INCOME TAXES

December 22, 2017,

the United States signed into law The Tax Cuts and Job Act, (the “Tax Act”), which imposes a repatriation tax on accumulated earnings of foreign subsidiaries, implements a territorial tax system together with a current tax on accumulated foreign earnings and lowers the general corporate income tax rate to

21%.

The Tax Act requires the Company to pay a

one

-time deemed repatriation income tax on the net accumulated earnings of its foreign subsidiaries at a tax rate of

15.5%.

The Tax Act significantly changes how the U.S. taxes corporations. The Tax Act requires complex computations to be performed that were

not

previously required, significant judgments to be made and significant estimates in calculations. The U.S. Treasury Department, the IRS, and other standard-setting bodies could interpret or issue guidance on how provisions of the Tax Act will be applied or otherwise administered that is different from the Company’s interpretation. Staff Accounting Bulletin

No.

118

Income Tax Accounting Implications of the Tax Cuts and Jobs Act

(“SAB

118”

), allows companies to record provisional amounts during a measurement period

not

to extend beyond

one

year of the enactment date. The Company's accounting for the Tax Act will be completed within the measurement period provided by SAB

118.

The Company recorded an estimated

one

-time deemed repatriation tax of

$10

million on its foreign subsidiaries estimated net accumulated earnings of

$64

million. This additional income tax expense was partially offset by net operating losses of

$5.6

million, R&D tax credits of

$1.6

million, and foreign tax credits of

$4.1

million that were generated by the deemed repatriation. The Tax Act increased the Company’s U.S. estimated tax liability by

$2.0

million. This estimated tax liability

may

be paid over

eight

years in interest free installments or the Company

may

elect to pay the entire net tax liability in fiscal

2019.

Management has

not

determined which payment method to use.

Consolidated net (loss)/income before income taxes is summarized as follows:

	Years Ended January 31,
	2018			2017			2016
	(in thousands)
Domestic net (loss) income before income taxes	$	(4,793	)	$	(3,774	)	$	(7,835	)
Foreign net (loss) income before income taxes		585			7,600			18,371
Consolidated net (loss) income before income taxes	$	(4,208	)	$	3,826		$	10,536

Income tax expense (benefit) is summarized as follows:

	Years Ended January 31,
	2018			2017			2016
	(in thousands)
Current:
U.S. federal	$	2,862		$	437		$	(1,656	)
State		38			30			26
Foreign		2,433			3,894			2,591
Subtotal		5,333			4,361			961
Deferred:
U.S. federal		(519	)		11,564			(956	)
State		19			3,610			303
Foreign		24			(348	)		63
Subtotal		(476	)		14,826			(590	)
Equity adjustment		—			89			1,253
Total	$	4,857		$	19,276		$	1,624

Actual income tax expense differs from that obtained by applying the statutory federal income tax rate of

34%

to income before income taxes as follows:

	Years Ended January 31,
	2018			2017			2016
	(in thousands)
Computed expected tax expense (benefit)	$	(1,431	)	$	1,301		$	3,582
State income taxes, net of federal income tax expense		(157	)		(54	)		252
Incremental tax expense (benefit) from foreign operations		923			137			(2,548	)
Non-deductible equity compensation		(1,004	)		(29	)		254
Foreign withholding taxes		794			676			968
Net change in valuation allowance		5,448			16,861			2,564
Net change in contingency reserve		(81	)		198			(379	)
Non-deductible expenses		(407	)		660			621
Benefit of tax credits		(1,766	)		(1,243	)		(3,186	)
Subpart F income		302			345			254
Rate change impact		187			19			193
Benefit from liquidation utilized		—			—			(1,321	)
U.S. Tax Reform (the “Tax Act”)		1,951			—			—
Other		98			405			370
Total	$	4,857		$	19,276		$	1,624

The Company files U.S. federal, state, and foreign tax returns that are subject to audit by various tax authorities. The Company is currently under audit in:

●

India for fiscal years ended

March 31, 2010,

2011,

2013,

and

2014

●

Iowa for fiscal year ended

January 31, 2014

●

Kentucky for fiscal year ended

January 31, 2016

●

Netherlands for fiscal year ended

January 31, 2016

During fiscal

2018,

the Company closed the following audits with small or

adjustment:

●

India for fiscal years ended

March 31, 1998,

1999

and

2015

●

China for calendar years ended

December 31, 2015

and

2016

As of

January 31, 2018,

with the mandatory deemed repatriation and the understanding that most of the Company’s overseas cash is maintained by QAD Ireland, the Company continues to maintain its permanently reinvestment assertion under APB

for all of its foreign subsidiaries as it relates to withholding taxes, state taxes and currency gains and losses. These permanently reinvested earnings are approximately

$81

million at

January 31, 2018.

It is

not

practicable for the Company to determine the amount of the related unrecognized deferred income tax liability.

Deferred income taxes reflect the net effects of the temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The Tax Act reduces the U.S. statutory tax rate from

35%

21%

for years after

2017.

Accordingly, the Company has remeasured its deferred taxes as of

January 31, 2018

to reflect the reduced rate.

Significant components of the Company

’s deferred tax assets and liabilities are as follows:

	January 31,
	2018			2017
	(in thousands)
Deferred tax assets:
Allowance for doubtful accounts and sales adjustments	$	367		$	356
Accrued vacation		1,590			2,033
Tax credits		18,583			13,116
Deferred revenue		3,493			3,465
Net operating loss carry forwards		10,337			10,255
Accrued expenses - other		1,849			1,695
Other comprehensive income		1,164			—
Section 263(a) interest capitalization		206			322
Equity compensation		4,380			5,399
Other		1,243			2,039
Total deferred tax assets		43,212			38,680
Less valuation allowance		(33,665	)		(29,868	)
Less netting of unrecognized tax benefits against deferred tax assets		(930	)		(954	)
Deferred tax assets, net of valuation allowance	$	8,617		$	7,858
Deferred tax liabilities:
Depreciation and amortization		(442	)		(630	)
Other comprehensive income		—			(1,009	)
Other		(231	)		(53	)
Total deferred tax liabilities		(673	)		(1,692	)
Total net deferred tax assets	$	7,944		$	6,166

The Company reviews its net deferred tax assets by jurisdiction on a quarterly basis to determine whether a valuation allowance is necessary based on the more-likely-than-

not

standard. Management assessed historic, current and future financial projections by jurisdiction to draw its conclusion. During fiscal

2017,

a valuation allowance for U.S. federal and state deferred income tax assets was established due to a U.S.

three

-year cumulative loss, a projected loss, future earmarked investment necessary to transition the business to cloud, and a significant drop in the California apportionment percentage. In fiscal

2018,

Management continued to conclude the Company’s U.S. federal and state deferred income tax assets are

not

likely to be realized. If and when the Company’s operating performance improves on a sustained basis, the conclusion regarding the need for a valuation allowance could change, resulting in the reversal of some or all of the valuation allowance in the future. At

January 31, 2018

and

2017,

the valuation allowance attributable to deferred tax assets was

$33.7

million and

$29.9

million, respectively.

The Company has gross net operating loss carryforwards of

$36.7

million and tax credit carryforwards of

$20.2

million as of

January 31, 2018.

The majority of the Company’s net operating loss carryforwards do

not

expire. The Company’s tax credits are comprised of foreign tax credits that will begin to expire in fiscal year

2028,

U.S. R&D credits that will begin to expire in

2038

and Australian and California R&D tax credits that do

not

expire.

During the fiscal year ended

January 31, 2018,

the Company decreased its reserves for uncertain tax positions by

$0.1

million. Interest and penalties on accrued but unpaid taxes are classified in the Consolidated Statements of Operations and Comprehensive (Loss) Income as income tax expense. The liability for unrecognized tax benefits that

may

be recognized in the next

twelve

months is classified as short-term in the Company

’s Consolidated Balance Sheet while the remainder is classified as long-term.

The following table reconciles the gross amounts of unrecognized tax benefits at the beginning and end of the period:

	Years Ended January 31,
	2018			2017
	(in thousands)
Unrecognized tax benefits at beginning of the year	$	1,743		$	1,545
Decreases as a result of tax positions taken in a prior period		(115	)		(79	)
Increases as a result of tax positions taken in the prior period		58			365
Reduction as a result of a lapse of the statute of limitations		(24	)		(88	)
Unrecognized tax benefit at end of year	$	1,662		$	1,743

All of the unrecognized tax benefits included in the balance sheet at

January 31, 2018

would impact the effective tax rate on income from continuing operations, if recognized.

The total amount of interest recognized in the Consolidated Statement of Operations and Comprehensive (Loss) Income for unpaid taxes was

$39,000

for the year ended

January 31, 2018.

The total amount of interest and penalties recognized in the Consolidated Balance Sheet at

January 31, 2018

was

$0.3

million.

The Company files U.S. federal, state, and foreign income tax returns in jurisdictions with varying statute of limitations. The years that

may

be subject to examination will vary by jurisdiction. Below is a list of our material jurisdictions and the years open for audit as of fiscal

2018:

Jurisdiction	Years Open for Audit
U.S. Federal	FY15 and beyond
California	FY14 and beyond
Michigan	FY14 and beyond
New Jersey	FY14 and beyond
Australia	FY14 and beyond
France	FY15 and beyond
India	FY10, FY11, FY13, and FY14
Ireland	FY14 and beyond
United Kingdom	FY17 and beyond