Commissioner of Internal Revenue v. Winslow

• Decision Date: 10 July 1940
• Docket Number: No. 3521.,3521.
• Citation: 113 F.2d 418
• Parties: COMMISSIONER OF INTERNAL REVENUE v. WINSLOW.
• Court: U.S. Court of Appeals — First Circuit

113 F.2d 418 (1940)

COMMISSIONER OF INTERNAL REVENUE v. WINSLOW.

No. 3521.

Circuit Court of Appeals, First Circuit.

July 10, 1940.

Warren F. Wattles, Sp. Asst. to Atty. Gen. (Samuel O. Clark, Jr., Asst. Atty. Gen., and Sewall Key, Sp. Asst. to Atty. Gen., on the brief), for Commissioner.

C. Clifton Owens, of Boston, Mass., for Winslow.

Before MAGRUDER and MAHONEY, Circuit Judges, and FORD, District Judge.

MAHONEY, Circuit Judge.

This is a petition to review a decision of the Board of Tax Appeals (Winslow v. Commissioner of Int. Rev., 39 B.T.A. 373), and involves income taxes for the year 1934. The Commissioner of Internal Revenue, in determining a deficiency, added to the income reported $2,353.32 of the amount received by the taxpayer under a life insurance contract.

The question before the Board was how much of the $2,581.40 which respondent received from the Equitable Life Assurance Society of the United States in 1934, under the contract executed between the Society and respondent's father in 1904, was "received under a life insurance contract paid by reason of the death of the insured" within the meaning of Section 22(b) (1) of the Revenue Act of 1934.¹ The Board decided that the installment payment of $2,000 provided by the life insurance contract was exempt from tax under Section 22(b) (1), and that the additional sum of $581.40 was properly taxable.

The taxpayer concedes the excess of $581.40 over the $2,000 installment of the face amount of the policy is properly taxable, since it was not paid under the contract with the assured but is "an excess interest dividend" out of the earnings of the Society. It was not received solely by reason of the death of the insured and is not exempt under the terms of the contract. But there remains the question whether the $2,000 was received under a life insurance contract paid by reason of the death of the assured and was exempt from tax within the meaning of the statute.

The facts were stipulated before the Board of Tax Appeals and are as follows:

The taxpayer, a resident of Boston, Massachusetts, was the beneficiary of a contract or policy issued to his father by the Equitable Life Assurance Society of the United States, effective November 12, 1904. The policy and application therefor constituted the entire life insurance contract between the Society and the assured. By its terms the Society, in consideration of the payment of an annual premium of $2,569.44, agreed to pay the designated beneficiary, his executors, administrators or assigns, if the beneficiary should survive the assured, $100,000 in 50 instalments of $2,000 each, the first to be paid upon receipt of proof of death. Should the assured survive the beneficiary the Society was to make the payments to the executors, administrators, or assigns of the assured.

The assured in his application for the policy had directed the Society to "Insert noncommutable, nonassignable clause". As a result when the policy was issued there was stamped on its face the Society's agreement "* * * neither to commute or cash any of the said instalments or make advance payments whatever thereon, nor to recognize any assignment or hypothecation of this contract or any part thereof, or interest therein, without the written concurrence of the Assured, except as required by law."

The assured died on June 18, 1917, without having concurred in any changes in the contract and the Society made no change therein. The Board, as a result of a stipulation, found as a fact "that the commutation on the date of death of 50 annual instalments of $2,000 each would be $53,000".

After the death of the assured, the policy was surrendered to the Society and the Society issued to the respondent beneficiary a so-called bond dated July 9, 1917, agreeing to pay him, his executors, administrators, or assigns, $100,000 in 50 equal annual instalments of $2,000. The bond provided further:

"These Instalments are based upon an assumed rate of interest of 3% per annum. If a higher average annual rate shall be earned by the Society, the amount of the Instalments may be increased on any anniversary by an excess interest dividend as determined and apportioned by the Society.

"No assignment or hypothecation of the Instalments payable hereunder will be recognized by the Society.

"If the Beneficiary should die before all of the aforesaid Instalments have been paid, such unpaid Instalments may be commuted on the basis of 3% per annum compound interest and paid in a single sum. Under no other circumstances will the Society commute or anticipate instalments."

The respondent taxpayer received the first instalment of $2,000 during 1917, and similar instalments, together with an additional amount of several hundred dollars in each succeeding year. Prior to 1934, the year involved in this appeal, the taxpayer had received from the Society the aggregate amount of $45,473.40 representing 17 annual payments of $2,000 each, plus $11,473.40 being the total of the additional amounts paid each year. The taxpayer reported no income from this source in his income tax returns for such years under the then construction of the Commissioner of Internal Revenue that such amounts were not subject to tax.

During 1934 the respondent taxpayer received $2,581.40 from the Society and did not include the same in his individual income tax return for that year. The Commissioner determined under Article 22(b) (1) of Treasury Regulations 86² that the commuted value of the $100,000 to be paid in 50 annual instalments of $2,000 each, was $53,000; that $53,000 is the total amount under the contract exempt from tax by said Section 22(b) (1); that since $45,473.40 had been received in prior years and untaxed there was only the difference of $7,526.60 receivable in 1934 and future years still subject to the exemption; that the exemption of this $7,526.60 must be spread ratably over the remaining 33 years of periodic payments, including 1934; and that hence only the pro rata amount thereof of $228.08 is the exempt portion of the $2,581.40 received in 1934. The Commissioner added $2,353.32 to the income reported by the taxpayer representing the difference between the total payment received in 1934 of $2,581.40 and the only portion thereof he decided to be nontaxable, $228.08, and determined a deficiency in tax as a result thereof.

The taxpayer appealed to the Board of Tax Appeals from the proposed additional assessment. The Board after carefully reviewing the legislative history of the section of law involved decided that the instalment payment of $2,000 as provided by the life insurance contract was exempt from tax under said Section 22(b) (1) but that the additional sum of $581.40 was properly taxable. It entered its decision in accordance therewith. The Commissioner filed this petition for review.

He contends that as the commuted value of the policy at the date of death of the assured was $53,000, this is the only part of the policy which is life insurance; that in electing to have his son paid in instalments the assured was thereby purchasing an annuity rather than life insurance; and that the Board of Tax Appeals was in error in holding that all the guaranteed $2,000 which respondent received in 1934 under the contract between the respondent's father and the Society, and under the substituted bond, was life insurance paid the respondent by reason of the death of his father, the assured. We do not agree with the contention of the Commissioner.

Mr. Winslow, the respondent's father, applied for and received what was denominated a "life insurance" policy for $100,000 payable in 50 annual instalments of $2,000 each. It was agreed that the amount which would have been payable upon the death of the assured, except for the terms and conditions contained in the policy, was $53,000. Had the assured lived until 1924, at which time the policy would have been fully paid up, he would have been entitled under Section VIII to a dividend and any one of nine options providing for cashing the policy at its "full value" or continuing it at its paid-up life insurance value as found by the table in Section VII of the policy. The "full" or "paid-up life assurance" cash value of this policy as shown by this table was only $33,973, and that this was based on $53,000 of life insurance is shown by the statement in the policy immediately above the surrender value that "The loans, cash and paid-up surrender value stated in the following table apply to a policy for $1,000. As this contract is for $100,000 in 50 instalments, the cash or loan * * * or paid-up life assurance * * * available in any year, will be fifty-three times the amount stated in the table for that year".

Further demonstration is provided by the terms of Section IX of the policy providing alternative methods of settlement at maturity of the policy. Section IX(a) provided that at any time before maturity, the assured could elect to have the "equivalent of the amount assured" paid "in any designated number of equal annual instalments (which number may be subsequently changed if desired), with or without the privilege of commutation" according to the table which followed. The assured selected the last alternative, payment in 50 annual instalments of $37.73 per $1,000 of insurance, thus conclusively showing that the amount of insurance was only $53,000 i. e., $53,000 is the present cash value of $100,000 spread equally over 50 years. The respondent received $100,000 if and only if the payments were spread out over 50 years in equal instalments. For example, had the assured chosen payment in 20 annual instalments of $65.26 per $1000 of insurance, the respondent would only have received $69,165.60; had he chosen payment in 5 annual instalments, the respondent would have been entitled only to $55,180. The assured could have provided for such payment, even of this policy, at any time before maturity. If the assured had allowed the respondent...