CERUS CORP

Note 15. Income Taxes

On December 22, 2017, new tax legislation, Tax Cuts and Jobs Act (the “Tax Act”), was signed into law which significantly changes the Internal Revenue Code of 1986, as amended. The Tax Act, among other things, contains significant changes to corporate taxation including a change in the statutory tax rate on income to 21% and a mandatory deemed repatriation of previously unremitted foreign earnings. The Tax Act changes have been applied to reasonably estimate adjustments which are included in the below. These provisional amounts are based on the available regulatory guidance and the Company’s internal estimates as available at issuance of financial statements. The Company is continuing its analysis of both regulatory guidance and its internal information and any changes to the provisional estimates will be recorded as needed.

U.S and foreign components of consolidated loss before income taxes for the years ended December 31, 2017, 2016 and 2015, was as follows (in thousands):

	2017			2016			2015
Loss before income taxes:
U.S.	$	(57,925	)	$	(63,246	)	$	(59,897	)
Foreign		1,227			515			358
Loss before income taxes	$	(56,698	)	$	(62,731	)	$	(59,539	)

The provision for income taxes for the years ended December 31, 2017, 2016 and 2015, was as follows (in thousands):

	2017		2016		2015
Provision for income taxes:
Current:
Foreign	$	181	$	147	$	147
Federal		—		—		—
State		—		—		—
Total current		181		147		147
Deferred:
Foreign		—		—		—
Federal		3,659		28		(3,750	)
State		47		—		(68	)
Total deferred		3,706		28		(3,818	)
Provision (benefit) for income taxes	$	3,887	$	175	$	(3,671	)

The difference between the provision for income taxes and the amount computed by applying the federal statutory income tax rate to loss before taxes for the years ended December 31, 2017, 2016 and 2015, was as follows (in thousands):

	2017			2016			2015
Federal statutory tax	$	(19,277	)	$	(21,329	)	$	(20,243	)
Tax Act revaluation of deferred taxes		81,923			—			—
Tax Act deemed income inclusion		1,083			—			—
Federal research credits		(1,000	)		(809	)		(838	)
Warrants		—			—			(3,565	)
Expiration of federal loss carryovers		—			—			3,337
Expiration of California loss carryovers		1,475			—			—
Change in valuation allowance		(59,462	)		3,940			11,754
Non-deductible stock based compensation		1,382			484			449
Change in state apportionment		—			—			4,085
Revision to prior year items		—			17,200			—
Other		(2,237	)		689			1,350
Provision (benefit) for income taxes	$	3,887		$	175		$	(3,671	)

On December 31, 2015, the California Supreme Court issued a decision disallowing the use of an income apportionment method pursuant to the Multistate Tax Compact. On October 10, 2016, the U.S Supreme Court decided not to hear an appeal of this decision. Previously the Company had relied on lower court decisions allowing the use of this apportionment method to file its 2013 and 2014 tax returns and to determine its deferred tax balances. Based on the California Supreme Court decision, the Company adjusted the apportionment for its deferred tax balances and the respective valuation allowance as of December 31, 2015.

During 2017 the Company reviewed its cumulative research tax credits and tax losses. As part of this review, revisions were made to the amounts as originally estimated which are reflected in the deferred tax balances and the respective valuation allowance as of December 31, 2017.

The Tax Act resulted in a significant revaluation in the Company’s deferred tax balances as of the date of December 22, 2017, enactment due to the change in the statutory rate. In addition, all of the previously unremitted earnings of Cerus Europe B.V. were deemed to be distributed as of December 31, 2017, which resulted in a one-time deemed income inclusion.

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes at the enacted rates. The significant components of the Company’s deferred tax assets and liabilities at December 31, 2017 and 2016, were as follows (in thousands):

	December 31,
	2017			2016
Deferred tax assets:
Net operating loss carryforwards	$	117,028		$	176,490
Research and development credit carryforwards		25,061			22,128
Capitalized research and development		17,195			22,575
Deferred compensation		7,011			8,242
Other		3,116			3,184
Total deferred tax assets		169,411			232,619
Valuation allowance		(169,332	)		(228,794	)
Net deferred tax assets	$	79		$	3,825

Deferred tax liabilities:
Unrealized gain on investments	$	—		$	3,825
Amortization of goodwill		111			150
Total deferred tax liabilities	$	111		$	3,975

The valuation allowance decreased by $59.5 million for the year ended December 31, 2017, compared to the increase of $3.9 million and $11.8 million for the years ended December 31, 2016 and 2015, respectively. The Company believes that, based on a number of factors, the available objective evidence creates sufficient uncertainty regarding the realizability of the deferred tax assets such that a valuation allowance has been recorded. These factors include the Company’s history of net losses since its inception, the need for regulatory approval of the Company’s products prior to commercialization and expected near-term future losses. The Company expects to maintain a valuation allowance until circumstances change.

For the year ended December 31, 2017, the Company reported pretax net losses on its consolidated statement of operations and calculated taxable losses for both federal and state taxes. The difference between reported net loss and taxable loss are due to differences between book accounting and the respective tax laws.

The Company's tax losses and credits are subject to varying carryforward periods. The gross amounts and dates of expiration of the significant carryforwards are as follows:

			Expires		Expires		Expires		No
	Total		2018-2020		2021-2027		2028-2037		Expiration
Federal losses carryovers	$	531,303	$	74,073	$	145,248	$	311,982	$	—
California loss carryovers		73,860		19,243		—		54,617		—
Federal research credits		17,642		3,262		9,866		4,514		—
California research credits		9,391		—		—		—		9,391
Federal foreign tax credits		610		—		610		—		—

The Company’s ability to utilize net operating loss and research and development credit carryforwards is limited by (a) its ability to generate future taxable income, (b) varying apportionment and allocation rules including new provisions as part of the Tax Act, and (c) limitations pursuant to the ownership change rules in accordance with Section 382 of the Internal Revenue Code of 1986 and with Section 383 of the Internal Revenue Code of 1986, as well as similar state provisions.

The Company’s unrecognized tax benefits relate to federal and California research tax credits. These tax credits have not been utilized on any tax return and currently have no impact on the Company’s tax expense due to the Company’s operating losses and the related valuation allowances.

The following is a tabular reconciliation of the total amounts of unrecognized tax benefits (in thousands):

	December 31,		December 31,
	2017		2016
Unrecognized tax benefits at beginning of period	$	10,836	$	—
Increases related to prior year tax positions		19		10,691
Increases related to current year tax positions		207		145
Unrecognized tax benefits at end of period	$	11,062	$	10,836

The Company will recognize accrued interest and penalties related to unrecognized tax benefits in its income tax expense. To date, the Company has not recognized any interest and penalties in its consolidated statements of operations, nor has it accrued for or made payments for interest and penalties.

The Company’s federal tax returns for years 1998 through 2016 and California tax returns for years through 2016 remain subject to examination by the taxing jurisdictions due to unutilized net operating losses and research credits. The Netherlands tax returns of the Company’s Europe B.V. subsidiary for the years 2014 through 2016 are still subject to examination. There was no income tax audit activity in 2016 nor has the Company been notified by any tax agency of any planned audits.