Consumer Life Ins. Co. v. United States

• Decision Date: 22 October 1975
• Docket Number: No. 463-70.,463-70.
• Citation: 524 F.2d 1167
• Parties: CONSUMER LIFE INSURANCE COMPANY v. The UNITED STATES.
• Court: U.S. Claims Court

524 F.2d 1167

CONSUMER LIFE INSURANCE COMPANY v. The UNITED STATES.

No. 463-70.

United States Court of Claims.

October 22, 1975.

E. Michael Masinter, Atlanta, Ga., attorney of record, for plaintiff; James H. Landon and Hansell, Post, Brandon & Dorsey, Atlanta, Ga., of counsel.

Herbert Grossman, Washington, D.C., with whom was Asst. Atty. Gen. Scott P. Crampton, for defendant; Theodore D. Peyser, Jr., Washington, D.C., of counsel.

Before COWEN, Chief Judge, LARAMORE, Senior Judge, and SKELTON, NICHOLS, KASHIWA, KUNZIG and BENNET, Judges.

OPINION

KASHIWA, Judge.

This is a single issue tax refund suit that arises out of a small loan company's entry into the insurance business through a wholly owned subsidiary that is formed especially for that purpose. The question is whether that subsidiary, the plaintiff in this proceeding, qualified for the tax treatment accorded a "life insurance company" by § 801 et seq. of the Internal Revenue Code of 1954. We hold for the plaintiff.

This case is before this court on a review of a recommended decision of Trial Judge George Willi. The court disagrees with the conclusions. A similar case, Penn Security Life Insurance Co. v. United States, Ct.Cl., 524 F.2d 1155, is decided contemporaneously herewith. Issues decided therein and applicable herein are disposed of by reference to said decision; but as hereafter shown, plaintiff in this case has raised new questions based on state regulatory statutes. This decision discusses these state statutes which defendant claims are relevant.

The facts are fully detailed in the findings of fact accompanying this opinion and will be repeated herein only to the extent necessary to an understanding of the result reached.

In 1957 Southern Discount Company (Southern), a Georgia corporation, was operating a well established and successful consumer finance business. Its customer-borrowers typically purchased term life and accident and health (A & H) insurance at the time that they obtained their loans. The premium charge for the entire coverage involved was thereupon paid in full. The customers bought this protection, coextensive in both time and amount with the curtailment requirements of their borrowings, to provide a means of automatically servicing their debts to Southern in case of death or disability prior to full repayment. Georgia law prohibited Southern, as a loan company, from acting as an insurance underwriter with respect to such coverages. It was not forbidden, however, from functioning as a sales agent for insurance underwritten by a carrier duly qualified to conduct an insurance business in Georgia. American Bankers Life Insurance Company (American Bankers), a Florida corporation, was such a carrier.

Until 1957 Southern acted as a commission sales agent for American Bankers in respect to life and A & H insurance issued by the latter to Southern's borrowers. Under this arrangement, Southern received the maximum commission rate allowed by law; amounting to approximately 50 percent of the policyholder premiums. Despite the attractiveness of that return, for which it apparently had to do little more than place American Bankers' policies with its own borrowers, Southern concluded that it could reap even greater profits from this source if it could participate as an underwriter rather than just a sales agent. It was that determination that prompted Southern to form the plaintiff as a wholly owned subsidiary.

Southern surveyed state law to locate the jurisdiction that had the most modest capitalization requirements for a licensed insurer and found that it was Arizona. Plaintiff was organized July 1, 1957 as an insurance company under an Arizona charter with an initial balance of invested capital and paid-in surplus of only $38,000. These resources were not sufficient to permit it to qualify as a direct insurer under Georgia law. It could, however, use its Arizona charter authority to operate as a reinsurer of Georgia and North Carolina coverages written by American Bankers—a duly authorized insurer in both of those states. American Bankers was willing to enter into a reinsurance treaty arrangement with plaintiff, under which it surrendered substantially all underwriting profit in return for a relatively minimal fixed fee, because it knew that if it refused, Southern would have no difficulty in replacing it with another qualified carrier. Thus, its alternative was outright exclusion from the insurance business generated by Southern's borrowers. Thereupon, on June 28, 1957, American Bankers entered into the first of two consecutive insurance treaties (Treaty I and Treaty II, respectively) with the plaintiff.

Under Treaty I, all life and A & H policies issued by American Bankers to debtors of plaintiff's affiliates (including the parent, Southern) on and after July 1, 1957 were to be fully reinsured with plaintiff which, as it freely concedes, thereby assumed the entire insurance risk represented by each of the policies involved; A & H as well as life. As compensation for its reinsurance function, plaintiff was to receive 87½ percent (later increased to 90½ percent) of all premiums collected by American Bankers from the policyholders. The timing of these payments by American Bankers to plaintiff differed, however, as between life and A & H, although the agreement required monthly remittances in each instance. As already noted, American Bankers collected all premiums in full at the inception of coverage. The Treaty stipulated that as to life policies, American Bankers was, at the end of each month, to pay plaintiff its entire share of all life premiums collected from policyholders during that month. As to A & H, however, American Bankers was to pay plaintiff only the portion of its total share of premium receipts during that month that was ratably allocable to that month's coverage; the agreement being to pay over the remainder monthly on a pro rata basis spread over the balance of the coverage period. Thus, in respect to A & H, plaintiff never actually held any premium dollars attributable to a future period of coverage and risk exposure.

Finally, Treaty I provided for termination by either party upon thirty days written notice to the other. Termination was to be wholly prospective, the relevant clause specifying: "Upon termination by either party, this agreement shall continue to apply to all policies reinsured hereunder before such termination becomes effective."

As required by state law, plaintiff filed annual reports of its activities under Treaty I with the insurance regulatory authorities in Arizona and Georgia. On those reports it characterized its life and A & H dealings differently. It did so by reporting both premium income and related reserves solely on the basis of actual dollar receipts for the year involved. This meant that for the life coverages it declared as premium income its entire percentage share of the premiums paid by policyholders during that year. Consonantly, it reported the full tabular reserve for all of such policies. As to A & H, however, it limited reported premium income to the annual aggregate of the incremental payments that had been received monthly from American Bankers. Moreover, it showed nothing on the asset side of the report representing the premiums on existing A & H policies that it was entitled under the Treaty to receive in the future. With premium income and asset balances thus restricted, plaintiff reported no reserves whatever in respect to the A & H coverages that it reinsured under Treaty I. As to those coverages, American Bankers included on its own annual reports an unearned premium reserve based on the amount of A & H premiums collected from policyholders but not yet paid over to the plaintiff. Neither the Georgia nor the Arizona regulatory authorities ever challenged or disapproved the method by which plaintiff reported its A & H reinsurance activities under Treaty I.

By 1962 plaintiff had accumulated enough earnings from operations under Treaty I to enable it to qualify as a direct insurer under Georgia and North Carolina law. It thereupon applied for and received such authority from the State of Georgia. From then on plaintiff operated as the issuing company on all life and A & H policies sold to the loan customers of Southern and its affiliates. Treaty I, in which plaintiff's role was solely that of a reinsurer, was consequently no longer suited to its purposes. Accordingly, effective March 1, 1962, plaintiff and American Bankers entered into a new insurance treaty under which their roles were reversed; plaintiff functioning as the issuing or ceding carrier and American Bankers denominated the "reinsurer".

Treaty II applied only to A & H insurance; plaintiff having determined to underwrite all future life insurance by itself. The treaty provided that plaintiff, as the issuing or ceding company, would reinsure 80 percent of all future A & H policies with American Bankers. To that extent, plaintiff was to pay over to American Bankers on a quarterly basis all of the premiums collected from policyholders, American Bankers to return 50 percent of such amounts to the plaintiff as commissions. The Treaty contained a clause, entitled Experience Refunds, establishing a quarterly rebate due plaintiff in the amount of the total premium dollars ratably allocable to the expired portion of the term of policies for which such premiums had been collected, less the following deductions: (a) the amount of commissions paid plaintiff that was proportionate to the expired portion of the term of policies on which such commissions had been paid; (b) 3 percent of the earned premium dollars previously described; and (c) the sum of all claim payments made to plaintiff during the quarter by American Bankers as reinsurer. For all practical purposes, this clause served to fix American Bankers' stake in the undertaking at a flat 3 percent of the premium dollars that it initially received from ...