Income Tax

12 Months Ended

Dec. 31, 2019

On April 17, 2012, EVERTEC Group and Holdings were converted from a Puerto Rico corporation into Puerto Rico limited liability companies to benefit from changes to the Puerto Rico Income Tax Code allowing limited liability companies to be treated as partnerships that are pass-through entities for Puerto Rico tax purposes. As a result of these conversions and subsequent elections to be treated as partnerships, EVERTEC Group’s and Holding’s taxable income flows through to EVERTEC, Inc.

EVERTEC Group, Holdings and EVERTEC, Inc. entered into a Tax Payment Agreement pursuant to which EVERTEC Group is obligated to make certain payments to Holdings or EVERTEC, Inc. for taxable periods or portions thereof occurring on or after April 17, 2012 (the “Effective Date”). Under the Tax Payment Agreement, EVERTEC Group will make payments with respect to any and all taxes (including estimated taxes) imposed under the laws of Puerto Rico, the United States of America and any other jurisdiction or any political (including municipal) subdivision or authority or agency in Puerto Rico, the United States of America or such other jurisdiction, that would have been imposed on EVERTEC Group if EVERTEC Group had been a corporation for tax purposes of that jurisdiction, together with all interest and penalties with respect thereto (“Taxes”), reduced by taking into account any applicable net operating losses or other tax attributes of Holdings or EVERTEC, Inc. that reduce Holdings’ or EVERTEC, Inc.’s taxes in such period. The Tax Payment Agreement provides that the payments thereunder shall not exceed the net amount of Taxes that Holdings and EVERTEC, Inc. actually owe to the appropriate taxing authority for a taxable period. Further, the Tax Payment Agreement provides that if Holdings or EVERTEC, Inc. receives a tax refund attributable to any taxable period or portion thereof occurring on or after the Effective Date, EVERTEC, Inc. shall be required to recalculate the payment for such period required to be made by EVERTEC Group to Holdings or EVERTEC, Inc. If the payment, as recalculated, is less than the amount of the payment EVERTEC Group already made to Holdings or EVERTEC, Inc. in respect of such period, Holdings or EVERTEC, Inc. shall promptly make a payment to EVERTEC Group in the amount of such difference.

The components of income tax expense consisted of the following:



	Years ended December 31,
(In thousands)	2019			2018			2017
Current tax provision	$	19,366		$	17,207		$	9,086
Deferred tax benefit	(6,391		)	(4,611		)	(4,306		)
Income tax expense	$	12,975		$	12,596		$	4,780

The Company conducts operations in Puerto Rico and certain countries throughout the Caribbean and Latin America. As a result, the income tax expense includes the effect of taxes paid to the Puerto Rico government as well as foreign jurisdictions. The following table presents the segregation of income tax expense based on location of operations:



	Years ended December 31,
(In thousands)	2019			2018			2017
Income before income tax provision
Puerto Rico	$	89,667		$	77,176		$	47,347
United States	4,047			3,199			3,089
Foreign countries	22,961			18,790			9,763
Total income before income tax provision	$	116,675		$	99,165		$	60,199
Current tax provision
Puerto Rico	$	7,550		$	6,841		$	1,892
United States	339			599			292
Foreign countries	11,477			9,767			6,902
Total current tax provision	$	19,366		$	17,207		$	9,086
Deferred tax benefit
Puerto Rico	$	(4,109	)	$	(2,904	)	$	(3,176	)
United States	(216		)	(584		)	(184		)
Foreign countries	(2,066		)	(1,123		)	(946		)
Total deferred tax benefit	$	(6,391	)	$	(4,611	)	$	(4,306	)

Taxes payable to foreign countries by EVERTEC’s subsidiaries will be paid by such subsidiary and the corresponding liability and expense will be presented in EVERTEC’s consolidated financial statements.

On December 10, 2018, the Governor of Puerto Rico signed in to law Act 257, which decreased the maximum corporate tax rate from 39% to 37.5%, effective January 1, 2019. This rate decrease is only applicable to the fully taxable operations of EVERTEC in Puerto Rico. As a result of this tax rate decrease, the deferred taxes were reevaluated as of December 31, 2018, the impact of this reevaluation was considered immaterial.

As of December 31, 2019, the Company has $62.2 million of unremitted earnings from foreign subsidiaries. The Company has not recognized a deferred tax liability on undistributed earnings for the Company’s foreign subsidiaries because these earnings are intended to be indefinitely reinvested. The amount of the unrecognized deferred tax liability depends on judgment required to analyze the withholding tax due, the applicable tax law and factual circumstances in effect at the time of any such distributions. EVERTEC believes it is not practicable at this time to reliably determine the amount of unrecognized deferred tax liability related to the Company’s undistributed earnings. If circumstances change and it becomes apparent that some or all of the undistributed earnings of a subsidiary will be remitted, and income taxes have not been recognized by the parent entity, the parent entity shall accrue as an expense of the current period income taxes attributable to that remittance.

On October 19, 2012, EVERTEC Group was granted a tax exemption under the Tax Incentive Act No. 73 of 2008. Under this grant, EVERTEC Group will benefit from a preferential income tax rate on industrial development income, as well as from tax exemptions with respect to its municipal and property tax obligations for certain activities derived from its data processing operations in Puerto Rico. The grant has a term of 15 years effective as of January 1, 2012 with respect to income tax obligations and January 1, 2013 with respect to municipal and property tax obligations. Industrial development income under this grant is subject to a preferential rate of 4%.

The grant contains customary commitments, conditions and representations that EVERTEC Group will be required to comply with in order to maintain the grant. The more significant commitments include: (i) maintaining at least 700 employees in EVERTEC Group's Puerto Rico data processing operations, (ii) investing at least $200.0 million in building, machinery, equipment or computer programs to be used in Puerto Rico during the effective term of the grant (to be made over four year capital investment cycles in $50.0 million increments); and (iii) 80% of EVERTEC Group employees must be residents of Puerto Rico. Failure to meet the requirements could result, among other things, in reductions of the benefits of the grant or revocation of the grant in its entirety, which could result in EVERTEC, Inc. paying additional taxes or other payments relative to what would be required to pay to other municipal agencies if the full benefits of the grant are not available.

On October 11, 2011, Evertec Group was granted a tax exemption under Tax Incentive Law No. 73 of 2008, retroactively to December 1, 2009. Under this grant, activities derived from consulting and data processing services provided outside Puerto Rico are subject to a preferred rate that declines gradually from 7% to 4% by December 1, 2013. After this date, the rate remains at 4% until its expiration in November 1, 2024.

In addition, in August 2018, the Puerto Rico Industrial Development Company approved the requested extension of a grant under Tax Incentive Law No. 135 of 1997 for EVERTEC Group. Under this grant, activities derived from certain development and installation service in excess of a determined income are subject to a fixed tax rate of 10% for a 10-year period from January 1, 2018.

The following table presents the components of the Company’s deferred tax assets and liabilities:



	December 31,
(In thousands)	2019			2018
Deferred tax assets (“DTA”)
Allowance for doubtful accounts	$	271		$	170
Unearned income	6,807			4,394
Investment in equity subsidiary	51			220
Share-based compensation	1,222			1,684
Debt issuance costs	249			309
Accrued liabilities	1,034			1,257
Derivative liability	1,220			351
Accrual of contract maintenance cost	134			157
Impairment of asset	289			289
Other	1,546			1,976
Total gross deferred tax assets	12,823			10,807
Deferred tax liabilities (“DTL”)
Capitalized salaries	1,828			1,756
Derivative asset	—			185
Difference between the assigned values and the tax basis of assets and liabilities recognized in business combinations	12,568			16,240
Other	557			659
Total gross deferred tax liabilities	14,953			18,840
Deferred tax liability, net	$	(2,130	)	$	(8,033	)

Pursuant to the provision of the PR Code, net operating losses (“NOL”) can be carried forward for a period of seven, ten or twelve taxable years, depending on the taxable year generated. Act 72 of May 29, 2015, limited the amount of NOLs deduction to 80% for regular tax and 70% for alternative minimum tax (“AMT”) for taxable years commencing after December 31, 2014. However, Act 257 of 2018 limits the deduction of NOLs to 90% for regular tax for tax years commencing after December 31, 2019. At December 31, 2019, the Company has $0.2 million in NOL carryforwards related to Puerto Rico industrial development income, available to offset future eligible income.

The Company recognizes the benefit of uncertain tax positions ("UTPs") only if it is more likely than not that the tax position will be sustained on examination by taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than fifty percent likelihood of being realized upon ultimate settlement.

The following is a tabular reconciliation of the total amounts of UTPs:



	Years ended December 31,
(In thousands)	2019			2018			2017
Balance, beginning of year	$	9,238		$	9,148		$	12,219
Gross increases—tax positions in prior period	—			578			—
Gross decreases—tax positions in prior period	(92		)	(488		)	—
Lapse of statute of limitations	—			—			(3,071		)
Balance, end of year	$	9,146		$	9,238		$	9,148

As of December 31, 2019, 2018 and 2017, approximately $9.1 million, $9.2 million and $9.1 million, respectively, would affect the Company’s effective income tax rate, if recognized.

The Company recognizes interest and penalties related to UTB as part of income tax expense. During the years ended December 31, 2019, 2018 and 2017, the Company recognized an income tax expense of $0.4 million, an income tax expense of $0.4 million and an income tax benefit of $0.8 million, respectively, related to interest and penalties. The amount accrued for interest and penalties at December 31, 2019 and 2018 was $2.0 million, and $1.6 million, respectively. The Company anticipates changes to the UTBs within the next 12 months to be primarily related to interest. The Company believes it has sufficient accruals for contingent tax liabilities.

In connection with tax return examinations, contingencies can arise that generally result from different interpretations of tax laws and regulations as they pertain to the amount, timing or inclusion of revenues and expenses in taxable income, or the ability to utilize tax credits to reduce income taxes payable. While it is probable, based on the potential outcome of the Company’s Puerto Rico and foreign tax examinations or the expiration of the statute of limitations for specific jurisdictions, that the liability for UTBs may increase or decrease within the next twelve months, the Company does not expect any such change would have a material effect on our financial condition, results of operations or cash flow.

The Company and its subsidiaries are subject to Puerto Rico income tax as well as income tax of multiple foreign jurisdictions. A significant majority of the income tax is from Puerto Rico with a statute of limitations of four years after filing the income tax returns; therefore, the income tax returns for 2015, 2016, 2017, and 2018 are currently open for examination.

The income tax expense differs from the amount computed by applying the Puerto Rico statutory income tax rate to the income before income taxes as a result of the following:



	Years ended December 31,
(In thousands)	2019			2018			2017
Computed income tax at statutory rates	$	43,753		$	38,674		$	23,477
Benefit of net tax-exempt interest income	(126		)	(50		)	(56		)
Differences in tax rates due to multiple jurisdictions	1,058			(678		)	2,353
Tax (benefit) expense due to a change in estimate	(84		)	467			(334		)
Effect of income subject to tax-exemption grant	(31,424		)	(26,260		)	(16,832		)
Unrecognized tax (benefit) expense	(32		)	443			(3,828		)
Other	(170		)	—			—
Income tax expense	$	12,975		$	12,596		$	4,780