7. Income Taxes
The expense (benefit) for income taxes reconciles to the amount computed by applying the federal statutory rate to income before taxes as follows (in thousands):
|
|
|
Year Ended December 31, |
|
|||||||||
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Income tax benefit at federal statutory rate |
|
$ |
(24,829 |
) |
|
$ |
(28,362 |
) |
|
$ |
(24,616 |
) |
|
State income tax, net of federal benefit |
|
|
(2,034 |
) |
|
|
(2,393 |
) |
|
|
(2,285 |
) |
|
Warrants revaluation |
|
|
(347 |
) |
|
|
|
|
|
|
|
|
|
Research and development credits |
|
|
(480 |
) |
|
|
(720 |
) |
|
|
(1,796 |
) |
|
Uncertain tax position |
|
|
|
|
|
|
— |
|
|
|
3,154 |
|
|
Stock-based compensation |
|
|
3,214 |
|
|
|
1,686 |
|
|
|
1,904 |
|
|
Tax Cuts and Jobs Acts |
|
|
51,577 |
|
|
|
|
|
|
|
|
|
|
Other |
|
|
(7 |
) |
|
|
456 |
|
|
|
550 |
|
|
Removal of net operating losses and research and development credits |
|
|
145 |
|
|
|
— |
|
|
|
8,344 |
|
|
Change in valuation allowance |
|
|
(27,231 |
) |
|
|
29,318 |
|
|
|
14,755 |
|
|
Income tax expense (benefit) |
|
$ |
8 |
|
|
$ |
(15 |
) |
|
$ |
10 |
|
Significant components of the Company’s net deferred income tax assets at December 31, 2017 and 2016 are shown below (in thousands). A valuation allowance has been recorded to offset the net deferred tax asset as of December 31, 2017 and 2016, as the realization of such assets does not meet the more-likely-than-not threshold.
|
|
|
December 31, |
|
|||||
|
|
|
2017 |
|
|
2016 |
|
||
|
Deferred tax assets: |
|
|
|
|
|
|
|
|
|
Net operating loss (NOL) carryforwards |
|
$ |
81,483 |
|
|
$ |
100,251 |
|
|
Research and development tax credits carryforwards |
|
|
3,517 |
|
|
|
2,543 |
|
|
Capitalized research and development expenses |
|
|
12,746 |
|
|
|
16,673 |
|
|
Deferred rent |
|
|
170 |
|
|
|
537 |
|
|
Accrued compensation |
|
|
8,809 |
|
|
|
11,332 |
|
|
Other |
|
|
3,969 |
|
|
|
5,931 |
|
|
Total deferred tax assets |
|
|
110,694 |
|
|
|
137,267 |
|
|
Less valuation allowance |
|
|
(110,694 |
) |
|
|
(137,267 |
) |
|
Net deferred tax assets |
|
$ |
— |
|
|
$ |
— |
|
The remaining California NOL carry forwards of $181.3 million will expire beginning in 2028.
As of December 31, 2017, the Company has accumulated federal and state NOL carryforwards of approximately $335.3 million and $306.0 million, respectively, not considering the annual limitation of Section 382 of the Internal Revenue Code of 1986, as amended (the “Code”) discussed below. The federal and state tax loss carryforwards begin to expire in 2026 and 2018, respectively, unless previously utilized. The Company also has federal and California research credit carryforwards of approximately $4.4 million and $5.3 million, respectively. The federal research credit carryforwards will begin expiring in 2028 unless previously utilized. The California research credit will carry forward indefinitely.
In March 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update No. 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Shared-Based Payment Accounting (''ASU 2016-09''). ASU 2016-09 simplifies how several aspects of share-based payments are accounted for and presented in the financial statements. ASU 2016-09 is effective for public companies for and adopted by the Company in 2017. The Company adopted this ASU in 2017. The Company has excess tax benefits for which a benefit could not be previously recognized of approximately $1.8 million. Upon adoption the balance of the unrecognized excess tax benefits were reversed with the impact recorded to retained earnings which was fully offset by a change to the valuation allowance.
Utilization of the NOLs and R&D credit carryforwards are subject to annual limitations due to ownership change limitations that have occurred or that could occur in the future, as required by Section 382 of the Code, as well as similar state and foreign provisions. These ownership changes may limit the amount of NOLs and R&D credit carryforwards that can be utilized annually to offset future taxable income and tax, respectively. In general, an “ownership change,” as defined by Section 382 of the Code results from a transaction or series of transactions over a three-year period resulting in an ownership change of more than 50 percentage points of the outstanding stock of a company by certain stockholders.
Although the Company determined that it is more likely than not that an ownership change had occurred in March 2015, the Company has not completed a formal update of its Section 382 analysis subsequent to December 31, 2013. Until this analysis has been updated, the Company has removed deferred tax assets for NOLs of $16.0 million and research and development credits of $2.9 million from its deferred tax asset schedule and has recorded a corresponding decrease to its valuation allowance. The amount presented as a deferred tax asset with respect to losses and credits after the removal of potentially limited amounts reflects the estimated asset value using the Section 382 limitation criteria as of the date of the March 2015 public offering of 603,750 shares of common stock, given that it is possible that this transaction may have triggered the limitation. When this analysis is finalized, the Company will reassess the amount of NOLs and credits subject to limitation under Section 382. Due to the existence of the valuation allowance, future changes in the deferred tax assets related to these tax attributes will not impact the Company’s effective tax rate.
The evaluation of uncertainty in a tax position is a two-step process. The first step involves recognition. The Company determines whether it is more likely than not that a tax position will be sustained upon tax examination, including resolution of any related appeals or litigation, based on only the technical merits of the position. The technical merits of a tax position are derived from both statutory and judicial authority (legislation and statutes, legislative intent, regulations, rulings, and case law) and their applicability to the facts and circumstances of the tax position. If a tax position does not meet the more-likely-than-not recognition threshold, the benefit of that position is not recognized in the financial statements. The second step is measurement. A tax position that meets the more-likely-than-not recognition threshold is measured to determine the amount of benefit to recognize in the financial statements. The tax position is measured as the largest amount of benefit that is greater than 50% likely of being realized upon ultimate resolution with a taxing authority.
In December 2017, the Tax Cuts and Jobs Act (the “2017 Act”) was enacted. The 2017 Tax Act includes a number of changes to existing U.S. tax laws that impact the company, most notably a reduction of the U.S. corporate income tax rate from 35 percent to 21 percent for tax years beginning after December 31, 2017. The 2017 Tax Act also provides for the acceleration of depreciation for certain assets placed in service after September 27, 2017 as well as prospective changes beginning in 2018, including additional limitations on executive compensation, limitations on the deductibility of interest and capitalization of research and development expenditures.
Reduction of the U.S. Corporate Income Tax Rate: The Company measures deferred tax assets and liabilities using enacted tax rates that will apply in the years in which the temporary differences are expected to be recovered or paid. Accordingly, the Company's deferred tax assets and liabilities were remeasured to reflect the reduction in the U.S. corporate income tax rate from the highest graduated tax of 35% to a 21% flat tax. As a result of the tax rate, our deferred tax assets were decreased by $51.6 million and the valuation allowance was decreased by the same amount, resulting in no net tax expense.
The Act will no longer allow deductions for compensation in excess of $1 million for certain employees, even if paid as commissions or performance based compensation. It also subjects the principal executive officer, principal financial officer and three other highest paid officers to the limitation and once the individual becomes a covered person, the individual will remain a covered person for all future years. The tax effects of these provisions requires further analysis which is expected to be completed in the second half of 2018.
The company recognized the income tax effects of the 2017 Tax Act in its 2017 financial statements in accordance with Staff Accounting Bulletin No. 118, which provides SEC staff guidance for the application of ASC Topic 740, Income Taxes, in the reporting period in which the 2017 Act was signed into law. As such, the Company's financial results reflect the provisional income tax effects of the 2017 Tax Act for which the accounting under ASC Topic 740 is incomplete but a reasonable estimate could be determined.
The following table summarizes the activity related to the Company’s gross unrecognized tax benefits at the beginning and end of the years ended December 31, 2017, 2016 and 2015 (in thousands):
|
|
|
Year Ended December 31, |
|
|||||||||
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Gross unrecognized tax benefits at the beginning of the year |
|
$ |
8,167 |
|
|
$ |
7,594 |
|
|
$ |
3,539 |
|
|
Increases related to current year positions |
|
|
411 |
|
|
|
580 |
|
|
|
474 |
|
|
Increases (decreases) related to prior year positions |
|
|
(457 |
) |
|
|
(7 |
) |
|
|
3,581 |
|
|
Expiration of unrecognized tax benefits |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
Gross unrecognized tax benefits at the end of the year |
|
$ |
8,121 |
|
|
$ |
8,167 |
|
|
$ |
7,594 |
|
As of December 31, 2017, the Company had $6.7 million of unrecognized tax benefits that, if recognized and realized would impact the effective tax rate.
The Company’s practice is to recognize interest and penalties related to income tax matters in income tax expense. The Company had no accrual for interest and penalties on the Company’s balance sheets and has not recognized interest and penalties in the statements of operations for the years ended December 31, 2017 and 2016. The Company does not expect any significant increases or decreases to its unrecognized tax benefits within the next 12 months.
The Company is subject to taxation in the United States and state jurisdictions. The Company’s tax years from 2006 (inception) are subject to examination by the United States and state authorities due to the carry forward of unutilized NOLs and research and development credits.