Income tax expense is estimated using the tax rate in effect or to be in effect during the relevant periods in the jurisdictions in which we operate. Deferred income tax assets and liabilities are recognized for temporary differences between the basis of assets and liabilities for financial reporting and tax purposes and are stated at enacted tax rates expected to be in effect when taxes are actually paid or recovered. To the extent we do not consider it more likely than not that a deferred tax asset will be recovered, a valuation allowance is established. We record a valuation allowance to reduce our deferred tax assets to the amount we believe is more likely than not to be realized. In making these determinations we consider historical and projected taxable income, and ongoing prudent and feasible tax planning strategies, in assessing the appropriateness of a valuation allowance. Changes in tax legislation are included in the relevant computations in the period in which such changes are effective.
The Reorganization Transactions became effective on May 12, 2015. As a result, no income prior to May 12, 2015 is subject to income tax.
U.S. Federal and State Taxes
Although we are organized as a limited partnership, we have elected to be treated as a corporation for U.S. federal income tax purposes and are therefore subject to both U.S. federal and state income taxes. We are projecting a loss for both U.S. federal and state income taxes for the tax year ended December 31, 2017. As a result, there is no current provision for income taxes for the year ended December 31, 2017.
Tax Components
Components of the deferred income tax expense (benefit) are as follows: |
| | | | | | | | | | | |
| Year Ended December 31, |
| 2017 | | 2016 | | 2015 |
| (in thousands) |
Deferred tax expense (benefit): | | | | | |
Federal income tax | $ | 200,787 |
| | $ | 15,587 |
| | $ | 5,675 |
|
State income tax | 7,671 |
| | 2,154 |
| | (12,952 | ) |
Total deferred tax expense (benefit) | $ | 208,458 |
| | $ | 17,741 |
| | $ | (7,277 | ) |
The difference between tax expense based on the statuary federal income tax rate and our effective tax expense is summarized as follows:
|
| | | | | | | | | | | |
| Year Ended December 31, |
| 2017 | | 2016 | | 2015 |
| (in thousands) |
Income before tax | $ | 432,443 |
| | $ | 267,780 |
| | $ | 193,071 |
|
Less: Predecessor operations interest in net income | — |
| | (6,995 | ) | | (12,357 | ) |
Income before tax, excluding predecessor operations interest | 432,443 |
| | 260,785 |
| | 180,714 |
|
Less: Net income attributable to noncontrolling interests | (352,714 | ) | | (216,250 | ) | | (156,035 | ) |
Less: Net income attributable to TEGP prior to May 12, 2015 | — |
| | — |
| | (7,393 | ) |
Income subject to tax | $ | 79,729 |
| | $ | 44,535 |
| | $ | 17,286 |
|
Federal statutory income tax rate | 35 | % | | 35 | % | | 35 | % |
Income tax at statutory rate | $ | 27,905 |
| | $ | 15,587 |
| | $ | 6,050 |
|
State income taxes, net of federal benefit | 2,392 |
| | 1,592 |
| | 449 |
|
Change in state tax rate | 1,353 |
| | 562 |
| | (13,776 | ) |
Valuation allowance | 3,926 |
| | — |
| | — |
|
Total income tax expense before change in tax legislation | $ | 35,576 |
| | $ | 17,741 |
| | $ | (7,277 | ) |
Impact of federal tax legislation on deferred tax asset | 172,037 |
| | — |
| | — |
|
Impact of federal tax legislation on valuation allowance | 845 |
| | — |
| | — |
|
Total income tax expense (benefit) | $ | 208,458 |
| | $ | 17,741 |
| | $ | (7,277 | ) |
Effective tax rate | 48.2 | % | | 6.8 | % | | (4.0 | )% |
Deferred tax assets result from the following:
|
| | | | | | | |
| December 31, 2017 | | December 31, 2016 |
| (in thousands) |
Deferred tax assets: | | | |
Investment in partnerships | $ | 269,136 |
| | $ | 473,888 |
|
Net operating losses | 48,632 |
| | 47,566 |
|
Deferred tax assets before valuation allowance | $ | 317,768 |
| | $ | 521,454 |
|
Valuation allowance | (4,771 | ) | | — |
|
Total deferred tax assets | $ | 312,997 |
| | $ | 521,454 |
|
On May 12, 2015, as a result of the transfer of the ownership interest in Tallgrass Equity as part of the Reorganization Transactions in connection with the TEGP IPO, we recognized a deferred tax asset of $445.2 million. In November 2016, we completed the Secondary Offering as discussed in Note 12 – Partnership Equity and Distributions. In connection with the resulting transfer of Tallgrass Equity Units, we recognized an additional deferred tax asset of $86.8 million. These transfers of ownership were accounted for at the historical carrying basis for GAAP accounting purposes, but recorded at the value of the consideration paid for U.S. federal income tax purposes. The tax rates that apply when the deferred tax balances ultimately reverse are inherent in the realization of the deferred tax balances. State tax rates can change from year to year based upon changes in both state apportionment percentages and state tax laws.
As of December 31, 2017, we had a federal net operating loss carry forward of $196.0 million and various state net operating loss carry forwards. The determination of the state net operating loss carry forwards is dependent upon apportionment percentages and state laws that can change from year to year and impact the amount of such carry forwards. If not utilized, the federal net operating loss carry forward will expire between 2035 and 2037 and the state operating loss carry forwards will expire between 2025 and 2037. We believe that it is more likely than not that the benefit from certain state operating loss carryforwards will not be realized. In recognition of this risk, we have provided a valuation allowance on the deferred tax assets relating to these carryforwards.
On December 22, 2017, legislation referred to as the “Tax Cuts and Jobs Act” ("TCJA") was signed into law. Substantially all provisions of the TCJA are effective for taxable years beginning after December 31, 2017. The TCJA includes amendments to the Internal Revenue Code of 1986 that significantly change the taxation of individuals and business entities. Pursuant to ASC Topic 740, Income Taxes (ASC 740), we recognized the tax effect of the TCJA changes during the year ended December 31, 2017, the period in which the law was enacted. ASC 740 requires deferred tax assets and liabilities to be measured at the enacted tax rate expected to apply when temporary differences are to be realized or settled. Accordingly, we remeasured our deferred tax asset based on the new tax rates, resulting in an increase to our tax provision of $172.9 million for the year ending December 31, 2017.
The 2015, 2016 and 2017 tax years are open to examination for federal and state tax.