Note 23 - Income Taxes
The domestic and foreign components of income (loss) before income taxes from continuing operations for the years ended December 31, 2017 and 2016 are as follows (in thousands):
| 2017 | 2016 | |||||||
| Domestic | $ | (33,174 | ) | $ | (24,860 | ) | ||
| Foreign | (1,821 | ) | (1,885 | ) | ||||
| Loss from Continuing Operations before Provision for Income Taxes | $ | (34,995 | ) | $ | (26,745 | ) | ||
The income tax provision (benefit) for the years ended December 31, 2017 and 2016 consists of the following (in thousands):
| 2017 | 2016 | |||||||
| Foreign | ||||||||
| Current | $ | - | $ | - | ||||
| Deferred | (454 | ) | (1,295 | ) | ||||
| U.S. federal | ||||||||
| Current | - | - | ||||||
| Deferred | 9,422 | (5,247 | ) | |||||
| State and local | ||||||||
| Current | 18 | (1 | ) | |||||
| Deferred | 1,844 | (1,845 | ) | |||||
| 10,830 | (8,388 | ) | ||||||
| Change in valuation allowance | (10,830 | ) | 8,388 | |||||
| Income Tax Provision | $ | 0 | $ | 0 | ||||
The reconciliation between the U.S. statutory federal income tax rate and the Company’s effective rate for the years ended December 31, 2017 and 2016 is as follows:
| 2017 | 2016 | |||||||
| U.S. federal statutory rate | 34.0 | % | 34.0 | % | ||||
| State income taxes, net of federal benefit | (3.6 | ) | 3.4 | |||||
| Impairment of goodwill | (5.0 | ) | (9.4 | ) | ||||
| Impairment of net operating loss | (45.1 | ) | - | |||||
| Incentive stock options | (0.4 | ) | (1.0 | ) | ||||
| Federal and state rate change and other | (8.4 | ) | 1.1 | |||||
| US-Foreign income tax rate difference | (0.4 | ) | (0.6 | ) | ||||
| Other permanent items | (2.1 | ) | 3.9 | |||||
| Change in valuation allowance | 31.0 | (31.4 | ) | |||||
| Effective Rate | 0.0 | % | 0.0 | % | ||||
As of December 31, 2017 and 2016, the Company’s deferred tax assets consisted of the effects of temporary differences attributable to the following:
| (in 000s) | 2017 | 2016 | ||||||
| Deferred Tax Asset | ||||||||
| Net operating loss carryovers | $ | 5,458 | $ | 18,293 | ||||
| Deferred revenue | 1,486 | 4,663 | ||||||
| Stock based compensation | 490 | 556 | ||||||
| Debt debenture | 412 | 130 | ||||||
| Research credits | 139 | 159 | ||||||
| Accrued compensation | 98 | 296 | ||||||
| Reserves | 512 | 846 | ||||||
| Other | 976 | 887 | ||||||
| Total Deferred Tax Asset | 9,571 | 25,830 | ||||||
| Less: valuation allowance | (8,660 | ) | (19,472 | ) | ||||
| Deferred Tax Asset, Net of Valuation Allowance | $ | 911 | $ | 6,358 | ||||
| Deferred Tax Liabilities | 2017 | 2016 | ||||||
| Intangible assets | $ | (463 | ) | $ | (5,312 | ) | ||
| Fixed assets | - | (312 | ) | |||||
| Other | - | (12 | ) | |||||
| Prepaid maintenance | (1 | ) | (20 | ) | ||||
| Capitalized research | (447 | ) | (702 | ) | ||||
| Total deferred tax liabilities | (911 | ) | (6,358 | ) | ||||
| Net Deferred Tax Asset (Liability) | $ | -- | $ | -- | ||||
On December 22, 2017, the President of the United States signed into law the Tax Cuts and Jobs Act tax reform legislation. This legislation makes significant changes in U.S. tax law including a reduction in the corporate tax rates, changes to net operating loss carryovers and carrybacks, and a repeal of the corporate alternative minimum tax. The legislation reduced the U.S. corporate tax rate from the current rate of 34% to 21%. As a result of the enacted law, the Company was required to revalue deferred tax assets and liabilities at the enacted rate. This revaluation resulted in a provision of $3.0 to income tax expense in continuing operations and a corresponding reduction in the deferred tax asset, which was offset by an equivalent adjustment to the valuation allowance. The new legislation will require the Company to pay tax on the unremitted earnings of its foreign subsidiaries through December 31, 2017. Because of the complexities involved in determining the previously unremitted earnings and profits of each of its foreign subsidiaries, the Company is still in the process of obtaining, preparing, and analyzing the required information and expects to record an initial estimate of the impact on our Consolidated Financial Statements in the fourth quarter of 2018. The other provisions of the Tax Cuts and Jobs Act did not have a material impact on the Consolidated Financial Statements.
As of December 31, 2017 and 2016, the Company had approximately $57.4 million and $41.1 million, respectively, of U.S. federal and state net operating loss (“NOL”) carryovers available to offset future taxable income. These NOLs, if not utilized, begin expiring in the year 2023.
In accordance with Section 382 of the Internal Revenue Code, deductibility of the Company’s net operating loss carryover may be subject to an annual limitation in the event of a change of control, as defined by the regulations. The Company performed a preliminary evaluation as to whether a change of control has taken place in 2017 and concluded that a change of ownership has likely occurred. Based on the Company’s preliminary analysis, the net operating losses available to offset future taxable income is approximately $10.9 million.
As of December 31, 2017 and 2016, the Company had approximately $1.2 million and $1.2 million, respectively of Saudi Arabian NOL carryovers available to offset future taxable income. Although the carryover period is unlimited, only 25% of taxable income in any given year may be offset by the Company’s NOL carryovers. As of December 31, 2017 and 2016, AirPatrol Canada, which was acquired on April 18, 2014 as part of the AirPatrol Merger Agreement, had approximately $9.2 million and $7.4 million, respectively, of Canadian NOL carryovers available to offset future taxable income. These NOLs, if not utilized, begin expiring in the year 2026. As of December 31, 2015 the Company’s management decided to close its Saudi Arabia legal entity. This may impact our carry forward of the NOL upon the completion of our plans.
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. In assessing the realization of deferred tax assets, management considers, whether it is “more likely than not”, that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which temporary differences representing net future deductible amounts become deductible.
ASC 740, “Income Taxes” requires that a valuation allowance be established when it is “more likely than not” that all, or a portion of, deferred tax assets will not be realized. A review of all available positive and negative evidence needs to be considered, including the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies. After consideration of all the information available, management believes that uncertainty exists with respect to future realization of its deferred tax assets and has, therefore, established a full valuation allowance as of December 31, 2017 and 2016. As of December 31, 2017 and December 31, 2016, the change in valuation allowance was $(10.8) million and $8.4 million, respectively.
ASC 740 also clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements and prescribes a recognition threshold and measurement process for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more likely than not to be sustained upon examination by taxing authorities. ASC 740 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. The Company is required to file income tax returns in the United States (federal), Canada, Saudi Arabia and in various state jurisdictions in the United States. Based on the Company’s evaluation, it has been concluded that there are no material uncertain tax positions requiring recognition in the Company’s financial statements for the years ended December 31, 2017 and 2016.
The Company’s policy for recording interest and penalties associated with unrecognized tax benefits is to record such interest and penalties as interest expense and as a component of selling, general and administrative expense, respectively. There were no amounts accrued for interest or penalties for the years ended December 31, 2017 and 2016. Management does not expect any material changes in its unrecognized tax benefits in the next year.
The Company operates in multiple tax jurisdictions and, in the normal course of business, its tax returns are subject to examination by various taxing authorities. Such examinations may result in future assessments by these taxing authorities. The Company is subject to examination by U.S. tax authorities beginning with the year ended December 31, 2014. In general, the Canadian Revenue Authority may reassess taxes four years from the date the original notice of assessment was issued. The tax years that remain open and subject to Canadian reassessment are 2013 – 2017. The Company is also subject to examination in Saudi Arabia for five years following the filing of the income tax return.