Commissioner v. First Security Bank of Utah
405 U.S. 394 (1972)

Annotate this Case

U.S. Supreme Court

Commissioner v. First Security Bank of Utah, 405 U.S. 394 (1972)

Commissioner v. First Security Bank of Utah, N.A.

No. 70-305

Argued January 10, 1972

Decided March 21, 1972

405 U.S. 394

CERTIORARI TO THE UNITED STATES COURT OF APPEALS

FOR THE TENTH CIRCUIT

Syllabus

Respondent banks were subsidiaries of a holding company that also controlled a management company, an insurance agency, and, from 1954, an insurance company (Security Life). In 1948, the banks began to offer to arrange credit life insurance for their borrowers, placing the insurance with an independent insurance carrier. National banking laws were deemed to prohibit the banks from receiving sales commissions, which were paid by the carrier to the insurance agency subsidiary. The commissions were reported as taxable income for the 1948-1954 period by the management company. After 1954, when Security Life was organized, the credit life insurance on the banks' customers was placed with an independent carrier, which reinsured the risks with Security Life, the latter retaining 85% of the premiums. No sales commissions were paid. Security Life reported all the reinsurance premiums on its income tax returns for the period 1955 to 1959, at the preferential tax rate for insurance companies. Petitioner, pursuant to 26 U.S.C. § 482, granting him power to allocate gross income among controlled corporations in order to reflect the actual incomes of the corporations, determined that 40% of Security Life's premium income was allocable to the banks as commission income earned for originating and processing the credit life insurance. The Tax Court affirmed petitioner's action, but the Court of Appeals reversed.

Held: Since the banks did not receive and were prohibited by law from receiving sales commissions, no part of the reinsurance premium income could be attributed to them, and petitioner's exercise of the § 482 authority was not warranted. Pp. 405 U. S. 403-407.

436 F.2d 1192, affirmed.

POWELL, J., delivered the opinion of the Court, in which BURGER, C.J., and DOUGLAS, BRENNAN, STEWART, and REHNQUIST, JJ., joined. MARSHALL, J., filed a dissenting opinion, post, p. 405 U. S. 407. BLACKMUN, J., filed a dissenting opinion, in which WHITE, J., joined, post, p. 405 U. S. 418.

Page 405 U. S. 395

MR. JUSTICE POWELL delivered the opinion of the Court.

This case presents for review a determination by the Commissioner of Internal Revenue (Commissioner), pursuant to § 482 of the Internal Revenue Act, [Footnote 1] that the income of taxpayers within a controlled group should be reallocated to reflect the true taxable income of each. Deficiencies were assessed against respondents. The Tax Court affirmed the Commissioner's action, and respondents appealed to the Court of Appeals for the Tenth Circuit. That court reversed the decision of the Tax Court, 436 F.2d 1192 (1971), and we granted the Commissioner's petition for certiorari to resolve a conflict between the decision below and that in Local Finance Corp. v. Commissioner, 407 F.2d 629 (CA7), cert. denied, 396 U.S. 956 (1969). We now affirm the decision of the Court of Appeals.

Page 405 U. S. 396

Respondents, First Security Bank of Utah, N.A. and First Security Bank of Idaho, N.A. (the Banks), are national banks that, during the tax years, were wholly owned subsidiaries of First Security Corp. (Holding Company). Other, non-bank, subsidiaries of the Holding Company relevant to this case were First Security Co. (Management Company), Ed. D. Smith & Sons, an insurance agency (Smith), and -- from June, 1954 -- First Security Life Insurance Company of Texas (Security Life). Beginning in 1948, the Banks offered to arrange for borrowers credit life, health, and accident insurance (credit life insurance). The Tax Court found that they did this "for several reasons," including (1) offering a service increasingly supplied by competing financial institutions, (2) obtaining the benefit of the additional collateral that credit insurance provides by repaying loans upon the death, injury, or illness of the borrower, and (3) providing an "additional source of income -- part of the premiums from the insurance -- to Holding Company or its subsidiaries."

Until 1954, any borrower who elected to purchase this insurance was referred by the Banks to two independent insurance companies. The premium rate charged was $1 per $100 of coverage per year, the rate commonly charged in the industry. The Insurance Commissioners of the States involved -- Utah, Idaho, and Texas -- accepted this rate. The Banks followed a routine procedure in making this insurance available to customers. The lending officer would explain the function and availability of credit insurance. If the customer desired the coverage, the necessary form was completed, a certificate of insurance was delivered, and the premium was collected or added to the customer's loan. The Banks then forwarded the completed forms and premiums to Management Company, which maintained records of the

Page 405 U. S. 397

insurance purchased and forwarded the premiums to the insurance carrier. Management Company also processed claims filed under the policies. The cost to each of the Banks for the actual time devoted to explaining and processing the insurance was less than $2,000 per year, characterized by the courts below as "negligible." The cost to Management Company of the services rendered by it was also negligible, slightly in excess of $2,000 per year.

It was the custom in the insurance business (although not invariably followed), regardless of the cost of incidental paperwork, to pay a "sales commission" -- ranging from 40% to 55% of net premiums collected -- to a party who originated or generated the business. But the Banks had been advised by counsel that they could not lawfully conduct the business of an insurance agency or receive income resulting from their customers' purchase of credit life insurance. Neither the Banks nor any of their officers were licensed to sell insurance, and there is no question here of unlawfully acting as unlicensed agents. The Banks received no commissions or other income on or with respect to the credit insurance generated by them. During the period from 1948 to 1954, commissions were paid by the independent companies writing the insurance directly to Smith, one of the wholly owned subsidiaries of Holding Company. These commissions were reported as taxable income not by Smith, but by Management Company, which had rendered the services above described. During this period (1948-1954), the Commissioner did not attempt to allocate the commissions to the Banks. [Footnote 2]

Page 405 U. S. 398

In 1954, Holding Company organized Security Life, a new wholly owned subsidiary licensed to engage in the insurance business. A new procedure was then adopted with respect to placing credit life insurance. It was referred by the Banks to, and written by, an independent company, American National Insurance Company of Galveston, Texas (American National), at the same rate to the customer. American National then reinsured the policies with Security Life pursuant to a "treaty of reinsurance." For assuming the risk under the policies sold to the Banks' customers, Security Life retained 85% of the premiums. American National, which furnished actuarial and accounting services, received the remaining 15%. No sales commissions were paid. Under this new plan, [Footnote 3] the Banks continued to offer credit life insurance to their borrowers in the same manner as before. [Footnote 4] Security Life was not a paper corporation. It commenced business in 1954 with an initial capital of $25,000,

Page 405 U. S. 399

which was increased in 1956 to $100,000. Although it did not become a full-line insurance company (contemplated as a possibility when organized), its reinsurance business was substantial. The risks assumed by it had grown to $41,350,000 by the end of 1959, and it had paid substantial claims. [Footnote 5]

Security Life reported the entire amount of reinsurance premiums, 85% of the premiums charged, in its income for the years 1958-1959. Because the income of life insurance companies then was subject to a lower effective tax rate than that of ordinary corporations, the total tax liability for Holding Company and its subsidiaries was less than it would have been had Security Life paid a part of the premium to the Banks or Management Company as sales commissions. [Footnote 6] Pursuant to his § 482

Page 405 U. S. 400

power to allocate gross income among controlled corporations in order to reflect the actual incomes of the corporations, the Commissioner determined that 40% of Security Life's premium income was allocable to the Banks as compensation for originating and processing the credit life insurance. [Footnote 7] It is the Commissioner's view that the 40% of the premium income so allocated is the equivalent of commissions that the Banks earned, and must be included in their "true taxable income." [Footnote 8]

The parties agree that § 482 is designed to prevent "artificial shifting, milking, or distorting of the true net incomes of commonly controlled enterprises." [Footnote 9] Treasury Regulations provide:

"The purpose of section 482 is to place a controlled taxpayer on a tax parity with an uncontrolled taxpayer, by determining, according to the standard of an uncontrolled taxpayer, the true taxable income from the property and business of a controlled taxpayer. . . . The standard to be applied in every case is that of an uncontrolled taxpayer dealing at arm's length with another uncontrolled taxpayer. [Footnote 10]"

The question we must answer is whether there was a shifting or distorting of the Banks' true net income

Page 405 U. S. 401

resulting from the receipt and retention by Security Life of the premiums above described. [Footnote 11]

We note at the outset that the Banks could never have received a share of these premiums. National banks are authorized to act as insurance agents when located in places having a population not exceeding 5,000 inhabitants, 12 U.S.C.A. § 92. [Footnote 12] Although § 92 does not explicitly prohibit banks in places with a population of over 5,000 from acting as insurance agents, courts have held that it does so by implication. [Footnote 13] The Comptroller

Page 405 U. S. 402

of the Currency has acquiesced in this holding, [Footnote 14] and the Court of Appeals for the Tenth Circuit expressed its agreement in the opinion below.

The penalties for violation of the banking laws include possible forfeiture of a bank's franchise and personal liability of directors. The Tax Court found that the Banks, upon advice of counsel,

"held the belief that it would be contrary to Federal banking law . . . to receive income resulting from their customers' purchase of credit insurance,"

and, pursuant to this belief,

"the two Banks have never received or attempted to receive commissions or reinsurance premiums resulting from their customers' purchase of credit insurance. [Footnote 15]"

Petitioner does not contest this finding by the Tax Court or the holding in this respect of the Court of Appeals below. Accordingly, we assume for purposes of this decision that the Banks were prohibited from receiving insurance-related income, although this prohibition did not apply to non-bank subsidiaries of Holding Company. [Footnote 16]

Page 405 U. S. 403

We know of no decision of this Court wherein a person has been found to have taxable income that he did not receive and that he was prohibited from receiving. In cases dealing with the concept of income, it has been assumed that the person to whom the income was attributed could have received it. The underlying assumption always has been that, in order to be taxed for income, a taxpayer must have complete dominion over it.

"The income that is subject to a man's unfettered command and that he is free to enjoy at his own option may be taxed to him as his income, whether he sees fit to enjoy it or not."

Corliss v. Bowers,281 U. S. 376, 281 U. S. 378 (1930).

It is, of course, well established that income assigned before it is received is nonetheless taxable to the assignor. But the "assignment of income" doctrine assumes

Page 405 U. S. 404

that the income would have been received by the taxpayer had he not arranged for it to be paid to another. In Harrison v. Schaffner,312 U. S. 579, 312 U. S. 582 (1941), we said:

"[O]ne vested with the right to receive income [does] not escape the tax by any kind of anticipatory arrangement, however skillfully devised, by which he procures payment of it to another, since, by the exercise of his power to command the income, he enjoys the benefit of the income on which the tax is laid. [Footnote 17]"

One of the Commissioner's regulations for the implementation of § 482 expressly recognizes the concept that income implies dominion or control of the taxpayer. It provides as follows:

"The interests controlling a group of controlled taxpayers are assumed to have complete power to cause each controlled taxpayer so to conduct its affairs that its transactions and accounting records truly reflect the taxable income from the property and business of each of the controlled taxpayers. [Footnote 18]"

This regulation is consistent with the control concept heretofore approved by this Court, although in a different context. The regulation, as applied to the facts in this case, contemplates that Holding Company -- the controlling interest -- must have "complete power" to shift income among its subsidiaries. It is only where this power exists, and has been exercised in such a way that the "true taxable income" of a subsidiary has been

Page 405 U. S. 405

understated, that the Commissioner is authorized to reallocate under § 482. But Holding Company had no such power unless it acted in violation of federal banking laws. The "complete power" referred to in the regulations hardly includes the power to force a subsidiary to violate the law.

Apart from the inequity of attributing to the Banks taxable income that they have not received and may not lawfully receive, neither the statute nor our prior decisions require such a result. We are not faced with a situation such as existed in those cases, urged by the Commissioner, in which we held the proceeds of criminal activities to be taxable. [Footnote 19] Those cases concerned situations in which the taxpayer had actually received funds. Moreover, the illegality involved was the act that gave rise to the income. Here, the originating and referring of the insurance, a practice widely followed, is acknowledged to be legal. Only the receipt of insurance commissions or premiums thereon by national banks is not. Had the Banks ignored the banking laws, thereby risking the loss of their charters and subjecting their officers to personal liability, [Footnote 20] the illegal income cases would be relevant. But the Banks, from the inception of their use of credit life insurance in 1948, were careful never to place themselves in that position.

We think that fairness requires the tax to fall on the party that actually receives the premiums, rather than on the party that cannot. [Footnote 21]

Page 405 U. S. 406

In L. E. Shunk Latex Products, Inc. v. Commissioner, 18 T.C. 940 (1952), the Tax Court considered a closely analogous situation. The same interest controlled a manufacturer and a distributor of rubber prophylactics. The OPA Price Regulations of World War II became effective on December 1, 1941. Prior thereto, the distributor had raised its prices to retailers, but the manufacturer had not increased the prices charged to its affiliated distributor. The Commissioner, acting under § 482, attempted to allocate some of the distributor's income to the manufacturer on the ground that a portion of the distributor's profits was, in fact, earned by the manufacturer, even though the manufacturer was prohibited by the OPA regulations from increasing its prices. In holding that the Commissioner had acted improperly, the Tax Court said that he had "no authority to attribute to petitioners income which they could not have received." 18 T.C. at 961. [Footnote 22]

It is argued, finally, that the "services" rendered by the Banks in making credit insurance available to customers "would have been compensated had the corporations

Page 405 U. S. 407

been dealing with each other at arm's length." [Footnote 23] The short answer is that the proscription against acting as insurance agent and receiving compensation therefor applies to all national banks located in places with population in excess of 5,000 inhabitants. It applies equally to such banks, whether or not they are controlled by a holding company. If these Banks had been independent of any such control -- as most banks are -- no commissions or premiums could have been received lawfully, and there would have been no taxable income. [Footnote 24] As stated in the Treasury Regulations, the "purpose of section 482 is to place a controlled taxpayer on a tax parity with an uncontrolled taxpayer. . . ." [Footnote 25] We think our holding comports with such parity treatment.

We conclude that the premium income received by Security Life could not be attributable to the Banks. Holding Company did not utilize its control over the Banks and Security Life to distort their true net incomes. The Commissioner's exercise of his § 482 authority was therefore unwarranted in this case. The judgment below is

Affirmed.

[Footnote 1]

Title 26 U.S.C. § 482 provides:

"In any case of two or more organizations, trades, or businesses (whether or not incorporated, whether or not organized in the United States, and whether or not affiliated) owned or controlled directly or indirectly by the same interests, the Secretary or his delegate may distribute, apportion, or allocate gross income, deductions, credits, or allowances between or among such organizations, trades, or businesses, if he determines that such distribution, apportionment, or al location is necessary in order to prevent evasion of taxes or clearly to reflect the income of any of such organizations, trades, or businesses."

[Footnote 2]

The corporate income tax imposes the same rate of taxation on taxable income up to $25,000 and the same rate for income greater than $25,000. 26 U.S.C. § 11. Therefore, if, excluding the sales commissions in question, we assume, as seems likely, that, before 1954 the income of both respondents and of Management Company exceeded $25,000, then the total taxes paid by the Holding Company subsidiaries would not be affected if the commissions were allocated wholly to respondents, or to Management Company, or partially to all three.

[Footnote 3]

This plan was proposed to Holding Company by American National, which was making similar recommendations to other financial institutions. The Tax Court found that insurance companies anticipated that lending institutions would soon begin to form their own affiliated life insurance companies to write the credit insurance, which was proving to be a profitable business. Such a move by lending institutions would deprive the independent insurance companies of substantial credit insurance business. The type of plan recommended by American National was intended to salvage a portion of such business by charging a fee for the actuarial, accounting, and other services made available to Security Life, which reinsured the entire risk. T.C. Memo 1967-256.

[Footnote 4]

Taxpayers are, of course, generally free to structure their business affairs as they consider to be in their best interests, including lawful structuring (which may include holding companies) to minimize taxes. Perhaps the classic statement of this principle is Judge Learned Hand's comment in his dissenting opinion in Commissioner v. Newman, 159 F.2d 848, 850-851 (CA2 1947):

"Over and over again, courts have said that there is nothing sinister in so arranging one's affairs as to keep taxes as low as possible. Everybody does so, rich or poor; and all do right, for nobody owes any public duty to pay more than the law demands: taxes are enforced exactions, not voluntary contributions. To demand more in the name of morals is mere cant."

See Knetsch v. United States,364 U. S. 361, 364 U. S. 365 (1960); Chirelstein, Learned Hand's Contribution to the Law of Tax Avoidance, 77 Yale L.J. 440 (1968).

[Footnote 5]

The opinion of the Tax Court, supra, includes tables showing the profitability of Security Life. Its net worth (capital and surplus) increased from $161,370.52 at the end of 1955 to $1,050,220 at the end of 1959, despite the paying out of claims and claims expenses over the five-year period totaling $525,787.91. The Tax Court found that:

"Although Security Life's business proved to be successful, there was no way to judge at the outset whether it would succeed. In relation to its capital structure, Security Life reinsured a large amount of risk."

[Footnote 6]

Both the Life Insurance Company Tax Act for 1955, 70 Stat. 36, applicable to the years 1955-1957, and the Life Insurance Company Income Tax Act of 1959, 73 Stat. 112, applicable to later years, accorded preferential tax treatment to life insurance companies.

[Footnote 7]

The Commissioner made an alternative allocation to Management Company. Because it upheld his allocation to the Banks, the Tax Court rejected this alternative. In reversing the allocation to the Banks, the Court of Appeals found the record insufficient to pass on the alternative allocation. It therefore ordered that the case be remanded to the Tax Court for further consideration. The alternative allocation is therefore not before us.

[Footnote 8]

See 26 CFR § 1.482-1(a)(6) (1971).

[Footnote 9]

B. Bittker & J. Eustice, Federal Income Taxation of Corporations and Shareholders p. 121 (3d ed.1971).

[Footnote 10]

26 CFR § 1.482-1(b)(1) (1971). The first regulations interpreting this section of the statute were issued in 1934. They have remained virtually unchanged. Jenks, Treasury Regulations Under Section 482, 23 Tax Lawyer 279 (1970).

[Footnote 11]

The court below held that the mere generation of business does not necessarily result in taxable income. As we decide this case on a different ground, we need not consider the circumstances in which the origination or referral of business may or may not result in taxable income to the originating party. We do agree that origination of business does not necessarily result in such income. In this case, if the Banks had been unaffiliated with any other entities (i.e., had been separate, independent banks, unaffiliated with any holding company group), they would nevertheless have performed the "services" that the Commissioner asserts resulted in taxable income. These services -- namely the negligible paperwork and the referring of the credit insurance to a company licensed to write it -- were performed (as the Tax Court noted) for the convenience of bank customers and to assure additional collateral for loans. They also may have been necessary to meet competition. The fact of affiliation, enabling referral of the business to another subsidiary in the holding company group, does not alter the character of what was done. The act which is relevant, in terms of generating insurance premiums and commissions, is the referral of the business. Whether this referral is to an affiliated or an unaffiliated insurance company should make no difference as to whether the bank, which never receives the income, has earned it.

[Footnote 12]

Section 92 of the National Bank Act was enacted in 1916. When the statutes were revised in 1918 and reenacted, § 92 was omitted. The revisers of the United States Code have omitted it from recent editions of the Code. However, the Comptroller of the Currency considers § 92 to be effective, and he still incorporates the provision in his Regulations, 12 CFR §§ 2.1-2.5 (1971).

[Footnote 13]

Saxon v. Georgia Association of Independent Insurance Agents, Inc., 399 F.2d 1010 (CA5 1968). See Commissioner v. Morris Trust, 367 F.2d 794, 795 (CA4 1966).

[Footnote 14]

12 CFR §§ 2.1-2.5 (1971).

[Footnote 15]

Findings of fact and opinion in T.C. Memo 1967-256, p. 67-1456, filed Dec. 27, 1967, in this case.

[Footnote 16]

MR. JUSTICE MARSHALL's dissenting opinion is based on the "crucial fact . . . [that] respondents [the Banks] have already violated the federal statute and regulations by soliciting insurance premiums." The statute, 12 U.S.C.A. § 92, prohibits a national bank from acting "as the agent" of an insurance company "by soliciting and selling insurance and collecting premiums on policies." MR. JUSTICE MARSHALL concludes that the banks have violated this statute, and notes that "the penalties . . . are indeed severe."

This finding of illegality with respect to conduct of the Banks extending back to 1948 is without support either in the record or in any authority cited. Indeed, the record is to the contrary. The Tax Court found as a fact that there was no "agency agreement" between the Banks and the insurance companies; it further found that the Banks "made available" the credit insurance to their customers. There is no finding, and nothing in the record to support a finding, that the Banks were agents of the insurance companies or that they engaged in "selling insurance" within the meaning of the statute. The Banks no doubt "solicited" in the sense that they encouraged their customers to take out the insurance. But, in the absence of an agency relationship, and in view of the undisputed fact that the Banks received no commissions or premiums, it cannot be said that there was a violation of the statute. Moreover, the Banks were regularly examined by the federal banking authorities "looking for violations in the national banking laws." The making of credit insurance available to customers was and is a common practice in the banking business. There is no suggestion that the federal banking authorities considered this service to customers to be a violation of the law as long as the Banks received no commissions or fees. This administrative interpretation over many years is entitled to great weight.

The dissenting opinion raises this serious issue for the first time. It was not raised at any stage in the proceedings below. Nor was it briefed or argued in this Court. The Commissioner, the Tax Court, the Court of Appeals, and the Solicitor General all assumed that the Banks' conduct in this respect was perfectly lawful. But, quite apart from the consistent administrative acceptance and from the assumptions by the Commissioner and the courts below, we think there is no basis for a finding of this serious statutory violation.

[Footnote 17]

See Helvering v. Horst,311 U. S. 112 (1940) (assignment of interest coupons attached to bonds owned by taxpayer); Lucas v. Earl,281 U. S. 111 (1930) (taxpayer assigned to wife one-half interest in his earnings). See generally Commissioner v. Sunnen,333 U. S. 591 (1948), and cases discussed therein at 333 U. S. 604-610.

[Footnote 18]

26 CFR § 1.482-1(b)(1) (1971).

[Footnote 19]

James v. United States,366 U. S. 213 (1961); Rutkin v. United States,343 U. S. 130 (1952).

[Footnote 20]

12 U.S.C. § 93

[Footnote 21]

Thus, in Commissioner v. Lester,366 U. S. 299 (1961), in determining that a taxpayer should not be taxed on alimony payments to his divorced wife, the Court determined that it was more consistent with the basic precepts of income tax law that the wife, who received and had power to spend the payments, should be taxed, rather than the husband, who actually earned the money.

[Footnote 22]

As noted at the outset of this opinion, certiorari was granted to resolve the conflict between the decision below and that in Local Finance Corp. v. Commissioner, 407 F.2d 629 (CA7 1969). The Tax Court in this case felt bound to follow Local Finance Corp., which was decided subsequently to L. E. Shunk Latex Products, Inc. v. Commissioner, 18 T.C. 940 (1952). For the reasons stated in the opinion above, we think Local Finance Corp. was erroneously decided, and that the earlier views of the Tax Court were correct.

See Teschner v. Commissioner, 38 T.C. 1003, 1009 (1962):

"In the case before us, the taxpayer, while he had no power to dispose of income, had a power to appoint or designate its recipient. Does the existence or exercise of such a power alone give rise to taxable income in his hands? We think clearly not. In Nicholas A. Stavroudis, 27 T.C. 583, 590 (1956), we found it to be settled doctrine that a power to direct the distribution of trust income to others is not, alone, sufficient to justify the taxation of that income to the possessor of such a power."

[Footnote 23]

See dissenting opinion of MR. JUSTICE BLACKMUN, post at 405 U. S. 422.

[Footnote 24]

If an unaffiliated bank were able to provide the insurance at a cheaper rate because no commissions were paid, this would benefit the customers, but would result in no taxable income.

[Footnote 25]

26 CFR § 1.482-1(b)(1) (1971).

MR. JUSTICE MARSHALL, dissenting.

The facts of this case illustrate the natural affinity that lending institutions and insurance companies have for each other. Congress depends on the ability of the Commissioner of Internal Revenue to utilize § 482 of the Internal Revenue Code, 26 U.S.C. § 482, to insure that this affinity does not provide a basis for tax avoidance. H.R.Rep. No. 1098, 84th Cong., 1st Sess., 7; S.Rep. No. 1571, 84th Cong., 2d Sess., 8. In my opinion,

Page 405 U. S. 408

today's decision renders § 482 a less efficacious weapon against tax avoidance schemes than Congress intended, and provides the respondents with an unwarranted tax advantage. I dissent.

Section 482 provides:

"In any case of two or more organizations, trades, or businesses (whether or not incorporated, whether or not organized in the United States, and whether or not affiliated) owned or controlled directly or indirectly by the same interests, the Secretary or his delegate may distribute, apportion, or allocate gross income, deductions, credits, or allowances between or among such organizations, trades, or businesses, if he determines that such distribution, apportionment, or allocation is necessary in order to prevent evasion of taxes or clearly to reflect the income of any of such organizations, trades, or businesses."

First enacted as § 45 of the Revenue Act of 1928, 45 Stat. 806, the statute was intended to prevent the avoidance of tax liability through fictions and

"to deny the power to shift income . . . arbitrarily among controlled corporations, and to place such corporations rather on a parity with uncontrolled concerns."

Central Cuba Sugar Co. v. Commissioner, 198 F.2d 214, 216 (CA2 1952). See H.R.Rep. No. 2, 70th Cong., 1st Sess., 16-17; S.Rep. No. 960, 70th Cong., 1st Sess., 24-25. It is intended to serve the same purpose in the present Code.

It is well established law that, in analyzing a transaction under § 482, the test is whether the arrangement as structured for income tax purposes by interlocking corporate interests would have been similarly structured by taxpayers dealing at arm's length. See, e.g., Bore v. Commissioner, 405 F.2d 673 (CA2 1968), cert. denied sub nom. Danica Enterprises v. Commissioner, 395 U.S.

Page 405 U. S. 409

933 (1969); Eli Lilly & Co. v. United States, 178 Ct.Cl. 666, 372 F.2d 990 (1967).

Applying that test to this case, the following facts are relevant. Before 1954, an independent insurance company paid respondents commissions ranging from 40% to 45% for their services in offering insurance to borrowers designed to discharge their debts in the event that they died or became disabled during the term of their loans. After 1954, respondents offered borrowers policies issued by a different insurance company. At this time, the holding company that controlled respondents created a new subsidiary to reinsure the borrowers who purchased policies. By paying off the independent insurance company with 15% of the proceeds of the policies, the subsidiary assumed the insurance risks and garnered the remaining 85% of the proceeds. No commission was paid to respondents by either the independent company or the insurance subsidiary.

The tax advantage of the post-1954 structure derived from the fact that the Life Insurance Company Tax Act for 1955, 70 Stat. 36, as amended by the Life Insurance Company Income Tax Act of 1959, 73 Stat. 112, as amended, 26 U.S.C. § 801 et seq., gives preferential tax treatment to life insurance companies. By funneling all proceeds from the sales of the insurance policies to a subsidiary that qualified for tax treatment as a life insurance company, the holding company avoided the heavier tax that would have been imposed on respondents had they been paid commissions.

The Commissioner's analysis of this case is not overly complex: he saw that respondents performed essentially the same services and generated the same income after 1954 that they did before, and he concluded that § 482 required that they should be taxed on the premiums that they were actually earning.

Page 405 U. S. 410

Based on respondents' earlier experience dealing at arm's length with an independent insurance company and on the well known fact that insurers pay solicitors a portion of the premium as a commission for generating income, see Local Finance Corp. v. Commissioner, 48 T.C. 773, 786 (1967), aff'd, 407 F.2d 629, 631-632 (CA7 1969), the Commissioner determined that 40% of the premium income was properly allocated to respondents.

The respondents make, in essence, two arguments in their attempt to rebut the Commissioner's position. First, they urge that they never received any funds as a result of offering the policies to borrowers, and that it is therefore unfair to tax them on any portion of said proceeds. If § 482 is to have any meaning, that argument must be rejected. It makes absolutely no sense to examine this case with a technical eye as to whether respondents actually received or had a "right" to receive any commissions. This is not a case involving independent companies or private individuals, where we must scrupulously avoid taxing someone on money he will never receive regardless of his will in the matter. See, e.g., Blair v. Commissioner,300 U. S. 5 (1937); cf. Teschner v. Commissioner, 38 T.C. 1003 (1962). This is a case involving related corporations, and § 482 recognizes that such corporations may be treated differently from natural persons or unrelated corporations for certain tax purposes.

We need not look far to find that this entire complicated economic structure -- established, designed, administered, and amendable by the holding company -- had the right to the proceeds. Pursuant to § 482, the Commissioner properly attempted to insure that the proceeds would be equitably allocated.

The Court apparently concedes that, if respondents' only argument against taxation were that they have

Page 405 U. S. 411

received no money, that argument would fail. This concession is, in fact, mandated by various decisions of this Court, including Harrison v. Schaffner,312 U. S. 579 (1941); Helvering v. Horst,311 U. S. 112 (1940), and Lucas v. Earl,281 U. S. 111 (1930).

Having implicitly rejected the argument that mere nonreceipt of money is sufficient to avoid taxation, the Court proceeds to accept respondents' second argument that, in this case, the taxpayer is legally barred from ever receiving money, and, in this circumstance, he cannot be taxed on it. Respondents find a legal bar to receipt of the proceeds at issue here in 12 U.S.C.A. § 92, which provides:

"In addition to the powers now vested by law in national banking associations organized under the laws of the United States any such association located and doing business in any place the population of which does not exceed five thousand inhabitants, as shown by the last preceding decennial census, may, under such rules and regulations as may be prescribed by the Comptroller of the Currency, act as the agent for any fire, life, or other insurance company authorized by the authorities of the State in which such bank is located to do business in said State, by soliciting and selling insurance and collecting premiums on policies issued by such company, and may receive for services so rendered such fees or commissions as may be agreed upon between the said association and the insurance company for which it may act as agent, and may also act as the broker or agent for others in making or procuring loans on real estate located within one hundred miles of the place in which said bank may be located, receiving for such services a reasonable fee or commission: Provided, however, That no such bank shall in any case guarantee

Page 405 U. S. 412

either the principal or interest of any such loans or assume or guarantee the payment of any premium on insurance policies issued through its agency by its principal: and provided further, That the bank shall not guarantee the truth of any statement made by an assured in filing his application for insurance."

This statute, by inference, and the regulations of the Comptroller of the Currency, 12 CFR §§ 2.1-2.5, by explicit language, bar national banks in communities with more than 5,000 inhabitants from selling, soliciting, or receiving the proceeds from selling insurance. Respondents are within the legal prohibition, and the penalties provided for a violation are indeed severe. Assuming that the respondents will not attempt to violate the law and not wishing to appear to encourage a violation, the Court concludes that respondents will receive none of the proceeds, and that they cannot be taxed on money they will never receive.

But the crucial fact in this case is that, under their own theory, respondents have already violated the federal statute and regulations by soliciting insurance premiums. Title 12 U.S.C.A. § 92 was added to the federal banking laws in 1916 at the suggestion of John Skelton Williams, who was then Comptroller of the Currency. He wrote to Congress to recommend that national banks in small communities be permitted to associate with insurance companies, but that banks in larger communities be prohibited from doing the same:

"It seems desirable from the standpoint of public policy and banking efficiency that this authority should be limited to banks in small communities. This additional income will strengthen them and increase their ability to make a fair return to their shareholders, while the new business is not likely to

Page 405 U. S. 413

assume such proportions as to distract the officers of the bank from the principal business of banking. Furthermore, in many small places, the amount of insurance policies written . . . is not sufficient to take up the entire time of an insurance broker, and the bank is not therefore likely to trespass upon outside business naturally belonging to others."

"I think it would be unwise, and therefore undesirable, to confer this privilege generally upon banks in large cities, where the legitimate business of banking affords ample scope for the energies of trained and expert bankers. I think it would be unfortunate if any movement should be made in the direction of placing the banks of the country in the category of department stores. . . ."

Letter of June 8, 1916, to Senate, 53 Cong.Rec. 11001.

There is nothing in the history of the provision to indicate that Congress was more concerned with banks' actually receiving money than with their performing the activities that generated the money. In fact, the history that is available indicates that it is the activities themselves that Congress wished to stop. Banks in large communities were simply not permitted to do anything that insurance agents might do i.e., they were not permitted to solicit insurance.

Under respondents' theory of the case, the legal violation is thus a fait accompli, and the respondents are taxable as if there had been no illegality. [Footnote 2/1] See, e.g., 274 U. S. S. 414

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