NOTE 10: INCOME TAXES

Income before income taxes consisted of the following:

	Year Ended December 31,

	2013		2012		2011
	(in thousands)
Income before income taxes
United States	$	12,273	$	32,148	$	18,406
Foreign		4,832		3,258		2,501


Total	$	17,105	$	35,406	$	20,907

The provision for income taxes included the following:

	Year Ended December 31,

	2013			2012			2011
	(in thousands)
Provision for income taxes
Currently payable income taxes
Federal	$	9,121		$	9,447		$	3,062
State		1,849			1,221			2,408
Foreign		1,542			838			927


Total		12,512			11,506			6,397


Deferred income taxes
Federal		(4,687	)		946			2,333
State		(1,724	)		619			323
Foreign		(106	)		(92	)		(226	)


Total		(6,517	)		1,473			2,430


Provision for income taxes	$	5,995		$	12,979		$	8,827

A reconciliation of the provision for income taxes at the statutory rate of 35% to the provision for income taxes at our effective rate is shown below:

	Year Ended December 31,

	2013			2012			2011
	(in thousands)
Computed at the statutory rate	$	5,987		$	12,392		$	7,318
Change in taxes resulting from:
State income taxes, net of federal tax effect		81			1,136			1,747
Foreign tax and change in foreign valuation allowance		(322	)		(394	)		(175	)
Permanent differences		797			578			450
Uncertain Tax Positions		447			—			192
Research and Development Credits		(676	)		(239	)		(490	)
Domestic Production Activities Deduction		(422	)		(568	)		(286	)
Other		110			74			71


Provision for income taxes	$	5,995		$	12,979		$	8,827

The tax effects of temporary differences that give rise to significant portions of deferred tax assets and deferred tax liabilities on the accompanying Consolidated Balance Sheets are as follows:

	December 31,

	2013			2012
	(in thousands)
Deferred tax assets:
Allowance for doubtful accounts	$	1,661		$	1,524
Share-based compensation		10,474			9,711
Intangible assets		2,653			2,483
Deferred rent		527			799
Accrued liabilities		2,094			2,574
Foreign loss carryforwards		639			69
State net operating loss carryforwards		838			631
Valuation allowances		(808	)		(101	)


Total deferred tax assets		18,078			17,690


Deferred tax liabilities:
Prepaid expenses		(2,199	)		(2,740	)
Intangible assets		(33,300	)		(35,523	)
Property and equipment and software development costs		(11,321	)		(13,817	)
Deferred debt discharge income		(2,649	)		(3,300	)
Other		(100	)		(318	)


Total deferred tax liabilities		(49,569	)		(55,698	)


Net deferred tax liability	$	(31,491	)	$	(38,008	)

Prior to our acquisition of Encore, as part of a debt restructuring in 2009, Encore elected to defer recognition of approximately $8.9 million of debt discharge income pursuant to Section 108(i) of the Internal Revenue Code of 1986, as amended. For each year 2013 through 2017, we will include approximately $1.8 million of deferred debt discharge income in taxable income.

As of December 31, 2013, we had as filed state operating loss carryforwards of $9.3 million. These carryforwards expire in varying amounts in years 2014 through 2033. Of these carryforwards, $2.9 million was generated in states where it is uncertain that we will be able to utilize these losses resulting in a $0.1 million deferred tax asset. A $0.1 million valuation allowance was recorded relating to these losses. Management believes that it is more likely than not that we will be able to utilize the other remaining state loss carryforwards and, therefore, no additional valuation allowance is necessary.

As of December 31, 2012, we had as filed state operating loss carryforwards of $6.6 million. These carryforwards expire in varying amounts in years 2014 through 2032. Of these carryforwards, $0.9 million was generated in a state in which Epiq no longer maintained a presence or a filing obligation resulting in a $0.1 million deferred tax asset. A $0.1 million valuation allowance was recorded relating to these losses.

As a result of certain realization requirements for tax benefits relating to employee exercise of stock options, the deferred tax assets and liabilities shown above exclude certain deferred tax assets relating to state net operating losses generated in 2013. These losses arose directly from tax deductions related to equity compensation in excess of compensation recognized for financial reporting. Equity will be increased by $0.1million if and when such deferred tax assets are ultimately realized. We use tax law ordering for the purpose of determining when excess tax benefits have been realized.

During 2013, we recorded a $0.6 million valuation allowance relating to approximately $1.6 million of net operating losses generated in new international jurisdictions. This valuation allowance will be released when management believes it is more likely than not that based on the available positive and negative evidence the losses will be utilized.

During 2013, our Hong Kong net operating loss was fully utilized. Accordingly, we have released the $0.1 million valuation allowance related to this loss.

We have received certification for the Kansas High Performance Incentive Program ("HPIP") tax credit in conjunction with investments made in our Kansas facilities. As of December 31, 2013, $0.7 million of HPIP credits were available to offset our 2013 and future Kansas income tax. The credit may be carried forward for a period of ten years provided we continue to meet the HPIP certification requirements.

On January 2, 2013, the American Taxpayer Relief Act was passed into law and it extended the federal research credit to tax years 2012 and 2013. The credit had expired on December 31, 2011. Since this was enacted in 2013, and because a tax law is accounted for in the period of enactment, the 2012 research credit related tax benefits of approximately $0.5 million were recognized in 2013. The tax benefit of $0.2 million recognized in 2012 reflected in the rate reconciliation table is a result of additional benefit related to periods prior to December 31, 2012.

On December 31, 2013, the federal research credit expired. Although extending the credit beyond 2013 has been introduced into legislation, it has not been passed. If the credit is not extended, this would increase our effective tax rate in future tax periods

The net deferred tax liability is presented on the Consolidated Balance Sheets as follows:

	December 31,

	2013			2012
	(in thousands)
Other current assets	$	3,824		$	3,235
Other long-term assets		243			166
Long-term deferred income tax liability		(35,558	)		(41,409	)


Net deferred tax liability	$	(31,491	)	$	(38,008	)

United States income and foreign withholding taxes have not been recognized on the excess of earnings for financial reporting over the tax basis of investments in foreign subsidiaries that are essentially permanent in duration. Generally, such earnings become subject to United States taxation upon the remittance of dividends or a sale or liquidation of the foreign subsidiary. The amount of such excess totaled approximately $11.7 million at December 31, 2013. It is not practicable to estimate the amount of any deferred tax liability related to this amount.

As of December 31, 2013, 2012 and 2011, the gross amount of unrecognized tax benefits, including penalty and interest, was approximately $6.4 million, $5.4 million, and $4.9 million, respectively. If recognized, approximately $5.2 million, $4.4 million, and $4.1 million, would have affected our effective tax rate in 2013, 2012, and 2011, respectively.

The following table summarizes the activity related to our gross unrecognized tax benefits excluding interest and penalties (in thousands):

	2013			2012			2011

Unrecognized Tax Benefits as of January 1	$	4,639		$	4,164		$	2,255
Gross increases for prior year tax positions		243			1,266			1,844
Gross decreases for prior year tax positions		(53	)		—			(3	)
Gross increase for current year tax positions		530			323			363
Settlements		(33	)		(755	)		(23	)
Lapse of statute of limitations		—			(359	)		(272	)


Unrecognized Tax Benefits at December 31	$	5,326		$	4,639		$	4,164

We file income tax returns in the United States federal jurisdiction, the United Kingdom, Hong Kong, Japan, Canada and various state jurisdictions. We have also made an evaluation of the potential impact of assessments by state jurisdictions in which we have not filed tax returns.

As of December 31, 2013, the 2010 - 2012 federal, state and foreign tax returns are subject to examination. In addition, the 2009 statute of limitations remains open in certain state and foreign jurisdictions. It is reasonably possible that approximately $0.5 million of unrecognized tax benefits will be recognized in the next twelve months due to the closing of the 2009 year for state jurisdictions of which $0.4 million will affect our effective tax rate.

In 2012, we increased our unrecognized tax benefits for prior year tax positions by $1.3 million. This increase is due to filing amended state returns to claim refunds and to claim credits that will be carried forward to future years. Also, during 2012, the Internal Revenue Service concluded their examination of our 2009 federal return and determined that no additional taxes were owed. As a result, we have considered 2009 to be effectively settled and have recognized $0.2 million of unrecognized tax benefits which affected our effective tax rate.

In 2011, we increased our unrecognized tax benefits relating to the Encore acquisition by $1.8 million and the increase is included in "Gross increases for prior year tax positions" in the table of gross unrecognized tax benefits. Encore generated federal and certain state net operating losses originating in 2006 on its separately filed income tax returns that had not been fully utilized as of December 31, 2011. The federal losses were fully utilized as of December 31, 2012. Although the statute of limitations generally lapses after three years from filing the return, these net operating losses could still be adjusted if examined by federal or state income tax auditors.

During 2013, we were informed that our income tax returns for the years ended December 31, 2009, 2010 and 2011 will be audited by the State of New York. In the fourth quarter, we provided responses to the auditor's initial information requests. In addition, in January 2014, we were informed that our income tax returns for 2010 and 2011 will also be audited by New York City. The outcomes of these tax examinations cannot be predicted with certainty, but we do not expect any adjustments to be material. If any issues are resolved in a manner not consistent with our expectations, we could be required to adjust our provision for income tax in the period such resolution occurs.

We have classified interest and penalties as a component of income tax expense. Estimated interest and penalties classified as a component of income tax expense during 2013, 2012, and 2011 totaled $0.2 million, $0.1 million, and $0.1 million, respectively. Accrued interest and penalties, included as a component of "Other long-term liabilities" on the accompanying Consolidated Balance Sheets, totaled $0.8 million and $0.2 million, respectively, as of December 31, 2013. As of December 31, 2012, the accrued interest and penalties were $0.6 million and $0.2 million, respectively.