2. INCOME TAXES

Income tax expense for the years ended December 31, 2013 and 2012 consists of the following:

	2013		2012

Current:
Federal	$	91,000	$	319,000
State	1,000		2,000
	92,000		321,000
Deferred	153,000		30,000
	$	245,000	$	351,000

The expected provision for income taxes, computed by applying the U.S. federal income tax rate of 34% in 2013 and 35% in 2012 to income before taxes, is reconciled to income tax expense as follows:

	2013			2012

Expected provision for federal income taxes	$	315,000		$	365,700
State income taxes, net of federal benefit	16,000			(400		)
Domestic manufacturers deduction	(20,000		)	(31,800		)
Non-deductible meals, entertainment, and life insurance	13,000			20,800
Prior year adjustments	(32,000		)	—
Research and development credit	(45,000		)	—
Other	(2,000		)	(3,300		)
	$	245,000		$	351,000

Net deferred tax liabilities consist of the following as of December 31, 2013 and 2012:

	2013			2012

Deferred tax assets:
Accrued vacation	$	23,000		$	25,000
Inventories reserve	105,000			101,000
Allowance for doubtful accounts	9,000			5,000
Allowance for sales returns	13,000			11,000
Capital loss carryforward	309,000			323,000
Research and development credit carryforward	17,000			—
Less valuation allowance	(326,000		)	(323,000		)
	150,000			142,000
Deferred tax liabilities:
Property and equipment and other assets	(468,000		)	(324,000		)
Intangible assets	(59,000		)	(42,000		)
Net deferred tax liabilities	$	(377,000	)	$	(224,000	)

The deferred tax amounts described above have been included in the accompanying balance sheet as of December 31, 2013 and 2012 as follows:

	2013			2012

Current assets	$	150,000		$	142,000
Noncurrent liabilities	(527,000		)	(366,000		)

	$	(377,000	)	$	(224,000	)

At December 31, 2013 and 2012, the Company recorded a valuation allowance of $326,000 and $323,000, respectively, related to Minnesota research and development credit and U.S. Federal capital loss carryovers as the company believes it is more likely than not that the deferred tax assets will not be realized. As of December 31, 2013, the capital loss can be carried forward one year and must be offset by a capital gain.

It has been the Company’s policy to recognize interest and penalties related to uncertain tax positions in income tax expense. As of December 31, 2013 and 2012, there was no liability for unrecognized tax benefits.

The Company is subject to federal and state taxation. The material jurisdictions that are subject to examination by tax authorities primarily include Minnesota and the United States, for tax years 2010, 2011, 2012 and 2013.