*1483 1. Petitioner is entitled to include in its reserves required by law the reserve required to cover liability under the coupons attached to the guaranteed premium reduction policies issued by petitioner. Standard Life Ins. Co. of America,13 B.T.A. 13">13 B.T.A. 13; affd., 47 Fed.(2d) 218; Farmers Life Ins. Co.,27 B.T.A. 423">27 B.T.A. 423.
2. Rental value of space occupied by petitioner in its home office building is not required to be included in gross income. Independent Life Ins. Co.,17 B.T.A. 757">17 B.T.A. 757; affd., 67 Fed.(2d) 470.
3. Rent received from tenants of home office building, which was erected by petitioner on land held under a 99-year lease from the board of education of the city of Tulsa, is subject to tax. Burnet v. Jergins Trust,288 U.S. 508">288 U.S. 508, followed, Coronado Oil & Gas Co.,285 U.S. 393">285 U.S. 393, distinguished.
*750 These proceedings, duly consolidated for hearing and report, arise upon determinations of deficiencies in petitioner's income tax for the*1484 following years and in the following amounts:
| 1924 | $144.69 |
| 1925 | 195.31 |
| 1926 | 252.72 |
| 1927 | 143.03 |
| 1930 | 489.04 |
Two questions are raised with respect to all the years - (1) whether amounts included by petitioner in its reserves to meet certain premium coupons, and interest thereon, which petitioner issued as part of its "guaranteed premium reduction" policy, are properly includable in "reserves" within the meaning of the Revenue Acts of 1924, 1926, and 1928; and (2) whether rentals received by petitioner from a building erected by it on public school lands of the State of Oklahoma held under a 99-year lease represent income from a state instrumentality and as such are not includable in petitioner's gross income.
The parties stipulated certain of the facts and introduced evidence as to others.
FINDINGS OF FACT.
Petitioner is an Oklahoma corporation, with its principal place of business at Tulsa, Oklahoma. It is engaged in the business of writing policies on life insurance in that state and in Texas, Arkansas, Kansas, Missouri, California, and Oregon. It reports annually to the insurance commissioner of Oklahoma and to the commissioners of the other states. *1485 Petitioner's income tax returns for the years in controversy versy *751 were filed with the collector of internal revenue for the District of Oklahoma at Oklahoma City.
1. The petitioner issued and had outstanding in the taxable years a type of life insurance policy known as the "guaranteed premium reduction" policy, the essential terms and conditions of which are set out below, and set up reserves to meet the obligations thereby incurred. The amounts held by the petitioner to meet the obligations incurred by the coupons in the coupon reduction policies outstanding, on which the coupons remain outstanding, are as follows:
| Jan. 1, 1924 | $23,626.30 - Dec. 31, 1924 | $34,246.41 |
| Jan. 1, 1925 | 34,246.41 - Dec. 31, 1925 | 43,877.19 |
| Jan. 1, 1926 | 43,877.19 - Dec. 31, 1926 | 57,209.14 |
| Jan. 1, 1927 | 57,209.14 - | |
| Jan. 1, 1930 | 103,186.93 - Dec. 31, 1930 | 118,584.45 |
Petitioner's guaranteed premium reduction policy, which was nonparticipating when issued but was exchangeable when fully paid up for the participating form, carried with it 19 coupons, each bearing on its face a promise by petitioner to pay to the insured or his assignee a stated amount on the*1486 date of the coupon's maturity. The coupon sheet also set out three options open to the insured with respect to the coupons - (1) to surrender the coupon in reduction of premiums then due, or (2) for cash, or (3) to purchase a paid-up addition to the policy. Unused due coupons, it was further stated, were payable on presentation with compound interest at 3 1/2 percent per annum; or, in event of the insured's death, in addition to the face of the policy; or, in event of surrender of the policy, in addition to the cash value; or, in event of termination of the policy for nonpayment of premiums, as an addition for the purpose of continued term insurance.
The policy provided for certain "guaranteed options of settlement," including paid-up endowments and cash, on surrender of the policy and coupons. The cash surrender value was stated to be equal to the reserve, plus the reserve on outstanding paid-up additions and any matured coupons credited to the policy, less not more than 2 1/2 percent of the face of the policy.
The petitioner also issues an ordinary life policy, in no way substantially different except for the coupons. An extra premium is charged on the guaranteed premium*1487 reduction policy. The National Convention of Insurance Commissioners has a concerted practice, adopted by the Insurance Commissioner of Oklahoma, requiring that such guaranteed premium policies carry a higher premium than ordinary policies and that a proportionately higher reserve be set up by the insurer. The petitioner set up such a reserve to cover coupons and interest thereon during the years in question and reported thereon to the Oklahoma State Insurance Commissioner.
*752 2. The petitioner's home office building is built on land which petitioner holds under a 99-year lease from the board of education of Tulsa, Oklahoma. The lease was acquired by assignment from Earl W. Sinclair on April 15, 1921, the board of education having consented to the assignment. Petitioner covenanted to carry out all the terms of the original lease, which was executed on April 1, 1921.
The lease covered a lot 100 by 140 feet in block 137 of the city of Tulsa and was for a term of 99 years from October 1, 1921. The lessee covenanted and agreed to pay certain rental for the premises, which will be set forth hereinafter, and as additional rental to pay in full all special assessments, *1488 water rents, and other like impositions of every kind and nature which might be levied, charge or imposed on the premises or any part thereof, or improvements thereon, during the term of the lease, and the receipts evidencing such payments were to be delivered to the lessor within 30 dyas after such payment -
It being understood that the Lessee hath contracted herein, on the understanding that the said leased premises are now, and shall be at all times during the term of this lease, exempt from all state, county, municipal ad valorem taxes; and in the event that any such ad valorem taxes on said premises shall ever, during the life of this lease, be chargeable against said premises, or in the event that the lessee, his legal representatives, associates or assigns shall be obligated to pay, and shall pay such ad valorem taxes thereon, the same shall be deducted from the rentals provided to be paid hereunder.
The lessee convenanted "that no building will be constructed or erected within the above described premises other than" a fireproof building "to cost not less than $250,000 and to be begun not later than six months after the lease shall become effective", and that such building*1489 would be erected in accordance with all building requirements and completed free from mechanics' liens, "to the end that no charge of any character whatever may be made against lessor by reason of the erection or completion of said building." The lessee was to furnish a satisfactory bond to the lessor covering these provisions.
The lessee further covenanted to keep the building and all appurtenances thereto fully insured at his own expense at all times during the whole term of the lease against all loss or damage by fire, cyclone, or other causes against which insurance could be had, and in event of loss, lessor was to have a first lien on the insurance accruing for the amount of all unpaid rental, and the remainder was to be applied to the reconstruction of the building.
Sixth: The Lessee further covenants and agrees not to assign this lease except by way of mortgage to secure a loan or loans upon the leasehold, estate and buildings, and not to underlet any part of the premises, until the completion of said building, only with the written consent of the Lessor, *753 after full compliance with all covenants herein contained by the Lessee to be kept and performed and upon*1490 the express covenant of the assignee to perform all the covenants herein then remaining to be performed by the Lessee, and the agreement of such assignee in writing to abide by all the terms, conditions and forfeitures of this Lease; and on condition that such assignee and succeeding assignee shall be subject to the same terms as to future assignments; it being understood and agreed, however, that the Lessor will consent, upon request of the Lessee or his assigns, to such assignment to any responsible and reliable corporation, partnership, or individual upon approval of the Lessor of the responsibility and reliability of such proposed assignee.
Seventh: It is further agreed that the Lessor shall at its option, have the right without obligation to inquire into the validity thereof, at all times during the term of this lease, to pay any rates, taxes, assessments, water rents, liens or indebtedness upon such premises and reversionary interests remaining unpaid after the same have become due and payable and to procure and pay for insurance or renewal thereof, and to pay, cancel and clear off all the sales, liens, charges and claims upon or against said demised premises or reversionary*1491 interests therein, and to redeem said premises from the same or any of them, from time to time, and the amount so paid and advanced by the Lessor, including reasonable expenses, shall be so much additional rent due from the Lessee at the next payable rent day after any such payment, and all such sums so paid and advanced by the Lessor, together with overdue rent shall bear interest at eight per cent (8%) per annum from the date of such advance so long as it remains unpaid by the Lessee and out of the hands of the Lessor.
The lessee covenanted to pay for the first five years an annual rental of $7,200 in advance, that sum representing 6 percent on a then valuation of $1,200 a front foot of the leased land, and at the end of this 5-year term and thereafter at the end of each succeeding 10 years, the leased land was to be revalued and a reasonable rental value therefor determined by three appraisers, that amount to be the rental to be paid by lessee for the next 10-year period, provided that such rental should be approximately 6 percent of the "fair market value" of the tract. It was agreed that:
* * * in ascertaining the value of said tract, the valuation shall be fixed on a basis*1492 of the actual fair market value of the leased premises at the time of each such appraisement, without including the value of the improvements thereon, but in determining such value there shall be taken into consideration the value of adjacent lands, exclusive of improvements thereon, but considering the character of the improvements on all and each of such tracts, including the premises herein involved, and a value fixed which shall be reasonable, fair and in keeping with the reasonable valuations of such adjacent lands, exclusive of improvements, but with reference to the uses and purposes and locations for business purposes thereof.
For failure of the lessee to pay the rent when due, or in case of any default in relation to liens or if the lessee should fail to pay any of the special assessments or to keep the buildings insured, or in case of failure to keep or perform any of the covenants of the lease to be kept and performed by the lessee, the lessor had the right *754 to declare the lease void and the term created ended, "then, in such case, all buildings, fixtures and improvements then situated on said premises, shall revert with said premises to the Lessor as liquidated*1493 damages for said breach and become Lessor's property without compensation." Provision was made for independent appraisal, before termination of the lease, of "the actual cash value of any and all building or buildings and improvements situated and standing upon said premises", exclusive of the land, the lessor covenanting "to purchase of the lessee * * * the said buildings and improvements situated and standing upon said premises, exclusive of and not including the value of the land or ground", at the agreed actual cash value, one quarter in cash and the balance in a year. The lessee on his part agreed to convey to the lessor the buildings on the day the lease determined. It was further provided "that it is a condition of this Lease that all buildings and improvements and fixtures upon the said premises at the termination of the said demised term, providing this Lease is not sooner determined, shall, at and upon the date of the expiration of said demised term, revert to and become the exclusive property of the Lessor, and the title then to be vested in the said Lessor without any such deed of conveyance from the said Lessee to the said Lessor, but this condition is not to be understood*1494 or so construed as to waive the right of the Lessee to the payment to him of the actual cash value of the said improvements upon the said premises, to be ascertained and determined as aforesaid." If the value of the buildings had not been determined before the lease's termination, the lessee was to have a lien on them for this sum, notwithstanding his surrender of possession of them and the reversion of title to lessor as provided.
Title to block 137, of which the leased premises were a part, had been conveyed to the town of Tulsa, Indian Territory, by the Muskogee (Creek) Nation on May 25, 1906, under the Act of Congress approved March 1, 1901, 31 Stat. 861, for $426.43, the block in question being designated "public school" in the official survey of the Department of Interior dated April 11, 1902. On June 11, 1915, the city of Tulsa, State of Oklahoma, successor of the town of Tulsa, Indian Territory, conveyed to the board of education certain lands, including all of block 137, in consideration of the board's assumption of the school debt and pursuant to the constitution and laws of the state, which vested such lands in the board.
The petitioner duly erected an office building*1495 on the land so leased. Its own offices occupied part of the space in this building and the remainder was rented to others.
In determining petitioner's taxable income for the years in question the respondent included the following income and allowed the following deductions:
| 1924 - Rental value of petitioner's own space in building | $8,828.00 |
| Cash rents from tenants | 143,476.45 |
| 152,304.45 | |
| Less: Taxes, depreciation, etc | 76,175.05 |
| 76,129.40 | |
| 1925 - Rental value, own space | 9,828.00 |
| Cash rents, other tenants | 156,596.94 |
| 166,424.94 | |
| Less: Taxes, depreciation, etc | 103,141.08 |
| 63,283.86 | |
| 1926 - Rental value, own space | 10,521.00 |
| Cash rents from tenants | 159,629.97 |
| 170,150.97 | |
| Less: Taxes, depreciation, etc | 94,755.13 |
| 75,395.84 | |
| 1927 - Rental value, own space | 10,584.00 |
| Cash rents from tenants | 162,933.68 |
| 173,517.68 | |
| Less: Taxes, depreciation, etc | 77,184.10 |
| 96,333.58 | |
| 1930 - Cash rent from tenants | 132,377.99 |
| Less: Taxes, depreciation, etc | 86,761.45 |
| 45,616.54 |
*755 For each of the years 1924, 1925, 1926, and 1927 the amount of rentals received by petitioner from its tenants and reported by it was in excess of 4 percent of the*1496 book value of the building owned by petitioner, after excluding any amount representing the rental value of the space occupied by the petitioner in its own building, and after deducting taxes, depreciation and other miscellaneous expenses of operation.
OPINION.
MATTHEWS: The first issue for determination is whether there was error in the respondent's exclusion from the "reserve funds required by law", in the calculation of the petitioner's gross income, of amounts held by petitioner in its reserves to satisfy its obligations on coupons on certain policies of life insurance known as guaranteed premium reduction policies, where premium reduction credits evidenced by coupons had been left with the petitioner to accumulate in accordance with the provisions of the policies. The applicable statutory provisions are section 245(a), identical in the Revenue Acts of 1924 and 1926, and section 203(a)(2), Revenue Act of 1928.
*756 This issue presents no novel question. It has already been carefully considered and passed upon by this Board in *1497 ; affd., ; ; , affirming, Board's memorandum opinion entered March 6, 1932; ; and .
The instant case is in no important respect different from the situation considered in the Standard Life Ins. Co. case supra. Here the petitioner issued a nonparticipating policy bearing coupons which might be used when mature for payment of the premiums, paid-up additions to the policy, or redeemed in cash. The coupons bore interest after maturity, and, if there had been default in payment of premiums, might also be used to carry continued term insurance. The National Convention of Insurance Commissioner has a concerted practice, adopted by the Insurance Commissioner of Oklahoma, requiring the insurer to exact a higher premium on such coupon policies and to carry a proportionately higher reserve to meet these coupon obligations, both principal and interest. *1498 The petitioner did carry such additional reserves in the years in question and reported them as a special reserve in its annual report. We have no doubt that under local law (see Bunn's Comp. Okla. Stat., Ann., 1921, vol. 2, p. 2417; §§6710, 6711), therefore, that these reserves represented undischarged obligations of petitioner and must have been set up to meet them.
In the Standard Life case we reviewed the authorities on the question whether such reserves came within the meaning of "reserves required by law," as used in the revenue acts, so that it is unnecessary to discuss it here. On the authority of that case, therefore, this issue is decided for petitioner.
We now pass to the issue with respect to the rental value of space used by petitioner and the rentals received by petitioner from the office building which it built on land leased for 99 years from the Tulsa board of education, the lease having been assigned by Sinclair, the original lessee, to petitioner with the lessor's consent.
(a) The respondent included in petitioner's gross income for 1924, 1925, 1926, and 1927 amounts equivalent to the rental value of space occupied by the petitioner in its own office*1499 building. At the hearing the parties stipulated these amounts and the amounts received by petitioner as rent from other tenants of the building, and respondent further stipulated that the latter, less deductions, were in excess, for each of the several years involved, of 4 percent of the book value of the building.
In his brief respondent waives his claim that petitioner is required to include in income the rental value of the space occupied by *757 it, in order to claim deduction for taxes, depreciation, etc., on the building, for the reason that the rent received from the other tenants, less deductions, is more than 4 percent of the building's book value. This makes it unnecessary to consider the question on authority of our decision in ; affd., , or to consider the arguments advanced by petitioner.
(b) Petitioner contends that the lease was an instrumentality of the state, that the building became a part of the leased land and, therefore, that the rent received from its tenants was income from a state instrumentality and is impliedly exempt from taxation under the decision of the*1500 Supreme Court in .
Respondent contends that the Coronado case does not govern, for the reason that the land here in question was not a part of the lands lying in Oklahoma territory granted by the United States to the state to be forever held for the use and benefit of the public schools of the state; that the building from which the rents were derived was private property of petitioner, erected by petitioner with its money, and, therefore, that the rents from the building are taxable income to the petitioner.
The Coronado case involved an oil and gas lease on school lands which had been granted by the United States to the state for the benefit of the common schools, Under the rule previously approved in , the Court held that the lease was an instrumentality of the state for the purpose of carrying out her duty in respect to public schools; that to tax the income of the lessee arising therefrom would amount to an imposition upon the lease itself. However, in applying the rule approved in the Gillespie case, which involved the taxation by the state*1501 of income derived from the sale of oil acquired under an oil and gas lease on Indian lands, the Court said: "We are disposed to apply the doctrine of Gillespie v.Oklahoma strictly and only in circumstances closely analogous to those which it disclosed."
Since the Coronado decision, the Supreme Court has, in , again had the question of the taxability of income derived by a lessee from an oil and gas lease on lands owned by a political subdivision of a state. Although in that case the lands had been held since 1911 and used by the city of Long Beach, California, for water supply and other purposes, the decision of the Court was not that supplying water was not a governmental function, but that the subject of the tax, namely, the net income of the trust whose operations were carried on in a private capacity, was so remote from any governmental function as to render the effect of the exaction inconsiderable as respects the *758 activities of the city. In holding that the Gillespie and Coronado case were not authorities binding on it, the Court said:
In both of those cases the sovereign was acting*1502 as the trustee of an express trust with regard to the lands leased. In both the burden upon the public use was more definite and direct than in the present case. As said in the Coronado case, the doctrine of Gillespie v.Oklahoma is to be applied strictly and only in circumstances closely analogous to those which it disclosed. The decisions relied on can not be held to be authority upon the facts presented by this record.
The facts in the instant case are even less analogous to those of the Coronado case than were the facts of the Jergins case.
The income here in question is the rent received by petitioner from tenants of its home office building, which was erected with its own money on land leased from the Tulsa board of education for 99 years.
The leased premises were not a part of the land which was granted to Oklahoma by the United States, upon its admission as a state, for the use and benefit of the public schools of that state, nor is it land which was purchased with part of the $5,000,000 which was given to the state to be held and invested for the use and benefit of the public schools. It was purchased by the town of Tulsa from the Creek Nation*1503 and thereafter deeded to the board of education. Hence, in leasing to petitioner a part of the land purchased, the state, acting through the board of education, was not acting as trustee of an express trust with regard to the land leased, as it was in the Coronado case, supra, but as owner.
In the Coronado case the lease was not for the use of the premises for a specified rental, but one involving the depletion of a reserve. In other words, a lease under which the state and taxpayer shared the proceeds of operation. In the present case the state, through the board of education, has merely sold to this taxpayer the right to use the land for a specified period in consideration of certain payments to be made and covenants performed. The obligation of the lessee and the return to the state do not depend in any way upon the operations of the lessee. The rental specified is due and payable whether or not any space in the building is rented. The rental is fixed at an amount equal to 6 percent of the value of the premises, exclusive of improvements, and is payable annually in advance.
The terms of the lease indicate clearly that as between lessor and lessee the building*1504 was for all purposes to be treated as property of the lessee until termination of the lease, at which time the lessor agreed to purchase the building at its then cash value. Taxes were paid by petitioner on the building. The amount of such taxes is not shown by the evidence, but the parties stipulated the amount covering taxes, depreciation, and other deductible expenses properly *759 chargeable against the rent received. The statutes of Oklahoma provide, in chapter 57, Landlord and Tenant:
SEC. 7369. Taxation of improvements. - All improvements put on leased lands, that do not become a part of the realty, shall be assessed to the owner of such improvements as personal property; and the taxes imposed on such improvements shall be collected by levy and sale of the interest of such owner, the same as in all other cases of the collection of taxes on personal property.
And in chapter 84, Revenue and Taxation, it is provided:
SEC. 9583. Personal property. - Personal property, for the purpose of taxation, shall be construed to include:
* * *
Second. All improvements made by others upon lands, the fee of which is still vested in the United States or this State; *1505 all improvements, including elevators and other structures, upon lands the title to which is vested in any railway company or other corporation whose property is not subject to the same mode and rule of taxation as other property.
Notwithstanding that in legal theory the building became a part of the land, it was, for all practical purposes, owned by petitioner. It was erected with petitioner's money and represents an investment of the petitioner. It was used by petitioner as its home office building in carrying on its business. One of the necessary activities of an insurance company is the investment of its funds. That portion of the building not needed for its home office it rented to others, thus earning an income on such investment. The state has no more interest in the investment income of petitioner from its building, merely because it happens to be on land leased by the state to petitioner for 99 years, than it has in the income received by petitioner from its other investments or from its business.
We think the rule of the Supreme Court In *1506 , holding the Oklahoma tax on cattle grazing in Indian lands valid, is applicable here. The Court said, at page 273:
But it is obvious that a tax put upon the cattle of the lessees is too remote and indirect to be deemed a tax upon the lands or privileges of the Indians.
And at page 275:
The taxes in question here were not imposed on the business of grazing or on the rents received by the Indians, but on the cattle as property of the lessees, and, as we have heretofore said that as such a tax is too remote and indirect to be deemed a tax or burden on interstate commerce, so it is too remote and indirect to be regarded as an interference with the legislative power of Congress.
This case was relied on by the state in the Gillespie case, supra, and Mr. Justice Holmes, in distinguishing this case said:
* * * Whether this property [income from oil and gas leases on Indian lands] could be taxed in any other form or not, it cannot be reached as profits or income from leases such as those before us. The same considerations that invalidate a tax upon the leases invalidate a tax upon the profits of the leases, *760 *1507 and stopping short of theoretical possibilities, a tax upon such profits is a direct hamper upon the effort of the United States to make the best terms that it can for its wards. . The taxation of cattle grazing in Indian lands held valid in , obviously is more remote. * * *
Under the principle of , the state could tax a building erected by a lessee on leased Indian lands, and does under section 9583 Okla. Stat., supra, and also the income received by such lessee from tenants in the building. The same rule would apply conversely to a tax by the Federal Government on the income from a building erected on state lands.
A tax on the rents received by petitioner from its tenants is no hamper upon the efforts of the state, through the board of education, to make the best terms it can. Like the state tax on cattle held valid in , it is too remote and indirect to interfere with the governmental functions of the state acting through the board of education.
*1508 Under the circumstances here present, we hold that the rent was not derived from the lease with the state, but from the building which was property of petitioner and is taxable to petitioner, If it be argued that a portion of the rent received from tenants of the building should be apportioned to the lease with the board of education, it is answered that all rent received in excess of that paid to the board of educatiov represents a profit in the disposition of the lease for the time being, which is taxable under , and ; certiorari denied, .
Reviewed by the Board.
Judgment will be entered under Rule 50.