AUSTIN m. TEXAS 

WILL BVJJSION 

AX-TORNKY GSNFXZAL 

January 13, 1960 

Honorable William A. Harrison Opinion No. WW-778 

Commissioner of Insurance 

State Board of Insurance Re: Whether dividends may be 

International Life Building paid by a fire and casualty inAustin, Texas surance company out of the unrealized appreciation in value 

of some of the corporation’s 

Dear Mr. Harrison: assets. 

In your request for an opinion you have asked whether a fire 

and casualty insurance company may pay dividends out of a surplus 

arising from the unrealized appreciation in the market value of certain 

assets of the company over their cost or book value. You have cited an 

instance where dividends were so paid. 

Article 2 1.3 1 of the Texas Insurance Code provides in part 

as follows: 

“It shall not be lawful for any insurance company 

organized under the laws of this State to make any dividend, except from surplus profits arising from its 

business. In estimating such profits, there shall be 

reserved therefrom the lawful reserve on all unexpired 

risks and also the amount of all unpaid losses, whether 

adjusted or unadjusted, and all other debts due and 

pay:ble, or to become due and payable by the company 

. . . 

Article 8.14, applicable generally to casualty insurance companies, before its recent amendment provided as follows: 

“The directors of any such company shall not 

make any dividends except from the surplus profits 

arising from their business. , .” 

By the provisions of S.B. 180, Acts 1959, 56th Leg. R.S.. 

Article 8.14 was amended to read as follows: 

“The directors of any such c’ompany shall not make 

any dividends except in compliance with Article 2 1.3 1 

of this Code.” 

Thus, irrespective of which of the several laws apply, fire 

and casualty companies are prohibited from paying dividends except 
. -- . . 

Hon. William A. Harrison, page 2 (WW-778) 

from “surplus profits arising from its business.” The term “surplus 

profits” implies among other things that payment of dividends may 

only be made to the extent of a c,ompany’s surplus and, additionally, 

that funds from which the payment was made arose from the profits 

of the company’s business. Since you have stated that the payments 

of dividends were made from surplus, the only question for determination is whether the payments were also from profits of the business 

of such insurance company. In our opinion under the facts given the 

payments of dividends were not from “profits arising from its business* and were th,erefore unlawful. 

It must be conceded initially that the Legislature in using 

the term “profit” intended some meaning distinct from the term 

“surplus” elsewise they would not have elected to use both terms. 

Hence, we conclude that a profit is not the same thing as surplus. 

The term “profit” has been defined by Webster’s New International Dictionary in the following manner: 

“The excess of returns over expenditure in 

a given transaction or series of transactions; as: 

a. the excess of the price received over the price 

paid for goods sold (115 Wis. 261) b. the excess of 

the price received over the cost of purchasing and 

handling, or of producing and marketing, particular 

goods (3 Fed. 566, 569) c. the advantage derived (as 

in infringement of patents) from employing one 

process or machine in manufacturing instead of 

another. 

“Excess of income over expenditure, as in a 

business or any of its departments, during a given 

period of time; specif.: a. the income of invested 

property, not including an appreciation in market 

value (15 Wall. 63, 65; 198 Pa. 216) b. usually in 

pt. with reference to Lands the sum of revenue 

yielded by it, or the proceeds derived from its 

use or enjoyment, as in case of leased property 

or land that is mined. Cf. profit prendre. . .” 

These definitions all envision a realization of the benefits 

accruing from the given transaction. Stated differently, these definitions do not encompass a benefit or advantage that is yet to be realized. 

The everyday business use of the term “profit” is compatible with these 

dictionary statements. Unrealiied appreciation of assets does not enter 

into a profit and loss statement, nor is it considered for income tax 

purposes. 

The general rule in other jurisdictions is that the unrealized 

appreciation in value of assets cannot be utilized in determining the funds 

available for distribution as dividends. 11 Fletcher Encyc. Corp. (1958 
-. 

Hon. William A. Harrison, page 3 (WW-778) 

Revised) 1050 Sec. 5335.1; Berks Broadcasting Co. v. Craumer, 

52 Atl.Zd 571, (Penn.Sup. Ct. 

(C.C.A. - 4th - 1957 cert. den., 35; D.S. 949) 

ason, 8, 

and cases collected 

55 A.L.R. 8, 76 A.L.R. 885 and 109 A.L.R. 1381. Support in Texas 

to this general rule is in some measure 

Granite Corp. v. Faubion, 18 S.W.Zd 737 7 

iven by the case of Dealers 

Aus.Civ.App. 1929) where, 

in determining the meaning of the term net profits as applied to a corporation, the Court stated: 

“And the general rule seems to be that increase in the value of lands held by a corporation 

cannot be considered as profits, at least until such 

lands are sold and the profits actually realized.” 

The adoption of a rule permitting insurance companies to 

declare dividends on speculative profits would leave the financial 

soundness of the capital and required surplus accounts of insurance 

companies to the vagaries and uncertainties of fluctuating market 

values. We believe that the courts of this state when the occasion 

arises will hold that “unrealized’* appreciation does not constitute 

profit. As stated in Loftis v. Mason, supra, on page 433: 

” 

. . .in the application of sound accounting principles, dividends may ordinarily be declared only out 

of actual earnings or profits and not upon a theoretical estimate of an unrealized appreciation in the 

value of the assets.” 

A different view is held in New York. (See Randall v. Bailey, 

43 N.E.2d 43, (Ct. of Ap. 1942). It has been suggested that the New 

York position is determinative of the proper interpretation of the Texas 

provision because of certain similarities in the respective statutes. 

It is true that the New York general corporation laws over a lon# period 

of years, predating any of the Texas enactments, used the term surplus 

profits * in limiting the source available for dividends and that several 

of the New York cases suggest the possibility that this source may include unrealized appreciation in the value of corporate assets. But the 

only clear holding in New York that unrealized appreciation is an available source of dividends is the case of Randalrv. Bailey, supra, which 

was decided after the abandonment by the New York Legislature of the 

surplus profits test and under statutory language leaving no room for 

any other conclusion. Under these circumstances we do not believe 

that the New York decisions are particularly persuasive. 
Hon. William A. Harrison, page 4 (WW-778) 

SUMMARY 

Unrealized appreciation in the assets of a fire 

and casualty insurance company do not constitute “net profits arising from its business” 

available for distribution as dividends. 

Yours very truly, 

WILL WILSON 

Attorney General of Texas 

By &db-&’ 

Fred B. Werkenthin 

Assistant 

FBW:lmc 

APPROVED: 

OPINION COMMITTEE: 

W. V. Geppert, Chairman 

Arthur Sandlin 

Phocion Park 

Tom McFarling 

L. P. Lollar 

REVIEWEDFORTHEATTORNEYGENERAL 

BY: Leonard Passmore