7. Federal Income Tax Reporting

General

The Company has elected to be taxed as a REIT under the Internal Revenue Code of 1986, as amended (the “Code”). As a REIT, the Company generally is entitled to a tax deduction for distributions paid to its shareholders, thereby effectively subjecting the distributed net income of the Company to taxation at the shareholder level only. The Company must comply with a variety of restrictions to maintain its status as a REIT. These restrictions include the type of income it can earn, the type of assets it can hold, the number of shareholders it can have and the concentration of their ownership, and the amount of the Company’s taxable income that must be distributed annually.

One such restriction is that the Company generally cannot own more than 10% of the voting power or value of the securities of any one issuer unless the issuer is itself a REIT or a taxable REIT subsidiary (“TRS”). In the case of TRSs, the Company’s ownership of securities in all TRSs generally cannot exceed 25% of the value of all of the Company’s assets and, when considered together with other non-real estate assets, cannot exceed 25% of the value of all of the Company’s assets. FSP Investments LLC and FSP Protective TRS Corp. are the Company’s taxable REIT subsidiaries operating as taxable corporations under the Code.

Income taxes are recorded based on the future tax effects of the difference between the tax and financial reporting bases of the Company’s assets and liabilities. In estimating future tax consequences, potential future events are considered except for potential changes in income tax law or in rates.

The Company adopted an accounting pronouncement related to uncertainty in income taxes effective January 1, 2007, which did not result in recording a liability, nor was any accrued interest and penalties recognized with the adoption. Accrued interest and penalties will be recorded as income tax expense, if the Company records a liability in the future. The Company’s effective tax rate was not affected by the adoption. The Company and one or more of its subsidiaries files income tax returns in the U.S. federal jurisdiction and various state jurisdictions. The statute of limitations for the Company’s income tax returns is generally three years and as such, the Company’s returns that remain subject to examination would be primarily from 2014 and thereafter.

The Company is subject to a business tax known as the Revised Texas Franchise Tax. Some of the Company’s leases allow reimbursement by tenants for these amounts because the Revised Texas Franchise Tax replaces a portion of the property tax for school districts. Because the tax base on the Revised Texas Franchise Tax is derived from an income based measure, it is considered an income tax. The Company recorded a provision for the Revised Texas Franchise Tax of $355,000, $352,000 and $398,000 for the years ended December 31, 2016, 2015 and 2014, respectively.

Net operating losses

Section 382 of the Code restricts a corporation’s ability to use net operating losses (“NOLs”) to offset future taxable income following certain “ownership changes.” Such ownership changes occurred with past mergers and accordingly a portion of the NOLs incurred by the Sponsored REITs available for use by the Company in any particular future taxable year will be limited. To the extent that the Company does not utilize the full amount of the annual NOLs limit, the unused amount may be carried forward to offset taxable income in future years. NOLs expire 20 years after the year in which they arise, and the last of the Company’s NOLs will expire in 2027. A valuation allowance is provided for the full amount of the NOLs as the realization of any tax benefits from such NOLs is not assured. The gross amount of NOLs available to the Company was $13,041,000 as of each of December 31, 2017, 2016 and 2015.

Income Tax Expense

The income tax expense reflected in the consolidated statements of income relates primarily to a franchise tax on our Texas properties. FSP Protective TRS Corp. provides taxable services to tenants at some of the Company’s properties and the tax expense associated with these activities are reported in the table as Other Taxes in the table below:


	For the Year Ended December 31,
(Dollars in thousands)	2017		2016		2015

Revised Texas franchise tax	$	355	$	352	$	398
Other Taxes		45		66		35
Taxes on income	$	400	$	418	$	433

Taxes on income are a current tax expense. No deferred income taxes were provided as there were no material temporary differences between the financial reporting basis and the tax basis of the TRSs.

At December 31, 2017, the Company’s net tax basis of its real estate assets is more than the amount set forth in the Company’s consolidated balance sheets by $208,434,000 and at December 31, 2016 the net tax basis is more than the Company’s consolidated balance sheets by $197,669,000.

Reconciliation Between GAAP Net Income (Loss) and Taxable Income

The following reconciles book net income (loss) to taxable income for the years ended December 31, 2017, 2016 and 2015.


	For the year ended December 31,
(in thousands)	2017		2016		2015

Net income (loss) per books	$	(15,944)	$	8,378	$	35,014
Adjustments to book income (loss):
Book depreciation and amortization		100,227		92,557		91,201
Tax depreciation and amortization		(62,653)		(59,171)		(53,089)
Tax basis more than book basis on assets sold		(907)		(576)		(2,739)
Straight line rent adjustment, net		(2,977)		(2,976)		(3,493)
Deferred rent, net		1,226		2		618
Non-taxable distributions		(1,289)		(970)		—
Other, net		6,582		(1,648)		995
Taxable income		24,265		35,596		68,507
Less: Capital gains recognized		—		—		10,360
Taxable income subject to distribution requirement	$	24,265	$	35,596	$	58,147

Tax Components

The following summarizes the tax components of the Company’s common distributions paid per share for the years ended December 31, 2017, 2016 and 2015:


	2017				2016				2015
	Per Share		%		Per Share		%		Per Share		%
Ordinary income	$	0.24	31.74	%	$	0.39	50.82	%	$	0.60	79.17	%
Capital gain (1)		—	—	%		—	—	%		0.09	11.60	%
Return of capital		0.52	68.26	%		0.37	49.18	%		0.07	9.23	%
Total	$	0.76	100	%	$	0.76	100	%	$	0.76	100	%

(1)

For 2015, 11.6% of the total distributions are taxed as capital gains, and, 5.96%, was taxed as an Unrecaptured Section 1250 gain.