Only three things are certain in this life: death, taxes, and US Supreme Court decisions. This is the story of how an obscure 74-year-old Supreme Court decision has arguably become the singular most important aspect of captive insurance.
It was the morning of January 8, 1941. Washington was in the grips of an early-winter ice storm. Freezing rain was coating the city in a thin glaze of ice, and the roads were almost bereft of cars. The dead brown leaves falling from the elm trees lining East Capitol Street were swirling as a sharp breeze funneled between the Library of Congress and the Supreme Court buildings. On this day, the Supreme Court was scheduled to hear arguments in the case Helvering v. Le Gierse, 312 U.S. 531 (1941).
The Facts of the Case
Almost no one was paying any attention to what was happening at the Supreme Court on that cold, January day. The war in Europe had fixated almost every American citizen's attention on radio broadcasts and movie theater newsreels.
In December 1936, 80-year-old Ethel Le Gierse of Ft. Lee, New Jersey, finally succumbed to complications arising from a persistent respiratory infection. In November 1936, the decedent (Mrs. Le Gierse) had executed two contracts with Connecticut General Life Insurance Company. One was an annuity paying the decedent $589.80 monthly for the remainder of her life. The insurer got lucky—her life ended less than a month after the annuity was purchased.
The annuity's cost was $4,179. The second contract was a single-premium life insurance policy with a face value of $25,000, payable to the decedent's daughter, Edyth Le Gierse, the primary respondent. The other respondent was the decedent's estate trustee, Bankers Trust Company. The life insurance policy cost $22,946 and was paid by the decedent in addition to the cost of the annuity. An important aspect of this case is that, for reasons undisclosed in the court's ruling, the insurance policy would not have been issued in the absence of the annuity.
Section 302 of the Revenue Act of 1926 provided guidelines relative to the definitions of property subject to estate taxation. Section 302(g) allows for a partial exemption to paying taxes on insurance proceeds, even though insurance proceeds are otherwise considered property of the estate. The ultimate question before the court was this: were the proceeds from the life insurance policy in the decedent's estate subject to the federal estate tax exemption? (Please, dear reader, stay with me on this. I guarantee that this question will lead, eventually, to risk shifting and distribution. I know it seems far-fetched, but trust me on this.)
The significance of § 302(g) is that the insurance proceeds must have been received by the estate as if they were the result of a transaction that involved an actual insurance risk at the time the transaction was executed.
The Risk Distribution and Shifting Issue
We now get to the heart of matter. The two contracts were considered "together" because, as was conceded by all parties, the insurance policy would not have been issued without the annuity contract. Considered together, the court found that the outcome did not create any element of insurance risk. The court reasoned that the annuity and the insurance policy counteracted each other. The contracts were opposites; they neutralized each other.
The life insurance company issues insurance policies based on longevity, and annuities are based on transiency. Put another way, the life insurer hopes that the policyholder lives to a ripe old age, but with an annuity, the insurer creates value for itself if the annuitant does not live to a ripe old age. Because of this, the court found that the combined effect of the transactions did not constitute insurance from the life insurer's perspective, and the proceeds were taxable along with the rest of the decedent's estate.
In the Le Gierse case, the court expressly acknowledged that risk must be shifted and distributed in order for a transaction to be considered one of insurance, saying, "Historically and commonly, insurance involves risk-shifting and risk-distributing." Here, the court found that the combination of the annuity and the insurance policy produced no insurance risk, and because insurance risk is dependent on risk shifting and distribution, the case is cited as the seminal case in the development of the risk shifting and distribution requirement for insurance to exist.
The case was decided on March 3, 1941. It was a blustery day in the nation's capital. The elm trees had not yet begun to reveal their buds, and the wind whipping in off the Potomac River was cold and damp. It was late afternoon when Edyth Le Gierse, intently listening to the radio in her modest ranch-style home in suburban Maryland, learned that the court had decided that her mother's estate must include the $25,000 life insurance proceeds for tax purposes.
It was then, police suspect, that Edyth snapped. In a blind rage, she ran into her bedroom, grabbed her Colt revolver, and drove like a banshee down to the Supreme Court building. She stopped her car in the middle of East Capitol Street, got out, and ran up the courthouse steps, screaming that she was delivering pizza to the justices. When the guard asked her where the pizzas were, she pulled out her gun and said to the guard, "I got your pizza right here, pal!" After a tussle, Edyth was bundled into the back of a police paddy wagon and taken away. Sad but untrue.
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