The opinion of the court was delivered by: BARD
This matter arises on a motion for summary judgment filed by plaintiff in an action brought by her to recover refunds of a portion of income taxes which she paid in 1938 and 1939. The pleadings and affidavits of record disclose that plaintiff was the beneficiary of ten policies of insurance upon the life of her husband who died in 1936.
With one exception, each of the policies provided that the insured in his lifetime could elect one of several methods of payment of the proceeds in lieu of a lump sum cash payment to the beneficiary. One of these settlement options permitted the receipt of the proceeds in installments. Seven of the policies contained a further provision that if the insured died without exercising any option the beneficiary would have the same election as to the method of receipt of the proceeds.
Plaintiff's husband died without exercising any of the settlement options. Plaintiff, as beneficiary, requested payment of the proceeds of all the policies in installments of twenty years certain and thereafter for continued life.
Her election was assented to by the various insurance companies even with respect to the proceeds of the three policies under which no such right of election was granted to the beneficiary, and she has since been receiving the proceeds in accordance with her election.
The present controversy arises with respect to the proper interpretation of Section 22(b) of the Revenue Act of 1938, 26 U.S.C.A. Int.Rev.Code, § 22(b), which provides in part as follows:
"(b) Exclusions from gross income. The following items shall not be included in gross income and shall be exempt from taxation under this chapter:
"(1) Life insurance. Amounts received under a life insurance contract paid by reason of the death of the insured, whether in a single sum or otherwise (but if such amounts are held by the insurer under an agreement to pay interest thereon, the interest payments shall be included in gross income); * * *."
The Commissioner of Internal Revenue has taken the position that where the election to receive the proceeds of a life insurance policy in any form other than in a single cash sum is made by the beneficiary thereunder rather than by the insured, the amounts received by the beneficiary in excess of what he would have received in a lump sum must be included as gross income. Accordingly, the Commissioner promulgated regulations under which the face amount due under the policy is divided by the number of years the insurance company agrees to pay the installments (in cases where a fixed number of installments is agreed upon), or by the number of years of the life expectancy of the beneficiary (in cases where the installments are payable only during the beneficiary's lifetime), and the excess received annually by the beneficiary is not to be excluded in the computation of gross income. Plaintiff attacks the validity of these regulations and seeks refund of the tax paid in 1938 and 1939 on the proceeds of the policies in excess of the amounts paid in accordance with these regulations.
It has been generally recognized that where the insured has made the election that the payments be made in installments rather than in lump sum Section 22(b) of the Internal Revenue Code, 26 U.S.C.A. Int.Rev.Code, § 22(b), excludes the entirety of such installments from the gross income of the beneficiary. Commissioner of Internal Revenue v. Winslow, 1 Cir., 113 F.2d 418, 133 A.L.R. 405; Commissioner of Internal Revenue v. Bartlett, 2 Cir., 113 F.2d 766; Allis v. La Budde, 7 Cir., 128 F.2d 838; Kaufman v. United States, 4 Cir., 131 F.2d 854.
The distinction which the Commissioner seeks to draw is that where the election is made by the beneficiary after the death of the insured to accept installment payments rather than a lump sum in cash, the agreement is supplementary to the policy obligation and creates a new relationship between new and different parties. It is argued that substantially all the incidents of complete ownership to the proceeds accrue to the beneficiary at the moment of the death of the insured and that any subsequent election to permit the insurer to retain the proceeds and to make installment payments in lieu thereof is essentially the equivalent of investing, on similar terms, money which the beneficiary has in the bank, and hence the increment therefrom should be taxable as income.
The question presented, however, is not the extent of the incidents of ownership which the beneficiary has in the proceeds of the policy. It is whether Congress in enacting Section 22(b) of the Revenue Act of 1938 intended to exclude entirely from gross income installment payments made under an insurance policy option when exercised by the insured but not when exercised by the beneficiary. I am unable to find such an intention. Neither the language of this section nor its negislative history gives any indication that such an intention existed. That Congress, if it had intended to make such a distinction, could readily have expressed it, is demonstrated by the parenthetical clause contained in Section 22(b), by which interest payments on such portions of the proceeds as may be retained by the insurer under an agreement to pay interest thereon are to be included in "gross income." There can be no doubt that the familiar options in policies of life insurance were known to the framers of the Revenue Act, and from the language of this section it would appear that the only one with respect to which they intended to make the increment on the principal sum includible in gross income was the one requiring the payment of interest as such. The Commissioner's argument that the control exercised by the beneficiary when he elects the installment option is such as to justify the inclusion as gross income of the amount in excess of the cash sum then payable is one which is appropriate for the consideration of Congress in drafting the Revenue laws rather than for the courts in construing them.
This conclusion is supported by the only case in which the same question has been raised. In Pierce v. Commissioner of Internal Revenue, 2 T.C. 832, at page 837, the Tax Court, in rejecting the Commissioner's contention and holding invalid the regulation referred to above, said:
"We do not agree with the respondent's analysis. Immediately upon the insured's death the petitioner was vested with several distinct and valuable property rights. Latterman v. Guardian Life Ins. Co. of America, 280 N.Y. 102, 19 N.E.2d 978 [127 A.L.R. 450]. Among these rights was the right to demand a lump sum payment or to require the insurance company to pay her in accordance with one or more of the options. These property rights stem from the policy itself and not from the instrument in which she indicated her election under date of May 4, 1940. That instrument created no new rights. It merely advised the insurance company of her choice between her several rights, thus authorizing it to discharge its obligation to her in the manner stipulated in option C. Since the petitioner's rights flowed directly from the policy, it necessarily follows that all payments received by her in satisfaction of those rights were made by reason of the provisions of the policy which matured on the death of the insured.