The ONE Group Hospitality, Inc. Annual report pursuant to Section 13 and 15(d)

Annual report pursuant to Section 13 and 15(d)

Income Taxes

Income Taxes

12 Months Ended

Dec. 31, 2017

Income Tax Disclosure [Abstract]

Income Taxes

Note 10 - Income Taxes

The components of "loss before income taxes" for the periods were as follows (in thousands):

	Year ended December 31,
	2017			2016
Loss from continuing operations before provision for income taxes
Domestic	$	(6,532	)	$	(5,768	)
Foreign		2,707			(225	)
Total	$	(3,825	)	$	(5,993	)

The components of the Company’s income tax provision are as follows:

	Year Ended December 31,
	2017			2016
Current
Federal	$	—		$	—
State and local		38			62
Foreign		580			260
Total current income tax provision		618			322
Deferred
Federal		—			7,654
State and local		—			2,394
Foreign		(18	)		—
Total deferred tax provision		(18	)		10,048
Total income tax provision	$	600		$	10,370

The Company’s effective tax rate differs from the statutory rates as follows:

	Year Ended December 31,
	2017			2016
Income tax benefit at federal statutory rate		34.0	%		34.0	%
State and local taxes – current		(0.6	)%		(0.5	)%
State and local taxes – deferred		13.4	%		12.5	%
FICA tip credit		16.9	%		7.2	%
Foreign rate differential		8.6	%		0.7	%
Foreign tax - unrepatriated earnings		—	%		(13.1	)%
Change in valuation allowance		(87.4	)%		(200.7	)%
Other items, net		(0.6)	%		(13.1	)%
Total income tax expense		(15.7	)%		(173.0	)%

The income tax effects of temporary differences that give rise to significant portions of deferred tax assets and liabilities are as follows (in thousands):

	At December 31,
	2017			2016
Deferred tax assets:
Deferred rent liabilities	$	2,637		$	3,744
Lease incentives		1,484			1,566
Stock compensation		458			745
FICA tip credit carryforward		3,224			2,066
Net operating loss		5,129			6,246
Goodwill		1,839			2,862
Inventory		13			10
Charitable contributions carryforward		37			30
Foreign tax credit carryforward		566			384
Deferred revenue		383			478
State and local tax credit carryforward		346			306

Total deferred tax assets		16,116			18,437

Deferred tax liabilities:
Depreciation and amortization		(3,661	)		(5,321	)
Basis in LLC interest		(592	)		(20	)
Unremitted foreign earnings		—			(785	)
ASC 740-10 liability		(233	)		(230	)
Total deferred tax liabilities		(4,486	)		(6,356	)

Valuation allowance		(11,561	)		(12,030	)

Net deferred tax assets	$	69		$	51

As of December 31, 2017, the Company has federal and state income tax net operating loss (“NOL”) carryforwards of $19.1 million and $14.7 million, respectively. The federal and state NOLs will expire at various dates from 2033 to 2037.

Uncertain tax positions

The following table summarizes the activity related to the Company’s uncertain tax positions (in thousands):

	Year ended December 31,
	2017			2016

Balance, beginning of year	$	674		$	—
Increase related to prior period positions		—			492
Increase related to current year positions		203			182
Decrease related to prior period positions		(192	)		—
Balance, end of year		685			674

The Company is subject to income taxes in the U.S. federal jurisdiction, and the various states and local jurisdictions in which it operates. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. The Company’s federal tax filings remain subject to examination for federal tax years 2014 through 2016. The IRS started an examination into tax year 2015 and so far has not proposed any changes. The Company will continue to monitor the impact this examination has on its financials. The Company’s state and local tax filings remain subject to examination for tax years 2014 through 2016.

The Company’s foreign income tax returns prior to fiscal year 2015 are closed and management continually evaluates expiring statutes of limitations, audits, proposed settlements, changes in tax law and new authoritative rulings.

2017 Tax Act

In December 2017, the President signed The Tax Cuts and Jobs Act (the “TCJA”), which includes a broad range of provisions. Changes in tax law are accounted for in the period of enactment, and as a result, the 2017 consolidated financial statements reflect the immediate tax effect of the TCJA. The TCJA contains several key provisions including:

A one-time tax on the mandatory deemed repatriation of post-1986 untaxed foreign earnings and profits (“E&P”);

A reduction in the corporate tax rate from 35% to 21% for tax years beginning after December 31, 2017;

The introduction of a new U.S. tax on certain off-shore earnings referred to as Global Intangible Low-Taxed Income (“GILTI”) at an effective tax rate of 10.5% for tax years beginning after December 31, 2017 (increasing to 13.125% for tax years beginning after December 31, 2025) partially offset by foreign tax credits; and

Introduction of a territorial tax system beginning in 2018 by providing for a 100% dividend received deduction on certain qualified dividends from foreign subsidiaries.

Pursuant to the TCJA, the Company recorded the following adjustments to income tax expense during the fourth quarter of 2017:

A one-time deemed repatriation of foreign earnings & profits amounted to $1.9 million. No tax liability was recorded due to the available net operating loss carryforwards. This resulted in a reduction of deferred tax assets and a corresponding reduction in valuation allowance of $0.8 million; and

A reduction of net deferred tax assets and a corresponding reduction of the valuation allowance of $2.9 million, primarily for the re-measurement of our deferred tax assets at the newly enacted tax rate of 21%.

The TCJA imposes a one-time mandatory transition tax on accumulated foreign earnings and eliminates U.S. taxes on foreign subsidiary distributions. As a result, earnings in foreign jurisdictions are available for distribution to the U.S. without incremental U.S. taxes. To the extent the Company repatriates these earnings, it estimates that it will not incur significant additional taxes related to such amounts, however the estimates are provisional and subject to further analysis.

Due to the complexities involved in accounting for the enactment of the TCJA, SEC Staff Accounting Bulletin 118 allows companies to record provisional estimates of the impacts of the TCJA during a measurement period of up to one year from the enactment date. In order to estimate the impact of the one-time transition tax on accumulated foreign earnings, the Company used the retained earnings of its foreign subsidiaries as a proxy to calculate E&P for the 2017 tax provision. While retained earnings and E&P are two separate and distinct calculations, the Company believes that retained earnings can initially be used as a relatively accurate proxy for E&P. The Company believes that typical E&P adjustments for items such as depreciation, certain reserves and tax exempt income and other permanent nondeductible expenses for E&P are either immaterial or nonexistent. Therefore, in the absence of a formal E&P analysis, retained earnings was considered to be a reasonable estimate. As of December 31, 2017, the net retained earnings of the Company’s foreign subsidiaries was $1.9 million. The company will conduct a comprehensive E&P analysis prior to the filing of its 2017 tax return. Only after the completion of the E&P study will the Company be able to determine with certainty the tax impact of the deemed repatriation provision of the TCJA. Any adjustment resulting from the E&P analysis will be included as a tax adjustment to continuing operations in 2018.