|
|
8. |
Income Taxes |
The Company files tax returns as prescribed by the tax laws of the jurisdictions in which it operates. In the normal course of business, the Company is subject to examination by the federal and state jurisdictions where applicable. There are currently no pending income tax examinations. The Company’s tax years for 2005 and forward are subject to examination by the federal and California tax authorities due to the carryforward of unutilized net operating losses and research and development credits.
On December 22, 2017, President Trump signed into law the Tax Cuts and Jobs Act (the Tax Act), a tax reform bill which, among other items, reduces the current corporate federal income tax rate to 21% from 35%. The rate reduction is effective January 1, 2018. The Company concluded that the Tax Act will cause its deferred tax assets and liabilities to be revalued. Deferred income taxes result from temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements that will result in taxable or deductible amounts in future years. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in years in which those temporary differences are expected to be recovered or settled. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through income tax expense.
Pursuant to the SEC Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (SAB 118), a company may select between one of three scenarios to determine a reasonable estimate arising from the Tax Act. Those scenarios are (i) a final estimate which effectively closes the measurement window; (ii) a reasonable estimate leaving the measurement window open for future revisions; and (iii) no estimate as the law is still being analyzed. The Company was able to provide a reasonable estimate for the revaluation of deferred taxes for which the measurement window will remain open by recording a net tax provision of $16.2 million in the period ending December 31, 2017, which is offset by a full valuation allowance. This tax expense is primarily due to the corporate rate reduction.
Pursuant to Internal Revenue Code (IRC) Sections 382 and 383, annual use of the Company’s net operating loss and research and development credit carryforwards may be limited in the event a cumulative change in ownership of more than 50% occurs within a three-year period. The Company performed an IRC Section 382/383 analysis regarding the limitation of net operating loss and research and development credit carryforwards during 2017, which determined an ownership change of more than 50% had occurred on October 27, 2006 as a result of the first issuance of the Company’s Series A Preferred Stock and another ownership change had occurred on July 30, 2013 as a result of the Company’s issuance of stock in connection with its IPO. As a result, the Company’s federal net operating losses were not forfeited with the exception of an immaterial amount.
Significant components of the Company’s deferred tax assets at December 31, 2017 and 2016 are shown below:
|
|
|
December 31, |
|
|||||
|
|
|
2017 |
|
|
2016 |
|
||
|
Deferred tax assets |
|
|
|
|
|
|
|
|
|
Net operating loss carryovers |
|
$ |
25,202,000 |
|
|
$ |
41,103,000 |
|
|
Research and development tax credits |
|
|
7,529,000 |
|
|
|
4,989,000 |
|
|
Intangibles |
|
|
480,000 |
|
|
|
643,000 |
|
|
Stock options |
|
|
1,840,000 |
|
|
|
2,071,000 |
|
|
Compensation |
|
|
406,000 |
|
|
|
786,000 |
|
|
Other |
|
|
5,667,000 |
|
|
|
486,000 |
|
|
Total gross deferred tax assets |
|
|
41,124,000 |
|
|
|
50,078,000 |
|
|
Less valuation allowance |
|
|
(41,124,000 |
) |
|
|
(50,078,000 |
) |
|
Net deferred tax assets |
|
$ |
— |
|
|
$ |
— |
|
A reconciliation of the statutory tax rates and the effective tax rates for the years ended December 31, 2017, 2016 and 2015 is as follows:
|
|
|
December 31, |
|
|||||||||
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Statutory rate |
|
|
34.00 |
% |
|
|
34.00 |
% |
|
|
34.00 |
% |
|
State tax, net of federal benefit |
|
|
0.00 |
% |
|
|
0.00 |
% |
|
|
5.83 |
% |
|
Valuation allowance |
|
|
51.50 |
% |
|
|
(34.26 |
%) |
|
|
(42.48 |
%) |
|
Federal tax rate change |
|
|
(93.30 |
%) |
|
|
0.00 |
% |
|
|
0.00 |
% |
|
General business credits |
|
|
10.80 |
% |
|
|
0.00 |
% |
|
|
0.00 |
% |
|
Other |
|
|
(3.00 |
%) |
|
|
0.26 |
% |
|
|
2.65 |
% |
|
Effective tax rate |
|
|
— |
% |
|
|
— |
% |
|
|
— |
% |
At December 31, 2017, the Company had federal and state net operating loss carryforwards of $94.6 million and $76.4 million, respectively. The federal loss carryforwards begin to expire in 2028, unless previously utilized, and the state carryforwards began to expire in 2015. California net operating losses of $4.2 million expired in 2017. The Company also has federal and state research credit carryforwards of $7.7 million and $2.0 million, respectively. The federal research credit carryforwards will begin expiring in 2027, unless previously utilized. The state research credit will carry forward indefinitely. The change in the valuation allowance is a decrease of $9.0 million for the year ended December 31, 2017 and an increase of $10.2 million for the years ended December 31, 2016 and 2015.
The Company recognizes the impact of uncertain income tax positions at the largest amount that is “more likely than not” to be sustained upon audit by the relevant taxing authority. An uncertain tax position will not be recognized if it has less than a 50% likelihood of being sustained.
The following table summarizes the activity related to the Company’s unrecognized tax benefits:
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Balance at beginning of year |
|
$ |
1,318,839 |
|
|
$ |
981,380 |
|
|
$ |
571,194 |
|
|
Additions based on tax positions related to the current year |
|
|
613,589 |
|
|
|
337,459 |
|
|
|
337,862 |
|
|
Additions for tax positions of prior years |
|
|
— |
|
|
|
— |
|
|
|
72,324 |
|
|
Balance at end of year |
|
$ |
1,932,428 |
|
|
$ |
1,318,839 |
|
|
$ |
981,380 |
|
The Company does not expect that the unrecognized tax benefits will change within 12 months of this reporting date. Due to the existence of the valuation allowance, future changes in the Company’s unrecognized tax benefits will not impact the Company’s effective tax rate. The Company’s policy is to recognize interest and penalties related to income tax matters in income tax expense. For the years ended December 31, 2017, 2016 and 2015, the Company has not recognized any interest or penalties related to income taxes.