Investment Annuity, Inc. v. Blumenthal, 78-1106

• Decision Date: 05 October 1979
• Docket Number: No. 78-1106,78-1106
• Citation: 609 F.2d 1,197 U.S.App. D.C. 235
• Parties: , 79-2 USTC P 9615, 1 Employee Benefits Ca 2079 INVESTMENT ANNUITY, INC., et al. v. W. Michael BLUMENTHAL as Secretary of the Treasury of the United States et al., Appellants.
• Court: U.S. Court of Appeals — District of Columbia Circuit

Page 1

609 F.2d 1

197 U.S.App.D.C. 235, 79-2 USTC P 9615,

1 Employee Benefits Ca 2079

INVESTMENT ANNUITY, INC., et al. v. W. Michael BLUMENTHAL as Secretary of the Treasury of the

United States et al., Appellants.

No. 78-1106.

United States Court of Appeals, District of Columbia Circuit.

Argued Feb. 14, 1979.

Decided Oct. 5, 1979.

Richard Farber, Atty., Dept. of Justice, Washington, D. C., with whom M. Carr Ferguson, Asst. Atty. Gen., Gilbert E. Andrews and Leonard J. Henzke, Jr., Attys., Dept. of Justice, Washington, D. C., were on brief, for appellants; Earl J. Silbert, U. S. Atty., Washington, D. C., of counsel.

William L. Goldman, Washington, D. C., with whom Herbert L. Awe, Washington, D. C., on brief, for appellee First Inv. Annuity Co. of America.

Arthur P. Hartel, Jr., was on brief, for appellee Inv. Annuity, Inc.

Before WRIGHT, Chief Judge, and McGOWAN and LEVENTHAL, Circuit Judges.

Opinion for the Court filed by Circuit Judge LEVENTHAL.

LEVENTHAL, Circuit Judge:

The Internal Revenue Service (IRS) appeals orders of the district court that granted to marketers of investment annuities a judgment declaring erroneous the statutory interpretation contained in Revenue Ruling 77-85 ¹ and enjoining IRS from applying it to purchasers of investment annuities. Because we find that the Anti-Injunction Act ² and the tax exception to the Declaratory Judgment Act ³ bar the relief awarded by the district court, we reverse. ⁴

I. BACKGROUND

The purchaser (or policyholder) of an annuity buys from an insurance company the right to receive periodic payments beginning at a specified date (often the purchaser's anticipated retirement age) and continuing as long as the policyholder lives. Under a fixed dollar annuity, the policyholder receives a sum certain. Under a variable annuity, the amount of payment varies depending on the investment performance of assets held in a "segregated asset account" rather than in the insurance company's general asset account. A form of variable annuity, the investment annuity's salient characteristics, and the ones that occasion the instant controversy, are (1) provision for substantial direction by the policyholder over the investment of assets contained in the segregated account or "custodial account," and (2) its guarantee of liquidity. ⁵

The substantive issue presented is whether investment annuities are "contracts with reserves based on a segregated asset account" within the meaning of section 801(g)(1)(B) of the Internal Revenue Code. ⁶ If they are, income generated by the assets held in the custodial account is taxed to the insurance company at the nominal rates applicable to them. If they are not, the income is currently taxable to the policyholder.

Beginning in 1965, IRS, in a series of private letter rulings directed to individual policyholders and to appellees, ⁷ took the position that income generated by the assets held in custodial accounts was taxable to the insurance company, not the policyholder. The theory was that the company, not the policyholder, "owed" the assets. Sales of the contracts, initially modest, mushroomed when business and financial publications heralded them as permitting taxpayers to avoid taxation on investment earnings while retaining control and liquidity. ⁸ IRS undertook a reconsideration of its position, eventually reversing it in Revenue Ruling 77-85. IRS concluded that retention of substantial incidents of ownership made the policyholder the "owner" of the assets for tax purposes, thereby removing the investment annuity from section 801(g)(1)(B) and making the income currently taxable to the policyholder. In view of policyholders' reliance on IRS's earlier determinations, however, IRS "grandfathered" existing contracts, applying its ruling only to new accounts or to existing accounts to which a contribution was made after March 9, 1977.

In conjunction with the IRS ruling, state regulatory authorities and the Securities and Exchange Commission (SEC) rescinded their earlier, favorable determinations on the investment annuities marketed by appellees. This effectively prohibited further marketing by appellees, and no investment annuities have been sold by appellees, nor have additional contributions to existing accounts been made, since March 9, 1977.

After failing in a bid for congressional intervention, appellees brought this action, seeking declaratory and injunctive relief. The government moved to dismiss on the ground that the Anti-Injunction Act and the tax exemption to the Declaratory Judgment Act deprived the district court of jurisdiction. ⁹ Appellees countered that because IRS had "grandfathered" existing contracts and because further sales were infeasible, the legality of the IRS's ruling would otherwise escape judicial review, as there would be no opportunity to test in a taxpayer suit for refund.

The District Court agreed with appellees that the pertinent provisions were not "intended to preclude pre-enforcement review of Service actions where the action will otherwise Never be subject to judicial review." J.A. at 175. However, in an order of July 12, 1977, the district court initially refused to maintain the action until appellees demonstrated that they had made "all good-faith efforts to stage a 'friendly' third-party challenge to Revenue Ruling 77-85." Id. at 173. The court anticipated the sale of one more investment annuity to a cooperative taxpayer, who could then challenge Revenue Ruling 77-85 in a refund suit. When the state authorities and the SEC declined to accede to this procedure by approving such a sale, the district court, on September 28, 1977, held that no third party investment was feasible and denied the government's motion to dismiss. On November 9, 1977, the court issued a memorandum opinion and order declaring Revenue Ruling 77-85 invalid, and subsequently entered further relief, enjoining the government from applying the ruling to the extent it would increase the tax liability of investment annuity purchasers. ¹⁰

II. ANALYSIS

We do not pass on the merits of appellees' claim, for we conclude that this action is barred by the Anti-Injunction Act and the tax exemption to the Declaratory Judgment Act. The Anti-Injunction Act provides unequivocally:

No suit for the purpose of restraining the assessment or collection of any tax shall be maintained in any court by any person, whether or not such person is the person against whom such tax was assessed. ¹¹

The language of the Declaratory Judgment Act exempting all suits "with respect to federal taxes" ¹² is, if anything, more restrictive. However, since we have held that the reach of the two Acts is coterminous, ¹³ our analysis focuses on the Anti-Injunction Act.

At the outset, we reject appellees' contention that the Anti-Injunction Act does not apply because this is not a "suit for the purpose of Restraining the assessment or collection of any tax." Their theory is that there is no interference with the collection of revenue: appellees' tax liability will increase as the income from the property held in the segregated accounts is attributed to them; present policyholders have been "grandfathered; " and no further sales of investment annuities have occurred since IRS's March 9, 1977, ruling. However, appellees' theory is undercut by their own action in seeking, and obtaining, relief in the form of an injunction against taxing policyholders on the income from investment annuity accounts. That the suit has had no current effect on the collection of taxes is of no import, for its "purpose" is clearly restraint. If appellees were to prevail in this court, they surely would reinstitute sales of investment annuities. In that event, the district court's order would operate to prevent IRS from assessing and collecting taxes called for by Revenue Ruling 77-85. ¹⁴

In recent years, Supreme Court decisions examining the Anti-Injunction Act have drummed its central purpose: to protect the government's ability to assess and collect taxes free from pre-enforcement judicial interference by confined taxpayers seeking review to refund actions. ¹⁵ To this end, the Court has given the Act "almost literal effect," ¹⁶ without regard to the harshness of the result.

In Enochs v. Williams Packing & Navigation Co., 370 U.S. 1, 82 S.Ct. 1125, 8 L.Ed.2d 292 (1962), the court concluded that the Act permitted relief from its strictures Only where (1) the government could "under no circumstances" ultimately prevail, and (2) where equity jurisdiction was otherwise present. Id. at 7, 82 S.Ct. 1125. A claim that irreparable injury would result from the collection of the tax was not sufficient to overcome the Act's prohibition, since such a showing, necessary to invocation of equity jurisdiction, satisfied only one prong of the test. Thus, the Court was unmoved by the claim that the challenged collection of taxes could bankrupt it.

In Bob Jones University v. Simon, 416 U.S. 725, 94 S.Ct. 2038, 40 L.Ed.2d 496 (1974), the Court rejected a contention that there were judicially-created exceptions to the Act other than the "under no circumstances" test. Williams Packing, the Court stressed,

was meant to be the capstone to judicial construction of the Act. It spells an end to a cyclical pattern of allegiance to the plain meaning of the Act, followed by periods of uncertainty caused by a judicial departure from that meaning, and followed in turn by the Court's redisclosing of the Act's purpose.

Id. at 742, 94 S.Ct. at 2048. In Bob Jones University and a companion case, Alexander v. "Americans United" Inc., 416 U.S. 752, 94 S.Ct. 2053, 40 L.Ed.2d 518 (1974), charitable organizations had sought to contest the revocation of their tax-exempt status prior to the assessment of taxes against them. Though recognizing that the denial of tax-exempt status threatened the flow of contributions to the charities, the Court declined to depart from the dual test of Williams Packing.

In the instant case, ap...