Income Taxes
Deferred income taxes reflect the net tax effects of temporary differences between the amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of ProAssurance’s deferred tax assets and liabilities were as follows:
|
| | | | | | | |
| Year Ended December 31 |
(In thousands) | 2017 | | 2016 |
Deferred tax assets | | | |
Unpaid loss discount | $ | 20,368 |
| | $ | 39,746 |
|
Unearned premium adjustment | 14,449 |
| | 22,847 |
|
Compensation related | 11,467 |
| | 20,190 |
|
Intangibles | 514 |
| | 1,001 |
|
Foreign NOL | 4,116 |
| | 1,962 |
|
Total gross deferred tax assets | 50,914 |
| | 85,746 |
|
Valuation allowance | (4,116 | ) | | (1,962 | ) |
Total deferred tax assets, net of valuation allowance | 46,798 |
| | 83,784 |
|
Deferred tax liabilities | | | |
Deferred policy acquisition costs | (6,333 | ) | | (9,754 | ) |
Unrealized gains on investments, net | (5,166 | ) | | (9,797 | ) |
Fixed assets | (826 | ) | | (1,291 | ) |
Basis differentials–investments | (10,397 | ) | | (25,512 | ) |
Intangibles | (12,548 | ) | | (22,067 | ) |
Other | (1,598 | ) | | (5,107 | ) |
Total deferred tax liabilities | (36,868 | ) | | (73,528 | ) |
Net deferred tax assets (liabilities) | $ | 9,930 |
|
| $ | 10,256 |
|
ProAssurance had $21.7 million of available NOL carryforwards at December 31, 2017 related to the Company's U.K. operations which may be carried forward indefinitely. At December 31, 2017 and 2016, ProAssurance established a deferred tax asset related to the NOL carryforwards of $4.1 million and $2.0 million, respectively. In 2017 and 2016, management evaluated the realizability of the deferred tax asset related to the NOL carryforwards and concluded that it was more likely than not that the deferred tax asset will not be realized; therefore, a valuation allowance was recorded against the full value of the deferred tax asset in both 2017 and 2016. The increase in the valuation allowance and related deferred tax asset in 2017 as compared to 2016 of $2.2 million was due to losses recognized in the Lloyd's Syndicate segment during 2017 primarily due to Hurricanes Harvey, Irma and Maria. As the valuation allowance has become more significant in 2017, ProAssurance began presenting the gross deferred tax asset related to the NOL carryforwards separately from the related valuation allowance in the table above. Prior year amounts have been reclassified to conform to the current year presentation.
ProAssurance had no available capital loss carryforwards, or Alternative Minimum Tax credit carryforwards as of December 31, 2017.
ProAssurance files income tax returns in various states, the U.S. federal jurisdiction and the U.K. ProAssurance had a liability for U.S. federal and U.K. income taxes of $8.0 million at December 31, 2017 and $5.1 million at December 31, 2016, both carried as a part of other liabilities.
The statute of limitations is now closed for all tax years prior to 2014.
A reconciliation of the beginning and ending amounts of unrecognized tax benefits for 2017, 2016 and 2015, were as follows:
|
| | | | | | | | | | | | |
(In thousands) | | 2017 | | 2016 | | 2015 |
Balance at January 1 | | $ | 8,353 |
| | $ | 8,195 |
| | $ | 577 |
|
Increases for tax positions taken during the current year | | — |
| | 361 |
| | 7,618 |
|
(Decreases) for tax positions taken during the current year | | (3,500 | ) | | — |
| | — |
|
Increases for tax positions taken during prior years | | 700 |
| | — |
| | — |
|
(Decreases) relating to a lapse of the applicable statute of limitations | | (212 | ) | | (203 | ) | | — |
|
Balance at December 31 | | $ | 5,341 |
| | $ | 8,353 |
| | $ | 8,195 |
|
At December 31, 2017 and 2016, approximately $1.3 million and $1.0 million, respectively, of ProAssurance's uncertain tax positions, if recognized, would affect the effective tax rate. As with any uncertain tax position, there is a possibility that the ultimate benefit realized could differ from the estimate management has established. Management believes that it is reasonably possible that a portion of unrecognized tax benefits at December 31, 2017, may change during the next twelve months. However, an estimate of the change cannot be made at this time.
ProAssurance recognizes interest and/or penalties related to income tax matters in income tax expense. Interest recognized in the income statement was approximately $0.3 million and $0.2 million for the years ended December 31, 2017 and 2016, respectively, and was nominal for the year ended December 31, 2015. The accrued liability for interest was approximately $0.5 million at December 31, 2017 and $0.2 million at December 31, 2016.
Income tax expense (benefit) for each of the years ended December 31, 2017, 2016 and 2015 consisted of the following:
|
| | | | | | | | | | | | |
(In thousands) | | 2017 | | 2016 | | 2015 |
Provision for income taxes | | | | | | |
Current expense (benefit) | | | | | | |
Federal and foreign | | $ | 19,546 |
| | $ | 15,857 |
| | $ | 27,653 |
|
State | | 120 |
| | 729 |
| | 999 |
|
Total current expense (benefit) | | 19,666 |
| | 16,586 |
| | 28,652 |
|
Deferred expense (benefit) | | | | | | |
Federal and foreign | | 1,331 |
| | 8,284 |
| | (15,185 | ) |
State | | 362 |
| | 250 |
| | (809 | ) |
Total deferred expense (benefit) | | 1,693 |
| | 8,534 |
| | (15,994 | ) |
Total income tax expense (benefit) | | $ | 21,359 |
| | $ | 25,120 |
| | $ | 12,658 |
|
A reconciliation of “expected” income tax expense (benefit) (35% of income before income taxes) to actual income tax expense (benefit) for each of the years ended December 31, 2017, 2016 and 2015 were as follows:
|
| | | | | | | | | | | | |
(In thousands) | | 2017 | | 2016 | | 2015 |
Computed “expected” tax expense | | $ | 45,018 |
| | $ | 61,670 |
| | $ | 45,099 |
|
Tax-exempt income | | (8,356 | ) | | (9,917 | ) | | (12,913 | ) |
Tax credits | | (23,111 | ) | | (27,549 | ) | | (22,407 | ) |
Non-U.S. operating results | | 918 |
| | (1,688 | ) | | 720 |
|
Excess tax benefit on share-based compensation | | (2,762 | ) | | — |
| | — |
|
Change in federal corporate tax rate | | 6,541 |
| | — |
| | — |
|
Change in limitation of future deductibility of certain executive compensation | | 3,497 |
| | — |
| | — |
|
Other | | (386 | ) | | 2,604 |
| | 2,159 |
|
Total income tax expense (benefit) | | $ | 21,359 |
| | $ | 25,120 |
| | $ | 12,658 |
|
Tax Cuts and Jobs Act
The TCJA was signed into law on December 22, 2017 and contains several key provisions that impact the Company's business, including the reduction of the U.S. federal corporate tax rate from 35% to 21% effective January 1, 2018, the reduction in the amount of executive compensation that could qualify as a tax deduction, a minimum tax on payments made to related foreign entities and a change in how property and casualty taxpayers discount loss reserves. Under current accounting guidance, the effects of changes in tax rates and laws are recognized in the period in which the new legislation is enacted. However, due to the timing of the enactment of the TCJA and its proximity to December 31, 2017, the SEC issued SAB 118 which provides a framework for companies to account for uncertainties in applying the provisions of the TCJA. SAB 118 allows companies to record a provisional amount in situations where a company does not have the necessary information available but can make a reasonable estimate. In situations where companies cannot make a reasonable estimate due to various factors, including lack of information, a provisional amount is not recorded. Instead, companies will continue to apply current accounting guidance based on the provision of the tax laws that were in effect immediately prior to the TCJA being enacted. The measurement period, as defined in SAB 118 for the TCJA, begins on the enactment date of the TCJA and ends when a company has obtained, prepared and analyzed the information that was needed in order to complete the accounting requirements under current accounting guidance. However, under no circumstances will the measurement period extend beyond one year from the enactment date of the TCJA.
Other than the areas discussed below, ProAssurance was able to complete the accounting under the new provisions of the TCJA for the remeasurement of the Company's deferred tax assets and liabilities based on the newly enacted tax rate and recognized a charge of $6.5 million, which is included as a component of income tax expense from continuing operations for the year ended December 31, 2017.
Provisional amount
At December 31, 2017, ProAssurance had not completed the accounting for the tax effects of enactment of the TCJA for certain areas of the Company's tax provision. ProAssurance has made a reasonable estimate of the effects on its existing deferred tax asset balances at December 31, 2017 as it relates to the limitation on the future deductibility of certain executive compensation and recorded a provisional charge of $3.5 million, which is included as a component of income tax expense from continuing operations for the year ended December 31, 2017. Any future guidance from the IRS addressing the effects of the TCJA on executive compensation could result in a change to this provisional amount.
Provisional amount not reasonably estimable
The TCJA requires property and casualty taxpayers to discount loss reserves based solely on IRS factors and no longer by reference to historical payment patterns. As the IRS has yet to release the 2018 discount factors, ProAssurance has been unable to reasonably estimate the impact of the change in loss reserve discounting factors and therefore has not adjusted its deferred tax balances at December 31, 2017 for the impact of these changes due to the TCJA. As prescribed by SAB 118, ProAssurance continues to utilize the discount factors based on existing accounting guidance and the provisions of the tax laws that were in effect immediately prior to enactment of the TCJA. Once the IRS has released the 2018 loss reserve discount factors, ProAssurance will complete the its analysis and include the effect of the difference in the reserve discount factors in the period the analysis is complete or the impact is reasonably estimable.