Court Opinion

ID: 9448039
Source: CourtListenerOpinion
Date Created: 2023-08-03 23:21:09.290803+00
Date Added: 2024-06-11T17:31:15.980624
License: Public Domain

CECIL, Circuit Judge
(concurring).
I concur in the opinion of Judge O’SULLIVAN.
A legal reserve life insurance company is required by law to maintain a reserve fund for the protection of its policy holders. This fund is made up of a portion of the current premiums and the income from the investments in the reserve. The amount of this reserve is fixed by law. It is intended that if a policy holder lives out his expectancy, there will be sufficient assets in this reserve against his policy to pay the face of the policy. When a policy holder does not live out his expectancy, the amount of the face of the policy, over and above the reserve against it, is paid from other funds of the company, sometimes called a mortality fund.
When a policy is terminated either by a death claim or through accepting the cash surrender value, or when a loan is made against that policy, the insurance company may draw down the amount of the reserve and put it in the general funds or some special fund of the company.
As a part of the reinsurance agreement in this case, the insurance commissioner required that Kentucky Mutual set up the reserve in the full amount required by law. Since the assets of Southern were sixty percent short, there was placed against each policy a lien equal to sixty percent of the net equity of such policy. It was -provided in the first agreement that this lien should be increased at the rate of six percent per year compounded annually. An amended contract with which we are now concerned fixed this interest rate at five percent.
A policy holder could pay off this lien in full or pay it off partially, or pay the annual interest. If he made no payments, the lien was increased by the annual interest additions, at compound interest.
In the year with which we are concerned, in the settlement of a policy either by cash surrender or payment of a death claim, the Kentucky Mutual was entitled to deduct the amount of this lien plus any accumulated interest from the amount owed the policy holder.
*44Assume, for example, that in the taxable year in question the five-percent interest provided in the contract on the lien in a certain policy amounted to $300. If the policy holder did not pay that during the year, Kentucky could add that amount to the total of the then existing lien. It could then have drawn down $300 from the actual reserve on deposit with the Commissioner. This sum could be mingled with its other funds and would be free or unrestricted of any requirement of the reserve. If at the end of the year the policy holder chose to take the cash surrender value of his policy he would get $300 less than he would have received before the accumulated interest was added. The same is true if it had matured as a death claim. The beneficiary would receive $300 less after the accumulated interest was added.
If the policy holder had paid the $300 interest, the amount of the lien would have remained the same and the relationship between the reserve on deposit and the lien would have been maintained. This would have been $300 in the unrestricted funds of Kentucky Mutual.
In either case, whether the $300 is paid or not, the Company has received that amount of income. In reality the five-percent interest provided by the contract was in lieu of the income the company would have earned on its investments if the sixty percent represented by the lien had actually been in the reserve. The income on the investments of the reserve must be included in gross income under Section 201(c) (1), Title 26 U.S.C., Internal Revenue Code of 1939. An insurance company is, however, allowed a credit on this reserve. The entire net income of an insurance company is taxable subject to a formula provided by Section 202 of the above act. See examples under Section 39.202-1 (a) (b) Federal Tax Regulations of 1956. (Applicable to the 1952 taxable year.)
It is argued for the taxpayer that it performed its agreement with the insurance commissioner and that it received nothing but what was provided in the contract. This is true but I find nothing inconsistent with the taxpayer making an income on some provision of the contract. The government was not a party to the contract.
McAllister and O’Sullivan, Circuit Judges, also concur in the opinion of CECIL, Circuit Judge.