# Petition for Writ of Certiorari — Commissioner v. Guardian Agency, Inc. > Briefs, arguments, decisions, and more. URL: https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40385604_1093%3A1 ## Record - **Collection:** Supreme Court brief - **Document type:** Petition for Writ of Certiorari - **Published:** January 1, 1969 - **Citation:** 396 U.S. 956 ## Text an the PFugreme Gout of the tinited Ptutes : , - OctosER TERM, 1969 » 1 - No. COMMISSIONER OF INTERNAL REVENUE, PETITIONER v. * GUARDIAN AGENCY, Inc. AND BENEFICIAL INSURANCE —— Inc.’ PETITION FOR A WRIT OF CERTIORARI TO. THE UNITED STATES COURT OF APPEALS FOR THE SEVENTH CIRCUIT The Solicitor General, on behalf. of the Commis- sioner of Internal: Revenue, petitions for a writ of certiorari to review the judgments of the United States Court of Appeals for the Seventh Circuit. This petition is conditional upon the filing and granting of a petition for a writ of certiorari (due for filing on August 7, 1969) in thé case of Local Finance Corpora- tion, et al. v. Commissioner, which involves the same judgments; if such a petition is not filed and granted, a seek dismissal of this petition. coe OPINIONS BELOW The findings of fact and opinion of the Tax Court (App. C, pp. 20 fi.) are reported at 48: T.C. 773. The - opinion of the court of appeals (App. A, pp. 7~18) is = at 407 F. 2d 628: : 357-930—69——_1 (1) EMRE NSE SRT NN PII LAN SS : oye y IE TART IR LAE PRM MEE OND. RRR ee IY NS GME IN PTE, CEST eae me ee Ie eR a JURISDICTION The judgment of the court of appeals was entered on February 28, 1969 (App. B, p. 19). On May 13, 1969, Mr. Justice Marshall extended the time for filing a petition for a writ of certiorari to and includ- ing July 25, 1969. Thé juridiction of this Court is. invoked under 28 U.S.C., Section 1254(1). QUESTION PRESENTED _ Assuming arguendo that the court of appeals erred in allocating one half of the income from credit life insurance: premiums to Local “Finance Corporation and its subsidiaries under Section 482 of the Internal _ Revenue Code, whether such amounts-should then be -. allocated to Guardian Agency, Inc., and Beneficial Insurance Agency, ine. STATUTE INVOLVED } Section 482 of the Internal Revenue Code of 1954 (26 U. ‘S.C. 482) provides as follows: | ALLOCATION: OF IN COME AND DEDUCTIONS AMON G | TAXPAYERS In any case of two or more organizations,. trades, or businesses (whether or not incorpo- rated, whether or not organized in the United States, and whether or not affiliated) owned or: controlled directly or indirectly by the same interests, the Secretary or his delegate may distribute, apportion, or allocate gross income, " deductions, credits or allowances between or: ‘among such organizations, trades, or businesses, if he determines that such ne, appor-_. 2 $F cx 160 Seti eID 3 “tionment, or allocation is necessary: in order to _ -prevent evasion of taxes or clearly to reflect ihe . income of any of such organizations, trades, or businesses. - STATEMENT This is a consolidated income tax case for the years 1958 through 1962 involving Section 482 of. the Inter- nal Revenue Code. Section 482° empowers the Com-, ~ missioner of Internal Revenue to allocate income ‘among business enterprises. controlled by the same. interests ‘‘if he determines that such * * * allocation - is necessary in order to prevent evasion of el “clearly to reflect the income of any of such * businesses.” Taxpayers Guardian Agency, Ine. (“Guardian’’), and Beneficial Insurance Agency, Ine. (“ Beneficial’), are general insurance brokers and are respectively parent corporation: and wholly-owned subsidiary. Stockholders who ‘owned in excess -of -70-. percent of the stock of the Local Finance Corporation, a finance company, owned 100 percent of the stock of Guardian. Local Finance had several wholly-ow ned subsidiaries which also conducted similar finance com- _pany * business. In connection withthe loans made by the finance companies, single premium credit life insurance ‘was offered to the borrowers. The insurance was sold by employees of Local Finance who prepared the neees- sary papers. Initially, the-insurance was issued by an independent life insurance company which paid Local ‘Finance a commission roughly equal to one half of the - net premiums. Subsequently, Local Finance assigned the commission income to Guardian which, together aa ala a ss Sa i Na ahaa ea LU 4 with Beneficial and Local Finance Corporation, per- | ‘ formed certain of the accounting duties incident to the sale of the imsurarice. . .. After July 1, 1958, a new arrangement was devised whereby Gratid National Life Insurance Company - (“Grand Nationdl’’). was. “organized. All the stock of Grand National was owned by the shareholders of Guardian. Grand National thereupon entered into a reinsurance agreement with the independent insurance | company which had ‘previously issued the credit life insurance for borrowers from Local Finance. ‘This reinsurance agreement provided that Grand National was to receive 90.5 percent of all premiums received. Under the new arrangement, employees of Local Fi- nance continued to sell the insurance and prepare. the necessary papers, and employees of. Guardian and. Beneficial continued to perform certain of the ac- counting duties incident to the sale of the insurance. Grand National conducted no activity other than con- tracting for reinsurance; as in the previous arrange- ment, the supervision A of al claims were. to be handled by the independent insurance ‘company. The. Commissioner allocated one half of the pre- mium income to Local Finance and its subsidiaries, | acting under Section 482, and determined deficiencies ' wecordingly: For protective purposes, the Commis- sioner also asserted deficiencies against Guardian and © Beneficial by means of a-similar allocation of pre-. mium income. The Tax Court upheld the ‘Commissioner’s deter- mination that one half of the premium income was J mex t) 4 : “ ‘ ‘ } ) cs Ck iy Sp hRetas era RD 5 allocable to Local Finance and its. subsidiaries ; it.- thus did not reach the Commissioner’ s alternative allocation. Local Finance. Corporation yv. Commis- soner, 48 'T.C. 773. Local Finance and its subsidiaries appealed to-the Court of. Appeals for the Seventh Circuit, and. the Commissioner took protective cross-. |». appeals for review of thé decisions in favor of Guard- — ian.and Beneficial. On February 28, 1969, the court of appeals affirmed. the decisions of the Tax Court. Local Finance and its subsidiaries sought rehearing, which the ‘court denied on April 9, 1969.'On June 27, 1969, Mr. Justice Marshall granted Local Finance.and its subsidiaries an extension of time until August 7, : 1969, in which to petition for a-writ.of certiorari. a REASONS FOR GRANTING THE WRIT _ This petition is filed to protect the revenue in the ~ event that this Court grants the petition-for a writ 7 of certiorari which we understand Local Finance) =~ Corporation and its stibsidiaries intend to file’ If, as we believe, the courts below correctly held that one half of the credit life insurance premium income ‘should be included in the income of Local Finance and its subsidiaries, then those courts properly deter- mined that Guardian and Beneficial were without any tax liability for the years involved. If, however, this Court were to grant certiorari and rule that the. -Commissioner’s allocation of premium income to Local Finance and its subsidiaries was erroneous, then the Court should remand the case for determination. of , 7 Coeniiteciones intends ad ion such a petition if it is ©, . filed. > rs Ip } 6 the alternative contention of the Commissioner, not passed upon by the courts below, that one half of the premium income/ should be allocated to Guardian and . Beneficial. CONCLUSION If this Court should grant the petition for a writ of certiorari to be filed by Local Finance Corporation and its subsidiaries in Local Finance Corporation, et al. v. Commmissioner, this petition should also be . granted; if certiorari is there denied, or no petition is filed, we shall take action pursuant to Rule 60 for the dismissal of this petition. | Respectfully submitted. . Erwix N. GRISWOLD, aa Solicitor General. Jury 1969. , RS nae le | APPENDIX A os, | In the United States Court of Appeals for the 7 Seventh Circuit — September Term, 1968—September Session, 1968 } ° Nos. 16840-16850, Inclusive : | ’ Loca France Corporation; Locan France Cor- PORATION OF SoutH Marion; Locat Finance Cor- PORATION OF ELKHART; LocaL FINANCE CORPORA- TION oF Gas Crry; LocaL FINANCE CORPORATION OF RusHvitte; Loca Finance Corporation or Dan- | t vitLE; Locan France, Ino.; Locan Frvance Oo., Inc., or Gary; Loca, Finance Compny, INC., PETI- TIONERS-APPELLANTS | ee ries | COMMISSIONER OF INTERNAL REVENUE, RESPONDENT | APPELLEE | ) COMMISSIONER OF INTERNAL REVENUE, | v. Gvarpuan Agency, Ixc., BENEFICIAL INSURANCE ; AGENCY, INC,, PETITIONERS-APPELLEFS — February 28, 1969 \ Petitions for Review of a Decision of the Tax Court of the United States. | Before Swycert, Farrcuitp and Kerner, Circuit Judges. Swycert, Circuit Judge. We are asked to review a * decision of the Tax Court upholding the assessment of (7) PE IE wre _ — PC ee RRS ee wm we Se te Giewwew es) ene ms 8 income tax deficiencies by the Commissioner of Inter- nal Revenue.’ This case presents the question whether the Tax Court was correct in holding that the Com- missioner’s allocation to the petitioners, Local. Finance Corporation and its subsidiaries, pursuant to his authority under Int. Rev. Cope of 1954, § 482,’ of one-half of the credit life insurance net premiums paid by borrowers from these corporations was not arbitrary or unreasonable. Federal income taxes for the years 1958 through 1962 in the amount of $418,- 977.31 are in question. The faets are largely undisputed and have been set forth in the Tax Court’s opinion reported at 48 T.C. No. 76 (Aug. 31, 1967). We will only recite the facts which are necessary for a basic understanding of the financial interrelationships which existed between the . various corporate taxpayers involved in this appeal. Taxpayers are Indiana corporations which, during the years in question, engaged in the business of making) small and industrial loans. Local Finance Corporation is the parent corporation and all the other named 1In addition, the Commissioner also petitions for review on the basis that if this court reverses the decisions of the ee Court with respect to the income allocation to Local Fin and its subsidiaries, the cause should be remanded for consider- ation of the Commissioner’s alternative allocation to Guardian Agency, Inc. and Beneficial Insurance Agency, Inc. ' 2Section 482 provides: “In any case of two or more organizations, trades, or busi- nesses * * * owned or contxolled directly or indirectly by the same interests, the Secretary or his delegate may distribute, apportion, or allocate gross income, deductions, credits, or al- lowances between or among such organizations, trades, or busi- nesses, if he determines that such distribution, apportionment, or allocation is necessary in order to prevent evasion of taxes or clearly to reflect the income of any of such organizations, oaam, or businesses.” ~ % 9 finance company taxpayers are wholly owned subsid-— iaries of Local Finance. Taxpayers, Guardian Agency, Inc. and Beneficial Insurance Agency, Inc., are respectively parent and wholly owned subsidi¢ry. They were organized as general insurance brokers to provide fire ‘and casu- alty insurance coverage on property given as secu- rity to Local Finance by its borrowers. The finance companies were virtually the entire source of their fire and casualty business. During the years in ques- tion, stockholders who owned in excess of seventy per — cent of Local Finance’s stock also owned all the stock ‘of Guardian: and its subsidiary Beneficial. In connection with the logns made by the finance companies, credit life insurance was offered to their borrowers for a term which was coextensive with the contractual term of the related indebtedness. Al- though not required to do so, about ninety per cent, of the borrowers tcok out credit life insurance. This insurance was written by Old Republic Life Insur- . ance Company, an unrelated concern, at a rate of one dollar per year per $100 of coverage. Such rate was commonly charged in the credit: life insurance -industry-in Indiana and its reasonableness is not at issue. Since it was customary for insurance companies _ to pay -a commission for the sales of such insur- ance, the rate of. premium charged by, Republic was fixed in an amount sufficient to provide for such ‘commission. During the period January 1 through June 30, 1958, the commissions on the credit life insurance sold to borrowers from the finance companies were not paid directly to the finance companies. ‘Rather, such commissions were paid pursuant to an agree- ment entered into. between Republic and Don H. . Cee ° gee RNR RRREES > Piet ew } 10. Miller, who was an officer of each of the finance com- panies. The agreement provided that Miller should act as agent for Republic and receive a fixed com- mission of forty per cent of the net premiums paid by the borrowers from the finance companies, that Republic should retain nine and a half per cent of such net premiums to cover its overhead and profit, * and that Miller should receive an additional contin- gent commission measured by the remainder of the net premiums after payment of all claims. Miller simultaneously executed an assignment of such com- missions to Guardian. The commissions so assigned to Guardian over the period ending June 30, 1958 amounted to about fifty-six per cent of total net premiums. After June 30, 1958, Republic continued to write the insurance’ on the lives of the borrowers from the finance companies, but no commissions, as such, were paid to Miller. Instead, Republic entered into an agreement with Grand National Life Insurance Com- pany, an Arizona corporation, which was controlled . by the finance companies and Guardian, whereby - Grand National agreed to reinsure the risks and re- ceive ninety and a half per cent of the net premiums, .Republic: retaining..nine and a half per: cent of the net premiums. Over the period July 1, 1958 through December 31, 1962, the proceeds which Grand Na- tional: received, after provision for payment of the claims, amounted to about fifty-eight per cent of the total net premiums. Grand National also had some operating expenses, but in relatively small amounts. eal “At was the contention of the Commissioner before the Tax Court that a portion of the commission in- come received by Guardian and Beneficial during the period January 1 to June 30, 1958 and a portion of - the reinsurance premiums received by Grand National ‘ 11 during the period July 1, 1958 to December 31, 1962° constituted compensation actually earned by the finance companies for selling and processing the credit life insurance, and therefore should be allo- eated to them in proportion to the amount of insur- ance which each finance company sold. The amounts allocated by the Commissioner equaled fifty per cext of the total net premiums received by the finance companies throughout the taxable years in question. The Tax Court upheld the Commissioner’s allocation and deficiency assessment and found that fifty per cent of the net premiums were taxable to the- finance “eompanies under sections 61 and 482 of the Internal Revenue Code. | The taxpayers make two principal contentions: that the finance companies did not earn or have sufficient control over the premium income from the insurance | to be taxed thereon and that the Tax Court’s deci- sion conflicts with prior cases holding that a taxpayer is not taxable on income he does not receive and is prohibited by law from receiving. In reviewing the Commissioner’s allocation and the Tax Court’s deter- mination; our inquiry is a limited’ one. Ballentine Motor Co. v. Commissioner, 321 F. 2d 796 (4th Cir. 1963). When evaluating section 482 situations, the Commissioner is empowered to examine closely the transactions between controlled taxable entities in order to determine whether they are such as would. have been consummated in an arm’s length negotia- tion between strangers and to make an allocation when they fail to meet that standard. Eli Lilly Co. v. United States, 372 F. 2d 990, 1000 (Ct. Cl. 1967) ; Oil . Base, Inc. v. Commissioner, 362 F. 9d 212, 214 (9th Cir. 1966). Because of the Commissioner’s broad dis- eretion to appraise the factual situation, his determi- nation under section 482 ‘‘is essentially one of fact . No PRY OILS ONIN OR ‘ 12, and * * * must, be affirmed .if supported by substan- tial evidence. ” Advance Machinery Exchange v. Com- missioner, 196 F. 2d 1006, 1007-08 (2d Cir. 1952). The two primary elements which must exisi to sus- tain a section 482 allocation are the existence of com- monly controlled companies and the earning of income by certain of these companies which is the absence of © - the Commissioner’s reallocation would not adequately be reflected in-the income they would otherwise report for federal income tax purposes. The goal of the statutory allocation procedure i is to insure that controlled taxpayers are placed on a parity with uncontrolled taxpayers. Turning first to the question of common control, there is no doubt that during the years at issue Local Finance, Guardian, Beneficial, and Grand National were controlled by the same interests within the meaning of section 482. The common. shareholder interests previously. described fake it clear that the ‘‘control” requirements have been met.’ | The more difficult inquiry is whether. the finance companies and inapce companies would have en- tered into the same arrangements had they been un- . controlled corporations and bargained‘at arm’s length. This question can be resolved only . by determining _ ~who actually earned the commission premiums. The undisputed evidence in the record shows that during | the entire period employees of the finance companies — performed most of the ser vices incident to the sale and servicing of the insurance. It is well known that insurers pay policy solicitors a portion of the pre- mium as a commission for generating and processing the insurance.:The touchstone of our analysis is who expended the effort which caused the policies to be See Treas. Reg. § 1.482-1(a) (3) (1967). at 13 issued. The record demonstrates that it was the fi- nance companies who advised the borrowers of the opportunity to obtain life insurance and encouraged them to subscribe,* The finance companies wrote the policies, collected the premiums and deposited them in the bank accounts of Guardian. and Beneficial, made . refunds, prepared the necessary “papers in the event of the death of an insured borrower, and made weekly reports to Guardian and Beneficial. The sole func- tion of the latter: companies was to collate and trans- mit information and premiums °to Old Republic.’ The Commissioner’s allocation had ‘the effect of com- pensating the finance companies for their efforts in generating and processing the life insurance. Despite the fact.that the commissions were diverted to Guard- jan and Grand National during the period in ques- tion,, it is clear that neither entity earned the commissions. ° Because the record indicated that Beneficial received commissions amounting to fifty-six per cent of the net premiums, from January I to. June 30, 1958 and Grand National received for the remainder of the years in issue ‘about fifty-eight per cent of the net premiums by its reinsurance of the risks, the Commissioner’s allocation of only fifty per cent of the net premiums to the taxpayers is reasonable. | The taxpayers argue that the finance companies. did not earn the insurance commissions because they per- -formed only routivie paper work. Although it is our ‘The record establishes the finance companies’ expertise in ‘this regard. Although the borrowers were not required to pur- chase credit life insurance, eighty-five to ninety-five per cent of them did so. — ’No contention is made that Grand National, the reinsurer, was not a valid business entity; our holding rests on an appli-: cation of income-earning criteria to the taxpayers’ activities. . é £8 LTC NIE EECA TY BS t 14 holding that the record supports the Tax Court’s de- termination that the taxpayers did in fact earn the commissions, even if it was true that the finance com- ._ panies did little to. earn the commissions, ‘it does not follow that the premium income should be regarded as belonging to the controlled insurance companies. How- ever little the: finance companies did ‘to earn this money, they performed those minimal services which were the sine ‘qua non of the insurance business. ‘It cannot be seriously contended that Guardiar or Grand National did anything that entitled them to a greater portion of the net premiums representing the commis- sions. That the finance companies did not actually receive the premium proceeds which the Commissioner attrib- . ‘uted to them does not prevent taxation. This ‘proposi- tion is settled by the assignment of income doctrine set forth in Lucas v. Earl, 281 U.S. 111 (1930).° The taxpayers contend that the Commissioner’s al- location is precluded by state law. Indiana law ap- parently forbids finance companies from receiving any income other than interest from loans, although there has been nio judicial interpretation of the statutory language cited by the finance companies.’ We are of 6 See also Kimbrell v.Commissioner, 371 F. 2d 897, 902 n.15 (5th Cir. 1967), where the fact that direct receipt. of the income would probably have been illegal did not prevent the . income from being taxed to the individual who earned and controlled it. 7 The taxpayers ground their state law argument on indionn’s Small Loan Law, Burns Ind. Stata. Ann. § 18-3002 (1964) which provides in part: | “In addition to the rate of interest or charges herein pro- vided for no further or other charge or amount whatsoever for examination, service, brokerage, commission, expense, fee, or bonus or other thing or otherwise shall be directly or indirectly charged, contracted for, or received. * * * \ 15 the opinion that regardless of the status under Indiana law of the taxpayers’ arrangements, the Com- missioner is not precluded from making his alloca- tion, since the criteria of what eonstitutes income under section 61 and the appropriateness of an alloca- tion under section 482 are matters of federal law. Fed- eral taxing statutes apply their own criteria of what gonstitutes income. In Burnet v. Harmel, 287 U.S. 103, 110 (1932), the Supreme’ Court observed: ‘“‘Here awe . are concerned only with the meaning and application of a statute enacted by Congress, in the exercise of its plenary power under the Constitution, to tax in- come. The exertion of that power is not subject to state control. * * * State law may control only when. the federal taxing act, by express language or neces- savy impl&ation, makes its own operation dependent upon state law.” None of the exceptions enumerated by the Court in Burnet which require invocation of state law are presented in the instant case. Section 482 by its terms makes no express reference to state law. - If the taxpayers’ state law argument is logically ex- tended, it would lead to the erroneous conclusion that - no income the payment or receipt of which is pro- hibited by state law can be included in gross income for federal. income tax purposes. See, e.g., James V. United States, 366 U.S. 213 (1961). . 3 The final argument relied upon by taxpayers is that - the Tax Court’s decision conflicts with prior authori- ties. Specifically, the taxpayers Cite Nichols Loan Corp. v. Commissioner, 21 T.C.M. 805 (1962), rev'd, 391 F. 2d 905 (7th Cir. 1963), Campbell County State - Bank, Inc. v. Commissioner, 37 T.C. 430 (1961), rev’d, 311 F. 2d 374 (8th Cir. 1963), and L. EF. Shunk Latex Products, Inc. v. Commisstoner, 18 T.C. 940 (1952). Although these cases closely resemble the ones before us, none of them is contrary to the result s SPARE AMS ace ' ris 16 reached here. Nichols involved a loan and insurance arrangement whereby these activities were hakdled by two separate entities. Unlike the instant case, was no finding by the Tax Court that the commi would have been payable to the.finance compani for a special arrangement deflecting them to“the in- surance partnership. Furthermore, there was no find- ing that the partnership had not earned the insurance -commissions.* Finally, there was no finding in Nichols that the finance companies earned: or controlled the disposition of the commission income although this court did hold that the cost of providing services in. connection with the sale of insurance was an ordinary and necessary business expense deductible py the ‘: finance companies. ° . The Campbell Bank. case prenented a bank-insur- | . §We agree with J udge "Pannenwald’s observation in his concurring opinion in the Tax Court proceeding in the instant case :_ “Tn none of the cases relied upon by petitioners, with one possible - exception, did the taxpayer in fact perform the services for which the allocated payments were made. In eacli, as petitioners themselves point out on brief, the taxpayer was ~ simply in “the: position to- have performed the services for which the income was paid out but chose not to do so.” At best, those cases stand for the proposition that the mere possibility” of performance of services by the taxpayer does not sustain an allocation of payment by resporident. They do not hold that taxability cannot be imposed where the taxpayer actually per- forms’the services. Thé' possible exception is Nichols Loan Cor- ‘poration of Terre Haute, T.C. Memo. 1962-149, reversed on other grounds 321 F. 2d 905. (C.A. 7, 1963). But it is significant: that. neither in the opinion of this Court nor that of the Court of Appeals was there any reference to section 482 and the opinion of this Court makes clear that its decision was based on a “consideration of all evidence.” In any event, if that case can be viewed as: moquemig a scan result ee I would not follow it.’ , a: ~ ae - ance partnership relationship. ‘Fhe ‘Tax Court rejected ‘the Commissioner's contention that the . insurance agency was a sham and refused to attribute its income to the bank. In the. instant ease there.is no claim that the insurance companies are shams, but additionally the Tax Court found that the finance companies - ~ : _ earned the commission income. Contrary to the facts before us, in Campbell Bank the Highth Cireuit spe- cifically noted that the services performed by the bank in connection with the imsurance were minimal. Addi- _ , tionally, the insurance company was’ the source of compensation for those people located at the bank who devoted their full efforts to the insurance work. — - Tn the Shunk case, the Tax Court held that:an allo- cation under the predecessor provision of section 482 | - was unreasonable because the price charged by tax- payers for their products to a controlled partnership distributor was fixed by the Office of Price Adminis- tration and could not have been raised to the level contained in the Commissioner’s income allocation. The critical element in Shunk was that the taxpayer ‘gould not have raised its price, whether to a controlled ° or wholly independent distributor. Contrary to the taxpayers’ assertion here, the Shunk case does not stand for the proposition that if a particular item of © income cannot be legally earned on aecount of pro- visions of a nonfederal tax statute, it cannot be reported as federal taxable income. Section . 482’s | predecessor was inapplicable -in Shunk because there ‘was no need to implement the section’s policy of plac- ing a controlled corporation on a parity, with an un- controlled one. The OPA regulations in Shunk prevented the generation of the income which the Com- missioner sought to allocate; here Indiana law merely _ 357-930—69——2 —s 18° prohibited the receipt of the commission income by the finance. companies. Since it is our holding that the decisions in Nos. 16840 through 16848 should be affirmed, we need not reach the issues raised by the Commissioner in Nos. 16849 and 16850. The decision of the Tax Court 1 is affirmed. A true Copy: Teste: Clerk of the United States Court of Appeals for the Seventh Circuit. APPENDIX B , JUDGMENT United States Court of Appeals for the Seventh Cireuit Friday, February 28, 1969 Before Hon. Luter M. SWYGERT, Circuit Julge Hon. THomas E. FatmRcH1b, Circuit Judge Hon. Orro Kerner, Circuit Judge LocaL FINANce CoRpoRATION; eT AL., PETITIONERS- APPELLANTS Nos. 16840 thru 16848 vs. GoMMISSIONER OF INTERNAL REVENUE, RESPONDENT- APPELLEE CoMMISSIONER OF INTERNAL REVENUE, PETITIONER- APPELLANT Nos. 16849, 16850 vs. . Guarpian Acency, INC., BENEFICIAL [INSURANCE Acency, INC., PETITIONERS-APPELLEES Petitions for Review of a Decision of the Tax Court of the United States This cause came on to be heard on the transcript of the record from the Tax Court of the United States, and was argued by counsel. On consideration whereof, it is ordered and ad- , judged by this Court that the decision of the Tax Court of the United States entered in this cause on October 25, 1967, be, and the same is hereby, Court filed this day. (19) enrages Saar APPENDIX C In the Tax Court of the United States Dockets Nos. 1693-65—1703-65 ON Filed August 31, 1967 ° LocaL FINANCE CORPORATION, ET. AL., PETITIONER Uv. CoMMISSIONER OF INTERNAL Revenve, RESPOND- ENT Max E. Meyer, Stephen A. Mitwid, Wilbur S. Legg, and John K. O’Connor, for the petitioners. Dennis J. Fox, for the respondent. Atkins, Judge: The, respondent determined defi- ciencies in the petitioners’ income tax as follows: ; (20) te 21 Doeket Petitioner Taxable Deficiency No. » ‘ 1958 $60, 190. 09 1959 . 66,492. 22 1693-65 Local Finance OOF Bcccooce-s-onnenncoonerenconsocsoosoosoooor® 1960 75, 958. 84 t 1961 65, 136. 00 1962 67, 582. 00 1961 2, 724. 00 1694-65 Local Finance Corp. of South Marion.....----------------""""" 1962 773.00 4, 058. 57 71959 1, 327. 26 1695-65 Local Finance Corp. of Elkhart......--.-------2----200-""""""" { 1960 380.68 : 1958 °§29.61 . ; 1959 J 557.85 1696-65 » Local Finance Corp. of Gas City....---.-----------------2°""" 1960 632. 00 : . 1961 368. 00 1962 385. 76 ; 1958 523. 36 , / ; : 1959 690. 55 1697-65 Local Finance Corp. of Rushville... ..------------------977"77" 1960 604. 00 , 1961 669. 00 1962 * 175.57 | 1960 1, 150. 00 1698-65 Local Finance Corp. of Danville. ------- moccacoccccconscorasecs 1961 478. 00 i * 1962 1958 2, 251. 89 . ; 1959 3, 354. 15 1699-65 Local Finance, Dae. .ceecenpecssvoredenonssosscosoncsesesews 1960 4, 406. 10 1961 3, 172.00 1962 4, 108. 00 1958 394.79 , } . 1959 1, 890. 14 ‘1700-65 Local Finance Co., Inc. Of Gary...-----2-----eeereneeeeeeeee* 1960 1, 269. 58 : 1961 234. 00 1962 1, 365. 00 1958 4, 341.05 1959 10, 253. 35 1701-65 Local Finance Odie Mibvcccscoccocconescsoosonspessoonsosoorors 1960 15, 742. 90 = 1961 - 11, 392. 00 1962 13, 416. 00 , 1958 17, 781.82 1959 42, 283.41 1702-65 Guardian Agency, Bane. ...ccsccocecroecoconsoqunesonsaepooeseee 1960 52, 681. 68 1961 44, 500. 00 1962 48, 366. 00 1958 4, 297.21 1959 18, 097. 12 1703-65 Beneficial Insurance Agency, Inc...--.---+----20----000077 "9°" 1960 20, 120. 50 1961 16, 312. 00 1962 19, 026. 00 The parties having agreed upon one of the issues in docket Nos. 1693-65 and 1701-65 and: the respondent having conceded error with respect to one of the issues) sn docket No.- 1693-65, the issties remaining for de- cision are (1) whether, for the per iod January 1 to 22 ‘June 30, 1958, the respondent erred in allocating to the petitioners in docket Nos. 1963-65. through 1701-65, pursuant to sections 61 and 482 of the: In- ‘ternal Revenue Code of 1954, a portion of the income reported by the petitioners in docket Nos. 1702-65 and 1703-65 as commissions on sales of credit life insurance, and (2) whether, for the period J uly 1 to December 31, 1958, and for the taxable years 1959 through 1962, he erred in allocating to.such petition-: ers a portion of the income reported by Grand Na- tional Life Insurance Co. as premiums for reinsur- ance of credit life insurance. In the alternative there is also the issue of whether, for such latter period and taxable years, such portion is allocable to.the peti- tioners in docket Nos. 1702-65 and 1703-65. FINDINGS OF FACT Some of the facts were stipulated and the stipula-. tions are incorporated herein by this reference. | The petitioners are corporations organwed under the laws of the State of Indiana, haying their prin- cipal offices at 333 West Fourth Street, Marion,. Ind. They filed their Federal income tax veturns for the taxable years involved ‘herein on a calendar year basis with the district director of inter nal revenue, Indianapolis, Ind. The petitioners Local Finance Corp. of South Mar- ion, Local Finance. Corp. of Elkhart, Loca] Finance Corp. of Gas City, Local Finance Corp. of Rushville, Local Finance Corp. of Danville, Local Finance, Inc., Local Finance Co., Inc. of Gary, and Local Finance Company, Inc., are wholly owned subsidiaries of. Lo- eal Finance Corp. (hereinafter called Local Finance). Collectively, Local Finance and its subsidiaries will sometimes be referred to as the finance companies. During the years in question, the finance: com- - panies were engaged in the business of making small — loans. Local Finance and its five subsidiaries at South ~ -- Marion, Elkhart, Gas City, Rushville, and Danville were licensed under the Indiana Small Loan Act’ and the Indiana Retail Installment Sales Act.* The other three firianee company petitioners were licensed under the Indiana Industrial Loan and Invest- ment Act.’ The gréater dollar volume of business of the finance companies collectively was derived from loans made, at the maximum rate of interest per- mitted, under the Indiana Small Loan Act, ‘Under that Act the loan to any one borrower was limited to $500. The finance companies making loans under the Indiana Industrial Loan and Investment Act vol- untarily limited their loans to $1,000 to any one bor- . rower. ee The petitioner Guardian Agency, Inc. (hereinafter referred to as Guardian), was formed in’ 1936 as a general’ insurance agency and broker to provide fire and casualty insurance coverage on property given . ‘as security to the finance companies by their debtors, and the finance companies were virtually the entire source of its fire and casualty business. In the years in question stockholders \who owned in excess of 70 percent of the stock ot Kal Finance also owned 100 percent’ of the stock of Guardian. , The petitioner Beneficial Insurance Agency, Ine. (hereinafter referred to as Beneficial, is the wholly _ owned subsidiary of Guardian, having been acquired by Guardian in 1956, and was-engaged in the same — business. | ; ee None of the petitioners has ever been authorized in writing by any life insurance company to act as an 1Ind. Ann. Stat. secs. 18-3001 through 18-3005 (1964). 2Ind. Ann. Stat. secs, 58-901 through 58-945 (1964). Ind. Ann. Stat. secs. 18-3101 through 18-3125 (1964). Ah ROP RR ART PRAT TSF 24 agent in-connection with the writing or selling of any life insurance policies, nor has any been licensed by any State as a life. insurance agent. Section 39-4608 of Burns Indiana Statutes Annotated pro- vides that no,corporation shall act in Indiana as an agent. for a life insurance company and. that no life insurance company shall. pay a commission to any person who is not entitled to act as agent. In connection with, and as an incident to, the loans made by the finance companies, credit life insurance was offered to their debtors for a term which was coextensive with the contractual term of the related indebtedness. The finance companies did not require that their debtors take out credit life insurance, but . - in the years involved 85 percent to 95 percent of them did so. Since before 1936 the finance companies have offered credit life insurance to their borrowers for several business and economic reasons, including the following: (1) Their competitors generally offer credit insurance, (2) the insurance is an important factor.in obtaining repayment of the loans, and (3) collection on the insurance policies, rather than col- lection from a coobligor (usually the obligor’s spouse) _ is more favorable to public relations. Credit life 1 insurance, as referred to herein, is single- premium term insurance on the life of a ‘debtor in an amount at least sufficient to discharge the debt in ease of the debtor’s death. Such insurance may be written on either an individual or a group policy basis.. In the former case the debtor is the policy- holder, and the creditor is the first beneficiary, while in the latter case the creditor is the policyholder as well as first beneficiary. Also, two types of coverage are generally provided ‘under credit life insurance: (1) Decreasing term “overage, under which the amount of the death benefit decreases during the pol- 25 -iey term coincidentally with the ee in the amount of the debt under the. applicable installment _ payments schedule; and (2) level term coverage, un- der which the amount of the death benefit remains _constant during the policy term. Since January 1954 the credit life insurance issued to all but an insignificant number of debtors of the finance companies was single-premium decreasing- term insurance, written on an individual policy basis. The single premium was paid at the. pre es of the coverage. After World War II it became common practice for life insurance companies to pay compensation for credit life insurance sold to debtors of lending institutions. Such compensation consisted of a com- mission equal to a fixed percentage of the premium charged, and sometimes, ‘in addition, a contingent commission based upon the -insurer’s later-determined ° loss ratio. Where the msurance was issued pursuant fto a group policy held by the lending institution | such’ contingent commissions were paid in the form of retroactive premium adjustments. Later, a practice was adopted by some lending institutions whereby the lending institution would form a life insurance company in a State where capital requirements for insurance companies were low and have such com- pany reinsure the risks to’ the original insurer and receive reinsurance premiums. Prior to January 1954, Lincoln’ National Life. In- . surance Co. (hereinafter called Lincoln) issued the eredit life insurance sold to debtors of the finance companies. This insurance was issued under a group policy held by Local Finance. Lincoln paid a per>_ centage commission on this business. The commis- sions were paid to Guardian, rather than to Local s > Sr Rh cag ETS ERDAS.» 7 26 Finance, because Local Finance had been advised by its attorney that it could not accept any commissions or income from the insurance business since Indiana law precluded small loan companies from receiving any income other than from small loan interest:* As ‘the volume of such insurance increased an arrange- whereby Lincoln would pay contin- ' During the years in\question sec. 18-3002 of Indiana Statutes Annotated (Small Loan Act) provided in part: ‘*In addition to the rate of interest. or charges herein pro- vided for no further or other charge or amount whatsoever for examination, service, brokerage, commission, expense; fee, or bonus or other thing or otherwise shall be directly or indirectly charged, contracted for, or received, except the lawful fees, if any, actually and necessarily paid out by the licensee to any public officer for filing, recording, or releasing any instrument securing the loam in any public office, which “fees: may be col- lected when than is made, or at’ any time thereafter. If any interest, consideration or charges in excess of those permitted — by-this act are charged, contracted for or received the contract of loan shall be void and the licensee shall have no right to collect or receive any principal, interest, or charges whatsoever. Sec. 18-3004 provided in part: ; “Any licensee and any person acting as an officer or em- ployee of a licensee, who shall violate any of the provisions of section 2 [§ 18-3002] of this act shall be guilty of a misde- meanor and upon conviction thereof shall be punished by a fine ~ of not more than five hundred dollars [$500] or by imprison- ment of not more than six [6] months or by both such fine’ and imprisonment in the discretion of the court.” Sec. 18-3001 provided that a license may be revoked a among other things, the: licensee has violated any provision of the act or any rule ox regulations lawfully made thereunder. The Indiana Industrial Loan and Investment: Act and the Indiana Retail Installment Sales Act also made provision for — the fixing of maximum interest or charges and provided cer- tain penalties in the-event of violations of the Acts or any regulations. thereunder. J a gent commissions (retroactive premium adjustments ) . ; 2 2 over and ahove the: percentage commissions already being paid to’ Guardian. Lincoln insisted that such contingent’ commissions would necessarily have to be paid to Local Finance as the policyholder. One check | for stich contingent:.commissions was issued to Local - Finance. Local Finance, for the same reason stated above with respect to the percentage commissions, felt that it should not accept these, contingent coriimissions.. ‘Lincoln was willing to pay the contingent commissions to Guardian if Local Finance would execute .an as- signment of the commissions to Guardian, but Local’ Finance was not satisfied that such an arrangement would be a satisfactory solution to the problem. It approached other credit life insurers, including Old ~ Republic Life Insurance Co. of Chicago, Ill. (here- | inafter called Republic), a company which was not affiliated with the petitioners in any way. On January 4, 1954, Don H. Miller, who was an officer of each of the finance companies and of Guard- ian, executed an agreement with Republic which pro- ~ vided that. Miller was to be Republic’s agent for, soliciting credit life insurance on the lives of debtors of the finance companies. It was provided that the insurance to be. written should be single-premium de- creasing-term insurance written on an individual pol- icy basis, that the amount of insurance in any case should not exceed $500 on any one life, and that the insurance should be written only on the lives of per- sons who were 65 or under and who appeared to be in sound health and were actively employed. The premi- um charged by Republic was $1 per year per $100 of ‘> eoverage, which was the rate which had been charged | by Lincoln and was the rate commonly charged in the 9 f] % SACRE LET RE MEY |S, ‘ ‘ : 28 credit life insurance industry in Indiana.’ In fixing its rates for credit life insurance Republic took into account the expected mortality costs, the administra- tion expenses, the direct acquisition costs (which included principally any commissions paid for gener- ating the business), and a profit margin. Local Finance selected Republic as the insurer because Re- public was willing to retain less of the premiums than ~ another insuref which Local Finance.was considering. In the above agreement Republic agreed to pay Miller a guaranteed commission of 40 percent of the , premiums collected, plus,'at 3 month intervals, an ad- ditional commission equal to the balance of premiums collected remaining. after subtracting the sum-.of 12 percent * of the premiums to. be retained by Republic for overhead and profit, the 40-percent guaranteed commission previously paid, the net refunds made, losses paid, and unpaid claims outstanding. Any def- icit resulting would be accumulated and charged against future contingent commissions, but would not affect the 40-percent guaranteed commission. Either party could terminate the agreement on, 30 days’ notice. On the same Ante, January 4, 1954, Miller exetuted an assignment to Guardian of all commissions which > During the years 1958 through 1962 an insurance company could write credit life insurance, on a decreasing-term basis, on the lives of finance company debtors i in Indiana between the ages of 21 and 65 at a premium rate of not more than 50 cents per $100 of coverage per: year, without taking into considera- tion the payment of commissions. Such a premium would be ‘sufficient to cover death claims, which would amount to ap- proximately 30 cents per $100 of coverage per year, adminis- . tration expenses, and a profit margin. ®On Oct. 1, 1957, the agency agreement was amended to de- crease/ the aniount of premiums retained by Republic from 12 to 16 iiaad veffective Oct. 1, 1957. oe might become due him under the ageney agreement fora stated consideration of $1 “and other good and ee valuable considerations.”’ On January 13, 1954, Miller, | 3 as vice president of Local Finanee, . wrote Republic, notifying it of the assignment and directing it to make commission checks under the agency agreement pay- — able to Guardian. -_ From 1954 through 1962 the premium charged by ~ Republic did not change. The finance companies’ debt- . ors paid the full premiums at the inception of the cov- erage out of the loan proceeds. In the event a loan was paid off in advance, in some instances the insurance was terminated> and: a refund of the premiums allo- is. loan was refinanced by a new loan, and new eoedit insurance was written on the new loan, the insurance premium paid on the old loan was either: refunded or was credited toward the premium on the new insurance. , In each of the Indiana branch pffices of the finance companies there was at least one employee who held — a license as an Indiana life insurance agent for Re- public. These employees signed the individual policies . issued to the debtors. At first the licensees were office girls in the branch ‘offices. However, in more recent ‘years the managers of the branch: offices have been the licensees. When a licensed employee was not available . at_a branch. office, an employee of Guardian, also li- * eensed as an agent by Republic, signed the policies. -~: These employees did not receive any payments from. Republic for acting as agents, nor did they receive additional pay from the finance companies. _ Whenever a customer of one of the finance compa- nies applied for a loan, the employee of the finance corhpany interviewing the customer would discuss the availability of credit life insurance. If the customer agreed to take credit life insurance, both the loan papers and credit life insurance papers were prepared by the employees of the branch office. Any refunds of premiums paid for credit life insurance were han- dled by such branch office employees. In the event of death of an insured debtor the branch office through which the policy was sold would complete a claim form, attach to it a death certificate, and forward _ this to. Guardian or Beneficial which would check the computations and forward the form to Republic for payment. ‘ Credit life insurance premiums received by each branch office of the finance companies were segregated by the branch office employees and-deposited from time - to time during each week in a separate bank account -in the branch office city in the name of Guardian or Beneficial. Once a week the insurer’s copies of the register sheets, evidencing the issuance of the insur- ance policies, were forwarded from the branch offices to either Guardian or Beneficial for transmission to Republic. Guardian of Beneficial prepared a monthly © report to Republic showing the amount of premiums collected on policies issued, the amount of ‘premiums - returned on policies canceled, and the amount of the - difference. From such ‘difference Guardian or Bene- ficial withheld the guaranteed 40-percent commission and transmitted a check for the remainder, together with the monthly report, to Republic.’ The contingent commissions, which were paid every 3 months, were’ paid by Republie directly to Guardian or Beneficial. The finance companies also placed and handled fire and casualty insurance written throu rdian and ’ Although Miller executed no written assignment of com- . missions to Beneficial, commissions were received by Beneficial on credit insurance reported through it to Republic. Ne 31 neficial, the paperwork being more extensive than - that involved. in handling credit. life insurance, and ~ received no compensation therefor from Guardian or Beneficial. Under date of September 18, 1956, the insurance commissioner of the State of Indiana issued a direc- tive to corporate insurance agencies, which stated, in pertinent part, as follows: Whereas, there is s vidence to indicate that some corporate insurahce agents have vio- lated the law of Indiana which prohibits a éor- porate agency from acting as a life insurance agent; and Whereas, the illegal device sometimes used to a such violations is to employ an individual life licensee and to take an assign- ment of his commissions; and Whereas, it is now declared that the assign- ment or transfer of life insurance commissions by a licensed life agent to a corporate insur- ance agency which employes [sic] such life . agent is illegal; and ice Whereas, it is now further declared to be illegal for any corporate agency officer or em- ployee who is a licensed life agent to assign or transfer life insurance commissions to any cor- poration, foreign or domestic, which holds or controls the employer corporate agency; —— Now, Therefore, it is directed that any cor- porate insurance agency which réceives life in- surance commissions by way of assignment or transfer, or in any other form, from or through an officer or employee who ‘is a licensed life agent or which permits any employees or officer ‘ who is a licensed life agent to assign or trans- fer life insurance commissions in any form to any holding corporation which control the said corporate agency shall forthwith have its li- cense as an agent in the State of Indiana re- ‘voked permanently. ee 32 This Directive does not condone or legalize any device not herein described which violates the aforesaid law prohibiting any’ corporate . agency from acting as a life insurance agent. In view of the above directive Republic was con- cerned as to the legality of the procedure by which commission payments were igned by Miller to Guardian and Beneficial. It felt that Ete-fnance com- panies relied heavily upon it for advice as to proce- dures which would preclude any difficulty with any State agency. It accordingly brought this directive to the attention of Miller. Miller was concerned that the continuance of the assignment of commissions by him to Guardian and Beneficial might jeopardize the latter companies’ insurance agency licenses. Republic was also concerned with the possibility that as a result of the assignment procedure its license as an insurance company might be suspended or revoked, and that Miller might lose his agency license. Various possible arrangements were considered by Republic and Local Finance, including the possibility of licensing the stockholders of Local Finance as agents and paying the commissions to them or the forming of a partner- ship consisting of such stockholders and the payment of commissions to the partnership. However, neither of these plans was feasible because there were too many shareholders of Local Finance, and no basic change in procedure was made at that time. The only change made at that time was that, beginning in No- vember 1956 and continuing through June 30, 1958, Republic paid the contingent commissions by check made payable to Miller, instead of directly to Guard- ian or Beneficial, and Miller endorsed the checks over to Guardian and Beneficial. Guardian and Beneficial 33 continued to withhold and retain the 40-percent guar- anteed commissions.© __ | 7 , In the latter part of 1957 Republic suggested to Local Finance that it would be advisable to form a life insurance company to reinsure life insurance policies issued by Republic with respect to debtors of the finance companies. Its primary purpose in recom- mending the reinsurance procedure was to retain. the. credit life insurance business generated by the finance . companies and at the same time avoid any possible violation of. Indiana law with respect to the payment. of commissions. Under such an arrangement Republic would continue to retain a portion of the premiums but would shift the mortality risks to the reinsurer. After discussions among the directors of Local Finance and Guardian and officials of Republic, it was decided that such a life insuranee company should he formed, but Local Finance’s attorney advised that such company should not be owned by Local Finance. It was also decided that since Guardian and its sub- ' Sidiary, Beneficial, had been receiving the commissions e finance companies, the stockholders of Guardiat should be offered the opportunity to become the shareholders of the new insurance company. - Thereafter on March 18, 1958, there was incorpo- rated under the laws of the Stata of Arizona a cor- poration under the name of Grand National Life Insurance Co. (hereinafter called National). The new insurance company was incorporated under Arizona * Miller did not report any of the commissions on his Federal income tax returns. Such commissions were reported as part of the gross inconie_of Guardian and Beneficial. : ay 257.020 a0 2 . : 34 law because that State permitted low minimum eapi- talization. On June 25, 1958, National. obtained from - the State of Arizona a éer tificate of authority as a life . ‘insurance company. It issued 661 shares of stock (par value of $40 per share) at a price of $60 per share (a total of $39,660, representing $26,440 of paid-in eapi- tal and $13,220 of paid-in surplus). Each stockholder of Guardian was entitled to the same number of shares of National stock as was held by him in Guard- _ian. The shareholders of Guardian acquired 655 of the 661 issued and outstanding shares of National. Miller, who was not a stockholder of Guardian, acquired the other 6 shares. The stockholders of Guardian paid for their stock in National in cash. A special dividend of $40 per share was paid by Guardian in order that its stockholders might avail themselves of the opportu- nity of acquiring such stock. ; On July 21, 1958, National and Republic entered. into an agreement entitled “Reinsurance Treaty No. 1,” whereby National assumed Republic’s liability for losses on credit life insurance written by Republic en or after July 1, 1958, on the lives of debtors of the finance companies. Such agreement provided in part as follows: . | ARTICLE II - Within twenty (20) days after the receipt by OLD REPUBLIC of any premium paid by or | on behalf\ of. policy holders for said policies, OLD RENUBLIC shall pay to GRAND NA- TEONAL a premium equal to ninety and one- half percent (9014%)' of the total premium “ received by OLD REPUBLIC on.said aus issued 1 in the previous month. ) . ARTICLE 11 Together with each payment of premium, OLD REPUBLIC ‘shall furnish to GRAND NATIONAL a statement giving the following . information for the preceditty month:. 1, The total premiums on all said policies written during the preceding month. 2. The total premiums returned on policies surrendered for cancellation during the said month. ; 3. Life Insurance Account Number of: Poli- cies and amount of insurance. a. Issued during the preceding month b. Surrendered for cancellation during said” month ce. Terminated by death during said month d. Expired during said month ; e. In force at the end of said month 4. Claims paid including allocated claim ex- _penses (allocated claim expenses shall include all expenses incurred in handling, adjusting, or defending claims, excepting ordinary office ex- penses of OLD REPUBLIC and wages or sal- arids of employees of OLD REPUBLIC). f ARTICLE IV In\ remitting the premiums under Article I] OLD REPUBLIC may deduct (a) ninety and one-half percent (9014%) of refunded premi- ‘ums on said policies and (b) the amount of incurred losses as shown by. the statement or OLD REPUBLIC may request separate reim- bursement for such items by GRAND: NA- TIONAL. ° bas ; ARTICLE V GRAND NATIONAL will maintain proper. reserves against: policies reinsured wider ‘this ‘treaty, provided, such reserves shall in no event ne 36. - be-less than $2.64 per $1,000.00 of reinsurance assumed by GRAND NATIONAL under this Koei * * * x ON ARTICLE VII a The supervision and payment of all claims under said policy shall be handled by OLD RE- PUBLIC. The liability of GRAND NA- TIONAL shall follow the liability of OLD RE- PUBLIC in accordance with the terms and conditions of said policies. The above contract was terminable by either party upon 60 days’ notice. National maintained a separate corporate existence during all the years involved herein and was subject to regulation by the Depart-, ment of Insurance of ‘the State of Arizona. Its opera- _tions were confined to the reinsurance acquired under the treaty between it and Republic. A reinsurer has no contractual relationship with the policyholders: ordinarily of the ceding insurer. National had no deal- - with any of the debtors of the finance companies. | sNational’s home office consisted of space in 4 room in an office occupied by an attorney, James Engdahl, in Phoenix, Ariz. National had two accounts in # Phoenix bank where cash and securities belonging to it were deposited by Engdahl. It, had no claims de- partment, underwriting department, or salaried em- ployees except Engdahl, who-acted as. office manager _. and received-$20 a month. Consulting actuaries.in Chi- cago kept National’s books of account, computed. its _ reserves, and prepared its annual statements to the Arizona insurance department. During the years in- volved five.of National’s six directors were also five of the six directors of. Local Finance and Guardian, and, except for 1 year, a majority of its officers also hoot [™ 37 _ constituted a majority of the officers ‘of those companies, ta, After the reinsurance arrangement went into effect on July 1, 1958, there was little or no ‘change in the procedures followed in the sale and servicing of the credit insurance issued on the lives of the finance . companies’ debtors, as compared with the procedures which had been followed during the period from January 1954 to June 1958. Branch office employees _ of the finance companies, as agents of Republic, con- tinued writing poli¢ies, collecting premiyms and | depositing them in the names of Guardian and Bene- ficial, making refunds, preparing nécessary papers in the event of the death of an insured debtor, and making reports to Guardian and Benefi¢ial. Guardian and Beneficial continued to check the computations received, file monthly reports to Republic, and trans- mit the amount of net premiums to Republic’ with- out, however, withholding any amount as commissions. After July 1, 1958, no commissions. were paid to Miller, Guardian, Beneficial, or any of the petitioners with respect to insuran¢e written by Republic after June 30, 1958, on the lives of debtors of the finance © companies.” After the execution of the reinsurance treaty Republic continued to handle the payment of .death claims as before. It maintained a cash reserve fund, set up out of the net insurance premiums sent ' to it through Guardian and Beneficial, and paid the death claims\put of such fund. From the net: pre- miums ‘received Republic each month dedieted the -death claims paid, the refunds made, and the 9.5 *The finance companies continued, as before, to place and handle fire and casualty insurance policies written through Guardian and Beneficial without receiving any payment there- 2 for from those agencies, SPV EUS Nae y 38. . percent of premiums retained, and as the balance directly to National. During the 5 taxable years in question the total number of credit’ life insurance policies proeessed was 266,772. Neither Guardian, Beneficial, nor the _ finance companies had to-hire additional employees, ’ purchase extra equipment, or provide additional space to process the credit life: msurance, but did>incur | additional costs ‘for postage.” In 1960 an accounting under the agency agreement was .furnished by Republic to Miller showing that from May 1, 1954, until June 30, 1958, the net pre- miums (gross premiums less premium refunds) on credit life insurance policies, éovering the finance com- _panies’ debtors amounted to $581, 687.38. The amount of guaranteed commissions aifd contingent commis- sions received by Guardian and Beneficial was $232,674.96 and $94,306.98, respectively, or a total of $326,981.94, which amounted to about 56 percent of the net premiums. Out of the remaining $254,705.44 (about 44 percent of net premiums) Republic paid claims of $186,338.56 and expenses ‘of $221. = (or a. total of $186,559.94), and retained $68,145.50. ° — During the period from July 1, 1958, to Deéem- ber 31, 1962, the total net premiums (gross premiums less refunds) received by Republic on ‘credit life in- surance sold to the debtors of the finance companies amounted to $1,254,748, Of this’ amount Republic re- tained $119, 201 (or 9.5 percent). Against the remain- Taking into account’ a reasonable allocation of salaries paid by the finance companies, and the extra cost of postage incurred, the cost to the finance’ companies of selling’ and servicing ‘the credit life insurance policiés during the years | 1958 through 1962, was about $60,000. On a similar basis the cost to Guardian and Beneficial of processing the credit life insurance policies over the period J aly 1, 1958, through Dee. 31, 1962, was —_— $11,000. a) ing . $1, 135 BAT e on 90.5 percent) to which’ National was entitled under the reinsfirance agreement, there were chargeable claims costs in the total amount of. $402,195.06 (or about 32.1 percent of net premiums). National also had operating expenses, such as rent, professional fees, etc., in the taxable years 1958 through 1962 in the- ‘respective amounts of $979.90, $1,652.49, $1,754.11, $1,841. 70, and. $2,563.32. During the thiable years “1958 through 1962 Na- tional paid dividends in the -total amount of $267,044. For those years it and the petitioners filed separate in- . come tax returns, reporting’ separate corporate in- comes. National .filed its returns as a life insurance company, reporting taxable income in the respective amounts of $27,088.12, $127,591.51, $211, 794,02, $113,885.25, and $115,829. 25. For those years it paid taxes in. the respective amounts of $8,585.82, $47,532.03, $84,018.70, $53,720. 33, and $53,917.37. ‘National was subject to, and was under the super- vision of, the Department of Insurance of Arizona. It was examined by that department for the period March 18, 1958, to December 31, 1962..The report of _ the examination contained no criticism of its’ operations. The following tabulation dain 7%, for each of the tax-_ able years involved, the net credit life insurance pre- miums (gross premiums’ less refunds) received and deposited i in the insurance premium bank accounts by each of the .finance companies (and by some of the - Local Finance’s subsidiaries against whom no de- ficiencies were determinéd) ‘and the amount thereof * which Guardian and Beneficial each received: This amount, was accounted for by N ation al on its annual statements of insurance operations as gross premiums on re- insurance received as follows: 1958 (from July 1), $118,504.47 ; oe 1959, $257,920.36 ; 1960, $261,834.67; 1961, $245,680.74; and 1962, $256,606. 81. m., 1958: . , . 1959 1960 1961- 1962 To 6/30/58 From : F 7/1/58 Local Finance Corp...... $65, 898.58 $83,437.39 $186,617.44 $201, 440. 90 $183,172.49 $185, 285. 24 Local Finance Co.,Inc.. 8, 154.63 8, 549. 01 32, 350. 77 46, 698. 69 41,650.07~ 49,611.24 Local Finance Co., Inc. é. SNS acacccuccccueece 1, 174.92 1, 132. 45 6, 728. 39 5, 787.60 3, 801. 83 6, 967. 34 Local Finance, Inc...:... 4,215.98 4,445.12 © 12,900.60 ~ 16,946.53 12, 199. 77 15, 798. 65 Local Finance Corp. of © ; POUT a sctickces secncscesbscuseccencccesace 575.07. 2,884.11 2, 436. 13 2, 505. 53 Local Finance Corp. of POE once ccsencuccdcs 23,019.69 23,498.58 6, 245. 41 6,198.37 25,402.61 24,467.03 Local Finance Corp. of \ \ work i ROOD IED. chi cckeacccs 1, 165. 82 1, 372. 05 3, 530. 67 3, 718. 96 2, 961.89 2,724.77 Local Finance Corp. of __, ; \ A) eee . 1,158.64 1, 578. 27 3, 513. 39 4, 627.95 4, 024.10 4, 463. 23 Local Finance Corp. of : ‘ ’ South Marion........-- 2 491.35 2667.26 22,976.44 - _ 3, 735. 28 4, 150.85 3, 974.32 Local Finance Corp. of: : CE SAA ERI A. NR 657.61 1,986.58 —«-:1,873.87 —-2, 356. 56 Local Finance Corp. of : : MD Pee Rc octicy aceeh meen kau cnuctescncctecd-Uobsbgecnacuwecdss pen 1,801.61 2, 240. 97 ‘ Local Finance Corp. of je hy OIOUIEO Sag cou oe tec cucewccesctecs 814.19 1,997.18 —~ 2,283.92 2, 348. 45 2, 385. 32 ’ Loeal Finance Corp. of, . each sinks cas tudcpidnd Savucidaksbidikianienapeneheckecaus ~ 1,437.07 2, 722.70 Local Finance rs of . ; NEED Sorece recat ct one eaceetebece cco ecu cuchabbute pe anuuinpetaccucinn 242. 44 1,896.02 . co ee 85, 279.61 105,494.32 258,092.97 296,308.89 267,503.18 288,398.92 p Guardian Agency, Inc... 54,184.69 69,049.29 176,466.82 203,453.87 186,795.86 197,084.85 Beneficial Insurance Agency, Inc._...-.-... 31,094.92 ‘36, 445. 03 81,626.15 92,855.02 80,707.82 91,314.07 Totals....... --:--- 85,279.61 105,494.32 258,092.97 296,308.89 267,503.18 288, 398. 92 1 Listed only for completeness. No 5 Gettclencias proposed. 3 No deficiencies proposed for these taxable years. . re a f In the notices of deficency the respondant, relying upon sections 61, 269, and 482 of the Internal Revenue - Code of 1954, allocated as income among Local Fi- nance and its subsidiaries (including subsidiaries not involved herein) 50 percent of the above net premiums | handled by them in the taxable years 1958, through 1962. ‘He also, alternatively, determined that 50 per- cent of the amount so*handled during the period. July 1 to ‘December 31, 1958, and during 1959 through 1962 was allocable to ‘Quardian and Beneficial. He made no allocation to Guardian and. Beneficial with respect a to the period J anuary 1 to June 30, 1958, since those two companies had already reported as income com- missions received during such period. ~ = _ OPINION Throughout the years in question herein the finance companies, in connection with the making of their - small loans, made available to their debtors, on a vol- untary basis, credit life insurance written by Republic, an unrelated insurance company, ata rate of $1 per year per $100 of coverage. Such rate was the rate com- monly charged in the credit life insurance industry in Indiana. It was customary for insurance companies to pay a commission for the sales of such insurance and _ the rate of premium charged by Republic was‘fixed in an amount sufficient to provide for such commission. During the period January 1 through June 30, 1958, the commissions’on the credit’ life insurance sold.to debtors of the finance companies were not paid di- : rectly to the finance companies. Rather, such commis- sions were paid pursuant to an agreement entered into ‘between Republic and Don H. Miller, who was an of- ficer of each of the finance companies. The agreement | provided that. Miller should act as agent for Republic and receive a fixed commission of 40 percent of net premiums (gross premiums less, refunds) paid by debtors of the finance companies, that Republic should retain 9.5 percent of such net-premiums to cover its overhead and profit, and that Miller should receive an additional contingent commission measured by the re- mainder of the net premiums. after payment of all claims. Miller simultaneously executed an assignment - of-such commissions to Guardian, a corporation con- 7 - 357-930—69——4 42 trolled by the same interests which controlled the fi- nance companies. The commissions so assigned to Guardian (some of which were received by Guardian’s subsidiary Beneficial) over the period from May 1 1954, through June 30, 1958, amounted to about 56 percent of total net premiums. After June 30, 1958, Republic continued to write the insurance on the lives of debtors of the finance companies, but no commissions, as such, were paid to Miller or any of the petitioners. Rather, Republic entered into an agreement with National,,an insur- ance company organized under the laws of Arizona and controlled by the same interests which controlled the finance companies and Guardian, whereby Na- ‘tional agreed to reinsure the risks and receive 90.5 percent of the net premiums, Republic retaining 9.5 percent of net premiums. Over the period July 1, 1958, through December 31, 1962, the amount which ‘National received, after provision for payment of claims, amounted to about 58.4 percent of the total net premiums. National also had some operating "expenses but in relatively small amounts. : It is now the primary position of the respondent that a portion of the commission income received by Guardian and Beneficial during the period January 1 to June 30, 1958, and a portion of the reinsurance premiums received by National during the period July 1, 1958, to~December 31, 1962, constituted com- pensation earned by the finance companies for selling and processing the credit life insurance, and should be allocated to them in proportion to the amount of insurance which cach sold. The amounts allocated by. him amount to 50 percent of the total net premiums throughout the taxable years 1958 through 1962. He 4%, \ ies ion. ‘ — 43° ‘relies upon both sections 61 and 482" of the Internal *? Sec. 61 of the Code provides in part as follows: (a) Genera Derinirion.—Except as otherwise provided in this subtitle, gross income means all income from ‘whatever source derived, including (but not limited to) the following items: (1) Compensation for services, including fees, commissions, and similar items; * Sec. 482 of the Code proyides as follows: In any case of two or frore organizations, trades, or busi- nesses (whether or not incbrporated, whether or not organized in the United States, and whether or not affiliated) owned or controlled directly or indirectly by the same interests, the Sec- retary or his delegate may distribute, apportion, or allocate gross: income, deductions, credits, or allowances between or among such organizations, trades, or businesses, if he deter- mines that such distribution, apportionment, or allocation is necessary in order to prevent évasion of taxes or clearly to reflect the income of any of such organizations, trades, or businesses. Sec. 1,482-1 of the Income Tax Regulations provides in part: (b) Scope and purpose. (1) The purpose of section 482 is to place a controlled taxpayer on a tax parity with an uncon- trolled taxpayer, by determining, according to the standard of an uncontrolled taxpayer, the true taxable income from the ‘ property and business of a controlled taxpayer, * * * The standard to be applied in every case is that of-an-uncontrolled _ taxpayer dealing at arm’s length with another uncontrolled taxpayer. | * * * * > (c) Application. Transactions between one controlled tax- payer and another will be subjected to special scrutiny to ascertain whether the common control is being used to reduce, avoid, or escape taxes. In determining the true taxable income of a controlled taxpayer, the district director is not restricted to the case-of improper accounting, to the case of a fraudulent, colorable, or sham transaction, or to the case of -a device de- signed to reduce or avoid tax by shifting or distorting income, deductions, credits, or allowances, The authority to determine true taxable income extends to any case in’ which either by - 44 Revenue Code of 1954. He specifically disclaims any veliance upon section 269 of the Code. The petitioners concede that the loans made by the finance companies created the market for the credit. life insurance issued by Republic to their debtors and that the officers and directors of such finance compa- nies “could to a certain extent control who would receive income from the insurance.”’ They state, how- ever, that under the Indiana loan laws under which the finance companies operated they were precluded from receiving any monetary compensation from such insurance, and that they never did receive any of the compensation. They further state that their control over the disposition of the income was limited in that the insurance laws of the State of Indiana prohibited the payment 6f income in the form of commissions on life insurance to corporations. They further state that the procedures which they adopted were designed to assure that the finance companies would fot receive’ any income from the insurance in violation of In- diana ‘law, and that such procedures must be given effect in determining to whom any such income should he taxed. They therefore contend that the respondent’s determination -that there should be allocated to the finance companies a portion of the commissions paid during the period January 1 to June 30, 1958, and a - portion of the reinsurance premiums paid during the ~ period July1, 1958, to December 31, 1958, and during the years 1959 through 1962 was unreasonable, arbi- - trary, and capricious, and should not be sustained. At the outset it should be ‘stated that there is. no inadvertence or design the taxable income, in whole or in part, of a controlled taxpayer, is other than it would have been had the taxpayer in the conduct of his affairs been an uncontrolled taxpayer dealing at arm’s length with another uncontrolled taxpayer. d 45 question that all the finance companies as well as ” Guardian, Beneficial, and National are owned or con- trolled by the same interests within the meaning of | section 482. The respondent having détermined that the allocations in question ate necessary in order to prevent evasion of taxes or. clearly to reflect the income of the finance companies, ‘the burden of proof is. upon the petitioners to prove that such allocations are erroneous. In Grenada Industries, Ine., 17 TC. ' 231, affd. (C.A. 5) 202. F. 24 873, certiorari denied 343, U.S. 819, we stated - with regard to section 45 of the Internal Revenue Code of 1939, predecessor to section 482 of the Interna] Revenue Code of 1954: It has been said many times that the Com- missioner has considerable discretion in ap- plying section 45, and that the determina- tions required of -him under the statute must be sustained unless that discretion has heen abused. Our review: of those determinations is . hot de novo, and we may reverse them only where the taxpayer proves that they are un- reasonable, arbitrary, or ‘capricious. See, e.g. G.U.R. Cow v. Commissioner, (C.A. 7), 117 F. 2d_ 187, 189; National Secufities Corp., 46 B.T.A. 562, 564, affd. (C.A. 3) 137 F. 2d 600, 602, certiorari denied 320 U.S. 794; Seminole Flavor Co., 4 T.C. at 1228. , See also Spicer Theatre, Inc., 44 T.C. 198, affd. (C.A. 6) 346 F. 2d 704; Pauline W. Ach, 42°T.C, 114, affd. (C.A. 6) 358 F. 24 342, certiorari denied 385 U.S. 899; and Hamburgers York Road, Ine., 41 T.C. 821. For reasons set forth hereinafter it is our con- clusion that the respondent’s. determination was not unreasonable, arbitrary, or capricious and must be sustained. Section 61 of the Code provides that gross income means all income from whatever source derived, in- near Age - er Aan Poe PPR ee trey 46 cluding compensation for services, including ‘com- ’ missions. It is well established that compensation may be taxed to the earner, despite anticipatory arrange- ments in contracts designed to prevent such com- pensation when paid from yesting in the, one who earned it (Lucas v. Earl, 281 U.S. 111);‘that the — power to dispose of income is the equivalent of owner- ship of it and that the exercise of that power to’ procure the. payment of income to another is the enjoyment and hence the realization of the income by him who exercises it (Helvering v. Horst, 311 U.S. 112); and that the taxing statutes are not so much ~ concerned with the tefinements of title as with the actual command over the income which is taxed and — that it makes no difference that such command may be exercised through the creation of a new controlled | interest or a subservient. agency (Griffiths v. Helver- ing, 308 U.S. 355, and cases cited therein).:In Grenada Industries, Inc., supra, we stated that while undoubt- edly the general provisions of the Internal. Revenue Code are sufficient to charge the income to the one who actually earns it, in the-case of organizations — _ under common control ‘the detailed provisions of sec- tion 45 of the 1939 Code (now section 482 of the 1954 Code) ‘‘explicitly authorized the’commissioner to un- ‘scramble any such situation, so that: income may be— char rged to the organization that earned “”’ It is clear that throughout the taxable years in- volved herein the finance companies performed all the services in connection with the sale and servicing of the insurance. It was their employees who contacted, the debtors with_respect to the taking out of the insurance. They Bote the policies, collected the pre- tmiums and deposited them in bank accounts in the names of Guardian and Beneficial, made refunds, pre- pared the necessary papers in the event of the death eet 47 of an insured, and made weekly reports to Guardian and Beneficial. The record shows that Guardian and Beneficial merely collated information prepared by the finance companies and forwarded such informa- tion, together with the net premiums (after deducting commissions in the period January 1 to June 30, 1958), to Republic. They did not act as agents of Republic in .the sale of the creditlife insurance and indeed could not, since under Indiana law corpora- tions could not act as life insurance agents. While fhdividual employees of the finance com- panies, rather than the finance companies themselves, were designated as the authorized insurance agents of Republic, it is clear that they were not entitled to any compensation from Republic in their individual ca- pacities for placing the insurance. During the period that commissions were payable to Miller under his ” contract, with Republic, it is obvious that Miller was not acting on his own behalf in entering into the agreement with Republic, but on behalf of the finance”. - companies, that he was not entitled to retain the com-— ~~ —~missiens,-and_that_his assignment of such’ commissions to Guardian was dictated by Local Finance on behalf of itself and its subsidiary finance companies.“ We think it must be concluded, therefore, that during the period January 1 to June 30, 1958, the finance com- .¢ “This is clearly established by the testimony of Miller. On cross examination he testified in part: | . “Q. Why did you decide to givé that money up by assigning it away? “A. I think T would have to-answer you this way: that had - I not been willing to assign that commission away, I wouldn’t have had the agreement to start with. I don’t believe that the people that operate Local Finance Corporation would permit an employee to have income from business that they generate without assigning it some place. It’s just impractical.” eR es a) 48 ‘panieS earned, and controlled the disposition of, the -commission income, and that Miller received the com- mission ifcome as an agent for such finance companies, _owhich exercised their. power to dispose’ of such income ~ by. having Miller assign it to Guardian.and Beneéfieia]. The allocation of 50 percent of net premiums.to them is not unreasonable im view of the fact that over the period from May 1, 1954,.to June 30, 1958, the com- - missions actually paid amounted to _ about 56 pereent of net premiums. As pointed out above, commencing J uly ‘: 1958, no commissions, as such, were paid by Republic to any- one with respect to credit life insurance issued to debtors of the finance companies.: Instead, the interests controlling Local Finance and Guardian decided to set up National to reinsure the credit life insurante issued to such debtors. The rate charged by Republic, which, _ as stated above, included a built-in portion normally , used to pay commissions for selling the insurance, did \not change. Such rate had beeh ‘sufficient to permit the payment of commissions eqtial to about 56 percént of net premiums collected by Republic during the pe- riod May 1, 1954, to June 30, 1958. There was-no change in the procedures followed by: the finance com- panies or Guardian and Beneficial or Republic in the sale of the credit insurance. The finance companies continued to sell and service the insurance as before, . and Republic continued to retain the same proportion of net premiums, 9.5 percent, which it had retained in the period January.1 to July 1, 1958. * " _ It is axiomatic that questions of taxation must be ' determined by viewing what was actually done, rather © than the declared purpose of the participants, and that when applying the income tax laws regard must be had to matters /of substance and not mere form. Weiss v. Stearn, 265 U.S. 242; and John M. Rogers, | 4 3 ‘ ‘ 49 44 T.C. 126, affd. (C.A. 9, 1965) 377 F. 2d 534. And, -as stated in Comtel Corporation . Ae Commissioner, (C.A. 2) 376 Ee 2d 291, ‘‘The ‘Tax Court had the power—indeed the duty—to look to the substance” of the transaction. We think that, in substance,. the ar- rangemer made by Local | Finance with Republic aby. Republic, instead of paying commissions as _ such, paid National 90.5 percent of net premiums as reinsurance premiums represented, in part, the exer- fe se by the finance companies of the control they pos- ‘sessed over the disposition of the. compensation they earned for selling’ and servicing the insurance.” That le ‘is to Say, a portion of the reinsurance premiums re- : ceived by National ‘in reality constituted commission income which .the finance companies had earned and \ / _- which they gratuitously diverted to National. National performed n no services in connection with the sale of existing reinsurance companies as ser to setting up a whole new comp ny? “A. Yes, sir, there would have been nothing to reinsure. “Q. Why would there had been nothing to reinsure? “A. Well, the purpose of utilizing reinsurance here was to create—one of the purposes was to create a legal vehicle to enable us to pay compensation in connection with the procure- ment of the insurance. If we chose to reinsure some—with some unrelated reinsurance company that result would not have been possible and therefore, I see no reason why we would have = ag the business,” “- ‘He also testified that, as an alternative: to reinsurance with National, consideration had been given to having the stock- holders of Local Finance licensed as insurance agents, either‘ individually or as a partnership, and“having them receive the commissions directly, but that such approach’ was rejected as impractical due to the relatively large number of stockholders. \ 50, the insurance. It is true that National was a bona fide insurance coripany, that it did assume liability for reinsurance of. the policies written by Republic, and that it was entitled to compensation for assuming such reinsurance rjsk.** Duying the period July 1 to December 31, 195 iring the taxable years 1959 through 1962 National received 90.5 percent of all net | premiums and, after provision for all claims, still retained about 58.4 percent of all net premiums. The respondent allocated 50° percent of net premiums to the finance companies, leaving National about 8.4 per- | cent. Here again, for reasons stated above, we think _ that the allocation of 50 percent of net premiums to ° the finance companies | as compensation for selling and 3 servicing the insurance is not unreasonable. And there is no evidence in the record to show that the approxi- mately 8.4 percent of net preminums remaining with National after the respondent’s allocation did not con, stitute adequate compensation for its-reinsurance of the risks and the minimal expenses it incurred. . | The petitioners cite, among other cases, R. P. Crow- ~ ley, 34 T.C.°333; Alabama-Georgia Syrup Company, .36 _ 'T.C. 747, reversed on another issue (C.A. 5) 311 F. 2d 640; and Campbell County State Bank, Inc., 37 T.C. 430, reversed_on another issue (C.A. 8) 311 F. 2d 374, for the proposition that the exercise of control over who shall perform services giving rise to income does not justify attribution of the income to the controlling taxpayer. The ‘principle established by those cases, _ however,-has no application here with respect to com- ““pensation earned by the-finance companies. The fi- nance companies’ did not designate any other_person 16 While National’s total capitalization upon its organization ~was less than $40,000, this apparently satisfied the insurance — laws of. Arizona. Yon te ~ a Ah ol _to sell and service the insurance and thereby earn commission income. They contimtfed to sell and serv- ice the insurance and had the power, which they exercised, over the disposition of the compensation ‘therefor. Of course National performed the service of . reinsuring the risks and the compensation for that: service may not be attributed to the finance com- panies. As pointed out ‘above, the respondent’s allo- cation leaves- about ‘8.4 percent of net premiums as income to National, and there i8 no showing that sueh amount is not adequate compensation for the reinsur- ance. And it may/be added that although Guardian and Beneficial continued to render incidental services in connection with the processing of the credit life insurance, this did not entitle them to any commission . income. This service was rendered under a reciprocal arrangement whereby the finance companies placed and handled for those companies, free of charge, fire and casualty insurance. : The petitioners have shown that the arrangement | - prevailing in the period January 1 to June 30, 1958, whereby the commissions were paid to Miller instead . of to the finance companies was adopted, upon advice of their attorney, in order to avoid violation, or pos- Sible violation, of the Indiana statutes under which '. they- were licensed and which fixed the rates to be charged for loans, and that the reinsurance plan pre- vailing thereafter was adopted for the same reason and also to meet the requirement of Republic, which wanted to avoid violation of the Indiana statute which prohibited payment of lifé insurance commissions to corporations. They contend that tax avoidance or evasion was not the purpose. The respondent appar- entlydoes not question this. However, as pointed out by the respondent, ~his_authority under: section 482 is not limited to allocations necessary—‘‘to. prevent 52 a | evasion of taxes,’’ but also includes allocations neces- sary ‘clearly to reflect the income’’ of commonly con- trolled organizations. We agree that establishment by the petitioners of a nontax motive for the procedures adopted is no answer to the respondent’s determina- tion that the allocations were necessary ‘‘clearly to reflect” the petitioners’ income. In Asiatic Petroleum . Co., Ltd., 31 B.T.A. 1152, affd. (C.A. 2) 79 F. 2d 234, cer tiorari denied 296 U.S. 645, we stated: attempted evasion is not the only sibintion de- scribed as proper for invoking section 45. An- other is “in order * * * clearly to reflect tlie income of any of such trades or, businesses.” ~ And in Dillard-W altermire, Tne. v. Campbell, (C.A. ~ 5) 255 F. 2d 433, it was stated: _ The appellant undertook to prove absence of ‘ a tax motive in order to negative the claim of tax evasion. Even satisfactory proof of a business reason * * * would not be an answer to the Commissioner’s claimed right to make the allocation.: The statute permits such alloca- tion if the result more clearly reflects the true income of the related businesses. * * * — See also Simon J. Murphy Co., 22 T.C. 1341, reversed ' on other grounds (C.A. 6) 231 F. 2d 639; Eli Lilly & Co. v. United States, (Ct. Cl.) 372 F. 2d 990; and see. 1,482-1(c); Income Tax Regs. Since the finance com- panies performed all the work of selling and servicing the insurance and earned the right to compensation therefor and had the power of disposition over such income, we think it necessary to allocate such income to them in order clearly to reflect their income. , The petitioners insist, however, that the finance companies did not actually receive any commission in- come, that receipt of any such commissions would have violated the law of the State of Indiana, and & \ ‘ 53 7 = , “a aS that therefore no such ‘commission income may be allocated and taxed to them.” We find it unnecessary to determine whether direct receipt of the insurance commissions by the finance companies would have violated the Indiana Statutes under which they operated, namely, the Indiana Small Loan Act, the Indiana Retail Installment Sales Act, and the Tndisna Industrial Loan and Investment: Act." Even if so, and even though the insurance laws of Indiana prohibited payment by a life insurance company of commissions to a éorporation, we are of the opinion that the respondent is not foreclosed from allocating to the finance companies under section 482. of the Code the income which they earned and over which they exercised the power of disposition. It is well established that Congress establishes its own criteria: for the application of tax statutes, that State law may control only when the Federal taxing act by 17 The petitioners cite in this connection Nichols Loan Cor- poration of Terre Haute, T.C. Memo. 1962-149, reversed on another issue (C.A..7) 321 F. 2d 905; Campbel] County State Bank, Ine. v. Commissioner, 37 T.C. 430, reversed on another issue (C.A. 8) 311 F. 2d 374; First vity Bank v. United States, (D. Mont.) 213 F. ‘Supp. 362, > affdy (C.A, 9) 334 F. 2d 120; and Z. E. Shunk Latex Products, Ine\18 T.C. 940. 8 Although the respondent has not specifically conceded the s petitioners’ contention in this respect, he presented no argument with respect thereto. No authority has been cited by the parties upon this question. The only case which we have found which deals with the legality of- receipt. of commissions by a small loan company is State v. Bankers Finance Corporation, (Del. 1942) 26 -Atl: 2d 290, It was there held that the receipt of com- missions by a small loan. company on insurance on its debtors’ collateral did not constitute an “additional charge of any kind” under the Delaware Small Loan Act, where the insurance pre- mium’ rate was not in excess of the standard rate and the pur- chase of the insurance was on a voluntary basis. sali express language or necessary implication makes its *~ °. operation dependent upon. State law, and that in the absence of language évidencing a different purpose, a tax statute should be interpréted so as to give a uni- form application to’a-nationwide scheme of taxation. Burnet v. Harmel, 287 U.S. 103; Lyeth v. Hoey, 305 U.S. 188; Commissioner v. Tower, 327 U.S..280; Hel- vering V. Northwest Steel Rolling Mills, Inc., 311 U.S. 46; and Walter I. Geer, 28 T.C. 994. As pointed out above, the exercise cf the power to dispose of income and procure the payment thereof to another is, for Federal tax purposes, the equivalent of realization of the income. Clearly, the ‘broad lan- guage of section 482 of the Code permits the alloca- tion to a controlled organization of income which it does not actually receive where such allocation is necessary in order clearly to reflect the income of such -,- organization, and there is no indication that Congress ~ intended that the application of that section (or sec- tion 614) should be dependent upon State law. Under. the circumstances here presented we cannot conclude that thé respondent acted unreasonably i in making the allocation to the finance companies. We have carefully examined tlie cases cited by the petitioners, set forth in footnote 17, supra, but con- clude that they do not support the proposition that, - because the finance companies did not actually ‘re- ceive the commission income and because receipt there- — of would have, or might have, violated Indiana law, no such income may be allocated and. taxed to them. In Nichols Loan Corporation of Terre Haute, T.C. _ Memo. 1962-149, we held that the petitioners (Indiana | corporations) which conducted loan businesses uxder, the Indiana Small Loan\Act were not*taxable on ¢redit life ‘insurance commissions, pointing out that thay did not. intend to, and did not in fact, act as insurance 5d agents in victuiblion of Indiana law. Salve, the facts tliere were quite different from those in: the instant _ _ case. There the individuals who were stockholders and officers of the corporations had been engaged, prior to the organization of the corporations, in both the’ business of making loans and the ‘insurance agency business, in partnerships. When the corporations were set up they transferred only ‘the loan businesses to the corporations, and retained the insurance agency businesses, They, in ‘the conduct of their insurance agency. business, sold the insurance on the lives of - the debtors of the corporations, and received in their own right the commissions. This was the decisive fac- tor in that case. The corporations had no right to the commissions or any power over the disposition there- of. In the instant case the individual officers and em- ' ployees of the finance companies had no right to com- mission income or the power to dispose of it.. The fi- nance companies earned compensation for selling and . servicing the insurance and had the power to dispose of ‘it, which power they exercised favor of other ‘commonly controlled corporations; oe had not acted as insurance agents in the sale of the insurance and who did nothing to earn such compensation. In short, _ there was no person other than the finance companies © | ~-who was entitled to such compensation or who had the right to dispose of it. It may be added that the ap- plication of section 482 was not an issue in the Nichols ease. . In Campbell County State Bank, Ine., v. Com- missioner, 37 T.C. 430, the stoekholders of a bank formed a partnership to engage in a general insur- ’ ance agency business, rather than use their bank. for that purpose because State law forbade hanks to en- ‘gage in such business. The Commissioner attacked the ‘separate existence of the insurance agency as a sham 56 and attributed its income to the bank. We there held ° that th separate identity of the insurance agency _should be recognized. We stated that the State statute was relevant only to show the existence of some busi- ness purpose (other than the saving of taxes) for | conducting the insurance through an entity other than the bank. It may be added that we there also stated that the income earned by the insurance agency could not be allocated to the bank under section 482. In that case it was the fact that the bank did not earn the income, and not. the prohibition of State law, which precluded the application of section 482. - First Security Bank v. United States, 213 F. Supp. 362 (D.C. Mont.), involved in a similar situation and a similar holding, except that, as pointed out by the Court of Appeals for the Ninth Circuit, in affirming the lower court, section 482 was not in issue. In L. E. Shunk Latex Products, Inc., 18 T.C. 940, the taxpayers were two manufacturing corporations which, together with a partnership to which they ‘sold their products, were owned or controlled by the same interests. In Janaury 1942 the partnership increased | its prices for the goods sold, but the-taxayers didnot — make an increase in their prices to the partnership. Later the Office of Price Administration issued certain’ wartime price regulations which permitted the in- _erease in prices made by the partnership, ‘but pro- | hibited any increase-in prices charged by the tax- payers on their manufactured products above the . prices existing at December 1, 1941. The prices that -the taxpayers had charged the partnership at that date had been fixed in arm’s length negotiations. We there held that section .45 of the Internal Revenue Code of 1939 did not authorize the Commissioner to allocate any of the partnership’s income to the tax- payers. We there stated that the OPA. regulations 57 prohibited taxpayers from receiving the very income sought to be attributed to them and that the Com- missioner had no authority to attribute to them’ in- ‘come which they could not have received. This state- “ment, however, must be considered in the light of the _- situation there prevailing. The price charged was not due to the control element. The taxpayers could not legally charge any greater amount for their goods, whether to a controlled organization or anyone else, | and in fact did not do so. They therefore had no in- - come over which they could exercise the power of disposition. The income which the respondent at- tempted to allocate to them was. not their income, but that earned by the partnership and owned by it.- On brief the petitioners state that the respondent | has not reduced the income of National as