Rev. Rul. 77-266

Advice has been requested whether, under the circumstances described below, amounts credited to certain separate accounts maintained by a title insurance company for its member lawyers are deductible by the company as commission expense for the taxable year in which so credited pursuant to the provisions of section 832(c)(1) of the Internal Revenue Code of 1954.

A title insurance company organized and controlled by a group of lawyers is engaged in the business of providing title insurance coverage on real estate purchased by clients of member lawyers. The company is subject to tax as an insurance company under section 831 of the Code. The company is a calendar year taxpayer and uses the accrual method of accounting.

Under the provisions of the articles of incorporation of the company, amounts for commissions for services rendered to the company are credited to separate accounts maintained for each member lawyer out of payments made by clients of such members for title insurance written on real estate property purchased by such clients. Each member's account is computed on the basis of the amount of title insurance business referred to the company by that member. However, no part of such credit is payable to nor withdrawable by member lawyers until four years after being credited to a member's account. Members' account balances are payable without regard to losses on title policies.

The question is whether amounts credited to the member lawyers' separate accounts for commissions are deductible as accrued commission expense for the taxable year in which so credited, under the provisions of section 832(c)(1) of the Code.

Section 832(c)(1) of the Code specifically provides that, in computing the taxable income of an insurance company subject to the tax imposed by section 831 of the Code, there shall be allowed as deductions all ordinary and necessary expenses incurred, as provided in section 162 of the Code (relating to trade or business expenses).

Section 832 of the Code places insurance companies subject to tax under section 831 of the Code on an accrual method of accounting with respect to their income and deductions. Section 1.461-1(a)(2) of the Income Tax Regulations provides that under the accrual method of accounting expenses are deductible for the taxable year in which all the events have occurred that determine the fact of liability and the amount thereof can be determined with reasonable accuracy.

In title insurance, unlike the usual casualty lines of insurance that protect the insured against loss on the happening of a future event, the risk insured against is a matured one that exists at the time the policy is issued. Title insurance merely guarantees against loss on discovery of a defect in title resulting from an event that has already occurred. Such discovery, which can occur at any time after a policy is issued, can seriously deplete the company's assets since the company, during the insured's ownership of the property, is always liable for the payment of claims and expenses arising under the policy.

It is the position of the Internal Revenue Service that where there exists a contingency as to payment of an obligation, and such contingency relates to other than the ability of the obligor to pay, the obligation is not fixed within the meaning of section 1.461-1(a)(2) of the regulations. See Rev. Rul. 72-34, 1972-1 C.B. 132.

In the instant case, the company's liability to members was fixed and the amount determined in the taxable year in which credited. Although a loss year might reduce the company's assets and thus delay the availability to members of payments otherwise maturing, this event would relate to the company's ability to pay rather than to the amount of the company's liability to the member.

Accordingly, amounts credited to the separate accounts maintained by the company for member lawyers with respect to title insurance business referred from their clients to the company are deductible as accrued commission expense of the company under section 832(c)(1) of the Code, for the taxable year in which so credited.

In view of the above discussion, the Service will follow Lawyers' Title Guaranty Fund v. United States, 508 F.2d 1 (5th Cir. 1975).