#### BOSTON INSURANCE COMPANY v. THE UNITED STATES.1

[No. B-166.

Decided November 5, 1923.]

*On the Proofs.*

*Income tax; deductions; net additions to reserve funds.*— Where the laws of a State create the office of superintendent of insurance and confer upon him general powers to carry the insurance laws of the State into effect and to prescribe the manner and form of reports to be made by insurance companies doing business in said State, his regulations requiring such insurance com*604panies to maintain a loss reserve as a condition precedent to doing business in said State is a legitimate exercise of his powers and such, regulations have the force of law, and net additions to such loss reserves are proper deductions from gross income.

*The Reporter’s*statement of the case:

*Mr. A. R. Serven*for the plaintiff. *Serven, Joyce & Barlow*were on the briefs.

*Messrs. Fred K. Dyar*and *Forrest D. Siefkin,*with whom was *Mr. Assistant Attorney General Robert H.*Lovett, for the defendant. *Mr. Nelson T. Harston*was on the brief.

The following are the facts of the case as found by the court:

I. Plaintiff is a corporation duly organized and existing under the laws of Massachusetts, one of the States of the United States, having its principal office in the city of Boston, in said State, and is now and has been continuously engaged since the year 1908, and long prior thereto, in the business of making and selling fire and marine insurance in the States of Massachusetts, New York, and other States of the United States.

II. Plaintiff duly complied with all of the laws of the State of New York prescribing the conditions upon which it was allowed to transact the business of selling fire and marine insurance within said State, and was issued annual licenses by the superintendent of insurance of the State of New York duly authorizing it to transact its said business of insurance within'said State for the respective years of 1915,1916, and 1917, and plaintiff did transact said business within said State during each of said years.

III. Plaintiff duly filed with the Commissioner of Internal Revenue of the United States its income-tax return for the year 1916, in accordance with the instructions and forms furnished by the said comissioner therefor, and on June 15, 1917, paid the tax assessed thereon in the amount of $3,982, under written protest.

IV. On December 8, 1917, defendant assessed against said plaintiff a further additional income tax for the year 1916, in the sum of $16,790.65. This further sum plaintiff paid December 18, 1917, under written protest.

*605The payment of both of said taxes was made under specific protest, setting out in detail the basis of and reason for such protest.

V. On April 30, 1920, plaintiff duly filed with the Commissioner of Internal Revenue of the United States, in accordance with the statutes in such case made and provided, claim for the refund of $20,772.65 for the income tax theretofore claimed to have been illegally collected from it by the defendant for the year 1916 in the sums of $3,982 and $16,790.65, respectively. ■ Said claim for refund was allowed for $12,016.73 and rejected for $8,755.92 under date of January 28, 1922.

The items in the schedules of liabilities under the heading “ Losses and claims for losses,” in the printed reports of the New York State insurance department relating to plaintiff’s business for the years 1915, 1916, and 1917, do not include any estimates or allowances for plaintiff’s expenses in the adjusting of such outstanding losses.

YI. The failure and refusal of the Commissioner of Internal Revenue to treat as reserve funds required by law the funds held, set aside, and retained by plaintiff in the amount and on account of its liabilities for unsettled loss claims and to deduct from plaintiff’s gross income the net addition to such funds during the year 1916, amounting to $560,678.43, resulted in the rejection of $8,755.92 of the amount requested to be refunded in plaintiff’s said refunding claim. Plaintiff in this suit is seeking to recover the amount so rejected with accrued interest thereon.

The net addition of $560,678.43 was obtained by deducting the reserve for loss claims plaintiff was required to maintain on December 31, 1915, $775,900.10, as a condition precedent to the transaction of business in the State of New York for 1916 from the reserve fund plaintiff was required to maintain on December 31, 1916, $1,336,578.53, as a condition precedent to the transaction of business in 1917 in the State of New York.

VII. The material provisions of the New York insurance law in effect during the years 1915 and 1916 (Parker’s New York Insurance Law) are as follows:

*606“ Sec. 2. The Superintendent of Insurance.

“ There shall continue to be a separate and distinct department charged with the execution of the laws relating to insurance, to be known as the insurance department, the chief officer of which shall be the superintendent of insurance, who shall be appointed by the governor, by and with the advice and consent of the Senate, and, unless appointed to fill a vacancy, shall hold his office for the term of three years, beginning on the first day of July succeeding his appointment, and ending on the first day of July in the third calendar year thereafter; * *

“ Sec. 9. Certificate of Authorization of Superintendent.

“ No corporation, nor any individual, as principal, shall transact the business of insurance within this State without the certificate of the superintendent of insurance, certifying under his hand and official seal that such corporation or individual has complied with all the requirements of law to be observed by such corporation or individual and that such corporation or individual is authorized to transact the business of insurance specified therein in this State. Such certificate shall be recorded in the office of the superintendent in a book to be kept by him for that purpose. No corporation or individual shall transact in this State any insurance business not specified in the certificate of authority granted by the superintendent. The superintendent may refuse to issue any such certificate to a domestic or foreign corporation, if, in his judgment, .such refusal will best promote the interests of the people of the State. Nothing in this section contained shall apply to any insurance company organized prior to the first day of October, eighteen hundred and ninety-two, under any general or special law of this State and carrying on business on said date, but every such corporation is hereby recognized as an existing corporation and is hereby authorized to' continue as such corporation and to continue such business until the legislature shall otherwise provide, subject to such of the provisions of this chapter as are made applicable to such corporations.”

“ Sec. 25. Jurisdiction of Superintendent over Foreign Corporations.

“ The superintendent of insurance shall have the same supervision and make the same examination of the business and affairs of every foreign insurance corporation doing *607business in this State, as of domestic insurance corporations, doing the same kind of business, and of its assets, books, accounts, and general condition. Every such foreign corporation and its agents and officers shall always be subject to and be required to make the same statements and answer the same inquiries and be subject to the same examinations, and, in case of default therein, to the same penalties and liabilities as domestic insurance corporations doing the same kind of business, or any of the agents or officers thereof, are or may be liable to under the laws of this State or the regulations of the insurance department.

“The superintendent may, whenever he deems it necessary, either in person or by a proper person appointed by him, repair to the general office of such foreign corporation, wherever* the same may be, and make an investigation and examination of its affairs and condition. He may cancel and revoke the certificate of any such foreign corporation refusing or unreasonably neglecting to comply with the provisions of this section, or to allow the examination herein provided for to be made, and prevent such corporation from further continuance in business in this State.

“A foreign insurance corporation may transact in this State only such kind of business as, under the laws of this State, a like domestic insurance corporation is authorized to transact.

“No such corporation shall transact any business in this State not specified in the certificate of authority granted by the superintendent.”

“ Seo. 32. Renewal oe CeRtiexcate oe Authority ; Revocation.

“ The certificate of authority granted by the superintendent of insurance, pursuant to the provisions of this chapter, to a foreign insurance corporation to do business in this State, shall not remain in force for longer period than one year, and all such certificates shall expire on the thirtieth day of April of the year next following the date of issue. The statements and evidences of investment required by this chapter to be filed in the office of the superintendent before a certificate of authority is granted to a foreign corporation, shall be renewed from year to year, in such manner and form as the superintendent may require, with an additional statement of the amount of premiums received and losses sustained in this State during the preceding year so long as such authority continues. If the superintendent is satisfied that the capital, securities, and investments remain secure, and that it may be safely intrusted with a continu-*608anee of its authority to do business, he shall grant a renewal of such certificate of authority. Whenever in the judgment of the superintendent of insurance it will best promote the interests of the people of this State, he may, after a hearing on notice, revoke the certificate of authority of a foreign corporation to do business in this State, prior to its expiration under this section. The action of the superintendent of insurance in revoking the certificate of authority of a foreign corporation shall be subject to review by writ of certio-rari.”

“ Sec. 44. Reports of CorporatioNS.

“Every corporation, engaged wholly or in part in the transaction of the business of insurance in this State, whether heretofore or hereafter incorporated by a general or special law, shall annually, on the first day of January, or within two months thereafter, if a corporation under article two of this chapter, and on or before the fifteenth day of February, if a corporation under the other articles of this chapter, file in the office of the superintendent of insurance a statement verified by the oath of at least two of the principal officers of such corporation, showing its condition on the thirty-first day of December then next preceding which shall be in such form and shall contain such matters as the superintendent shall prescribe. If a foreign corporation incorporated under the laws of a State or country outside of the United States such oath may be made by the manager thereof within the United States.”

“ Sec. 45. Forms of Report To Be Furnished by SUPERINTENDENT.

“ The superintendent shall cause to be prepared and furnished to every corporation required by the provision of this chapter to report to him, printed forms of the reports and statements required of such corporations. He may make such changes from time to time in the forms of the same as shall seem to him best adapted to elicit from such corporations a true exhibit of their condition in respect to the several matters which they are required to report, or in respect to any other matters which he may deem material.”

“ Sec. 118. Allowance of Assets and Estimation of Liabilities upon Examinations.

“When an examination is made by the authority of the superintendent of insurance into the affairs of any fire insurance corporation doing business in this State, or when *609such corporation renders a statement to the insurance department, there shall not be allowed as assets any investments which are not held as prescribed by law at the date of such examination or rendering such statement; but unpaid premiums on policies written within three months shall be admitted as available resources. In estimating its liabilities, there shall be charged, in addition to the capital stock and all outstanding claims, a sum equal to the total unearned premiums on the policies in force, calculated on the gross sum without any deduction on any account, charged to the policyholders on each respective risk from the date of the issue of the policy. * * * ”

VIII. The superintendent of insurance for the State of New York during the years 1915, 1916, and 1917 required stock, lire, and marine insurance companies, and stock, casualty, surety, and credit insurance companies, as a condition precedent to the transaction of business in the State of New York, to maintain reserves to cover the following liabilities :

“ STOCK, I'M RE, AND MARINE INSURANCE COMPANIES.

“ A. Loss reserve, including all unpaid losses and estimated expense of investigations and adjustment thereof, less admitted reinsurance.

“ B. Reserve for unearned premiums as required by statute and departmental regulation, i. e. *(a)*on fire insurance risks a sum equal to the actual unearned premium on the policies in force calculated on the gross sum without any deduction except for admitted reinsurance, and (6) on marine hull risks calculated in the same manner and on marine cargo risks 100 per cent of the last month’s gross premium writings. “

“ C. Reserve for all other outstanding liabilities due or accrued.

“ STOCK, CASUALTY, SURETY, AND CREDIT INSURANCE COMPANIES.

“A. Loss reserve, including all unpaid losses and estimated expense of investigation and adjustment thereof, whether on account of compensation and liability insurance or otherwise, less admitted reinsurance, and such additional contingent reserves for losses as may be required by the superintendent of insurance.

“ B. Unearned premium or reinsurance reserve calculated as required by statute and all premiums paid in advance at 100 per cent.

*610“ C. Reserve for all other outstanding liabilities due or accrued.” ■

IX. There are no printed publications containing the rules and regulations of the superintendent of insurance for. New York State, but there are such rules and regulations kept at the insurance department which are prescribed in forms sent out to and used by insurance companies in their reports.

X. The funds to meet the liabilities of insurance companies were not required by the superintendent of insurance to. be kept separate and distinct from other assets of such companies, but such funds were required to be separately specified by book entries as (1) reserves to meet liabilities for unearned premiums and (2) unpaid loss claims and (3) all other outstanding liabilities, due or accrued. All companies were required to have on hand at all times sufficient assets to meet all their liabilities.

XI. The books of the plaintiff company were kept on the written or accrued basis, and its reports to State insurance departments where it carried on business were made on the same basis. Its liabilities were stated separately in such reports and were all designated as liabilities and not as reserves. Plaintiff’s returns to the Commissioner of Internal Revenue were made on the cash basis until 1920, when the commissioner, on the authority of section 13 of the act of September 8, 1916, 39 Stat. 771, issued regulations requiring returns to be made on the written or accrued basis beginning with the year 1916, and thereafter plaintiff’s returns theretofore filed were amended by officials of the Internal Revenue Bureau so as to conform to the written or accrued basis.

1

 Appealed.

Booth, *Judge,*

delivered the opinion of the court:

The plaintiff insurance company is a Massachusetts corporation engaged in writing fire and marine insurance. Among other States in which it transacts business is the State of New York, and in order to do so it must comply with the laws of New York relating to a foreign insurance company seeking to write insurance in that State. This the plaintiff did. It acceded to all the requirements exacted *611of it by the superintendent of insurance and did a large volume of business within that State.

The plaintiff company filed with the Commissioner of Internal Revenue its income-tax return for the year 1916, and on June 15, 1917, paid under protest the tax assessed thereon, amounting to $3,982. Subsequently, on December 8, 1917, the commissioner assessed against the company an additional income tax on the previous return filed of $16,790.65, and on December 18, 1917, this additional tax was paid under protest. On April 80, 1920, plaintiff filed with the commissioner a claim for a refund of the entire sum, viz, $20,772.65, paid as aforesaid, asserting a right thereto under the law. The commissioner refunded $12,016.73 of the tax and rejected the refund claim as to $8,775.92, and it is for the recovery of this sum that the present suit is brought.

The superintendent of insurance of the State of New York exacted of the plaintiff the maintenance of a net addition to its reserve funds of $560,678.43 on account of its liability for unsettled loss claims for the year 1916, and it is stipulated that said said sum was duly added by the plaintiff to meet the requirement. The commissioner treated said net addition to reserve funds as income for the calendar year and assessed and collected the sum herein claimed as an income tax lawfully due thereon.

Section 12 of the revenue act of September 8, 1916, 39 Stat. 765, in subsection (c) provides in the following language for a deduction from the gross income of insurance companies organized in the United States, of “ the net 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.” The defendant relied upon the above statute for authority to proceed as it did.

The one question, and the only one properly raised, is whether, within the meaning and intent of the Federal revenue act, the net additions so made by the plaintiff to its reserve funds in pursuance of the requirements of the superintendent of insurance for New York, to cover accrued but unsettled loss claims, may be said to be such a fund as *612comes Avithin the meaning of “ reserve funds,” as those terms appear in the revenue act.

The defendant does not dispute that the sum involved Avas reserved, nor that it was required by the proper insurance authorities of New York to be reserved. Defendant’s argument is predicated upon an assertion that Congress in exempting net additions to reserve funds, clearly intended to exempt only such funds as are technically known and univei’sally understood in the insurance world as reserve funds, and as thus understood the terms have a well defined, limited, and certain status and meaning. We may well grant the contention, but apparently it furnishes no solution for the issue, unless we may find some authoritative decision that unsettled loss claims are not within the meaning of “ reserve funds,” as thus contended for.

Mr. Justice Clarke, in the case of *Maryland Casualty Co.*v. *United*States, 251 U. S. 342, 350, defines the terms “ reserve ” and “ reserves,” and the definition therein given Avas elicited by a contention in all respects similar to the one noAv at issue. “ The term *‘*reserve ’ or ‘ reserves ’ has,” he says, “ a special meaning in the law of insurance. While its scope varies under different laws, in general it means a sum of money, variously computed or estimated, which, with accretions from interest, is set aside, ‘ reserved,’ as a fund with which to mature or liquidate, either by payment or reinsurance with other companies, future unaccrued and contingent claims, but contingent and indefinite as to amount or time of payment.” In that case, and following the definition thus announced, the Supreme Court did include a loss claims item as part of the reserve required by law to be maintained by' tlie insurance company.

It is true that the insurance laws of New York did not expressly require that such a reserve be maintained, but the regulations of the superintendent of insurance of that State, in pursuance of a most general and plenary authority so to do, did exact it, and disobedience of the insurance laws precluded the conduct of any insurance business in the State by a foreign insurance company. In the *Maryland Casualty Co.*case, just cited, the Supreme Court decided that regulations of a department of a State government, *613adapted to the enforcement of an act of that State, had the force and effect of law.

It is difficult, indeed, in view of the above decision, or upon any other logical hypothesis, to exactly comprehend any reason for excluding loss claims items from a legal reserve under the section of the revenue act heretofore quoted. Congress, of course, intended to tax the net income of the insurance company, and in providing exemptions from its gross income was especially concerned with relieving from the tax burden the sums of money or assets of the company which it was obligated by law to set aside as a guaranty and protection to its policyholders. There was manifestly no difficulty in arriving at fixed expenditures and disbursements actually made by the company, but contingent liabilities, contingent claims, and payments of same, an inseparable concomitant of the business itself, was the problem Congress was seeking to solve. If a sum of money had to be set aside and reserved out of gross income to meet a contingent, liability it was an act of .obvious fairness to treat that sunn as exempt from the computations to ascertain net income until the contingency ceased to exist and the liability was discharged. ' As said in the *Maryland Casualty Co. case,*suyra, when the reserves are released “ to free beneficial use of the company in a real, and not a mere bookkeeping sense,” they are income.

A loss claims reserve is the setting aside of a sufficient sum or assets of the insurance company to assure the final liquidation of losses not yet reported and to be adjusted. The final payment of a loss depends upon a variety, of circumstances. It may be a partial or a total loss; it may involve a contest extending over a long period of time, and many other contingencies may intervene which necessarily require adequate protection for the loser, that in the end his loss, whatever it is, may be made good under the terms of his policy. Assuredly loss claims are to be classified as a liability of the company. For what other purpose are reserves demanded. other than as an assurance against liability ? In this respect the situation is not essentially different from an unearned premium reserve. An'insurance company 'receives a large sum of money as paid premiums upon its policies. *614When tbe premiums are paid contingent liability under tbe policies attach, and the defendant concedes that a reserve of sufficient proportions to cover reinsurance in the event of insolvency is within the meaning and intent of *reserves*as that term appears in the revenue act. In loss claims there is a distinct contingency as to amount, and in an unearned premium reserve the contingency is as to time, both furnishing protection to the patrons of the company. The technical reserves required under the law do not in every instance furnish permanent immunity from income taxation. This is clearly demonstrated in the *Maryland Casualty Co.*case, and whatever the result the statute accords the right.

In deciding the oft-quoted *Maryland Casualty Co. case*the Supreme Court had before it this identical issue, and it was there determined that as to casualty insurance loss claims were clearly within the meaning and intent of Congress when the twelfth section of the revenue act was enacted. It is true this plaintiff is a fire and marine insurance company, but the reason given for the result in the *Maryland Casualty Co. case*is not made to depend upon the character of the insurance written, and we can not escape the conclusion that the decision is as applicable here as it was under the facts of the case mentioned.

Where a general law covering a particular purpose confides to a supervising official administration thereof, and in pursuance of said law the supervising official issues regulations in keeping with the same, the regulations so issued have the force of positive law. This has been repeatedly held in numerous decisions of the Supreme Court and made applicable to a department of a State government in the *Maryland Casualty Co. case.*

The insurance law of the State of New York, applicable excerpts from which are set out in the findings, does not in any express provision require a reserve for loss claims; neither does it enter into detail with respect to any other character of reserve. Regulations of the. superintendent of insurance duly promulgated by him cover the subject, and expressly require a reserve for loss claims, in both fire and casualty insurance. The highest court of New York in *61591 N. Y. 385 has construed the law, and by its terms, as thus construed and interpreted, the plaintiff’s right to transact business within the State depended absolutely upon its observance of the same. While regulations' of the insurance department by designating certain sums as reserves may not thereby entitle a company to the deductions mentioned in the revenue act, and must observe the plain distinction between reserves as understood in insurance business and the general assets of the company, nevertheless we believe it is made quite clear in the *Maryland Casualty Co. case*that a reserve for loss claims falls within the revenue act, and the plaintiff is entitled to a deduction for the net additions made to this reserve for the year 1916.

Judgment for plaintiff company in the sum of $8,755.92, with interest at the rate of 6 per cent per annum from December 8,1917, to November 5, 1923. It is so ordered.

Graham, *Judge;*Hay, *Judge;*Downey, Judge, and Campbell, *Chief*Justice, concur.