Commissioner v. Standard Life & Accident Ins. Company – Oral Argument – March 30, 1977

Media for Commissioner v. Standard Life & Accident Ins. Company

Audio Transcription for Opinion Announcement – June 23, 1977 in Commissioner v. Standard Life & Accident Ins. Company

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Warren E. Burger:

We will hear arguments first this morning in No. 75-1771, Commissioner of Internal Revenue v. Standard Life & Accident.

Mr. Smith, you may proceed.

Stuart A. Smith:

Mr. Chief Justice, and may it please the Court.

This federal income-tax case comes here on a writ of certiorari to the United States Court of Appeals for the Tenth Circuit.

It presents a question of major fiscal importance involving the taxation of practically every life-insurance company.

The tax statute that we will be dealing with this morning imposes a unique preferential system of taxation on life-insurance companies.

It recognizes that life-insurance companies are required to add amounts of both premium income and investment income to an account called policyholder reserves in order to be able to have enough sufficient funds to meet future claims.

What the statute does in brief is to permit a deduction from premium income for additions to reserves and to provide a computation by which investment income is broken down into two segments; that is, the portion of investment income and at the policyholder reserves is excluded from the tax base, and the portion of investment income which is allocable to the company’s surplus is subject to current tax.

Now, the case involves a particular kind of premium called deferred and uncollected premiums, which I will shortly define.

But suffice it to say at the outset that until the decision of the Court of Appeals in this case, four circuits, the Fourth, Fifth, Seventh and Sixth, and the Tax Court had upheld the Commissioner’s position that such premiums — that is, deferred and uncollected premiums — had to be consistently taken into account in computing three statutory categories: assets, premium income, although the statute refers to it as gross amount of premiums, and reserves.

Here the Tenth Circuit has reached what we believe is an extraordinary and surprising result.

It has held that these deferred and uncollected premiums are to be included in reserves, but nevertheless excluded from the corresponding tax computations of assets and premium income.

We believe the decision is unprecedented, and its unprecedented and peculiar quality is underscored by the fact that, as the briefs disclose and the arguments this morning will doubtless confirm, the life-insurance industry itself has disavowed the approach taken by the Court of Appeals.

Now, before I describe the facts of the case, I think it will be helpful and it will put the issues in proper focus if I set forth for the Court three elements before moving on.

Could I ask you, just so that I will have it in my mind as I listen to the rest of your argument, do you understand that the state law was critical in the decision of the Court of Appeals?

Stuart A. Smith:

Yes.

I think the Court of Appeals’ decision turned in part on state law.

And so if state law was different, they might have come out differently?

Stuart A. Smith:

Possibly, although our position is that a state —

Because you said a while ago that this is a national issue.

Stuart A. Smith:

It is a national issue.

I think the state law, the Oklahoma law involved in this case, is typical of the computational reserve modes imposed by most states.

So you think it is typical, then.

Stuart A. Smith:

I think it is typical, yes.

Now, I would like to set out three elements for the Court before describing the facts and the holdings of the lower courts, and there I would like just to define deferred and uncollected premiums; I would then like to describe the nature of a life-insurance reserve, which is the central component of the tax computation, and the relationship of that reserve to premiums; and then I would like to describe in detail the mechanics of this tax statute.

Deferred and uncollected premiums are a particular kind of premiums used in selling life insurance.

Now, a policyholder has the option to pay his premium in full as of the anniversary date, or he can pay it in installments.

If he pays it in installments, which are typically monthly, quarterly or semi-annually, the amount which is due to be paid after the close of the calendar year — because insurance companies by statute are required to report their income on a calendar year — the amount which will come in after the calendar year, but before the next anniversary date, are called deferred premiums.

Now, there is another kind of premium here called uncollected premiums.

Those premiums are amounts which the policyholder owes right now, but for one reason or another has not paid.

Stuart A. Smith:

They are called premiums due and payable, or they are also known as uncollected premiums.

Warren E. Burger:

When you say it is “owed”, it is not owed in the sense of a note at the bank, is it?

Stuart A. Smith:

No, it is not owed, Mr. Chief Justice —

Warren E. Burger:

He reserves the option not to pay it at all.

Stuart A. Smith:

Exactly, and he can have his life insurance lapse.

But what I am speaking of essentially is sort of two types of premiums, those which your quarterly payment is not due yet — that is a deferred premium — and then if the date passes when it should have been paid and is not paid, that is known as an uncollected premium.

And these two types are known in the aggregate as deferred and uncollected premiums.

John Paul Stevens:

Mr. Smith, let me just ask you a question about uncollected premium.

If the premium has been uncollected for, say, 45 days — there is a normal 30-day period in which you can pay — is it still classed as an uncollected premium, or are we only talking about on the year-end business those that were due as of —

Stuart A. Smith:

I think we are only talking about the —

John Paul Stevens:

Just one month.

Stuart A. Smith:

Right, because I think after the grace period, which I will describe, I think it would no longer be an uncollected premium; I think the policy would lapse, and other mechanics would take over.

Now, the question presented in this case involves the proper tax treatment under the current statute, which came in in 1959, for these deferred and uncollected premiums under the two principle computations under the statute: the computation for premium income, which is colloquially referred to as phase two, and the computation of taxable investment income, which is commonly referred to as phase one.

Let me now turn if I can to the nature of a life-insurance reserve and its relationship to premiums.

The business of life insurance, I think as we all know, is essentially the shifting of the risk of death from the insured to the insurer for a price, and that price, that consideration, is called the premium.

The amount of the premium is calculated on a particular assumption, and that assumption is that the insurance company will set aside certain portions of its premiums that are received and it will invest those premiums, and those premiums will earn interest and the whole accumulated fund will be sufficient to meet claims of policyholders as they die.

Now, the gross premium is the amount that the policyholder actually pays, and that is divided in turn into two subordinate elements: the net valuation premium and another element called loading.

Now, the net valuation premium is the amount computed under particular mortality and interest-rate assumptions that the company assumes that it must take into account in order that these funds will accumulate at a particular interest rate and that it will have a sufficient amount to pay claims as they arise.

So the net valuation portion of any particular premium is the amount that the company has to set aside and invest in order to meet these future claims.

William H. Rehnquist:

Now, does that depend on state law, Mr. Smith?

Stuart A. Smith:

Well, the state law sets up, Mr. Justice Rehnquist, certain minimum reserve valuation standards in order to make sure that insurance companies will be able to pay off their claims and states might impose certain assumptions or whatever.

So to that extent, it does depend on state law.

William H. Rehnquist:

Do most states impose minimum requirements to those?

Stuart A. Smith:

Yes, because the states have an interest in making sure that when people pay premiums over a lifetime that they are not going to be faced with an insolvent insurance company which won’t be able to pay off on the claims.

Now, the reserve, the life-insurance reserve, is this amount that the company must set aside to meet its future claims.

So the reserve is defined universally by the life-insurance texts as the sum of these net valuation premiums taken in year by year, plus the interest at the assumed rate minus the death claims that are going to be paid out, and that at any given point in time is the amount that the company must have on hand, so to speak, or be set aside, as the tax statute refers to it, to meet future claims.

The loading element is the difference between the gross premium and the net valuation premium.

It is, so to speak, analogous to a gross profit margin.

If you were to buy something at $10 and sell it at $15, you would have to pay out certain expenses out of the 5; but that $5 would be a gross profit margin, which is designed to cover various costs that you have and also have a profit and also to be able to pay dividends to your shareholders.

The life-insurance texts, and this is significant, all define a life-insurance reserve as derived from premiums.

Stuart A. Smith:

This is undisputed.

And the tax statute, Section 801(b)(1)(b) uses the term in defining reserves as amounts set aside to meet future claims.

It is essential that there be this set-aside notion so that the company has the amounts to cover its reserve liabilities.

So I think that it is fair to say that there is a direct and fundamental relationship between reserves and premiums, and indeed the decisions of this Court, the early tax decisions of this Court like McCoach versus Insurance Company of North America, New York Life-insurance company v. Edwards, speak in these terms.

They talk about amounts reserved from premiums.

So I think that that aspect of the case is fairly well undisputed.

Turning now to the particular details of the Life-insurance company Income Tax Act of 1959, which the Court last considered in the Atlas Life-insurance company case, this statute recognizes that life-insurance companies are unlike the ordinary taxpayer and don’t have unfettered discretion as to how to deal with their gross receipts, and they must set aside amounts.

So it permits certain exclusions and deductions of amounts from two separate kinds of computations in order to cover the reserve liabilities.

This concept of reserve, which as I said is derived from premiums, is the central component of the statutory system.

And the statutory computations, which are indeed complicated, are essentially designed to measure the amounts that the company has to add to its reserves and to exclude them from tax or to provide for deductions.

Now, there are two primary categories of computations.

There is a computation of taxable investment income, because as I said the company sets aside these amounts and they are going to earn interest and dividends on investments.

Indeed, as the Court said in Atlas, they must invest because if they do not they are not going to have enough under their assumptions to pay off the claims.

Then there is a second category, which the statute refers to as gain from operations, which is essentially income from all sources, including total taxable investment income plus all sorts of other income that the company has, for example, underwriting gains; in other words, the amount of premiums that it takes in less the amount of the claims that it has to pay out.

Now, the statute imposes a tax on the company’s taxable investment income plus one half of the amount by which its total gain from operations, that is the second category, exceeds its taxable investment income.

So essentially the whole statutory mechanics are designed to make these computations in order to determine what amounts have to be set aside from reserves and thereby excluded from tax.

Now, the phase-one computations, which we set forth in formula form, I think the most graphic way to understand it is to look at Page 6 of our brief, which sets forth a series of equations.

Although they seem rather onerous, they are really not when you sort of strip away some of the detail, because what you have essentially, you are trying to take the company’s total investment income and break it down between the amounts that are allocable to reserves and thereby are owned by the policyholders so to speak, and should be free of tax and the amount that the company earns for itself, which does not have to set aside and it does have to pay a tax on that.

So essentially looking at Page 6, the Court will see essentially three formulas and then a variation of the third formula.

But what essentially the statute prescribes is that the first thing that the company has to do is compute its earnings rate, and that simply is its investment income divided by its assets, and then it multiplies that earnings rate times its reserves and that yields its tax exclusion.

And as you can see, that third formula essentially substitute for earnings rate its equivalent in the first formula, which is investment yield over assets, and so you have a formula that is investment yield divided by assets times reserves equals the tax exclusions.

And to restate the formula, it is essentially you can see from the last where the equation was described that investment yield is multiplied by a fraction, the numerator of which is reserves and the denominator of which is assets.

There is one significant thing from this-phase one computational expressions, as we have set it out in the briefs, is that the amount of the exclusion — that is, the amount of taxable investment income which is free of tax — is based upon a proportionate relationship of total reserves to total assets.

Now, the phase-two computation is a much more traditional netting computation, which the Court is doubtless familiar from other income-tax cases.

That is, it essentially says take in your gross amount of premiums, and you subtract certain deductions.

That statute is set out in 809 of the Code, and essentially the unique deduction that the life-insurance companies are entitled to is set out in Section 809(d)(2); that is, it gets a deduction for its additions to reserves, because that amount of premium income is supposed to be set aside in order to meet policyholder claims.

I think with these sort of basics in mind, I can now turn to the facts of this case and put the matter in clear focus.

The respondent in this case is a life-insurance company in Oklahoma.

It had deferred premiums, as most life-insurance companies do, and it also had due and unpaid or uncollected premiums, because it had a typical grace period of 31 days.

Now, there are certain things that the courts below set forth which are plain and undisputed.

Stuart A. Smith:

The policyholder, of course, as the Chief Justice pointed out, has no obligation to pay deferred or uncollected premiums.

But, and this is important, respondent, the life-insurance company, had no obligation to continue the insurance coverage beyond the point for which the premiums had been paid, because nonpayment of the premiums — it is not like a note at the bank — results in the lapse of the policy.

The only thing the policyholder is going to get is his cash surrender value on an ordinary whole-life policy.

Lewis F. Powell, Jr.:

Mr. Smith, what happens if I were to take out a $10,000 policy today to be paid quarterly, and I paid the first quarterly installment and died tomorrow?

Stuart A. Smith:

If you pay the first quarterly installment and die tomorrow, Mr. Justice Powell, the company would pay off the $10,000; but state statutes permit it to deduct from that $10,000 the amount of the three quarters that you should have paid, had you paid it at the beginning.

So in effect the company never losses in the sense that it is always going to get its premium in one way or another.

Lewis F. Powell, Jr.:

But the company would have to set up the full reserve today.

Stuart A. Smith:

The company, and that is what I am about to get to, would indulge in the assumption that the full premium was paid in advance; that is, a computational assumption that all life-insurance companies —

Lewis F. Powell, Jr.:

But that is required by state law; it is not just a company assumption.

Stuart A. Smith:

Right, it is a computational mode which is required by state law; but our essential position is that that is only one element of the statutory definition of reserve.

The other element of the statutory definition in Section 801(b)(1)(b) is that there would be an amount set aside to meet future claims.

I think the important thing about this case is that the reserves that it sets up, the full premium receipt assumption, so to speak, is simply that: an assumption.

As we point in the brief and I will describe in greater detail later, it is based on a historical financial-reporting practice in which insurance companies for the last hundred years have been engaged in a full premium receipt assumption.

But the important thing is that there is nothing set aside, and the assumption, the fact that the company is making this assumption, does not affect its actual liability to the policyholders; it only is going to have to pay out with respect to coverage for which it has received premiums.

Warren E. Burger:

Let’s take another hypothetical, one a little more favorable to Justice Powell.

He pays a $100,000 premium and pays the first quarter, $25, 000.00, and does not die but lives.

The policy lapses after the grace period, doesn’t it?

Stuart A. Smith:

The policy lapses after the grace period, that is right.

Warren E. Burger:

How does Internal Revenue treat the $75,000 premium which he has never paid?

Stuart A. Smith:

It is not premium income.

It would not be premium income, and it would not enter into the computations.

Essentially, that is the point.

I mean, this whole thing is an elaborate fiction.

Essentially, the fact that the company engages in a full premium-receipt assumption does not affect its actual liabilities.

Our point simply is that if it is going to engage in this assumption, the Commissioner insists that it apply that assumption to the other elements of the statutory computations; that is, that it also consistently assume that it has these premiums for purposes of assets and gross amounts of premiums.

John Paul Stevens:

Mr. Smith, is your answer to Mr. Justice Powell entirely correct?

I understood you say that when the reserve is set up on a deferred or uncollected premium, nothing is set aside.

Now, of course, that is true in the sense that the premium itself has not been collected; but there must be an offsetting asset on the balance sheet, must there not be?

Stuart A. Smith:

Yes, and as we point out in the brief, there is an offsetting net valuation premium asset; but, you know, the insurance texts uniformly state that this is a fictional asset.

This is a quasi-asset — that is the way the 1871 Convention referred to it — and the fact that that goes on the balance sheet is simply a device that the companies use in order to ensure that they are projecting an accurate picture of their solvency, because otherwise they would have to commit real assets to cover these written-up liabilities and they would impair their surplus.

John Paul Stevens:

Well, I suppose if a policyholder dies, real assets will have to be used to pay the claim, won’t they?

Stuart A. Smith:

That is true, and that simply goes into the actuarial computation that a policyholder would die.

But the fundamental point is that these reserves, although they are written up on the full net valuation portion of the premium, they are not really reserves in a real sense.

They are simply done that way to avoid the burdensome actuarial work of computing reserves on a policy-by-policy basis; in other words, if the companies did not do that, they would have to compute each reserve on a policy-by-policy basis.

It is much easier for the companies to indulge in the assumption, “Okay, we have received all the premiums as of the anniversary date”.

But once having done so, the Commissioner says that you have to engage in the corresponding consistent assumptions and take the full amount of the premiums into assets and gross amount of premiums.

John Paul Stevens:

Well, in a sense they are an overstatement, because the premium has not been paid; but as of the December 31st date, aren’t they an accurate statement of the contingent liability that the company has on outstanding policies?

Stuart A. Smith:

Aren’t they an accurate statement?

John Paul Stevens:

You can use the term in two senses, I suppose: one, it is a measure of how much has been collected in the way of net valuation portion of premiums; and secondly you can use it as a measure of the contingent liability on policies which are in force; and it is an accurate statement of the latter, is it not?

Stuart A. Smith:

No, I do not think so, Mr. Justice Stevens.

The insurance texts uniformly state that it is not a real liability.

The reason it is not a real liability is the fact that the state statutes, if you die after the first installment and the company has to —

John Paul Stevens:

But if you die on the date the statement is prepared, it is a real liability to that extent, isn’t it?

Stuart A. Smith:

Well, no, because the state statutes permit the company to deduct the full amount of the other three quarters.

John Paul Stevens:

I see, because the risk includes the risk of death during the ensuing six months or so.

I see.

Exactly.

Stuart A. Smith:

And insurance texts make that clear.

Lewis F. Powell, Jr.:

But in requiring the maintenance of certain ratios, particularly with respect to surplus, don’t state regulatory commissions treat the reserves as a full liability?

Stuart A. Smith:

Well, it is written up as a liability; but the point is, it is cancelled out by virtue of the fact that this quasi-asset — which is not a real asset, because policyholders do not pay a net valuation premium; they pay the full premium — that is put on the left side of the balance sheet, and on the income statement they have this elaborate —

Lewis F. Powell, Jr.:

Does an insurance company have to maintain a ratio between its reserves and surplus?

Stuart A. Smith:

It probably does for state-law purposes, yes.

Lewis F. Powell, Jr.:

Just fictions.

Stuart A. Smith:

Just fictions, exactly.

John Paul Stevens:

Mr. Smith, do I correctly understand that this original decision by the industry, then, was to include the net valuation portion of the premium on the asset side?

Stuart A. Smith:

That is right.

John Paul Stevens:

In other words, they took the position that the industry now takes.

Stuart A. Smith:

They took the position that the industry now takes.

John Paul Stevens:

I was not trying to get to the merits; but I am correct, am I not, that currently the industry position has been consistent for about a hundred years, then?

Stuart A. Smith:

Yes, but the important thing, Mr. Justice Stevens, is that that industry position is purely for financial-reporting purposes.

John Paul Stevens:

I understand.

Stuart A. Smith:

And what we are involved with here is trying to grapple with the problem of how these deferred and uncollected premiums should be taken into account for tax purposes.

Warren E. Burger:

You speak of that as though these two things were quite alien and incompatible.

Stuart A. Smith:

Oh, they are.

Warren E. Burger:

Well, it is one thing to recognize that careful business practice may lead to larger depreciation than the Government would allow for tax purposes.

Stuart A. Smith:

No, I do not suggest that; but I think the important thing here is that Congress has set out a very elaborate computational system for taxing life-insurance company income, and they have specifically relegated the industry financial-reporting practice to a subordinate and interstitial role.

John Paul Stevens:

Mr. Smith, just let me throw a thought out and be sure you address it in due course.

Stuart A. Smith:

Yes, that is what I plan to turn to now, and I would actually like to save about four minutes for rebuttal.

John Paul Stevens:

But Mr. Smith, my question really related to how much of the loading would the Government’s position include in income on that assumption?

Stuart A. Smith:

The whole thing.

John Paul Stevens:

Well, what do you do about the Seventh Circuit case — I take it you still disagree with the position of the Seventh Circuit in its most recent case.

Stuart A. Smith:

Well, you mean the Federal Life-insurance company case.

John Paul Stevens:

Yes.

Stuart A. Smith:

Well, as we said in our Reply Brief, we dp not think the question is presented in this case, in the sense that there is no claim here.

John Paul Stevens:

Well, but it will have to be reached before the litigation terminates; won’t it?

Stuart A. Smith:

Not this litigation.

John Paul Stevens:

Wouldn’t it have to be resolved in this litigation?

Stuart A. Smith:

I do not think so, Mr. Justice Stevens.

John Paul Stevens:

Well, somebody is going to have to enter judgment for some amount of dollars; aren’t they?

Stuart A. Smith:

Yes, but the claim here is for a deduction for loading, and I think as the Seventh Circuit pointed out in that case, loading is an income item.

Justice: Oh, oh, loading, that is income; isn’t it, Mr. Smith?

Stuart A. Smith:

There are elements of loading that are expenses; but the point that I am stressing is that the taxpayer in this case, when I say that the issue does not have to be resolved in this case, I am simply saying the Court does not have to address it, because it was never raised in the Tax Court petition, it was not raised in the Court of Appeals, and there really is no reason for the Court to reach it.

Lewis F. Powell, Jr.:

Your basic position as I understand it is to advocate consistency in the practice of insurance companies in accord with reality, and the reality certainly is that loading includes a substantial, inevitably —

Stuart A. Smith:

I think that there is a substantial force to that contention, and let me simply say that we face now an unbroken line of decisions in three circuits, the Seventh, the Eighth and the Fifth.

John Paul Stevens:

Is it correct in all events that what we are really talking about here is the year in which the tax will be paid on these —

Stuart A. Smith:

Yes, it is a question of timing; but, I mean —

John Paul Stevens:

Of course, it is advantageous to the taxpayer to postpone it, I understand that.

Stuart A. Smith:

Right. I mean, that is the name of the game in a sense is timing of income.

Warren E. Burger:

Very well, Mr. Smith.

Vester T. Hughes, Jr.:

Mr. Chief Justice and may it please the Court.

William H. Rehnquist:

Well, Mr. Hughes, wouldn’t you concede that there is at least a superficial plausibility to the Government’s approach that if a figure goes into the numerator, it ought to go into the denominator, too?

Vester T. Hughes, Jr.:

Mr. Justice Rehnquist, I would say that the word “superficial” is right, it is more optical than real.

John Paul Stevens:

But, Mr. Hughes, on that assumption, wouldn’t the $75,000 premium be deducted from the payoff, and therefore you would have received income?

Vester T. Hughes, Jr.:

Well, we would receive it in next year, and that is the timing matter.

Harry A. Blackmun:

Mr. Hughes, maybe I am not following you.

Vester T. Hughes, Jr.:

All right, sir.

Harry A. Blackmun:

Well, I have given you one.

Vester T. Hughes, Jr.:

All right, sir.

Harry A. Blackmun:

Well, January 1.

Vester T. Hughes, Jr.:

If it all happens within the same calendar year, Justice Blackmun, then there is no question, because it will come into income.

Harry A. Blackmun:

Well, I think you confuse when you speak of two taxable years and it is not necessarily so.

Vester T. Hughes, Jr.:

Mr. Justice, I believe that this may be one of the problems with the case, then.

Warren E. Burger:

What page were you on there?

Vester T. Hughes, Jr.:

Page 5, sir.

Warren E. Burger:

You would agree that where they are equally valid, wouldn’t you, or you would say neither of them is valid?

Vester T. Hughes, Jr.:

Neither of them are valid — no, I would not agree that they are equally valid.

Warren E. Burger:

On that point, I wish you would pursue for me the hypothetical question I put to Mr. Smith about Justice Powell’s $100,000 premium.

Vester T. Hughes, Jr.:

Mr. Chief Justice —

Lewis F. Powell, Jr.:

Mr. Hughes, before you start, would you reduce that premium to $100, please?

Vester T. Hughes, Jr.:

With the Chief Justice’s permission, I will reduce it to $100.

Warren E. Burger:

Mr. Smith would not agree to that; he wants a larger tax.

Vester T. Hughes, Jr.:

But the novelty of the Government’s position shows up there, because under the taxpayer’s position, assuming that Justice Powell survives, the $75 would come into income in the succeeding year if paid.

Warren E. Burger:

So you and Mr. Smith disagree.

Vester T. Hughes, Jr.:

Oh, under the Government’s primary position, at the end of the year the deferred and uncollected — and under the position of the four circuits — the gross premiums, not the net premiums except as modified then by Federal in Great Commonwealth; but the gross premiums would be taxed in year one, assuming this policy was taken out in 1976.

Mr. Hughes, before you sit down, on the Court’s time rather than your colleague’s, may I ask this question?

Vester T. Hughes, Jr.:

Your Honor, it is, not on a per se basis; but the load in any given year, the commission could be greater than the load or less than the load.

Yes, that is expense to the company.

Mr. Justice,

Vester T. Hughes, Jr.:

I do not know the answer to that; but I can tell you that a small company trying to put much business on the books may pay more than the first year premium in commission, whereas a more established company which readily has agents available to it and has a better sales mechanism will not pay anything like that.

Just to address it in a rough estimate, it would be 70%, 80%?

Vester T. Hughes, Jr.:

Yes, Mr. Justice, but it could be higher than that.

Yes.

Vester T. Hughes, Jr.:

Yes, indeed, and that is why that 818(c) in that level election might be made, so they can take your tax deductions on a different basis.

Warren E. Burger:

Even with a large, established company, the loading plus the commission itself in the first year means that there is no net income to the insurer in the first year.

Vester T. Hughes, Jr.:

There is no net income for annual-statement purposes; there is net income under the Government’s position.

Warren E. Burger:

Well, I was speaking of real income, not taxable income.

Vester T. Hughes, Jr.:

That is right.

Warren E. Burger:

Very well.

Matthew J. Zinn:

Mr. Chief Justice, and may it please the Court.

John Paul Stevens:

Of course, the Government prevailed in Foster Lumber; didn’t it?

Matthew J. Zinn:

Yes, and that is exactly our point.

Warren E. Burger:

Would you tell us precisely what sentence you were referring to in 818 that the Government is reading out?

Matthew J. Zinn:

The Government is reading in, I am sorry.

Warren E. Burger:

You just said that they were reading out one of them.

Matthew J. Zinn:

No.

Warren E. Burger:

Thank you, Mr. Zinn.

Stuart A. Smith:

Let me quickly just make a few points.

Harry A. Blackmun:

You argued Foster Lumber?

Stuart A. Smith:

I did.

Harry A. Blackmun:

Not once, but twice?

Stuart A. Smith:

That is true.

Harry A. Blackmun:

Do you have any comment to Mr. Zinn’s with regard to Foster Lumber?

Stuart A. Smith:

Yes, I do, Mr. Justice Blackmun.

John Paul Stevens:

Mr. Smith, I just ask this very point.

Stuart A. Smith:

Yes; but I think if you carry Mr. Zinn’s sort of initial premise, you land right in the alternative regulation, because none of these things are accruable items.

John Paul Stevens:

But you land right into the NAIC under his argument.

Stuart A. Smith:

No, I do not think that is so.

John Paul Stevens:

Why do not, well, that is the question.

Stuart A. Smith:

I think you do not land in the NAIC point, because essentially the insurance texts uniformly provide, and there has been no refutation from the other side on that point, that these are not liabilities, they are overstatements.

John Paul Stevens:

Does one ever land in the “except” sentence?

Stuart A. Smith:

I think one lands in the “except” sentence to the extent that the NAIC method is recognized in the statute.

Warren E. Burger:

You are going over old ground now.

Stuart A. Smith:

I am sorry.

Byron R. White:

I would like to ask you — and this may be old or new, Mr. Smith — is this a relatively new position of the Commissioner?

Stuart A. Smith:

Oh, absolutely not.

Byron R. White:

How long has it been going on?

Stuart A. Smith:

For about 18 years.

Byron R. White:

Are there proposals for it to amend the revenue laws to change the Commissioner’s practice?

Stuart A. Smith:

Absolutely not, not that I am aware of.

Byron R. White:

Do you think this position you could say has been going on, or it may have been challenged all this time, but it has been the Commissioner’s position for 20 years or no?

Stuart A. Smith:

Well, say, I suppose, since ’60, ’59 or ’60.

Warren E. Burger:

Well, of course, as long as the courts were going that way, you did not need to worry about it.

Stuart A. Smith:

We were happy, that is true, although we submit that this Court should reverse the judgment below.

Warren E. Burger:

Thank you, gentlemen.