First Foundation Inc.

NOTE 16: INCOME TAXES

Taxes on income for 2017, and net deferred tax assets as of December 31, 2017, reflect a $5.4 million adjustment recorded as a result of the enactment of H.R.1, the Tax Cuts and Jobs Act which reduced Company’s applicable Federal tax rate from 35% to 21% effective January 1, 2018. The adjustment resulted in lower net deferred tax assets and higher taxes on income.

The Company is subject to federal income tax and California franchise tax. Income tax expense (benefit) was as follows for the years ended December 31:

(dollars in thousands)	2017			2016		2015
Current expense:
Federal	$	14,122		$	10,235	$	8,620
State		4,384			3,459		2,700
Deferred expense (benefit):
Federal		4,677			1,263		(1,525	)
State		(166	)		74		(341	)
Total	$	23,017		$	15,031	$	9,454

The following is a comparison of the federal statutory income tax rates to the Company’s effective income tax rate for the years ended December 31:

	2017						2016					2015
(dollars in thousands)	Amount			Rate			Amount		Rate			Amount			Rate
Income before taxes	$	50,599					$	38,334				$	22,832
Federal tax statutory rate	$	17,710			35.00	%	$	13,417		35.00	%	$	7,991			35.00	%
State tax, net of Federal benefit		3,313			6.55	%		2,510		6.55	%		1,536			6.73	%
Windfall benefit – exercise of stock options		(3,762	)		(7.43	)%		(1,025)		(2.67)	%		—			—	%
Change in federal rate		5,414			10.70	%		—		—	%		—			—	%
Other items, net		342			0.68	%		129		0.34	%		(73	)		(0.32)	%
Effective tax rate	$	23,017			45.49	%	$	15,031		39.22	%	$	9,454			41.41	%

Deferred taxes are a result of differences between income tax accounting and generally accepted accounting principles with respect to income tax recognition. The following is a summary of the components of the net deferred tax assets recognized in the accompanying consolidated balance sheets at December 31:

(dollars in thousands)	2017			2016
Deferred tax assets (liabilities)
Allowance for loan and REO losses	$	4,741		$	6,258
Operating loss carryforwards		3,157			3,896
Market valuation: Acquired loans and REO		2,505			988
Stock-based compensation		678			1,171
State taxes		921			1,265
Accumulated other comprehensive income		2,105			3,668
Organizational expenses		179			238
Depreciation		(833	)		(1,017	)
Core deposit intangible		(1,817	)		(364	)
Prepaid expenses		(586	)		(827	)
Accrued vacation		418			478
Other		675			1,057
Net deferred tax assets	$	12,143		$	16,811

As part of the merger with DCB, the Company acquired operating loss carryforwards of $13.4 million. These operating loss carryforwards are subject to limitation under Section 382 of the Internal Revenue Service Code and expire in 2032. As a result, the Company will only be able to utilize operating loss carryforwards of $8.2 million, ratably over a period of 20 years. As part of the merger with PRB, the Company acquired operating loss carryforwards of $3.9 million. These operating loss carryforwards are subject to limitation under Section 382 of the Internal Revenue Service Code and expire in 2035. As part of the merger with C1B, the Company acquired operating loss carryforwards of $2.4 million. These operating loss carryforwards are subject to limitation under Section 382 of the Internal Revenue Service Code and expire in 2037. As of December 31, 2017, the remaining operating loss carryforwards from DCB, PRB and C1B available to be utilized by the Company were $11.2 million.

The Company has no other operating loss carryforwards. The Company is subject to federal income tax and franchise tax of the state of California. Income tax returns for the periods 2016 through 2017 are open to audit by federal authorities, for the periods 2014 through 2017 by California state authorities, and for 2015 through 2017 by Hawaii state authorities.