18. INCOME TAXES

The provision for income taxes was $143.9 million in 2012, representing an effective tax rate of 33.8%, compared to $138.1 million, representing an effective tax rate of 36.0% and $91.3 million, representing an effective tax rate of 35.7% for 2011 and 2010, respectively. Included in the income tax recognized during 2012, 2011 and 2010 are $18.7 million, $11.1 million and $12.4 million, respectively, in tax credits generated from our investments in affordable housing partnerships and other investments.

Management regularly reviews the Company’s tax positions and deferred tax assets. Factors considered in this analysis include future reversals of existing temporary differences, future taxable income exclusive of reversing differences, taxable income in prior carryback years, and tax planning strategies. The Company accounts for income taxes using the asset and liability approach, the objective of which is to establish deferred tax assets and liabilities for the temporary differences between the financial reporting basis and the tax basis of the Company’s assets and liabilities at enacted rates expected to be in effect when such amounts are realized and settled. Based on the available evidence, Management has concluded that it is more likely than not that all of the benefit of the deferred tax assets will be realized, with the exception of the deferred tax assets related to certain state net operating loss carryforwards. Accordingly, a valuation allowance has been recorded for these amounts.

As of December 31, 2012, the Company had a net deferred tax asset of $185.7 million.

The provision for income taxes consists of the following components:

	Year Ended December 31,
	2012			2011			2010
	(Dollars in thousands)
Current income tax expense (benefit):
Federal	$	148,572		$	(86,157	)	$	9,942
State	2,316			34,760			69,026
Foreign	5,704			—			—
Total current income tax expense (benefit)	156,592			(51,397		)	78,968

Deferred income tax (benefit) expense:
Federal	(38,749		)	193,834			55,083
State	26,099			(7,706		)	(48,273		)
Foreign	—			3,369			5,567
Total deferred income tax (benefit) expense	(12,650		)	189,497			12,377
Provision for income taxes	$	143,942		$	138,100		$	91,345

The difference between the effective tax rate implicit in the consolidated financial statements and the statutory federal income tax rate can be attributed to the following:

	Year Ended December 31,
	2012		2011		2010
Federal income tax provision at statutory rate	35.0	%	35.0	%	35.0	%
State franchise taxes, net of federal tax effect	4.3		4.3		5.3
Tax credits	(5.3	)	(2.7	)	(4.8	)
Other, net	(0.2	)	(0.6	)	0.2
Effective income tax rate	33.8	%	36.0	%	35.7	%

The Company recognizes investment tax credits from low income housing and other investments in the year the credit arises under the flow-through method of accounting. The tax effects of temporary differences that give rise to significant portions of the deferred tax assets (liabilities) are presented below:

	December 31,
	2012												2011
	Federal			State			Foreign			Total			Federal			State			Foreign			Total
	(In thousands)
Deferred tax liabilities:
Core deposit intangibles	$	(15,755	)	$	(4,635	)	$	133		$	(20,257	)	$	(19,449	)	$	(5,537	)	$	133		$	(24,853	)
Affordable housing partnerships and other investments	(16,221		)	(4,337		)	—			(20,558		)	(15,091		)	(3,904		)	—			(18,995		)
Fixed assets	(17,201		)	(4,289		)	—			(21,490		)	(21,640		)	(6,305		)	—			(27,945		)
FHLB stock	(17,670		)	(9,140		)	—			(26,810		)	(24,088		)	(6,874		)	—			(30,962		)
Deferred loan fees	(2,523		)	(719		)	—			(3,242		)	(3,041		)	(844		)	—			(3,885		)
Purchased loan discounts	(126		)	(36		)	—			(162		)	(160		)	(44		)	—			(204		)
State taxes	(7,894		)	—			—			(7,894		)	(10,749		)	—			—			(10,749		)
Mortgage servicing assets	(1,812		)	(517		)	—			(2,329		)	(2,560		)	(711		)	—			(3,271		)
Section 597 gain	(94,231		)	(2,684		)	—			(96,915		)	(142,934		)	(3,588		)	—			(146,522		)
FDIC receivable	(318,741		)	(9,405		)	—			(328,146		)	(371,049		)	(9,314		)	—			(380,363		)
Acquired debt	(10,812		)	(1,061		)	(300		)	(12,173		)	(10,812		)	(1,012		)	(300		)	(12,124		)
Other, net	(604		)	627			—			23			(4,155		)	(986		)	—			(5,141		)
Total gross deferred tax (liabilities)	(503,590		)	(36,196		)	(167		)	(539,953		)	(625,728		)	(39,119		)	(167		)	(665,014		)

Deferred tax assets:
Allowance for loan losses and REO reserves	93,924			23,281			(5,220		)	111,985			79,269			18,556			(5,220		)	92,605
Deferred compensation	18,213			5,262			—			23,475			14,533			4,101			—			18,634
Purchased loan premium	485			139			—			624			832			231			—			1,063
Unrealized loss on securities	47,567			12,816			—			60,383			69,239			20,267			—			89,506
Net operating loss carryforwards	—			698			—			698			1,052			34,395			—			35,447
Acquired loans and REOs	478,825			29,796			7,957			516,578			577,883			30,015			7,957			615,855
Other, net	9,021			3,177			97			12,295			10,016			4,277			97			14,390
Total gross deferred tax assets	648,035			75,169			2,834			726,038			752,824			111,842			2,834			867,500
Valuation allowance	—			(372		)	—			(372		)	—			(603		)	—			(603		)
Net deferred tax assets	$	144,445		$	38,601		$	2,667		$	185,713		$	127,096		$	72,120		$	2,667		$	201,883

Management believes that it is more likely than not that all of the deferred tax assets recorded at December 31, 2012 will be realized (except to the extent of the recorded valuation allowance) because it expects to have sufficient taxable income in future years to fully realize them. A valuation allowance has been provided for the state net operating losses (“NOLs”) (for states other than California, Georgia, Massachusetts and New York) since management believes that these NOLs may not be fully utilized.

At December 31, 2011, the Bank had a federal net operating loss carryforward of approximately $3.0 million. During 2012, the federal net operating loss carryforward balance was adjusted. As of December 31, 2012 there was no federal net operating loss carryforward. At December 31, 2012 and 2011, the Bank had state net operating loss carryforwards of approximately $3.0 million and $312.3 million, respectively. The $3.0 million of the state net operating loss resulted from the acquisition of Desert Community Bank (“DCB”) in 2007 and will expire in 2021. Federal and state tax laws related to a change in ownership, such as that resulting from the acquisition of DCB, place limitations on the annual amount of net operating loss carryovers that can be utilized to offset post-acquisition taxable income. Under Internal Revenue Code Section 382, which is also applicable for California tax purposes, certain changes in the ownership of a loss company can result in limitations on the utilization of net operating and any built-in losses. This annual limitation is generally based on the value of the loss company at the ownership change date. The previous California suspended net operating losses of $304.4 million will be utilized in the 2012 state tax return.

The following table summarizes the activity related to our unrecognized tax benefits:

	Year Ended December 31,
	2012			2011
	(Dollars in thousands)
Balance, beginning of year	$	3,332		$	4,952
Additions for tax positions of prior years	—			794
Reductions for tax positions of prior years	—			(3,208		)
Additions for tax positions of current year	1,060			794
Settlements	(935		)	—
Balance, end of year	$	3,457		$	3,332

For the years ended December 31, 2012 and 2011, the Company increased the unrecognized tax benefits reserve by $1.1 million and $1.6 million, respectively, for the California enterprise zone net interest deduction. In 2012, the Company also paid the Franchise Tax Board tax of approximately $935 thousand related to the resolution of the enterprise zone net interest deduction for the tax years ended 2006 to 2008. There were no reductions in unrecognized tax benefits for 2012. In 2011, the Company reduced the unrecognized tax benefits for the California enterprise zone net interest deduction by $3.2 million due to work performed to find additional qualified enterprise zone loans from 2005 to 2008. As of December 31, 2012 and 2011, the liability for uncertain tax positions was $6.1 million and $4.8 million, respectively. Also, for the years ended December 31, 2012 and 2011, the total amount of unrecognized tax benefits that, if recognized, would impact the effective tax rate is $2.2 million.

During 2012, the Company finalized the Internal Revenue Service (“IRS”) examination for the 2010 tax year with no material changes. The Company is currently under examination by the IRS for the 2011 tax year. In 2012, the Company executed a Memorandum of Understanding with IRS for the 2012 tax year to voluntarily participate in the IRS Compliance Assurance Process (“CAP”) where IRS will assist the Company to identify and resolve any tax issues that may arise throughout the 2012 tax year. The objective of the CAP is to resolve issues in a timely and contemporaneous manner and eliminate the need for a lengthy post-filing examination. For federal tax purposes, tax years from 2007 and beyond remain open and for California franchise tax purposes tax years from 2003 and beyond remain open. The states of Ohio and Texas have initiated audits of East West Bank’s 2010 corporate income tax returns. The Company does not believe any of the tax jurisdictions in which the outcome of unresolved issues or claims is likely to be material to the Company’s financial position, cash flows or results of operations. The Company further believes that adequate provisions have been made for all income tax uncertainties. The Company does not anticipate that the total amount of unrecognized tax benefits will significantly change during the year ending December 31, 2013.

The Company recognizes interest and penalties, if applicable, related to the underpayment of income taxes as a component of income tax expense in the consolidated statement of operations. The Company accrued interest and penalties of $1.2 million, $287 thousand and $796 thousand for its unrecognized tax positions as of December 31, 2012, 2011 and 2010, respectively. Total interest and penalties accrued as of December 31, 2012 and 2011 were $2.7 million and $1.5 million, respectively.