NOTE P - INCOME TAXES

 

The following is a geographical breakdown of income before the provision for income taxes:

The provision for income taxes consisted of the following:

Income tax expense for the year ended December 31, 2016 was $281,000 due primarily to $226,000 in tax expense related to deferred tax liabilities arising from goodwill generated by the NetWolves acquisition and $55,000 in federal and state income taxes. Income tax benefit for the year ended December 31, 2015 was $44,000 consisting mainly of a $560,000 reduction in the valuation allowance for deferred tax assets, partially offset by $226,000 higher tax expense related to deferred tax liabilities arising from goodwill generated by the NetWolves acquisition, as well as $208,000 in state income taxes, $92,000 in federal alternative minimum taxes, and $10,000 benefit for foreign taxes.  During the year ended December 31, 2015, the Company reviewed previous positive and negative evidence and also reviewed its expected taxable income for future periods and concluded that it is more likely than not that approximately $560,000 of tax benefits related to net operating loss carryforwards will be utilized in future tax years and, therefore, reduced its valuation allowance during the year ended  December 31, 2015 in accordance with ASC 740.  In addition, the Company expects to provide a valuation  allowance on the remaining future tax benefits until it can sustain a level of profitability that demonstrates its ability to utilize the remaining assets, or other significant positive evidence arises that suggests its ability to utilize the remaining assets.  The Company will continue to re-assess its reserves on deferred income tax assets in future periods on a quarterly basis.

The following is a reconciliation of the effective income tax rate to the federal statutory rate:

 

The effective tax rate increased mainly due to the effects of adjusting the deferred tax asset valuation allowance for the year ended December 31, 2015 to reflect a change in estimate of future taxable income.

As of December 31, 2016, the recorded deferred tax assets were $17,360,000, reflecting an increase of $331,000 during the year ended December 31, 2016, which was offset by a valuation allowance of $15,695,000, reflecting a decrease of $475,000.

The components of our deferred tax assets and liabilities are summarized as follows:

 

The activity in the valuation allowance is set forth below:

At December 31, 2016, the Company had net operating loss carryforwards for federal and state income tax purposes of approximately $35 million expiring at various dates from 2020 through 2033.  No net operating loss carryforwards expired in the years ended December 31, 2016 and 2015.

Under current tax law, the utilization of tax attributes will be restricted if an ownership change, as defined, were to occur. Section 382 of the Internal Revenue Code provides, in general, that if an “ownership change” occurs with respect to a corporation with net operating and other loss carryforwards, such carryforwards will be available to offset taxable income in each taxable year after the ownership change only up to the “Section 382 Limitation” for each year (generally, the product of the fair market value of the corporation’s stock at the time of the ownership change, with certain adjustments, and a specified long-term tax-exempt bond rate at such time). The Company’s ability to use its loss carryforwards will be limited in the event of an ownership change.