SYSCO CORP

INCOME TAXES

Income Tax Provisions

For financial reporting purposes, earnings before income taxes consists of the following:



	2017		2016		2015
	(In thousands)
U.S.	$	1,569,073	$	1,225,142	$	818,244
Foreign	197,157		207,865		189,903
Total	$	1,766,230	$	1,433,007	$	1,008,147

The income tax provision / (benefit) for each fiscal year consists of the following:



	2017		2016		2015
	(In thousands)
U.S. federal income taxes	$	534,266	$	429,658	$	285,807
State and local income taxes	69,913		34,032		(2,737		)
Foreign income taxes	19,548		19,695		38,304
Total	$	623,727	$	483,385	$	321,374

The current and deferred components of the income tax provisions for each fiscal year are as follows:



	2017			2016		2015
	(In thousands)
Current	$	675,573		$	389,514	$	326,079
Deferred	(51,846		)	93,871		(4,705		)
Total	$	623,727		$	483,385	$	321,374

The deferred tax provisions result from the effects of net changes during the year in deferred tax assets and liabilities arising from temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.

Deferred Tax Assets and Liabilities

Significant components of Sysco’s deferred tax assets and liabilities are as follows:



	Jul. 1, 2017			Jul. 2, 2016
	(In thousands)
Deferred tax assets:
Net operating loss carryforwards	$	194,287		$	66,471
Benefit on unrecognized tax benefits	9,218			12,842
Pension	360,864			453,394
Share-based compensation	48,077			43,698
Deferred compensation	39,830			38,840
Self-insured liabilities	84,401			67,050
Receivables	30,842			41,574
Inventory	21,332			24,138
Cash flow hedge	8,748			7,421
Foreign currency remeasurement losses and currency hedge	13,221			47,632
Other	36,653			29,550
Deferred tax assets before valuation allowances	847,473			832,610
Valuation allowances	(114,151		)	—
Total deferred tax assets	733,322			832,610
Deferred tax liabilities:
Excess tax depreciation and basis differences of assets	247,510			346,900
Goodwill and intangible assets	455,340			254,202
Other	49,654			51,130
Total deferred tax liabilities	752,504			652,232
Total net deferred tax assets / (liabilities)	$	(19,182	)	$	180,378

The company’s deferred tax asset for net operating loss carryforwards as of July 1, 2017 consisted of state and foreign net operating tax loss carryforwards, whereas the deferred tax asset as of July 2, 2016 consisted primarily of state net operating tax loss carryforwards. The state net operating loss carryforwards outstanding as of July 1, 2017 expire in fiscal years 2018 through 2036. The foreign net operating loss carryfoward periods vary by jurisdiction, from 17 years to unlimited.

The company assesses the recoverability of its deferred tax assets each period by considering whether it is more likely than not that all or a portion of the deferred tax assets will not be realized. The company considers all available evidence (both positive and negative) in determining whether a valuation allowance is required. As a result of the company's analysis, it was concluded that as of July 1, 2017 a valuation allowance of $114.2 million should be established through acquisition accounting against the portion of the deferred tax asset attributable to net operating losses of the Brakes Group. The company will continue to monitor facts and circumstances in the reassessment of the likelihood that net operating loss carryforwards will be realized.

Effective Tax Rates

Reconciliations of the statutory federal income tax rate to the effective income tax rates for each fiscal year are as follows:



	2017		2016		2015
U.S. statutory federal income tax rate	35.00	%	35.00	%	35.00	%
State and local income taxes, net of any applicable federal income tax benefit	2.61		1.79		0.91
Foreign tax rate differential	(2.81	)	(2.40	)	(2.84	)
Uncertain tax position ⁽¹⁾	0.01		(1.96	)	—
Other	0.50		1.30		(1.19	)
Effective income tax rate	35.31	%	33.73	%	31.88	%


⁽¹⁾	Uncertain tax positions are included within “Other” for fiscal 2015

The effective tax rate of 35.3% for fiscal 2017 was favorably impacted by tax credits allowed against U.S. Federal and State income tax liabilities, as well as a reduction of the statutory tax rate in certain foreign jurisdictions. Indefinitely reinvested earnings taxed at foreign statutory rates less than our domestic tax rate also had the impact of reducing the effective tax rate.

The effective tax rate of 33.7% for fiscal 2016 was favorably impacted by the favorable resolution of tax contingencies resulting in tax benefits of $29.6 million ($10.6 million in tax and $19.0 million in interest). Costs associated with the redemption of the senior notes that had been issued in contemplation of the proposed merger with US Foods and charges incurred from the revision to the Company’s business technology strategy resulted in lower state taxes. Indefinitely reinvested earnings taxed at foreign statutory rates less than our domestic tax rate also had the impact of reducing the effective tax rate.

The effective tax rate of 31.9% for fiscal 2015 was favorably impacted by lower earnings in the U.S. primarily from the termination of the US Foods merger agreement, litigation costs, merger integration planning costs and interest expense attributable to the proposed merger of $693 million for the fiscal year. These costs were attributed to the company’s U.S. earnings, which has the highest tax rate of all of the jurisdictions where it remits taxes. These losses created low levels of earnings in the U.S. and generated net operating losses in certain states, making the company’s indefinitely reinvested earnings in its foreign operations a more predominant factor in its effective tax rate because those operations have lower tax rates. Additionally, Sysco made the decision to amend a prior U.S. tax return in order to maximize a foreign tax credit as opposed to a foreign tax deduction which also created benefit in our effective tax rate.

Uncertain Tax Positions

A reconciliation of the beginning and ending amount of gross unrecognized tax benefits, excluding interest and penalties, is as follows:



	2017			2016
	(In thousands)
Unrecognized tax benefits at beginning of year	$	24,614		$	37,546
Additions for tax positions related to prior years	648			142
Reductions for tax positions related to prior years	(2,147		)	(12,932		)
Reductions due to settlements with taxing authorities	(6,837		)	(142		)
Unrecognized tax benefits at end of year	$	16,278		$	24,614

As of July 1, 2017, the gross amount of liability for accrued interest and penalties related to unrecognized tax benefits was $10.7 million. As of July 2, 2016, the gross amount of liability for accrued interest and penalties related to unrecognized tax benefits was $14.9 million. The expense recorded for interest and penalties related to unrecognized tax benefits in fiscal 2017 was not material.

If Sysco were to recognize all unrecognized tax benefits recorded as of July 1, 2017, approximately $10.8 million of the $16.3 million reserve would reduce the effective tax rate. If Sysco were to recognize all unrecognized tax benefits recorded as of July 2, 2016, approximately $16.9 million of the $24.6 million reserve would reduce the effective tax rate. It is reasonably possible that the amount of the unrecognized tax benefits with respect to certain of the company’s unrecognized tax positions will increase or decrease in the next twelve months either because Sysco’s positions are sustained on audit or because the company agrees to their disallowance. Items that may cause changes to unrecognized tax benefits primarily include the consideration of various filing requirements in various states and the allocation of income and expense between tax jurisdictions. In addition, the amount of unrecognized tax benefits recognized within the next twelve months may decrease due to the expiration of the statute of limitations for certain years in various jurisdictions; however, it is possible that a jurisdiction may open an audit on one of these years prior to the statute of limitations expiring. At this time, an estimate of the range of the reasonably possible change cannot be made.

Sysco's federal tax returns for 2012 and subsequent tax years have been audited and/or have statutes of limitations that remain open for audit. As of July 1, 2017, Sysco’s tax returns in the majority of the state and local jurisdictions and Canada are no longer subject to audit for the years before 2009. However, in Canada, the company remains open to transfer pricing adjustments back to 2003 for some entities. Certain tax jurisdictions require partial to full payment on audit assessments or the posting of letters of credit in order to proceed to the appeals process. Although the outcome of tax audits is generally uncertain, the company believes that adequate amounts of tax, including interest and penalties, have been accrued for any adjustments that may result from those open years.

Other

Undistributed income of certain consolidated foreign subsidiaries at July 1, 2017 amounted to $1.4 billion, for which no deferred U.S. income tax provision has been recorded because Sysco intends to indefinitely reinvest such income in those foreign operations. An estimate of any U.S. income or foreign withholding taxes that may be applicable upon actual or deemed repatriation is not practical due to the complexities associated with the hypothetical calculation.