47 T.C. 237">*237 OPINION

Respondent determined deficiencies in petitioner's income taxes for the years ended December 31, 1958, and December 31, 1959, in the respective amounts of $ 149,433.51 and $ 34,158.79. Petitioner has claimed overpayments for the same years in the amounts of $ 90,269.61 and $ 26,771.48, respectively.

Certain adjustments were either uncontested or have been resolved by agreement of the parties. These will be given effect in the Rule 47 T.C. 237">*238 50 computation. The only issue presented for our decision is whether petitioner, a casualty insurance company, may deduct the prorata portion of its investment expenses attributable to certain items of interest and dividends which are themselves deducted from gross income in computing its taxable income.

The facts have been fully stipulated by the parties and are hereby adopted as1966 U.S. Tax Ct. LEXIS 13">*18 our findings. They are summarized below to the extent necessary in deciding the issue before us.

Allstate Fire Insurance Co. (hereafter called petitioner), an Illinois corporation with its principal office at 7447 Skokie Boulevard, Skokie, Ill., is a casualty insurance company subject to the tax imposed by sections 831 and 832 of the Internal Revenue Code of 1954. ¹ It filed its Federal income tax returns, Form 1120, on a calendar year basis with the district director of internal revenue at Chicago, Ill.

In 1958 the petitioner incurred costs of $ 23,676.23 in the handling and management of its investment portfolio, and in 1959 it incurred costs of $ 24,098.57 for this purpose. Such costs (to the extent that deductibility is not denied under secs. 265, 832, or any other provisions of the Code) constitute ordinary and necessary expenses incurred by petitioner in the operation of its trade or business. Such amounts1966 U.S. Tax Ct. LEXIS 13">*19 were deducted in full by petitioner in its computation of taxable income for the years 1958 and 1959.

Petitioner's total income from its investment portfolio during 1958 and 1959 was as follows:

Petitioner's reported gross income in computing its taxable income for 1958 and 1959 included "Interest, Dividends, and Rent" in the respective amounts of $ 557,437.67 and $ 488,516.99 (the figures set forth above less "aggregate net capital gain"). This included the following:

47 T.C. 237">*239 Petitioner, in computing its taxable income, claimed a special deduction for 85 percent of those dividends received by it from domestic corporations which were subject to tax under chapter 1 of the Code. Such deductions amounted to $ 136,6281966 U.S. Tax Ct. LEXIS 13">*20 for the year 1958 and $ 140,715.75 for the year 1959. Petitioner also deducted, in computing its taxable income for the years 1958 and 1959, the respective amounts of $ 215,112.93 and $ 71,236.70 as tax-exempt interest.

Petitioner did not incur, nor did it deduct on its tax returns for the years here involved, any interest on any indebtedness incurred or continued to purchase or carry obligations, the interest on which is exempt from the taxes imposed by subtitle A of the Code.

Petitioner contends that the cost of handling and managing its entire investment portfolio is deductible as an ordinary and necessary business expense. It argues that section 832(c) allows to insurance companies (other than life or mutual) deductions for all ordinary and necessary business expenses as well as deductions for tax-exempt interest and for special deductions, including 85 percent of dividends received from domestic corporations. Therefore, petitioner claims that neither the bar of section 832(e) against the double deduction of "the same item" nor any other section of the 1954 Code prevents it from deducting the investment expenses in question. Petitioner then argues an analogy to the tax treatment1966 U.S. Tax Ct. LEXIS 13">*21 of similar expenses by other types of corporations to demonstrate that Congress did not intend to bar a similar deduction to any corporation taxable under section 11.

Respondent takes the position that the petitioner cannot deduct the prorata portion of its investment expenses attributable to items of interest and dividends which are themselves deducted from gross income in computing taxable income. He claims that this would enable the petitioner to deduct the same amount from gross income twice: First, as tax-exempt and dividends received income and, second, as the expense of managing and handling the income. This, he claims, would be a double deduction of "the same item," specifically prohibited by section 832(e). Respondent notes that Congress may require tax-exempt income to pay its own way, and with almost missionary zeal he makes this the beachhead for maintaining that his adjustment in petitioner's deductible investment expenses reflects an application of this philosophy.

In "Interest, Dividends & Rent" on its corporate tax return, petitioner included $ 215,112.93 in 1958 and $ 71,236.70 in 1959 which were interest on State bonds, etc., and $ 160,738.83 and $ 165,547.94 1966 U.S. Tax Ct. LEXIS 13">*22 in those years which were dividends received from domestic corporations. 47 T.C. 237">*240 It then deducted the interest as tax-exempt income under section 103 ² and took the amounts of $ 136,628 and $ 140,715.75 in those years as special deductions for such dividends under section 243. ³1966 U.S. Tax Ct. LEXIS 13">*23 The parties agree that these deductions are expressly granted to a casualty insurance company, which is taxable under section 831, ⁴ as deductions from gross income under section 832 (c). ⁵

1966 U.S. Tax Ct. LEXIS 13">*24 47 T.C. 237">*241 Petitioner deducted the amounts of $ 23,676.23 in 1958 and $ 24,098.57 in 1959 as costs in the handling and management of its investment portfolio. The parties also agree that these are ordinary and necessary business expenses normally deductible under section 832(c)(1). However, respondent asserts that since petitioner has already taken deductions for the tax-exempt interest and the dividends qualifying under section 243, it can deduct as investment portfolio expenses only that portion which is in the same ratio as nondeductible dividends and rent are to the aggregate "Interest, Dividends & Rent" listed on petitioner's corporate tax returns. Thus respondent argues that of the total investment expenses claimed as deductions by petitioner the amounts of $ 14,939.49 in 1958 and $ 10,455.61 in 1959 should be disallowed to prevent the double deduction prohibited by section 832(e).

Respondent does not contend that the deductions here are barred by section 265 of the 1954 Code. ⁶Section 1.265-1(b)(1), Income Tax Regs., provides that "class of exempt income" means only a class which is wholly excluded from gross income under any provision of subtitle A, and the dividends 1966 U.S. Tax Ct. LEXIS 13">*25 received from domestic corporations which are deductible under section 243 are only partially excluded (only to the extent of 85 percent). Likewise, the Senate amendment which revised section 265 to its present form specifically protected the right to deduct ordinary and necessary business expenses incurred (as distinct from expenses for the production of income under sec. 47 T.C. 237">*242 212) in earning tax-exempt interest. The Senate committee report provides that:

under the present law * * * the interest on State and some classes of Federal securities are exempt from the income tax. It is contended that under the existing law all expenses incurred in the production of such income are allowable as deductions. The House bill specifically disallows expenses of this character. While your committee is in general accord with the House provisions, it is not believed that this disallowance should be made to apply to expenditures incurred in earning tax-exempt interest. To do so might seriously interfere with the sale of Federal and State securities, which would be unfortunate during the present emergency. Accordingly, your committee recommends that the disallowance be applied to 1966 U.S. Tax Ct. LEXIS 13">*26 all classes of tax-exempt income except interest. Thus, a bank or other financial institution will not be denied a deduction for expenses incurred in earning tax-exempt interest. [Emphasis added. S. Rept. No. 558, 73d Cong., 2d Sess., pp. 26-27 (1934), 1939-1 C.B. (Part 2) 606.]

1966 U.S. Tax Ct. LEXIS 13">*27 We need not ponder this issue like a jeweler searching for flaws. Applying the principle of Commissioner v. Brown, 380 U.S. 563">380 U.S. 563 (1965), that common words are to be given their common and ordinary meaning in interpreting the Internal Revenue Code, we think the plain and ordinary meaning of section 832(e) does not prohibit the deduction of the expenses claimed here. This petitioner has not deducted the same item twice. It has deducted several separate and distinct items. Following the statute, it has deducted interest, which under section 103 would be excluded from income (sec. 832(e)(7)); a special deduction with respect to dividends received, as determined under section 243 (sec. 832(c)(12)); and all ordinary and necessary business expenses incurred, as provided by section 162 (sec. 832(c)(1)). The pattern of deductions set forth in section 832(c) gives no indication that each and every one of these items (as well as the others listed therein) is not to be deducted in full. Within section 832(c) the only limitations on the itemized deductions are built into the separate paragraphs and in no way modify or limit other paragraphs in that section. 1966 U.S. Tax Ct. LEXIS 13">*28 ⁷ We believe the petitioner has kept faith with the statutory scheme and has not deducted the same item more than once. Three totally different kinds of items were deducted under three different paragraphs of section 832(c). Therefore, even under the most strained interpretation of section 832(e), this seems permissible.

Sections 1.832-2(a) and 1.832-5(a), Income Tax Regs., set forth respondent's position with respect to the deductions which an insurance company (other than life or mutual) may take. They provide:

(a) The deductions allowable are specified in section 832(c) and by reason of the provisions of section 832(c) (10) and (12) include in addition certain deductions provided in sections 161, 241 and1966 U.S. Tax Ct. LEXIS 13">*29 following. The deductions, however, are 47 T.C. 237">*243 subject to the limitation provided in section 265, relating to expenses and interest in respect of tax-exempt income. * * * For the purposes of section 172, relating to net operating loss deduction * * * the allowable deductions shall be those allowed by section 832(c) with the exceptions and limitations set forth in section 172(d). [Emphasis supplied.]

It is noteworthy that while the Commissioner's regulations under section 832 state that the deductions permitted by section 832(c) are subject to the limitations of sections 265 and 172, they do not mention section 832(e) as a further limitation. Indeed, none of the regulations under section 832 mention section 832(e), let alone as a limiting factor of the significance he now urges. Hence we view with skepticism any attempt by the respondent to use section 832(e) to limit the deductions specifically permitted by section 832(c).

The substantially identical predecessors of section 832(e) have been considered in three cases, all of which dealt with foreign insurance companies doing business in this country. See Commercial Union Assurance Co., Ltd., 1 T.C. 1166">1 T.C. 1166 (1943),1966 U.S. Tax Ct. LEXIS 13">*30 modified and affirmed 144 F.2d 994 (C.A. 2, 1944), and reversed and remanded on other grounds 151 F.2d 98 (C.A. 2, 1945); Royal Insurance Co., Ltd., 38 B.T.A. 955">38 B.T.A. 955 (1938); and London & Lancashire Insurance Co., Ltd., 34 B.T.A. 295">34 B.T.A. 295 (1936). In each of these cases the issue related to the proper method of pro rating between United States and foreign source "gross income" the British taxes and home office expenses incurred for the benefit of both sources but not specifically allocable to either. All three taxpayers, in arriving at taxable income, deducted their tax-exempt interest and the special deductions for dividends received from domestic corporations. They then claimed the right to add these amounts back into their U.S. gross income in determining the portion of the disputed expenses and taxes which were deductible on their corporate returns under the formula prescribed by the Commissioner. ⁸ It was held in each case that the use of this allocation formula in the manner advocated by the foreign insurance companies would give rise to a double deduction of "the 1966 U.S. Tax Ct. LEXIS 13">*31 same item" such as was then prohibited by section 204(e) of the Revenue Act of 1928 (a forerunner to sec. 832(e)). In so holding, the application of section 204(e) was extended. For example, 47 T.C. 237">*244 in Commercial Union Assurance Co.v. Commissioner, 144 F. 2d at 996, the Court of Appeals said:

Subsection (e) is general in language and its operation is not confined to the deductions expressly dealt with in the section of which it is a part. It broadly forbids deductions of the same item twice and prohibits the taking of a second deduction attributable in whole or in part to the same item and thus eliminates the possibility of double deductions.

1966 U.S. Tax Ct. LEXIS 13">*32 Respondent contends that under this construction of section 204(e) (now sec. 832(e)) the petitioner has claimed a double deduction in its attempt to take not only deductions for its tax-exempt interest income and the dividends received from domestic corporations but also deductions for the costs of producing them. This, he argues, is analogous to the attempt in the foreign insurance cases to deduct British taxes and home office expenses attributable to tax-exempt interest and domestic dividends after excluding the interest and dividends in ascertaining United States "taxable gross income"; and that those cases control this case.

We disagree with respondent's interpretation of these foreign insurance cases. By their construction of section 204(e), this Court and the Court of Appeals wanted to prevent the use of the same item twice in seeking two deductions. Each of the foreign insurance companies deducted tax-exempt interest and domestic dividends in arriving at U.S. taxable income. They then wanted to include them in gross income for the purpose of determining the allocable portion of general expenses to U.S. source income under the formula provided by section 119 (see fn. 8, 1966 U.S. Tax Ct. LEXIS 13">*33 supra). The net effect was to deduct such items for one purpose and add them back to create another deduction. That the courts had the prevention of this type of transaction in mind when they invoked section 204(e) is borne out by a close examination of the following language which construed the words "same item" as used in that section:

To be sure, the two deductions are not exactly the same because what we shall call the first [that allowable under subsection (a)(2)(A) and (B)] frees the entire amount from taxation while that allowable under sec. 232 frees additional income from taxation only to the extent that the sums first deducted are used to increase the ratio by which this amount of the second is determined. But this difference exists only in the manner of computing the amount of a second deduction on account of the same item. [Emphasis added. Commercial Union Assurance Co.v. Commissioner, 144 F. 2d at 996.]

Similarly, this Court examined only the proper method of finding the portion of general expenses allocable to "taxable gross income from sources within the United States" when it said:

To allow any greater portion1966 U.S. Tax Ct. LEXIS 13">*34 of the home office expenses and British taxes would be in effect allowing the same item to be deducted twice, which is prohibited by section 204(e). [Emphasis added. 34 B.T.A. 295">London & Lancashire Insurance Co., Ltd., supra at 299. See also 38 B.T.A. 955">Royal Insurance Co., Ltd., supra at 960.]

47 T.C. 237">*245 There was no mention of using section 204(e) to limit deductions which were expressly granted by section 204(c), but only to prohibit the inclusion of items of income, previously deducted, in arriving at a statutory formula to allocate general expense deductions between domestic and foreign income sources. It is also significant that to the extent investment expenses, such as those here involved, were directly related to U.S. source income, they were allowed in toto as deductions without challenge by the Commissioner. This lends credence to the fact that section 832(e) was not intended to be the means of denying deductions of business expenses which relate to items of income themselves deductible under section 832(c).

Petitioner relies heavily on Pink v. United States, 105 F.2d 183 (C.A. 2, 1939), 1966 U.S. Tax Ct. LEXIS 13">*35 affirming an unreported case ( E.D.N.Y. 1938, 21 A.F.T.R. (RIA) 1286, 37-2U.S.T.C. par. 9441). While the Pink case is not squarely in point, it at least shows the willingness of the Court to permit deductions based on items not included in taxable income, In Pink, the taxpayer's business consisted of insuring titles to real estate and guaranteeing real estate mortgages. In accordance with an earlier Supreme Court decision, ⁹ such business was taxable as an insurance company under section 246 (the predecessor in part to secs. 831 and 832(a) and (b)). Certain of its fees and charges were excludable from gross income, a loophole that was later closed by an amendment to the Revenue Act of 1932 ¹⁰ revising the definition of gross income of insurance companies. Since these fees and charges were not includable in gross income, there was no need to deduct them under section 247(a) (the predecessor in part to sec. 832(c)). The Court then found that the taxpayer could deduct expenses in earning this exempt income since section 247(a) (1) permitted the deduction of all ordinary and necessary business expenses, not just those incurred in producing1966 U.S. Tax Ct. LEXIS 13">*36 taxable income. Although the Court did not discuss the applicability of section 247(c) (the predecessor to sec. 832(e)) because there was no deduction of the excluded income under the statute before expenses attributable thereto were deducted, the rationale of permitting a deduction for all ordinary and necessary business expenses, regardless of whether used to produce taxable or exempt income, is certainly applicable to this case.

The respondent cites United States v. Atlas Insurance Co., 381 U.S. 233">381 U.S. 233, 381 U.S. 233">247 (1965), for the proposition that "the tax laws may require tax-exempt income to pay its way." But there the Supreme Court was examining the validity of a specific statutory formula which saddled taxable and exempt income with equal shares of the company's obligation to its policyholders. Likewise, in the foreign insurance cases, 1966 U.S. Tax Ct. LEXIS 13">*37 the courts ascertained the meaning of a statutory formula for 47 T.C. 237">*246 allocating general expenses between domestic and foreign source "gross" income. Here, however, Congress has not devised a statutory formula to make "tax-exempt income pay its way." It has given to insurance companies (other than life and mutual) the specific cumulative deductions listed in section 832(c), including all ordinary and necessary business expenses under section 832(c)(1); it has limited the prohibition against a double deduction under section 832(e) to only the double deduction of "the same item;" and, as explained in the Senate Finance Committee report, an exception was made as to interest under section 265(1) so that businesses would not be denied a deduction for expenses incurred in earning tax-exempt interest. ¹¹ None of these provisions indicate an intent by Congress to make tax-exempt interest and deductible domestic dividends earned by insurance companies (other than life and mutual) pay their way, even though it is clear that Congress could have created such a requirement if it had so desired.

1966 U.S. Tax Ct. LEXIS 13">*38 There is no pervasive legislative mandate to make tax-exempt interest and partially exempt dividend income pay its own way. While barring the deduction of otherwise deductible expenses allocable to income wholly exempt from taxes, section 265(1) excepts interest and partially exempt income from its sweep. Nor is there any other provision under the 1954 Code which would bar the deductions in question to domestic corporations subject to the tax imposed by section 11. Moreover, there is no indication that the respondent has challenged the type of deductions here involved in any other area despite obvious opportunities to do so, as in the case of banks, investment companies, and personal holding companies. To be sure, in those instances where the allowance of deductions for both business expenses and dividends received has been considered by Congress to be inappropriate for a particular computation, it is generally the latter deduction which has given way. ¹²1966 U.S. Tax Ct. LEXIS 13">*39 And in those instances where the deduction of expenses under section 162 has been limited by Congress, the purpose has been clearly and unequivocally expressed. ¹³

47 T.C. 237">*247 Accordingly, we hold that the petitioner can deduct expenses relating to tax-exempt interest income and dividends received from domestic corporations, even though it can also deduct the interest and special dividends under section 832(c). In our opinion the cumulative deductions of section 832(c) (1), (7), and (12) are not "the same item" within the meaning of that term as used in section 832(e). Under these circumstances Congress has not chosen to exercise its power to make tax-exempt income pay its way. Consequently, the investment expenses incurred by petitioner in the years 1958 and 1959 are allowable in the full amounts claimed by it on its1966 U.S. Tax Ct. LEXIS 13">*40 Federal tax returns.

Decision will be entered under Rule 50.

Withey, J., concurring: I concur in the result reached by the majority for the reason that there do not appear to be two deductions with respect to interest income of the petitioner. Section 103 of the 1954 Code provides that "Gross income does not include interest on" three classes of governmental obligations. Section 832(c)(7) provides, in words, for a deduction of "the amount of interest earned during the taxable year which under section 103 is excluded from gross income." Even though the latter section refers to such interest broadly and generally as one of the "deductions allowed" and that they "shall be allowed as deductions," I do not understand that this is the deduction referred to in subsection (e) of section 832, as the interest received was never a part of gross income and therefore could not be a deduction therefrom in that sense. Such receipts never having been income would not in the normal course of events be included in gross income except for the special accounting provisions imposed upon insurance companies such as petitioner. Once having nevertheless included such income, it is necessary1966 U.S. Tax Ct. LEXIS 13">*41 to so adjust gross income as to comply with section 103 and the drafters of the statute seem to have referred to this process as a deduction. Such a "deduction" cannot normally in my estimation be one of the deductions referred to in subsection (e).