INCOME TAXES
The provision (benefit) for income taxes from continuing operations consisted of (in thousands):
|
| | | | | | | | | | | |
| December 31, 2017 | | December 31, 2016 | | December 31, 2015 |
Continuing operations | $ | — |
| | $ | — |
| | $ | (8,719 | ) |
Discontinued operations | — |
| | — |
| | — |
|
Provision (benefit) for income taxes | $ | — |
| | $ | — |
| | $ | (8,719 | ) |
Current | | | | | |
Federal | $ | — |
| | $ | — |
| | $ | 10 |
|
State | — |
| | — |
| | — |
|
| $ | — |
| | $ | — |
| | $ | 10 |
|
Deferred | | | | | |
Federal | 14,109 |
| | (16,550 | ) | | (9,149 | ) |
State | 2,931 |
| | (1,292 | ) | | (3,846 | ) |
| 17,040 |
| | (17,842 | ) | | (12,995 | ) |
Valuation allowance increase (decrease) | (17,040 | ) | | 17,842 |
| | 4,266 |
|
| $ | — |
| | $ | — |
| | $ | (8,729 | ) |
| | | | | |
Provision (benefit) for income taxes from continuing operations | $ | — |
| | $ | — |
| | $ | (8,729 | ) |
U.S. and foreign components of income (loss) from continuing operations before income taxes were as follows (in thousands):
|
| | | | | | | | | | | |
| December 31, 2017 | | December 31, 2016 | | December 31, 2015 |
U.S. | $ | (19,016 | ) | | $ | (23,405 | ) | | $ | (51,749 | ) |
Foreign | 15,778 |
| | (26,024 | ) | | 12,650 |
|
| $ | (3,238 | ) | | $ | (49,429 | ) | | $ | (39,099 | ) |
The Company’s actual provision (benefit) for income taxes from continuing operations differ from the federal expected income tax provision as follows (in thousands):
|
| | | | | | | | | | | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
| Amount | | Rate | | Amount | | Rate | | Amount | | Rate |
Tax provision (benefit) at statutory rate | $ | (1,134 | ) | | 35.00 | % | | $ | (17,300 | ) | | 35.00 | % | | $ | (13,685 | ) | | 35.00 | % |
Increase (decrease) in taxes resulting from: | | | | | | | | | | | |
State tax (net of federal benefit) | (679 | ) | | 20.98 |
| | (836 | ) | | 1.72 |
| | (1,617 | ) | | 4.14 |
|
Attribute reduction from ownership change | 35,871 |
| | (1,107.45 | ) | | — |
| | — |
| | — |
| | — |
|
Impact of rate changes | — |
| | — |
| | 253 |
| | (0.50 | ) | | 23 |
| | (0.06 | ) |
Litigation settlement | — |
| | — |
| | — |
|
| — |
|
| 2,275 |
|
| (5.82 | ) |
Other permanent items | 2 |
| | (0.07 | ) | | 4 |
| | (0.01 | ) | | 18 |
| | (0.05 | ) |
Tax Cuts and Job Act Enactment | (17,199 | ) | | 530.99 |
| | — |
| | — |
| | — |
| | — |
|
Prior year true-ups | 50 |
| | (1.54 | ) | | — |
| | — |
| | — |
| | — |
|
Other | 129 |
| | (3.99 | ) | | 37 |
| | (0.07 | ) | | — |
| | — |
|
Valuation allowance (decrease) increase | (17,040 | ) | | 526.08 |
| | 17,842 |
| | (36.14 | ) | | 4,267 |
| | (10.91 | ) |
Provision (benefit) for income taxes | $ | — |
| | — | % | | $ | — |
| | — | % | | $ | (8,719 | ) | | 22.30 | % |
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and tax liabilities were (in thousands):
|
| | | | | | | |
| December 31, 2017 | | December 31, 2016 |
Deferred tax assets: | | | |
Federal and state net operating loss carryforward | $ | 1,537 |
| | $ | 37,511 |
|
Unrealized gains on life settlements
| 4 |
| | — |
|
Revolving Credit Facilities | — |
| | 7,024 |
|
Deferred gain | 6,178 |
| | 14,112 |
|
Other | 1,281 |
| | 1,930 |
|
Total gross deferred tax assets | 9,000 |
| | 60,577 |
|
Less valuation allowance | (5,522 | ) | | (22,457 | ) |
Total deferred tax assets | 3,478 |
| | 38,120 |
|
Deferred tax liabilities: | | | |
Unrealized gains on life and structured settlements | — |
| | 20,321 |
|
Gain on structured settlements deferred for tax purposes | 2,466 |
| | 3,655 |
|
Convertible debt discount | 1,012 |
| | 3,430 |
|
Deferred income | — |
|
| 10,714 |
|
Total deferred tax liabilities | 3,478 |
| | 38,120 |
|
Total net deferred tax asset (liability) | $ | — |
| | $ | — |
|
The Company evaluates its deferred tax assets to determine if valuation allowances are required. In its evaluation, management considers taxable loss carryback availability, expectations of sufficient future taxable income, trends in earnings, existence of taxable income in recent years, the future reversal of temporary differences, and available tax planning strategies that could be implemented, if required. Valuation allowances are established based on the consideration of all available evidence using a more likely than not standard. Based on the Company’s evaluation, a deferred tax valuation allowance was established against its net deferred tax assets as of December 31, 2017. This valuation allowance was determined to be necessary as an offset to the full amount of the federal and state deferred tax asset.
The federal and state net operating loss carryovers ("NOLs") generated by the Company since its conversion to a corporation and remaining as of December 31, 2017 are approximately $113.8 million for federal income tax purposes and $119.1 million for state income tax purposes and expire beginning in 2031 (the NOL amounts include $11.2 million that were assumed from a prior reorganization transaction that involved a corporate shareholder and that were subject to Section 382 limitations). However, on July 28, 2017, as part of a series of integrated transactions to effectuate a recapitalization of the Company, the Company experienced an ownership change as described under Section 382 of the Internal Revenue Code. As a result of the ownership change, a significant portion of the Company’s cumulative U.S. federal and state NOLs of $97.5 million became unavailable to offset future taxable income. Management believes it is appropriate under the Company’s facts and circumstances to write off this amount, as well as the $11.2 million that had previously been subject to Section 382 limitations as the worthless portion of the deferred tax asset. The impact of the write-off will be offset by a decrease in the valuation allowance and should have no net impact on tax expense.
On December 22, 2017 the United States enacted the Tax Cuts and Jobs Act ("TCJA"). Under ASC 740, Income Taxes, the effects of new legislation are recognized upon enactment. Accordingly, recognition of the tax effects of the TCJA is required in the reporting periods that include December 22, 2017. Management has reviewed the legislation and addressed the provisions that are most relevant to its business, including the required accounting under ASC 740 for 2017. Due to the complexities inherent in the tax law changes, the SEC released Staff Accounting Bulletin (SAB) No. 118 on December 22, 2017 , to address the application of ASC 740 where a company does not have the requisite information available, prepared or analyzed in reasonable detail to properly account for items under the TCJA. The SAB has provided that where a company can make a reasonable estimate, it should record that estimate and make appropriate disclosures with updates during a measurement period of no more than a year from enactment. The Company has made its best estimate with respect to the estimated transition tax charge as of December 31, 2017 based on guidance available as of the date of this filing. Upon gathering all necessary data, interpreting any additional guidance from tax authorities, and completing the analysis, our provisional amount may be adjusted in the measurement period allowable in accordance with SAB 118. The key provisions of the TCJA that have factored into the determination of the Company’s tax position for the year ended December 31, 2017 are discussed below.
Corporate Tax Rate
The TCJA reduced the corporate tax rate from 35% to 21% generally effective for tax years beginning after December 31, 2017. Consequently, management has remeasured its deferred tax inventory at December 31, 2017 using the new corporate tax rate. The Company estimates that this will result in a reduction in the value of its net deferred tax asset of approximately $3.3 million that will be fully offset by its valuation allowance. The Company did not remeasure its deferred tax items as of December 22, 2017 (the TCJA enactment date) and account for any changes thereon through the end of 2017 using the 35% rate versus the 21% rate as any effects would be immaterial to the financial statements.
Transition Tax
Under Section 965 as amended by the TCJA, a U.S. shareholder of a controlled foreign corporation ("CFC") must generally include in gross income as a deemed dividend, at the end of the CFC’s last tax year beginning before January 1, 2018, the U.S. shareholder’s share of certain undistributed and previously untaxed accumulated earnings and profits ("E&P"). The income inclusion can be offset by a deduction intended to result (in the case of a Corporation) in an effective U.S. federal income tax rate of either 15.5% or 8% of the gross income inclusion amount. The applicable rate of tax will depend on the CFC’s cash and non-cash positions at certain measurement dates. The Company’s Ireland-based foreign subsidiaries had untaxed accumulated E&P that was deemed distributed to the United States in accordance with the provisions of the Transition Tax. The aggregation of the net income inclusion under Section 465 with other operating losses resulted in a U.S. taxable loss for 2017 of $1.6 million. As such, the Transition Tax did not result in a federal cash tax liability for the Company. For state tax purposes, Florida law has historically not included actual or deemed dividends from foreign subsidiaries in its tax base. The Florida legislature has not yet convened to determine the extent to which it will conform to the provisions within the TCJA. The Company has assumed that Florida will continue this treatment, and the Company will monitor future legislative developments in this area and appropriately adjust its deferred taxes, if necessary. At this time, the Company has made a reasonable estimate of the impact the deemed repatriation transition tax will have for the year ended December 31, 2017. The final impact of the TCJA may differ from estimates, due to, among other things, changes in our interpretations and assumptions from additional guidance that may be issued by the IRS. Management will continue to monitor future guidance during the measurement period provided for by SAB No. 118 and adjust if necessary.
Global Intangible Low-Taxed Income ("GILTI")
Beginning in 2018, under certain circumstances, Section 245A enacted by the TCJA eliminates U.S. federal income tax on dividends received from foreign subsidiaries of domestic corporations under a new participation exemption. However, the TCJA also creates a new tax on certain taxed foreign income under new Section 951A. Specifically, income earned in excess of a deemed return on tangible assets held by a CFC (such excess called "GILTI") must now generally be included as U.S. taxable income on a current basis by its U.S. shareholders. In general, the gross income inclusion can be offset by a deduction in an amount up to 50% of the inclusion (through the end of 2025, thereafter the deduction is reduced to 37.5%) under certain circumstances. Based on the Company’s life settlement assets held within Ireland, management expects the net income generated from these activities to qualify entirely as GILTI.
On January 10, 2018, the FASB provided guidance on how to account for deferred tax assets and liabilities expected to reverse in future years as GILTI. The FASB provided that a company may either (1) elect to treat taxes due on future U.S. inclusions of GILTI as a current-period expense when incurred or (2) factor such amounts into the Company’s measurement of its deferred taxes. For ASC 740 purposes, the Company intends to adopt an accounting policy to treat any future GILTI inclusion as a current-period expense instead of providing for U.S. deferred taxes on all temporary differences related to future GILTI items. The Company has historically maintained U.S. deferred income taxes to account for outside basis differences in is foreign subsidiaries since the earnings from such subsidiaries were not indefinitely reinvested outside the United States. To transition to the new accounting policy, the Company has reversed a net deferred tax liability of $11.8 million pertaining to outside basis differences in its foreign subsidiaries and recorded a corresponding deferred tax benefit for 2017 as part of continuing operations.
Treatment of NOLs
The TCJA makes changes to the treatment of NOLs arising in taxable years beginning after December 31, 2017. Such NOLs may only offset up to 80% of current year taxable income. Furthermore, such losses may not be carried back to prior years, but can be carried forward indefinitely. The treatment of NOLs arising for the year ended December 31, 2017 will remain as under prior law. Based on the volatility in the Company’s earnings from year to year, the new NOL provisions could have an impact on the Company’s cash taxes in future years.
Other Tax disclosures
The Company recorded a deferred tax asset for the increase in tax basis associated with the transfer of assets to subsidiaries located in Ireland. The net deferred asset with respect to these transactions is $6.2 million and $14.1 million for the years ended December 31, 2017 and December 31, 2016, respectively, which will serve as a tax benefit upon reversal as life settlements mature or are sold.
Generally, the amount of tax expense or benefit allocated to continuing operations is determined without regard to the tax effects of other categories of income or loss, such as other comprehensive income. However, an exception to the general rule is provided when, in the presence of a valuation allowance against deferred tax assets, there is a pretax loss from continuing operations and pretax income from other categories. In such instances, income from other categories must offset the current loss from operations, the tax benefit of such offset being reflected in continuing operations. For the year ended December 31, 2013, we increased our deferred tax valuation allowance from continuing operations by $56,000 to reflect the taxable income associated with unrealized gains in accumulated other comprehensive income.
Tax years prior to 2014 are no longer subject to IRS examination. Various state jurisdiction tax years remain open to examination.
Unrecognized Tax Benefits
The Company recognizes interest and penalties accrued related to unrecognized tax benefits in tax expense. A reconciliation of the total amounts of unrecognized benefits at the beginning and end of the period was as follows (in thousands):
|
| | | | | | | | | | | |
| December 31, 2017 | | December 31, 2016 | | December 31, 2015 |
Balance as of beginning of period | $ | 6,295 |
| | $ | 6,295 |
| | $ | 6,295 |
|
Additions based on tax positions taken in the current year | — |
| | — |
| | — |
|
Reductions of tax positions for prior years | (6,295 | ) | | — |
| | — |
|
Balance as of end of period | $ | — |
| | $ | 6,295 |
| | $ | 6,295 |
|
The unrecognized benefit is reflected as a reduction of the deferred tax asset related to the federal and state NOLs. Due to the Section 382 limitation that will impact the future utilization of NOLs attributable to pre-ownership change periods, the NOLs that gave rise to the unrecognized tax benefit will be entirely forfeited. As such, the Company has written off the deferred tax asset and eliminated the liability for unrecognized tax benefits. The impact of reversing the unrecognized tax benefit will be offset by an increase to the valuation allowance and have no net impact to tax expense.
Repatriation of Foreign Income
Effective May 16, 2014 Lamington Road Limited, an Irish section 110 limited company and an indirect subsidiary of the Company ("Lamington") issued a promissory note to Markley Asset Portfolio, LLC a Delaware limited liability company and an indirect subsidiary of the Company ("Markley"), in a principal amount of $59.3 million. The amount was used by the Lamington as the partial purchase price of Markley’s interest in White Eagle. The annual interest rate on the Promissory Note is 8.5% and is due to be paid at the end of each calendar year; provided that any interest accrued at the end of a calendar year which is not paid within seven business days thereafter shall be capitalized and added to the outstanding principal balance. As of December 31, 2017, the outstanding principal balance was $80.1 million, which includes $20.8 million in capitalized interest expense.
Effective July 28, 2017, Lamington, issued a promissory note to Markley, in a principal amount of $57.0 million. The amount represents distributions of earnings from Lamington's share of profits of White Eagle, to satisfy the Profit Participation Note issued by Markley to Lamington Road (the "Special Dividend Note"). The Special Dividend Note matures on July 28, 2027 and bears interest at an annual rate of 5.0%, provided that any interest accrued at the end of a calendar year which is not paid within seven business days thereafter shall be capitalized and increased to the outstanding principal balance. For 2017, the Special Dividend Note will be treated as a distribution of previously taxed income for U.S. tax purposes to the extent that the Company recognized a deemed dividend under the Transition Tax provisions. Management has estimated that the recognition of the taxable dividend will not result in any cash taxes for 2017. Future principal repayments of the Special Dividend Note to the Company should not result in an additional U.S. tax liability. As of December 31, 2017, the outstanding principal balance was $57.7 million, which includes $665,000 in capitalized interest expense.
As of December 31, 2017, the Company had the opportunity to repatriate funds of approximately $137.8 million through these promissory notes without a U.S. federal or state income tax liability. Both promissory notes are eliminated in consolidation.