Court Backs Mutual Holders Who Get Stock

The Internal Revenue Service was wrong to require a policyholder who received stock through an insurer demutualization to pay taxes on the proceeds when the stock was sold, a federal judge has ruled.

Judge Francis Allegra of the U.S. Court of Claims addresses taxability of stock received in connection with insurer demutualizations in a decision concerning Fisher vs. U.S., No. 04-1726T.

The plaintiff in the case is Eugene Fisher, trustee for the Seymour Nagan irrevocable trust.

When mutual insurers convert to stock company charters, the transactions are similar to an “open transaction,” in which the court cannot distinguish between the value of the life insurance policy to the policyholder and the value of the policyholder’s interest in the insurance company, Allegra writes in an opinion explaining the decision.

The record “supports the opinion rendered by plaintiff’s valuation expert that the value of the ownership rights was not discernible, leading the court to conclude that plaintiff has borne its burden of proof in this case,” Allegra writes.

A spokesman for the Department of Justice, which represented the IRS in the case, says the government has not yet decided how to respond to the decision.

The IRS has contended that a 1971 regulation makes proceeds from the sale of stock received through insurer demutualizations taxable.

“When the [Nagan trust] policy was purchased, the trust had no realistic anticipation of receiving anything of value in exchange for those rights, and none of the policy premium was paid for those rights,” Department of Justice lawyers argue in court papers.