Income Taxes
Recent Tax Legislation
On December 22, 2017, the Tax Reform Act was signed into law by the President of the United States. The Tax Reform Act significantly revised the U.S. corporate income tax regime by, among other things, lowering the U.S. federal corporate tax rate from 35% to 21% effective for our fiscal year ending December 29, 2018, while also implementing a territorial tax system and imposing a repatriation tax on deemed repatriated earnings of foreign subsidiaries. U.S. GAAP requires that the impact of tax legislation be recognized in the period in which the law was enacted.
The Tax Reform Act reduces the federal corporate tax rate to 21% effective for our fiscal year ending December 29, 2018. We recorded income tax expense for the remeasurement of the net deferred tax assets of $125.1 million to our income tax expense during the year ended December 30, 2017.
The Deemed Repatriation Transition Tax (the “Transition Tax”) is a tax on previously untaxed accumulated earnings and profits (“E&P”) of certain of our foreign subsidiaries. To determine the amount of the Transition Tax, we must determine, in addition to other factors, the amount of post-1986 E&P of the relevant subsidiaries, as well as the amount of non-U.S. income taxes paid on such earnings. We are able to make a reasonable estimate and recorded a provisional Transition Tax obligation of $1.1 million.
The Tax Reform Act also includes a provision to tax global intangible low-taxed income (“GILTI”) of foreign subsidiaries. We will be subject to the GILTI provision effective for our fiscal year ending December 29, 2018 and are in the process of analyzing its effects, including how to account for the GILTI provision from an accounting policy standpoint.
We recognized the income tax effects of the Tax Reform Act in our 2017 financial statements in accordance with Staff Accounting Bulletin No. 118 (“SAB 118”), which provides SEC staff guidance for the application of ASC Topic 740, Income Taxes, in the reporting period in which the 2017 Tax Reform Act was signed into law. The guidance addresses how a company
recognizes provisional amounts when a company does not have the necessary information available, prepared or analyzed
(including computations) in reasonable detail to complete its accounting for the effect of the changes in the Tax Reform Act. As such, the financial results reflect the income tax effects of the Tax Reform Act for which the accounting under ASC Topic 740 is complete and provisional amounts for those specific income tax effects of the Tax Reform Act for which the accounting under ASC Topic 740 is incomplete but a reasonable estimate could be determined. Pursuant to the SAB 118, we are allowed a measurement period of up to one year after the enactment date of the Tax Reform Act to finalize the recording of the related tax impacts.
The provisional income tax expense is subject to revisions as we complete our analysis of the Tax Reform Act, collect and prepare necessary data, and interpret any additional guidance issued by the U.S. Treasury Department, IRS, FASB, and other standard-setting and regulatory bodies. Adjustments may materially impact our provision for income taxes and effective tax rate in the period in which the adjustments are made. Our accounting for the tax effects of the Tax Reform Act will be completed during the measurement period.
We are party to various tax sharing agreements with Safeway, which are important to understanding our income taxes. See Note 1—Income Taxes for additional information.
The components of income before income tax expense (benefit) for 2017, 2016 and 2015 are as follows (in thousands):
|
| | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
Domestic | $ | (49,833 | ) | | $ | (3,533 | ) | | $ | 72,298 |
|
Foreign | 12,743 |
| | 4,469 |
| | 307 |
|
Income before income tax expense (benefit) | $ | (37,090 | ) | | $ | 936 |
| | $ | 72,605 |
|
The components of income tax expense (benefit) for the years ended 2017, 2016 and 2015 are as follows (in thousands):
|
| | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
Current: | |
| | |
| | |
|
Federal | $ | 483 |
| | $ | (1,215 | ) | | $ | (6,403 | ) |
State | (707 | ) | | 949 |
| | (942 | ) |
Foreign | 7,748 |
| | 5,063 |
| | 4,331 |
|
Total current | 7,524 |
| | 4,797 |
| | (3,014 | ) |
Deferred: | |
| | |
| | |
|
Federal | 118,974 |
| | (3,186 | ) | | 28,650 |
|
State | (4,772 | ) | | (1,275 | ) | | 6,003 |
|
Foreign | (3,926 | ) | | (4,438 | ) | | (4,843 | ) |
Total deferred | 110,276 |
| | (8,899 | ) | | 29,810 |
|
Income tax expense (benefit) | $ | 117,800 |
| | $ | (4,102 | ) | | $ | 26,796 |
|
A reconciliation of the provision for income taxes at the U.S. federal statutory income tax rate to our income taxes for 2017, 2016 and 2015 is as follows (dollars in thousands):
|
| | | | | | | | | | | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
| Amount | | Rate | | Amount | | Rate | | Amount | | Rate |
Income tax expense (benefit) at federal statutory rate | $ | (12,982 | ) | | 35.0 | % | | $ | 327 |
| | 35.0 | % | | $ | 25,412 |
| | 35.0 | % |
State income tax expense (benefit), net of federal impact | (3,854 | ) | | 10.4 | % | | 439 |
| | 46.9 | % | | 3,469 |
| | 4.8 | % |
Foreign rate differential | (761 | ) | | 2.1 | % | | (939 | ) | | (100.3 | )% | | (773 | ) | | (1.1 | )% |
Change in fair value of contingent consideration | — |
| | — | % | | — |
| | — | % | | (2,978 | ) | | (4.1 | )% |
Compensation subject to certain limits | 702 |
| | (1.9 | )% | | 894 |
| | 95.5 | % | | 1,180 |
| | 1.6 | % |
Stock-based compensation | (2,341 | ) | | 6.3 | % | | (956 | ) | | (102.1 | )% | | 316 |
| | 0.4 | % |
Change in valuation allowance | 1,732 |
| | (4.7 | )% | | — |
| | — | % | | — |
| | — | % |
Acquisition related | 152 |
| | (0.4 | )% | | (2,945 | ) | | (314.6 | )% | | 758 |
| | 1.0 | % |
R&D credits | (948 | ) | | 2.6 | % | | (1,440 | ) | | (153.9 | )% | | (1,130 | ) | | (1.5 | )% |
Goodwill impairment | 10,670 |
| | (28.8 | )% | | — |
| | — | % | | — |
| | — | % |
U.S. Tax Reform Impact | 126,198 |
| | (340.2 | )% | | — |
| | — | % | | — |
| | — | % |
Other | (768 | ) | | 2.0 | % | | 518 |
| | 55.2 | % | | 542 |
| | 0.8 | % |
Total income tax expense (benefit) /effective tax rate | $ | 117,800 |
| | (317.6 | )% | | $ | (4,102 | ) | | (438.3 | )% | | $ | 26,796 |
| | 36.9 | % |
The components of our deferred tax assets (liabilities) at year-end 2017 and 2016 were as follows (in thousands):
|
| | | | | | | |
| 2017 | | 2016 |
Deferred tax assets: | | | |
Depreciation and amortization | $ | 112,642 |
| | $ | 217,497 |
|
Net operating loss carryforwards | 38,070 |
| | 49,473 |
|
Accrued expenses | 7,019 |
| | 4,932 |
|
Non-deductible reserves | 6,829 |
| | 9,450 |
|
Deferred revenue | 32,198 |
| | 29,803 |
|
Stock-based compensation | 10,293 |
| | 21,497 |
|
Convertible debt | 2,416 |
| | 4,636 |
|
Other | 8,787 |
| | 8,622 |
|
Deferred tax assets | 218,254 |
| | 345,910 |
|
Valuation allowance | (8,641 | ) | | (8,283 | ) |
Total deferred tax assets | 209,613 |
| | 337,627 |
|
Deferred tax liabilities: | |
| | |
|
Prepaids | (1,200 | ) | | (3,212 | ) |
Total deferred tax liabilities | (1,200 | ) | | (3,212 | ) |
Net deferred tax assets | $ | 208,413 |
| | $ | 334,415 |
|
Balance sheet presentation: | |
| | |
|
Long-term deferred tax assets | 236,496 |
| | 362,302 |
|
Long-term deferred tax liabilities | (28,083 | ) | | (27,887 | ) |
Net deferred tax assets | $ | 208,413 |
| | $ | 334,415 |
|
At year-end 2017, we had net operating loss (“NOL”) carryforwards for federal income tax purposes of approximately $131.1 million, resulting from our acquisitions of CashStar in 2017, NimbleCommerce in 2016, Achievers in 2015, and of Parago, CardLab and Incentec in 2014, which, if not utilized, will begin to expire in 2018. The utilization of such NOL carryforwards are subject to limitations pursuant to Internal Revenue Code Section 382.
We have California state NOL carryforwards of approximately $21.4 million, resulting from our acquisition of Nimble Commerce in 2016, Achievers in 2015 and of Parago in 2014, which, if not utilized, begin to expire in 2028. A full valuation allowance is recorded against the California state NOL carryforwards. These NOL carryforwards expire at various dates from 2028 to 2034.
Additionally, we have NOL carryforwards in certain foreign jurisdictions of approximately $45.9 million, of which $3.9 million expire at various dates from 2018 to 2036 and the remaining balance carries forward indefinitely.
At year-end 2017 and 2016, we maintained a valuation allowance with respect to certain of our deferred tax assets relating primarily to U.S. and foreign capital losses and operating losses in certain states and various non-U.S. jurisdictions that we believe are not likely to be realized. The total change in valuation allowance for the year ended 2017 was a $0.4 million increase.
We operate under a tax holiday in El Salvador, which is currently effective indefinitely under qualified service operations. The impact of this tax holiday was immaterial for the years ended 2017, 2016, and 2015.
At year-end 2017, we are currently evaluating outside basis differences with respect to our foreign operations due to the recently enacted Tax Reform Act. To the extent there are undistributed earnings of our foreign operations (approximately $38.2 million) they are considered permanently reinvested. Accordingly, no deferred tax liability has been recognized, with exception of the Tax Reform Act’s Transition Tax, for the remittance of such earnings to the United States, since our intention is to utilize those earnings in the foreign operations for an indefinite period of time, or to repatriate such earnings only when tax efficient to do so. Determination of the amount of unrecognized deferred income tax liability is not practicable; however, unrecognized foreign tax credits may be available to reduce some portion of the income tax liability.
The following table presents the aggregate changes in the balance of gross unrecognized tax benefit (in thousands):
|
| | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
Gross unrecognized tax benefits, beginning balance | $ | 13,877 |
| | $ | 12,680 |
| | $ | 3,808 |
|
Increase for tax position from prior fiscal years and current year acquisitions | 6,004 |
| | 977 |
| | 8,633 |
|
Decrease for tax position from prior fiscal years | (2,234 | ) | | (388 | ) | | (446 | ) |
Settlements | (177 | ) | | — |
| | — |
|
Increases for tax positions taken during current fiscal year | 601 |
| | 760 |
| | 938 |
|
Lapses of statutes of limitations | (2,879 | ) | | (41 | ) | | (161 | ) |
Foreign exchange rate difference | 151 |
| | (111 | ) | | (92 | ) |
Gross unrecognized tax benefits, ending balance | $ | 15,343 |
| | $ | 13,877 |
| | $ | 12,680 |
|
Changes in the balance of gross unrecognized tax benefit due to lapses of statutes of limitations for 2017 are primarily related to unrecognized state tax benefits which are included on the “State income tax expense (benefit)” line of the effective tax rate reconciliation table above.
As of year-end 2017 and 2016, the balance of unrecognized tax benefits included tax positions of $14.0 million and $11.3 million, respectively, which would reduce our effective income tax rate if recognized in future periods. We accrue interest and penalties related to unrecognized tax benefits as income tax expense. Income tax expense (benefit) included interest and penalties on unrecognized tax benefits of $(1.0) million, $0.4 million and $(0.1) million for 2017, 2016 and 2015, respectively. Accrued interest and penalties totaled $0.6 million and $1.6 million at year-end 2017 and 2016, respectively.
We do not anticipate that unrecognized tax benefits will significantly change in the next 12 months.
Before the Spin-Off, we filed income tax returns as part of Safeway’s consolidated group with federal and certain state and local tax authorities within the United States and filed our own income tax returns with certain state and local tax authorities. After the Spin-Off, we file our own income tax returns with federal and certain state and local tax authorities within the United States. Both prior to and after the Spin-Off, our foreign subsidiaries operate and file income tax returns in various foreign jurisdictions. The IRS examination of Safeway’s federal income tax returns for 2011 is complete and with limited exceptions we are no longer subject to federal income tax examinations for fiscal years before 2012, and are no longer subject to state and local income tax examinations for fiscal years before 2012.