United States v. Consumer Life Ins. Co.,
430 U.S. 725 (1977)

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U.S. Supreme Court

United States v. Consumer Life Ins. Co., 430 U.S. 725 (1977)

United States v. Consumer Life Insurance Co.

No. 75-1221

Argued December 6, 1976

Decided April 26, 1977*

430 U.S. 725


Under § 801(a) of the Internal Revenue Code of 1954, an insurance company is considered a life insurance company for federal tax purposes if its life insurance reserves constitute more than 50% of its "total reserves," as that term is defined in § 801(c). Qualifying companies are accorded preferential tax treatment. The question here is how unearned premium reserves for accident and health (nonlife) insurance policies should be allocated between a primary insurer and a reinsurer for purposes of applying the 50% test. The unearned premium reserve is the basic insurance reserve in the casualty insurance business, and an important component of "total reserves" under § 801(c)(2). The taxpayers contend that, by virtue of certain reinsurance agreements ("treaties"), they have maintained nonlife reserves below the 50% level. These treaties were of two basic types: (1) Treaty I, whereby the taxpayer served as reinsurer, and the "other party" was the primary insurer or ceding company; and (2) Treaty II, whereby the taxpayer served as the primary insurer and ceded a portion of the business to the "other party," the reinsurer. Both types of treaties provided that the other party would hold the premium dollars derived from accident and health business until such time as the premiums were "earned," i.e., attributable to the insurance protection provided during the portion of the policy term already elapsed. The other party also set up on its books the corresponding unearned premium reserve, relieving the taxpayer of that requirement, even though the taxpayer assumed all substantial insurance risks. In each case, the taxpayer and the other party reported their affairs annually in this way to both the Internal Revenue Service and the appropriate state insurance departments. Despite the state authorities' acceptance of these annual statements, the

Page 430 U. S. 726

Government argues that the unearned premium reserves must be allocated or attributed for tax purposes from the other parties to the taxpayers, with the result that the taxpayers fail the 50% test, and thus are disqualified from preferential tax treatment, primarily because, in the Government's view, § 801 embodies a rule that "insurance reserves follow the insurance risk."


1. The reinsurance treaties served valid business purposes, and, contrary to the Government's argument, were not sham transactions without economic substance. Pp. 430 U. S. 736-739.

2. Since the taxpayers neither held the unearned premium dollars nor set up the corresponding unearned premium reserves, and since that treatment was in accord with customary practice as policed by the state regulatory authorities, § 801(c)(2) does not permit attribution to the taxpayers of the reserves held by the other parties to the reinsurance treaties. Pp. 430 U. S. 739-750.

(a) The language of § 801(c)(2) does not suggest that Congress intended a "reserves follow the risk" rule to govern determinations under § 801. Pp. 430 U. S. 740-741.

(b) Nor does the legislative history of § 801 furnish support for the Government's interpretation. Pp. 430 U. S. 742-745.

(c) Section 820 of the Code, prescribing the tax treatment of modified coinsurance contracts, affords an unmistakable indication that Congress did not intend § 801 to embody a "reserves follow the risk" rule. Pp. 430 U. S. 745-750

3. Nor is attribution of unearned premium reserves to the taxpayers required under § 801(c)(3), counting in total reserves "all other insurance reserves required by law." There is no indication that state statutory law in these cases required the taxpayers to set up and maintain the contested unearned premium reserves, especially since the insurance departments of the affected States consistently accepted annual reports showing reserves held as the taxpayers claim they should be. Pp. 430 U. S. 750-752.

No. 75-1221, 207 Ct.Cl. 638, 524 F.2d 1167, and No. 75-1285, 207 Ct.Cl. 594, 524 F.2d 1155, affirmed; No. 75-1260, 514 F.2d 675, reversed and remanded.

POWELL, J., delivered the opinion of the Court, in which BURGER, C.J., and BRENNAN, STEWART, BLACKMUN, REHNQUIST, and STEVENS, JJ., joined. WHITE, J., filed a dissenting opinion, in which MARSHALL, J., joined, post, p. 430 U. S. 753.

Page 430 U. S. 727

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