Income Taxes

The provision for federal and state income taxes included in the accompanying consolidated statements of income consists of the following:



	For the Years Ended December 31,
(Dollars in thousands)	2017		2016		2015
Current:
Federal	$	9,273	$	2,400	$	5,113
State	961		539		829
Deferred:
Federal	7,350		909		3,877
State	133		33		(61		)
	$	17,717	$	3,881	$	9,758

The provision for income taxes differs from the expected statutory provision as follows:



	For the Years Ended December 31,
(Dollars in thousands)	2017		2016		2015
Expected provision at statutory rate	35.0	%	35.0	%	35.0	%
Difference resulting from:
Tax exempt interest income, net of disallowance	(6.1	)	(15.6	)	(9.5	)
Increase in value of bank owned life insurance assets	(2.2	)	(4.2	)	(1.2	)
Stock-based compensation	(1.0	)	(1.7	)	0.5
Non-deductible merger-related expenses	—		1.2		0.4
State income taxes, net of federal benefits	1.2		(1.5	)	0.9
Adjustment to deferred tax assets and liabilities for enacted changes in tax laws and rates	1.7		—		—
Changes in valuation allowance	0.5		3.1		0.4
Other	(0.4	)	0.3		(0.1	)
Effective tax rate	28.7	%	16.6	%	26.4	%

On December 22, 2017, H.R.1, commonly known as the Tax Cuts and Jobs Act (TCJA) was signed into law. The TCJA includes many provisions that will affect the Corporation's income tax expense, including reducing the Corporation's federal tax rate from 35% to 21% effective January 1, 2018. As a result of the rate reduction, the Corporation is required to re-measure, through income tax expense in the period of enactment, the deferred tax assets and liabilities using the enacted rate at which they are expected to be recovered or settled. The re-measurement of the Corporation's net deferred tax asset resulted in additional 2017 income tax expense of $1.1 million.

Also, on December 22, 2017, the U.S. Securities and Exchange Commission (SEC) released Staff Accounting Bulletin No. 118 (SAB 118) to address any uncertainty or diversity of views in practice in accounting for the income tax effects of the TCJA in situations where a registrant does not have the necessary information available, prepared, or analyzed in reasonable detail to complete this accounting in the reporting period that includes the enactment date. SAB 118 allows for a measurement period not to extend beyond one year from the TCJA's enactment date to complete the necessary accounting.

The Corporation recorded provisional amounts of deferred income taxes using reasonable estimates in four areas where information necessary to complete the accounting was not available, prepared, or analyzed: 1) The Corporation's deferred tax liability for temporary differences between the tax and financial reporting basis of fixed assets is principally due to the accelerated depreciation under the TCJA which allows for full expensing of qualified property purchased and placed in service after September 27, 2017. 2) The Corporation's deferred tax asset for temporary differences associated with accrued compensation is awaiting final determinations of amounts that will be paid and deducted on the 2017 income tax returns. 3) The Corporation's deferred tax liability for temporary differences associated with equity investments in partnerships is awaiting receipt of Schedules K-1 from outside preparers, which is necessary to determine the 2017 tax impact from these investments. 4) The Corporation's deferred tax liability for temporary differences related to its qualified pension plan is based upon actuarial reports from the Corporation's third party provider. However, the Corporation is still in the process of determining if a contribution related to the 2017 plan year will be made.

The Corporation did not make any adjustments to deferred tax assets, representing future deductions for accrued compensation that may be subject to new limitations under Internal Revenue Code Section 162(m) which, generally, limits the annual deduction for certain compensation paid to certain employees to $1.0 million. There is uncertainty in applying the newly-enacted rules to existing contracts, and the Corporation is seeking further clarifications before completing its analysis.

The Corporation will complete and record the income tax effects of these provisional items during the period the necessary information becomes available. This measurement period will not extend beyond December 22, 2018.

Retained earnings include $6.0 million at December 31, 2017, 2016 and 2015, which was originally generated by Fox Chase Bank (acquired in 2016), for which no provision for federal income tax has been made. This amount represents deductions for bad debt reserves for tax purposes, which were only allowed to savings institutions that met certain criteria prescribed by the Internal Revenue Code of 1986, as amended. The Small Business Job Protection Act of 1996 eliminated the special bad debt deduction granted solely to thrifts. Under the terms of the Small Business Job Protection Act, there would be no recapture of the pre-1988 (base year) reserves. However, these pre-1988 reserves would be subject to recapture under the rules of the Internal Revenue Code if the Corporation pays a cash dividend in excess of cumulative retained earnings or liquidates.

During the year ended December 31, 2015, the Corporation recorded excess tax benefits resulting from the exercise or vesting of stock-based compensation to additional paid-in capital. The Corporation adopted ASU 2016-9, "Improvements to Employee Share-Based Payment Accounting", which was issued in March 2016. After adoption, all excess tax benefits and tax deficiencies are recorded as a component of income tax expense.

At December 31, 2017 and 2016, the Corporation had no unrecognized tax benefits or accrued interest and penalties recorded. The Corporation does not expect the total amount of unrecognized tax benefits to significantly increase within the next twelve months. Interest and penalties are recorded in noninterest expense in the year they are assessed. For tax purposes, interest is treated as a deductible expense and penalties are treated as a non-deductible expense.

The Corporation and its subsidiaries are subject to U.S. federal income tax, as well as income tax of the state of Pennsylvania and various other state and local jurisdictions. The Corporation and its subsidiaries are generally no longer subject to examination by federal, state and local taxing authorities for years prior to December 31, 2014.

Deferred income taxes reflect the tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Deferred state taxes are combined with federal deferred taxes (net of the impact of deferred state tax on the deferred federal tax) and are shown in the table below by major category.

The Corporation has a state net operating loss carry-forward of $52.6 million which will begin to expire after December 31, 2018 if not utilized. A valuation allowance at December 31, 2017 and 2016 was attributable to deferred tax assets generated in certain state jurisdictions for which management believes it is more likely than not that such deferred tax assets will not be realized. Other than the valuation allowance on certain state deferred assets, management has determined that no additional valuation allowance is necessary for deferred tax assets because it is more likely than not that these assets will be realized through carryback to taxable income in prior years, future reversals of existing temporary differences, and through future taxable income. The Corporation will continue to review the criteria related to the recognition of deferred tax assets on a regular basis.

The assets and liabilities giving rise to the Corporation’s deferred tax assets and liabilities are as follows:



	At December 31,
(Dollars in thousands)	2017			2016
Deferred tax assets:
Allowance for loan and lease losses	$	4,643		$	5,984
Deferred compensation	2,110			2,541
Actuarial adjustments on retirement benefits*	4,432			7,714
State net operating losses	4,166			2,725
Other-than-temporary impairments on equity securities	148			331
Net unrealized holding losses on securities available-for-sale and swaps*	1,316			2,762
Other deferred tax assets	1,243			5,712
Gross deferred tax assets	18,058			27,769
Valuation allowance	(3,523		)	(2,341		)
Total deferred tax assets, net of valuation allowance	14,535			25,428
Deferred tax liabilities:
Mortgage servicing rights	1,415			2,302
Retirement plans	4,304			6,265
Deferred loan fees and costs	2,614			615
Acquisition-related fair value adjustments	1,621			2,097
Intangible assets	1,513			1,491
Depreciation	1,102			1,401
Other deferred tax liabilities	792			1,692
Total deferred tax liabilities	13,361			15,863
Net deferred tax assets	$	1,174		$	9,565

*Represents the amount of deferred taxes recorded in accumulated other comprehensive income.