1938 BTA LEXIS 740 | B.T.A. | 1938
Lead Opinion
The first question for decision is whether petitioner is entitled to deduct from its gross income an amount equal to 3¾ per centum of the mean of its reserve for incurred disability benefits held at the beginning and end of the taxable year. The applicable statute is the Kevenue Act of 1932, the material provisions of which are set out in the margin.
Petitioner is a “life insurance company” as that term is defined in section 201 (a). The policies with respect to which the reserve in question was held were “contracts of combined life, health, and accident insurance.” Under all of these policies the insured agreed to pay a certain annual premium in consideration for petitioner agreeing to pay the insured’s beneficiary a sum certain upon receipt of due proofs of death of the insured. In some of the policies the insured agreed to pay a small additional premium in consideration for petitioner agreeing to waive the future payment of premiums in case the insured became totally and permanently disabled as the result of bodily injury or disease; and in some of the policies the insured agreed to pay a larger additional premium in consideration for petitioner agreeing not only to waive the future payment of premiums as they became due, but also to pay the insured a stated monthly income in case the insured became totally and permanently disabled as the result of bodily injury or disease. To meet its future unac-crued and contingent obligations under these combined life, health, and accident policies, petitioner set up and held at the beginning and end of the taxable year several reserve funds. Its largest reserve was a reserve to meet the purely death claims as and when they matured. This reserve is a part of the reserve for outstanding policies and annuities, reported on line 1, schedule A, of petitioner’s income tax return. Another reserve was a reserve to meet its future unaccrued and contingent obligation to waive premiums or to waive
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This reserve for incurred disability benefits did not include any amount for benefits which had already accrued in favor of the disabled insured. Such latter amounts would represent pure liabilities of petitioner and the reserve set up therefor would be in the nature of a solvency reserve and not a reserve “required by law” as that term is used in section 203 (a) (2) of the Revenue Act of 1932. Cf. Maryland Casualty Co. v. United States, 251 U. S. 342, as modified by United States v. Boston Insurance Co., 269 U. S. 197. It included only amounts held for the payment of benefits which would become due in the future, providing the insured survived and remained disabled.
At the time petitioner filed its income tax return for the year 1933 the respondent’s regulations (art. 971, Regulations 77) held that the type of reserve here involved was a reserve required by law. The per
Shortly after the Court of Claims handed down its decision in Continental Assurance Co. v. United States, 8 Fed. Supp. 474, the respondent issued Eegulations 86 under the Eevenue Act of 1934. Although section 203 (a) (2) of the Eevenue Act of 1934, so far as material here, was the same as similar provisions in all the prior revenue acts beginning with the Eevenue Act of 1921, the respondent in article 203 (a) (2)-l of Eegulations 86 omitted all reference to items 7-11 of the liability page of the annual statement for life insurance companies and held, among other things, that the reserve funds required
The respondent, in support of his contention that the term “reserve funds required by law” in section 203 (a) (2), supra, does not include the reserve for incurred disability benefits here in question, relies upon his regulations as amended by T. D. 4615, supra, and the decisions of New York Life Insurance Co. v. Edwards, 271 U. S. 109 (point 3), Helvering v. Inter-Mountain Life Insurance Co., supra, and Helvering v. Illinois Life Insurance Co., supra.
Although not a conclusive test, it is, nevertheless, a prerequisite to the allowance of any deduction under section 203 (a) (2), supra, that the reserve in question be required, as expressed by the respondent in his regulations, either by “express statutory provisions or by the rules and regulations of the State insurance departments when promulgated in the exercise of a power conferred by statute.” Cf. McCoach v. Insurance Co. of North America, 244 U. S. 585; Maryland Casualty Co. v. United States, supra; United States v. Boston Insurance Co., supra; New York Life Insurance Co. v. Edwards, supra; Helvering v. Inter-Mountain Life Insurance Co., supra; and Helvering v. Illinois Life Insurance Co., supra. And the respondent concedes in his regulations that a company is permitted to make use of the highest aggregate reserve called for by any state in which it transacts business. Petitioner transacted business in Louisiana, Oklahoma, Indiana, and Illinois. As stated in our findings of fact, the reserve in question was required by the laws of Oklahoma, cf. In re Oklahoma National Life Insurance Co., 68 Okla. 219; 173 Pac. 376, and until July 1, 1937, by the laws of Illinois.
The petitioner having met successfully the prerequisite stated in the preceding paragraph, the question at issue, at least as far as premium waiver benefits are concerned, is identically the same as the issue relating to the reserve for incurred disability benefits in the recent case of Monarch Life Insurance Co., 38 B. T. A. 716. In that case we held that the reserve for incurred disability benefits (apparently involving premium waiver benefits only) was a reserve fund
Regarding that portion of the reserve for incurred disability benefits involving monthly income benefits, we know of no reason why it should be treated any differently from that portion of the reserve involving premium waiver benefits. The policies involving both kinds of benefits are substantially the same, except that in those involving both premium waiver and monthly income benefits the insured agrees to pay a larger additional premium than the insured pays in those policies involving premium waiver benefits only. We hold that both portions of the reserve for incurred disability benefits involved herein should be treated alike and that petitioner is entitled to deduct from its gross income the amount of $12,940.62 set out in our findings as representing 3¾ per centum of the mean of the reserve for incurred disability benefits held at the beginning and end of the taxable year.
Before passing this question, however, we wish to say that we have carefully considered the respondent’s contentions and find ourselves unable to concur in the belief that the effect of the holdings in the New York Life case, the Inter-Mowntain Life case and the Illinois Life case is to exclude the present reserve from the classification of “reserve funds required by law” as that phrase is used in section 203 (a) (2) of the Revenue Act of 1932.
In the New York Life case, supra, the Supreme Court was not satisfied from the evidence that the reserve there involved in point (3) was required by the laws of New York. Neither was there anything to show how the value of the contractual benefits under the policies was arrived at. Under those circumstances the Court said: “The company has not shown enough to establish its right to the exemption.” The proof lacking in the New York Life case has been supplied in the instant proceeding.
The reserve funds involved in the other two cases were in the nature of solvency reserves and were essentially different from the one which we are now considering. For instance, the reserve in the Inter-Mountain case, supra, was against matured, unsurrendered, unpaid coupons, and was not essentially an insurance reserve. Inter-Mountain’s liability thereon depended upon no contingency. The insured there at any time could have withdrawn the matured cou
Neither do we think the Supreme Court in the Inter-Moimtain and Illinois Life cases intended to construe the phrase “reserve funds required by law” to mean only the reserve funds relating to life insurance. It seems to us that the structure of the act requires a recognition of other reserves. Sec. 201 (a), supra, defines the term “life insurance company” as one “engaged in the business of issuing life insurance and annuity contracts (including contracts of combined life, health, and accident insurance), the reserve funds of which held for the fulfillment of such contracts comprise more than 50 per centum of its total reserve funds.” In this definition there can be no doubt but that Congress intended the term “reserve funds” to apply to “contracts of combined life, health, and accident insurance” as well as to “life insurance and annuity contracts.” Therefore, it would seem to follow that the term “reserve funds” in section 203 (a) (2) would also apply to “contracts of combined life, health, and accident insurance,” which is the type of policies involved in the instant proceeding. Any other construction of the act would be inconsistent with the respondent’s allowance of the statutory per centum of the mean of the reserve for disability and accidental death benefits reported on line 2 of schedule A of the return and briefly referred to at the beginning of this opinion. The only difference between that reserve and the one for incurred disability benefits is that in the latter the disability has already taken place. But the insured must survive and remain disabled on each and every anniversary date of the policy before any actual liability accrues against petitioner.
■ Interest question. — As we have already stated, respondent in his brief concedes that petitioner is entitled to deduct the interest items covered by paragraphs (b), (d), and (e) of the stipulation. He contests the deduction of those included in paragraphs (a) and (c) of the stipulation. These latter have been described in our findings of fact.
The second question, therefore, for decision falls into two subdivisions — (1) whether petitioner is entitled to deduct $9,282.31 as interest in connection with two types of its ordinary life policies, and (2) whether petitioner is entitled to deduct $257.88 as interest in connection with the type of trust agreements referred to in our
The first type of policy provides for a lump sum payment at death and for ⅛ series of 240 monthly installments. A copy of one of these policies is attached to the stipulation. It provides for a lump sum payment of $500 at death and for a series of 240 monthly installments of $50 each, aggregating in all $12,500. The commuted value of this policy is $9,200. The policy contains a provision that at any time before his death the insured may elect to have the commuted value paid at his death in one sum rather than a first payment of $500 followed by a series of 240 monthly installments of $50 each. But if no such election is made by the insured, the beneficiary can neither assign nor commute the installments therein provided for.
The second type of policy simply provides for one lump sum payment at death unless the insured during his life time shall elect to have the insurance paid to the beneficiary in any one of the equal annual installments from five to twenty-five years provided for in that paragraph of the policy headed “Installment Benefits — Installment Settlements.” A copy of one of these policies is also attached to the stipulation. It provides for a lump sum payment at death of $5,000, or for either 5, 10, 15, 20, or 25 equal annual installments, providing the insured so elected during his lifetime. In all of the policies of the second type that are here involved the insured had so elected. Assuming that in the case of the sample policy of this type referred to above the insured had elected to have the insurance paid in 20 equal annual installments, the beneficiary of this policy would receive 20 equal annual installments of $389.90 (5 times $67.98) aggregating in all $6,798, instead of the lump sum of $5,000 payable at death which wa's originally provided for. As in the first type of policy, if the insured in the second type of policy died after electing to have the insurance paid in equal annual installments, the beneficiary could not thereafter either assign or commute the installments therein provided for.
Petitioner contends that in the first type of policy the difference between the commuted value of $9,200 and the aggregate payments
We hold, therefore, that the portion of the respective sums of $211,254.60 and $238,640.01, which in fact represents the 3 per cent, annual interest included in the installment settlements paid to beneficiaries by the petitioner under the Trust Certificate policy or under an option of the Ordinary Life policy exercised prior to the death of the insured, is not interest on indebtedness within the terms of the statute and cannot be deducted by the petitioner from its gross income. We sustain the ruling of the Board in so far as it relates to such payments.
Counsel for petitioner in his briefs recognizes that the decision in Penn Mutual is contrary to the petitioner’s contention in the instant proceeding, but contends that the Board and the Circuit Court misapprehended the facts in that case and that the issue there should be distinguished from the issue here. We have considered this con
We hold, therefore, that petitioner .is not entitled under section 203 (a) (8) of the Revenue Act of 1932 to deduct from its gross income as “interest paid or accrued within the taxable year on its indebtedness” the amount of $9,282.31 which it added during the taxable year to its deposits held under both types of ordinary life policies here involved. Penn Mutual Life Insurance Co. v. Commissioner, supra. Cf. Penn Mutual Life Insurance Co., 32 B. T. A. 876 (part I).
Regarding the deductibility of $257.88 as interest in connection with the type of trust agreement attached to the stipulation as exhibit “J”, the respondent contends that under Massachusetts Mutual Life Insurance Co. v. United States, 288 U. S. 269, no more interest may be allowed as a deduction to a life insurance company than that actually paid during the taxable year; and that in any event no amount is allowable as interest for the reason that petitioner has failed to show that no part of the amount of $257.88 is actually and in fact dividends under that part of the specimen trust agreement reading:
* * * and alter the first interest year there shall also he added as additional interest thereon each year thereafter, such amount as may be determined by the Directors of the Pan-American Life Insurance Company and apportioned annually from the surplus earnings of the said Company for the preceding year.
The respondent, however, in effect concedes that if it were not for the above quoted provision of the trust agreement, any interest actually paid under the trust agreements of this type would be deductible under our decision in Great Southern Life Insurance Co., supra.
In making the contention relative to the above quoted provision of the trust agreement, we think the respondent has overlooked that part of the trust agreement immediately preceding the above quoted provision which provides that: “The said net proceeds shall bear interest at the rate of 3½% per annum on funds remaining in the Company’s possession at the end of each year” and also that part of the stipulation which provides that the amount of $257.88 was computed at 3½ per centum. Whatever effect, if any, the above quoted provision relied upon by the respondent might have in another taxable year, we are satisfied from the record before us that it has no effect whatever in the present taxable year. Since the entire amount of $257.88 in question was computed at 3½ per centum it is clear that this amount did not contain any so-called “additional interest” to be determined by petitioner’s directors and to be apportioned from petitioner’s surplus earnings for the preceding year. It is, therefore, our opinion that petitioner is entitled to deduct as interest that part
We, therefore, hold that in connection with the type of trust agreement attached to the stipulation as exhibit “J” petitioner is entitled under section 203 (a) (8) of the Revenue Act of 1982 to deduct $202.90 as interest paid during the taxable year on its indebtedness. Cf. Edith M. Kinnear, 20 B. T. A. 718.
The deficiency should be redetermined in accordance with this report.
Decision will be entered under Rule 50.
SEC. 201. TAX ON LIFE INSURANCE COMPANIES.
(a) Definition. — When used In this title the term “life insurance company” means an insurance company engaged in the business of issuing life insurance and annuity contracts (including contracts of combined life, health, and accident insurance), the reserve funds of which held for the fulfillment of such contracts comprise more than 50 per centum of its total reserve funds.
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SBC. 203. NET INCOME OE LIFE INSURANCE COMPANIES.
(a) General Rule. — In the case of a life insurance company the term “net income” means the gross income less—
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(2) Reserve Funds. — An amount equal to 4 per centum of the mean of the reserve funds required by law and held at the beginning and end of the taxable year, except that in the case of any such reserve fund which is computed at a lower interest assumption rate, the rate of 3¾ per centum shall be substituted for 4 per centum. * * *
Abt. 971. Tax-exempt interest and reserve -funds. — TJnder paragraphs (1) and (2) of section 203 (a), life insurance companies are entitled to deduct from gross income: *******
(2) Four per cent of the mean of the reserve funds required by law and held at the beginning and end of the taxable year, except that in the case of any such reserve fund which is computed at a lower interest assumption rate, the rate of 3¾ per cent shall be substituted for 4 per cent. The reserve deduction is based upon the reserves required by express statutory provisions or by the rules and regulations of the State insurance departments when promulgated in the exercise of a power conferred by statute; but such reserves do not include assets required to be held for the ordinary running expenses of the business nor do they include the reserve or net value of risks reinsured in other solvent companies to the extent of the reinsurance.
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* * * A company is permitted to make use of the highest aggregate reserve called for by any State in which it transacts business, but the reserve must have been actually held as shown by the annual statement. Generally speaking, the following will be considered reserves as contemplated by the law: Items 7-11 of the liability page of the annual statement for life insurance companies * * *.
7. Net Reserve (i. e. the net present value of all the outstanding policies in force on the 31st day of December, 19_, as computed by the _ on the following tables of mortality and rates of interest)_$ — '■-
8.Extra reserve for total and permanent disability benefits, $__ ⅞ and for additional accidental death benefits, $__ included in life policies_$--
9.Present value of amounts not yet due on supplementary contracts not involving life contingencies computed by the_$-
10. Present value of amounts incurred but not yet due for total and permanent disability benefits_:_$-
11. Liability on policies canceled and not included in “net reserve” upon which a surrender value may be demanded_$-
SEC. 203. NET INCOME OE LIFE INSURANCE COMPANIES.
(a) General Rule. — In the case of a life insurance company the term “net income” means the gross income less—
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(8) Interest. — All interest paid or accrued within the taxable year on its indebtedness * * *.
