3.	Income Taxes

Income taxes have been provided using the asset and liability 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 laws and rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date.

During the

nine

-month period ended

December 31, 2016,

the Company recorded income tax expense of

$152,000

which resulted in an overall effective tax rate of

24.17%

(

not

including the activity of Delphax) and -

2.99%

(including the activity of Delphax).

For the

three

-month period ended

December 31, 2016,

the Company recorded income tax expense of

$149,000.

The Company records income taxes using an estimated annual effective tax rate for interim reporting. Under the annual effective tax rate method, jurisdictions with a projected loss where

tax benefit can be recognized are excluded from the calculation of the estimated annual effective tax rate.

The individually largest factor contributing to the difference between the federal statutory rate of

34%

and the Company

’s effective tax rate for the

three

and

nine

-month period ending

December 31, 2016

was the recognition of a valuation allowance against Delphax’s pretax loss in the period. The income tax provision for the periods differs from the federal statutory rate due also to the effect of state income taxes and the federal domestic production activities deduction. Additionally, the rates for the

three

and

nine

-month periods ended

December 31, 2016

include the estimated benefit for the exclusion of income for the Company’s captive insurance company subsidiary afforded under Section

831

(b). During the

nine

-month period ended

December 31, 2015,

the Company recorded income tax expense of

$2,867,000

which resulted in an overall effective tax rate of

34.25%.

For the

three

-month period ended

December 31, 2015,

the Company recorded income tax expense of

$1,499,000.

The estimated annual effective tax rate differed from the U. S. federal statutory rate primarily due to the benefit for the Section

831

(b) income exclusion for SAIC, the benefit for the federal domestic production activities deduction, and state income tax expense.

As described in Note

effective on

November 24, 2015,

Air T, Inc. purchased interests in Delphax. With an equity investment level by the Company of approximately

38%,

Delphax is required to continue filing a separate United States corporate tax return. Furthermore, Delphax has

three

foreign subsidiaries located in Canada, France, and the United Kingdom which file tax returns in their respective jurisdictions. With few exceptions, Delphax is

longer subject to examinations by income tax authorities for tax years before

2011.

Delphax maintains a

September 30

fiscal year.

September 30, 2015

was Delphax

’s most recently ended fiscal prior to Air T, Inc.’s acquisition. For that fiscal year, Delphax and its subsidiaries had estimated foreign and domestic tax loss carryforwards of

$6.0

million and

$7.9

million, respectively. As of that date, they had estimated foreign research and development credit carryforwards of

$4.5

million, which were available to offset future income tax. The credits and net operating losses expire in varying amounts beginning in the year

2023.

Domestic alternative minimum tax credits of approximately

$325,000

were available to offset future income tax with

expiration date. Delphax has

not

yet filed income tax returns for its fiscal year ended

September 30, 2016.

Should there be an ownership change for purposes of Section

382

or any equivalent foreign tax rules, the utilization of the previously mentioned carryforwards

may

be significantly limited. Additionally, based on the anticipated liquidation of Delphax Canada,

$3.2

million of the previously disclosed foreign tax loss carryforwards,

$4.5

million of foreign research and development credit carryforwards, as well as other temporary differences such as fixed asset basis differences will likely go unutilized. See additional information regarding Delphax Canada in Note

10.

The provisions of ASC

740

require an assessment of both positive and negative evidence when determining whether it is more-likely-than-

not

that deferred tax assets will be recovered. In accounting for the Delphax acquisition on

November 24, 2015,

the Company established a full valuation allowance against Delphax

’s net deferred tax assets of approximately

$11,661,000.

The corresponding valuation allowance at

December 31, 2016

was approximately

$12,352,000.

The cumulative losses incurred by Delphax in recent years was the primary basis for the Company’s determination that a full valuation allowance should be established.

The Company has

not

recognized any deferred income tax assets or liabilities associated with differences between the financial reporting and tax reporting bases of investments in foreign subsidiaries or for outside basis differences associated with the Company

’s investments in Delphax. The Company concluded that the conditions for such recognition were

not

met as of

December 31, 2016.

The differences in question would lead to taxable or deductible amounts upon certain events, including a repatriation of foreign assets or a sale or liquidation of the respective entity. Determination of the amount of any unrecognized deferred income tax assets or liabilities on these differences is

not

practicable at this time due to the complexities of the hypothetical calculation.

As described in Note

effective on

July 18, 2016,

Air T, Inc. through its subsidiary, Contrail Aviation, acquired substantially all of the assets of the Seller for payment to the Seller of cash and equity membership units representing

21%

of the total equity of Contrail Aviation. The acquisition was treated as an asset acquisition for tax purposes, with Air T, Inc. receiving a step up on the

79%

interest deemed to be acquired. Contrail Aviation, a limited liability company, is taxed as a partnership with Air T, Inc. and the Seller recognizing on a pass-through basis the taxable income or loss of Contrail Aviation in proportion to their relative equity interests. Air T, Inc. will recognize deferred taxes as applicable on the outside basis difference of the investment. As of the acquisition date, there were

differences between the book and tax basis of the investment.