Income Taxes

The Company elected to be taxed as a REIT under the Internal Revenue Code, commencing with its taxable year ended December 31, 1997. To qualify as a REIT, the Company must meet a number of organizational and operational requirements, including a requirement that it currently distribute at least 90% of its adjusted taxable income to its stockholders. It is management's current intention to adhere to these requirements and maintain the Company's REIT status, and the Company was in compliance with all REIT requirements at December 31, 2013. As a REIT, the Company generally will not be subject to corporate level federal income tax on taxable income it distributes currently to its stockholders. If the Company fails to qualify as a REIT in any taxable year, it will be subject to federal income taxes at regular corporate rates (including any applicable alternative minimum tax) and may not be able to qualify as a REIT for four subsequent taxable years. Even if the Company qualifies for taxation as a REIT, the Company may be subject to certain state and local taxes on its income and property, and to federal income and excise taxes on its undistributed taxable income. In addition, taxable income from non-REIT activities managed through TRSs is subject to federal, state and local income taxes.

In January 1998, the Company completed its reorganization into an UPREIT structure under which substantially all of the Company's real estate assets are owned by an operating partnership, Parkway Properties LP. Presently, substantially all interests in the Operating Partnership are owned by the Company and a wholly owned subsidiary. At December 31, 2013, the Company had estimated net operating loss ("NOL") carry-forwards for federal income tax purposes of $166.4 million which expire at various dates beginning in 2018 through 2032, which does not include the impact of the TPGI merger. The utilization of these NOLs can cause the Company to incur a small alternative minimum tax liability.

The Company's income differs for income tax and financial reporting purposes principally because real estate owned has a different basis for tax and financial reporting purposes, producing different gains upon disposition and different amounts of annual depreciation.

The following reconciles GAAP net loss to taxable income (loss) for the years ending December 31, 2013, 2012 and 2011 (in thousands):



	2013			2012			2011
	Estimate			Actual			Actual
GAAP net loss	$	(19,650	)	$	(39,395	)	$	(126,903	)
Less: Taxable REIT subsidiary GAAP net income (loss)	6,796			46,896			(9,248		)
GAAP net income (loss) from REIT operations (1)	(12,854		)	7,501			(136,151		)
GAAP to tax adjustments:
Depreciation and amortization	38,961			10,619			13,969
Gains and losses from capital transactions	(6,731		)	(115,065		)	53,699
Share-based compensation expense	5,699			431			1,341
Deferred compensation distributions	—			(226		)	(1,902		)
Amortization of mortgage loan discount	—			32			(335		)
Allowance for doubtful accounts	858			(480		)	(761		)
Vesting of restricted shares and dividends	(170		)	(674		)	(1,175		)
Deferred revenue	481			(329		)	(2,525		)
Capitalizable acquisition costs	12,985			2,119			11,213
Straight line rent	(1,702		)	(2,883		)	(2,169		)
Interest expense	—			(214		)	2,338
Nontaxable dividend income	(1,360		)	(3,707		)	(1,986		)
Other differences	(104		)	829			192
Taxable income (loss) before adjustments	36,063			(102,047		)	(64,252		)
Less: NOL carry forward	—			—			—
Adjusted taxable income subject to 90% dividend requirement	$	36,063		$	—		$	—


(1)	GAAP net income (loss) from REIT operations is net of amounts attributable to noncontrolling interests.

The Company has elected to treat certain consolidated subsidiaries as taxable REIT subsidiaries, which are tax paying entities for income tax purposes and are taxed separately from the Company. Taxable REIT subsidiaries may participate in non-real estate related activities and/or perform non-customary services for customers and are subject to federal and state income tax at regular corporate tax rates. On May 18, 2011, in connection with the combination of the Eola management company, the Company contributed the management company to a TRS wholly owned by the operating partnership.

In connection with the purchase accounting for the management company, in 2011, the Company recorded an initial deferred tax liability of $14.8 million representing differences between the tax basis and GAAP basis of the acquired assets and liabilities (primarily related to the management company contracts) multiplied by the effective tax rate. The Company was required to record these deferred tax liabilities as a result of the Management Company becoming a C corporation at the time it was acquired. At December 31, 2012, the Company carried a deferred tax liability of $2.0 million. The initial balance of $14.8 million was reduced during 2012 as a result of the valuation of the Company's management contracts being reduced to $19.0 million, which is being amortized over their remaining useful life of 2.7 years. Due to these adjustments, at December 31, 2013, the Company recorded a deferred tax asset of $500,000. Additionally, the Company recorded an initial deferred tax asset of $1.6 million representing differences between the tax basis and the GAAP basis of the acquired Murano asset in the TPGI merger multiplied by the effective tax rate.

FASB ASC 740-10-30-17 "Accounting for Income Taxes," requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some or all of the deferred tax asset will not be realized. Future realization of the deferred tax asset is dependent on the reversal of existing taxable temporary differences, carryback potential, tax-planning strategies and on us generating sufficient taxable income in future years. As of December 31, 2013, a valuation allowance of $500,000 has been established on the net deferred tax asset for the Management Company and a valuation allowance of $1.6 million has been established against the net deferred income tax asset for Murano.

The components of income tax benefit (expense) for the years ended December 31, 2013, 2012, and 2011 are as follows (in thousands):



	Year Ended
	December 31,
	2013			2012			2011
Current:	Estimate			Actual			Actual
Federal	$	(488	)	$	(914	)	$	(420	)
State	(67		)	(202		)	(66		)
Total Current	(555		)	(1,116		)	(486		)
Deferred:
Federal	1,582			722			363
State	378			133			67
Total Deferred	1,960			855			430
Total income tax benefit (expense)	$	1,405		$	(261	)	$	(56	)

In addition to the tax benefit (expense) represented above, the Company incurred an additional tax benefit of $11.4 million associated with the non-cash impairment loss on management contracts and goodwill for the year ended December 31, 2012. This additional tax benefit is classified as part of the impairment loss on management contracts and goodwill on the Company's Consolidated Statements of Operations and Comprehensive Loss. The income tax benefit (expense) for the years ended December 31, 2013, 2012, and 2011 is all from continuing operations.

Consolidated income (loss) subject to tax consists of pretax income or loss of taxable REIT subsidiaries. For the year ended December 31, 2013, the Company had consolidated losses subject to tax of $5.8 million and during the year ended December 31, 2012, the Company had consolidated losses subject to tax of $41.5 million. The reconciliation of income tax attributable to continuing operations computed at the U.S. statutory rate to income tax benefit is shown below (in thousands):



	2013					2012
	Amount			Percentage		Amount			Percentage
Tax at U.S. statutory rates on consolidated income (loss) subject to tax	$	1,990		34.0	%	$	(150	)	34.0	%
State income tax, net of federal tax benefit	185			3.2	%	(40		)	9.0	%
Effect of permanent differences	(291		)	(5.0	)%	(37		)	8.5	%
Valuation Allowance	(479		)	(8.2	)%	—			—	%
Other	—			—	%	(34		)	7.4	%
Total income tax benefit (expense)	$	1,405		24.0	%	$	(261	)	58.9	%

On December 19, 2013, the Company completed the Mergers. The Company assumed TPGI’s ownership interest in two wholly owned office properties in Houston, Texas and five office properties in Austin, Texas in the PKY/CalSTRS Austin, LLC discussed in "Note 4 - Investments in Unconsolidated Joint Ventures", and mortgage notes payable discussed in "Note 8 - Capital and Financing Transactions". As set forth in the Merger Agreement, the parties to the Parent Merger intended that the Parent Merger be treated as a reorganization within the meaning of Section 368(a) of the Internal Revenue Code. Assuming that, as intended, the Parent Merger qualified as a reorganization, because TPGI was a C corporation, the Company is subject to the rules applicable to REITs acquiring assets with "built-in gain" from C corporations in reorganizations. Pursuant to these rules, the Company is subject to corporate income tax to the extent that unrealized gain on historic TPGI assets (determined at the time of the Parent Merger) is recognized in taxable dispositions of such assets in the ten-year period following the Parent Merger. In addition, in connection with the Parent Merger, the Company succeeded to $79.3 million of historic TPGI net operating loss carryovers (determined for U.S. federal income tax purposes), the utilization of which is subject to limitations under Internal Revenue Code Section 382. In addition, the Company has net operating losses of $16.2 million for the State of California, and $30.9 million for the State of Pennsylvania. FASB ASC 740-10-30-17 "Accounting for Income Taxes," requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some or all of the deferred tax asset will not be realized. Future realization of the deferred tax asset is dependent on the reversal of existing taxable temporary differences, carryback potential, tax-planning strategies and on us generating sufficient taxable income in future years. As of December 31, 2013, a federal income tax valuation allowance of approximately $71.3 million has been established against the net deferred income tax assets for an amount that will more likely than not be realized. In addition, a full valuation allowance has been established against the net operating losses generated in California and Pennsylvania. At December 31, 2013, a deferred tax liability of approximately $11,000 has been recorded to reflect Texas Margin Tax for the sale of Four Points.

FASB ASC 740-10-25 clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements. The interpretation prescribes a recognition threshold and measurement attribute criteria for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.

At December 31, 2013, the Company has recorded unrecognized tax benefits of approximately $8.0 million, acquired as part of the TPGI merger and if recognized, would not affect our effective tax rate. The Company’s policy is to recognize interest and penalties related to unrecognized tax benefits as a component of income tax expense. The Company has sufficient NOLs to utilize for current or future tax liabilities.

A reconciliation of the Company’s unrecognized tax benefits as of December 31, 2013 and 2012 (in thousands):



	December 31,
	2013		2012
	(In thousands)
Unrecognized Tax Benefits - Opening Balance	$	—	$	—
Gross increases - current period tax positions	7,999		—
Unrecognized Tax Benefits - Ending Balance	$	7,999	$	—

The following reconciles cash dividends paid with the dividends paid deduction for the years ended December 31, 2013, 2012 and 2011 (in thousands):



	2013			2012			2011
	Estimated			Actual			Actual
Cash dividends paid	$	45,189		$	26,306		$	16,472
Less: Dividends on deferred compensation plan shares	—			(3		)	(3		)
Less: Dividends absorbed by current earnings and profits	(36,291		)	—			—
Less: Return of capital	(8,898		)	(26,303		)	(16,469		)
Dividends paid deduction	$	—		$	—		$	—

The following characterizes distributions paid per common share for the years ended December 31, 2013, 2012 and 2011:



	2013				2012				2011
	Amount		Percentage		Amount		Percentage		Amount		Percentage
Ordinary income	$	0.4425	69.0	%	$	0.0000	0.0	%	$	0.00	0.0	%
Unrecaptured Section 1250 gain	0.0831		13.0	%	0.0000		0.0	%	0.00		0.0	%
Return of capital	0.1119		18.0	%	0.3750		100.0	%	0.30		100.0	%
	$	0.6375	100.0	%	$	0.3750	100.0	%	$	0.30	100.0	%