CHEROKEE INC

6.Income Taxes

Geographic sources of (loss) income from continuing operations before income taxes are as follows:



	Year Ended		Year Ended		Year Ended
	January 28,		January 30,		January 31,
(amounts in thousands)	2017		2016		2015
United States	$	(3,928)	$	12,791	$	14,534
Foreign		(741)		—		—
(Loss) income from continuing operations before income taxes	$	(4,669)	$	12,791	$	14,534

The income tax provision as shown in the accompanying consolidated statements of operations includes the following:


	Year Ended		Year Ended		Year Ended
	January 28,		January 30,		January 31,
(amounts in thousands)	2017		2016		2015
Current:
Federal	$	813	$	2,585	$	2,979
State		252		(13)		(363)
Foreign		1,221		1,183		1,253
		2,286		3,755		3,869
Deferred:
Federal	$	1,088	$	644	$	630
State		108		33		17
Foreign		177		—		—
		1,373		677		647
Tax Expense (benefit) recorded as an increase (decrease) of paid-in capital:
Federal		(364)		(68)		182
State		(37)		(6)		16
		(401)		(74)		198
	$	3,258	$	4,358	$	4,714

The provision for income taxes differs from the tax computed using the statutory United States federal income tax rate as a result of the following items:


		Year Ended				Year Ended				Year Ended
		January 28,				January 30,				January 31,
		2017				2016				2015
Tax expense at U.S. statutory rate	$	(1,587.0)	34.0	%	$	4,349.0	34.0	%	$	4,942.0	34.0	%
State income taxes, net of federal income tax benefit		179.0	(3.8)			187.0	1.5			165.0	1.1
Adjustments to unrecognized tax benefits		233.0	(5.0)			(189.0)	(1.5)			(406.0)	(2.8)
Nondeductible expenses		151.0	(3.3)			17.0	0.1			14.0	0.1
Nondeductible transaction costs (a)		2,894.0	(62.0)			—	—			—	—
Valuation allowance		737.0	(15.8)			—	—			—	—
Foreign Taxes		86.0	(1.8)			—	—			—	—
Other		565.0	(12.1)			(6.0)	—			(1.0)	—
Tax provision	$	3,258.0	(69.8)	%	$	4,358.0	34.1	%	$	4,714.0	32.4	%

(a)

Nondeductible transaction costs incurred in connection with the Hi-Tec acquisition.

A summary of deferred income tax assets is as follows:



	January 28, 2017		January 30, 2016
(amounts in thousands)	Non-Current		Non-Current
Deferred tax assets:
Deferred revenue		478		492
Other		2,691		218
State income taxes		85		103
Compensation		1,630		1,789
Net operating loss and credit carryforwards		12,754		—
		17,638		2,602
Valuation Allowance		(14,889)		—
Total deferred tax assets		2,749		2,602
Deferred tax liabilities:
Amortization		(10,376)		(1,281)
Depreciation		(91)		(185)
Total deferred tax liabilities		(10,467)		(1,466)
Net deferred tax (liabilities) assets	$	(7,718)	$	1,136

As part of the Hi-Tec Acquisition, the Company acquired various net operating loss and credit carryforwards. At January 28, 2017, the carryforwards included federal and state net operating loss carryforwards of $15.9 million and $11.3 million, respectively. The Company’s federal and state net operating loss carryforwards both expire beginning in the fiscal year 2026. Foreign net operating loss carryforwards as of January 28, 2017 were $29.4 million and begin to expire in fiscal year 2021.

At January 28, 2017, the Company also had federal and state tax credit carryforwards of approximately $0.5 million. The tax credit carryforwards begin to expire in 2023.

The utilization of certain federal and state net operating loss and credit carryforwards acquired in connection with the acquisition of Hi-Tec are subject to annual limitations under Section 382 Internal Revenue Code of 1986 and similar state provisions.

As of January 28, 2017, the Company has recorded a valuation allowance related to its net operating losses and other deferred tax assets, excluding indefinite lived assets, for the foreign subsidiaries acquired in connection with the Hi-Tec Acquisition. The Company has concluded that it is not more likely than not that it will realize the full benefit of the deferred tax assets principally based on cumulative losses earned by these jurisdictions.

The Company has not provided deferred taxes on unremitted earnings attributable to foreign subsidiaries that have been considered permanently reinvested. As of January 28, 2017, the unremitted earnings from these operations were not significant.

A reconciliation of the beginning and ending amount of unrecognized tax benefits, excluding interest and penalties, is as follows:


	Year Ended		Year Ended		Year Ended
	January 28,		January 30,		January 31,
(amounts in thousands)	2017		2016		2015
Gross unrecognized tax benefits at beginning of year	$	—	$	449	$	1,045
Additions:
Tax positions taken in prior years (a)		2,566		—		105
Tax positions taken in the current year (a)		1,411		—		57
Reductions:
Tax positions taken in prior years		—		(96)		(566)
Tax positions taken in the current year		—		—		—
Settlement with taxing authorities		—		(170)		(192)
Lapse in statute of limitations		—		(183)		—
Gross unrecognized tax benefits at year end	$	3,977	$	—	$	449

(a)

As part of purchase price accounting for the Hi-Tec acquisition, the Company recorded $3.9 million of uncertain tax positions.

In accordance with authoritative guidance, interest and penalties related to unrecognized tax benefits are included within the provision for income taxes in the accompanying consolidated statements of operations. The total amount of interest and penalties recognized in the accompanying consolidated statements of operations for Fiscal 2017, Fiscal 2016 and Fiscal 2015, respectively, was $15, $(84) and $(260). As of January 28, 2017 and January 30, 2016, the total amount of accrued interest and penalties included in the Company’s liability for unrecognized tax benefits was $167 and $0, respectively.

Although we cannot predict the timing of resolution with taxing authorities, if any, we believe it is reasonably possible that $38 thousand of unrecognized tax benefits will be reduced in the next twelve months due to settlement with tax authorities or expiration of the applicable statute of limitations.

At January 28, 2017, approximately $3.9 million of unrecognized tax benefits would, if recognized, affect the effective tax rate.

The Company files income tax returns in the U.S. federal, California and certain other state jurisdictions. For federal income tax purposes, the Fiscal 2014 and later tax years remain open for examination by the tax authorities under the normal three-year statute of limitations. For state tax purposes, the Fiscal 2013 and later tax years remain open for examination by the tax authorities under a four-year statute of limitations.