Income Taxes

12 Months Ended

Dec. 31, 2021

Income Tax Disclosure [Abstract]

Income Taxes

INCOME TAXES

 

a. U.S. Tax Reform:

On December 22, 2017, the Tax Cuts and Jobs Act (the "TCJA") was signed into law. The TCJA makes broad and complex changes to the Code that impact the Company's provision for income taxes. The changes include, but are not limited to:

•Decreasing the corporate income tax rate from 35% to 21% effective for tax years beginning after December 31, 2017 (“Rate Reduction”); and

•Taxation of GILTI earned by foreign subsidiaries beginning after December 31, 2017. The GILTI tax imposes a tax on foreign income in excess of a deemed return on tangible assets of foreign corporations.

GILTI Tax

Certain income (i.e., GILTI) earned by controlled foreign corporations (“CFCs”) must be included currently in the gross income of the CFCs’ U.S. shareholder. GILTI is the excess of the shareholder’s “net CFC tested income” over the net deemed tangible income return, which is the excess of (1) 10 percent of the aggregate of the U.S. shareholder’s pro rata share of the qualified business asset investment of each CFC with respect to which it is a U.S. shareholder, over (2) the amount of certain interest expense taken into account in the determination of net CFC-tested income.

For 2021, the Company is not subject to tax on account of GILTI as it has net CFC tested loss on an aggregated basis.

Accounting for the TCJA

The Company accounted for the tax impact related to the TCJA and believe its analysis to be completed. The Company recognizes that the IRS is continuing to publish and finalize ongoing guidance which may modify accounting interpretation for the TCJA, the Company would look to account for these impacts in the period of such change is enacted.

b. The Company:

The Company is taxed in accordance with U.S. tax laws.

As of December 31, 2021, the Company had gross federal net operating loss ("NOL") carry-forwards of approximately $318,321, of which approximately $22,907 expire starting in 2032 and the remainder do not expire and can only be used to offset 80% of taxable income. As of December 31, 2021, the Company had NOL carry-forwards for state and foreign income tax purposes of approximately $201,029 and $3,870, respectively. State NOL carry-forwards of $172,131 expire starting 2023 and the remainder do not expire. Foreign NOL carry-forwards do not expire. In addition, as of December 31, 2021, the Company had federal research credit, retention credit, foreign tax credit and Ireland Employment credit carryforwards of approximately $1,412, $24, $190 and $19, respectively. If not utilized, the federal tax carryforwards will begin to expire in 2033, 2032 and 2026, respectively. Ireland has no expiration on the employment credit.

A U.S. corporation's ability to utilize its federal and state NOL and tax credit carryforwards to offset its taxable income is limited under Section 382 of the Code if the corporation undergoes an ownership change (within the meaning of Code Section 382). In general, an “ownership change” occurs whenever the percentage of the stock of a corporation owned by “5-percent shareholders” (within the meaning of Code Section 382) increases by more than 50 percentage points over the lowest percentage of the stock of such corporation owned by such “5-percent shareholders” at any time over the testing period.

An ownership change under Code Section 382 would establish an annual limitation to the amount of NOL and tax credit carryforwards the Company could utilize to offset its taxable income or income tax in any single year. The annual limitation may result in the expiration of net operating losses and credits before utilization and in the event we have a change of ownership, utilization of the carryforwards could be restricted.

c. Loss before taxes on income is comprised as follows (in thousands): 

 

	Year ended
	December 31,
	2021		2020		2019
Domestic	$	(101,245)	$	(80,086)	$	(82,007)
Foreign	(9,594)		(5,812)		5,631
	$	(110,839)	$	(85,898)	$	(76,376)

 

d. Taxes on income (loss) are comprised as follows (in thousands):

 

	Year ended
	December 31,
	2021		2020		2019
Current:
Domestic:
Federal	$	(549)	$	90	$	665
State	145		128		13
Foreign	5,182		8,854		1,619
Total current income tax	$	4,778	$	9,072	$	2,297
Deferred:
Domestic:
Federal	$	43	$	8	$	—
State	6		1		—
Foreign	1,195		(969)		91
Total deferred income tax	$	1,244	$	(960)	$	91
Income tax expense	$	6,022	$	8,112	$	2,388

 

e. Deferred income taxes:

Deferred income taxes reflect the net 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. The Company’s deferred tax assets are derived from its U.S. NOL carry-forwards and other temporary differences.

ASC 740 requires an assessment of both positive and negative evidence concerning the realizability of our deferred tax assets in each jurisdiction. After considering evidence such as current and cumulative financial reporting incomes, the expected sources of future taxable income and tax planning strategies, the Company’s management concluded that a valuation allowance is required in the Unites States and some foreign jurisdictions. However, other foreign jurisdictions recorded a net deferred tax liability of $97 as of December 31, 2021. Future changes in these factors, including the Company’s anticipated results, could have a significant impact on the realization of the deferred tax assets which would result in an increase or decrease to the valuation allowance and a corresponding charge to income tax expense. The Company reevaluates the judgements surrounding its estimates and makes adjustments as appropriate each reporting period.

Significant components of our deferred tax assets and liabilities as of December 31, 2021 and 2020 are as follows (in thousands):

 

	December 31,
	2021		2020
Deferred tax assets:
Carry forward losses and credits	$	82,530	$	53,221
Deferred revenues	11,628		13,054
Accrued payroll, commissions, vacation	6,867		3,808
Equity compensation	18,469		10,348
Allowance for credit losses	1,711		1,287
Accrued severance pay	391		312
Operating lease liability	14,453		11,302
Other	512		963
Deferred tax assets before valuation allowance	136,561		94,295
Valuation allowance	(118,882)		(77,542)
Deferred tax assets	$	17,679	$	16,753
Deferred tax liability:
Accrued compensation and other accrued expense	$	—	$	(48)
Operating lease right-of-use asset	(12,478)		(8,780)
Convertible senior notes, net	(5,298)		(6,797)
Deferred tax liability	$	(17,776)	$	(15,625)
Net deferred tax asset (liability)	$	(97)	$	1,128

The change in the valuation allowance was approximately an increase of $41,340 and $14,943 during 2021 and 2020, respectively.

f. Reconciliation of the theoretical tax expenses:

A reconciliation between the theoretical tax expense, assuming all income is taxed at the statutory tax rate applicable to income of the Company, and the actual tax expense as reported in the consolidated statements of operations is as follows (in thousands, except tax rate):

 

	Year ended December 31,
	2021			2020			2019
Loss before taxes, as reported in the consolidated statements of operations	$	(110,839)		$	(85,898)		$	(76,376)
Statutory tax rate	21		%	21		%	21		%
Theoretical tax benefits on the above amount at the US statutory tax rate	$	(23,276)		$	(18,039)		$	(16,039)
Income tax at rate other than the U.S. statutory tax rate	(2,621)			4,845			(2,508)
Tax advances and non-deductible expenses including equity based compensation expenses	(8,533)			934			(115)
Operating losses and other temporary differences for which valuation allowance was provided	41,340			22,189			22,818
State tax	(2,945)			(2,872)			(3,436)
Impact of rate change	(2,568)			—			401
Change in tax reserve for uncertain tax positions	4,850			1,489			1,247
Other individually immaterial income tax items	(225)			(434)			20
Actual tax expense	$	6,022		$	8,112		$	2,388

 

g. A reconciliation of the beginning and ending amounts of unrecognized tax benefits in the years ended December 31, 2021 and 2020 are as follows (in thousands):

 

Gross unrecognized tax benefits as of January 1, 2020	$	3,201
Increase in tax position for current year	1,787
Increase in tax position for prior years	979
Decrease in tax position for prior years	(171)
Decrease for lapse of statute of limitations/settlements	(1,106)
Gross unrecognized tax benefits as of December 31, 2020	$	4,690
Increase in tax position for current year	4,335
Increase in tax position for prior years	3,624
Decrease in tax position for prior years	(870)
Decrease for lapse of statute of limitations/settlements	(2,239)
Gross unrecognized tax benefits as of December 31, 2021	$	9,540

There was $9,540 of unrecognized income tax benefits that, if recognized, approximately $5,762 would impact the effective tax rate in the period in which each of the benefits is recognized. The Company includes interest and penalties related to unrecognized tax benefits within the provision for income taxes on the consolidated statements of operations. The total amount of penalties and interest is approximately $578 as of December 31, 2021.

h. Foreign taxation:

1. Israeli tax benefits under the Law for the Encouragement of Capital Investments, 1959 (the “Investment Law”):

VSL has utilized various benefits under the Investment Law. Those benefits relate only to taxable income attributable to the specific investment program and are conditioned upon meeting the terms stipulated in the Investment Law, the related regulations and the applicable certificate of approval. If VSL does not fulfill these conditions, in whole or in part, the benefits will most likely be cancelled, and VSL may be required to refund the benefits, in an amount linked to the Israeli consumer price index plus interest.

If cash dividends are distributed out of tax exempt profits in a manner other than upon complete liquidation, VSL will then become liable for tax at the rate of 10%-25% (depending on the level of foreign investments in VSL) in respect of the amount distributed.

2. Undistributed earnings of foreign subsidiaries:

In general, it is the Company’s practice and intention to reinvest the earnings of its non-U.S. subsidiaries in those operations. Undistributed earnings, if any, of foreign subsidiaries are immaterial for all periods presented. Because the Company’s non-U.S. subsidiary earnings have previously been included in the computation of the one-time Transition Tax on foreign earnings required by the TCJA and throughout the years have been included in the GILTI computations, any additional taxes due with respect to such earnings or the excess of the amount for financial reporting over the tax basis of its foreign investments would generally be limited to foreign withholding taxes and/or U.S. state income taxes.

 

i. Tax assessments:

As of December 31, 2021, the Company's federal tax returns for the years 2010 through the current period, excluding the 2016 tax year which was audited by the Internal Revenue Service, and most state tax returns for the years 2009 through the current period, are still open to examination. The Company remains open to examination to the extent net carry-over unused operating losses and tax credit attributable to those years remain unutilized. The Company is currently under certain state tax audits.

During 2020, the Israeli Tax Authority initiated a withholding tax audit on VSL for the years 2016-2019. During 2021, the Company and the Israeli Tax Authority settled an income tax audit on VSL for the tax years 2016-2019. The Company has recorded a provision with respect to its uncertain tax positions in accordance with ASC 740.

The Company has final income tax assessments for VSL through 2019, Varonis (UK) Limited through 2017 and Varonis France SAS through 2018.

All other foreign subsidiaries do not have final tax assessments since their respective inceptions.