VERSO CORPORATION

INCOME TAXES

The following is a summary of the components of the (benefit) provision for income taxes for Verso:



	Predecessor						Successor
	Year Ended			January 1, 2016			July 15, 2016			Year Ended
	December 31,			Through			Through			December 31,
(Dollars in millions)	2015			July 14, 2016			December 31, 2016			2017
Current tax (benefit) provision:
U.S. federal	$	—		$	—		$	—		$	(6	)
U.S. state and local	—			—			—			—
Total current tax (benefit) provision	—			—			—			(6		)
Deferred tax (benefit) provision:
U.S. federal	(136		)	549			(19		)	64
U.S. state and local	(37		)	78			2			(1		)
Changes to reorganization	—			8			—			—
Total deferred tax (benefit) provision	(173		)	635			(17		)	63
Less: valuation allowance	170			(635		)	17			(63		)
Allocation to Other comprehensive (income) loss	—			—			(20		)	(2		)
Total income tax (benefit) provision	$	(3	)	$	—		$	(20	)	$	(8	)

A reconciliation of income tax expense using the statutory federal income tax rate compared with actual income tax expense follows:



	Predecessor						Successor
	Year Ended			January 1, 2016			July 15, 2016			Year Ended
	December 31,			Through			Through			December 31,
(Dollars in millions)	2015			July 14, 2016			December 31, 2016			2017
Tax at Statutory U.S. Rate of 35% in 2017, 2016 and 2015	$	(149	)	$	412		$	(18	)	$	(13	)
Increase resulting from:
Reorganization costs and fresh-start accounting	—			(680		)	—			—
Federal tax rate change	—			—			—			71
Allocation to Other comprehensive (income) loss related to pension and other postretirement benefits.	—			—			(20		)	(2		)
Federal net operating losses	—			818			—
Cancellation of debt income	11			—			—			—
Disallowed interest expense	5			—			—			—
Nondeductible transaction costs	(4		)	—			—			—
Other expenses	1			—			—			—
Net permanent differences	13			138			(20		)	69
Valuation allowance	170			(635		)	17			(63		)
Changed to reorganization	—			8			—			—
State income taxes (benefit)	(37		)	78			2			—
Other	—			(1		)	(1		)	(1		)
Total income tax (benefit) provision	$	(3	)	$	—		$	(20	)	$	(8	)

The following is a summary of the significant components of our net deferred tax asset (liability):



(Dollars in millions)	December 31, 2016			December 31, 2017
Deferred tax assets:
Net operating loss and credit carryforwards	$	76		$	72
Pension	251			147
Compensation obligations	25			14
Inventory reserves/capitalization	43			26
Capitalized expenses	4			4
Other	21			10
Gross deferred tax assets	420			273
Less: valuation allowance	(193		)	(130		)
Deferred tax assets, net of allowance	$	227		$	143
Deferred tax liabilities:
Property, plant and equipment	$	(207	)	$	(139	)
Cancellation of debt income deferral	(13		)	(3		)
Intangible assets	(4		)	—
Other	(3		)	(1		)
Total deferred tax liabilities	(227		)	(143		)
Net deferred tax liabilities	$	—		$	—

The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Based on our lack of historical earnings, management believes it is more likely than not that Verso will not realize the benefits of those deductible differences.

Upon the Effective Date of the Plan, certain debt obligations of the Company were extinguished. Absent an exception, a debtor recognizes cancellation of debt income, or “CODI,” upon discharge of its outstanding indebtedness for an amount less than its original issue price. The Internal Revenue Code, or “IRC,” provides that a debtor in a bankruptcy case may exclude CODI from taxable income but must reduce certain of its tax attributes by the amount of the CODI realized as a result of the consummation of a plan of reorganization. Also, IRC Section 382 limits our ability to utilize our losses in the future. This has resulted in a reduction of our federal net operating losses available to be utilized in the future to $299 million at the end of 2017.

ASC 740-20-45-7 requires that a Company allocate tax expense to other comprehensive income, or “OCI,” and a corresponding tax benefit to income from continuing operations when there is a pre-tax loss from continuing operations and pretax income in OCI. In 2016 (Successor), Verso allocated $20 million of tax expense to OCI and recognized a $20 million tax benefit in continuing operations. In 2017 (Successor), Verso allocated $2 million of tax expense to OCI and recognized a $2 million tax benefit in continuing operations.

The valuation allowance for deferred tax assets as of December 31, 2016 (Successor) and December 31, 2017 (Successor) were $193 million and $130 million, respectively. The decrease in the valuation allowance in 2017 of $63 million is primarily attributable to the effect of federal tax reform enacted in the fourth quarter of 2017. It is less than more likely than not that Verso will realize these carryforward benefits in the future.

Income tax benefits of $147 million related to pension and other postretirement benefit obligations are recorded of which $34 million is attributable to other comprehensive income as of December 31, 2017 (Successor).

Verso’s policy is to record interest paid or received with respect to income taxes as interest expense or interest income, respectively, in the Consolidated Statements of Operations. The total amount of tax related interest and penalties in the Consolidated Balance Sheets was zero at December 31, 2016 (Successor) and 2017 (Successor). The amount of expense (benefit) for interest and penalties included in the Consolidated Statements of Operations was zero for all periods presented.

Verso has federal net operating loss carryforwards totaling $407 million as of December 31, 2017 (Successor), which begin to expire at the end of 2034. We estimate that these net operating losses have been reduced by attribute reduction and IRC Section 382 limits to $299 million available to be utilized in the future.

Verso has state net operating loss carryforwards, after apportionment, totaling $121 million available to be utilized in the future as of December 31, 2017 (Successor).

On December 22, 2017, the federal government enacted new tax reform legislation. The provisions of the U.S. Tax Cuts and Jobs Act of 2017 included a reduction in the corporate income tax rate from 35% to 21%. The reduction in the federal tax rate resulted in a reduction of deferred tax assets of $71 million offset with a corresponding decrease in the valuation allowance. Also included in the act was a repeal of the alternative minimum tax and provisions allowing for the refund of any minimum tax credit carryovers. Verso recognized a tax benefit of $6 million, which is included in Income tax benefit in the Consolidated Statement of Operations for the year ended December 31, 2017 (Successor), related to the recognition of a minimum tax credit carryover receivable. We expect to receive this refund over time starting in 2019 through 2022.

Based on our initial assessment of the Tax Act, we believe that the most significant impact on our financial statements is the refund of a minimum tax credit carryover. Quantifying all of the impacts of the Tax Act however requires significant judgment by our management, including the inherent complexities involved in determining the timing of reversals of our deferred tax assets and liabilities. Accordingly, we will continue to analyze the impacts of the Tax Act and, if necessary, record any further impacts in future periods.

A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:



(Dollars in millions)
Balance at December 31, 2015 - Predecessor	$	3
Additions	—
Reductions	—
Balance at July 14, 2016 - Predecessor	$	3


Balance at July 14, 2016 - Successor	$	3
Additions	—
Reductions	—
Balance at December 31, 2016 - Successor	3
Additions	—
Reductions	(1		)
Balance at December 31, 2017 - Successor	$	2

None of the unrecognized tax benefits are expected to significantly increase or decrease in the next twelve months. None of the unrecognized tax benefits would, if recognized, affect the effective tax rate. The reduction in the balance in 2017 is related to the effects of the U.S. Federal Tax reforms enacted in 2017.

Verso files income tax returns in the United States for federal and various state jurisdictions. As of December 31, 2017, periods beginning in 2014 are still open for examination by various taxing authorities; however, taxing authorities have the ability to adjust net operating loss carryforwards from years prior to 2014. As of December 31, 2017, there are no ongoing federal or state income tax audits.