Income Taxes

12 Months Ended

Dec. 31, 2011

Notes to Financial Statements

Note 17. Income Taxes

The Company files a consolidated U.S. Federal Income Tax return that includes all wholly-owned subsidiaries. State tax returns are filed on a consolidated or separate basis depending on applicable laws. The Company records adjustments related to prior years’ taxes during the period when they are identified, generally when the tax returns are filed. The effect of these adjustments on the current and prior periods (during which the differences originated) is evaluated based upon quantitative and qualitative factors and are considered in relation to the financial statements taken as a whole for the respective periods. The Company has evaluated this year’s amounts in relation to the current and prior reporting periods and determined that a restatement of those prior reporting periods is not appropriate.

The provision for income taxes from continuing operations is comprised of the following:

Years ended December 31,	2011			2010
Current Federal income tax expense	$	1,394,090		$	-
Current state income tax expense		19,529			42,640
Deferred Federal and State income tax expense		(325,106	)		724,794
Provision for income taxes	$	1,088,513		$	767,434

At December 31, 2011, the Company had the following net operating loss carryforwards for tax purposes:

Type of NOL	Amount		Expiration
State only, net of valuation allowance	$	2,322,744	December 31, 2026
Amount subject to Annual Limitation, Federal only (A)	$	110,000	December 31, 2019

(A) NOL is subject to Internal Revenue Code Section 382, which places a limitation on the utilization of the federal net operating loss to approximately $10,000 per year (“Annual Limitation”) as a result of a greater than 50% ownership change of the Company in 1999. The losses subject to the Annual Limitation will be available for future years, expiring through December 31, 2019.

A reconciliation of the federal statutory rate to our effective tax rate from continuing operations is as follows:

Years ended December 31,	2011					2010
Computed expected tax expense	$	1,221,156		34.00	%	$	628,789		34.00	%
State taxes, net of Federal benefit		1,270		-			25,785		1.39
Permanent differences
Dividends received deduction		(39,613	)	(1.10	)		(32,425	)	(1.75	)
Non-taxable investment income		(84,930	)	(2.36	)		(73,906	)	(4.00	)
Stock-based compensation expense		35,999		1.00			76,298		4.13
Interest expense - mandatorily redeemable preferred stock		-		-			25,400		1.37
Other permanent differences		(21,548	)	2.43			21,949		0.26
Prior year tax matters		(50,886	)	(1.42	)		46,080		2.49
Other		27,065		(2.24	)		49,464		3.61
Total tax	$	1,088,513		30.31	%	$	767,434		41.50	%

Deferred tax assets and liabilities are determined using the enacted tax rates applicable to the period the temporary differences are expected to be recovered. Accordingly, the current period income tax provision can be affected by the enactment of new tax rates. The net deferred income taxes on the balance sheet reflect temporary differences between the carrying amounts of the assets and liabilities for financial reporting purposes and income tax purposes, tax effected at a various rates depending on whether the temporary differences are subject to Federal taxes, State taxes, or both.

	December 31,			December 31,
	2011			2010
Deferred tax asset:
Net operating loss carryovers	$	276,312		$	253,564
Claims reserve discount		220,354			188,074
Unearned premium		647,596			551,966
Loss and loss adjustment expenses		-			39,100
Reinsurance recoverable		-			13,600
Deferred ceding commission revenue		1,354,016			1,094,634
Accrued expenses		-			56,800
Other		4,583			-
Total deferred tax assets		2,502,861			2,197,738
Deferred tax liability:
Investment in KICO		1,169,000			1,169,000
Deferred acquisition costs		1,542,163			1,230,460
Intangibles		1,244,628			1,406,371
Depreciation and amortization		133,411			204,287
Reinsurance recoverable		20,400			-
Net unrealized appreciation of securities - available for sale		172,155			109,497
Investment income		10,543			42,348
Other		-			34,332
Total deferred tax liabilities		4,292,300			4,196,295
Net deferred income tax liability	$	(1,789,439	)	$	(1,998,557	)

The table below reconciles the changes in net deferred income tax liability to the deferred income tax provision from continuing operations for the year ended December 31, 2011:

Change in net deferred income tax liabilities	$	(209,118	)
Deferred tax expense allocated to other comprehensive income		(115,988	)
Deferred income tax provision	$	(325,106	)

In assessing the valuation of deferred tax assets, the Company 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 those temporary differences become deductible. No valuation allowance against deferred tax assets has been established, except for NOL limitations, as the Company believes it is more likely than not the deferred tax assets will be realized based on the historical taxable income of KICO, or by offset to deferred tax liabilities.

Under GAAP guidance for the “Accounting for Uncertainty in Income Taxes”, the Company had no material unrecognized tax benefit and no adjustments to liabilities or operations were required. Additionally, Accounting for Uncertainty in Income Taxes, provides guidance on the recognition of interest and penalties related to income taxes. There were no interest or penalties related to income taxes that have been accrued or recognized as of and for years ended December 31, 2011 and 2010. If any had been recognized these would be reported in income tax expense.

IRS Tax Audit

In July 2011, the Company received a notice that its Federal income tax return for the year ended December 31, 2009 has been selected for examination by the Internal Revenue Service. The audit commenced in September 2011. The final results of this audit are unknown, although management is confident in the tax assertions made in the tax return.