John Hancock Mut. Life Ins. Co. v. Commissioner , 10 B.T.A. 736 ( 1928 )

JOHN HANCOCK MUTUAL LIFE INSURANCE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

John Hancock Mut. Life Ins. Co. v. Commissioner

Docket No. 9047.

United States Board of Tax Appeals

10 B.T.A. 736; 1928 BTA LEXIS 4041;

February 14, 1928, Promulgated

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">*4041 1. A life insurance company which forecloses a mortgage upon which both principal and interest are due and unpaid and buys in the mortgaged property for the face value of the nortgage, has received thereby no gross income within the meaning of section 244(a) of the Revenue Act of 1921.

2. Commissioner's disallowance of a deduction of certain real estate taxes upon the property, paid by the petitioner after the foreclosure sale, approved.

Guy W. Cox for the petitioner.

J. W. Fisher, Esq., for the respondent.

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MURDOCK

">*736 Income taxes in the amount of $1,724.81 for the calendar year 1921, are in controversy. The allegations of the petition are that ">*737 the Commissioner erroneously added $130,660.74 to the petitioner's income on account of interest received from the foreclosure of a mortgage, and erroneously disallowed the deduction of $43,282.52, representing the portion of the taxes on the real estate which he determined had accrued up to the date of foreclosure.

FINDINGS OF FACT.

The petitioner is a life insurance company, incorporated under the laws of Massachusetts, with its principal office at Boston.

Since 1903 or">*4042 1904, and, praticularly, on September 29, 1921, the petitioner and Harvard College jointly held a mortgage in the principal amount of $3,500,000 on a property in Boston, known as the Siegel Building. The petitioner owned an undivided six-sevenths interest in this mortgage, or, in other words, the face value of the petitioner's interest in the principal sum of the mortgage was $3,000,000.

On September 29, 1921, the mortgagors were in default and on the petitioner's share of the mortgage owed interest in the amount of $138,849.38. On this day the mortgage was foreclosed by public auction sale, and the property was purchased by and conveyed to the petitioner and Harvard College in the same proportion in which they owned the mortgage for the consideration of $3,500,000, which was the highest bid made therefor at the auction. The mortgage contained no provision governing the application of any payments thereon. Ownership of the property did not change thereafter until in the year 1923. After the foreclosure the petitioner retained and still retains all of the notes on the amount of $3,000,000 given with the mortgage, but no further action has ever been taken to collect on them.

">*4043 In determining the petitioner's net taxable income the Commissioner held that at the time of the foreclosure there was due the petitioner on this mortgage, principal in the amount of $3,000,000 and interest in the amount of $138,849.38, and that the petitioner received in payment of these amounts $2,953,715.76, being six-sevenths of the consideration for the purchase of the property, less a share of the expenses incident to the sale ($43,282.52 accrued taxes and $3,001.72 revenue stamps), that this amount was to be applied to the payment of principal and interest in the same proportion as these two items were of the total debt, or that $130,660.74 was received as interest and must be added to the petitioner's reported income. There were expenses incident to the foreclosure which were not deducted by the Commissioner.

">*738 Real estate taxes in Massachusetts are assessed upon the property of the person or persons appearing to be the owners of such property on April 1 of each year. Owners have until June 1 or July 1 to bring in their lists of property. The taxes are payable upon notice, which must be sent out not later than October 15, and interest begins to run 17 days">*4044 after October 15. Notice of the real estate tax assessed on the above mentioned property for the year 1921 was dated October 1, and the tax was due on October 15, but payable without interest on or before November 1. The petitioner paid this tax in the amount of $101,270 on November 1, 1921, and was thereafter reimbursed to the extent of $14,467.14 by the college for its share of this tax, leaving $86,802.86 as the net amount paid by the petitioner, and deducted on its return.

The Commissioner determined that this tax accrued ratably from April 1, 1921, to April 1, 1922, and that on September 29, 1921, there had accrued as the petitioner's share of this tax $43,282.52. This amount was not allowed to the petitioner as a deduction.

OPINION.

MURDOCK: The Revenue Act of 1921, in sections 242 to 247, inclusive, makes special provision for the taxation of insurance companies. The Commissioner does not contend that the provisions of these sections are not controlling in the determination of the tax liability of this petitioner. His deficiency notice shows that he applied them in making his own determination.

From an examination of these sections it is apparent that the gross">*4045 income and allowable deductions applicable in the taxation of life insurance companies differ radically from the gross income and allowable deductions applicable in the taxation of ordinary corporations. See . In the case of a life insurance company "gross income" means the gross amount of income received from interest, dividends, and rents, and nothing else. Section 244(a). Capital gains thus play no part in taxable income and a life insurance company can not deduct a capital loss, except that under certain circumstances it can take a deduction for exhaustion, wear and tear, and obsolescence.

So that although it might make no difference in the taxation of an ordinary corporation whether the amount received in the foreclosure of a mortgage was applied to principal or to interest, because the amount credited to income would be offset by a capital loss, under the provisions of the Revenue Act applicable to this petitioner, ">*739 it is necessary, since no offsetting deduction will ever arise, to decide whether the petitioner is compelled to charge itself as having received income by way of interest">*4046 from the proceeds of a foreclosure when the total proceeds are not more than sufficient to pay its principal debt.

No case has been cited by either party which is, in our opinion, authority, either directly or by analogy, for the application of proceeds of foreclosure sales for the purpose of determining income-tax liability where this question of interest is material. This is not surprising when we consider that in most cases involving the application of money realized from foreclosure sales, questions and considerations are involved which are foreign to the case now before us. A case in which a similar question might arise is one where a trustee for life tenants and remaindermen foreclosed a mortgage held by him as part of the trust estate. The petitioner, although citing no authority, argues that if in such a case no more than the amount of the principal debt were recovered the life tenants would be entitled to nothing.

However this may be, we hold for the petitioner that he has received no interest. In section 244(a) of the Revenue Act of 1921, the word "interest" would seem to have its usual and ordinary meaning. That meaning involves the idea of a profit to a lender">*4047 as a charge for a loan. It implies that when the lender has recovered the money loaned with the compensation for the use and risk, he will have received a certain profit. See "Words and Phrases," 1st Series, vol. 4, p. 3706, and cases there cited.

In the present case the lender, the petitioner, has in reality suffered a loss of part of its principal as a result of its loan. If the entire net proceeds of the foreclosure were applied to the principal debt the amount would be insufficient to cancel that debt. The Commissioner does not contest this nor make any claim that any additional amount can ever be recovered. Under these circumstances we can not see that the petitioner has received from the foreclosure interest and therefore income and profit within the intendment of the taxing statute.

The statute in section 245(a)(6) allows a life insurance company to deduct taxes and other expenses paid during the taxable year exclusively upon or with respect to the real estate owned by the company. In Massachusetts, taxes assessed upon land become a lien thereon from April first in the year of assessment. See section 37, chapter 60, of the General Laws of Massachusetts, 1921. Owners">*4048 as of April first are also personally liable for the tax. See ; , and ; .

">*740 Where property is sold with a covenant that it is free and clear of encumbrance, the covenant is broken if prior to the sale taxes had become a lien upon the land. This is true where the taxes become a lien from the date of assessment, though they have not become due and payable at the time of the conveyance. See Thompson on Real Property, § 3499, and cases therein cited, particularly . If in such case the purchaser was legally required to pay the taxes, he would have recourse against the seller. It is then apparent that taxes which have become a lien against real estate in Massachusetts prior to the date of the sale are primarily an obligation of the seller and not of the purchaser. If then the purchaser of real estate agreed to pay a lien which he knew existed as a charge on the property at the time of its purchase, and if, in fact, he does discharge">*4049 that lien by payment, he has not in fact paid taxes or interest of which the lien may have consisted, but he is simply completing his payments in the purchase of the property. The taxes and interest installments which he paid were the seller's taxes and interest installments and it was by an agreement and reduction in the purchase price that the purchaser paid them on behalf of the seller. The same principle applies where the sale is on the foreclosure of a mortgage.

On September 29, 1921, certain taxes with which we are concerned had become a lien against property. The taxes could have been paid by the sheriff from the money made from the sale. But since the petitioner was both the mortgagee and the purchaser, it was unnecessary for it to pay money to the sheriff for the discharge of this lien against the property. The same result was reached by the petitioner paying the tax bill directly. The Commissioner has disallowed of the total amount of taxes paid for the year, only a portion which he considered had accrued from the beginning of the taxable year on April first, to the date of the sale. Since it is in regard to this amount alone that the parties are in controversy, ">*4050 we are concerned with it and with nothing else. From the facts we are unable to determine that the petitioner is entitled to any larger deduction on account of taxes paid than the amount of the deduction allowed by the Commissioner.

Reviewed by the Board.

Judgment will be entered on notice of 15 days, under Rule 50.