All life annuities sold by life insurance companies may be considered to be of the funded type. The annuities must be valued at least once a year and the company must demonstrate that it has reserves at least equal to the value of the annuities. In arriving at these values, the actuary uses a factor for a life annuity of one per year as in valuing any other type of annuity.2

Private Business Annuities

Many employers have established deferred-compensation plans, which provide that after a specified date, e.g., when the employee is 65 years of age, he will be paid a specified amount of deferred compensation for as long as he may live, in recognition solely of past services. However, the arrangements frequently provide that the recipient of the deferred compensation will not work for any other employer and will not disclose any trade secrets.

Employers have also set up plans for employees specifying that if an employee becomes disabled a certain amount of disability income will be payable to him. Usually, the payments will stop if he dies or ceases to be disabled. Sometimes they will stop when he reaches a normal retirement age and then becomes eligible for benefits under the retirement system. A life annuity that will stop in any event at a certain specified time in the future is called a temporary life annuity.

Employers additionally arrange to pay life annuities directly to employees without using a life insurance company or a pension trust. The arrangements take a multitude of forms. Since they are not subject to the same statutes regulating pension trusts or life insurance contracts, they assume many different forms, but all have one feature in common: Definite arrangements are made to pay a certain sum periodically to the employee through the remainder of his lifetime.

These annuities by employers are sometimes funded and sometimes unfunded, or the employer may partially fund, i.e., the employer may set aside a certain reserve with the knowledge that it is probably not equal to the true value of the annuities that have been established. In any event, the employee is relying primarily on the promise and ability of the employer to keep up the payments.

In establishing life annuities for employees directly and in establishing deferred-compensation plans, an employer will occasionally reinsure itself by taking out an annuity contract from an insurance company.

23 For a complete discussion of the valuation of life annuities see Smail, Mathematics of Finance 155-68 (1953).

These annuity contracts from the insurance company are the absolute property of the employer. All benefits are payable to the employer. The employer in turn makes the promise to pay the deferred compensation as a life annuity to the employee. After the employee has started to receive payments, a novation is sometimes consummated by having the employer transfer all of his rights in the annuity contract purchased from the life insurance company directly to the employee so that thereafter the employee looks to the life insurance company rather than the employer for the payment.

Favorable tax treatment of pension plans which qualify under the provisions of the Internal Revenue Code24 has caused a striking growth in the number and size of this type of employee pension plans in private business. Under these plans funds are set aside in accordance with the trust agreement usually under the administration of a bank or trust company. At the end of 1958, the reserves set aside under trusteed pension plans amounted to $22.1 billion.25

Annuities Arising Out of Private Transaction

As the result of a private transaction, individuals often arrange for an annuity to be paid to one of the parties. Thus, a farm may be purchased under an agreement whereby the purchaser agrees to pay a specified life annuity to the seller or he may arrange to permit the seller to live in the farm house for the rest of his life.26 One partner may desire to retire from a business and the other two partners may arrange to pay him a life annuity in consideration of the relinquishment of his interest in the business.27 Annuities of this type are entirely proper and have been arranged in a multitude of different ways. Sometimes the annuities have been fixed in amount and sometimes they have been variable, although care must be taken to distinguish the difference between a variable annuity in these cases and payments of profits or income.28

Many individuals in the past have provided life annuities for faithful retainers—a favorite device of Andrew Carnegie. In his later years Carnegie paid out nearly a quarter million dollars a year to some 500

24 Int. Rev. Code of 1954, § 401(a).

25 SEC Release at 6.

26 Nehls v. Sauer, 119 Iowa 440, 93 N.W. 346 (1903).

27 Bacon v. Commissioner of Corps. & Taxation, 266 Mass. 547, 165 N.E. 664 (1929). 28 The traditional distinction between these two as set out in Dwight Estate, 389 Pa. 520, 525, 134 A.2d 45, 48 (1957) must be discarded in view of the uncertain nature of payment of a variable annuity.

annuitants. Often such annuities are payable under a gift inter vivos. In 1906 Carnegie, for example, established the Carnegie Foundation for the Advancement of Teaching to pay life annuities to a group of college teachers. This foundation has now paid out over $72 million in annuity benefits.

Individuals have created life annuities by legacies,29 by gift inter vivos30 and by contract.31 Testamentary trusts have been established to pay life annuities to certain designated beneficiaries.32 Courts have had to decide whether, under the terms of a will, arrangements for periodic payments were annuities or merely the payment of a life income.33 One of the easiest tests to use in such a case is to determine whether a fixed number of dollars is payable periodically (presumably more than the expected income or profits on the designated fund).34 It has been argued that a variable annuity could not be an annuity because the word "annuity" had been used and understood to mean a series of guaranteed periodic payments fixed in amount to continue for a life or for some other specified period.3

35

But the seemingly rigid concept of annuities as being of fixed-dollar amount in the will cases resulted from the effort to distinguish them in many fact situations from provisions to make periodic payments of income or profits which would necessarily fluctuate in amount. The courts were not attempting to define the word "annuity" as used in a different context and in connection with a different set of facts. One writer has reviewed the cases and has reached this same conclusion.36 He argued that the word "annuity" as found in the applicable statutes should be given a broad and expanding interpretation, referring to the classic statement of Mr. Justice Holmes: "A word is not a crystal, transparent and unchanged, it is the skin of a living thought and may vary greatly

29 MacMackin Estate, 356 Pa. 189, 51 A.2d 689 (1947).

30 The Carnegie Foundation for the Advancement of Teaching is an outstanding example of this type of annuity. The Foundation awards life annuities to college professors and their widows on strictly a gift basis.

31 Bacon v. Commissioner of Corps. & Taxation, 266 Mass. 547, 165 N.E. 664 (1929). 32 In re McKenna's Estate, 173 Misc. 579, 18 N.Y.S.2d 482 (Surr. Ct. 1940).

33 E.g., Clayes v. Nutter, 49 Cal. App. 148, 192 Pac. 870 (Dist. Ct. App. 1920) (income); In re Kaegebehn's Estate, 16 N.J. Misc. 388, 1 A.2d 56 (Orphans' Ct. 1938) (annuity).

34 See Dwight Estate, 389 Pa. 520, 134 A.2d 45 (1957).

35 Bellinger, Hagmann & Martin, The Meaning and Usage of the Word "Annuity," 9 J. Am. Soc'y C.L.U. 261 (1955).

36 Day, A Variable Annuity Is an Annuity, 1955 Ins. L.J. 775.

in color and content according to the circumstances and the time in which it is used."'87

Annuities by Educational Institutions

At one time many colleges encouraged large donations with an agreement to pay back a life annuity to the donor. The parties assumed that the present value of the annuity would be less than the donation. As these annuities were written on an individual basis, the actual amounts paid out by the college could exceed the amount of the donation. This is probably the reason why this procedure is used less frequently today than in the past. This experience serves to emphasize the fact that when life annuities are written on an individual basis with no attempt to rely on averaging out the experience of a number of annuitants the grantor of the annuity takes a considerable risk.

Life Care Plans

Many old-age homes have established "life care," sometimes called "life membership," plans, which call for the payment to the home of a certain amount of money or property and in exchange the home agrees to give a certain amount of service for the lifetime of the person making the payment. There is little uniformity among these plans. In some instances, the home has a substantial endowment and the amount of the money or property turned over to the home is not intended to pay all of the costs to the home for providing the life care. In other instances, the home operates on nearly a self-sustaining basis and attempts to charge enough to pay for the cost of the services.

Such a contract came before the Nebraska Supreme Court in Dalton v. Florence Home for the Aged.38 In this case a nonprofit home for the aged accepted from the applicant $13,354 in exchange for a contract of life membership. The amount charged was based on his life expectancy at age 61 multiplied by $900. He died soon thereafter. The court held that his estate was not entitled to recover any of the money from the home, stating:

This contract provided that the Home would receive the deceased and would provide him "with proper food, lodging, care and the usual nursing and medical attention. . . ."

That public policy does not forbid the purchase of an annuity does not need citation of authority. By the payment of a sum in gross the annuitant obtains a certain sum of money annually as long as he lives. There is no difference in prin

37 Towne v. Eisner, 245 U.S. 418, 425 (1918).

38 154 Neb. 735, 49 N.W.2d 595 (1951).

ciple between receiving a sum of money annually for life and that of receiving a home, including board and room, for life. The adequacy of the consideration is determined at the time the contract is made.39

As is the usual situation in most states, the Florence Home was not classified as a life insurance company under Nebraska law.

Briefly then, life annuities may emanate from the government, from employers, from individuals, from life insurance companies, from colleges and from old-age homes. They may be funded or unfunded, contributory or noncontributory. They may charge personal property, real property, or the person of the grantor only. They may be payable in dollars, in a foreign currency convertible into dollars, in commodities or in service. The main characteristics of the life annuity are that the payments are made at regular periodic intervals during a person's lifetime and that they are more than a mere payment of rent or profits on a fund.

II

NATURE AND FORM OF ANNUITIES

One feature of the life annuity has puzzled many students. There seems to be a mysterious disappearance or a shift of property when an annuitant dies. This difficulty can be most easily resolved by thinking of the annuity as a chose in action,40 i.e., as similar to a mere right to recover a debt or to redress a wrong by a suit at law. To illustrate, assume that a life annuity is created by legacy. The annuitant dies and immediately prior to his death the annuity might have been valued by conventional methods at $10,000. The question becomes, what happened to the $10,000? Does the value shift to the executor of the estate of the grantor? By thinking of the annuity as a chose in action one can more easily grasp the fact that there was no shift of property at the death of the annuitant. What the annuitant had during his lifetime was a mere legal right contingent upon his living and that at his death the right terminated without further value. The property rights as between the annuitant and the grantor's executor are fixed at the time the annuity payments begin, not when they cease. The executor received the estate property subject to the claim of the annuitant, but the latter's claim was contingent in nature and was limited to the property that had been transferred. Therefore, the annuity was a charge against the personal property and not against the executor.

39 Id. at 737, 49 N.W.2d at 597.

40 American Bible Soc'y v. Chase, 340 Ill. App. 548, 560, 92 N.E.2d 332, 338 (1950); Ball v. Ball, 136 W. Va. 852, 858, 69 S.E.2d 55, 59 (1952).