INCOME TAXES

12 Months Ended

Dec. 31, 2019

The Company has elected to be treated as a REIT under federal income tax laws. As a REIT, the Company is generally not subject to federal income taxation at the corporate level to the extent that it distributes 100% of its taxable earnings to shareholders annually and does not engage in prohibited transactions. Certain activities of the Company that produce prohibited income are conducted through a taxable REIT subsidiary ("TRS"), FOAC, to protect REIT election and FOAC is therefore subject to tax as a U.S. C-Corporation. To maintain our REIT election, the Company must continue to meet certain ownership, asset and income requirements set forth in the Code. As further discussed below, the Company may be subject to non-income taxes on excess amounts of assets or income that cause a failure of any of the REIT testing requirements.

The following table reconciles the Company’s TRS GAAP net income (loss) to taxable income (in thousands):


	Year Ended December 31,
	2019	2018
	(in thousands)	(in thousands)
GAAP consolidated net income (loss) attributable to Hunt Companies Finance Trust, Inc.	6,205	(3,950)
GAAP net loss (income) from REIT operations	(5,555)	5,241
GAAP net income (loss) of taxable subsidiary	650	1,291
Capitalized transaction fees	(41)	(41)
Unrealized gain (loss)	1,298	(20)
Deferred income	—	(222)
Taxable income (loss) of taxable subsidiary before utilization of net operating losses	1,907	1,008
Utilization of net operating losses	(571)	(288)
Current state tax expense	2	—
Net taxable income of taxable subsidiaries	1,338	720

The following is a reconciliation of the statutory federal and state tax rates to the effective rates, for the years ended December 31, 2019 and 2018:


	Year Ended December 31,
	2019		2018
	(in thousands)		(in thousands)
U.S. Federal Statutory Income Tax	1,303		(830)
State Taxes	(2)		61
REIT loss (income) not subject to federal income tax	(1,166)		1,101
Tax effect of state corporate rate change	(179)		—
REIT Testing Income Tax⁽¹⁾	—		1,956
Valuation Allowance	—		(767)
Total income tax (benefit) provision	(44)		1,522
Effective income tax rate	(0.71)	%	(38.50)	%

(1)Please see REIT Testing and Tax on 75% Income Test Failure

The TRS has a deferred tax asset (liability), comprised of the following (in thousands):


	As of December 31, 2019	As of December 31, 2018
Accumulated net operating losses of TRS	137	263
Unrealized gain (loss)	686	245
Capitalized transaction costs	120	112
Deferred tax asset	943	620
Valuation allowance	—	—
Net non-current deferred tax asset (liability)	943	620

During 2018, the TRS reported GAAP earnings of $1.3 million which, when combined with the prior two years of profit and loss, resulted in cumulative GAAP earnings for the prior three years. The history of earnings, combined with the introduction of a new investment at the TRS in the fourth quarter of 2018, results in the Company's determination that, as of December 31, 2018, it is more likely than not that the Company will realize benefit from its deferred tax assets in subsequent periods. Therefore, the Company has reversed the valuation allowance effective as of December 31, 2018, the impact of which is reported as part of the net deferred tax benefit in the current period. At December 31, 2019, and 2018, the TRS had net operating loss carryforwards for federal income tax purposes of $0.4 million and $1.0 million, which are available to offset future taxable income and begin expiring in 2034. There is no change to the valuation allowance position for calendar year 2019.

As of December 31, 2019, the Company is not aware of any material uncertain tax positions, but the Company could be subject to federal and state tax audits for its tax years of 2016, 2017 and 2018.

REIT Testing and Tax on 75% Income Test Failure:

During tax years 2018 and 2019 the Company passed all the requisite ownership, asset and income tests, with the exception of the 2018 test under Section 856(c)(3) of the Code, also known as the 75% Income Test. The 75% Income Test requires that at least 75% of the gross income earned by the Company be generated by qualifying real estate income, including interest income on mortgages and realized gain on the sale of real estate assets. In our case, the gains generated by the asset protection hedging strategy resulting from the complete disposition of the MBS asset portfolio during 2018 were determined to be non-

qualified income for purpose of the 75% Income Test and resulted in a failure of the 75% Income Test for the year-ended December 31, 2018. As a result, the Company owed an income tax on the amount of the gross income that exceeded the 75% Income Test threshold. The calculation of the tax under Section 857(b)(5) of the Code resulted in an accrued tax liability of $1.96 million for 2018, which is reflected as part of the "(Provision for) benefit from income taxes" in the Company's consolidated statement of operations and "Other accounts payable and accrued expenses" in the Company's consolidated balance sheet. The tax liability of $1.96 million was paid by the Company in April 2019. The Company believes it more likely than not that the failure of the 2018 75% Income Test will not impact its REIT election in the current or future periods.