Income Taxes

The components of income tax expense (benefit) for the years ended December, 31 2016, 2015 and 2014 are as follows:



(in thousands)	2016			2015			2014
Current
Federal	$	16,713		$	(4,202	)	$	3,765
State	1,124			405			1,150
	17,837			(3,797		)	4,915
Deferred
Federal	(3,049		)	(4,176		)	(69,281		)
State	(522		)	(1,716		)	(1,211		)
	(3,571		)	(5,892		)	(70,492		)
	$	14,266		$	(9,689	)	$	(65,577	)

A reconciliation of differences between the statutory U.S. federal income tax rate of 35% and the Company’s effective tax rate from continuing operations for the years ended December 31, 2016, 2015, and 2014 follows:



	2016		2015		2014
Federal statutory rate	35.0	%	35.0	%	35.0	%
State taxes, net of federal tax	2.7		1.7		4.1
Nondeductible capitalized transaction costs	1.4		(16.2	)	—
Nondeductible compensation expense	0.5		—		—
Nondeductible (permanent) items	1.0		(3.0	)	0.6
IRC Section 199 manufacturing deduction	(3.5	)	—		—
Changes in tax rates	1.6		(6.2	)	—
Changes related to IRC section 382 limitations	(3.9	)	55.5		—
Excess windfall benefit of stock compensation	(3.7	)	—		—
Other items	0.5		(0.1	)	(2.6	)
Valuation allowance	—		—		(267.6	)
Effective tax rate	31.6	%	66.7	%	(230.5	)%

For the year ended December 31, 2016, the Company recognized $14.3 million of income tax expense, which included an income tax benefit of $1.7 million as a result of the Company adopting a state tax position related to Internal Revenue Code ("IRC") section 382 limitations on a state net operating loss carry-forward. For the year ended December 31, 2016, the Company's effective tax rate, excluding the state tax position change, was lower than the Company’s federal and state statutory rates primarily due to excess windfall tax benefits of stock compensation deductions and an IRC section 199 manufacturing deduction.

For the year ended December 31, 2015, the Company recognized a $9.7 million income tax benefit, which included an income tax benefit of $8.1 million as a result of the Company adopting a tax position related to IRC section 382 limitations on its federal and state net operating loss carryforwards and other built-in losses. IRC section 382 imposes annual limitations on the utilization of net operating loss carry-forwards, other tax carry-forwards and certain built-in losses (collectively, “Tax Attributes”) upon an ownership change as defined under that section. In general terms, an ownership change may result from transactions that increase the aggregate ownership of certain stockholders in the Company’s stock by more than 50 percentage points over a three year testing period. If the Company were to experience an IRC section 382 ownership change, an annual limitation could be imposed on certain Tax Attributes. Upon the Merger, the Company reviewed whether any of its Tax Attributes would be subject to IRC section 382 limitation and from such review, identified a tax position, which involves using a specific identification method, instead of the Company's previous ratable allocation method, to determine the amount of tax-deductible built-in losses subject to IRC section 382 limitations. As a result of adopting this tax position in the fourth quarter of 2015, the Company more likely than not expects to realize additional federal and state net operating loss carry-forwards that were previously limited under the prior method of determining IRC section 382 limitations against its Tax Attributes. The Company did not recognize any material unfavorable adjustments to its Tax Attributes specifically related to the change of control from the Merger on December 1, 2015. For the year ended December 31, 2015, the Company's effective tax rate, excluding the IRC section 382 tax position change, was lower than the Company's federal and state statutory rates primarily due to non-deductible merger-related transaction costs.

In the fourth quarter of 2015, the Company recorded an out-of-period benefit of approximately $0.9 million to income taxes related to an error in the calculation of state net operating loss carryforwards. The Company has determined the adjustment is not material to the period of correction or any previously issued financial statements.

On December 1, 2015, BMHC and SBS completed the Merger. The Merger qualified as a tax-free reorganization within the meaning of IRC section 368(a), and therefore, the Company assumed the carryover tax basis of the acquired assets and liabilities of SBS. As a result, the Company recorded a net deferred tax liability of $75.0 million and a tax payable of $3.2 million impacting goodwill as part of purchase accounting. None of the goodwill recognized as part of this transaction is deductible for income tax purposes.

On September 1, 2015, BMHC acquired the assets of RBI and recognized an increase in tax basis based on the purchase price. Goodwill recognized as part of this transaction is deductible for income tax purposes.

On May 1, 2015, BMHC completed its stock acquisition of VNS. The Company assumed the carryover tax basis of the acquired assets and liabilities of VNS. As a result, the Company recorded a net deferred tax liability of $4.4 million and a tax receivable of $0.4 million impacting goodwill as part of purchase accounting. None of the goodwill recognized as part of this transaction is deductible for income tax purposes.

For 2014, the Company recognized a $65.6 million income tax benefit primarily related to $76.1 million reversal of the valuation allowance, a discrete item, on BMC’s deferred tax assets during the three months ended June 30, 2014. This income tax benefit was reduced by $10.6 million income tax expense for federal and certain states. The Company’s effective tax rate prior to the reversal of the valuation allowance was 37.1% and was lower than the Company’s federal and state statutory rates due to tax credits partially offset by non-deductible expenses and non-deductible loss limitation.

Significant components of the Company’s deferred tax assets and liabilities are as follows at December 31, 2016 and 2015:



(in thousands)	2016			2015
Deferred tax assets related to:
Accounts receivable	$	2,951		$	3,780
Inventory	2,857			4,725
Goodwill and intangibles	—			—
Accrued compensation	6,044			5,462
Insurance reserves	17,126			14,186
Stock-based compensation	3,210			2,759
Restructuring reserves	1,868			4,008
Other accrued liabilities	665			918
Federal net operating loss carryforward	30,664			32,361
State net operating loss carryforward	5,593			5,036
Other	2,398			283
	73,376			73,518
Valuation allowance	(125		)	(126		)
Total deferred tax assets	73,251			73,392

Deferred tax liabilities related to:
Goodwill and intangibles	(31,808		)	(32,452		)
Property and equipment	(38,836		)	(42,261		)
Other assets	(2,057		)	(1,700		)
Total deferred tax liabilities	(72,701		)	(76,413		)
Net deferred tax asset (liability)	$	550		$	(3,021	)

At December 31, 2016, due to IRC section 382 limitations, the Company estimates federal net operating loss carryforwards generated prior to November 2011 will be limited to approximately $4.8 million per year through 2034. These net operating losses may generally be carried forward 20 years. As a result, federal operating losses if unused will expire as follows:


•	$39.3 million in 2028;


•	$17.3 million in 2029; and


•	$31.2 million in years 2030 through 2034.

In addition, at December 31, 2016, the Company had $133.8 million of state net operating loss carryforwards that expire at various dates commencing in 2017 through 2032.

During the first quarter of 2016, the Company elected to early adopt ASU 2016-09 and has prospectively recognized tax benefits of $1.7 million during 2016 from stock-based compensation deductions into its income tax expense. Prior to the adoption of ASU 2016-09, deferred tax assets relating to tax benefits of stock-based compensation were reduced to reflect exercises or vesting. Some exercises or vesting resulted in tax deductions in excess of previously recorded deferred tax benefits based on the value at the time of grant ("windfalls"). Prior to the adoption of ASU 2016-09, the Company had excluded excess windfall tax benefits resulting from stock-based compensation vesting and exercises as components of the Company’s gross deferred tax assets, as Tax Attributes related to such windfall tax benefits were not recognized until they resulted in a reduction of taxes payable. The tax effected amount of unrealized net operating loss carryforwards resulting from stock-based compensation awards vested and/or exercised was $0, $0.4 million, and $0 at December 31, 2016, 2015, and 2014, respectively. When realized, these excess windfall tax benefits were credited to additional paid-in capital. Excess windfall tax benefits recognized as a component of shareholders' equity were $0.4 million, $0, and $1.0 million for December 31, 2016, 2015, and 2014, respectively. The Company had followed the "with-and-without" allocation approach to determine when such net operating loss carryforwards have been realized.

The Company recognized a current income tax receivable of $2.4 million and $11.4 million at December 31, 2016 and 2015, respectively. The Company paid federal and state income tax payments of $8.8 million and $4.6 million during 2016 and 2015, respectively. The Company received tax refunds of $0.6 million and $0.3 million in 2016 and 2015, respectively.

In accordance with ASC 740, the Company evaluates its deferred tax assets to determine if valuation allowances are required. In assessing the realizability of deferred tax assets, the Company considers both positive and negative evidence in determining whether it is more likely than not that some portion or all of the deferred tax assets will not be realized.

As of December 31, 2016 and December 31, 2015, the primary positive evidence considered to support the realization of the Company's deferred tax assets includes: (i) the cumulative pre-tax income over the last 36 months, (ii) the reversal of deferred tax liabilities related to depreciation and amortization that would occur within the same jurisdiction and during the carry forward period necessary to absorb the federal and state net operating losses and other deferred tax assets, (iii) current and prior year utilization of federal and state net operating losses, and (iv) no history of material expiring Tax Attributes. The primary negative evidence considered includes: (i) the Company's cumulative losses prior to 2013, (ii) unsettled circumstances associated with the general economy and housing market, as well as mortgage credit availability, and (iii) no federal and state net operating loss carryback opportunities. To the extent the Company generates future net operating losses, the Company may be required to increase the valuation allowance on its deferred tax assets and income tax benefit would be adversely affected.

Based upon the positive and negative evidence considered, the Company believes it is more likely than not that it will realize the benefit of the deferred tax assets, net of the existing state tax valuation allowances of $0.1 million and $0.1 million as of December 31, 2016 and December 31, 2015, respectively. To the extent the Company generates sufficient taxable income in the future to fully utilize the tax benefits of the net deferred tax assets on which a valuation allowance was recorded, the Company’s effective tax rate would be impacted as the valuation allowance is reversed. The Company continues to evaluate its deferred tax asset on a quarterly basis and notes that, if economic conditions were to change such that the Company earns less taxable income than the amounts required to fully utilize its deferred tax asset, a portion of the asset may expire unused.

As of June 30, 2014, the Company recognized no valuation allowance against the $76.1 million in total deferred tax assets compared to a valuation allowance of $75.2 million against total deferred tax assets as of December 31, 2013. The Company performed its quarterly assessment of all positive and negative evidence and determined that it was more likely than not that the deferred tax assets would be realizable. As of June 30, 2014, significant components of the deferred tax assets consisted of: (i) $30.5 million (or approximately $87.1 million of federal net operating loss carryforwards on a pre-tax effect basis) associated with federal net operating loss carryforwards; (ii) $24.8 million related to intangible assets reversing through 2020; (iii) $1.8 million in net operating losses from various states expiring between 2015 and 2031; and (iv) $19.0 million of deductible timing differences, primarily related to insurance reserves and other accruals.

The positive evidence supporting the reversal of the Company's deferred tax asset valuation allowance as of June 30, 2014 included: (i) cumulative pre-tax income for the three years ended June 30, 2014; (ii) cumulative pre-tax income in the five quarters ending June 30, 2014; (iii) increase in sales in most of Legacy BMHC's markets during 2013 and the six months ended June 30, 2014; (iv) projected future taxable income based on positive financial indicators compared to the prior year; and (v) no history of expiring tax attributes. Contributing to projected future taxable income were increases in sales and gross margin, as well as external factors, such as macroeconomic reports indicating falling unemployment, historically low interest rates and high housing affordability. The negative evidence evaluated included: (i) the Company's cumulative losses prior to 2013; (ii) unsettled circumstances associated with the general economy and housing market, as well as mortgage credit availability; (iii) Section 382 limitations related to federal net operating loss; and (iv) no taxable income in the carryback periods.

Taking all of the foregoing information into account, the Company's analysis showed that, even if U.S. housing permits and starts were to stop growing at the pace they grew in 2013, such that the Company was unable to achieve pre-tax income in excess of the $27.9 million it experienced during 2013, which the Company's projections for 2014 indicated would not be the case, then the Company would still be able to fully utilize its deferred tax asset allowed in 2014, with respect to which it reversed the valuation allowance. This fact, coupled with the other positive evidence described above, in the Company’s view significantly outweighed the available negative evidence and required the Company to conclude, in accordance with ASC 740, that it was more likely than not that the deferred tax assets at June 30, 2014 would be realized.

As of December 31, 2014, the Company evaluated the realizability of its deferred tax assets and concluded that a valuation allowance was not required at that date. Positive evidence supporting the conclusion as of December 31, 2014 included the following: (i) the Company continued to recognize a cumulative pretax income for the three years ended December 31, 2014; (ii) the Company recorded sales and pre-tax income of $1.3 billion and $28.5 million, respectively, for 2014, increases of 8.4% and 2.2%, respectively, from 2013; (iii) the Company utilized federal and state net operating losses and other allowed deferred tax assets in 2014 and recorded taxable income for the year 2014; and (iv) no history of expiring tax attributes.

The following table shows the changes in the amount of the Company’s valuation allowance:



(in thousands)	2016			2015		2014
Balance at January 1,	$	126		$	—	$	75,248
Additions charged to expense	—			—		—
Additions charged to Goodwill/Purchase Accounting	—			126		—
Deductions - other	(1		)	—		(75,248		)
Balance at December 31,	$	125		$	126	$	—

The Company has no material uncertain tax positions as of December 31, 2016. The Company has recorded a liability for uncertain tax positions of $3.0 million within income taxes receivable on the condensed consolidated balance sheets as of December 31, 2015 related to the Company’s tax accounting method to accelerate certain temporary tax deductions on its 2014 federal and state income tax returns. During the three months ended June 30, 2016, the Company filed applications to change its tax accounting method for certain temporary tax deductions with the Internal Revenue Service. From such filings, the Company believes these tax accounting methods are more likely than not to be recognized; therefore, the Company decreased its liability for uncertain tax positions by $3.0 million with a corresponding increase to its deferred income tax liability.

A reconciliation of the beginning and ending amount of gross unrecognized tax benefits (exclusive of the effect of interest and penalties) is as follows:



(in thousands)	2016			2015
Balance at January 1,	$	3,224		$	—
Tax positions taken in prior periods:
Gross increases	—			—
Gross decreases	(3,224		)	—
Tax positions taken in current period:
Gross increases	—			3,224
Settlements with taxing authorities	—			—
Lapse of applicable statute of limitations	—			—
Balance at December 31,	$	—		$	3,224

The Company‘s state tax returns are open to examination for an average of three years. However, certain jurisdictions remain open to examination longer than three years due to the existence of net operating losses. The Company’s federal returns are open to examination for three years; however, due to statutory waivers, SBS' tax years ended July 31, 2008 and May 5, 2009 remain open until January 31, 2018 with the federal tax authorities. SBS is currently under examination by the IRS for its tax years ended July 31, 2008 and May 5, 2009. At December 31, 2016 and 2015, the amount recognized related to expected tax, penalties and interest payments as a result of the IRS audits in income taxes receivable on the consolidated balance sheets was immaterial.

The Company’s policy is to recognize interest and penalties related to income tax liabilities and unrecognized tax benefits in income tax expense. During the years ended December 31, 2016, 2015 and 2014, penalties and interest related to income tax liabilities and uncertain tax benefits were not material.