Income Taxes
Income tax expense amounted to $60.5 million, $59.0 million and $23.3 million for the years ended December 31, 2017, 2016 and 2015, respectively. Our effective tax rates for 2017, 2016 and 2015 were 30.3%, 27.9% and 14.8%, respectively.
The Company has not completed its accounting for the income tax effects of the 2017 Tax Act. Where the Company has been able to make reasonable estimates of the effects for which its analysis is not yet complete, the Company has recorded provisional amounts in accordance with SEC Staff Accounting Bulletin No. 118. Where the Company has not yet been able to make reasonable estimates of the impact of certain elements, the Company has not recorded any amounts related to those elements and has continued accounting for them in accordance with ASC 740 on the basis of the tax laws in effect immediately prior to the enactment of the 2017 Tax Act.
The Company’s accounting for the following elements of the 2017 Tax Act is incomplete. However, the Company was able to make reasonable estimates of certain effects and, therefore, has recorded provisional amounts as follows:
Revaluation of deferred tax assets and liabilities: The 2017 Tax Act reduces the U.S. federal corporate tax rate from 35% to 21% for tax years beginning after December 31, 2017. In addition, the 2017 Tax Act makes certain changes to the depreciation rules and implements new limits on the deductibility of certain executive compensation. The Company has evaluated these changes and has recorded a provisional decrease to net deferred tax liabilities of $33.3 million with a corresponding decrease to deferred tax expense. The Company is still completing its calculation of the impact of these changes on its deferred tax balances.
Transition tax on unrepatriated foreign earnings: The transition tax on unrepatriated foreign earnings is a tax on previously untaxed accumulated and current earnings and profits (“E&P”) of the Company’s foreign subsidiaries. To determine the amount of the transition tax, the Company must determine, among other factors, the amount of post-1986 E&P of its foreign subsidiaries, as well as the amount of non-U.S. income taxes paid on such earnings. The Company was able to make a reasonable estimate of the transition tax and has recorded a provisional transition tax expense of $49.2 million. The Company is continuing to gather additional information to more precisely compute the amount of the transition tax to complete its calculation of E&P as well as the final determination of non-U.S. income taxes paid.
Valuation allowances: The Company must assess whether its valuation allowance analyses for deferred tax assets are affected by various aspects of the 2017 Tax Act (e.g., deemed repatriation of deferred foreign income, future GILTI inclusions, new categories of foreign tax credits). Since, as discussed herein, the Company has recorded provisional amounts related to certain portions of the 2017 Tax Act, any corresponding determination of the need for or change in a valuation allowance is also provisional. Prior to 2017, the Company had recorded valuation allowances for certain tax attributes that the Company estimated were not more likely than not to be utilized prior to their expiration. Based on a preliminary review of its 2017 and future taxable income, the Company has recorded a provisional release of valuation allowance in the amount of $11.9 million with a corresponding deferred tax benefit.
The Company’s accounting for the following elements of the 2017 Tax Act is incomplete, and it has not yet been able to make reasonable estimates of the effects of these items. Therefore, no provisional amounts were recorded.
Global intangible low taxed income (“GILTI”): The 2017 Tax Act creates a new requirement that certain income (i.e. GILTI) earned by foreign subsidiaries must be included currently in the gross income of the U.S. shareholder. Due to the complexity of the new GILTI tax rules, the Company is continuing to evaluate this provision of the 2017 Tax Act and the application of ASC 740. Under U.S. GAAP, the Company is permitted to make an accounting policy election to either treat taxes due on future inclusions in U.S. taxable income related to GILTI as a current-period expense when incurred or to factor such amounts into the Company’s measurement of its deferred taxes. The Company has not yet completed its analysis of the GILTI tax rules and is not yet able to reasonably estimate the effect of this provision of the 2017 Tax Act or make an accounting policy election for the ASC 740 treatment of the GILTI tax. Therefore, the Company has not recorded any amounts related to potential GILTI tax in its financial statements and has not yet made a policy decision regarding whether to record deferred taxes on GILTI.
Indefinite reinvestment assertion: Beginning in 2018, the 2017 Tax Act provides a 100% deduction for dividends received from 10-percent owned foreign corporations by U.S. corporate shareholders, subject to a one-year holding period. Although dividend income is now exempt from U.S. federal tax in the hands of the U.S. corporate shareholders, companies must still apply the guidance of ASC 740-30-25-18 to account for the tax consequences of outside basis differences and other tax impacts of their investments in non-U.S. subsidiaries. While the Company has accrued the transition tax on the deemed repatriated earnings that were previously indefinitely reinvested, the Company was unable to determine a reasonable estimate of the remaining tax liability, if any, under the 2017 Tax Act for its remaining outside basis differences or evaluate how the 2017 Tax Act will affect the Company’s existing accounting position to indefinitely reinvest unremitted foreign earnings. Therefore, the Company has not included a provisional amount for this item in its financial statements for fiscal 2017. The Company will record amounts as needed for this item beginning in the first reporting period during the measurement period in which the Company obtains necessary information and is able to analyze and prepare a reasonable estimate.
The provision for income tax consisted of the following (in thousands):
|
| | | | | | | | | | | |
| Years Ended December 31, |
| 2017 | | 2016 | | 2015 |
Current: | | | | | |
Federal | $ | 55,804 |
| | $ | 46,293 |
| | $ | 21,745 |
|
State | 3,265 |
| | 3,874 |
| | 1,805 |
|
Foreign | 22,904 |
| | 22,612 |
| | 16,816 |
|
Total current | 81,973 |
| | 72,779 |
| | 40,366 |
|
| |
Deferred: | |
| | |
| | |
|
Federal | (15,682 | ) | | (6,822 | ) | | (8,581 | ) |
State | 962 |
| | (330 | ) | | (3,462 | ) |
Foreign | (6,712 | ) | | (6,627 | ) | | (5,040 | ) |
Total deferred | (21,432 | ) | | (13,779 | ) | | (17,083 | ) |
Total provision | $ | 60,541 |
| | $ | 59,000 |
| | $ | 23,283 |
|
A reconciliation of the statutory federal income tax rate with j2 Global’s effective income tax rate is as follows:
|
| | | | | | | | |
| Years Ended December 31, |
| 2017 | | 2016 | | 2015 |
Statutory tax rate | 35 | % | | 35 | % | | 35 | % |
State income taxes, net | 0.8 |
| | 1.1 |
| | 0.3 |
|
Foreign rate differential | (16.1 | ) | | (14.6 | ) | | (15.8 | ) |
Foreign income inclusion | 7.2 |
| | 9.4 |
| | 5.4 |
|
Foreign tax credit | (6.2 | ) | | (5.5 | ) | | (6.1 | ) |
Reserve for uncertain tax positions | 3.9 |
| | 4.7 |
| | (3.3 | ) |
Valuation allowance | (0.9 | ) | | (1.0 | ) | | 1.8 |
|
IRC Section 199 deductions | (1.6 | ) | | (1.1 | ) | | (1.2 | ) |
The 2017 Tax Act - provisional transition tax | 24.6 |
| | — |
| | — |
|
The 2017 Tax Act - tax rate impact on deferred taxes | (16.1 | ) | | — |
| | — |
|
Other | (0.3 | ) | | (0.1 | ) | | (1.3 | ) |
Effective tax rates | 30.3 | % | | 27.9 | % | | 14.8 | % |
The Company’s effective rate for each year is normally lower than the 35% U.S. federal statutory plus applicable state income tax rates primarily due to earnings of j2 Global’s subsidiaries outside of the U.S. in jurisdictions where the effective tax rate is lower than in the U.S.
Deferred tax assets and liabilities result from differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities. Temporary differences and carryforwards which give rise to deferred tax assets and liabilities are as follows (in thousands):
|
| | | | | | | |
| Years Ended December 31, |
| 2017 | | 2016 |
Deferred tax assets: | | | |
Net operating loss carryforwards | $ | 29,317 |
| | $ | 59,806 |
|
Tax credit carryforwards | 2,645 |
| | 16,281 |
|
Accrued expenses | 3,165 |
| | 14,759 |
|
Allowance for bad debt | 1,570 |
| | 2,624 |
|
Share-based compensation expense | 6,476 |
| | 5,631 |
|
Basis difference in fixed assets | 1,881 |
| | 2,195 |
|
Impairment of investments | 48 |
| | 74 |
|
Deferred revenue | 728 |
| | 2,361 |
|
State taxes | 1,777 |
| | 1,758 |
|
Other | 14,165 |
| | 9,227 |
|
| 61,772 |
| | 114,716 |
|
Less: valuation allowance | (197 | ) | | (12,028 | ) |
Total deferred tax assets | $ | 61,575 |
| | $ | 102,688 |
|
| | | |
|
Deferred tax liabilities: | | | |
|
Basis difference in intangible assets | $ | (70,252 | ) | | $ | (98,830 | ) |
Prepaid insurance | (616 | ) | | (246 | ) |
Convertible debt | (27,504 | ) | | (36,592 | ) |
Other | (1,467 | ) | | (2,088 | ) |
Total deferred tax liabilities | (99,839 | ) | | (137,756 | ) |
Net deferred tax liabilities | $ | (38,264 | ) | | $ | (35,068 | ) |
The Company had approximately $61.6 million and $102.7 million in deferred tax assets as of December 31, 2017 and 2016, respectively, related primarily to net operating loss carryforwards, tax credit carryforwards and accrued expenses treated differently between its financial statements and its tax returns. Based on the weight of available evidence, the Company assesses whether it is more likely than not that some portion or all of a deferred tax asset will not be realized. If necessary, j2 Global records a valuation allowance sufficient to reduce the deferred tax asset to the amount that is more likely that not to be realized. The deferred tax assets should be realized through future operating results and the reversal of temporary differences.
As of December 31, 2017, the Company had federal net operating loss carryforwards (“NOLs”) of $102.2 million, after considering substantial restrictions on the utilization of these NOLs due to “ownership changes”, as defined in the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”). j2 Global currently estimates that all of the above-mentioned federal NOLs will be available for use before their expiration. These NOLs expire through the year 2036. The $102.2 million NOL carryforward amount includes $89.1 million acquired pursuant to the Everyday Health transaction.
As of December 31, 2017 and 2016, the Company has foreign tax credits of zero and $11.9 million, respectively. The Company has provided a valuation allowance on the foreign tax credits of zero and $11.9 million, respectively, as the weight of available evidence does not support full utilization of these credits. The foreign tax credits were fully utilized in 2017 as a result of the transition tax on repatriated foreign earnings. If these tax credits were not fully utilized, the foreign tax credits would have expired in the year 2025. In addition, as of December 31, 2017 and 2016, the Company had state research and development tax credits of $2.3 million and $3.5 million, respectively, which last indefinitely.
Certain tax payments are prepaid during the year and included within prepaid expenses and other current assets on the consolidated balance sheet. The Company’s prepaid tax payments were $6.0 million and zero at December 31, 2017 and 2016, respectively.
Uncertain Income Tax Positions
Tax positions are evaluated in a two-step process. The Company first determines whether it is more likely than not that a tax position will be sustained upon examination. If a tax position meets the more-likely-than-not recognition threshold, it is then measured to determine the amount of benefit to recognize in the financial statements. The tax position is measured as the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. The Company classifies gross interest and penalties and unrecognized tax benefits that are not expected to result in payment or receipt of cash within one year as non-current liabilities in the consolidated balance sheets.
As of December 31, 2017, the total amount of unrecognized tax benefits was $45.0 million, of which $39.8 million, if recognized, would affect the Company’s effective tax rate. As of December 31, 2016, the total amount of unrecognized tax benefits was $41.2 million, of which $37.0 million, if recognized, would affect the Company’s effective tax rate. As of December 31, 2015, the total amount of unrecognized tax benefits was $32.5 million, of which $29.8 million, if recognized would affect the Company’s effective tax rate.
The aggregate changes in the balance of unrecognized tax benefits, which excludes interest and penalties, for 2017, 2016 and 2015, is as follows (in thousands):
|
| | | | | | | | | | | |
| Years Ended December 31, |
| 2017 | | 2016 | | 2015 |
Beginning balance | $ | 41,218 |
| | $ | 32,536 |
| | $ | 34,635 |
|
Increases related to tax positions during a prior year | — |
| | 2,082 |
| | 10,361 |
|
Decreases related to tax positions taken during a prior year | (401 | ) | | — |
| | (17,107 | ) |
Increases related to tax positions taken in the current year | 7,223 |
| | 6,703 |
| | 8,841 |
|
Settlements | (2,639 | ) | | — |
| | (4,194 | ) |
Decreases related to expiration of statute of limitations | (389 | ) | | (103 | ) | | — |
|
Ending balance | $ | 45,012 |
| | $ | 41,218 |
| | $ | 32,536 |
|
The Company includes interest and penalties related to unrecognized tax benefits within the provision for income taxes. As of December 31, 2017, 2016 and 2015, the total amount of interest and penalties accrued was $7.2 million, $5.3 million and $3.4 million, respectively, which is classified as non-current liabilities in the consolidated balance sheets. In connection with tax matters, the Company recognized interest and penalty (benefit) expense in 2017, 2016 and 2015 of $2.1 million, $1.9 million and $(1.4) million, respectively.
Uncertain income tax positions are reasonably possible to significantly change during the next 12 months as a result of completion of income tax audits and expiration of statutes of limitations. At this point it is not possible to provide an estimate of the amount, if any, of significant changes in reserves for uncertain income tax positions as a result of the completion of income tax audits that are reasonably possible to occur in the next 12 months. In addition, the Company cannot currently estimate the amount of, if any, uncertain income tax positions which will be released in the next 12 months as a result of expiration of statutes of limitations due to ongoing audits. As a result of ongoing federal, state and foreign income tax audits (discussed below), it is reasonably possible that our entire reserve for uncertain income tax positions for the periods under audit will be released. It is also reasonably possible that the Company’s reserves will be inadequate to cover the entire amount of any such income tax liability.
Income before income taxes included income from domestic operations of $61.9 million, $84.8 million and $61.0 million for the years ended December 31, 2017, 2016 and 2015, respectively, and income from foreign operations of $138.1 million, $126.6 million and $95.9 million for the years ended December 31, 2017, 2016 and 2015, respectively.
Income Tax Audits:
In November 2015, the U.S. Internal Revenue Service (“IRS”) began an income tax audit of the Company’s 2012 and 2013 tax years. In March 2016, the IRS expanded its income tax audit to include the Company’s 2014 tax year. Additionally, the Company was notified on March 22, 2017 that the IRS will be auditing Everyday Health’s 2014 tax year. In December 2017, the Company was notified by the IRS that the 2014 audit of Everyday Health will be concluded with no changes.
The Company is under audit by the California Franchise Tax Board (“FTB”) for tax years 2012 and 2013. The FTB, however, has agreed to suspend its audit for 2012 and 2013 pending the outcome of the IRS audit for such tax years.
The Company is under income tax audit by the New York State Department of Taxation and Finance (“NYS”) for tax years 2011 through 2013. In March 2017, NYS expanded its income tax audit to include the Company’s 2014 tax year.
In September 2017, the Massachusetts Department of Revenue notified the Company that it will commence an audit of income tax for tax years 2014 and 2015. In addition, the Georgia Department of Revenue notified the Company that it will commence an audit of income tax for tax years 2014 through 2016.
The Company is currently under audit by the French tax authorities for tax years 2011 to 2016. The audit is in the preliminary fact gathering stage.
It is reasonably possible that these audits may conclude in the next 12 months and that the uncertain tax positions the Company has recorded in relation to these tax years may change compared to the liabilities recorded for these periods. If the recorded uncertain tax positions are inadequate to cover the associated tax liabilities, the Company would be required to record additional tax expense in the relevant period, which could be material. If the recorded uncertain tax positions are adequate to cover the associated tax liabilities, the Company would be required to record any excess as reduction in tax expense in the relevant period, which could be material. However, it is not currently possible to estimate the amount, if any, of such change.