Fortress Biotech, Inc. Annual report pursuant to Section 13 and 15(d)

Annual report pursuant to Section 13 and 15(d)

Income Taxes

Income Taxes

12 Months Ended

Dec. 31, 2018

17. Income Taxes

Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, and (b) operating losses and tax credit carryforwards.

The components of the income tax provision (benefit) are as follows:

	For the years ended December 31,
($ in thousands)	2018		2017

Current
Federal	$	–	$	1,074
State		–		439
Deferred
Federal		–		–
State		–		–
Total	$	–	$	1,513

The Company has incurred net operating losses since inception. The Company has not reflected any benefit of such net operating loss carryforwards (“NOL”) in the accompanying consolidated financial statements and has established a valuation allowance of $

130.1

million against its net deferred tax assets. Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, and (b) operating losses and tax credit carryforwards.

The significant components of the Company’s deferred taxes consist of the following:

	As of December 31,
($ in thousands)	2018			2017
Deferred tax assets:
Net operating loss carryforwards	$	93,823		$	71,616
Amortization of license fees		12,552			13,648
Amortization of in-process R&D		420			557
Stock compensation		10,404			10,682
Accruals and reserves		2,267			5,166
Tax credits		10,207			7,376
Startup costs		55			75
Unrealized gain/loss on investments		805			–
Startup costs		2,535			–
Total deferred tax assets		133,068			109,120
Less: valuation allowance		(132,114	)		(101,645	)
Net deferred tax assets	$	954		$	7,475

Deferred tax liabilities:
Unrealized gain/loss on investment	$	–		$	(685
Intangibles		–			(3,321	)
Basis in subsidiary		(954	)		(3,469	)
Total deferred tax assets, net	$	–		$	–

A reconciliation of the statutory tax rates and the effective tax rates is as follows:

	For the Year Ended December 31,
	2018			2017
Percentage of pre-tax income:
U.S. federal statutory income tax rate		21	%		35	%
State taxes, net of federal benefit		5	%		8	%
Credits		3	%		1	%
Non-deductible items		–	%		(2	)%
Provision to return		(1	)%		1	%
Stock based compensation shortfall		(1	)%		(1	)%
Change in federal rate		–	%		(43	)%
Change in state rate		(3	)%		2	%
Intercompany elimination adjustments		–	%		(3	)%
National Disposal		–	%		–	%
Change in fair value of warrants		–	%		3	%
Change in valuation allowance		(25	) %		(7	)%
Change in subsidiary basis		1	%		4	%
Other		–	%		–	%
Effective income tax rate		–	%		(2	)%

The Company files a consolidated income tax return with

subsidiaries

for which the Company has an 80% or greater ownership interest.

subsidiaries

for which the Company does not have an 80% or more ownership are not included in the Company’s consolidated income tax group and file their own separate income tax return. As a result, certain corporate entities included in these financial statements are not able to combine or offset their taxable income or losses with other entities' tax attributes.

On December 22, 2017, “H.R.1”, formerly known as the “Tax Cuts and Jobs Act”, was signed into law. Among other items, H.R.1 reduces the federal corporate tax rate to 21% from the existing maximum rate of 35%, effective January 1, 2018.

The Company performed an initial assessment and recorded a decrease to its deferred tax assets and valuation allowance of

$42.2

million, with a corresponding net adjustment to deferred income tax expense of zero for the year ended December 31, 2017 in accordance with SEC Staff Accounting Bulletin 118 (“SAB 118”). As required by SAB 118, the Company continued to reassess and refine the effects of the Tax Act on its deferred tax amounts during 2018 as new information concerning those deferred tax amounts that existed at December 31, 2017 becomes available to the Company. As of December 31, 2018, the Company has completed the accounting for the income tax effects of the Tax Act and recorded

zero

deferred income tax expense.

ASC 740 requires a valuation allowance to reduce the deferred tax assets reported if, based on the weight of all positive and negative evidence, it is more likely than not that some portion, or all, of the deferred tax assets will not be realized. Realization of the deferred tax assets is substantially dependent on the Company’s ability to generate sufficient taxable income within certain future periods. Management has considered the Company’s history of cumulative tax and book losses incurred since inception, and the other positive and negative evidence, and has concluded that it is more likely than not that the Company will not realize the benefits of the net deferred tax assets as of December 31, 2017 and 2018. Accordingly, a full valuation allowance has been established against the net deferred tax assets as of December 31, 2017 and 2018. The valuation allowance increased by a net $

30.5

million during the current year.

The Company has incurred net operating losses (“NOLs”) since inception. At December 31, 2018, the Company had federal NOLs of $

348.0

million, which will begin to expire in the year 2020, state NOLs of

$308.0

million, which will begin to expire in

2022

, and federal income tax credits of $

10.2

million, which will begin to expire in

2028

. The utilization of the Company’s NOLs and tax credit carryovers are subject to annual Internal Revenue Code Section 382 limitations (“382 Limitations”). Based on the analysis of the NOLs and tax credit carryovers subject to the 382 Limitations, the Company has concluded that the 382 Limitations would not prevent the Company from utilizing all of its NOLs and tax credit carryovers before expiration.

On November 14, 2018, the Company entered into a stock purchase agreement with B. Riley Financial, Inc. (“B. Riley”) to sell approximately 7.0 million shares of the common stock of National, representing approximately 56.1% of National’s outstanding common stock and the Company’s entire economic interest in National. The first closing occurred on November 14, 2018 in which the Company sold approximately 3.0 million of its shares in NHLD and received $9.8 million in proceeds. The second closing occurred on February 11, 2019 upon the receipt of FINRA approval of the sale in which the Company received $13.1 million in proceeds for the sale of its remaining 4.0 million shares of NHLD to NHC and two other minority holders and received. The Company has written off National’s deferred tax assets and the corresponding allowance as of December 31, 2018.

As of December 31, 2018, the Company had no unrecognized tax benefits and does not anticipate any significant change to the unrecognized tax benefit balance. The Company would classify interest and penalties related to uncertain tax positions as income tax expense, if applicable. There was no interest expense or penalties related to unrecognized tax benefits recorded through December 31, 2018. The NOLs from tax years 2006 through 2018 remain open to examination (and adjustment) by the Internal Revenue Service and state taxing authorities. In addition, federal tax years ending December 31, 2015, 2016,

and 2017 are open for assessment of federal taxes. The expiration of the statute of limitations related to the various state income and franchise tax returns varies by state.