Income Taxes
The Act was enacted on December 22, 2017 and ASC 740 required Peoples to reflect the changes associated with the Act’s provisions in the fourth quarter of 2017. The Act is complex and has extensive implications for Peoples' federal taxes. At December 31, 2017, Peoples completed the accounting for the tax effects of enactment of the Act; however, in certain cases as described below, Peoples made reasonable estimates of the effects of a reduced federal tax rate on its existing deferred tax balances. In other cases, Peoples has not been able to make a reasonable estimate and continued to account for those items based on its existing accounting under ASC 740, and the provisions of the tax laws that were in effect immediately prior to enactment. For the items for which Peoples was able to determine a reasonable estimate, Peoples recognized a provisional amount of $0.9 million, which is included as a component of income tax expense from continuing operations. In all cases, Peoples will continue to make and refine its calculations during the remeasurement period as additional analysis is completed. In addition, these estimates may also be affected as Peoples gains a more thorough understanding of the tax law.
The reported income tax expense and effective tax rate in the Consolidated Statements of Income differs from the amounts computed by applying the statutory corporate tax rate as follows for the years ended December 31:
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| | | | | | | | | | | | | | | | | | |
(Dollars in thousands) | | 2017 | | 2016 | | 2015 |
| | Amount | Rate | | Amount | Rate | | Amount | Rate |
Income tax computed at statutory federal tax rate | | $ | 20,045 |
| 35.0 | % | | $ | 15,785 |
| 35.0 | % | | $ | 5,051 |
| 34.1 | % |
Differences in rate resulting from: | | | | | | | | | |
Tax-exempt interest income | | (1,092 | ) | (1.9 | )% | | (1,170 | ) | (2.6 | )% | | (1,109 | ) | (7.5 | )% |
Investments in tax credit funds | | (221 | ) | (0.4 | )% | | (164 | ) | (0.4 | )% | | (123 | ) | (0.8 | )% |
Bank owned life insurance | | (683 | ) | (1.2 | )% | | (495 | ) | (1.1 | )% | | (204 | ) | (1.4 | )% |
Other, net (1) | | 683 |
| 1.2 | % | | 169 |
| 0.4 | % | | 260 |
| 1.8 | % |
Income tax expense | | $ | 18,732 |
| 32.7 | % | | $ | 14,125 |
| 31.3 | % | | $ | 3,875 |
| 26.2 | % |
(1) For 2017, the write down on net deferred tax assets of $0.9 million was as a result of the recently-enacted Tax Cuts and Jobs Act, to value the net deferred tax asset at 21%.
Peoples' reported income tax expense consisted of the following for the years ended December 31:
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| | | | | | | | | | | | |
(Dollars in thousands) | | 2017 | | 2016 | | 2015 |
Current income tax expense | | $ | 21,511 |
| | $ | 16,587 |
| | $ | 5,457 |
|
Deferred income tax (benefit) expense | | (2,779 | ) | | (2,462 | ) | | (1,582 | ) |
Income tax expense | | $ | 18,732 |
| | $ | 14,125 |
| | $ | 3,875 |
|
The significant components of Peoples' deferred tax assets and liabilities consisted of the following at December 31:
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| | | | | | | | |
(Dollars in thousands) | | 2017 | | 2016 |
Deferred tax assets: | | | | |
Allowance for loan losses | | $ | 6,992 |
| | $ | 12,578 |
|
Accrued employee benefits | | 2,569 |
| | 3,826 |
|
Investments | | 1,560 |
| | 2,884 |
|
Bank premises and equipment | | — |
| | 349 |
|
Available-for-sale securities | | 555 |
| | — |
|
Other | | 116 |
| | 1,190 |
|
Gross deferred tax assets | | $ | 11,792 |
| | $ | 20,827 |
|
Valuation allowance | | 805 |
| | 1,341 |
|
Total deferred tax assets | | $ | 10,987 |
| | $ | 19,486 |
|
Deferred tax liabilities: | | | | |
|
Purchase accounting adjustments | | $ | 6,092 |
| | $ | 10,845 |
|
Deferred loan income | | 2,459 |
| | 3,181 |
|
Derivative instruments | | 300 |
| | — |
|
Bank premises and equipment | | 307 |
| | — |
|
Available-for-sale investment securities | | — |
| | 312 |
|
Other | | 484 |
| | 1,305 |
|
Total deferred tax liabilities | | $ | 9,642 |
| | $ | 15,643 |
|
Net deferred tax asset | | $ | 1,345 |
| | $ | 3,843 |
|
The tax loss carryforward related to the NB&T acquisition at December 31, 2015 will be recognized in accordance with 26 U.S. Code §382 limitation of net operating loss carry forward guidance. As of December 31, 2017, Peoples had a gross operating loss carryforward of approximately $348,000 for tax purposes, which will be available to offset future taxable income. If not used, this carryforward will expire in 2035.
The $805,000 valuation allowance was related to a partnership investment and was recorded for deferred tax assets at December 31, 2017, as it was and remains more likely than not that the $3.8 million of gross deferred tax assets may not be realized in future periods.
The federal income tax expense on securities transactions approximated $1.0 million in 2017, $326,000 in 2016 and $255,000 in 2015.
Income tax benefits are recognized in the Consolidated Financial Statements for a tax position only if it is considered "more likely than not" of being sustained on audit, based solely on the technical merits of the income tax position. If the recognition criteria are met, the amount of income tax benefits to be recognized are measured based on the largest income tax benefit that is more than 50 percent likely to be realized on ultimate resolution of the tax position. The following table provides a reconciliation of uncertain tax positions at December 31:
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| | | | | | | |
(Dollars in thousands) | | 2017 | 2016 |
Uncertain tax positions, beginning of year | | $ | 522 |
| $ | 417 |
|
Gross increase based on tax positions related to current year | | 42 |
| 113 |
|
Gross increase for tax position taken during prior years | | 20 |
| 45 |
|
Gross decrease for tax positions taken during prior years | | — |
| — |
|
Gross decrease due to the statute of limitations | | (34 | ) | (53 | ) |
Uncertain tax positions, end of year | | $ | 550 |
| $ | 522 |
|
Peoples' income tax returns are subject to review and examination by federal and state taxing authorities. Peoples is currently open to audit under the applicable statutes of limitations by the Internal Revenue Service for the years ended December 31, 2014 through 2016. The years open to examination by state taxing authorities vary by jurisdiction.