QUALSTAR CORP

Note

– Income Taxes

The provision for (benefit from) income taxes is comprised of the following

, in thousands:

	December 31 , 201 7		December 31, 201 6
Current:
Federal (Net of a net operating loss benefit of $356)	$	—	$	—
State (Net of a net operating loss benefit of $82)		13		—
Foreign		4		—
		17		—
Deferred:
Federal		—		—
State		—		—
	$	—	$	—
	$	17	$	—

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

’s effective income tax rate:

	Twelve Months Ended December 31,
	201 7			201 6
Statutory federal income tax benefit		34.0	%		(34.0	)%
State income taxes, net of federal income tax benefit		13.6			8.7
Foreign income taxes, net of federal income tax benefit		6.4			(1.3	)
Engineering credits		3.4			(5.2	)
Tax effect of change in federal tax rate (from 34% to 21%)		649.5
Valuation allowance		(712.0	)		26.2
Other		7.8			5.6
Effective federal income tax rate		2.7	%		0.0	%

he tax effect of temporary differences resulted in deferred income tax assets (liabilities) as follows:

	December 31 , 201 7			December 31, 201 6

Deferred tax assets:
Net operating loss carry forwards	$	8,002		$	12,295
Engineering credit carry forwards		1,919			1,830
Inventory reserves		646			1,015
Capital loss and other credit carry forwards		0			21
Allowance for bad debts and returns		17			45
Capitalized inventory costs, stock compensation and other accruals		500			596
Total gross deferred tax assets		11,084			15,802
Less valuation allowance on deferred tax assets		(11,084	)		(15,765	)
Net deferred tax assets		0			37
Deferred tax liabilities:
Depreciation and other		—			(37	)
Total deferred tax liabilities		—			(37	)
Net deferred taxes	$	—		$	—

December 22, 2017,

H.R.

(the “

Tax Act”), originally known as the Tax Cuts and Jobs Act, was enacted in the United States. In addition to reducing the corporate tax rate to

21%

effective

January 1, 2018,

the Tax Act contains many other tax provisions that affect recorded deferred tax assets and liabilities. The majority of these new provisions are also effective as of

January 1, 2018,

though there are a few that are effective during the

2017

calendar year. Although for

2017

the Company will have federal alternative minimum tax (“AMT”) of approximately

$13,000,

the Tax Act eliminated the AMT effective

January 1, 2018,

and provides that any AMT credit carryforwards will be refunded. Accordingly, the

2017

AMT tax liability is being treated as a receivable rather than a current tax expense.

As previously indicated, the Company records a valuation allowance against its net deferred income tax assets in accordance with ASC

740

“

Income Taxes” when in management’s judgment, it is more likely than

not

that the deferred income tax assets will

not

be realized in the foreseeable future. For the year ended

December 31, 2017

and

2016,

the Company placed a valuation allowance on net deferred tax assets.

The Company has net operating loss carry-forwards for federal income tax purposes of approximately

$31.7

million as of

December 31, 2017

and

$32.6

million as of

December 31, 2016.

The Company has net operating loss carry-forwards for state income tax purposes of approximately

$20.6

million as of

December 31, 2017

and

$21.9

million as of

December 31, 2016

. The Company reported net operating loss carry-forwards for foreign income tax purposes of approximately

$0.2

million as of

December 31, 2016,

however, it has been determined that such net operating losses are

not

trading losses and therefore they will

not

be able to be used against future trading income. Accordingly, such losses have been eliminated for the

2017

fiscal year. The Company had engineering and other credits for tax purposes of

$2.7

million as of

December 31, 2017

and

$2.7

million as of

December 31, 2016.

not

utilized, the federal net operating loss will expire beginning in

2025,

and other tax credit carry-forwards will expire beginning in

2024.

not

utilized, the state net operating loss carry-forward as of

December 31, 2017

will ex

pire beginning in

2018.

The state engineering credit has

limit on the carry-forward period.

The following table summarizes the activity related to the Company

’s uncertain tax positions (in thousands):

	December 31 , 201 7		December 31, 201 6

Beginning Balance	$	29	$	27
Increases related to tax positions taken in current year		—		—
Increases related to tax positions taken in prior year		—		2
Decreases due to lapse of statute of limitations		—		—
Related interest and penalties, net of federal tax benefit		—		—
Balance at December 31	$	29	$	29

The deferred tax asset amounts related to NOL and credit carryforwards have been reduced by approximately

27,000

of uncertain tax positions. While the Company expects that the amount of its uncertain tax positions will change in the next

twelve

months, the Company does

not

expect this change to have a significant impact on its results of operations or financial position. In addition, future changes in the unrecognized tax benefit will have

impact on the Company’s effective tax rate due to the existence of the valuation allowance.

The Company

’s policy is to include interest and penalties on uncertain tax positions in income tax expense, but they are

not

significant at

December 31, 2017.

The Company files its tax returns by the laws of the jurisdictions in which it operates. The Company’s federal tax returns for fiscal years

June 30, 2014

and subsequent and California tax returns for fiscal years

June 30, 2013

and subsequent, are still subject to examination. Various state and foreign jurisdictions’ tax years remain open to examination as well, though the Company believes any additional assessment will be immaterial to its consolidated financial statements. The Company does

not

have any open examinations as of

December 31, 2017.