11.

Income Taxes

Income taxes payable (receivable), including deferred benefits, consists of the following:

	Year Ended October 31,
(In thousands)	2018	2017
State income taxes:
Current	$3,334	$2,227
Deferred	-	-
Federal income taxes:
Current	-	-
Deferred	-	-
Total	$3,334	$2,227

The provision for income taxes is composed of the following charges (benefits):

	Year Ended October 31,
(In thousands)	2018	2017	2016
Current income tax expense (benefit):
Federal (1)	$-	$-	$(2,796	)
State (2)	3,626	1,371	1,200
Total current income tax expense (benefit):	3,626	1,371	(1,596	)
Federal	-	275,688	5,594
State	-	9,890	1,257
Total deferred income tax expense (benefit):	-	285,578	6,851
Total	$3,626	$286,949	$5,255

(

)

The current federal income tax

expense

did

not

include the use of federal net operating losses for the year

ended

October 31,

2018

and

2017.

The current federal income tax benefit is net of the use of federal net operating losses totaling

$4.4

million

for the year ended

October

31,

2016

(

)

The current state income tax expense (benefit) is net of the use of state net operating losses totaling

$4.4

million,

$18.2

million and

$16.4

million for the years ended

October

31,

2018,

2017

and

2016,

respectively.

The total income tax expense of

$3.6

million for the period ending

October 31, 2018

was primarily related to state tax expense from income generated that was

not

offset by tax benefits in states where we fully reserve the tax benefit from net operating losses. The total income tax expense of

$286.9

million for the period ended

October 31, 2017

was primarily due to increasing our valuation allowance to fully reserve against our deferred tax assets (“DTAs”). In addition, the same periods were also impacted by state tax expense from income generated in some states, which was

not

offset by tax benefits in other states that had losses for which we fully reserve the net operating losses. The total income tax expense of

$5.3

million for the period ended

October 31, 2016

was primarily due to current state taxes and permanent differences related to stock compensation, partially offset by a federal tax benefit related to receiving a specified liability loss refund of taxes paid in fiscal year

2002

The permanent difference in fiscal

2016

related to stock compensation arose because for tax purposes, the amount of stock compensation the Company expenses is the amount reported on an associate’s W-

when the equity award is exercised or received, whereas for accounting purposes, the amount the Company expenses is based on the fair value of the equity award on the date of grant. The amount was significant because of the issuance in fiscal

2016

of stock to Company executives in respect of awards that had been granted over

ten

years ago at significantly higher stock prices and thus significantly higher fair values as compared to the time of issuance to the executive. As a result, at the time the stock awards were issued in fiscal

2016,

a significant permanent difference between book and tax was created impacting the effective tax rate for

2016.

The federal specified liability loss refund of taxes in fiscal year

2002

was due to an amendment of a prior year’s tax return. The Internal Revenue Service issued the refund following the Company’s application therefore during the year ended

October 31, 2016.

The refund related to the portion of the fiscal year

2012

NOL attributable to a specified liability loss which, pursuant to Internal Revenue Code Section

172

(b)(

)(C), can be carried back

ten

years to

October 31, 2002.

A specified liability is any amount allowable as a deduction attributable to a product liability or expense incurred in investigation or settlement of claims because of a product liability. The refund was received in

February 2016

and therefore the tax credit was recorded in the

second

quarter of fiscal

2016.

Our federal net operating losses of

$1.6

billion expire between

2028

and

2037,

and

$16.4

million have an indefinite carryforward period. Our state NOLs of

$2.5

billion expire between

2019

and

2038,

and some have an indefinite carryforward period. Of the total state amount

$145.3

million will expire between

2019

through

2023;

$691.2

million will expire between

2024

through

2028;

$1.3

billion will expire between

2029

through

2033;

$320.0

million will expire between

2034

through

2038;

and

$43.3

million have an indefinite carryforward period

December 22, 2017,

the President of the United States signed into law the Tax Cuts and Jobs Act of

2017

(the “Act”). Effective

January 1, 2018,

the comprehensive U.S. tax reform package, among other things, lowered the corporate tax rate from

35%

21%.

Under the accounting rules, companies are required to recognize the effects of changes in tax laws and tax rates on deferred tax assets and liabilities in the period in which the new legislation is enacted. The effects of the Act on the Company include

one

major category which is the remeasurement of deferred taxes. Consequently, we have recorded a decrease related to deferred tax assets and liabilities of

$298.5

million and

$12.2

million, respectively, with a corresponding net adjustment to the valuation allowance in fiscal

2018,

and there was

income tax expense or benefit as a result of the tax law changes. The Act contained additional changes that will impact our taxable income determinations, including, but

not

limited to elimination of the corporate alternative minimum tax and limitations on the deductibility of certain executive compensation. Although these provisions are

not

applicable until our fiscal year

2019,

we anticipated limitations on the deductibility of executive compensation in our fiscal year

2018.

We will continue to evaluate the impact of the tax reform as additional regulatory guidance is obtained. The ultimate impact of tax reform

may

differ from our interpretations and assumptions due to additional regulatory guidance that

may

be issued. As of

October 31, 2018,

we have completed our analysis of the impacts of the Act under SAB

118

with immaterial differences to our provisional amounts previously recorded.

Deferred federal and state income tax assets (“DTAs”) primarily represent the deferred tax benefits arising from NOL carryforwards and temporary differences between book and tax income which will be recognized in future years as an offset against future taxable income. If the combination of future years’ income (or loss) and the reversal of the timing differences results in a loss, such losses can be carried forward to future years. In accordance with ASC

740,

we evaluate our DTAs quarterly to determine if valuation allowances are required. ASC

740

requires that companies assess whether valuation allowances should be established based on the consideration of all available evidence using a “more likely than

not”

standard.

As of

October 31, 2018

we considered all available positive and negative evidence to determine whether, based on the weight of that evidence, our valuation allowance for our DTAs was appropriate in accordance with ASC

740

Listed below, in order of the weighting of each factor, is the available positive and negative evidence that we considered in determining that it is more likely than

not

that all of our DTAs will

not

be realized. In analyzing these factors, overall the negative evidence, both objective and subjective, outweighed the positive evidence. Based on this analysis, we determined that the current valuation allowance for deferred taxes of

$638.2

million as of

October 31, 2018,

which fully reserves for our DTAs, is appropriate.

Fiscal

2017

financial results, especially the

$50.2

million pre-tax loss in the

third

quarter of

2017

primarily from the

$42.3

million loss on extinguishment of debt during the quarter, that put us in a cumulative

three

-year pretax loss position as of

July 31, 2017.

We are still in a cumulative

three

-year US GAAP pretax loss position as of

October 31, 2018.

Per ASC

740,

cumulative losses are

one

of the most objectively verifiable forms of negative evidence. (Negative Objective Evidence)

In the

third

quarter of fiscal

2017

and

second

and

third

quarters of fiscal

2018,

we completed debt refinancing/restructuring transactions which, by extending our debt maturities, will enable us to allocate cash to invest in new communities and grow our community count to get back to sustained profitability. (Positive Objective Evidence)

Recent financial results of

$48.1

million pre-tax income in the

fourth

quarter of

2018

and

$8.1

million pre-tax income for the

twelve

months ending

October 31, 2018. (

Positive Objective Evidence)

Our net contracts per community declined in the

fourth

quarter of fiscal

2018

compared to the

fourth

quarter of

2017,

consistent with data for the overall housing market. This recent slow down

may

be the beginning of a cyclical housing downturn or

may

just be temporary because of recent increases in mortgage rates. (Negative Objective Evidence)

The refinancing in the

third

quarter of fiscal

2017

discussed in item

above will increase our interest incurred in fiscal

2018

and future years (based on our longer term modeling) by

$23.4

million per year. (Negative Objective Evidence)

We incurred pre-tax losses during the housing market decline and the slower than expected housing market recovery. (Negative Objective Evidence)

We exited

two

geographic markets in fiscal

2016

and completed the wind down of operations in

two

other markets in fiscal

2018,

that have historically had losses. By exiting these underperforming markets, the Company will be able to redeploy capital to better performing markets, which over time should improve our profitability. (Positive Subjective Evidence)

The historical cyclicality of the U.S. housing market, a more restrictive mortgage lending environment compared to before the housing downturn, the uncertainty of the overall US economy and government policies and consumer confidence, all or any of which could continue to hamper a faster, stronger recovery of the housing market. (Negative Subjective Evidence)

The deferred tax assets and liabilities have been recognized in the Consolidated Balance Sheets as follows:

	Year Ended October 31,
(In thousands)	2018		2017
Deferred tax assets:
Inventory impairment loss	$60,854		$122,584
Uniform capitalization of overhead	4,183		5,766
Warranty and legal reserves	4,774		8,763
Acquisition intangibles	1,185		4,420
Restricted stock bonus	1,344		4,202
Stock options	4,358		6,539
Provision for losses	18,044		38,831
Joint venture loss	3,384		12,028
Federal net operating losses	334,971		549,862
State net operating losses	191,064		172,307
Other	14,030		23,366
Total deferred tax assets	638,191		948,668
Deferred tax liabilities:
Debt repurchase income	-		30,465
Total deferred tax liabilities	-		30,465
Valuation allowance	(638,191	)	(918,203	)
Net deferred income taxes	$-		$-

The effective tax rate varied from the statutory federal income tax rate. The effective tax rate is affected by a number of factors, the most significant of which has been the valuation allowance related to our deferred tax assets. Due to the effects of these factors, our effective tax rates for

2018,

2017

and

2016

are

not

correlated to the amount of our income or loss before income taxes. The sources of these factors were as follows:

	Year Ended October 31,
	2018			2017			2016
Computed “expected” tax rate		21.0	%		35.0	%		35.0	%
State income taxes, net of federal income tax benefit		17.2			1.0			65.4
Permanent differences, net		74.0			(2.4	)		222.2
Deferred tax asset valuation allowance impact		(70.8	)		(667.8	)		-
Tax contingencies		1.0			-			0.3
Adjustments to prior years’ tax accruals(1)		2.1			-			(107.2	)
Effective tax rate		44.5	%		(634.2	)%		215.7	%

(

)

For the year ended

October 31, 2017,

the adjustments to prior years’ tax accruals includes the impact of a federal specified liability loss refund of taxes paid in fiscal year

2002

of (

114.8%

ASC

740

provides that a tax benefit from an uncertain tax position

may

be recognized when it is more likely than

not

that the position will be sustained upon examination, including resolutions of any related appeals or litigation processes, based on the technical merits.

Income tax positions must meet a more-likely-than-

not

recognition threshold at the effective date to be recognized upon the adoption of ASC

740

and in subsequent periods. This interpretation also provides guidance on measurement, derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition.

We recognize tax liabilities in accordance with ASC

740

and we adjust these liabilities when our judgment changes as a result of the evaluation of new information

not

previously available. Due to the complexity of some of these uncertainties, the ultimate resolution

may

result in a liability that is materially different from our current estimate of the tax liabilities. These differences will be reflected as increases or decreases to income tax expense in the period in which they are determined.

We recognize interest and penalties related to unrecognized tax benefits within the income tax expense line in the accompanying Consolidated Statements of Operations. Accrued interest and penalties are included within the related tax liability line in the Consolidated Balance Sheets.

The following is a tabular reconciliation of the total amount of unrecognized tax benefits for the year (in millions) excluding interest and penalties:

	Year Ended October 31,
		2018		2017
Unrecognized tax benefit—November 1,		$1.1		$1.1
Gross increases—tax positions in current period		0.3		0.2
Lapse of statute of limitations		(0.2	)	(0.2	)
Unrecognized tax benefit—October 31,		$1.2		$1.1

Related to the unrecognized tax benefits noted above, as of both

October

31,

2018

and

2017,

we have recognized a liability for interest and penalties of

$0.3

million. For the years ended

October

31,

2018,

2017

and

2016,

we recognized $(

) thousand, $(

) thousand and $(

) thousand respectively, of interest and penalties in income tax benefit.

It is likely that, within the next year, the amount of the Company's unrecognized tax benefits will decrease by

$0.2

million, excluding penalties and interest. This reduction is expected primarily due to the expiration of the statutes of limitation. The portion of unrecognized tax benefits that, if recognized, would affect the Company’s effective tax rate (excluding any related impact to the valuation allowance) is

$1.2

million and

$1.1

million for the years ended

October 31, 2018

and

2017

The recognition of unrecognized tax benefits could have an impact on the Company’s deferred tax assets and the valuation allowance.

The consolidated federal tax returns have been audited through

October 31, 2017

and these years are closed. We are also subject to various income tax examinations in the states in which we do business. The outcome for a particular audit cannot be determined with certainty prior to the conclusion of the audit, appeal, and in some cases, litigation process. As each audit is concluded, adjustments, if any, are appropriately recorded in the period determined. To provide for potential exposures, tax reserves are recorded, if applicable, based on reasonable estimates of potential audit results. However, if the reserves are insufficient upon completion of an audit, there could be an adverse impact on our financial position and results of operations. The statute of limitations for our major tax jurisdictions remains open for examination for tax years

2014

through

2017