighay Complaint”). On October 4, 2013, a third complaint was filed by Sanju Sharma (the “Sharma Complaint”). The Sharma Complaint names as defendants Tower and certain of its current and former officers, and purports to be asserted on behalf of a plaintiff class who purchased Tower stock between May 10, 2011 and September 17, 2013. On October 18, 2013, an amended complaint was filed in the Sharma case (the “Sharma Amended Complaint”). The Sharma Amended Complaint alleges additional false and misleading statements, and purports to be asserted on behalf of a plaintiff class who purchased Tower stock between March 1, 2011 and October 7, 2013. On October 21, 2013, a number of motions were filed seeking to consolidate the shareholder class actions into one matter and for appointment of a lead plaintiff. On June 17, 2014, the United States District Court for the Southern District of New York issued an order consolidating the Lang, Feighay, and Sharma actions (hereinafter the “Consolidated Securities Action”) and appointing Adar Enhanced Investment Fund, Ltd. and Adar Investment Fund, Ltd. (the “Adar Funds”) and Jacksonville Police and Fire Pension Fund, Oklahoma Firefighters Pension and Retirement System, and the Kansas City, Missouri Employees’ Retirement System (the “Public Pension Funds”) as co-lead plaintiffs in the Consolidated Securities Action and Bernstein Liebhard LLP, Saxena White P.A., and Bernstein Litowitz Berger & Grossmann LLP as co-lead counsel. On July 1, 2014, the Court entered a stipulation and order providing for the co-lead plaintiffs to file a Consolidated Class Action Complaint on August 22, 2014. The Company believes that it is not probable that the Consolidated Securities Action will result in a loss, and if it would result in a loss, that the amount of any such loss cannot reasonably be estimated.

On October 18, 2013, Cinium Financial Services Corporation (“Cinium”) and certain other affiliated parties (collectively, “Plaintiffs”) commenced an action against, among others, Tower, CastlePoint Insurance Company (“CastlePoint”), an indirect wholly owned subsidiary of Tower, and certain officers of Tower (the “New York Action”) in New York State Supreme Court. CastlePoint is a party to a Securityholders’ Agreement, dated as of June 14, 2012 (the “Securityholders’ Agreement”), among certain parties including Plaintiffs, and is also the holder of a senior note issued by Cinium dated May 15, 2012 that is convertible into shares of Cinium common stock (the “Senior Note”). On October 29, 2013, Plaintiffs filed a complaint which revised their initial pleading (the “Complaint”). Plaintiffs seek, among other things, (i) a declaratory judgment that CastlePoint has no right to exercise any control over Cinium under the Securityholders’ Agreement or to convert the Senior Note without prior regulatory approval; (ii) rescission of the Senior Note and Securityholders’ Agreement based on alleged fraudulent misrepresentations by Tower at the time these agreements were entered into; and (iii) damages of $150 million for alleged breach of fiduciary duties to Cinium and its shareholders by certain directors, and for alleged lender liability and fraudulent misrepresentation by the Company.

On April 22, 2014, counsel for Plaintiffs notified counsel for defendants of its intent to file a stipulation of discontinuance without prejudice of the New York Action within thirty days. On June 2, 2014, counsel for Plaintiffs filed a notice of discontinuance without prejudice against all defendants in the New York Action.

Tower received a document request from the U.S. Securities and Exchange Commission (the “SEC”) dated January 13, 2014, as part of an informal inquiry (the “SEC Request”). The SEC Request asks for documents related to Tower’s financial statements, accounting policies, and analysis. Tower is cooperating with the SEC’s inquiry and has provided the requested information.

On January 14, 2014, Derek Wilson, a purported shareholder of Tower, filed a purported class action complaint (the “Wilson Complaint”) against Tower, certain of its current and former directors, ACP Re Ltd. (“ACP Re”), London Acquisition Company Limited (“Merger Sub”), and AmTrust Financial Services, Inc. (“AmTrust”) in the United States District Court for the Southern District of New York. The Wilson Complaint alleges that the members of the Company’s Board of Directors breached their fiduciary duties owed to the shareholders of Tower under Bermuda law by approving Tower’s entry into the ACP Re Merger Agreement and failing to take steps to maximize the value of Tower to its public shareholders, and that Tower, ACP Re, Merger Sub, and AmTrust aided and abetted such breaches of fiduciary duties. The Wilson Complaint also alleges, among other things, that the proposed transaction undervalues Tower, that the process leading up to the ACP Re Merger Agreement was flawed, and that certain provisions of the ACP Re Merger Agreement improperly favor ACP Re and discourage competing offers for the Company. The Wilson Complaint further alleges oppressive conduct by the directors against Tower’s shareholders in violation of Bermuda law. The Wilson Complaint seeks, among other things, declaratory and injunctive relief concerning the alleged fiduciary breaches, injunctive relief prohibiting the defendants from consummating the proposed transaction, rescission of the ACP Re Merger Agreement to the extent already implemented, and other forms of equitable relief. On February 27, 2014, the same purported shareholder filed an amended complaint alleging, in addition, that the Company and the directors disseminated a materially false and misleading preliminary proxy statement regarding the ACP Re Merger Agreement in violation of Sections 14(a) and 20(a) of the Exchange Act and Rule 14a-9 promulgated thereunder (the “Wilson Amended Complaint”).

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On March 3, 2014, another purported shareholder filed a purported class action complaint against the Company, certain of its current and former officers and directors, ACP Re, Merger Sub, and AmTrust, also in the United States District Court for the Southern District of New York (the “Raul Complaint”). The Raul Complaint alleges that the defendants disseminated a materially false and misleading preliminary proxy statement regarding the ACP Re Merger Agreement in violation of sections 14(a) and 20(a) of the Exchange Act and Rule 14a-9.

On May 12, 2014, the United States District Court for the Southern District of New York issued an order consolidating the Wilson and Raul actions (hereinafter the “Consolidated Federal Action”). On May 22, 2014, the Court issued an order appointing Wilson and George Strum, another purported shareholder of the Company, as co-lead plaintiffs in the Consolidated Federal Action and appointing Robbins Arroyo LLP and WeissLaw LLP as co-lead counsel.

On March 24, 2014, two purported shareholders of the Company filed a purported class action and shareholder derivative complaint against the Company, certain of its current and former officers and directors, and Tower Group, Inc., in the Supreme Court of the State of New York, County of New York (the “Bekkerman Complaint” and, together with the Wilson Amended Complaint and the Raul Complaint, the “Merger Complaints”). The Bekkerman Complaint alleges, among other things, that the members of the Company’s board of directors breached their fiduciary duties owed to the shareholders of the Company by failing to exercise appropriate oversight over the conduct of the Company’s business, awarding Michael Lee excessive compensation, approving the Company’s entry into the ACP Re Merger Agreement, failing to take steps to maximize the value of the Company to its public shareholders, and misrepresenting or omitting material information in connection with the proposed transaction, and that the Company and Tower Group, Inc. aided and abetted such breaches of fiduciary duties. The Bekkerman Complaint also alleges, among other things, that Lee was unjustly enriched as a result of the compensation he received while allegedly breaching his fiduciary duties and by selling stock while in the possession of material, adverse, non-public information. The Bekkerman Complaint seeks, among other things, an award of money damages, declaratory and injunctive relief concerning the alleged fiduciary breaches, injunctive relief prohibiting the defendants from consummating the proposed transaction, rescission of the ACP Re Merger Agreement to the extent already implemented, and other forms of equitable relief. On May 16, 2014, the defendants removed the Bekkerman action to the United States District Court for the Southern District of New York, and requested that it be designated as related to the Consolidated Federal Action. On June 3, 2014, the United States District Court for the Southern District of New York accepted the designation of the Bekkerman Complaint as related to the Consolidated Federal Action. On July 21, 2014, the Court issued an order consolidating the Bekkerman action into the Consolidated Federal Action for all purposes.

On July 25, 2014, the defendants reached an agreement in principle with the plaintiffs to settle the Consolidated Federal Action. The settlement remains subject to appropriate documentation by the parties and approval by the Court. As part of the settlement, the Company agreed to make certain supplemental disclosures to Tower shareholders on Form 8-K, which was filed with the SEC on July 28, 2014. As set forth therein, the defendants deny all fault or liability and deny that they have committed any of the unlawful or wrongful acts alleged in the Merger Complaints or otherwise in relation to the Merger Agreement, or any of the events or actions related thereto, and specifically deny that any further disclosure was required to supplement the Proxy Statement under any applicable rule, statute, regulation or law. The Company agreed to provide those supplemental disclosures solely to minimize the cost of defending the litigation and to permit the special general meeting and stockholder vote to proceed without delay.

On July 29, 2014, the Court ordered that the Consolidated Federal Action be discontinued with prejudice but without costs, providing, however, that counsel for plaintiffs could apply by letter for restoration of the action to the calendar within 30 days of the order, in which event the action will be restored.

The Company believes that it is not probable that the Merger Complaints will result in a loss and if they would result in a loss, that the amount of any such loss cannot reasonably be estimated.

From time to time, the Company is involved in other various legal proceedings in the ordinary course of business. The Company does not believe that the resolution of any currently pending legal proceedings, either individually or taken as a whole, will have a material adverse effect on its business, results of operations or financial condition.

Item 1A. Risk Factors

The Company’s Risk Factors are described under “Risk Factors” in Part I, Item 1A of Tower’s Annual Report on Form 10-K for the year ended December 31, 2013 (the “2013 Form 10-K”).

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Additional risks not presently known to us or that we currently deem immaterial may also impair our business, financial condition or results of operations. Any of the risks described in the 2013 Form 10-K could result in a significant or material adverse effect on our business, financial condition or results of operations, and a corresponding decline in the market price of our common shares and other securities.

This Form 10-Q also contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in the forward-looking statements as a result of certain factors, including the risks described in the 2013 Form 10-K. See “Business—Note on Forward-Looking Statements.”

Item 1B. Unresolved Staff Comments

None.

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

In the second quarter of 2014, the Company purchased zero shares of its common stock from employees in connection with the vesting of restricted stock issued in connection with its 2008 Long Term Equity Compensation Plan (the “2008 LTEP”). The shares were withheld at the direction of the employees as permitted under the 2008 LTEP in order to pay the minimum amount of tax liability owed by the employee from the vesting of those shares.

On May 7, 2013, Tower’s Board of Directors approved a $50 million share repurchase program. No shares of common stock have been purchased under this program.

For the three months ended June 30, 2014, there were no stock repurchases made either under publically announced repurchase plan or programs or to satisfy tax withholding amounts due from employees upon the receipt of previously restricted shares.

Item 5. Other Information

As disclosed in our Current Report on Form 8-K filed with the SEC on May 9, 2014, on May 9, 2014, the Audit Committee (the “Audit Committee”) of the Board of Directors of Tower Group International, Ltd. (“Tower” or the “Company”) dismissed PricewaterhouseCoopers LLP (“PwC”) as the Company’s independent registered public accounting firm.

PwC’s reports on the consolidated financial statements of the Company as of and for the years ended December 31, 2013 and 2012 did not contain any adverse opinion or disclaimer of opinion, nor were they qualified or modified as to uncertainty, audit scope, or accounting principles except that the reports of PwC on the Company’s financial statements as of and for the years ended December 31, 2013 and 2012 contained an explanatory paragraph which noted that there was substantial doubt as to the Company’s ability to continue as a going concern.

During the fiscal years ended December 31, 2013 and 2012, and the subsequent period through May 9, 2014, there were no disagreements with PwC on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which, if not resolved to the satisfaction of PwC, would have caused it to make reference to the subject matter of the disagreements in connection with its reports on the consolidated financial statements for such years.

During the fiscal years ended December 31, 2013 and 2012 and the subsequent period through May 9, 2014, there were “reportable events” (as that term is defined in Item 304(a)(1)(v) of Regulation S-K) related to the material weaknesses in the Company’s internal control over financial reporting disclosed in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2013 (the “2013 Annual Report”) and Amendment No. 2 to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2012 (the “2012 Annual Report”). As disclosed in the 2012 Annual Report, the Company concluded that material weaknesses existed as of December 31, 2012 related to (i) the loss reserve estimation process and (ii) the premium receivables accounts reconciliation process. Additionally, a material weakness related to recording an out of period income tax adjustment arising from prior acquisitions also existed during the year ended December 31, 2012. As disclosed in the 2013 Annual Report, the Company concluded that material weaknesses existed as of December 31, 2013 related to (i) the monitoring of other control activities, (ii) the loss reserve estimation process, (iii) the premiums receivable accounts reconciliation process, (iv) the impairment process of the long-lived tangible and intangible assets, (v) information technology general controls with respect to segregation of duties, restricted access to programs and data, and change management activities, (vi) the income tax valuation allowance estimation process and (vii) the period-end financial reporting process. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. The Audit Committee has discussed the material weaknesses in the Company’s internal control over financial reporting with PwC and has authorized PwC to respond fully to the inquiries of BDO USA, LLP (“BDO”) concerning such material weaknesses.

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On May 9, 2014, the Audit Committee approved the engagement of BDO as the Company’s independent registered public accounting firm beginning with its first quarter ending March 31, 2014. During the fiscal years ended December 31, 2013 and 2012, and through May 9, 2014, the Company did not consult with BDO with respect to (a) the application of accounting principles to a specified transaction, either completed or proposed, or the type of audit opinion that might have been rendered on the Company’s consolidated financial statements; or (b) any matters that were either the subject of a disagreement (as that term is used in Item 304(a)(1)(iv) of Regulation S-K and the related instructions to Item 304 of Regulation S-K) or a reportable event (as described in Item 304(a)(1)(v) of Regulation S-K).

Item 6. Exhibits

Exhibit 31.1	Chief Executive Officer - Certification pursuant to Sarbanes-Oxley Act of 2002 Section 302
Exhibit 31.2	Chief Financial Officer - Certification pursuant to Sarbanes-Oxley Act of 2002 Section 302
Exhibit 32	Chief Executive Officer and Chief Financial Officer - Certification pursuant to Sarbanes-Oxley Act of 2002 Section 906
EX-101	INSTANCE DOCUMENT
EX-101	SCHEMA DOCUMENT
EX-101	CALCULATION LINKBASE DOCUMENT
EX-101	LABELS LINKBASE DOCUMENT
EX-101	PRESENTATION LINKBASE DOCUMENT
EX-101	DEFINITION LINKBASE DOCUMENT

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Signatures

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	Tower Group International, Ltd.
	Registrant
Date: August 21, 2014	/s/ William W. Fox, Jr.
	President and Chief Executive Officer
Date: August 21, 2014	/s/ William E. Hitselberger
	Executive Vice President and Chief Financial Officer