Income Taxes

Federal Income Tax Reform

On December 22, 2017, comprehensive changes in United States federal income taxes were enacted through legislation commonly known as the Tax Cuts and Jobs Act (the “Tax Act”). The Tax Act made many significant modifications to the tax laws, including reducing the federal corporate income tax rate from 35% to 21% effective January 1, 2018. The Tax Act also eliminated federal bonus depreciation for utilities, limited interest deductibility for non-utility businesses and limited the deductibility of certain officer compensation. During 2018, the IRS issued additional guidance related to certain officer compensation and proposed regulations on interest deductibility that provide a 10% “de minimis” exception that allows entities with predominantly regulated activities to fully deduct interest expenses. In addition, the IRS issued proposed regulations interpreting Tax Act amendments to depreciation provisions of the Internal Revenue Code that allow the Company to claim a bonus depreciation deduction on certain construction projects placed in service subsequent to the third quarter of 2017.

Although most of the provisions of the Tax Act were not effective until 2018, GAAP required that some effects be recognized in 2017. Under the asset and liability method of accounting for income taxes used by the Company, deferred tax assets and liabilities are recognized for the future tax consequences of temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. The deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years in which the temporary differences are expected to reverse. At the date of enactment of the Tax Act, the Company had net deferred tax liabilities for its regulated activities and net deferred tax assets for non-regulated activities. As a result of the change in the federal income tax rate, the Company re-measured and adjusted its deferred tax assets and liabilities as of December 31, 2017. The portion of that adjustment not related to PNM’s and TNMP’s regulated activities was recorded as a reduction in net deferred tax assets and an increase in income tax expense. The portion related to PNM’s and TNMP’s regulated activities was recorded as a reduction in net deferred tax liabilities and an increase in regulatory liabilities, based on the assumption that PNM and TNMP will be required to return the benefit to ratepayers over time. PNM’s NM 2016 Rate Case reflected that assumption by including an amortization of the estimated benefit of the reduction in existing deferred federal income taxes as a reduction to customer rates over approximately twenty-one years beginning in 2018. In addition, the approved settlement in the TNMP 2018 Rate Case reflects a similar amortization of excess deferred income taxes through reduced customer rates beginning in 2019. See additional discussion of PNM’s NM 2016 Rate Case and TNMP’s 2018 Rate Case in Note 17.

The adjustments to deferred income taxes recorded as increases in regulatory liabilities and income tax expense as a result of the enactment of the Tax Act at December 31, 2017 are presented below:



	PNM		TNMP		Corporate and Other			Consolidated
	(In thousands)
Net increase in regulatory liabilities	$	402,501	$	146,451	$	—		$	548,952
Net decrease in deferred income tax liabilities (deferred income tax assets)	372,895		138,586		(19,990		)	491,491
Net deferred income tax expense	$	29,606	$	7,865	$	19,990		$	57,461

GAAP requires that the impacts of adjusting existing deferred tax assets and liabilities for a change in an income tax rate be recognized in income tax expense during the period of enactment, including impacts that are reflected in AOCI. This resulted in the tax effects of items within AOCI not reflecting the appropriate tax rate and being stranded in AOCI. In February 2018, the FASB issued Accounting Standards Update 2018-02 - Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income to address this issue by allowing entities to reclassify the income tax effects of the Tax Act on items within AOCI to retained earnings. The Company records in AOCI, net of income taxes, unamortized gains and losses related to PNM’s defined benefit pension plans to the extent not attributed to regulated operations, unrealized gains on PNM’s available-for-sale securities, and unrealized gains and losses on cash flow hedges related to PNMR’s interest rate swaps. When amounts are reclassified from AOCI to the Consolidated Statement of Earnings, the Company recognizes the related income tax expense (benefit) at the tax rate in effect at that time. As permitted by ASU 2018-02, as of December 31, 2017, the Company reclassified the stranded federal income tax effects of the Tax Act on items recorded in AOCI, resulting in a net increase in retained earnings of $17.6 million. See Note 3.

In December 2017, the SEC issued Staff Accounting Bulletin No. 118 (“SAB 118”), which provided guidance to address the application of GAAP to reflect the Tax Act in circumstances where all information and analysis was not yet available or complete. This bulletin provided for up to a one-year period in which to complete the required analyses and accounting for the impacts of the Tax Act. In accordance with SAB 118, the Company completed its analysis of the impacts of the Tax Act in 2018. The adjustments to deferred income taxes resulting from completion of the Company’s analysis, which resulted primarily from differences between the estimated amounts recorded as of December 31, 2017 and the actual amounts reflected in the Company’s 2017 tax return filing, including adjustments resulting from additional guidance and interpretations to the Tax Act issued in 2018 related to bonus depreciation, certain incentive compensation, and other items are presented below:



	PNM			TNMP			Corporate and Other			Consolidated
	(In thousands)
Net increase (decrease) in regulatory liabilities	$	11,244		$	(4,069	)	$	—		$	7,175
Net decrease in deferred income tax liabilities (deferred income tax assets)	(2,175		)	(9,784		)	13,869			$	1,910
Net increase in affiliate receivables (affiliate payables)	12,300			4,042			(16,342		)	—
Net deferred income tax expense	$	1,119		$	1,673		$	2,473		$	5,265

PNMR

PNMR’s income taxes consist of the following components:



	Year Ended December 31,
	2018			2017			2016
	(In thousands)
Current federal income tax	$	—		$	—		$	—
Current state income tax	(244		)	(188		)	(527		)
Deferred federal income tax	7,716			119,182			60,892
Deferred state income tax	648			11,632			3,886
Amortization of accumulated investment tax credits	(345		)	(286		)	(973		)
Total income taxes	$	7,775		$	130,340		$	63,278

PNMR’s provision for income taxes differed from the federal income tax computed at the statutory rate for each of the years shown. The differences are attributable to the following factors:



	Year Ended December 31,
	2018			2017			2016
	(In thousands)
Federal income tax at statutory rates	$	22,902		$	79,016		$	68,311
Amortization of accumulated investment tax credits	(345		)	(286		)	(973		)
Amortization of excess deferred income tax	(19,779		)	—			—
Flow-through of depreciation items	712			1,147			1,227
Earnings attributable to non-controlling interest in Valencia	(3,173		)	(5,256		)	(5,082		)
State income tax, net of federal benefit	1,358			5,398			4,537
Impairment of state net operating loss carryforwards	—			819			(311		)
Allowance for equity funds used during construction	(2,185		)	(3,331		)	(1,732		)
Impairment of charitable contribution carryforward	—			909			—
Regulatory recovery of prior year impairments of state net operating loss carryforward, including amortization	1,367			(2,225		)	(1,877		)
Federal income tax rate change	2,914			57,461			—
Tax expense (benefit) related to stock compensation awards	4,647			(2,324		)	—
Other	(643		)	(988		)	(822		)
Total income taxes	$	7,775		$	130,340		$	63,278
Effective tax rate	7.13		%	57.73		%	32.42		%

The components of PNMR’s net accumulated deferred income tax liability were:



	December 31,
	2018			2017
	(In thousands)
Deferred tax assets:
Net operating loss	$	82,386		$	98,301
Regulatory liabilities related to income taxes	158,416			189,501
Federal tax credit carryforwards	76,481			71,849
Shutdown of SJGS Units 2 and 3	1,638			2,204
Other	97,515			45,656
Total deferred tax assets	416,436			407,511
Deferred tax liabilities:
Depreciation and plant related	(767,482		)	(690,909		)
Investment tax credit	(57,853		)	(55,731		)
Regulatory assets related to income taxes	(62,889		)	(61,956		)
CTC	(3,613		)	(5,670		)
Pension	(35,407		)	(56,070		)
Regulatory asset for shutdown of SJGS Units 2 and 3	(30,425		)	(31,887		)
Other	(59,486		)	(52,498		)
Total deferred tax liabilities	(1,017,155		)	(954,721		)
Net accumulated deferred income tax liabilities	$	(600,719	)	$	(547,210	)

The following table reconciles the change in PNMR’s net accumulated deferred income tax liability to the deferred income tax benefit included in the Consolidated Statement of Earnings:



	Year Ended
	December 31, 2018
	(In thousands)
Net change in deferred income tax liability per above table	$	53,509
Change in tax effects of income tax related regulatory assets and liabilities	(27,833		)
Amortization of excess deferred income tax	(19,779		)
Tax effect of mark-to-market adjustments	380
Tax effect of excess pension liability	308
Adjustment for uncertain income tax positions	765
Reclassification of unrecognized tax benefits	(765		)
Amortization of state net operating loss recovered in prior years	1,367
Federal income tax rate change, including impact on regulatory liabilities	2,330
Refundable alternative minimum tax credit carryforward reclassified to receivable	(1,585		)
Other	(678		)
Deferred income taxes	$	8,019

PNM

PNM’s income taxes (benefit) consist of the following components:



	Year Ended December 31,
	2018			2017			2016
	(In thousands)
Current federal income tax	$	(6,644	)	$	118		$	(10,290	)
Current state income tax	(2,661		)	(1,112		)	(1,907		)
Deferred federal income tax	5,661			73,308			49,123
Deferred state income tax	(2,080		)	9,527			4,969
Amortization of accumulated investment tax credits	(247		)	(286		)	(973		)
Total income taxes (benefit)	$	(5,971	)	$	81,555		$	40,922

PNM’s provision for income taxes (benefit) differed from the federal income tax computed at the statutory rate for each of the years shown. The differences are attributable to the following factors:



	Year Ended December 31,
	2018			2017			2016
	(In thousands)
Federal income tax at statutory rates	$	13,514		$	59,139		$	46,501
Amortization of accumulated investment tax credits	(247		)	(286		)	(973		)
Amortization of excess deferred income tax	(19,779		)	—			—
Flow-through of depreciation items	674			1,103			1,185
Earnings attributable to non-controlling interest in Valencia	(3,173		)	(5,256		)	(5,082		)
State income tax, net of federal benefit	1,323			4,926			3,921
Impairment of state net operating loss carryforwards	—			627			(213		)
Allowance for equity funds used during construction	(1,716		)	(3,032		)	(1,457		)
Regulatory recovery of prior year impairment of state net operating loss carryforward, net of amortization	1,367			(2,225		)	(1,877		)
Federal income tax rate change	(683		)	29,606			—
Allocation of tax expense (benefit) related to stock compensation awards	3,967			(1,708		)	—
Other	(1,218		)	(1,339		)	(1,083		)
Total income taxes (benefit)	$	(5,971	)	$	81,555		$	40,922
Effective tax rate	(9.28		)%	48.27		%	30.80		%

The components of PNM’s net accumulated deferred income tax liability were:



	December 31,
	2018			2017
	(In thousands)
Deferred tax assets:
Net operating loss	$	50,762		$	67,719
Regulatory liabilities related to income taxes	125,395			152,059
Federal tax credit carryforwards	62,230			60,085
Shutdown of SJGS Units 2 and 3	1,638			2,204
Other	36,916			23,801
Total deferred tax assets	276,941			305,868
Deferred tax liabilities:
Depreciation and plant related	(606,673		)	(544,270		)
Investment tax credit	(55,484		)	(55,731		)
Regulatory assets related to income taxes	(53,561		)	(52,392		)
Pension	(31,046		)	(51,774		)
Regulatory asset for shutdown of SJGS Units 2 and 3	(30,425		)	(31,887		)
Other	(2,519		)	(18,826		)
Total deferred tax liabilities	(779,708		)	(754,880		)
Net accumulated deferred income tax liabilities	$	(502,767	)	$	(449,012	)

The following table reconciles the change in PNM’s net accumulated deferred income tax liability to the deferred income tax benefit included in the Consolidated Statement of Earnings:



	Year Ended
	December 31, 2018
	(In thousands)
Net change in deferred income tax liability per above table	$	53,755
Change in tax effects of income tax related regulatory assets and liabilities	(27,833		)
Amortization of excess deferred income tax	(19,779		)
Tax effect of mark-to-market adjustments	579
Tax effect of excess pension liability	308
Adjustment for uncertain income tax positions	725
Reclassification of unrecognized tax benefits	(725		)
Amortization of state net operating loss recovered in prior years	1,367
Federal income tax rate change, including impact on regulatory liabilities	(6,250		)
Other	1,187
Deferred income taxes	$	3,334

TNMP

TNMP’s income taxes consist of the following components:



	Year Ended December 31,
	2018			2017			2016
	(In thousands)
Current federal income tax	$	13,347		$	2,472		$	9,445
Current state income tax	1,753			1,765			1,729
Deferred federal income tax	(540		)	27,304			12,690
Deferred state income tax	2,320			(29		)	(28		)
Total income taxes	$	16,880		$	31,512		$	23,836

TNMP’s provision for income taxes differed from the federal income tax computed at the statutory rate for each of the periods shown. The differences are attributable to the following factors:



	Year Ended December 31,
	2018			2017			2016
	(In thousands)
Federal income tax at statutory rates	$	14,379		$	23,475		$	22,928
State income tax, net of federal benefit	1,454			1,198			1,132
Federal income tax rate change	—			7,865			—
Allocation of tax expense (benefit) related to stock compensation awards	735			(616		)	—
Other	312			(410		)	(224		)
Total income taxes	$	16,880		$	31,512		$	23,836
Effective tax rate	24.65		%	46.98		%	36.39		%

The components of TNMP’s net accumulated deferred income tax liability at December 31, were:



	December 31,
	2018			2017
	(In thousands)
Deferred tax assets:
Regulatory liabilities related to income taxes	$	33,021		$	43,103
Other	4,517			3,762
Total deferred tax assets	37,538			46,865
Deferred tax liabilities:
Depreciation and plant related	(136,117		)	(135,647		)
CTC	(3,613		)	(5,670		)
Regulatory assets related to income taxes	(9,328		)	(9,564		)
Loss on reacquired debt	(6,617		)	(6,890		)
Pension	(4,361		)	(4,296		)
AMS	(10,030		)	(7,707		)
Other	(3,710		)	(3,506		)
Total deferred tax liabilities	(173,776		)	(173,280		)
Net accumulated deferred income tax liabilities	$	(136,238	)	$	(126,415	)

The following table reconciles the change in TNMP’s net accumulated deferred income tax liability to the deferred income tax benefit included in the Consolidated Statement of Earnings:



	Year Ended
	December 31, 2018
	(In thousands)
Net change in deferred income tax liability per above table	$	9,823
Change in tax effects of income tax related regulatory assets and liabilities	(350		)
Federal income tax rate change, including impact on regulatory liabilities	(7,761		)
Other	68
Deferred income taxes	$	1,780

Other Disclosures

GAAP requires that the Company recognize only the impact of tax positions that, based on their technical merits, are more likely than not to be sustained upon an audit by the taxing authority. A reconciliation of unrecognized tax benefits is as follows:



	PNMR		PNM		TNMP
	(In thousands)
Balance at December 31, 2015	$	6,455	$	3,652
Additions based on tax positions related to 2016	242		242		—
Additions (reductions) for tax positions of prior years	55		55		—
Settlement payments	—		—		—
Balance at December 31, 2016	6,752		3,949		—
Additions based on tax positions related to 2017	262		262		—
Additions (reductions) for tax positions of prior years	2,415		2,352		63
Settlement payments	—		—		—
Balance at December 31, 2017	9,429		6,563		63
Additions based on tax positions related to 2018	543		543		—
Additions (reductions) for tax positions of prior years	222		182		40
Settlement payments	—		—		—
Balance at December 31, 2018	$	10,194	$	7,288	$	103

Included in the balance of unrecognized tax benefits at December 31, 2018 are $9.6 million, $6.7 million, and $0.1 million that, if recognized, would affect the effective tax rate for PNMR, PNM, and TNMP. The Company does not anticipate that any unrecognized tax expenses or unrecognized tax benefits will be reduced or settled in 2019.

In 2016, the Company undertook an analysis of interest income and interest expense applicable to federal income tax matters. The analysis encompassed the impacts of IRS examinations, amended income tax returns, and filings for carrybacks of tax matters to previous taxable years applicable to all years not closed under the IRS rules. As a result of this effort, PNMR received net refunds from the IRS of $6.5 million. Of the refunds, $2.1 million was recorded as a reduction of the net interest receivable and $5.1 million was recorded as interest income, which was partially offset by $0.7 million of interest expense. In addition, PNMR incurred $0.9 million in professional fees related to the analysis. Of the net pre-tax impacts aggregating $3.5 million, $2.6 million is reflected in the PNM segment, $0.3 million in the TNMP segment, and $0.6 million in the Corporate and Other segment.

Estimated interest income related to refunds the Company expects to receive is included in Other income and estimated interest expense and penalties related to potential cash settlements are included in Interest Charges in the Consolidated Statements of Earnings. Interest income (expense) related to income taxes was as follows:



	PNMR		PNM		TNMP
	(In thousands)
2018	$	—	$	—	$	—
2017	$	—	$	—	$	—
2016	$	4,398	$	3,625	$	345

There was no accumulated accrued interest receivable or payable related to income taxes as of December 31, 2018 and 2017.

The Company files a federal consolidated and several consolidated and separate state income tax returns. The tax years prior to 2015 are closed to examination by either federal or state taxing authorities other than Arizona. The tax years prior to 2012 are closed to examination by Arizona taxing authorities. Other tax years are open to examination by federal and state taxing authorities. At December 31, 2018, the Company has $474.6 million of federal net operating loss carryforwards that expire beginning in 2030 and $76.5 million of federal tax credit carryforwards that expire beginning in 2023. State net operating losses expire beginning in 2017 and vary from federal due to differences between state and federal tax law.

In 2013, New Mexico House Bill 641 reduced the New Mexico corporate income tax rate from 7.6% to 5.9%. The rate reduction was being phased-in from 2014 to 2018. In accordance with GAAP, PNMR and PNM adjusted accumulated deferred income taxes to reflect the tax rate at which the balances are expected to reverse during the period that includes the date of enactment, which was in the year ended December 31, 2013. At that time, the portion of the adjustment related to PNM’s regulated activities was recorded as a reduction in deferred tax liabilities and an increase in a regulatory liability, based on the assumption that PNM would be required to return the benefit to customers over time. PNM’s NM 2016 Rate Case (Note 17) reflects the benefit of the lower New Mexico corporate income tax rate being returned to customers over a three-year period beginning February 1, 2018. In addition, the portion of the adjustment that was not related to PNM’s regulated activities was recorded as a reduction in deferred tax assets and an increase in income tax expense. Changes in the estimated timing of reversals of deferred tax assets and liabilities resulted in refinements of the impacts of this change in tax rates being recorded through December 31, 2017, at which time the impacts of the rate reduction were fully phased-in. Adjustments to deferred income taxes recorded as increases (decreases) in the regulatory liability and income tax expense are as follows:



	PNMR			PNM			TNMP
	(In thousands)
December 31, 2017:
Regulatory liability	$	(10,109	)	$	(10,109	)	$	—
Income tax expense	$	(1,259	)	$	(1,179	)	$	—
December 31, 2016:
Regulatory liability	$	(7,132	)	$	(7,132	)	$	—
Income tax expense	$	712		$	804		$	—

In 2008, fifty percent bonus tax depreciation was enacted as a temporary two-year stimulus measure as part of the Economic Stimulus Act of 2008. Bonus tax depreciation in various forms was continuously extended since that time, including by the Protecting Americans from Tax Hikes Act of 2015. The 2015 act extended and phased-out bonus tax depreciation through 2019. As discussed above the Tax Act eliminated bonus depreciation for utilities effective September 28, 2017. However, in 2018 the IRS issued proposed regulations interpreting Tax Act amendments to depreciation provisions of the Internal Revenue Code which allowed the Company to claim a bonus depreciation deduction on certain construction projects placed in service after the third quarter of 2017. As a result of the net operating loss carryforwards for income tax purposes created by bonus depreciation, certain tax carryforwards were not expected to be utilized before their expiration. In addition, as a result of Tax Act changes to the deductibility of officer compensation, certain deferred tax benefits related to compensation are not expected to be realized. In accordance with GAAP, the Company has impaired the deferred tax assets for tax carryforwards which are not expected to be utilized and for compensation that is not expected to be deductible. The impairments after reflecting the expiration of carryforwards under applicable tax laws, net of federal tax benefit, for 2016 through 2018 are as follows:



	PNMR			PNM			TNMP
	(In thousands)
December 31, 2018:
State tax credit carryforwards	$	—		$	—		$	—
State net operating loss carryforwards	$	—		$	—		$	—
Charitable contribution carryforwards	$	—		$	—		$	—
Compensation expense	$	410		$	298		$	111
December 31, 2017:
State tax credit carryforwards	$	—		$	—		$	—
State net operating loss carryforwards	$	819		$	627		$	—
Charitable contribution carryforwards	$	909		$	—		$	—
December 31, 2016:
State tax credit carryforwards	$	—		$	—		$	—
State net operating loss carryforwards	$	(311	)	$	(213	)	$	—
Charitable contribution carryforwards	$	—		$	—		$	—

The impairments of unexpired state tax credits, state net operating loss, and charitable contribution carryforwards are reflected as a valuation allowance against deferred tax assets. The reserve balances, after reflecting expiration of carryforwards under applicable tax laws, at December 31, 2018 and 2017 are as follows:



	PNMR		PNM		TNMP
	(In thousands)
December 31, 2018:
State tax credit carryforwards	$	—	$	—	$	—
State net operating loss carryforwards	$	—	$	—	$	—
Charitable contribution carryforwards	$	—	$	—	$	—
Compensation expense	$	410	$	298	$	111
December 31, 2017:
State tax credit carryforwards	$	2,487	$	—	$	—
State net operating loss carryforwards	$	1,131	$	839	$	—
Charitable contribution carryforwards	$	952	$	—	$	—

As a result of carryforward expirations, there were no remaining impairments of state tax credits, state NOL, and charitable contribution carryforwards at December 31, 2018.

The NMPRC’s order in the NM 2015 Rate Case (Note 17) approved PNM’s request to record a regulatory asset, which net of federal income taxes, amounted to $2.1 million, to recover a 2014 impairment of PNM’s New Mexico net operating loss carryforward resulting from an extension of the income tax provision for fifty percent bonus depreciation. The regulatory asset was being recovered through rates over two years. The settlement of the NM 2016 Rate Case (Note 17) included $3.3 million, net of federal tax, resulting from impairment of a 2015 New Mexico net operating loss as an addition to the remaining unamortized balance of the regulatory asset from the NM 2015 Rate Case. The total balance is being recovered over three years beginning in 2018. These impacts, including amortization, are reflected in income tax expense on the Consolidated Statement of Earnings.