1. The proviso of the Revenue Act of 1913, § II G(b),
"[t]hat . . . life insurance companies shall not include as
income in any year such portion of any actual premium received from
any individual policyholder as shall have been paid back or
credited to such individual policyholder, or treated as an
abatement of premium of such individual policyholder, within such
year . . ."
does not apply to overpayments by deferred-dividend
policyholders of a mutual level premium company which, though
formally credited to the respective policyholders, are held in the
aggregate for apportionment and distribution to the survivors in
good standing at the end of a prescribed period of time. P.
271 U. S.
115.
2. Annual additions made by a life insurance company to a fund
accumulated for the amortization of the premiums paid on its
investments in bonds above par are not deductible from gross income
under § II G(b),
supra, as "losses actually sustained
within the year." P.
271 U. S.
116.
3. The estimated value of the future premiums waived by a policy
stipulation exempting the insured from further premiums on proof of
total and permanent disability
held not deductible from
gross income under § II G(b),
supra, as part of "the net
addition required by law to be made within the year to reserve
funds." P.
271 U. S.
117.
4. A special fund required by a state Superintendent of
Insurance to be set aside to meet unreported losses due to death of
policyholders
held not an addition to reserve funds
required.by law. P.
271 U. S.
119.
5. The compensation which an insurance company agrees to pay
soliciting agents has no relation to the reserve held to meet
maturing policies, and when it sets aside a fund to provide
payments to such agents, this cannot be regarded as a reserve
within intendment of the statute. P.
271 U. S.
119.
8 F.2d 851 reversed.
Page 271 U. S. 110
Certiorari to a judgment of the circuit court of appeals which
affirmed in part a judgment of the district court (3 Fed. 2d 280)
allowing recovery on various items demanded by the Insurance
Company in a suit against the Collector to regain alleged excessive
income tax payments. Certiorari was applied for and allowed on both
sides.
Page 271 U. S. 114
MR. JUSTICE McREYNOLDS delivered the opinion of the Court.
The Insurance Company brought suit in the District Court at New
York to recover of Edwards, collector, the alleged excessive sum
demanded of it as income tax for the year 1913 and obtained
judgment for a part. 3 F.2d 280. The circuit court of appeals
affirmed this, except as to one item. 8 F.2d 851. Both parties are
here by certiorari, and five questions require consideration. All
involve the construction or application of the Revenue Act of
October 3, 1913, c. 16, 38 Stat. 114, 172. Section II G(a) imposed
an annual tax of one percentum upon the net income of "every
insurance company organized in the United States," and (b)
directed:
"Such net income shall be ascertained by deducting from the
gross amount of the income of such . . . insurance company,
received within the year from all sources, (first) all the ordinary
and necessary expenses paid within the year in the maintenance and
operation of its business and properties, including rentals or
other payments required to be made as a condition to the continued
use or possession of property; (second) all losses actually
sustained within the year and not compensated by insurance or
otherwise, including a reasonable allowance for depreciation by
use, wear and tear of property, if any; . . . and in case of
insurance companies the net
Page 271 U. S. 115
addition, if any, required by law to be made within the year to
reserve funds and the sums other than dividends paid within the
year on policy and annuity contracts:
Provided, that . . .
life insurance companies shall not include as income in any year
such portion of any actual premium received from any individual
policyholder as shall have been paid back or credited to such
individual policyholder, or treated as an abatement of premium of
such individual policyholder, within such year. . . ."
1. The company, a New York corporation without capital stock,
does business on the mutual level premium plan and issues both
"annual dividend" and "deferred dividend" policies. Under this
plan, each policyholder pays annually in advance a fixed sum which,
when added to like payments by others, probably will create a fund
larger than necessary to meet all the maturing policies and
estimated expenses. At the end of each year, the actual insurance
costs and expenses incurred are ascertained. The difference between
their sum and the total of advance payments and other income then
becomes the "overpayment" or surplus fund for immediate
pro
rata distribution among policyholders as dividends or for such
future disposition as the contracts provide. An "annual dividend"
policyholder receives his proportionate part of this fund each year
in cash or as a credit upon or abatement of his next premium.
"Deferred dividend," or, as sometimes called, "distribution,"
policies provide:
"That no dividend or surplus shall be allowed or paid upon this
policy unless the insured shall survive until completion of its
distribution period and unless this policy shall then be in force.
That surplus or profits derived from such policies on the
distribution policy plan as shall not be in force at the date of
the completion of their respective distribution periods shall be
apportioned among such policies as shall complete the distribution
periods. "
Page 271 U. S. 116
Accordingly, all overpayments by deferred dividend policyholders
must await apportionment until the prescribed period ends, and no
one of them will receive anything therefrom if his policy lapses or
if he dies before that time. The whole of this fund goes to the
survivors.
Overpayments by deferred dividend policyholders for 1912
amounted to $8,189,918. The collector refused to deduct this sum
from the total receipts, and demanded the prescribed tax of one
percentum thereon. We think he acted properly. Both courts below so
held.
The applicable doctrine was much considered in
Penn Mutual
Life Insurance Co. v. Lederer, 252 U.
S. 523. We there pointed out the probable reason for the
permitted noninclusion in the net income of a life insurance
company of
"such portion of any actual premium received from any individual
policyholder as shall have been paid back or credited to such
individual policyholder, or treated as an abatement of premium of
such individual policyholder, within such year."
Here, it is insisted that, within the meaning of the quoted
provision, each deferred dividend policyholder's overpayment was
actually credited to him during the year, but we cannot accept this
theory. The aggregate of all such payments was held for
distribution among policyholders alive at the end of the period.
The receipts for the year were not really diminished.
2. The company owned many bonds, etc., payable at future dates,
purchased at prices above their par values, and to amortize these
premiums, a fund was set up. It claimed that an addition to this
fund should be deducted from gross receipts. The district court
thought the claim well founded, but the circuit court of appeals
took another view. Unless the addition amounted to a loss "actually
sustained within the year," no deduction could be made therefor.
Obviously no actual ascertainable loss had occurred. All of the
securities might have been sold thereafter above cost. The result
of the venture could not be known until they were either sold or
paid off.
Page 271 U. S. 117
3. In 1910, the company introduced a clause into some policies
by which it agreed to waive payments of premiums after proof of
total and permanent disability. The estimated value on December 31,
1913, of future premiums so waived amounted to $16,629. It claimed
this should be added to the reserve fund and deducted from gross
income. Insurance companies may deduct "the net addition, if any,
required by law to be made within the year to reserve funds."
The pertinent portion of the agreed statement of facts
follows:
"In 1910, the plaintiff introduced into some of its contracts of
insurance a clause under which it agreed that, upon receipt, before
default in the payment of premium, of due proof that the insured
had become totally and permanently disabled, the plaintiff would
waive payment of any premium thereafter falling due. In taking its
account at the end of the calendar year 1913, the plaintiff had
then received due proof that the insured under a number of these
policies were totally and permanently disabled in accordance with
the terms of said contracts providing for the waiver of the payment
of future premiums. The value at December 31, 1913, of the future
premiums waived on account of total and permanent disability was
the sum of $16,629. The value at December 31, 1912, of the future
premiums so waived was the sum of $5,637."
"In the calculation of the general reserve fund at the end of
any calendar year, the company and the insurance department of the
State of New York make the computation by deducting from the value
of the contractual benefits under each policy the then value of all
future premiums under the policy. The general reserve fund of the
plaintiff stated in its annual statement is thus the reserve
computed by deducting the value of all future premiums
Page 271 U. S. 118
from the valuation of all policy obligations. But, under the
policies on the lives of those who had become totally and
permanently disabled and whose contracts provided for the waiver of
the payment of future premiums, no future premiums will be received
by the plaintiff, and therefore the net reserve reported for these
policies in understated to the extent of the value of these future
premiums."
"In the official blank for the plaintiff's annual statement to
be used at December 31, 1913, there was an item of liabilities, No.
9-a, entitled 'Present Value of Future Premiums Waived on Account
of Total and Permanent Disability,' and in the plaintiff's annual
statement the sum reported under this item was $16,629 at December
31, 1913. The sum of $16,629 reported under item No. 9-a was not
included in the plaintiff's general reserve. In the official blank
for use at December 31, 1912, there was no such item as No. 9-a,
and the plaintiff included the value at December 31, 1912, of
future premiums waived on account of total and permanent disability
(
viz. $5,637) as a part of the general reserve at that
date."
"If said sum of $5,637 had not been included as a part of the
general reserve at December 31, 1912, the net addition to the value
of future premiums waived on account of total and permanent
disability would have been the excess of $16,629 over $5,637.
Since, however, owing to the change in the form of the official
blank, the said $5,637 was deducted as a part of the plaintiff's
general reserve in obtaining the net addition to the general
reserve, the sum to use in obtaining the net addition to the value
of future premiums waived on account of total and permanent
disability in the sum of $16,629."
The circuit court of appeals held the deduction should have been
allowed, but we think otherwise.
The Superintendent of Insurance of New York required this item
to be reported as a liability, and did not treat
Page 271 U. S. 119
it as part of the general reserve. Upon the agreed facts, we
cannot say that it was part of any reserve required by the laws of
the New York. There is nothing to show how "the value of the
contractual benefits" under these policies was arrived at and,
considering the evidence presented, we must accept the
Superintendent's conclusion. The company has not shown enough to
establish its right to the exemption.
4. A number of policyholders died during the calendar year, but
their deaths were not reported before it terminated. The
Superintendent of Insurance required the company to set aside a
special fund to meet these unreported losses, and it claimed that
this was an addition to the reserve fund required by law. We think
this claim was properly rejected by the Commissioner, although the
courts below held otherwise.
McCoach v. Insurance Co. of North
America, 244 U. S. 585, and
United States v. Boston Insurance Co., 269 U.
S. 197, pointed out that "the net addition, if any,
required by law to be made within the year to reserve funds," does
not necessarily include whatever a state official may so designate;
that "reserve funds" has a technical meaning. It is unnecessary now
to amplify what was there said. The item under consideration
represented a liability, and not something reserved from premiums
to meet policy obligations at maturity.
5. The company also claimed deduction for additions to a fund
set aside to provide for payment of annuities to former soliciting
agents as provided by their contracts of employment. The
Commissioner properly rejected this item, although both courts
below held a different view. The agreed statement of facts
shows:
"The plaintiff has a form of contract of employment with many of
its soliciting agents under which, if such agents for a period of
20 years continuously devote their entire time, talents, and
energies in soliciting applications
Page 271 U. S. 120
for insurance, and if they shall for the 20 years accomplish
certain prescribed minimum results, then, at the end of twenty
years of such service, each such agent becomes entitled to an
income for life payable monthly, the amount of the payment being
based upon the results obtained by each such agent during the
twenty-year period. The laws of New York require the Superintendent
of Insurance, in making a valuation of the obligations of the
plaintiff to value annuities on the standard of McClintock's 'Table
of Mortality among Annuitants,' with interest not exceeding four
percentum per annum. Said Superintendent of Insurance, after making
an examination of the plaintiff and valuing its liabilities,
required the plaintiff to carry, and it does carry, a fund to meet
its said liabilities on said contracts with its soliciting agents,
and this fund it increased during the year 1913. The net addition
to said fund for said year was the sum of $160,641, which the
plaintiff, in making its said return, deducted from gross income
under that clause of the law which authorizes a life insurance
corporation to deduct the net addition required by law to be made
within the year to reserve funds. But, in amending said return, the
Commissioner refused to allow said deduction, and thereby made the
plaintiff's net income for the year appear to be $160,641 more than
it would have been if said deduction had been allowed, and he
assessed and collected an additional tax on account thereof
accordingly in the sum of $1,606.41, which forms a part of the tax
in controversy in this suit."
As pointed out above, the term "reserve funds" in the taxing Act
has a technical meaning. The compensation which an insurance
company agrees to pay soliciting agents has no relation to the
reserve held to meet maturing policies, and when it sets aside a
fund to provide payments to such agents, this cannot be regarded as
a reserve within intendment of the statute.
Page 271 U. S. 121
The judgment below must be reversed. The cause will be remanded
to the district court for further proceedings in harmony with this
opinion.