Federal Income Taxes

12 Months Ended

Dec. 31, 2019

(a) On December 22, 2017, Tax Reform was signed into law, which among other implications, reduced our statutory corporate tax rate from 35% to 21% beginning with our 2018 tax year. We revalued our deferred tax inventory at December 31, 2017 to reflect this reduction, which resulted in a $20.2 million charge to income as illustrated in the rate table below.

As of December 31, 2017, our accounting for the impact of Tax Reform on our deferred tax assets and liabilities was complete, with the exception of amounts related to loss reserve discounting. Prior to Tax Reform, we had elected to use our own loss reserve payment patterns for determining the factors to be used for calculating our discounted loss reserves for federal income tax purposes. Under Tax Reform, this election was eliminated and we are now required to use discount factors based on industry experience and a corporate bond yield curve, which the Internal Revenue Service ("IRS") had not finalized as of December 31, 2017. Considering this, at December 31, 2017, we calculated a pre-tax decrease to our discounted loss reserves of $35 million by using the industry experience approach under the tax law that existed prior to Tax Reform. This increased the deferred tax asset related to loss reserves by $7.5 million. A Tax Reform transition rule allows this change in accounting method to be amortized into expense over an eight-year period beginning in 2018. As a result, we established an offsetting deferred tax liability of $7.5 million as of December 31, 2017.

In the fourth quarter of 2018, the IRS published the loss reserve discount factors to be used for calculating the beginning and ending 2018 discounted loss reserves under the industry experience approach. Based on these factors, we calculated a pre-tax decrease to our discounted loss reserves of $125 million, which resulted in a deferred tax asset of $26.3 million, an increase from the $7.5 million estimate described above. The $26.3 million adjustment was being taken into income over eight years, beginning with 2018, at approximately $3.3 million per year.

In June 2019, the IRS published the final loss reserve discount factors to be used for calculating the beginning and ending 2018 discounted loss reserves under the industry experience approach. Based on these factors, we calculated a revised pre-tax decrease to our discounted loss reserves of $109.5 million, which resulted in a deferred tax asset of $23.0 million, a decrease from the $26.3 million estimate described above. The $23.0 million will be taken into income over eight years, beginning with the 2018 tax year, at approximately $2.9 million per year.

(b) A reconciliation of federal income tax on income at the corporate rate to the effective tax rate is as follows:



($ in thousands)	2019			2018		2017
Tax at statutory rate (21% in 2019 and 2018 and 35% in 2017)	$	70,642		44,461		91,689
Tax-advantaged interest	(4,909		)	(5,518	)	(11,510	)
Dividends received deduction	(443		)	(647	)	(1,961	)
Executive compensation	2,985			2,279		—
Stock-based compensation	(3,253		)	(3,093	)	(4,281	)
Tax Reform deferred tax write off	—			—		20,205
Other ¹	(255		)	(4,700	)	(1,000	)
Federal income tax expense	$	64,767		32,782		93,142

¹2018 includes approximately $3.8 million of capital loss carry back items to prior tax years at the previous 35% statutory tax rate.

(c) The tax effects of the significant temporary differences that gave rise to deferred tax assets and liabilities were as follows:



($ in thousands)	2019		2018
Deferred tax assets:
Net loss reserve discounting	$	48,193	43,285
Net unearned premiums	57,004		53,556
Employee benefits	10,646		8,862
Long-term incentive compensation plans	5,727		9,095
Temporary investment write-downs	1,059		1,155
Other	6,478		5,744
Total deferred tax assets	129,107		121,697
Deferred tax liabilities:
Deferred policy acquisition costs	56,949		53,049
Unrealized gains on investment securities	45,294		502
Other investment-related items, net	7,576		4,904
Accelerated depreciation and amortization	12,512		9,702
Total deferred tax liabilities	122,331		68,157
Net deferred federal income tax asset	$	6,776	53,540

Net deferred income tax assets decreased by $46.8 million in 2019, primarily driven by a $44.8 million increase in gross deferred tax liabilities as reduced interest rates increased unrealized gains on our fixed income securities portfolio.

After considering all evidence, both positive and negative, with respect to our federal tax loss carryback availability, expected levels of pre-tax financial statement income, and federal taxable income, we believe it is more likely than not that the existing deductible temporary differences will reverse during periods in which we generate net federal taxable income or have adequate federal carryback availability. As a result, we had no valuation allowance recognized for federal deferred tax assets at December 31, 2019 or 2018. We do not have unrecognized tax expense or benefit as of December 31, 2019.

We have analyzed our tax positions in all open tax years, which as of December 31, 2019 were 2016 through 2018. The 2018 tax year is currently under audit. We do not expect any material adjustments to arise out of the 2018 audit.

We believe our tax positions will more likely than not be sustained upon examination, including related appeals or litigation. In the event we had a tax position that did not meet the more likely than not criteria, any tax, interest, and penalties incurred related to such a position would be reflected in "Total federal income tax expense" on our Consolidated Statements of Income.