Income Taxes

The components of income before income tax and income tax expense are comprised of the following:



	For the Years Ended September 30,
	2017			2016
	(Amounts in thousands)
Income before income tax:
U.S.	$	3,383		$	3,418
Foreign	410			182
	$	3,793		$	3,600
Income tax expense:
Current:
Federal	$	1,067		$	303
State	119			118
Foreign	132			159
	1,318			580
Deferred:
Federal	(86		)	400
State	37			46
Foreign	18			(30		)
	(31		)	416
	$	1,287		$	996

As of September 30, 2017, management assessed the positive and negative evidence in the U.S operations, and estimated we will have sufficient future taxable income to utilize the existing deferred tax assets, except for certain state tax credit carry-forwards. Significant objective positive evidence included the cumulative profits that we realized over the most recent years. This evidence enhances our ability to consider other subjective evidence such as our projections for future growth. Other factors we considered are the likelihood for continued royalty income in future years, and our expectation that the TS segment will continue to be profitable in future years. On the basis of this evaluation, as of September 30, 2017, we have concluded that our U.S. deferred tax asset is more likely than not to be realized. It should be noted however, that the amount of the deferred tax asset realized could be adjusted in future years, if estimates of taxable income during the carryforward periods are reduced, or if objective negative evidence in the form of cumulative losses is present.

The recording and ultimate reversal of valuation allowances for our deferred tax asset requires significant judgment associated with past and projected performance. In assessing the realizability of deferred tax assets, we consider our taxable future earnings and the expected timing of the reversal of temporary differences. We recorded a valuation allowance which reduced the gross deferred tax asset to an amount that we believed was more likely than not to be realized because of the cumulative losses incurred in the U.K. in recent years represented sufficient negative evidence to record a valuation allowance against certain deferred tax assets.

We continue to maintain a full valuation allowance against our U.K. deferred tax assets as we have experienced cumulative losses and do not have any indication that the operation will be profitable in the future to an extent that will allow us to utilize much of our net operating loss carryforwards. To the extent that actual experience deviates from our assumptions, our projections would be affected and hence our assessment of realizability of our deferred tax assets may change.

Reconciliation of federal statutory rate and income tax expense to the Company's effective tax rate and actual income tax expense is as follows:



	For the Years Ended September 30,
	2017					2016
	(Dollar amounts in thousands)
Computed “expected” tax expense	$	1,289		34.0	%	$	1,224		34.0	%
Increases (reductions) in taxes resulting from:
State income taxes, net of federal tax benefit	80			2.1	%	124			3.5	%
Foreign operations	11			0.3	%	67			1.9	%
Permanent differences	(4		)	(0.1	)%	(20		)	(0.6	)%
Change in valuation allowance	(37		)	(1.0	)%	—			—	%
Uncertain tax liability adjustment	8			0.2	%	8			0.2	%
Research & development credit	(53		)	(1.4	)%	(344		)	(9.6	)%
Other items	(7		)	(0.2	)%	(63		)	(1.7	)%
Income tax expense	$	1,287		33.9	%	$	996		27.7	%

For the years ended September 30, 2017 and 2016, temporary differences, which give rise to deferred tax assets (liabilities), are as follows:



	September 30, 2017			September 30, 2016
	(Amounts in thousands)
Deferred tax assets:
Pension	$	2,470		$	2,896
Intangibles	219			315
Other reserves and accruals	633			671
Inventory reserves and other	563			470
State credits, net of federal benefit	318			313
Federal and state net operating loss carryforwards	52			61
Foreign net operating loss carryforwards	1,531			1,704
Foreign exchange on intercompany loan	(77		)	—
Foreign tax credits	7			7
Depreciation and amortization	(177		)	(203		)
Gross deferred tax assets	5,539			6,234
Less: valuation allowance	(2,712		)	(3,180		)
Realizable deferred tax asset	2,827			3,054
Gross deferred tax liabilities	—			—
Net deferred tax assets	$	2,827		$	3,054

The deferred tax valuation allowance decreased by approximately $468 thousand, as shown above. In assessing the realizability of deferred tax assets, the Company considers its taxable future earnings and the expected timing of the reversal of temporary differences. Accordingly, the Company has recorded a valuation allowance which reduces the gross deferred tax asset to an amount which management believes will more likely than not be realized. The valuation allowance was determined by assessing both positive and negative evidence whether it is more likely than not that deferred tax assets are realizable. Such assessment is done on a jurisdiction-by-jurisdiction basis. The Company's inability to project future profitability beyond fiscal year 2017 and the cumulative losses incurred in recent years in the U.K. represent sufficient negative evidence to record a valuation allowance against certain deferred tax assets.

As of September 30, 2017 and 2016, the Company had U.S. net operating loss carryforwards for state tax purposes of approximately $0.4 million and $0.4 million, respectively, which are available to offset future taxable income through 2033.

As of September 30, 2017, the Company had other state tax credit carryforwards of $55 thousand available to reduce future state tax expense which has unlimited carryover status.

As of September 30, 2017, the Company concluded that a net increase of $43 thousand of the valuation allowance for the U.S. was appropriate. As part of the Company’s analysis, the Company evaluated, among other factors, its recent history of generating taxable income in state jurisdictions and its near-term forecasts of future taxable income. The net increase in the Company’s valuation allowance of $43 thousand is to reserve for state tax credit carryforwards that the Company believes will expire unused.

As of September 30, 2017, the Company had U.K. net operating loss carryforwards of approximately $9.0 million that have an indefinite life with no expiration.

Undistributed earnings of the Company's foreign subsidiaries amounted to approximately $2.8 million and $2.5 million at September 30, 2017 and 2016, respectively. The Company's policy is that its undistributed foreign earnings are indefinitely reinvested and, accordingly, no U.S. federal and state deferred tax liabilities have been recorded.

In addition, the calculation of the Company's tax liabilities involves dealing with uncertainties in the application of complex tax regulations in a multitude of jurisdictions. The Company records liabilities for estimated tax obligations in the U.S. and other tax jurisdictions. These estimated tax liabilities include the provision for taxes that may become payable in the future.

As of September 30, 2017, the total amount of uncertain tax liabilities was $209 thousand. We recognized $7 thousand of interest and potential penalties accrued related to unrecognized tax benefits in our provision for income taxes.

A reconciliation of the beginning and ending balances of the total amounts of gross unrecognized tax benefits is as follows:



	For the Year Ended September 30, 2017		For the Year Ended September 30, 2016
	(Amounts in thousands)
Balance, beginning of year	$	202	$	195
Accrued penalties and interest	7		7
Balance, end of period	$	209	$	202

We file income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions. The Company has reviewed the tax positions taken on returns filed domestically and in its foreign jurisdictions for all open years, generally fiscal 2014 through 2017, and believes that tax adjustments in any audited year will not be material, except for the uncertain tax position described above.

On December 20, 2017, the Tax Cuts and Jobs Act bill was passed by Congress. Once the bill is signed into law, the change in the tax law will lower our overall tax rate and reduce our deferred taxes and will be treated as a discrete item in the quarter enacted. We will still need to assess the effect of the new law when enacted on our effective tax rate.