Ge Life and Annuity Co. v. U.S.
| Citation | 127 F.Supp.2d 794 |
| Decision Date | 13 December 2000 |
| Docket Number | No. CIV. A. 3:00CV148.,CIV. A. 3:00CV148. |
| Court | U.S. District Court — Eastern District of Virginia |
| Parties | GE LIFE AND ANNUITY CO. (Formerly the Life Insurance Company of Virginia) Plaintiff, v. UNITED STATES of America Defendant. |
Douglas Michael Palais, McCandlish & Kaine, Richmond, VA, Dana Johannes Finberg, McCandlish Kaine, Richmond, VA, Richard Bromley, Hopkins & Sutter, Chicago, IL, for GE Life and Annuity Assur. Co.
G. Wingate Grant, U.S. Attorney's Office, Richmond, VA, Stuart D. Gibson, U.S. Dept. of Justice, Washington, DC, Joan E. Evans, U.S. Attorney's Office, Richmond, VA, for U.S.
This matter is before the Court on the Parties' cross-motions for partial summary judgment. The issue presented is whether the Plaintiff's Policyholders Surplus Account was taxable in the short taxable year ended April 29, 1986.
The Plaintiff, GE Life and Annuity Assurance Company is a stock life insurance company domiciled in and existing under the laws of the Commonwealth of Virginia. GE Life and Annuity Company's principal place of business is located in Richmond, Virginia. At all relevant times, the Plaintiff's legal name was The Life Insurance Company of Virginia (hereinafter Life of Virginia or LOV). Virginia Life Insurance Company of New York, and American Agency Life Insurance Company were subsidiaries of Life of Virginia during the short taxable year ended April 29, 1986 (sometimes referred to as "the taxable year in issue"). In that year, all three companies were taxable as "life insurance compan[ies]" under section 801 of the Internal Revenue Code of 1954, as amended and in effect in 1986 (hereinafter referred to as "the Code"). LOV filed a consolidated federal income tax return on behalf of itself and its subsidiaries for the taxable year in issue.1
Between 1958 and 1983, applicable federal income tax law permitted life insurance companies to accumulate, retain and defer taxes on 50 percent of undistributed profit in "policyholders surplus accounts" (sometimes referred to as "PSAs"). Under this statutory scheme, if monies held in such PSAs were ultimately needed to provide for payments of benefits to the company's policyholders, such monies would never be subject to tax as profits of the company. However, the Code outlines three "triggering events" relevant to this case. Upon the happening of any such event all or part of a life insurance company's PSA balance became taxable income.
The Deficit Reduction Act (hereinafter "DEFRA"), effective January 1, 1984, repealed and replaced the tax laws previously applicable to life insurance companies except that DEFRA continues to recognize existing PSAs as tax-deferred until such time, if any, as the triggering events specified under pre-DEFRA law occurred.
On January 1, 1984, the PSA balances of LOV and its subsidiaries totaled $60,551,751. $59,670,151 was attributable to LOV's own PSA, $819,151 was attributable to America Agency Life Insurance Company; and $62,449 was attributable to Virginia Life Insurance Company. The taxable year in issue was the last taxable year for which Virginia Life Insurance Company of New York qualified as a life insurance company for federal income tax purposes. Consequently the $62,449 balance of its PSA was properly includible in its taxable income for the taxable year in issue.
On April 29, 1986, affiliates of Aon Corporation (hereinafter "Aon") purchased all of LOV's common stock from KMI Continental (hereinafter "KMI"), LOV's sole common stock shareholder. On January 15, 1987, LOV filed a consolidated federal income tax return for itself and its subsidiaries in which Aon, as the purchasing corporation, made a corporate stock election under section 338 of the Internal Revenue Code with respect to its purchase of LOV's common stock (hereinafter the "section 338 election"). Aon's section 338 election had the effect of causing LOV's taxable year beginning January 1, 1986 to end April 29, 1986, the day of its purchase. The $62,449 balance of Virginia Life Insurance Company of New York was included in the consolidated income reported on this January 15, 1987 return2 as were the PSA balances of both LOV and American Agency Life Insurance Company.3 LOV paid the full $61,861,041 in taxes due on the January 15, 1987 return for the taxable year in issue.4
Aon's section 338 election also triggered a deemed sale of all tangible and intangible assets between fictional "Old" and "New" LOVs for federal income tax purposes. As a result of this fiction LOV incurred and paid certain "recapture" taxes and the assets generally had a tax basis in the hands of LOV equal to the assets' fair market value on April 29, 1986.
On December 23, 1993, LOV filed a timely claim with the Internal Revenue Service (hereinafter the "IRS") for a refund of taxes paid on the PSAs of LOV and American Agency Life Insurance Company. In this request for refund LOV asserted that the inclusion of the $60,489,302 total balances of these accounts in LOV's consolidated taxable income for the taxable year in issue was erroneous thereby warranting the $27,774,866 refund requested. The IRS conducted an examination of LOV's consolidated return for the taxable year in issue and proposed to disallow LOV's claim for refund relating to these accounts. During the course of this examination the IRS refunded LOV $379,370.70 for the taxable year in issue; applied amounts previously paid for other taxable years to the taxable year in issue; and assessed LOV an additional $872,612 in taxes for the taxable year in issue. LOV also made additional payments to the agency in anticipation of additional tax and interest liability. In the end, LOV made a net payment of $29,734,693.035 for the taxable year in issue.
Eventually, the IRS examination led to a partial agreement between the two entities. The net effect of this agreement was a $10,812,564 increase in LOV's consolidated tax liability for the taxable year ended April 29, 1986 which reflected, among other things, the proposed disallowance of LOV's claim for refund relating to the PSAs of LOV and American Agency Life Insurance Company. The agreement, as set forth in an IRS Form 870-AD, reserved LOV's rights to prosecute the timely claim for refund giving rise to the investigation (hereinafter "LOV" will refer to Life Insurance Company of Virginia and American Agency Life Insurance Company).
LOV has paid a net total of $66,902,770 in federal income tax for the taxable year ended April 29, 19866 and $18,049,517 in assessed interest for the same period.7 On October 8, 1998, LOV mailed the IRS a timely claim for refund asserting its entitlement to an unrelated deduction and reasserting its previous claim for refund of the taxes attributable to the PSAs of LOV. The claim asserted an entitlement to a refund of $41,636,891.8
The 86th Congress enacted Subchapter L, Part I of the Internal Revenue Code in recognition of the fact that the long term nature of insurance contracts makes it difficult, if not impossible, to determine the true income of life insurance companies by any means other than ascertaining the income derived from a contract or block of contracts over a long period of time. See S.Rep. No. 291, at 20-21 (1959), 1959 U.S.C.C.A.N. 1575, reprinted in IRS Cumulative Bulleting 1959-2 at 770, 774-775. Contained in Subchapter L is a profoundly complex set of industry specific set of rules. This pre-DEFRA tax structure established a three-phase method of taxing life insurance companies.
Phase One and Two combined to impose current basis corporate income tax on a life insurance company's profits up to its taxable investment income and if applicable 50 percent of the amount by which undistributed profits exceed taxable investment income. See I.R.C. § 802, 78 Stat. 11, 115 (1959) (current version at I.R.C. § 802). Where the undistributed profits of a life insurance company exceeded its taxable investment income, the untaxed 50 percent of that excess was held, tax deferred, in a PSA. See I.R.C. § 815, 78 Stat. 11, 130 (1959). Allowing 50 percent of a life insurance company's apparent profit to be held in suspense was a specific congressional acknowledgment of the fact that due to the long-term nature of life insurance contracts, amounts which may appear as income in the current year and as proper additions to surplus, may as a result of subsequent events be needed to fulfill life insurance contracts. See S.Rep. No. 291, 1959-2 C.B. at 784.
The version of the IRS Code section that was in effect through 1983 outlined the circumstances under which the amounts held in PSAs would become taxable, which is to say the section identified several events as indicators that the funds were no longer needed to assure payments of benefits to policyholders, or that PSA balances were no longer available for that purpose because they had been distributed to the shareholder. A new version of section 815 became effective January 1, 1984, with the enactment of DEFRA. In its new form section 815 does not allow the formation of PSAs. However, the post-DEFRA section continues to recognize the tax deferred status of pre-DEFRA PSA balances pending the occurrence of a triggering event delineated in the earlier version.
Under section 815 taxes on amounts in PSAs are taxed upon the happening of several "triggering events", three of which are relevant to this case. "Triggering event" One is a distribution9 to shareholders that exceeds the balance of the shareholders surplus account. In this circumstance the excess and the taxes on that excess are deducted from the balance of the PSA. See I.R.C. § 815, 78 Stat. 11, 130. "Triggering event" Two is a PSA balance which is exceeds statutory limitations. Under section 815 a company's PSA balance computed at the end of the taxable year must be less...
To continue reading
Request your trial