HAMILTON BEACH BRANDS HOLDING COMPANY

Income Taxes

The components of income before income tax provision and the income tax provision for the years ended December 31 are as follows:



	2017			2016		2015
Income before income tax provision
Domestic	$	31,328		$	39,136	$	31,277
Foreign	4,749			2,027		759
	$	36,077		$	41,163	$	32,036
Income tax provision
Current income tax provision:
Federal	$	11,484		$	12,140	$	10,953
State	1,381			501		1,908
Foreign	1,365			556		1,143
Total current	14,230			13,197		14,004
Deferred income tax provision (benefit):
Federal	4,122			1,458		(1,242		)
State	(437		)	239		(43		)
Foreign	257			90		(394		)
Total deferred	3,942			1,787		(1,679		)
	$	18,172		$	14,984	$	12,325

A portion of Hamilton Beach Holding's U.S. operating results will be included in the consolidated federal income tax return filed by NACCO. The Company's allocation of taxes through the spin-off date will be in accordance with the Tax Allocation Agreement. In general, the Tax Allocation Agreement between the Company and NACCO provides that federal income taxes are computed by the Company as if it had filed a tax return on a standalone basis calculated using the separate return method. Subsequent to the spin-off, the Company will file a separate federal tax return in the U.S. for the period subsequent to the spin-off date. The Company made net federal income tax payments of $9.9 million, $11.0 million, and $7.9 million during 2017, 2016, and 2015, respectively, to NACCO as a member of the consolidated income tax return. The Company made foreign and state income tax payments of $1.9 million, $2.8 million, and $1.9 million during 2017, 2016, and 2015, respectively. During the same periods, income tax refunds totaled $0.0 million, $0.6 million, and $0.1 million, respectively.

A reconciliation of the federal statutory and effective income tax rate for the years ended December 31 is as follows:



	2017			2016			2015
Income before income tax provision	$	36,077		$	41,163		$	32,036
Statutory taxes at 35.0%	$	12,627		$	14,407		$	11,212
State and local income taxes	901			1,019			540
Provisional effect of the Tax Act	4,654			—			—
Non-deductible spin-related costs	540			—			—
Other non-deductible expenses	411			414			364
Valuation allowances	369			170			606
Other, net	(1,330		)	(1,026		)	(397		)
Income tax provision	$	18,172		$	14,984		$	12,325
Effective income tax rate	50.4		%	36.4		%	38.5		%

A detailed summary of the total deferred tax assets and liabilities in the Company's Consolidated Balance Sheets resulting from differences in the book and tax basis of assets and liabilities follows:



	December 31
	2017		2016
Deferred tax assets
Tax carryforwards	$	5,034	$	2,610
Inventories	207		421
Depreciation and amortization	716		1,841
Accrued expenses and reserves	6,929		9,423
Other employee benefits	3,238		5,321
Other	696		1,454
Total deferred tax assets	16,820		21,070
Less: Valuation allowance	1,916		1,614
	14,904		19,456
Deferred tax liabilities
Accrued pension benefits	2,079		1,609
Unremitted foreign earnings	—		343
Total deferred tax liabilities	2,079		1,952
Net deferred asset	$	12,825	$	17,504

The following table summarizes the tax carryforwards and associated carryforward periods and related valuation allowances where the Company has determined that realization is uncertain:



	December 31, 2017
	Net deferred tax asset		Valuation allowance		Carryforwards expire during:
Alternative minimum tax credit	$	2,429	$	—	(1)
Non-U.S. net operating loss	1,658		1,658		2018 - Indefinite
State losses	1,198		—		2020 - 2035
Total	$	5,285	$	1,658



	December 31, 2016
	Net deferred tax asset		Valuation allowance		Carryforwards expire during:
Non-U.S. net operating loss	$	1,376	$	1,376	2018 - Indefinite
State losses	1,053		—		2020 - 2035
Research credit	547		—		2028 - 2030
Total	$	2,976	$	1,376

(1) The Tax Act repealed the corporate alternative minimum tax for tax years beginning after December 31, 2017. This credit is refundable in 2021, if not fully utilized prior to 2021.

The Company evaluates its deferred tax assets to determine if a valuation allowance is required based on the consideration of all available evidence, both positive and negative, using a “more likely than not” standard. A valuation allowance is required where realization is determined to no longer meet the “more likely than not” standard. The establishment of a valuation allowance does not have an impact on cash, nor does such an allowance preclude the Company from using its loss carryforwards or other deferred tax assets in future periods.

The Company has a valuation allowance for certain foreign deferred tax assets. Based upon the review of historical earnings and the relevant expiration of carryforwards, the Company believes the valuation allowances are appropriate and does not expect to release valuation allowances within the next twelve months that would have a significant effect on the Company’s financial position or results of operations. Furthermore, the Company considers the necessity of valuation allowance application to state loss carryforwards and believes sufficient positive evidence exists for future profitability of the Company, including available tax strategies as necessary, to realize the benefit of losses in the future.

On December 22, 2017, the U.S. federal government enacted the Tax Act, which significantly revises U.S. tax law. The Tax Act will positively impact the Company’s future effective income tax rate due to the reduction of the U.S. federal corporate tax rate from 35 percent to 21 percent, effective January 1, 2018.

In addition to the reduction in the U.S. federal corporate tax rate mentioned above, other significant changes to existing tax law include (1) a deduction received on dividends of foreign earnings with a related tax for the deemed repatriation of unremitted foreign earnings; (2) limitations on the deductibility of certain executive compensation for publicly traded companies; (3) accelerated expensing of capital investment, subject to phase out beginning in 2023; (4) a new limitation on deductible interest expense; and (5) a new U.S. minimum tax on earnings of foreign subsidiaries.

Subsequent to the enactment of the Tax Act, the SEC staff issued Staff Accounting Bulletin 118 (“SAB 118”), which provides a measurement period of up to one year after the enactment date for companies to finalize the recognition of the income tax effects of the Tax Act. As a result of the Tax Act and pursuant to SAB 118, the Company recorded a provisional net tax charge of $4.7 million in the period ending December 31, 2017. Included in the provisional income tax charge is $4.1 million for the remeasurement of U.S. deferred tax assets and liabilities resulting from the reduction in the U.S. federal corporate tax rate from 35% to 21%, $0.4 million related to executive compensation that may not be deductible when paid in future periods, and $0.2 million related to the net estimated income tax on deemed repatriation of foreign earnings.

The Company has computed the provisional income tax charge based on information available; however, there is still uncertainty as to the application of the Tax Act, in particular as it relates to state income taxes. Further, management has not yet completed the analysis of the components of the computation, including the amount of foreign earnings subject to U.S. income tax, and the portion of foreign earnings held in cash or other specified assets. As the Company completes the analysis of the Tax Act in 2018, it may make adjustments to the provisional amounts, which may impact the provision for income taxes in the period in which the adjustments are made. The ultimate impact of the Tax Act may differ from these provisional amounts due to, among other things, additional analysis, changes in interpretations and assumptions, additional regulatory guidance that may be issued, and the computation of state income taxes as there is uncertainty on conformity to the U.S. federal tax system following the Tax Act.

As of December 31, 2017, the cumulative unremitted earnings of the Company's foreign subsidiaries are approximately $19.6 million. In consideration of the Tax Act, the Company has no longer provided a deferred tax liability with respect to the cumulative unremitted earnings. The Company has recorded a provisional estimate of the tax impact for the unremitted earnings as allowed under the Tax Act, a portion of which is classified in Other long-term liabilities in the Consolidated Balance Sheets as the Company intends to elect to make payments over eight years. The Company continues to conclude all material entities’ foreign earnings will be indefinitely reinvested in its foreign operations and will remain offshore in order to meet the capital and business needs outside of the U.S.

The tax returns of NACCO, the Company and certain of its subsidiaries are under routine examination by various taxing authorities. The Company has not been informed of any material assessment for which an accrual has not been previously provided and the Company would vigorously contest any material assessment. Management believes any potential assessment would not materially affect the Company’s financial condition or results of operations.

The following is a reconciliation of the Company's total gross unrecognized tax benefits, defined as the aggregate tax effect of differences between tax return positions and the benefits recognized in the financial statements for the years ended December 31, 2017, 2016, and 2015. Approximately $0.6 million, $0.4 million, and $0.8 million of these gross amounts as of December 31, 2017, 2016, and 2015, respectively, relate to permanent items that, if recognized, would impact the effective income tax rate. This amount differs from the gross unrecognized tax benefits presented in the table below due to the decrease in U.S. federal income taxes which would occur upon the recognition of the state tax benefits included herein.



	2017		2016			2015
Balance at January 1	$	671	$	1,199		$	180
Additions based on tax positions related to prior years	—		167			1,119
Additions based on tax positions related to the current year	210		165			—
Reductions due to settlements with taxing authorities	—		(860		)	—
Reductions due to lapse of the applicable statute of limitations	—		—			(100		)
Balance at December 31	$	881	$	671		$	1,199

The Company records interest and penalties on uncertain tax positions as a component of the income tax provision. The Company recorded immaterial amounts of interest and penalties as of December 31, 2017 and 2016, respectively. The Company expects the amount of unrecognized tax benefits will change within the next 12 months; however, the change in unrecognized tax benefits, which is reasonably possible within the next 12 months, is not expected to have a significant effect on the Company's financial position, results of operations or cash flows.

In general, the Company operates in taxing jurisdictions that provide a statute of limitations period ranging from three to five years for the taxing authorities to review the applicable tax filings. The examination of NACCO's 2013-2015 U.S. federal tax returns is ongoing. In addition, the Company does not have any material taxing jurisdictions in which the statute of limitations has been extended beyond the applicable time frame allowed by law.