7.  Income Taxes

Income taxes are accounted for under 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 and operating loss and tax credit carryforwards.  In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of its deferred tax assets will not be realized.

The Company’s effective income tax rate of 34.2% for the twenty-six weeks ended July 28, 2012 was lower than the 38.0% rate for the twenty-six weeks ended July 30, 2011, because a valuation allowance of $0.7 million was established in the second quarter of fiscal 2011 when the Company concluded that its ability to utilize certain tax credits in one state was no longer more likely than not.  The effect of the fiscal 2011 valuation allowance on the tax rate comparison between years was partially offset by the effect on fiscal 2012 of the expiration of the Work Opportunity Tax Credit (WOTC).  It is possible that Congress will retroactively reinstate the WOTC back to the beginning of 2012; however, due to the uncertainty involved, no WOTC benefits were recorded in the twenty-six weeks ended July 28, 2012.  Such benefits would be recorded if and when the legislation is enacted.