Note 10. Income Taxes
Arlington Asset is subject to taxation as a corporation under Subchapter C of the Internal Revenue Code of 1986, as amended (the “Code”). As of December 31, 2017, the Company had estimated net operating loss (“NOL”) carryforwards of $60,681 that can be used to offset future taxable ordinary income. The Company’s NOL carryforwards begin to expire in 2027. As of December 31, 2017, the Company had estimated net capital loss (“NCL”) carryforwards of $314,277 that can be used to offset future net capital gains. The scheduled expirations of the Company’s NCL carryforwards are $136,840 in 2019, $102,927 in 2020, $70,319 in 2021 and $4,191 in 2022.
Income taxes are provided for using the asset and liability method. Deferred tax assets and liabilities reflect the impact of temporary differences between the carrying amount of assets and liabilities pursuant to the application of GAAP and their respective tax bases and are stated at tax rates expected to be in effect when the taxes are actually paid or recovered. Deferred tax assets are also recorded for NOL carryforwards, NCL carryforwards and any tax credit carryforwards.
On December 22, 2017, the President signed the Tax Cuts and Jobs Act, which provides for substantial changes to the federal taxation of individuals and corporations with an effective date of January 1, 2018. For corporate taxpayers, the federal income tax rate was lowered from 35.0% to 21.0%. The effects of changes in tax laws and rates on deferred tax assets and liabilities are required to be recognized in the period in which the legislation is enacted as a discrete item within the income tax provision. As a result of the decrease in the federal tax rate, the Company recorded an additional income tax provision of $409 during the year ended December 31, 2017.
Through December 31, 2017, the Company was subject to federal alternative minimum tax (“AMT”) on its taxable income and gains that are not offset by its NOL and NCL carryforwards with any AMT credit carryforwards available to offset future regular tax liabilities. As part of the Tax Cuts and Jobs Act, the corporate AMT is repealed for tax years beginning after December 31, 2017 with any AMT credit carryforward after that date continuing to be available to offset a taxpayer’s future regular tax liability. In addition, for tax years beginning in 2018, 2019 and 2020, to the extent that AMT credit carryforwards exceed the regular tax liability, 50% of the excess AMT credit carryforwards would be refundable in that year with any remaining AMT credit carryforwards fully refundable in 2021. As a result, the realizability of the Company’s AMT credit carryforward is now certain and will be now be realized as either a cash refund or as an offset to future regular tax liabilities or a combination of both. Accordingly, the Company reclassified its AMT credit carryforward from net deferred tax assets to a receivable. As of December 31, 2017, the Company had AMT credit carryforwards of $9,133 included in other assets on the accompanying consolidated balance sheets.
A valuation allowance is provided against the deferred tax asset if, based upon the Company’s evaluation, it is more-likely-than-not that some or all of the deferred tax assets will not be realized. All available evidence, both positive and negative, is incorporated into the determination of whether a valuation allowance for deferred tax assets is appropriate. Items considered in the valuation allowance determination include expectations of future earnings of the appropriate tax character, recent historical financial results, tax planning strategies, the length of statutory carryforward periods and the expected timing of the reversal of temporary differences.
As of December 31, 2017, the Company determined that it should record a full valuation allowance against its deferred tax assets that are capital in nature, which consists of its NCL carryforwards and temporary GAAP to tax differences that are expected to result in capital losses in future periods. As of December 31, 2017, the Company determined that it should not record any valuation allowance against its deferred tax assets that are ordinary in nature, which consists of its NOL carryforwards and temporary GAAP to tax differences that are expected to result in deductions from ordinary income in future periods. For the year ended December 31, 2017, the Company recorded an increase to its valuation allowance of $16,761.
As of December 31, 2016, the Company determined that it should record a partial valuation allowance against its deferred tax assets that are capital in nature, which consisted of its NCL carryforwards and temporary GAAP to tax differences that are expected to result in capital losses in future periods. As of December 31, 2016, the Company determined that it should not record any valuation allowance against its deferred tax assets that are ordinary in nature, which consists of its NOL and tax credit carryforwards, and temporary GAAP to tax differences that are expected to result in deductions from ordinary income in future periods. For the year ended December 31, 2016, the Company recorded an increase to its valuation allowance of $35,637.
Deferred tax assets and liabilities consisted of the following as of dates indicated:
|
|
|
December 31, 2017 |
|
|
December 31, 2016 |
|
||
|
Ordinary deferred tax assets: |
|
|
|
|
|
|
|
|
|
NOL carryforward |
|
$ |
15,619 |
|
|
$ |
37,238 |
|
|
AMT credit carryforward |
|
|
— |
|
|
|
8,427 |
|
|
Deferred net loss on designated derivatives |
|
|
4,381 |
|
|
|
1,386 |
|
|
Stock-based compensation |
|
|
1,999 |
|
|
|
2,426 |
|
|
Other, net |
|
|
19 |
|
|
|
208 |
|
|
Total ordinary deferred tax assets |
|
|
22,018 |
|
|
|
49,685 |
|
|
Ordinary deferred tax liabilities: |
|
|
|
|
|
|
|
|
|
Net unrealized gain on designated derivatives |
|
|
(21,218 |
) |
|
|
(25,145 |
) |
|
Ordinary deferred tax assets, net |
|
|
800 |
|
|
|
24,540 |
|
|
|
|
|
|
|
|
|
|
|
|
Capital deferred tax assets: |
|
|
|
|
|
|
|
|
|
NCL carryforward |
|
|
80,895 |
|
|
|
120,939 |
|
|
Net unrealized loss on investments |
|
|
23,431 |
|
|
|
44,253 |
|
|
Valuation allowance |
|
|
(104,326 |
) |
|
|
(140,903 |
) |
|
Total capital deferred tax assets, net |
|
|
— |
|
|
|
24,289 |
|
|
Total deferred tax assets, net |
|
$ |
800 |
|
|
$ |
48,829 |
|
The provision for income taxes from operations consists of the following for the years ended December 31, 2017, 2016 and 2015:
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Federal |
|
$ |
33,495 |
|
|
$ |
23,163 |
|
|
$ |
32,613 |
|
|
State |
|
|
6,108 |
|
|
|
4,224 |
|
|
|
5,948 |
|
|
Total income tax provision |
|
$ |
39,603 |
|
|
$ |
27,387 |
|
|
$ |
38,561 |
|
|
Current |
|
$ |
706 |
|
|
$ |
232 |
|
|
$ |
970 |
|
|
Deferred |
|
|
38,897 |
|
|
|
27,155 |
|
|
|
37,591 |
|
|
Total income tax provision |
|
$ |
39,603 |
|
|
$ |
27,387 |
|
|
$ |
38,561 |
|
The provision for income taxes results in effective tax rates that differ from the federal statutory rates. The reconciliation of the Company and its subsidiaries’ income tax attributable to net income computed at federal statutory rates to the provision for income taxes for the years ended December 31, 2017, 2016, and 2015 were as follows:
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Federal income tax at statutory rate |
|
$ |
19,963 |
|
|
$ |
(4,886 |
) |
|
$ |
(10,795 |
) |
|
State income taxes, net of federal benefit |
|
|
2,224 |
|
|
|
(544 |
) |
|
|
(1,203 |
) |
|
Change in enacted tax rate |
|
|
409 |
|
|
|
— |
|
|
|
— |
|
|
Losses on available-for sale MBS acquired prior to 2012 |
|
|
— |
|
|
|
(2,838 |
) |
|
|
(3,987 |
) |
|
Tax character adjustments |
|
|
— |
|
|
|
— |
|
|
|
(1,934 |
) |
|
Other, net |
|
|
246 |
|
|
|
18 |
|
|
|
45 |
|
|
Valuation allowance |
|
|
16,761 |
|
|
|
35,637 |
|
|
|
56,435 |
|
|
Total income tax provision |
|
$ |
39,603 |
|
|
$ |
27,387 |
|
|
$ |
38,561 |
|
The Company recognizes uncertain tax positions in the financial statements only when it is more-likely-than-not that the position will be sustained upon examination by the relevant taxing authority based on the technical merits of the position. A position that meets this standard is measured at the largest amount of benefit that will more-likely-than-not be realized upon settlement. A liability is established for differences between positions taken in a tax return and the financial statements. As of December 31, 2017 and 2016, the Company assessed the need for recording a provision for any uncertain tax position and has made the determination that such provision is not necessary.
The Company is subject to examination by the IRS and state and local authorities in jurisdictions where the Company has significant business operations. The Company’s federal tax returns for 2014 and forward remain subject to examination by the IRS.