Burns v. Commissioner, Docket No. 4383-63.
| Decision Date | 15 November 1965 |
| Docket Number | Docket No. 4383-63. |
| Citation | 1965 TC Memo 299,24 TCM (CCH) 1652 |
| Parties | Walter F. Burns, Jr., and Evangeline W. Burns v. Commissioner. |
| Court | U.S. Tax Court |
David C. Moore, 701 Bank of Delaware Bldg., Wilmington, Del., for the petitioners. Donald W. Howser, for the respondent.
Memorandum Findings of Fact and Opinion
The respondent has determined a deficiency in petitioners' income tax for 1957 in the amount of $12,589.23. The parties have agreed on stipulation that respondent is entitled to claim an increased deficiency for 1957 in the amount of $1,827.56.
The issues presented for our decision are (1) whether petitioners realized ordinary income or capital gain from a transaction purporting to be a disposition of certain annuity contracts, and (2) whether they realized the amounts in question in 1957 or in 1955.
Additional issues presented by the pleadings have been disposed of by concession or stipulation of the parties.
Petitioners, husband and wife, filed their joint income tax return for the year 1957 with the district director of internal revenue at Baltimore, Maryland. During the years 1954 through 1957, petitioner Walter F. Burns, Jr., was engaged as a life insurance salesman.
Petitioner sold annuity contracts which were issued to the following individuals on the following dates by Standard Life Insurance Company of Indiana, sometimes hereinafter referred to as Standard:
Contract No. Issued to Issue date
AN 52639 H. B. Garrett.......... 9-14-51
AN 52640 T. W. Harris .......... 9-14-51
AN 56415 S. Lenher ............. 8-18-52
AN 56416 S. Lenher ............. 8- 5-52
AN 56417 S. Lenher ............. 8- 5-52
AN 55359 H. B. Garrett.......... 1- 2-52
AN 61689 R. W. Hooker .......... 12-28-53
AN 61690 R. W. Hooker .......... 12-28-53
AN 61691 R. L. Murray .......... 12-28-53
AN 61692 R. L. Murray .......... 12-28-53
One of the purposes of such persons in acquiring such annuity contracts was to obtain interest deductions for Federal income tax purposes for certain amounts which they purportedly paid to Standard on loans made by Standard in connection with such contracts, similar to the arrangement involved in Knetsch v. United States 60-2 USTC ¶ 9785, 364 U. S. 361 (1960). Attached to each contract was a receipt for the full payment in advance of the annual premiums for the contract and an annuity loan agreement. The latter reflected a large loan to the contract owner and provided that interest thereon was payable in advance and that the loan was payable solely out of the security for the loan, consisting of the annuity contract and the premiums paid thereunder. Each contract provided for a death benefit to be paid to the owner-beneficiary upon the death of the annuitant before any annuity payment had been made.
Because of certain developments in the law of Federal income taxation, the owners of the annuity contracts attempted, prior to December 1954, to surrender the contracts to Standard and receive a refund of the cash surrender values, consisting of amounts described as interest which had been paid in advance on the contract loans. Standard refused to accept such surrender of the annuity contracts except upon terms that would have resulted in a loss to the owners of the contracts rather than a refund.
Petitioner, after consulting with attorneys, believed that Standard was at fault in refusing to refund the prepaid interest. He approached the owners and offered, in consideration of their transferring the contracts to him, to assume their liabilities on the contract loans, to institute suit against Standard to recover the amount refundable under the terms of the contract, and to pay the contract owners a percentage of the recovery made from Standard.
On December 21, 1954, the owners of the annuity contracts executed written assignments to petitioner Evangeline W. Burns of all of their right, title, and interest in the annuity contracts, and the right to recover the entire amount prepaid by them. Petitioners agreed to pay each of the contract owners 75 percent of the net recovery on their respective contracts after deducting the cost in connection with the recovery, up to but not to exceed a prescribed amount.
The annuity contracts were assigned to Evangeline Burns because petitioner Walter Burns recorded title to his home and other property in her name so that they would not be a part of his estate in the event of his death. However, he actually handled all matters in connection with the annuity contracts.
On December 22, 1954, petitioners forwarded to Standard the annuity contracts, together with the assignments to Evangeline Burns. They thereby surrendered five of the contracts, Nos. AN 55359, AN 61691, AN 61692, AN 61689, and AN 61690, and demanded the net surrender values thereof as of the next immediate anniversary date of such contracts, including all prepaid interest. They requested that the assignments of the balance of the contract be recorded and that the contracts be returned to them.
On December 30, 1954, Standard wrote to petitioners advising that it would permit surrender of the contracts provided the surrender values were computed by charging interest on the annuity loans at 4 percent for the time that the loans would have run if the contract owners were permitted to repay only 10 percent of the loans in any contract year in accordance with certain provisions of the annuity loan agreements.
On June 14, 1955, Evangeline Burns, represented by attorneys, filed suit against Standard in the Superior Court of the State of Delaware for New Castle County, seeking to recover the sum of $9,141.95, alleged to be the amount refundable under annuity contract No. AN 55359 and the loan agreement on January 2, 1952. On July 20, 1955, Standard filed an answer and counterclaim in such suit in which it contested her claim and alleged that, under the provisions of the annuity loan agreement which limited the repayment of the contract loan to not more than 10 percent in any contract year, the contract could not be surrendered as of January 2, 1955, without first offering Standard the sum of $4,824.13. In its counterclaim, Standard demanded judgment for the amount of $4,824.13.
On July 20, 1955, the attorneys representing Evangeline Burns mailed a copy of Standard's answer and counterclaim to petitioner.
Walter Burns and Fin Dallas Sparre had been personal friends for about 15 years. On July 28, 1955, Evangeline Burns executed an assignment to Sparre of the five annuity contracts which had not been surrendered to Standard. The assignment was subject to the indebtedness on the contracts contracted by the original owners. Sparre executed a note payable to Evangeline Burns on demand in the amount of $57,077.03, with interest payable at 3 percent per annum.
Walter Burns believed he needed money to pay off a mortgage on petitioners' home and this was their primary purpose in making the annuity contract assignments and obtaining the note from Sparre.
On July 29, 1955, Sparre mailed to Standard the five annuity contracts and the assignments thereof from Evangeline Burns and demanded the surrender values thereof, including the prepaid interest, as of their next anniversary dates. Standard wrote Sparre in reply that the contracts could not be surrendered in the manner indicated in his letters, that under the provisions of the annuity loan agreement and loan rules not more than 10 percent of the principal amount of the contract loans could be repaid in any contract year, and that it estimated that if the contracts were surrendered on their next anniversary date, the contract holders would actually be indebted to Standard for the interest required to cover the 10-year term of the loans.
The aggregate amount of the cash surrender values demanded by petitioners on the contracts...
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