Note 11—INCOME TAXES

In 2012, 2011, and 2010, we recorded net tax provisions of $428 million, $291 million, and $352 million. A majority of this provision is non-cash. We have tax benefits relating to excess stock-based compensation that are being utilized to reduce our U.S. taxable income. As such, cash taxes paid, net of refunds, were $112 million, $33 million, and $75 million for 2012, 2011, and 2010.

 

The components of the provision for income taxes, net are as follows (in millions):

 

		Year Ended December 31,
		2012				2011				2010
Current taxes:
U.S. and state		$	562			$	103			$	311
International			131				52				37
Current taxes			693				155				348
Deferred taxes:
U.S. and state			(156	)			157				1
International			(109	)			(21	)			3
Deferred taxes			(265	)			136				4
Provision for income taxes, net		$	428			$	291			$	352

U.S. and international components of income before income taxes are as follows (in millions):

 

		Year Ended December 31,
		2012				2011				2010
U.S.		$	882			$	658			$	886
International			(338	)			276				611
Income before income taxes		$	544			$	934			$	1,497

The items accounting for differences between income taxes computed at the federal statutory rate and the provision recorded for income taxes are as follows:

 

		Year Ended December 31,
		2012				2011				2010
Federal statutory rate			35.0	%			35.0	%			35.0	%
Effect of:
Impact of foreign tax differential			31.5				(8.4	)			(12.7	)
State taxes, net of federal benefits			0.2				1.5				1.5
Tax credits			(4.4	)			(3.2	)			(1.1	)
Nondeductible stock-based compensation			11.1				4.1				1.6
Other, net			5.2				2.2				(0.8	)
Total			78.6	%			31.2	%			23.5	%

Our effective tax rate in 2012, 2011, and 2010 was significantly affected by two factors: the favorable impact of earnings in lower tax rate jurisdictions and the adverse effect of losses incurred in certain foreign jurisdictions for which we may not realize a tax benefit. Income earned in lower tax jurisdictions is primarily related to our European operations, which are headquartered in Luxembourg. Losses incurred in foreign jurisdictions for which we may not realize a tax benefit, primarily generated by subsidiaries located outside of Europe, reduce our pre-tax income without a corresponding reduction in our tax expense, and therefore increase our effective tax rate. We have recorded a valuation allowance against the related deferred tax assets.

In 2012, the adverse impact of such foreign jurisdiction losses was partially offset by the favorable impact of earnings in lower tax rate jurisdictions. Additionally, our effective tax rate in 2012 was more volatile as compared to prior years due to the lower level of pre-tax income generated during the year, relative to our tax expense. For example, the impact of non-deductible expenses on our effective tax rate was greater as a result of our lower pre-tax income. Our effective tax rate in 2012 was also adversely impacted by acquisitions (including integrations) and investments, audit developments, nondeductible expenses, and changes in tax law such as the expiration of the U.S. federal research and development credit at the end of 2011. These items collectively caused our annual effective tax rate to be higher than both the 35% U.S. federal statutory rate and our effective tax rates in 2011 and 2010.

In 2011 and 2010, the favorable impact of earnings in lower tax rate jurisdictions offset the adverse impact of foreign jurisdiction losses and as a result, the effective tax rate in both years was lower than the 35% U.S. federal statutory rate.

Deferred income tax assets and liabilities are as follows (in millions):

 

		Year Ended December  31,
		2012				2011
Deferred tax assets:
Net operating losses U.S. - Federal/States (1)		$	47			$	43
Net operating losses foreign (2)			289				113
Accrued liabilities, reserves, & other expenses			482				412
Stock-based compensation			281				178
Deferred revenue			129				41
Assets held for investment			129				64
Other items			133				98
Tax credits (3)			12				7
Total gross deferred tax assets			1,502				956
Less valuation allowance (4)			(415	)			(227	)
Deferred tax assets, net of valuation allowance			1,087				729
Deferred tax liabilities:
Depreciation & amortization			(698	)			(572	)
Acquisition related intangible assets			(274	)			(231	)
Other items			(29	)			(21	)
Net deferred tax assets (liabilities), net of valuation allowance		$	86			$	(95	)

 

(1)	Excluding $9 million and $116 million of deferred tax assets at December 31, 2012 and 2011, related to net operating losses that result from excess stock-based compensation and for which any benefit realized will be recorded to stockholders’ equity.

(2)	Excluding $2 million and $13 million of deferred tax assets at December 31, 2012 and 2011, related to net operating losses that result from excess stock-based compensation and for which any benefit realized will be recorded to stockholders’ equity.

(3)	Excluding $146 million and $278 million of deferred tax assets at December 31, 2012 and 2011, related to tax credits that result from excess stock-based compensation and for which any benefit realized will be recorded to stockholders’ equity.

(4)	Relates primarily to deferred tax assets that would only be realizable upon the generation of future capital gains and net income in certain foreign taxing jurisdictions.

As of December 31, 2012, our federal, foreign, and state net operating loss carryforwards for income tax purposes were approximately $89 million, $1.1 billion, and $606 million. The federal and state net operating loss carryforwards are subject to limitations under Section 382 of the Internal Revenue Code and applicable state tax law. If not utilized, a portion of the federal, foreign, and state net operating loss carryforwards will begin to expire in 2026, 2013, and 2013, respectively. As of December 31, 2012, our tax credit carryforwards for income tax purposes were approximately $158 million. If not utilized, a portion of the tax credit carryforwards will begin to expire in 2020.

 

The company’s consolidated balance sheet reflects tax credit carryforwards excluding amounts resulting from excess stock-based compensation. Accordingly, such credits from excess stock-based compensation are accounted for as an increase to additional paid-in capital if and when realized through a reduction in income taxes payable.

Tax Contingencies

We are subject to income taxes in the U.S. and numerous foreign jurisdictions. Significant judgment is required in evaluating our tax positions and determining our provision for income taxes. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. We establish reserves for tax-related uncertainties based on estimates of whether, and the extent to which, additional taxes will be due. These reserves are established when we believe that certain positions might be challenged despite our belief that our tax return positions are fully supportable. We adjust these reserves in light of changing facts and circumstances, such as the outcome of tax audits. The provision for income taxes includes the impact of reserve provisions and changes to reserves that are considered appropriate.

The reconciliation of our tax contingencies is as follows (in millions):

 

		December 31,
		2012				2011				2010
Gross tax contingencies – January 1		$	229			$	213			$	181
Gross increases to tax positions in prior periods			91				22				31
Gross decreases to tax positions in prior periods			(47	)			(3	)			(1	)
Gross increases to current period tax positions			26				4				5
Audit settlements paid			(4	)			(1	)			(3	)
Lapse of statute of limitations			(1	)			(6	)			—
Gross tax contingencies – December 31 (1)		$	294			$	229			$	213

 

(1)	As of December 31, 2012, we had $294 million of tax contingencies all of which, if fully recognized, would decrease our effective tax rate.

As of December 31, 2012 and 2011, we had accrued interest and penalties, net of federal income tax benefit, related to tax contingencies of $25 million and $24 million. Interest and penalties, net of federal income tax benefit, recognized for the year ended December 31, 2012, 2011, and 2010 was $1 million, $3 million, and $4 million.

We are under examination, or may be subject to examination, by the Internal Revenue Service (“IRS”) for the calendar year 2005 or thereafter. These examinations may lead to ordinary course adjustments or proposed adjustments to our taxes or our net operating losses. As previously disclosed, we have received Notices of Proposed Adjustment from the IRS for the 2005 and 2006 calendar years relating to transfer pricing with our foreign subsidiaries. The IRS is seeking to increase our U.S. taxable income by an amount that would result in additional federal tax over a seven year period beginning in 2005, totaling approximately $1.5 billion, subject to interest. To date, we have not resolved this matter administratively and, in December 2012, we petitioned the U.S. Tax Court to resolve the matter. We continue to disagree with these IRS positions and intend to vigorously contest them.

Certain of our subsidiaries are under examination or investigation or may be subject to examination or investigation by the French Tax Administration (FTA) for calendar year 2006 or thereafter. These examinations may lead to ordinary course adjustments or proposed adjustments to our taxes. While we have not yet received a final assessment from the FTA, in September 2012, we received proposed tax assessment notices for calendar years 2006 through 2010 relating to the allocation of income between foreign jurisdictions. The notices propose additional French tax of approximately $250 million, including interest and penalties through the date of the assessment. We disagree with the proposed assessment and intend to vigorously contest it. We plan to pursue all available administrative remedies at the FTA, and if we are not able to resolve this matter with the FTA, we plan to pursue judicial remedies. We are also subject to taxation in various states and other foreign jurisdictions including China, Germany, Luxembourg, and the United Kingdom. We are or may be subject to examination by these particular tax authorities for the calendar year 2003 and thereafter.

We expect the total amount of tax contingencies will grow in 2013. In addition, changes in state, federal, and foreign tax laws may increase our tax contingencies. The timing of the resolution of income tax examinations is highly uncertain, and the amounts ultimately paid, if any, upon resolution of the issues raised by the taxing authorities may differ from the amounts accrued. It is reasonably possible that within the next 12 months we will receive additional assessments by various tax authorities or possibly reach resolution of income tax examinations in one or more jurisdictions. These assessments or settlements may or may not result in changes to our contingencies related to positions on tax filings in years through 2012. The actual amount of any change could vary significantly depending on the ultimate timing and nature of any settlements. We cannot currently provide an estimate of the range of possible outcomes.