Income Taxes

12 Months Ended

Dec. 31, 2021

Income Taxes

Income Taxes

12. Income Taxes

The Company provides for income taxes using an asset and liability approach, under which deferred income taxes are provided for based upon enacted tax laws and rates applicable to periods in which the taxes become payable.

For financial reporting purposes, income/ (loss) before income taxes includes the following components:

	Year Ended December 31,
	2021		2020		2019
United States	$	(135,299)	$	(158,186)	$	(511,165)
Foreign		4,565		(6,760)		9,691
	$	(130,734)	$	(164,946)	$	(501,474)

The provision for federal, state, and foreign income taxes consists of the following:

	Year Ended December 31,
	2021		2020		2019
Federal
Current	$	—	$	—	$	(1,308)
Deferred		5		480		(3,879)
State
Current		1,232		1,325		2,255
Deferred		351		1,542		(807)
Foreign
Current		3,775		4,318		5,770
Deferred		6,293		5,919		5,611
Income Tax Expense	$	11,656	$	13,584	$	7,642

The differences between income taxes expected by applying the U.S. federal statutory tax rate of 21% and the amount of income taxes provided for are as follows:

	Year Ended December 31,
	2021		2020		2019
Tax at statutory rate	$	(27,454)	$	(34,639)	$	(105,310)
Add (deduct)
State income taxes		(1,626)		(5,234)		(7,666)
Foreign income taxes		1,567		(516)		4,390
Nondeductible goodwill impairment		—		—		61,699
Cancellation of debt income		(6,429)		—		—
Permanent differences		359		218		1,275
Litigation settlement		2		71		3,310
Changes in valuation allowance		11,857		53,115		30,064
Unremitted earnings		1,072		(275)		1,604
GILTI Inclusion		—		(4,996)		3,772
Expiration and reduction of tax attributes		31,014		4,944		10,807
Other		1,294		896		3,697
Income Tax Expense	$	11,656	$	13,584	$	7,642

The Tax Cuts and Jobs Act (“TCJA”) was signed by the President of the United States and enacted into law on December 22, 2017. This overhaul of the U.S. tax law made a number of substantial changes, including the reduction of the corporate tax rate from 35% to 21%, establishing a dividends received deduction for dividends paid by foreign subsidiaries to the U.S., elimination or limitation of certain deductions (interest, domestic production activities and executive compensation), imposing a mandatory tax on previously unrepatriated earnings accumulated offshore since 1986 and establishing global minimum income tax and base erosion tax provisions related to offshore activities and affiliated party payments.

The TCJA subjects a U.S. shareholder to tax on Global Intangible Low-taxed Income (“GILTI”) earned by certain foreign subsidiaries. The FASB Staff Q&A, Topic 740, No. 5, Accounting for GILTI, states that an entity can make an accounting policy election to either recognize deferred taxes for temporary basis differences expected to reverse as GILTI in future years or provide for the tax expense related to GILTI in the year the tax is incurred as a period expense only. The Company has elected the accounting policy to recognize the tax expense related to GILTI in the year the tax is incurred as a period expense. At December 31, 2021, the Company has no GILTI inclusion related to current-year operations.

On July 20, 2020, the U.S. Treasury and the Internal Revenue Service issued Final Regulations which will allow an annual election to exclude from the U.S. tax return certain GILTI amounts when the taxes paid by a foreign affiliate exceed 18.9% (90% of U.S. statutory rate of 21%) of the GILTI amount for that foreign affiliate (the “high-tax exception”). These regulations are effective for the 2021 taxable year with an election to apply to any taxable year beginning after 2017. In many of the countries in which the Company operates there are differences between local tax rules used to determine the tax base and the U.S. tax principles used to determine GILTI. Therefore, while many of the countries have a statutory tax rate above the 18.9% threshold, separate affiliates may not meet the 18.9% threshold each year and, as such, may not qualify for this exclusion. The Company plans to make the high-tax exception election for the 2021 tax year resulting in no GILTI inclusion for the 2021 tax year. Additionally, the Company made the high-tax exception election for 2020 and 2019 on its 2020 and 2019 tax returns and plans to make the election for 2018 by filing an amended tax return. The 2018 return once amended is expected to result in an estimated income tax benefit of $5.0 million recorded in 2020.

Beginning in 2018, the TCJA also subjects a U.S. shareholder of a controlled foreign corporation to current tax on certain payments from corporations subject to U.S. tax to related foreign persons, also referred to as base erosion and anti-abuse tax (“BEAT”). The BEAT provisions in the Tax Reform Act eliminates the deduction of certain base-erosion payments made to related foreign corporations and impose a minimum tax if greater than regular tax. The Company has recorded no tax liability related to BEAT for the years ended December 31, 2021 and 2020.

On March 27, 2020, Congress enacted the Coronavirus Aid Relief and Economic Security Act (“CARES Act”), in response to the COVID-19 pandemic. The CARES Act contain numerous income tax provisions, including refundable payroll tax credits, 100% utilization of net operating loss (NOL) for taxable income in 2018, 2019 and 2020, 5 years NOL carryback from 2018, 2019 and 2020, interest limitation increase to 50% adjusted taxable income from 30% for tax years beginning January 1, 2019 and 2020, and immediate deduction on qualified improvement costs instead of depreciating them over 39 years. The Company has benefited from the increase of 50% adjusted taxable income limitation on net interest expense deduction, as well as the refundable payroll tax credit for the year ended December 31, 2020.

The components of deferred income tax liabilities and assets are as follows:

	Year Ended December 31,
	2021		2020
Deferred income tax liabilities:
Book over tax basis of intangible assets and fixed assets	$	(55,449)	$	(65,724)
Unremitted foreign earnings		(7,135)		(6,063)
Operating lease and finance lease right-of-use assets		(9,573)		(11,597)
Other, net	$	(1,584)	$	(2,604)
Total deferred income tax liabilities		(73,741)		(85,988)
Deferred income tax assets:
Allowance for doubtful accounts and receivable adjustments	$	1,816	$	1,704
Inventory		2,362		1,677
Accrued liabilities		12,606		15,345
Net operating loss and tax credit carryforwards		141,946		171,148
Tax deductible goodwill		4,424		6,171
Disallowed interest deduction		106,449		74,672
Operating lease and finance lease liabilities		10,211		13,004
Other, net		18,197		19,334
Total deferred income tax assets	$	298,011	$	303,055
Valuation allowance		(233,755)		(220,030)
Total net deferred income tax assets (liabilities)	$	(9,485)	$	(2,963)

Gross deferred tax assets are reduced by valuation allowances to the extent the Company determines it is not more-likely-than-not that the deferred tax assets are expected to be realized. At December 31, 2021, the Company recognized $233.8 million of valuation allowances against gross deferred tax assets primarily related to net operating loss and tax credit carryforwards. Of this amount, approximately $60.4 million and $4.7 million of the total valuation allowance relates to U.S. federal and state limitations, respectively, on the utilization of net operating loss carryforwards due to numerous changes in ownership. Approximately $89.0 million and $12.2 million of the total valuation allowance relates to U.S. federal disallowed interest deductions and state disallowed interest deductions, respectively, pursuant to the TCJA. The remaining $67.5 million of the valuation allowance relates to non-limited U.S. and non-U.S. net operating losses, capital losses, and tax credits that are not expected to be realizable.

The net change during the year in the total valuation allowance was an increase of $13.7 million primarily related to the increase of net regular deferred tax assets and increase of deferred tax assets related to disallowed interest deduction.

Section 382 of the Code, limits the amount of U.S. tax attributes (net operating losses and tax credit carryforwards) following a change in ownership. The Company has determined that for the purpose of these provisions an ownership change occurred under Section 382 on April 3, 2014 and October 31, 2014 for BancTec, Inc. and its subsidiaries and RC4Capital, LLC and its subsidiaries (collectively, the “Pangea Group”) and on October 31, 2014 for the historic SourceHOV group (the “2014 Reorganization”). The Section 382 limitations significantly limit the pre-acquisition Pangea Group net operating losses. Accordingly, upon the October 31, 2014 change in control, most of the

historic Pangea Group federal net operating losses were limited and a valuation allowance has been established against the related deferred tax assets. With regard to Pangea Group’s foreign subsidiaries, it was determined that most deferred tax assets are not likely to be realized and valuation allowances have been established. The Section 382 limit that applied to the historic SourceHOV group is greater than the net operating losses and tax credits generated in the predecessor periods. For the year ended December 31, 2021, the Company determined an ownership change occurred on March 15, 2021 and another successive ownership change occurred on December 8, 2021. The Company can increase its annual Section 382 limitation for the amount of recognized built-in gain (“RBIG”) pursuant to the application of Notice 2003-65. The Company determined the annual Section 382 limitation should enable the Company to utilize all its NOL and credit carryforwards, therefore, no additional valuation allowances were established relating to Section 382 limitations other than the pre-2014 Section 382 limitations that applied.

Under the debt buy-back program and debt exchange transaction a substantial amount of the Company’s debt was extinguished. Absent an exception, a debtor recognizes cancellation of debt income (“CODI”) upon discharge of its outstanding indebtedness for an amount of consideration that is less than the outstanding debt. The Internal Revenue Code of 1986, as amended, (the Code), provides that a debtor may exclude CODI from taxable income but must reduce certain of its tax attributes by the amount of CODI. For the year ended December 31, 2021, the Company excluded $147.1 million of CODI from taxable income and reduced the gross U.S. federal net operating loss by the corresponding amount.

Included in deferred tax assets are federal, foreign and state net operating loss carryforwards, federal capital loss carryforwards, federal general business credit carryforwards and state tax credit carryforwards due to expire beginning in 2022 through 2041. As of December 31, 2021, the Company has federal and state income tax net operating loss (NOL) carryforwards of $459.2 million and $377.2 million, respectively, which will expire at various dates from 2022 through 2041. Such NOL carryforwards expire as follows:

			State and Local
	Federal NOL		NOL
2022 – 2026	$	118,277	$	68,462
2027 – 2031		134,410		100,595
2032 – 2038		206,502		208,164
	$	459,189	$	377,221

As of December 31, 2021, the Company has foreign net operating loss carryforwards of $76.6 million, $0.6 million of which were generated by Exela’s Polish subsidiary, $0.7 million were generated in Hungary and Serbia, $2.3 million is generated in the Netherlands, $1.0 million is generated in Finland, and will expire in 2024, 2026, 2027 and 2031 respectively. The remainder of the foreign net operating losses will be carried forward indefinitely.

The Company adopted the provision of accounting for uncertainty in income taxes in ASC Topic 740. ASC 740 clarifies the accounting for uncertain tax positions in the Company’s financial statements and prescribes a recognition threshold and measurement attribute for financial statement disclosure of tax positions taken or expected to be taken on tax returns. The total amount of unrecognized tax benefits, exclusive of interest and penalties, is $2.1 million, $1.8 million and $4.3 million at December 31, 2021, 2020 and 2019, respectively. Included in the balance of unrecognized tax benefits as of December 31, 2021, 2020 and 2019 are $0.8 million, $0.7 million and $0.7 million, respectively, of tax benefits that, if recognized would benefit the effective tax rate. Total accrued interest and penalties recorded on the Consolidated Balance Sheet were $2.4 million, $2.1 million and $2.1 million at December 31, 2021, 2020 and 2019, respectively. The total amount of interest and penalties recognized in the consolidated statement of operations during the years ended December 31, 2021, 2020 and 2019 was $(0.3) million, $(0.0) million and $(0.2) million, respectively.

The following is a tabular reconciliation of the total amounts of unrecognized tax benefits:

	Year Ended December 31,
	2021		2020		2019
Unrecognized tax benefits—January 1	$	1,836	$	4,314	$	1,476
Gross increases—tax positions in prior period		—		(21)		1,378
Gross decreases—tax positions in prior period		(129)		(2,608)		(10)
Gross increases—tax positions in current period		460		151		1,470
Settlement		(90)		—		—
Unrecognized tax benefits—December 31	$	2,077	$	1,836	$	4,314

The Company files income tax returns in the U.S. and various state and foreign jurisdictions. The statute of limitations for U.S. purposes is open for tax years ending on or after December 31, 2016, However, NOLs generated in years prior to 2016 and utilized in future periods may be subject to examination by U.S. tax authorities. State jurisdictions that remain subject to examination are not considered significant. The Company has significant foreign operations in India and EMEA. The Company may be subject to examination by the India tax authorities for tax periods ending on or after March 31, 2014.

At December 31, 2021, the Company maintains its prior indefinite reinvestment assertion on undistributed earnings related to certain foreign subsidiaries. Accordingly, no deferred taxes have been provided for withholding taxes or other taxes that would result upon repatriation of approximately $132.9 million of undistributed earnings from these foreign subsidiaries as those earnings continue to be permanently reinvested. However, the Company does not indefinitely reinvest earnings in Canada, China, India, Mexico and Philippines. The Company recorded $7.1 million and $6.0 million of foreign withholding taxes on the undistributed earnings of these jurisdictions at December 31, 2021 and 2020, respectively. The Company recorded $1.1 million of deferred expense, $0.3 million of deferred benefit, and $1.6 million of deferred expense in the consolidated statement of operations during the years ended December 31, 2021, 2020 and 2019, respectively. The foreign withholding taxes deferred expense recorded in the current year is attributable to the current year undistributed earnings.