Income Taxes
The Company accounts for income taxes under the asset and liability method. Under this method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the difference is expected to reverse. Additionally, the impact of changes in the enacted tax rates and laws on deferred taxes, if any, is reflected in the financial statements in the period of enactment.
The income tax expense (benefit) consisted of the following:
|
| | | | | | | | | | | | |
(In thousands) | Year Ended December 31, 2017 | | November 4, 2016
through December 31, 2016 | | | January 1, 2016
through November 3, 2016 |
| (Successor) | | (Successor) | | | (Predecessor) |
Current tax expense (benefit) | | | | | | |
Federal | $ | 11,163 |
| | $ | 9 |
| | | $ | 35 |
|
State and local | 2,903 |
| | 43 |
| | | 12 |
|
Total Current | 14,066 |
| | 52 |
| | | 47 |
|
| | | | | | |
Deferred tax expense (benefit) | | | | | | |
Federal | (93,457 | ) | | $ | (6,751 | ) | | | 343 |
|
State and local | 12,187 |
| | (1,063 | ) | | | 49 |
|
Total Deferred | (81,270 | ) | | (7,814 | ) | | | 392 |
|
Income tax expense (benefit), net | $ | (67,204 | ) | | $ | (7,762 | ) | | | $ | 439 |
|
The Company was a nontaxable partnership in the Predecessor year ended December 31, 2015. In the Predecessor period January 1, 2016 through November 3, 2016, Superior, a C corporation, was subject to income taxes.
As a result of the Business Combination, the Company acquired a controlling interest in Hostess Holdings, which is treated as a partnership for U.S. federal and most applicable state and local income tax purposes. As a partnership, Hostess Holdings is not itself subject to U.S. federal and certain state and local income taxes. Any taxable income or loss generated by Hostess Holdings is passed through and included in the taxable income or loss of its partners, including the Company in Successor periods. The Company is subject to U.S. federal income taxes, in addition to state and local income taxes with respect to its allocable share of any taxable income of Hostess Holdings following the Business Combination.
The operations of Hostess Holdings include those of its C corporation subsidiaries. These C corporation subsidiaries are subject to U.S. federal, state and local income taxes. The Company’s tax provision includes income taxes for the share of Hostess Holdings income or loss passed through to the Company, the income or loss of the Company’s C corporation subsidiaries and the deferred tax tax impact of outside basis differences in its investments in subsidiaries.
For the year ended December 31, 2017 (Successor) and the periods from November 4 through December 31, 2016 (Successor) and January 1 through November 3, 2016 (Predecessor), the effective income tax rate differs from the federal statutory income tax rate as explained below:
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| | | | | | | | | |
| Year Ended December 31, 2017 | | November 4, 2016
through December 31, 2016 | | | January 1, 2016
through November 3, 2016 |
| (Successor) | | (Successor) | | | (Predecessor) |
U. S. federal statutory income tax rate | 35.0 | % | | 35.0 | % | | | 35.0 | % |
| | | | | | |
State and local income taxes, net of federal benefit | 3.8 |
| | 4.1 |
| | | 0.1 |
|
Income attributable to non-controlling interest | (6.3 | ) | | (8.8 | ) | | | — |
|
Nontaxable partnerships | — |
| | — |
| | | (34.4 | ) |
Valuation allowance | — |
| | 17.2 |
| | | — |
|
Tax Cuts and Jobs Act | (66.2 | ) | | — |
| | | — |
|
Change in state tax rate | 1.2 |
| | — |
| | | — |
|
Other | (2.7 | ) | | 0.3 |
| | | — |
|
Effective income tax rate | (35.2 | )% | | 47.8 | % | | | 0.7 | % |
Deferred income taxes are provided for the effects of temporary differences between the tax basis of an asset or liability and its reported amount in the accompanying Consolidated Balance Sheets. These temporary differences result in taxable or deductible amounts in future years. Details of the Company’s deferred tax assets and liabilities are summarized as follows: |
| | | | | | | | |
(In thousands) | Year Ended December 31, 2017 | | Year Ended December 31, 2016 | |
| (Successor) | | (Successor) | |
Deferred tax assets | | | | |
Imputed interest | $ | 4,967 |
| | $ | 10,113 |
| |
Net operating loss carryforwards | 578 |
| | 9,574 |
| |
Tax credits | 2,337 |
| | 2,019 |
| |
Other | 1,002 |
| | 1,472 |
| |
Subtotal | 8,884 |
| | 23,178 |
| |
Valuation allowance | (242 | ) | | (205 | ) | |
Total deferred tax assets | 8,642 |
| | 22,973 |
| |
| | | | |
Deferred tax liabilities | | | | |
Investment in partnership | (266,900 | ) | | (363,439 | ) | |
Property and equipment | (1,394 | ) | | (1,857 | ) | |
Goodwill and intangible assets | (7,512 | ) | | (11,474 | ) | |
Other | (607 | ) | | — |
| |
Total deferred tax liabilities | (276,413 | ) | | (376,770 | ) | |
| | | | |
Total deferred tax assets and liabilities | $ | (267,771 | ) | | $ | (353,797 | ) | |
The recognition of deferred tax assets is based on management’s belief that it is more likely than not that the tax benefits associated with temporary differences, net operating loss carryforwards and tax credits will be utilized. The Company assesses the recoverability of the deferred tax assets on an ongoing basis. In making this assessment, the Company considers all positive and negative evidence, and all potential sources of taxable income including scheduled reversals of deferred tax liabilities, tax-planning strategies, projected future taxable income and recent financial performance.
Prior to the acquisition of Hostess Holdings, the Company did not have a significant source of taxable income to support the realization of its deferred tax assets and therefore had a full valuation allowance booked on its deferred tax assets. The Company re-evaluated its conclusion on November 4, 2016 due to the acquisition of Hostess Holdings and concluded that the valuation allowance was no longer appropriate.
The Company reversed $2.8 million of valuation allowance in the fourth quarter of 2016. This reversal is reflected as a non-cash income tax benefit recorded in the accompanying consolidated statement of operations. The Company still maintains a valuation allowance of $0.2 million against deferred tax assets for state net operating loss carryforwards attributable to its C corporation subsidiaries.
The Company and its C corporation subsidiaries file income tax returns in the U.S. federal jurisdiction, and various state and local jurisdictions. For federal tax purposes, the Company’s and its C corporation subsidiaries’ 2014 through 2017 tax years remain open for examination by the tax authorities under the normal three year statute of limitations. Generally, for state tax purposes, the Company’s and its C corporation subsidiaries’ 2014 through 2017 tax years remain open for examination by the tax authorities under a three year statute of limitations. Should the Company or its C corporation subsidiaries utilize any of their U.S. or state loss carryforwards, their carryforward losses, which date back to 2003, would be subject to examination.
At December 31, 2017, the Company’s C corporation subsidiaries had an available federal net operating loss carryforward of approximately $1.1 million. This carryforward expires in 2035. Of this NOL carryforward, $1.1 million is subject to annual limitations due to a change in ownership of the Company and its C corporation subsidiaries as defined in the Internal Revenue Code. The Company and its C corporation subsidiaries also had various state net operating loss carryforwards totaling approximately $2.5 million and $4.1 million, respectively. Of these NOL carryforwards, $2.5 million and $4.1 million, respectively, are subject to an annual limitation due to an ownership change of the Company and its C corporation subsidiaries. Unless utilized, the state carryforwards expire from 2022 to 2036. The Company does not believe that these limitations will prevent it from utilizing its pre-ownership change net operating loss carryforwards. The Company also has state income tax credit carryforwards of approximately $2.9 million which expire from 2028 to 2032.
The Company does not believe it has any significant uncertain tax positions and therefore has no unrecognized tax benefits at December 31, 2017 or 2016, that if recognized, would affect the annual effective tax rate.
Tax Reform significantly changes U.S. tax law by lowering the corporate income tax rate permanently from a maximum of 35% to a flat 21% rate, effective January 1, 2018. As a result of the reduction in the U.S. corporate income tax rate from 35% to 21% under Tax Reform, the Company revalued its ending net deferred tax liabilities at December 31, 2017 and recognized a provisional $111.3 million non-cash tax benefit in the Company’s consolidated statement of income for the year ended December 31, 2017.
Tax Reform provides for considerable changes in the taxation of international operations by implementing a territorial tax system and imposing a repatriation tax on deemed earnings of foreign subsidiaries. The Company has determined that these changes will not have a material impact on its consolidated financial statements given the Company’s current tax profile and has recorded no provisional tax impact.
On December 22, 2017, the SEC staff issued Staff Accounting Bulletin No. 118 (“SAB 118”) to address the application of U.S. GAAP in situations when a registrant does not have the necessary information available, prepared, or analyzed (including computations) in reasonable detail to complete the accounting for certain income tax effects of Tax Reform. The Company has recognized the provisional tax impacts related to the revaluation of deferred tax assets and liabilities and the impact of changes in the tax receivable agreement due to the tax rate reduction and included these amounts in its consolidated financial statements for the year ended December 31, 2017. The ultimate impact may differ from these provisional amounts, possibly materially, due to, among other things, additional analysis, changes in interpretations and assumptions the Company has made, additional regulatory guidance that may be issued, and actions the Company may take as a result of Tax Reform. The accounting is expected to be complete when the Company has had further time to analyze the tax law changes during the first half of 2018.
Interest and penalties related to income tax liabilities, if incurred, are included in income tax expense in the consolidated statement of operations. For the year ended December 31, 2017 (Successor), the periods from January 1, 2016 through November 3, 2016 (Predecessor) and November 4, 2016 through December 31, 2016 (Successor), and the year ended December 31, 2015 (Predecessor), the Company has not recorded any penalties and interest and does not have any accrued balance of penalties and interest.