Rev. Rul. 66-322

Advice has been requested whether retirement income contracts received by a taxpayer as a distribution from a qualified employees' pension trust are considered the have been converted into annuity contracts for purposes of section 402(a) of the Internal Revenue Code of 1954 under the circumstances described below.

The taxpayer became a participant under his employer's qualified pension plan and continued as such until his resignation from employment. At that time, several retirement incoem contracts purchased by the trust for the benefit of the taxpayer were in effect. Upon the termination of his employment these contracts were assigned to the taxpayer free and clear of the trust and subject only to the payment of future premiums. The taxpayer has paid the annual premiums under the contracts for the years since his resignation.

The taxpayer had included in his gross income each year the amounts which represented the portion of the employer contributions applied toward the purchase of current life insurance protection. No part of the cost of the trusteed pension plan during the period of the taxpayer's employment was borne by the employee.

The retirement income contracts in question are generally similar in form and provide for death benefits equal to the greater of (a) the face amount of 100 times the monthly pension payment, or (b) the cash surrender value of the policy contract as of the date to which annual premiums have been paid.

At the time the contracts were distributed by the trustee to the taxpayer, the cash surrender values or reserves payable as death benefits exceeded the stated face amount of the contracts. It is therefore the contention of the taxpayer that the contracts are annuity contracts and not life insurance contracts, since there was no element of life insurance protection when they were distributed. To this end the taxpayer relies on the case of Helvering v. Edythe Le Gierse , 312 U.S. 531 (1941), Ct.D. 1491, C.B. 1941-1, 430 in which the Supreme Court of the United States held that a contract which has all the usual provisions of an insurance contract and looks like an insurance contract is not an insurance contract if there is lacking an element of risk.

Section 402(a)(1) of the Code provides, in general, that the amount actually distributed or made available to any distributee by any employees' trust described in section 401(a) of the Code which is exempt from tax under section 501(a) of the Code shall be taxable to him, in the year in which so distributed or made available, under section 72 of the Code (relating to annuities).

Section 1.402(a)-1(a)(2) of the Income Tax Regulations provides, in general, that if a trust, described in section 401(a) of the Code, purchases an annuity contract for an employee and distributes it to the employee in a year for which the trust is exempt from taxation under section 501(a), the contract containing a cash surrender value which may be available to an employee by surrendering the contract, the cash surrender value will not be considered income to the employee unless and until the contract is surrendered. If, however, the contract distributed by such an exempt trust is a retirement income, endowment, or other life insurance contract and is distributed after October 26, 1956, the entire cash value of such contract at the time of distribution must be included in the distributee's income in accordance with the provisions of section 402(a) of the Code, except to the extent that, within 60 days after the distribution of such contract, all or any portion of such value is irrevocably converted into a contract under which no part of any proceeds payable on death at any time would be excludable under section 101(a) (relating to life insurance proceeds).

Revenue Ruling 55-639, C.B. 1955-2, 230, defines the term `annuity contract' as used in section 402 or 403 of the Code as a contract which provides primarily for periodic installment payments to the annuitant named therein, and under which the death benefits at any time cannot exceed the larger of the reserve or the total premiums paid for the annuity benefits. Thus, in any annuity contract, there is no pure insurance protection at any time.

Revenue Ruling 57-191, C.B. 1957-1, 1962, provides, in general, a distinction between an annuity contract and a life insurance contract. This Revenue Ruling also states that in an annuity contract there is no pure insurance protection at any time. It further provides that:

Any other type of contract which involves life contingencies is a life insurance contract. This includes any type of contract which provides pure insurance protection, e.e. , a death benefit which at any time may exceed the larger of the reserve or the aggregate premiums paid to such time, such as a retirement income, or an endowment contract, as well as an ordinary life insurance contract. The mere fact that such a contract may contain provisions permitting the application or the conversion of its reserve, or its cash value, or its maturity value, to provide annuity benefits does not make such a contract an annuity contract, unless and until, such conversion takes place. Thus, while a life insurance contract may be converted into an annuity contract, a contract is never both at the same time.

The contracts in question provided insurance protection and contained an element of risk for many years. Accordingly, the contracts were insurance contracts within the meaning of the Le Gierse holding at the time they were executed. The mere elimination of that risk when the reserve exceeded the face amount of the contract is not considered to be a conversion of the contract of insurance into an annuity contract for the purposes of section 1.402(a)-1(a)(2) of the regulations.

Since no conversion was made within the prescribed sixty-day period subsequent to the date of distribution of the contracts from the qualified trust, it is held, in this case, that the cash value of the retirement income contracts received by the taxpayer from the trust is includible in the taxpayer's income in the year of distribution in accordance with the provisions of section 402(a) of the Code.