Penn Mut. Indem. Co. v. Comm'r of Internal Revenue, Docket No. 55553.

Citation32 T.C. 653
Decision Date15 June 1959
Docket NumberDocket No. 55553.
PartiesPENN MUTUAL INDEMNITY COMPANY (DISSOLVED), FRANCIS R. SMITH, INSURANCE COMMISSIONER OF THE COMMONWEALTH OF PENNSYLVANIA, STATUTORY LIQUIDATOR, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
CourtUnited States Tax Court

OPINION TEXT STARTS HERE

John T. Curtin, Esq., for the petitioner.

Morton A. Smith, Esq., for the respondent.

Held, the tax imposed upon mutual insurance companies (other than life or marine), computed under section 207(a)(2), I.R.C. 1939, as amended, is constitutional. The only possible objection to its validity is that it is a ‘direct’ tax which must be apportioned according to population. The tax is not a ‘direct’ tax within the meaning of the Constitution, and the fact underwriting losses are not deductible is constitutionally irrelevant.

OPINION.

RAUM, Judge:

Respondent determined a deficiency in the 1952 income tax liability of the Penn Mutual Indemnity Company in the amount of $12,566.76. The sole issue is whether section 207(a)(2) of the Internal Revenue Code of 1939 is constitutional as here applied. The facts have been stipulated.

Francis R. Smith, the Insurance Commissioner of the Commonwealth of Pennsylvania, is the statutory receiver of Penn Mutual Indemnity Company and as such, successor in right, title, and interest to its assets and liabilities.

The company was incorporated in 1929 under the laws of Pennsylvania and became subject to the Insurance Company Law of that State (Act of May 17, 1921, P.L. 682.) The company was authorized under its charter, as amended, to transact business in Pennsylvania, ‘covering risks as insurance carrier, generally defined as casualty risks including public liability, plate glass insurance, burglary, workman's compensation, as well as issuing contracts of fidelity and surety, and fire and comprehensive insurance contracts.’

The company, at all times relevant, was authorized to transact business and issue contracts of insurance covering various risks within Pennsylvania only, and at all times confined its activities as an insurance carrier within the territorial limits of Pennsylvania. At no time was it authorized or licensed by the United States or any Federal body or agency to transact business or issue or write contracts of insurance.

As a result of operations for the calendar year 1952, the company had a total ‘gross income’ of $16,791.21 and ‘net premiums' of $1,239,884.49 for a ‘gross amount of income’ of $1,256,675.70.1 It also had underwriting losses which exceeded its gross amount of income by $206,198.12, which losses are not recognized as a deduction under section 207(a)(2) of the Internal Revenue Code of 1939. The company filed its income tax return for the year 1952 with the district director of internal revenue of Philadelphia, Pennsylvania. The return disclosed a total tax due in the amount of $12,566.76, but by letter attached thereto, the company denied that this sum was owing on the ground that section 207(a)(2) of the Internal Revenue Code of 1939 was unconstitutional. Respondent thereafter determined a deficiency in the amount of $12,566.76.2

The parties have agreed that the company ‘was a mutual insurance company under Section 207 of the Internal Revenue Code of 1939 and if the said Section 207 is constitutional, the deficiency is $12,566.76.’

Section 207 of the Internal Revenue Code of 1939, as amended,3 established a system for the taxation of mutual insurance companies other than life or marine. Provisions for the taxation of stock insurance companies and mutual life or marine insurance companies are found in other, although closely neighboring, sections of the 1939 Code.

The business of insurance has proven over the years an extremely difficult subject for Federal taxation. The determination of what should constitute ‘income’ in the case of insurance companies, combined with differences in the methods of doing business of mutual and stock companies, has presented the Congress with problems of unusual complexity.

Prior to 1942 most mutual insurance companies other than life were exempt from Federal income tax as a result of an exemption contained in section 101(11) of the 1939 Code. In 1942, Congress proceeded to an extensive revision of the income tax treatment of all insurance companies.

The Revenue Act of 1942, as passed by the House, limited the existing exemption of mutual insurance companies to companies of a designated size; at the same time, it imposed a tax measured by underwriting and investment income similar to that which had been applicable to stock insurance companies other than life since 1921. See H. Rept. No. 2333, 77th Cong., 2d Sess., pp. 27-28, 113-118. However, the Senate Finance Committee apparently felt that the provisions formulated to adapt that scheme of taxation to mutual companies were unworkable, and it appeared unable to develop any satisfactory technique to achieve the desired end within the framework of the House plan of taxation. See S. Rept. No. 1631, 77th Cong., 2d Sess., p. 31. Accordingly, the committee proposed an entirely different scheme of taxation, S. Rept. No. 1631, supra, pp. 31, 150-154, which the Senate approved. That plan was ultimately accepted by the conference committee, although modified in certain particulars not presently material. H. Rept. 2586, 77th Cong., 2d Sess., pp. 10-12. As thus modified, it was enacted into law in the provisions here for review.

The new taxing provisions thus appearing in the Revenue Act of 1942 constituted a complete revision of section 207 of the 1939 Code. Section 207, incorporating amendments made subsequent to the Revenue Act of 1942 which are applicable to 1952, the taxable year here involved, is set forth in the margin. 4 These latter amendments were required primarily by changes in corporation income tax rates during the years subsequent to 1942 and did not alter the basic structure of the tax first imposed in 1942.

The basic pattern of the new system adopted in 1942 was described by the Senate Finance Committee as follows (S. Rept. No. 1631, supra at 151):

In the case of mutual insurance companies other than life or marine which are not granted exemption under section 101(11),5 it is proposed to subject such companies to income tax at the regular corporate rates on their net investment income or to a special tax of 1 percent on the gross amount received from interest, dividends, rents, and net premiums, minus dividends to policyholders, minus the interest which under section 22(b)(4) is excluded from gross income, whichever is the greater * * * (Italics supplied.)

Section 207(a) levies a tax on every mutual insurance company (other than life or marine or a fire insurance company subject to tax under section 204) upon either one of two bases, whichever produces the greater amount of tax. The first base, embodied in section 207(a)(1), is net investment income to which is applied the rates applicable to corporation incomes generally. The second base, embodied in section 207(a)(2), is the ‘gross amount of income’ from interest, dividends, rents, and net premiums, less dividends to policy-holders and less wholly tax-exempt interest. If the base so computed exceeds $75,000, the tax is an amount equal to the excess of—

(A) 1 per centum of the amounts so computed, or 2 per centum of the excess of the amount so computed over $75,000, whichever is the lesser, over

(B) the amount of the tax imposed under Subchapter E of Chapter 2.

The reference in subparagraph (B) to ‘Subchapter E of Chapter 2 is a reference to the excess profits tax, and since no such tax was applicable here, subparagraph (B) played no part in the present computation, which consisted merely of 1 per cent of the ‘gross amount of income.’

In this case the computation under section 207(a)(2) produced a greater liability than the one determined under section 207(a)(1); accordingly, the amount of tax levied by section 207 was fixed by subsection (a)(2). There is no disagreement between the parties that if section 207(a)(2) is constitutional, the computation of the company's 1952 tax liability is governed thereby, and the deficiency determined by the Commissioner is correct. No issue of statutory construction or application of the statute is here presented.

At the outset we may briefly dispose of the contention raised in the petition that the tax is ‘in effect, a license fee or charge to do business to which the United States is not entitled since it has not issued any license or grant to the taxpayer to operate or do business.’ The argument is wholly without substance. The United States has not sought to regulate the company, and the tax in question is part of a comprehensive revenue measure. Whether the business of the taxpayer can be subjected to Federal regulation has no bearing upon the validity of an exercise of taxing power with respect to that taxpayer. Steward Machine Co. v. Davis, 301 U.S. 548; 582; Flint v. Stone Tracy Co., 220 U.S. 107, 152-158. We pass therefore to a consideration of whether the challenged exaction is otherwise authorized under the taxing power.

An act of Congress is not lightly to be set aside, and doubt must be resolved in its favor. So much is familiar learning. Moreover, the presumption in favor of validity is particularly strong in the case of a revenue measure. As was stated many years ago by the Supreme Court in Nicol v. Ames, 173 U.S. 509, 514-515:

It is always an exceedingly grave and delicate duty to decide upon the constitutionality of an act of the Congress of the United States. The presumption, as has frequently been said, is in favor of the validity of the act, and it is only when the question is free from any reasonable doubt that the court should hold an act of the lawmaking power of the nation to be in violation of that fundamental instrument upon which all the powers of the Government rest. This is a particularly true of a revenue act of Congress. The provisions of such an...

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