Farmers & Merchants Bancshares, Inc.

13.

Income Taxes

The components of income tax expense are as follows:

	2017		2016
Current
Federal	$	1,532,959	$	1,353,410
State		406,410		364,394
		1,939,369		1,717,804
Revaluation of deferred tax asset due to change in corporate tax rate		410,391		-
Deferred		(347,446)		309,016
	$	2,002,314	$	2,026,820

The Tax Cuts and Jobs Act will reduce the Company’s federal corporate income tax rate from 34% to 21% beginning in 2018. Because the legislation was passed in 2017, the Company was required to revalue its net deferred tax asset in 2017 using the 21% rate resulting in additional income tax expense in 2017. The Company recorded net income tax expense of $410,391 related to this revaluation. Of this amount, $64,801 of expense was attributable to the Company’s net deferred tax asset for unrealized losses on available for sale securities. In addition to adjusting the deferred tax asset for this item, the Company recorded an adjustment to accumulated other comprehensive income with a transfer to retained earnings.

The components of the deferred tax expense are as follows:

	2017		2016
Depreciation	$	(62,449)	$	(46,226)
Provision for loan losses		(132,991)		96,206
Other real estate owned allowance for loss		(58,576)		(23,075)
Nonaccrual interest		(3,633)		(15,000)
Prepaid captive insurance premium		13,781		393,735
Write-down of equity securities		(592)		-
Post-retirement benefits		(102,986)		(96,624)
	$	(347,446)	$	309,016

The components of the net deferred tax asset are as follows:

Deferred tax assets
Allowance for loan losses	$	627,127	$	765,966
Other real estate owned allowance for loss		213,123		246,925
Write-down of equity securities		4,265		5,522
Nonaccrual interest		22,804		29,055
Post-retirement benefits		434,891		520,410
Unrealized loss on securities available for sale		149,671		182,588
		1,451,881		1,750,466
Deferred tax liabilities
Prepaid captive insurance premium		282,990		391,872
Depreciation		170,859		329,575
		453,849		721,447
Net deferred tax asset	$	998,032	$	1,029,019

The differences between the federal income tax rate of 34% and the effective tax rate for the Company are reconciled as follows:

Statutory federal income tax rate	34.0	%	34.0	%
Increase (decrease) resulting from:
Federal tax-exempt income	(10.8)		(4.9)
State income taxes, net of federal income tax benefit	3.9		4.9
Nondeductible expenses	0.1		0.1
Revaluation of deferred tax asset due to change in corporate tax rate	7.1		-
Other	0.3		-
	34.6	%	34.1	%

Included in Federal tax-exempt income is the insurance premium revenue of the Insurance Subsidiary.

The Company does not have material uncertain tax positions and did not recognize any adjustments for unrecognized tax benefits. The Company remains subject to examination of income tax returns for the years ending after December 31, 2013.