Income Taxes

12 Months Ended

Dec. 31, 2016

Note 11: Income Taxes

Income (loss) from operations before provision (benefit) for income taxes consisted of:

	Years Ended December 31,
In millions	2016		2015		2014
Domestic	$	(362)	$	303	$	574
Foreign		23		(14)		67
Income (loss) before income taxes	$	(339)	$	289	$	641

The Company files a consolidated tax return that includes all of its U.S. subsidiaries and foreign branches. The Company also files tax returns in the United Kingdom, Spain, and various state and local jurisdictions. Income tax expense (benefit) on income (loss) and shareholders’ equity consisted of:

		Years Ended December 31,
In millions		2016		2015		2014
Current taxes:
	Federal	$	4	$	-	$	-
	State		1		1		10
	Foreign		-		2		12
Deferred taxes:
	Federal		(8)		97		48
	Foreign		2		9		2
Provision (benefit) for income taxes			(1)		109		72
Income taxes charged (credited) to shareholders' equity related to:
	Change in unrealized gains (losses) on AFS securities		8		(30)		89
	Change in AFS securities with OTTI		5		-		(29)
	Change in foreign currency translation		1		(14)		(13)
	Share-based compensation		-		9		2
Total income taxes charged (credited) to shareholders' equity			14		(35)		49
Total effect of income taxes		$	13	$	74	$	121

A reconciliation of the U.S. federal statutory tax rate of 35% to the Company’s effective income tax rate for the years ended December 31, 2016, 2015 and 2014 is presented in the following table:

		Years Ended December 31,
		2016	2015	2014
Federal income tax computed at the statutory rate		35.0%	35.0%	35.0%
Increase (reduction) in taxes resulting from:
	Mark-to-market on warrants	(1.5)%	(1.2)%	(1.6)%
	Change in valuation allowance	(2.2)%	0.0%	(13.5)%
	Change in uncertain tax positions	0.0%	0.0%	(9.1)%
	Non deductible compensation	(1.4)%	2.7%	0.0%
	Deferred inventory adjustments	3.6%	0.0%	0.0%
	Basis difference in foreign subsidiary	(33.0)%	0.0%	0.0%
	Other	(0.3)%	1.2%	0.4%
Effective tax rate		0.2%	37.7%	11.2%

Deferred Tax Asset, Net of Valuation Allowance

The Company recognizes deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Deferred tax assets and liabilities are determined based on the differences between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on tax assets and liabilities is recognized in income in the period that includes the enactment date.

The tax effects of temporary differences that give rise to deferred tax assets and liabilities as of December 31, 2016 and 2015 are presented in the following table:

		As of December 31,
In millions		2016		2015
Deferred tax liabilities:
	Unearned premium revenue	$	143	$	159
	Deferral of cancellation of indebtedness income		46		68
	Deferred acquisition costs		42		56
	Net gains on financial instruments at fair value and foreign exchange		4		-
	Partnership basis difference		36		30
	Basis difference in foreign subsidiaries		64		40
	Other		23		86
Total gross deferred tax liabilities			358		439

Deferred tax assets:
	Compensation and employee benefits		19		19
	Accrued interest		177		137
	Loss and loss adjustment expense reserves		142		119
	Net operating loss		929		963
	Foreign tax credits		7		9
	Net unrealized losses on insured derivatives		29		35
	Net losses on financial instruments at fair value and foreign exchange		-		45
	Net unrealized losses in accumulated other comprehensive income		6		15
	Alternative minimum tax credit carryforward		26		22
	Net deferred taxes on VIEs		-		14
Total gross deferred tax assets			1,335		1,378
	Valuation allowance		7		-
Net deferred tax asset		$	970	$	939

The Company has come to the conclusion that it is more likely than not that its net deferred tax asset, other than that portion of the asset related to foreign tax credits which have been claimed on its prior years’ tax returns and are being carried forward, will be fully realized after weighing all positive and negative evidence available as required under GAAP. The positive evidence that was considered included the cumulative operating income the Company has earned over the last three years, and the significant unearned premium income to be included in taxable income. The positive evidence outweighs any negative evidence that exists. As such, the Company believes that no valuation allowance is necessary in connection with this deferred tax asset. The Company will continue to analyze the need for a valuation allowance on a quarterly basis.

However, as the prediction of adequate future taxable income and foreign sourced income within the carryforward period is not assured, the Company has concluded that a valuation allowance for the foreign tax credits being carried forward is appropriate. As of December 31, 2016, the valuation allowance was $7 million.

It is also possible that some or all of the Company’s foreign tax credits expected to offset U.S. taxes on the sale of MBIA UK could ultimately expire unused. Therefore, a valuation allowance to reduce the Company’s U.S. deferred tax asset related to foreign tax credits may be required at the time the sale of MBIA UK is completed.

In accordance with accounting guidance for income taxes, the netting of deferred taxes between different taxpaying jurisdictions is not permitted. As of December 31, 2015, there was also a non-U.S. deferred tax liability of $12 million included in “Other liabilities” on the Company’s consolidated balance sheet.

Due to held for sale accounting of MBIA UK as of December 31, 2016, $36 million of deferred tax liabilities has been reported within “Liabilities held for sale” on MBIA’s consolidated balance sheet.

Tax Sharing Agreement

The Company has a tax sharing agreement among its members effective January 1, 1987. The agreement was amended and restated effective September 8, 2011 to change the method of calculating each domestic insurer’s tax liability to the method permitted by paragraph 3(a) of Department Circular Letter #33 (1979). The agreement was submitted to the NYSDFS for review and non-disapproval pursuant to Section 1505 of the New York Insurance Law. Refer to “Note 2: Significant Accounting Policies” for further discussion on the Company’s tax sharing agreement.

Treatment of Undistributed Earnings of Certain Foreign Subsidiaries—“Accounting for Income Taxes—Special Areas”

As of December 31, 2015, U.S. deferred income taxes were provided on the differences in the book and tax basis in the Company’s carrying value of MBIA UK and certain other entities on the basis that foreign dividends would be remitted over time as the Company no longer intended to permanently reinvest these earnings. Due to the held for sale accounting for MBIA UK as of December 31, 2016, the Company has revised its calculation of deferred income taxes with respect to the differences in book and tax basis. The revision to deferred taxes related to MBIA UK is due to a change in assertion of MBIA UK paying future dividends over time to calculating deferred taxes on the basis of the sale of MBIA UK.

Accounting for Uncertainty in Income Taxes

The Company’s policy is to record and disclose any change in unrecognized tax benefits (“UTB”) and related interest and/or penalties to income tax in the consolidated statements of operations. The Company includes interest as a component of income tax expense. As of December 31, 2016 and 2015, the Company had no UTB.

In millions

Unrecognized tax benefit as of January 1, 2014		$	65
The gross amount of the increase/(decrease) in the UTB as a result of tax positions taken:
	During a prior year		(61)
The amounts of decreases in the UTB as a result of the applicable statute of limitations			-
The amounts of decreases in the UTB related to settlements with taxing authorities			(4)
Unrecognized tax benefit as of December 31, 2014		$	-
The gross amount of the increase/(decrease) in the UTB as a result of tax positions taken:
	During a prior year		-
	During the current year		-
The amounts of decreases in the UTB related to settlements with taxing authorities			-
Unrecognized tax benefit as of December 31, 2015		$	-
The gross amount of the increase/(decrease) in the UTB as a result of tax positions taken:
	During the current year		-
The amounts of decreases in the UTB related to settlements with taxing authorities			-
The reduction in the UTB as a result of the applicable statute of limitations			-
Unrecognized tax benefit as of December 31, 2016		$	-

Federal income tax returns through 2011 have been examined or surveyed.

As of December 31, 2016, the Company’s net operating loss (“NOL”) is approximately $2.7 billion. The NOL will expire between tax years 2029 through 2034. As of December 31, 2016, the Company has a foreign tax credit carryforward of $7 million, which will expire between tax years 2019 through 2026. As of December 31, 2016, the Company has an alternative minimum tax credit carryforward of $26 million, which does not expire.