12. Income Taxes
In December 2017, the Tax Cuts and Jobs Act (the “2017 Tax Act”) was enacted. The 2017 Tax Act includes a number of changes to existing U.S. tax laws that impact the Company, most notably a reduction of the U.S. corporate income tax rate from 35% to 21% for tax years beginning after December 31, 2017. The 2017 Tax Act required a re-measurement of the Company’s deferred tax asset (“DTA”) in the fourth quarter of 2017. As a result, the Company recorded a charge of $2.7 million to write down the DTA during the fourth quarter of 2017.
The Company files federal income tax returns on a calendar year basis. Income tax (benefit) expense for the years indicated is summarized as follows:
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(dollars in thousands) |
2017 | 2016 | 2015 | |||||||||
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Current |
$ | 7,260 | $ | 7,889 | $ | 6,040 | ||||||
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Deferred |
2,512 | (321 | ) | 631 | ||||||||
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Impact of Tax Cuts and Jobs Act |
2,721 | — | — | |||||||||
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Total income tax expense |
$ | 12,493 | $ | 7,568 | $ | 6,671 | ||||||
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The components of the Company’s net deferred tax asset as of December 31 of the years indicated are as follows:
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(dollars in thousands) |
2017 | 2016 | ||||||
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Deferred tax assets: |
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Provision for loan losses |
$ | 3,110 | $ | 4,378 | ||||
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Discount on purchased loans |
4,055 | 514 | ||||||
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Salary continuation plan |
657 | 978 | ||||||
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Mortgage servicing rights |
132 | — | ||||||
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Deferred compensation |
98 | 141 | ||||||
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Stock-based compensation |
316 | 697 | ||||||
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Unrealized loss on securities available for sale |
308 | — | ||||||
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Real estate owned |
— | 359 | ||||||
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Other |
176 | 1,251 | ||||||
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Deferred tax assets |
$ | 8,852 | $ | 8,318 | ||||
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Deferred tax liabilities: |
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FHLB stock dividends |
$ | (136 | ) | $ | (88 | ) | ||
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Accumulated depreciation |
(1,717 | ) | (2,418 | ) | ||||
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Intangible assets |
(1,467 | ) | (677 | ) | ||||
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Unrealized gain on securities available for sale |
— | (6 | ) | |||||
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Mortgage servicing rights |
(16 | ) | (49 | ) | ||||
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Real estate owned |
(1 | ) | — | |||||
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Premium on investment securities acquired |
(151 | ) | (950 | ) | ||||
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Other |
(118 | ) | (125 | ) | ||||
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Deferred tax liabilities |
(3,606 | ) | (4,313 | ) | ||||
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Net deferred tax asset |
$ | 5,246 | $ | 4,005 | ||||
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For the years ended December 31, 2017, 2016 and 2015, the Company’s provision for federal income taxes differed from the amount computed by applying the federal income tax statutory rate of 35% on income from operations as indicated in the following analysis:
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(dollars in thousands) |
2017 | 2016 | 2015 | |||||||||
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Federal tax based on statutory rate |
$ | 10,242 | $ | 8,232 | $ | 6,706 | ||||||
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State tax based on statutory rate |
54 | 55 | 60 | |||||||||
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(Decrease) increase resulting from: |
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Effect of tax-exempt income |
(234 | ) | (228 | ) | (242 | ) | ||||||
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Changes in the cash surrender value of bank owned life insurance |
(173 | ) | (169 | ) | (176 | ) | ||||||
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Nondeductible merger-related expenses |
129 | 4 | 261 | |||||||||
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Nondeductible share based compensation expense |
374 | 246 | 178 | |||||||||
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Exercise of stock options |
(656 | ) | (606 | ) | (105 | ) | ||||||
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DTA write down – impact of Tax Act |
2,721 | — | — | |||||||||
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Other |
36 | 34 | (11 | ) | ||||||||
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Income tax expense |
$ | 12,493 | $ | 7,568 | $ | 6,671 | ||||||
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Effective tax rate |
42.6 | % | 32.1 | % | 34.7 | % | ||||||
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Retained earnings as of December 31, 2017 and 2016, included $5,837,000 for which no deferred federal income tax liability has been recognized. This amount represents an allocation of income to bad debt deductions for tax purposes only. Reductions of amounts so allocated for purposes other than bad debt losses would create income for tax purposes only, which would be subject to the then-current federal statutory income tax rate. The unrecorded deferred income tax liability on the above amount was $1,985,000 as of December 31, 2017 and 2016. Current accounting standards do not require the accrual of this deferred tax amount to be recorded unless it is probable that the reserve (for tax purposes) will be significantly depleted by loan losses deductible for tax purposes in the future. Based on current estimates of losses within the Company’s loan portfolio, accrual of the deferred tax liability associated with this reserve was not required as of December 31, 2017 and 2016.