Income Taxes

12 Months Ended

Dec. 31, 2019

Income Taxes:

Income tax benefit (expense) was as follows for the years ended December 31:



(Millions)	2019			2018			2017
Current:
Federal	$	(0.1	)	$	(0.3	)	$	0.3
State	0.5			(7.6		)	(4.9		)
	0.4			(7.9		)	(4.6		)
Deferred:
Federal	254.6			(356.1		)	328.0
State	65.0			(85.1		)	84.7
	319.6			(441.2		)	412.7
Income tax benefit (expense)	$	320.0		$	(449.1	)	$	408.1

The 2019 deferred income tax benefit includes the impact of recording a goodwill impairment charge. The 2018 deferred income tax expense includes the impact of recording additional valuation allowance. There was also a goodwill impairment charge recorded in 2017 that resulted in the recognition of a deferred income tax benefit. The remainder of deferred income tax benefit (expense) for all three years primarily resulted from temporary differences between depreciation and amortization expense for income tax purposes and depreciation and amortization expense recorded in the accompanying consolidated financial statements.

Differences between the federal income tax statutory rates and effective income tax rates, which include both federal and state income taxes, were as follows for the years ended December 31:



	2019		2018		2017
Statutory federal income tax rate	21.0	%	21.0	%	35.0	%
Increase (decrease)
State income taxes, net of federal benefit	4.2		3.9		3.6
Adjust deferred taxes for state net operating loss carryforward	—		0.1		—
Transaction costs	—		—		(0.1	)
Valuation allowance	(1.7	)	(183.1	)	(0.1	)
Research and development credit	—		(1.0	)	0.1
Share-based compensation	—		(1.0	)	(0.1	)
Debt exchange	(0.2	)	6.8		(6.1	)
2017 federal tax reform	—		—		(7.6	)
Goodwill impairment	(13.2	)	—		(8.4	)
Sale of Consumer CLEC business	—		(9.3	)	—
Reorganization items, net	(0.8	)	—		—
Other items, net	(0.1	)	(1.4	)	(0.1	)
Effective income tax rate	9.2	%	(164.0	)%	16.2	%

With regard to the debt exchange that occurred in 2017, a portion was treated as cancellation of debt (“COD”) income for tax purposes and resulted in non-deductible original issue discount (“OID”). We also recorded the impact of the portion of the 2017 goodwill impairment that was non-deductible.

In 2018, we assessed our valuation allowance after considering the adverse court ruling and the resulting acceleration of all of our long-term debt obligations and payments due under the contractual arrangement with Uniti and subsequent filing of the Chapter 11 Cases. We determined, based upon all available evidence, that a full valuation allowance was necessary, exclusive of a portion of deferred tax liabilities primarily associated with indefinite-lived intangible assets. Additionally, we recorded incremental tax expense from the sale of the consumer CLEC business. In conjunction with the 2018 debt exchange, there was also a non-taxable gain on extinguishment of debt for financial statement purposes, partially offset by COD income for tax purposes.

In 2019, we recorded the impact of the portion of the goodwill impairment that was non-deductible.

16. Income Taxes, Continued:

The significant components of the net deferred income tax liability (asset) were as follows at December 31:



(Millions)	2019			2018
Property, plant and equipment	$	422.6		$	825.5
Goodwill and other intangible assets	215.6			477.7
Operating loss and credit carryforward	(548.0		)	(576.8		)
Postretirement and other employee benefits	(77.4		)	(79.6		)
Unrealized holding loss and interest rate swaps	(1.0		)	7.2
Deferred compensation	(2.2		)	(2.3		)
Bad debt	(21.4		)	(15.1		)
Long-term lease obligations	(1,033.8		)	(1,170.9		)
Operating lease right-of-use assets	1,008.0			—
Deferred debt costs	(36.8		)	(19.2		)
Share-based compensation	(4.5		)	(6.8		)
Interest expense	(30.4		)	—
Other, net	(7.3		)	(20.4		)
	(116.6		)	(580.7		)
Valuation allowance	189.2			685.0
Less amounts reclassified to liabilities subject to compromise	(72.6		)	—
Deferred income taxes, net	$	—		$	104.3
Deferred tax assets	$	(1,813.7	)	$	(1,954.0	)
Deferred tax liabilities	1,886.3			2,058.3
Less amounts reclassified to liabilities subject to compromise	(72.6		)	—
Deferred income taxes, net	$	—		$	104.3

In assessing the realization of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which temporary differences representing net future deductible amounts become deductible. We consider the scheduled reversal of deferred tax assets and liabilities, carryback potential, projected future taxable income and tax planning strategies in making this assessment. As a result of the adverse court ruling and subsequent filing of the Chapter 11 Cases, we considered the reversal of taxable temporary differences and carryback potential as a source of income as of December 31, 2018. After consideration of these factors, we recorded a full valuation allowance for the year ended December 31, 2018, exclusive of a portion of deferred tax liabilities primarily associated with indefinite-lived intangible assets. Therefore, as of December 31, 2018, we had valuation allowances of approximately $685.0 million. The impact of adoption of ASU 2016-02 in 2019 resulted in an increase to deferred tax liabilities of approximately $833.8 million. This increase caused a re-evaluation of our valuation allowances as of January 1, 2019 and resulted in a release of valuation allowance of approximately $541.5 million, recorded as an adjustment to equity. Changes in valuation allowance not associated with the adoption of ASU 2016-02 were recorded through income tax expense. As of December 31, 2019, we were in a net deferred tax liability position and recorded income tax benefit during 2019. We will monitor our deferred tax asset position each quarter and determine the appropriate income tax benefit to record based upon the reversal of taxable temporary differences.

At December 31, 2019 and 2018, we had federal net operating loss carryforwards of approximately $1,807.9 million and $1,920.2 million, respectively. Net operating losses generated prior to 2018 expire in varying amounts from 2020 through 2037. Under the 2017 Tax Cuts and Jobs Act, federal net operating losses generated in 2018 and future years can be carried forward indefinitely. The loss carryforwards at December 31, 2019 and 2018 were primarily losses acquired in conjunction with our acquisitions including PAETEC, EarthLink and Broadview. The 2019 decrease is primarily associated with estimated utilization for the year.

At December 31, 2019 and 2018, we had state net operating loss carryforwards of approximately $2,471.8 million and $2,456.6 million, respectively, which expire annually in varying amounts from 2020 through 2039. The loss carryforwards were primarily losses acquired in conjunction with our acquisitions including PAETEC and EarthLink.

16. Income Taxes, Continued:

As previously noted, we establish valuation allowances when necessary to reduce deferred tax assets to amounts expected to be realized. Therefore, as of December 31, 2019 and 2018 we recorded valuation allowances of approximately $162.5 million and $541.0 million, respectively, related to federal and state loss carryforwards which are expected to expire before they are utilized. The amount of federal tax credit carryforward at December 31, 2019 and 2018, was approximately $21.8 million, which expire in varying amounts from 2031 through 2036. The amount of state tax credit carryforward at December 31, 2019 and 2018, was approximately $14.9 million and $17.7 million, respectively, which expire in varying amounts from 2020 through 2027. Due to the expected lack of sufficient future taxable income based on the scheduled reversal of existing taxable temporary differences, we believe that it is more likely than not that the benefit from some of the federal and state tax credit carryforwards will not be realized prior to their expiration. Therefore, as of December 31, 2019 and 2018, we recorded valuation allowances of approximately $26.7 million and $35.8 million, respectively, to reduce our deferred tax assets to amounts expected to be realized.

We account for uncertainty in taxes in accordance with authoritative guidance. A reconciliation of the unrecognized tax benefits is as follows:



(Millions)	2019		2018			2017
Beginning balance	$	8.0	$	8.7		$	8.8
Additions based on EarthLink acquisition	—		—			2.5
Additions based on tax positions related to current year	—		—			0.7
Reductions for tax positions of prior years	—		(0.7		)	(1.2		)
Settlements	—		—			(2.1		)
Ending balance	$	8.0	$	8.0		$	8.7

We do not expect or anticipate a significant increase or decrease over the next twelve months in the unrecognized tax benefits reported above. The total amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate are $7.6 million, $7.6 million and $8.3 million (net of indirect benefits) for the years ended December 31, 2019, 2018 and 2017, respectively.

We file income tax returns in the U.S. federal jurisdiction and various states. With few exceptions, we are no longer subject to U.S. federal, state and local income tax examinations by tax authorities for years prior to 2016. However, due to acquired net operating losses, tax authorities have the ability to adjust those net operating losses related to closed years. We have identified Arkansas, California, Florida, Georgia, Illinois, Iowa, Kentucky, Nebraska, New York, North Carolina, Pennsylvania, Texas and Virginia as “major” state taxing jurisdictions.

We recognize accrued interest and penalties related to unrecognized tax benefits as a component of income tax expense. During the years ended December 31, 2019, 2018 and 2017, we recognized approximately $0.2 million, $0.1 million, and $0.2 million in interest and penalties, respectively. Furthermore, we had approximately $0.5 million, $0.3 million, and $0.3 million of interest and penalties accrued as of December 31, 2019, 2018 and 2017, respectively.