12. Income Taxes
New Tax Legislation
On December 22, 2017, the President of the United States signed into law the Tax Cuts and Jobs Act (“TCJA”). This legislation reduced the U.S. corporate tax rate from the current rate of 34% to 21% for tax years beginning after December 31, 2017. As a result of the enacted law, the Company was required to revalue deferred tax assets and liabilities existing as of December 31, 2017 from the 34% federal rate in effect through the end of 2017, to the new 21% rate. As a result, the Company recorded a reduction to its deferred tax asset for $42,763 and a corresponding reduction to its valuation allowance. There was no impact to the Company’s income statement due to the reduction in the U.S. corporate tax rate. The Company’s preliminary estimate of the TCJA and the remeasurement of the Company’s deferred tax assets and liabilities is subject to the finalization of management’s analysis related to certain matters, such as developing interpretations of the provisions of the TCJA, changes to certain estimates and the filing of the Company’s tax returns. U.S. Treasury regulations, administrative interpretations or court decisions interpreting the TJCA may require further adjustments and changes in the Company’s estimates. The final determination of the TCJA and the remeasurement of the Company’s deferred assets and liabilities will be completed as additional information becomes available, but no later than one year from the enactment of the TCJA.
Income Taxes
For the year ended December 31, 2017 and 2016, the Company recorded an income tax expense of $63 and $139 for its operations in Germany. For the year ended December 31, 2015, the income tax expense was not material and it was recorded in income (loss) before income taxes. The Company’s foreign tax provision pertains to foreign income taxes due at its German subsidiary which operates on a cost plus profit margin.
The components of income (loss) before income taxes were as follows:
| Year Ended December 31, |
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| 2017 | 2016 | 2015 | ||||||||||
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Foreign |
$ | (35,680 | ) | $ | (26,928 | ) | $ | (21,409 | ) | |||
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U.S. |
(93,241 | ) | (82,510 | ) | (96,676 | ) | ||||||
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Totals |
$ | (128,921 | ) | $ | (109,438 | ) | $ | (118,085 | ) | |||
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Deferred taxes are recognized for temporary differences between the basis of assets and liabilities for financial statement and income tax purposes. The significant components of the Company’s deferred tax assets are comprised of the following:
| Year Ended December 31, |
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| 2017 | 2016 | |||||||
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Deferred tax assets: |
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U.S. and state net operating loss carryforwards |
$ | 84,556 | $ | 91,584 | ||||
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Stock-based compensation |
15,748 | 17,004 | ||||||
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Accruals and other temporary differences |
2,386 | 2,491 | ||||||
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Research and development credits |
29,186 | 15,898 | ||||||
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Capitalized research and development |
2,211 | 3,344 | ||||||
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Total deferred tax assets |
134,087 | 130,321 | ||||||
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Less valuation allowance |
(134,087 | ) | (130,321 | ) | ||||
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Net deferred tax assets |
$ | — | $ | — | ||||
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The Company has evaluated the positive and negative evidence bearing upon the realizability of its deferred tax assets. Based on the Company’s history of operating losses, the Company has concluded that it is more likely than not that the benefit of its deferred tax assets will not be realized. Accordingly, the Company has provided a full valuation allowance for deferred tax assets as of December 31, 2017 and 2016. The valuation allowance increased by approximately $3,766 for tax year ended December 31, 2017 primarily due to the generation of net operating losses offset by the revaluation of the deferred assets at a 21% Federal tax rate.
The Company adopted ASU 2016-09, Improvements to Employee Share-Based Payment Accounting on January 1, 2017. As a result of adoption, the deferred tax assets associated with net operating losses as of December 31, 2016 have increased by $1,844. These amounts were offset by a corresponding increase in the valuation allowance. The adoption of ASU 2016-09 has no impact on the Company’s operations, financial position or cash flows.
A reconciliation of income tax expense computed at the statutory federal income tax rate to income taxes as reflected in the financial statements is as follows:
| Year Ended December 31, |
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| 2017 | 2016 | 2015 | ||||||||||
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Federal income tax expense at statutory rate |
34.0 | % | 34.0 | % | 34.0 | % | ||||||
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State income tax, net of federal benefit |
5.9 | % | 3.3 | % | 3.5 | % | ||||||
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Permanent differences |
(3.9 | )% | (3.1 | )% | (5.1 | )% | ||||||
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Research and development credit |
8.4 | % | 4.8 | % | 12.2 | % | ||||||
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Foreign rate differential |
(9.4 | )% | (8.5 | )% | (6.3 | )% | ||||||
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Change in valuation allowance |
(1.4 | )% | (25.1 | )% | (39.4 | )% | ||||||
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Provision to return adjustments |
1.0 | % | (5.5 | )% | — | % | ||||||
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Other |
(1.4 | )% | — | % | 1.0 | % | ||||||
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Federal rate change |
(33.2 | )% | — | % | — | % | ||||||
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Effective income tax rate |
— | % | (0.1 | )% | (0.1 | )% | ||||||
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As of December 31, 2017 and 2016, the Company had U.S. federal net operating loss carryforwards of approximately $300,843 and $237,824, respectively, which may be available to offset future income tax liabilities and expire at various dates through 2037. As of December 31, 2017 and 2016, the Company also had U.S. state net operating loss carryforwards of approximately $332,330 and $238,033, respectively, which may be available to offset future income tax liabilities and expire at various dates through 2037.
As of December 31, 2017 and 2016, the Company had federal research and development tax credit carryforwards of approximately $27,384 and $14,932, respectively, available to reduce future tax liabilities which expire at various dates through 2037. As of December 31, 2017 and 2016, the Company had state research and development tax credit carryforwards of approximately $2,282 and $1,463, respectively, available to reduce future tax liabilities which expire at various dates through 2032. The Company completed a study of its R&D tax credits through December 31, 2016 and adjusted its deferred tax asset for the result of that study. For the year ended December 31, 2017, the Company generated research credits but has not conducted a study to document the qualified activities. This study may result in an adjustment to the Company’s research and development credit carryforwards; however, until a study is completed and any adjustment is known, no amounts are being presented as an uncertain tax position. A full valuation allowance has been provided against the Company’s research and development credits and, if an adjustment is required, this adjustment would be offset by an adjustment to the deferred tax asset established for the research and development credit carryforwards and the valuation allowance.
Under the provisions of the Internal Revenue Code, the net operating loss and tax credit carryforwards are subject to review and possible adjustment by the Internal Revenue Service and state tax authorities. Net operating loss and tax credit carryforwards may become subject to an annual limitation in the event of certain cumulative changes in the ownership interest of significant shareholders over a three-year period in excess of 50 percent, as defined under Sections 382 and 383 of the Internal Revenue Code, respectively, as well as similar state provisions. This could limit the amount of tax attributes that can be utilized annually to offset future taxable income or tax liabilities. The amount of the annual limitation is determined based on the value of the Company immediately prior to the ownership change. Subsequent ownership changes may further affect the limitation in future years. The Company has completed several financings since its inception which resulted in a change in control as defined by Sections 382 and 383 of the Internal Revenue Code, and it may complete future financings that could result in a change in control in the future. The Company has reduced its deferred tax assets for tax attributes it believes will expire unused due to the change in control limitations.
The Company will recognize interest and penalties related to uncertain tax positions in income tax expense. As of December 31, 2017 and 2016, the Company had no accrued interest or penalties related to uncertain tax positions and no such amounts have been recognized in the Company’s statements of operations and comprehensive loss.
The Company or one of its subsidiaries files income tax returns in the United States, and various state and foreign jurisdictions. The federal, state and foreign income tax returns are generally subject to tax examinations for the tax years ended December 31, 2014 through December 31, 2017. To the extent the Company has tax attribute carryforwards, the tax years in which the attribute was generated may still be adjusted upon examination by the Internal Revenue Service, state or foreign tax authorities to the extent utilized in a future period.