Note 9: Income Taxes

ASC 740, “Income Taxes,” requires the affirmative evaluation that it is more likely than not, based on the technical merits of a tax position, that an enterprise is entitled to economic benefits resulting from positions taken in income tax returns. If a tax position does not meet the more-likely-than-not recognition threshold, the benefit of that position is not recognized in the financial statements. Management has determined that there were no unrecognized tax benefits to be reported in the Corporation’s consolidated financial statements for the years ended June 30, 2020 and 2019.

Under generally accepted accounting principles, the Corporation uses the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled On March 18, 2020, President Trump signed into law H.R.6201/P.L. 116-27, "An Act making emergency supplemental appropriations", the legislation more commonly known as the Families First Coronavirus Response Act (the "Families First Act"). Additionally, on March 27, 2020, President Trump signed into law H.R. 748/Public Law No. 116-36, "An Act to provide emergency assistance and health care response for individuals, families, and businesses affected by the 2020 coronavirus pandemic, the "CARES Act. Pursuant to ASC 740-10-25-47, the effects of the new federal legislation are recognized upon enactment, which is the date the president signs a bill into law. The Corporation believes it has applied the provisions of the Families First Act and CARES act in accordance with ASC 740.

The Corporation’s effective tax rate may differ from the estimated statutory tax rates described above due to discrete items such as further adjustments to net deferred tax assets, excess tax benefits derived from stock option exercises and non-taxable earnings from bank owned life insurance, among other items.

The Corporation utilizes the asset and liability method of accounting for income taxes whereby deferred tax assets are recognized for deductible temporary differences and tax credit carryforwards and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effect of changes in tax laws and rates on the date of enactment. The provision for income taxes for the periods indicated consisted of the following:


	Year Ended June 30,
(In Thousands)	2020		2019

Current:
Federal	$	1,742	$	445
State		919		408
		2,661		853
Deferred:
Federal		291		478
State		261		172
		552		650
Provision for income taxes	$	3,213	$	1,503

The Corporation’s tax benefit from non-qualified equity compensation recognized in the Consolidated Statements of Operations in connection with the adoption of ASU 2016‑09 for fiscal 2020 and 2019 was $8,000 and $147,000, respectively.

The provision for income taxes differs from the amount of income tax determined by applying the applicable U.S. statutory federal income tax rate to net income before income taxes as a result of the following differences for the periods indicated:


	Year Ended June 30,
	2020				2019
(In Thousands)	Amount		Tax Rate		Amount		Tax Rate

Federal income tax at statutory rate	$	2,289	21.00	%	$	1,243	21.00	%
State income tax, net of federal income tax benefit		930	8.53	%		456	7.70	%
Changes in taxes resulting from:
Bank-owned life insurance		(40)	(0.36)	%		(39)	(0.66)	%
Non-deductible expenses		41	0.37	%		21	0.35	%
Non-deductible stock-based compensation		(10)	(0.09)	%		(2)	(0.03)	%
Excess tax benefit on stock-based compensation		(7)	(0.07)	%		(104)	(1.77)	%
Return to provision adjustment		7	0.06	%		(77)	(1.29)	%
Other		3	0.02	%		5	0.08	%
Effective income tax	$	3,213	29.46	%	$	1,503	25.38	%

Deferred tax assets at June 30, 2020 and 2019 by jurisdiction were as follows:


	June 30,
(In Thousands)	2020		2019

Deferred taxes - federal	$	1,908	$	2,178
Deferred taxes - state		1,103		1,361
Total net deferred tax assets	$	3,011	$	3,539

Net deferred tax assets at June 30, 2020 and 2019 were comprised of the following:


	June 30,
(In Thousands)	2020		2019

Loss reserves	$	3,034	$	2,685
Non-accrued interest		326		483
Deferred compensation		2,824		2,396
Accrued vacation		177		124
Depreciation		90		95
Litigation reserves		—		876
Other		395		588
Total deferred tax assets		6,846		7,247

FHLB - San Francisco stock dividends		(645)		(664)
Prepaid expenses		(41)		(56)
Unrealized gain on investment securities		(40)		(63)
Unrealized gain on interest-only strips		(4)		(5)
Deferred loan costs		(3,071)		(2,723)
State tax		(34)		(197)
Total deferred tax liabilities		(3,835)		(3,708)
Net deferred tax assets	$	3,011	$	3,539

The net deferred tax assets were included in prepaid expenses and other assets in the Consolidated Statements of Financial Condition. The Corporation analyzes the deferred tax assets to determine whether a valuation allowance is required based on the more likely than not criteria that such assets will be realized principally through future taxable income. This criteria takes into account the actual earnings and the estimates of future profitability. The Corporation may carryback net federal tax losses to the preceding five taxable years and forward to the succeeding 20 taxable years. At June 30, 2020 and 2019, the Corporation had no federal and state net tax loss carryforwards. Based on management’s consideration of historical and anticipated future income before income taxes, as well as the reversal period for the items giving rise to the deferred tax assets and liabilities, a valuation allowance was not considered necessary at June 30, 2020 and 2019 and management believes it is more likely than not the Corporation will realize its deferred tax asset.

Retained earnings at June 30, 2020 and 2019 include approximately $9.0 million (pre‑1988 bad debt reserve for tax purposes) for which federal income tax of $3.1 million has not been provided. If the amounts that qualify as deductions for federal income tax purposes are later used for purposes other than for bad debt losses, including distribution in liquidation, they will be subject to federal income tax at the then-current corporate tax rate. If those amounts are not so used, they will not be subject to tax even in the event the Bank were to convert its charter from a thrift to a bank.

The Corporation files income tax returns for the United States and California jurisdictions. The Internal Revenue Service has audited the Bank’s income tax returns through 1996 and the California Franchise Tax Board has audited the Bank through 1990. Also, the Internal Revenue Service completed a review of the Corporation’s income tax returns for fiscal 2006 and 2007; and the California Franchise Tax Board completed a review of the Corporation’s income tax returns for fiscal 2009 and 2010. Fiscal years of 2016 and thereafter remain subject to federal examination, while the California state tax returns for fiscal years 2015 and thereafter are subject to examination by state taxing authorities.

It is the Corporation’s policy to record any penalties or interest charges arising from federal or state taxes as a component of income tax expense. For the fiscal year ended June 30, 2020 and 2019, there were no tax penalties and no interest charges arising from federal or state taxes.