Note 8. Income Taxes

The RMA was included in the Tax Relief Extension Act of 1999, which was enacted into law on December 17, 1999. The RMA includes numerous amendments to the provisions governing the qualification and taxation of REITs, and these amendments were effective January 1, 2001. One of the principal provisions included in the Act provides for the creation of TRS. TRS’s are corporations that are permitted to engage in nonqualifying REIT activities. A REIT is permitted to own up to 100% of the voting stock in a TRS. Previously, a REIT could not own more than 10% of the voting stock of a corporation conducting nonqualifying activities. Relying on this legislation, in November 2001, the Company formed the TRS Lessee.

As a REIT, the Company generally will not be subject to corporate level federal income tax on taxable income it distributes currently to 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, it 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 of a TRS is subject to federal, state and local income taxes.

In connection with the Company’s election to be taxed as a REIT, it has also elected to be subject to the "built-in gain" rules on the assets formerly held by the old Supertel. Under these rules, taxes will be payable at the time and to the extent that the net unrealized gains on assets at the date of conversion to REIT status are recognized in taxable dispositions of such assets in the ten-year period following conversion. The ten-year period ended November 1, 2011.

At December 31, 2013, the income tax bases of the Company’s assets and liabilities excluding those of TRS were approximately $169,602 and $79,308, respectively; at December 31, 2012, they were approximately $213,219 and $116,225, respectively.

We have provided a valuation allowance against our deferred tax assets at December 31, 2012 and 2013 that results in no net deferred tax asset at December 31, 2012 and 2013 due to the uncertainty of realization (because of historical operating losses). The TRS net operating loss carryforward from December 31, 2013 as determined for federal income tax purposes was approximately $20.0 million. The availability of such loss carryforward will begin to expire in 2022.

Income tax expense (benefit) from continuing operations for the years ended December 31, 2013, 2012 and 2011 consists of the following:



	2013							2012					2011
	Federal		State		Total		Federal		State		Total		Federal		State		Total

Current	$	0	$	0	$	0	$	0	$	0	$	0	$	0	$	0	$	0
Deferred		0		0		0		5,763		674		6,437		(135)		(25)		(160)

Total income tax benefit	$	0	$	0	$	0	$	5,763	$	674	$	6,437	$	(135)	$	(25)	$	(160)

The actual income tax expense (benefit) from continuing operations of the TRS for the years ended December 31, 2013, 2012 and 2011 differs from the “expected” income tax expense (benefit) (computed by applying the appropriate U.S. federal income tax rate of 34% to earnings before income taxes) as a result of the following:



	2013		2012		2011

Computed "expected" income tax (benefit) expense	$	(761)	$	110	$	(144)
State income taxes, net Federal income tax (benefit) expense		(89)		14		(16)
Increase in valuation allowance		850		6,337		0
Other		0		(24)		0
Total income tax expense (benefit)	$	0	$	6,437	$	(160)

The continuing and discontinued combined tax effects of temporary differences that give rise to significant portions of the deferred tax assets and the deferred tax liability at December 31, 2013, 2012 and 2011 are as follows:



	2013		2012		2011
Deferred Tax Assets:
Expenses accrued for consolidated financial statement
purposes, nondeductible for tax return purposes	$	171	$	234	$	326

Net operating losses carried forward for federal
income tax purposes		7,599		6,289		5,524

Subtotal deferred tax assets		7,770		6,523		5,850
Valuation Allowance		(7,619)		(6,337)		0
Total deferred tax assets		151		186		5,850

Deferred Liabilities:
Tax depreciation in excess of book depreciation		151		186		240

Total deferred tax liabilities		151		186		240

Net deferred tax assets	$	0	$	0	$	5,610

The TRS has estimated its income tax benefit using a combined federal and state rate of approximately 38%. The TRS, before the valuation allowance provided at year end 2013 and 2012, had net deferred tax assets of $7.8 million, $6.5 million and $5.9 million, as of the year ended 2013, 2012 and 2011, respectively, primarily due to current and past years’ tax net operating losses. These loss carryforwards will begin to expire in 2022 through 2033. In assessing the realizability 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. Because of the uncertainty surrounding our ability to realize the future benefit of these assets, we have provided a 100% valuation allowance as of December 31, 2013 and 2012. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income. The Company considers projected scheduled reversal of deferred income tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. These estimates of future taxable income inherently require significant judgment. Management uses historical experience and short and long-range business forecasts to develop such estimates. Further, we employ various prudent and feasible tax planning strategies to facilitate the recoverability of future deductions. A cumulative loss in recent years is a significant piece of evidence with respect to realizability that outweighs the other evidence. A cumulative loss for recent years exists because of the company’s net operating losses in both the current year and prior two years. The company understands that as the loss years continue, the realizability of deferred taxes is impacted. As a result of this analysis the company believes that a valuation allowance is necessary for the deferred tax asset as of December 31, 2013 and 2012. The valuation of deferred tax assets requires judgment in assessing the likely future tax consequences of events that have been recognized in our financial statements or tax returns and future profitability. Our accounting for deferred tax consequences represents our best estimate of those future events. Changes in our current estimates, due to unanticipated events or otherwise, could have a material impact on our financial condition and results of operations.

There was no valuation allowance at December 31, 2011. An allowance of $7.6 million and $6.3 million was provided at December 31, 2013 and 2012, respectively. As of December 31, 2012, the tax years that remain subject to examination by major tax jurisdictions generally include 2010 through 2012.