Entity information:
NOTE 3

INCOME TAXES

Deferred income taxes reflect temporary differences between the valuation of assets and liabilities for financial and tax reporting.  Pursuant to the enactment of the TCJA, the Company adjusted its existing deferred income tax balances as of December 31, 2017 to reflect the decrease in the corporate income tax rate from 34% to 21%, which resulted in a decrease in the net deferred income tax liability of approximately $23.5 million.  Artesian Resources recorded a net benefit to continuing operations of approximately $1.0 million, while the regulated utility subsidiaries recorded a regulatory liability related to deferred income taxes to be passed through to customers in the form of reduced tariff rates or approved DSIC rate (see Note 1) in the amount of approximately $22.5 million. The amount and timing of potential settlements of the established net regulatory liabilities will be determined by the utilities' respective rate regulators, subject to certain Internal Revenue Service normalization rules. The normalization rules require that the benefits to customers be spread over the remaining useful life of the underlying assets giving rise to the associated deferred income taxes.

At December 31, 2017, for federal income tax purposes, there were alternative minimum tax credit carry-forwards aggregating $1.8 million resulting from the payment of alternative minimum tax in prior years.  Effective January 1, 2018, these alternative minimum tax credit carry-forwards are available for refund. The Company has reclassified all of its AMT credits into the current tax receivable as of December 31, 2017 since they are expected to be utilized in 2018.

As of December 31, 2017, Artesian Resources had fully utilized all of its federal net operating loss carrybacks and carry-forwards. As of December 31, 2017, Artesian Resources has separate company state net operating loss carry-forwards aggregating approximately $15.4 million. These net operating loss carry-forwards will expire if unused between 2019 and 2038. Artesian Resources has recorded a valuation allowance to reflect the estimated amount of deferred tax assets that may not be realized due to the expiration of the state net operating loss carry-forwards. The valuation allowance increased to approximately $360,000 in 2017 from approximately $286,000 in 2016. Management believes that it is more likely than not that the Company will realize the benefits of these net deferred tax assets.

Components of Income Tax Expense
  
In thousands
For the Year Ended December 31,
 
State income taxes
2017
  
2016
  
2015
 
Current
 
$
489
  
$
1,050
  
$
499
 
Deferred
  
1,368
   
860
   
1,299
 
Total state income tax expense
 
$
1,857
  
$
1,910
  
$
1,798
 
 
  
 
For the Year Ended December 31,
 
Federal income taxes
  
2017
   
2016
   
2015
 
Current
 
$
(1,418
)
 
$
1,799
  
$
2,168
 
Deferred
  
6,856
   
4,622
   
3,818
 
Total federal income tax expense
 
$
5,438
  
$
6,421
  
$
5,986
 

Reconciliation of effective tax rate:
 
 
For the Year Ended December 31,
 
In thousands
2017
 
2017
 
2016
 
2016
 
2015
 
2015
 
 
Amount
 
Percent
 
Amount
 
Percent
 
Amount
 
Percent
 
Reconciliation of effective tax rate
            
Income before federal and state income taxes
 
$
21,278
   
100.0
%
 
$
21,285
   
100.0
%
 
$
19,088
   
100.0
%
 
                        
Amount computed at statutory rate
  
7,234
   
34.0
%
  
7,237
   
34.0
%
  
6,490
   
34.0
%
Reconciling items
                        
State income tax-net of federal tax benefit
  
1,297
   
6.1
%
  
1,327
   
6.2
%
  
1,214
   
6.4
%
Federal rate change
  
(957
)
  
(4.5
%)
  
--
   
--
   
--
   
--
 
Other
  
(279
)
  
(1.3
)%
  
(233
)
  
(1.1
)%
  
80
   
0.4
%
Total income tax expense and effective rate
 
$
7,295
   
34.3
%
 
$
8,331
   
39.1
%
 
$
7,784
   
40.8
%

Deferred income taxes at December 31, 2017, 2016, and 2015 were comprised of the following:

 
 
For the Year Ended December 31,
 
In thousands
 
2017
  
2016
  
2015
 
 
         
Deferred tax assets related to:
         
Federal alternative minimum tax credit carry-forwards
 
$
-
  
$
2,474
  
$
3,971
 
Federal and state operating loss carry-forwards
  
1,094
   
752
   
675
 
Bad debt allowance
  
80
   
104
   
110
 
Valuation allowance
  
(360
)
  
(286
)
  
(182
)
Stock options
  
207
   
452
   
415
 
Other
  
161
   
320
   
291
 
Total deferred tax assets
 
$
1,182
  
$
3,816
  
$
5,280
 
 
            
Deferred tax liabilities related to:
            
Property plant and equipment basis differences
 
$
(52,629
)
 
$
(70,711
)
 
$
(66,508
)
Bond retirement costs
  
(1,437
)
  
0
   
0
 
Uncertain tax position
  
(145
)
  
(80
)
  
(247
)
Expenses of rate proceedings
  
(8
)
  
(19
)
  
(213
)
Property taxes
  
(500
)
  
(663
)
  
(527
)
Other
  
(600
)
  
(796
)
  
(756
)
Total deferred tax liabilities
 
$
(55,319
)
 
$
(72,269
)
 
$
(68,251
)
 
            
 
            
Net deferred tax liability
 
$
(54,137
)
 
$
(68,453
)
 
$
(62,971
)

Schedule of Valuation Allowance
 
 
Balance at Beginning of Period
 
Additions
Charged to Costs and Expenses
 
Deductions
 
Balance at End of Period
 
In thousands
        
 
        
Classification
        
For the Year Ended December 31, 2017 Valuation allowance for deferred tax assets
 
$
286
  
$
74
   
—
  
$
360
 
For the Year Ended December 31, 2016 Valuation allowance for deferred tax assets
 
$
182
  
$
104
   
—
  
$
286
 
For the Year Ended December 31, 2015 Valuation allowance for deferred tax assets
 
$
65
  
$
117
   
—
  
$
182
 

Under FASB ASC Topic 740, the Company established two reserves for uncertain tax positions based upon management's judgment as to the sustainability of these positions.

In 2014, the Company changed its tax method of accounting for qualifying utility system repairs effective with the tax year ended December 31, 2014 and for prior tax years. The tax accounting method was changed to permit the expensing of qualifying utility asset improvement costs that were previously being capitalized and depreciated for book and tax purposes. The Company will recognize a tax deduction on its 2017 Federal tax return when filed of $4.5 million for qualifying capital expenditures made during the year.

In December 2015, the Company was notified by the IRS that its Federal tax filing for 2014 would be reviewed along with the effects of the net operating loss generated in 2014 and carryback to the 2012 and 2013 tax years.  This review, which began in the first quarter of 2016 and was completed in the second quarter of 2016, resulted in no change to the tax liability.  Since the Company had previously recorded a provision for the possible disallowance of a portion of the repair deduction in prior periods, the completion of the audit resulted in the reversal of the reserve, including interest and penalties, in the amount of approximately $201,000.  While the Company maintains the belief that the deduction taken on its tax return is appropriate, the methodology for determining the deduction has not been agreed to by the tax authorities.  Therefore, as required by FASB ASC 740, the Company reserved an additional liability related to a portion of the repair deduction for 2017.

Additionally, the Company reserved a liability related to the difference in the tax depreciation utilizing the half-year convention rather than the mid-quarter convention.

The following table provides the changes in the Company's uncertain tax position:

  
For the years ended December 31,
 
In thousands
 
2017
  
2016
 
Balance at beginning of year
 
$
80
  
$
247
 
Additions based on tax positions related to the current year 
  
118
   
23
 
Additions based on tax positions related to prior years
  
8
   
11
 
Reductions for tax positions of prior years
  
-
   
(201
)
Settlements
  
-
   
-
 
Federal tax rate change
  
(61
)
    
Lapses in Statutes of Limitations
  
-
   
-
 
Balance at end of year
 
$
145
  
$
80