Paysign Inc

1. DESCRIPTION OF BUSINESS AND HISTORY

About Paysign, Inc.

Paysign, Inc. (the “Company,” “Paysign,” “we” or “our”) was incorporated on August 24, 1995, and trades under the symbol PAYS on The Nasdaq Stock Market LLC. Paysign is a provider of prepaid card programs, comprehensive patient affordability offerings, digital banking services and integrated payment processing designed for businesses, consumers and government institutions. Headquartered in Nevada, the Company creates customized, innovative payment solutions for clients across all industries, including pharmaceutical, healthcare, hospitality and retail.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation – The consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany balances and transactions have been eliminated.

Year End – The Company’s year-end is December 31.

Use of Estimates – The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect (i) the reported amounts of assets and liabilities, (ii) the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and (iii) the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Cash and Cash Equivalents – The Company considers all highly liquid investments purchased with an original maturity of three months or less at the time of purchase to be cash equivalents for the purposes of the statement of cash flows. The Company hadno cash equivalents at December 31, 2023 and 2022.

Restricted Cash – At December 31, 2023 and 2022, restricted cash consisted of funds held specifically for our card product and pharma programs that are contractually restricted to use. The Company includes changes in restricted cash balances with cash and cash equivalents when reconciling the beginning and ending total amounts in our consolidated statements of cash flows.

Concentrations of Credit Risk – Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents and restricted cash. The Company maintains its cash and cash equivalents and restricted cash in various bank accounts primarily with one financial institution in the United States, which at times may exceed federally insured limits. If this financial institution were to be placed into receivership, we may be unable to access the cash we have on deposit. If we are unable to access our cash and cash equivalents as needed, our financial position and ability to operate our business could be adversely affected. The Company has not experienced, nor does it anticipate, any losses with respect to such accounts. At December 31, 2023 and 2022, the Company had approximately $59,958,918 and $43,516,155 in excess of federally insured limits, respectively.

As of December 31, 2023, the Company also has a concentration of accounts receivable risk, as two pharma program customers associated with our pharma patient affordability programs each individually represent 30% and 12% of our accounts receivable balance. Two pharma program customers each individually represented 35% and 24% of our accounts receivable balance on December 31, 2022.

Fixed Assets – Fixed assets are stated at cost less accumulated depreciation. Depreciation is principally recorded using the straight-line method over the estimated useful life of the asset, which is generally 3 to 10 years. The cost of repairs and maintenance is charged to expense as incurred. Leasehold improvements are capitalized and depreciated over the shorter of the remaining lease term or the estimated useful life of the improvements. Expenditures for property betterments and renewals are capitalized. Upon sale or other disposition of a depreciable asset, cost and accumulated depreciation are removed from the accounts and any gain or loss is reflected in other income (expense).

The Company periodically evaluates whether events and circumstances have occurred that may warrant revision of the estimated useful life of fixed assets or whether the remaining balance of fixed assets should be evaluated for possible impairment. The Company uses an estimate of the related undiscounted cash flows over the remaining life of the fixed assets in measuring their recoverability.

Intangible Assets – For intangible assets, the Company recognizes an impairment loss if the carrying amount of the intangible asset is not recoverable and exceeds its fair value. The carrying amount of the intangible asset is considered not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use of the asset.

Intangible assets with a finite life are amortized on a straight-line basis over its estimated useful life, which is generally 3 to 15 years.

*Internally Developed Software Costs –*Computer software development costs are expensed as incurred, except for internal use software or website development costs that qualify for capitalization as described below, and include compensation and related expenses, costs of hardware and software, and costs incurred in developing features and functionality.

For computer software developed or obtained for internal use, costs that are incurred in the preliminary project and post implementation stages of software development are expensed as incurred. Costs incurred during the application and development stage are capitalized. Capitalized costs are amortized using the straight-line method over athree-year estimated useful life, beginning in the period in which the software is available for use.

Contract Assets – Incremental costs to obtain or fulfill a contract with a customer are capitalized. The Company determines the costs that are incremental by confirming the costs (i) are directly related to a customer’s contract, (ii) generate or enhance resources to fulfill contract performance obligations in the future, and (iii) are recoverable. Amortization is on a straight-line basis generally over three to five years, beginning when goods and services are transferred to the customer or group of customers.

Hosting Implementation – Costs to implement the cloud computing arrangements (the “hosting site”) are accounted for by following the same model as internally developed software costs. Costs that are incurred in the preliminary project and post implementation stages of hosting development are expensed when they are incurred. Costs incurred during the application and development stage are capitalized. Capitalized costs are amortized using the straight-line method over athree-year estimated useful life, beginning in the period when the hosting site is available for use.

Customer Card Funding – As of December 31, 2023 and 2022, customer card funding represents funds loaded or available to be loaded on cards for the Company’s card product programs.

Fair Value of Financial Instruments– Under applicable accounting guidance, fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.

The Company determines the fair values of our financial instruments based on the fair value hierarchy established under applicable accounting guidance which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The following describes the three-level hierarchy:

Level 1 – Unadjusted quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities.

Level 2 – Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. We currently do not have any assets or liabilities in this category.

Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the overall fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments for which the determination of fair value requires significant management judgment or estimation. The fair value for such assets and liabilities is generally determined using pricing models, market comparables, discounted cash flow methodologies or similar techniques that incorporate the assumptions a market participant would use in pricing the asset or liability. We currently do not have any assets or liabilities in this category.

Earnings Per Share – Basic earnings per share exclude any dilutive effects of options, warrants and convertible securities. Basic earnings per share is computed using the weighted-average number of common shares outstanding during the applicable period. Diluted earnings per share is computed using the weighted-average number of common and common stock equivalent shares outstanding during the period using the treasury stock method. Common stock equivalent shares are excluded from the computation if their effect on the diluted earnings per share calculation is anti-dilutive.

Income Taxes – Income tax expense is comprised of current and deferred income tax expense. Current income tax expense approximates taxes to be paid or refunded for the current period. Deferred income tax expense results from the changes in deferred tax assets and liabilities during the periods. These gross deferred tax assets and liabilities represent decreases or increases in taxes expected to be paid in the future because of future reversals of temporary differences between the basis of assets and liabilities as measured by tax laws and their basis as reported in our consolidated financial statements. The Company also recognizes deferred tax assets for tax attributes such as net operating loss carryforwards and tax credit carryforwards. Valuation allowances are recorded to reduce deferred tax assets to the amounts we conclude are more likely-than-not to be realized in the foreseeable future. While the Company has considered future taxable income and ongoing prudent and feasible tax strategies in assessing the need for the valuation allowance, if these estimates and assumptions change in the future, the Company may be required to adjust its valuation allowance.

The Company recognizes and measures its unrecognized tax benefits in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) No. 740,Income Taxes. Under that guidance, management recognizes uncertain tax positions that are “more likely than not” to be sustained if the relevant tax authority were to audit the position with full knowledge of all the relevant facts and other information, including the technical merits of those positions. For those tax positions that meet this threshold, we measure the amount of tax benefit based on the largest amount of tax benefit that has a greater than 50% chance of being realized in a final settlement with the relevant authority. The measurement of unrecognized tax benefits is adjusted when new information is available or when an event occurs that requires a change. Income tax related interest and penalties, if applicable, are accrued within income tax expense.

Revenue and Expense Recognition – In determining when and how revenue is recognized from contracts with customers, the Company performs the following five-step analysis: (i) identification of contracts with customers; (ii) determination of performance obligations; (iii) measurement of the transaction price; (iv) allocation of the transaction price to the performance obligations; and (v) recognition of revenue when (or as) the Company satisfies each performance obligation.

The Company generates revenues from plasma card programs through fees generated from cardholder fees and interchange fees. Revenues from pharma card programs are generated through card program management fees, transaction claims processing fees, interchange fees, and settlement income. Other revenues are generated through cardholder fees, interchange fees, program management fees, load fees and breakage.

Plasma and pharma card program revenues include both fixed and variable components. Cardholder fees represent an obligation to the cardholder based on a per transaction basis and are recognized at a point in time when the performance obligation is fulfilled. Card program management fees and transaction claims processing fees include an obligation to our card program sponsors and are generally recognized when earned on a monthly basis and are typically due within 30 days pursuant to the contract terms which are generally multi-year contracts. The Company uses the output method to recognize card program management fee revenue at the amount of consideration to which an entity has a right to invoice. The performance obligation is satisfied when the services are transferred to the customer which the Company determined to be monthly, as the customer simultaneously receives and consumes the benefit from the Company’s performance. Interchange fees are earned when customer-issued cards are processed through card payment networks as the nature of our promise to the customer is that we stand ready to process transactions at the customer’s requests on a daily basis over the contract term. Since the timing and quantity of transactions to be processed by us are not determinable, we view interchange fees to comprise an obligation to stand ready to process as many transactions as the customer requests. Accordingly, the promise to stand ready is accounted for as a single series performance obligation. The Company uses the right to invoice practical expedient and recognizes interchange fee revenue concurrent with the processing of card transactions. Interchange fees are settled in accordance with the card payment network terms and conditions, which is typically within a few days.

We refer to the portion of the dollar value of prepaid-stored value cards that consumers do not ultimately redeem as breakage. In certain card programs where we hold the cardholder funds, where we expect to be entitled to a breakage amount, we recognize revenue using estimated breakage rates ratably over the estimated card life, provided that a significant reversal of the amount of breakage revenue recognized is not probable and record adjustments to such estimates when redemption is remote or we are legally defeased of the obligation, if applicable. We utilize a third party to estimate breakage rates based on historical redemption patterns, market-specific trends, escheatment rules and existing economic conditions for each program. We have adopted Accounting Standards Update (“ASU”) 2016-04,Liabilities*—Extinguishment of Liabilities (Subtopic 405-20): Recognition of Breakage for Certain Prepaid Stored-Value Cards*for the recognition of such breakage revenue. Breakage revenue is recorded in other revenue on the consolidated statements of operations and was $74 thousand and $0 in fiscal 2023 and fiscal 2022, respectively.

The Company utilizes the remote method of revenue recognition for settlement income whereby the unspent balances will be recognized as revenue at the expiration of the cards and the respective program. This has historically been associated with the pharma prepaid business which ended in 2022. The Company records all revenue on a gross basis since it is the primary obligor and establishes the price in the contract arrangement with its customers. The Company is currently under no obligation to refund any fees, and the Company does not currently have any obligations for disputed claim settlements. Given the nature of the Company’s services and contracts, generally it has no contract assets.

Cost of revenues is comprised of transaction processing fees, data connectivity and data center expenses, network fees, bank fees, card production and postage costs, customer service, program management, application integration setup, and sales and commission expense.

Operating Leases – The Company determines if a contract is or contains a leasing element at contract inception or the date in which a modification of an existing contract occurs. In order for a contract to be considered a lease, the contract must transfer the right to control the use of an identified asset for a period of time in exchange for consideration. Control is determined to have occurred if the lessee has the right to (i) obtain substantially all of the economic benefits from the use of the identified asset throughout the period of use and (ii) direct the use of the identified asset.

In determining the present value of lease payments at lease commencement date, the Company utilizes its incremental borrowing rate based on the information available, unless the rate implicit in the lease is readily determinable. Certain lease contracts include obligations to pay for other services, such as maintenance, we account for these other services as a non-lease component of the lease and not considered when accounting for the lease. The liability for operating leases is based on the present value of future lease payments. Operating lease expenses are recorded as rent expense, which is included within selling, general and administrative expenses within the consolidated statements of operations and presented as operating cash outflows within the consolidated statements of cash flows.

Leases with an initial term of 12 months or less are not recorded on the balance sheet, with lease expense for these leases recognized on a straight-line basis over the lease term.

Stock-Based Compensation – The Company recognizes compensation expense for all restricted stock awards and stock options. The fair value of restricted stock awards is measured using the grant date trading price of our stock. The fair value of stock options is estimated at the grant date using the Black-Scholes option-pricing model, and the portion that is ultimately expected to vest is recognized as compensation cost over the requisite service period. We have elected to recognize compensation expense for all options with graded vesting on a straight-line basis over the vesting period of the entire option. The determination of fair value using the Black-Scholes pricing model is affected by our stock price as well as assumptions regarding a number of complex and subjective variables, including expected stock price volatility and the risk-free interest rate.

Advertising Costs – Advertising costs incurred in the normal course of operations are expensed as incurred. During the years ended December 31, 2023 and 2022, the Company expensed $470,936 and $603,213, respectively, included in selling, general and administrative expense.

Recently Adopted Accounting Pronouncements – In June 2016, the FASB issued ASU No. 2016-13,*Financial Instruments–Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments,*which provides updated guidance on how an entity should measure credit losses on all financial instruments carried at amortized cost (including loans held for investment and held-to-maturity debt securities, as well as trade receivables, reinsurance recoverables, and receivables that relate to repurchase agreements and securities lending agreements), a lessor’s net investments in leases, and off-balance sheet credit exposures not accounted for as insurance or as derivatives, including loan commitments, standby letters of credit, and financial guarantees. Subsequently, in November 2018 the FASB issued ASU No. 2018-19,*Codification Improvements to Topic 326, Financial Instruments–Credit Losses,*which clarified that receivables arising from operating leases are not within the scope of Subtopic 326-20, but instead should be accounted for in accordance with Topic 842,Leases. In March 2022, the FASB issued ASU No. 2022-02,Financial Instruments—Credit Losses: Troubled Debt Restructurings and Vintage Disclosureswhich clarified accounting treatment required for trouble debt restructurings by creditors and enhanced disclosures for write-offs. The new standard and related amendments are effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. We adopted this guidance on the effective date. We estimate credit losses using the loss-rate approach on our trade receivables; however, there was no material impact of this adoption on the Company’s consolidated financial position, results of operations, or cash flows.

Recently Issued Accounting Pronouncement Pending Adoption – In December 2023, the FASB issued ASU 2023-09, “Income Taxes – Improvements to Income Tax Disclosures”, requiring enhancements and further transparency to certain income tax disclosures, most notably the tax rate reconciliation and income taxes paid. This ASU is effective for fiscal years beginning after December 15, 2024 on a prospective basis and retrospective application is permitted. We are currently evaluating the impact of the adoption of this standard.

3. FIXED ASSETS, NET

Fixed assets consist of the following:

Depreciation expense for the years ended December 31, 2023 and 2022 was $428,199 and $492,875, respectively.

4. INTANGIBLE ASSETS, NET

Intangible assets consist of the following:

Amortization expense for the years ended December 31, 2023 and 2022 was $3,598,379 and $2,416,737, respectively.

Estimated future amortization expense is as follows:

5. LEASE

The Company entered into an operating lease for an office space which became effective in June 2020. The lease term is 10 years from the effective date and allows fortwo optional extensions of five years each. The two optional extensions are not recognized as part of the right-of-use asset or lease liability since it is not reasonably certain that the Company will extend this lease. As of December 31, 2023, the remaining lease term was 6.4 years and the discount rate was 6%.

Operating lease cost included in selling, general and administrative expenses was $757,435 and $736,038 for the years ended December 31, 2023 and 2022, respectively. Cash paid for operating lease was $571,968 and $571,968 for the years ended December 31, 2023 and 2022, respectively.

The following is the lease maturity analysis of our operating lease as of December 31, 2023:

Twelve months ending December 31,

6. CUSTOMER CARD FUNDING LIABILITY

The Company issues prepaid cards with various provisions for cardholder fees or expiration. Revenue generated from cardholder transactions and interchange fees are recognized when the Company’s performance obligation is fulfilled. Unspent balances left on pharma cards are recognized as settlement income at the expiration of the cards and the program. Contract liabilities related to prepaid cards represent funds on card and client funds held to be loaded to card before the amounts are ultimately spent by the cardholders or recognized as revenue by the Company. Contract liabilities related to prepaid cards are reported as customer card funding liability on the condensed consolidated balance sheet.

The opening and closing balances of the Company’s liabilities are as follows:

The amount of revenue recognized during the years ended December 31, 2023 and 2022 that was included in the opening liability for prepaid cards was $2,020,224 and $1,485,005, respectively.

7. COMMON STOCK

At December 31, 2023, the Company’s authorized capital stock was 150,000,000 shares of common stock, par value $0.001 per share, and 25,000,000 shares of preferred stock, par value $0.001 per share. On that date, the Company had issued 53,452,382 shares of common stock and 52,754,374 shares of common stock outstanding, and no shares of preferred stock outstanding.

In 2019, the Company’s stockholders approved the 3Pea International, Inc. 2018 Incentive Compensation Plan (the “2018 Plan”), which was approved by the Board on July 18, 2018. The 2018 Plan permits the Company to issue awards or options to the officers, directors, employees, consultants and other persons who provide services to our Company or any related entity. Pursuant to the 2018 Plan,5,000,000 shares of the Company’s common stock are reserved for issuance. Any awards or options that are not settled in shares of common stock are not counted against the limit. Stock options granted under the 2018 Plan generally vest over four or five years and expire in 10 years. Stock awards granted under the 2018 Plan generally vest over four or five years. In general, if an employee is terminated, any unvested options or awards as of the date of termination will be forfeited. As of December 31, 2023, there were 100,953 shares available for future grants under the 2018 Plan.

In 2023, the Company’s stockholders approved the Paysign Inc. Equity Incentive Compensation Plan (the “2023 Plan”), which was adopted by the Board on March 17, 2023. The 2023 Plan permits the Company to issue awards or options to the officers, directors, employees, consultants and other persons who provide services to our Company or any related entity. Pursuant to the 2023 Plan,5,000,000 shares of the Company’s common stock are reserved for issuance. Any awards or options that are not settled in shares of common stock are not counted against the limit. Stock options granted under the 2023 Plan generally vest over four or five years and expire in 10 years. Stock awards granted under the 2023 Plan generally vest over four or five years. In general, if an employee is terminated, any unvested options or awards as of the date of termination will be forfeited. As of December 31, 2023, there were 5,000,000 shares available for future grants under the 2023 Plan.

The Company issues new shares of common stock upon exercise of stock options or vesting stock awards.

Stock-based compensation expense related to Company grants for the years ended December 31, 2023 and 2022 was $2,853,643 and $2,277,717, respectively, and is included in selling, general and administrative expense. As of December 31, 2023, the Company’s unrecognized stock-based compensation expense related to stock options and stock awards was $37,290 and $6,176,942, respectively, which are expected to be recognized over a weighted-average period of.23 year for stock options and 3.10 years for stock awards. As of December 31, 2022, the Company’s unrecognized stock-based compensation expense related to stock options and stock awards was $269,245 and $6,955,350, respectively, which are expected to be recognized over a weighted-average period of 1.08 year for stock options and 3.83 years for stock awards.

2023 Transactions – During the year ended December 31, 2023, the Company issued 802,000 shares of common stock for vested stock awards and the exercise of stock options. The Company received proceeds of $9,600 for the exercise of stock options.

During the year ended December 31, 2023, the Company repurchased 394,558 shares of its common stock at a cost of $1,127,884 or weighted average price of $2.86 per share, respectively.

The Company also granted 670,000 restricted stock awards during the year ended December 31, 2023. For the stock awards granted, the weighted average grant date fair value was $2.91 and vest over a period of two months to five years.

2022 Transactions – During the year ended December 31, 2022, the Company issued 555,000 shares of common stock for vested stock awards. No stock options were exercised.

The Company also granted 2,545,000 restricted stock awards during the year ended December 31, 2022. For the stock awards granted, the weighted average grant date fair value was $1.83 and vest over a period of one to five years.

Stock Options

A summary of stock options activity for the years ended December 31, 2023 and 2022 is presented as follows:

A summary of unvested options activity for the years ended December 31, 2023 and 2022 was as follows:

The weighted average grant date fair value of options granted and the total intrinsic value of options exercised for the years ended December 31, 2023 and 2022 is as follows:

The Company uses the Black-Scholes option pricing model to estimate the fair value and compensation cost associated with employee stock options, which requires the consideration of historical employee exercise behavior, the volatility of the Company’s stock price, the weighted-average risk-free interest rate and the weighted-average expected life of the options. Forfeitures are included when they are incurred. Any changes in these assumptions may materially affect the estimated fair value of the share-based award. There were no options granted during the years ended December 31, 2023 and 2022.

Stock Awards

A summary of stock awards activity for the years ended December 31, 2023 and 2022 was as follows:

8. BASIC AND FULLY DILUTED NET INCOME PER COMMON SHARE

The following table sets forth the computation of basic and fully diluted net income per common share for the years ended December 31, 2023 and 2022:

9. COMMITMENTS AND CONTINGENCIES

Pending or Threatened Litigation –From time to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business. However, litigation is subject to inherent uncertainties, and an adverse result in these or other matters may arise from time to time that may harm our business.

The Company has been named as a defendant in three securities class action complaints filed in the United States District Court for the District of Nevada: Yilan Shi v. Paysign, Inc. et al., filed on March 19, 2020 (“Shi”), Lorna Chase v. Paysign, Inc. et al., filed on March 25, 2020 (“Chase”), and Smith & Duvall v. Paysign, Inc. et al., filed on April 2, 2020 (collectively, the “Complaints” or “Securities Class Action”). Smith & Duvall v. Paysign, Inc. et al. was voluntarily dismissed on May 21, 2020. On May 18, 2020, the Shi plaintiffs and another entity called the Paysign Investor Group each filed a motion to consolidate the remaining Shi and Chase actions and to be appointed lead plaintiff. The Complaints are putative class actions filed on behalf of a class of persons who acquired the Company’s common stock from March 19, 2019 through March 31, 2020, inclusive. The Complaints generally allege that the Company, Mark R. Newcomer, and Mark Attinger violated Section 10(b) of the Exchange Act, and that Messrs. Newcomer and Attinger violated Section 20(a) of the Exchange Act, by making materially false or misleading statements, or failing to disclose material facts, regarding the Company’s internal control over financial reporting and its financial statements. The Complaints seek class action certification, compensatory damages, and attorney’s fees and costs. On December 2, 2020, the Court consolidated Shi and Chase as In re Paysign, Inc. Securities Litigation and appointed the Paysign Investor Group as lead plaintiff. On January 12, 2021, Plaintiffs filed an Amended Complaint in the consolidated action. Defendants filed a Motion to Dismiss the Amended Complaint on March 15, 2021. On February 9, 2023, the Court granted in part and denied in part Defendants’ Motion to Dismiss. On May 22, 2023, Defendants filed an Answer to the Amended Complaint. On December 15, 2023, the parties agreed in principle to a proposed settlement of the Securities Class Action and Plaintiffs filed a Consented Motion for Preliminary Approval of Settlement. On January 4, 2024, the Court preliminarily approved a settlement in the amount of $3,750,000, the entirety of which came from the Company’s directors-and-officers insurance policy, for the referenced class of purchasers, and scheduled a final approval hearing for April 17, 2024.

The Company has also been named as a nominal defendant in four stockholder derivative actions currently pending in the United States District Court for the District of Nevada. The first-filed derivative action is entitled Andrzej Toczek, derivatively on behalf of Paysign, Inc. v. Mark R. Newcomer, et al. and was filed on September 17, 2020. This action alleges violations of Section 14(a) of the Exchange Act, breach of fiduciary duty, unjust enrichment, and waste, largely in connection with the failure to correct information technology controls over financial reporting alleged in the Securities Class Action, thereby causing the Company to face exposure in the Securities Class Action. The complaint also alleges insider trading violations against certain individual defendants. The second-filed derivative action is entitled John K. Gray, derivatively on behalf of Paysign, Inc. v. Mark Attinger, et al. and was filed on May 9, 2022. This action involves the same alleged conduct raised in the Toczek action and asserts claims for breach of fiduciary duty in connection with financial reporting, breach of fiduciary duty in connection with alleged insider trading against certain individual defendants, and unjust enrichment. On June 3, 2022, the Court approved a stipulation staying the action until the Court in the consolidated Securities Class Action issued a ruling on the Motion to Dismiss. On May 10, 2023, the Toczek and Gray actions were consolidated.

The Company has also been named as a nominal defendant in a third stockholder derivative action initially filed in state court in Clark County, Nevada, on October 2, 2023, entitled Simone Blanchette, derivatively on behalf of Paysign, Inc. v. Mark Newcomer, et al, which the defendants subsequently removed to federal district court in Nevada pursuant to a Notice of Removal filed on October 10, 2023. That complaint makes substantially the same allegations as made in the consolidated Toczek and Gray actions, and also contains a claim that the individual defendants violated Section 10(b) and Rule 10b-5 promulgated thereunder. On December 7, 2023, the parties requested that the action be stayed for sixty days due to the settlement negotiations in the consolidated Toczek and Gray actions, and the Court granted the sixty-day stay on December 11, 2023. On January 29, 2024, the parties agreed to an additional sixty-day extension, to March 29, 2024, and the Court entered an Order thereon on February 2, 2024. On or before the end of that period, the parties are to provide the Court with an updated joint status report or inform the Court if the settlement of the consolidated derivative action does not proceed.

The Company has also been named as a nominal defendant in a fourth stockholder derivative action in the United States District Court for the District of Nevada, filed on December 27, 2023, entitled Mo Jeewa, derivatively on behalf of Paysign, Inc. v. Mark R. Newcomer, et al. That complaint makes substantially the same allegations as made in the consolidated Toczek and Gray actions and the Blanchette action discussed above, and alleges breach of fiduciary duty and unjust enrichment.

If the derivative cases do not settle, it is the Company’s intention to file motions to dismiss. As of the date of this filing, the Company cannot give any meaningful estimate of likely outcome or damages.

10. RELATED PARTY

A former member of our Board who served through December 31, 2022 is also a partner in a law firm that the Company engages for services to review regulatory filings and for various other legal matters. During the year ended December 31, 2023, the Company hadno related party expenses. During the year ended December 31, 2022, the Company incurred legal expenses of $126,628, with the related party law firm.

11. RETIREMENT PLAN

The Company has a defined contribution 401(k) plan that covers all employees who meet certain age and length of service requirements and allows an employer contribution of up to 50% of the first 3% of each participating employee’s eligible compensation contributed to the plan and 50% of the next two percent of each participating employee’s eligible compensation. Participants are 100% vested in these matching contributions when they are made. Eligible employees may elect to defer pre-tax contributions regulated under Section 401(k) of the Internal Revenue Code. Employer matching expenses were $273,507 and $165,953 for the years ended December 31, 2023 and 2022, respectively.

12. INCOME TAXES

The income tax (benefit) provision on the statements of operations was comprised of the following for the years ended December 31:

For the years ended December 31, 2023 and 2022, the reconciliation of the federal statutory tax rate to the benefit rate for income taxes is as follows:

Deferred tax assets and liabilities are comprised of the following at December 31:

As of December 31, 2023, the Company has gross federal net operating loss carryforwards of $12.2 million, gross state net operating loss carryforwards of $4.0 million, and gross Mexico net operating loss carryforwards of $37 thousand. The Company’s federal net operating losses can be carried forward indefinitely. The Company’s state net operating losses have 15 year to indefinite carryforward periods and begin to expire in 2035. The Company’s Mexico net operating losses have 10 year carryforward periods and begin to expire in 2032.

Pursuant to Sections 382 and 383 of the Internal Revenue Code ("IRC"), federal and state tax laws impose significant restrictions on the utilization of net operating loss and other tax carryforwards in the event of a change in ownership of the Company. The Company does not expect IRC Sections 382 and 383 to significantly impact the utilization of its net operating losses and other tax carryforwards.

Deferred taxes arise from temporary differences in the recognition of certain expenses for tax and financial reporting purposes. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. At December 31, 2020, management determined that it’s more-likely-than-not that the Company’s net deferred tax assets would not be realized in the near future and placed a full valuation allowance (“VA”) on the deferred tax assets. During the year the Company reevaluated its VA position and determined that as a result of its three-year cumulative income position, utilization of its tax attributes for the previous two years, and forecasts of net profit in future years, a full release of its federal valuation allowance, and state valuation allowance, except for the valuation allowance related to its Connecticut net operating losses, is appropriate. In addition, to its federal and state valuation allowances, the Company established a valuation allowance against its Mexico net operating losses. The Company’s valuation allowance represents the amount of tax benefits that are likely to not be realized. The net change in the valuation allowance from December 31, 2022 was $4.6 million.

A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:

As of December 31, 2023 and 2022, the Company has no accrual for interest and penalties related to its unrecognized tax benefits. The balance of the unrecognized tax benefits as of December 31, 2023 are included in the deferred tax asset, net. Included in the balance of unrecognized tax benefits at December 31, 2023 is $442,000 of tax benefits that, if recognized would impact the effective tax rate. There are no positions for which it is reasonably possible that the uncertain tax benefit will significantly increase or decrease within 12 months. The Company files income tax returns in the United States and various state jurisdictions. Beginning in 2022, the Company also files income tax returns in Mexico. With the exception of tax attributes created in prior years that may potentially be adjusted, the federal statute of limitations remains open for the 2020 tax year to present, the state statutes of limitations remain open for the 2020 tax year to present, and the foreign statute of limitations remains open for the 2022 tax year to present.

Under the provisions of the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) signed into law in 2020 and the subsequent extension of the CARES Act through September 30, 2021, the Company was eligible for a refundable employee retention credit subject to certain criteria. The Company has elected an accounting policy to recognize the government assistance when it is probable that the Company is eligible to receive the assistance and present the credit as a reduction of the related expense. During the years ended December 31, 2023 and 2022, the Company recorded $292,430 and $459,755, respectively, related to the employee retention credit included as a reduction of payroll expense within selling, general and administrative expenses in the consolidated statements of operations. As of December 31, 2023 and 2022 the Company has filed for refunds and recorded $1,129,164 and $1,296,489, respectively, in other receivables on the consolidated balance sheet.

13. SUBSEQUENT EVENTS

The Company discloses subsequent events that provide evidence about conditions that did not change the consolidated financial statements at the balance sheet date but have a significant effect on the financial statements at the time of occurrence or on future operations of the company.

On December 31, 2023, the Company had uninsured deposits at our financial institution in the amount of $59,958,918. In February of 2024, we initiated a program called deposit swapping with our financial institution, whereby the financial institution utilizes a third party who is participating in reciprocal deposit networks as an alternative way to offer us full Federal Deposit Insurance Corporation (“FDIC”) insurance on deposits over $250,000. Under this program, deposit networks divide uninsured deposits into smaller units and distribute these monies among participating banks in the network, whereby the monies are fully FDIC insured.