NOTE 9 – INCOME TAXES

 

The provision for income taxes is comprised of the following:

 

 

Earnings before income taxes include amounts contributed by the Company’s foreign operations of approximately $1,676 million, $1,448 million and $1,420 million for fiscal 2017, 2016 and 2015, respectively.  A portion of these earnings is taxed in the United States.

 

A reconciliation of the U.S. federal statutory income tax rate to the Company’s actual effective tax rate on earnings before income taxes is as follows:

 

 

Income tax reserve adjustments represent changes in the Company’s net liability for unrecognized tax benefits related to prior-year tax positions including the impact of tax settlements and lapses of the applicable statutes of limitations.

 

In the fourth quarter of fiscal 2017, a favorable change to the tax law in China was enacted that expanded the corporate income tax deduction allowance for advertising and promotional expenses to include all companies that distribute and sell cosmetics in the country. As a result of the new law, in the fourth quarter of fiscal 2017, the Company released into income its previously established China deferred tax asset valuation allowance of approximately $75 million related to its accumulated carryforward of excess advertising and promotional expenses.

 

Federal income and foreign withholding taxes have not been provided on approximately $4,136 million of undistributed earnings of foreign subsidiaries at June 30, 2017.  The Company intends to reinvest these earnings in its foreign operations indefinitely, except where it is able to repatriate these earnings to the United States without material incremental tax provision.  The determination and estimation of the future income tax consequences in all relevant taxing jurisdictions involves the application of highly complex tax laws in the countries involved, particularly in the United States, and is based on the tax profile of the Company in the year of earnings repatriation.  Accordingly, it is not practicable to determine the amount of tax associated with such undistributed earnings.

 

Significant components of the Company’s deferred income tax assets and liabilities were as follows:

 

 

As of June 30, 2017 and 2016, the Company had net deferred tax assets of $322 million and $422 million, respectively, substantially all of which are included in Other assets in the accompanying consolidated balance sheets.

 

As of June 30, 2017 and 2016, certain subsidiaries had net operating loss and other carryforwards for tax purposes of approximately $230 million and $410 million, respectively.  With the exception of approximately $218 million of net operating loss and other carryforwards with an indefinite carryforward period as of June 30, 2017, these carryforwards expire at various dates through fiscal 2024.  Deferred tax assets, net of valuation allowances, in the amount of $34 million and $4 million as of June 30, 2017 and 2016, respectively, have been recorded to reflect the tax benefits of the carryforwards not utilized to date.

 

A full valuation allowance has been provided for those deferred tax assets for which, in the opinion of management, it is more-likely-than-not that the deferred tax assets will not be realized.

 

As of June 30, 2017 and 2016, the Company had gross unrecognized tax benefits of $68 million and $82 million, respectively.  The total amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate was $42 million.

 

The Company classifies applicable interest and penalties related to unrecognized tax benefits as a component of the provision for income taxes. During fiscal 2017, the Company recognized a gross interest and penalty benefit of $5 million in the accompanying consolidated statement of earnings. The total gross accrued interest and penalty expense during fiscal 2016 in the accompanying consolidated statement of earnings was de minimis.  The total gross accrued interest and penalties in the accompanying consolidated balance sheets at June 30, 2017 and 2016 were $13 million and $18 million, respectively.  A reconciliation of the beginning and ending amount of gross unrecognized tax benefits is as follows:

 

 

Earnings from the Company’s global operations are subject to tax in various jurisdictions both within and outside the United States. The Company participates in the U.S. Internal Revenue Service (the “IRS”) Compliance Assurance Program (“CAP”).  The objective of CAP is to reduce taxpayer burden and uncertainty while assuring the IRS of the accuracy of income tax returns prior to filing, thereby reducing or eliminating the need for post-filing examinations.

 

During the fourth quarter of fiscal 2017, the Company formally concluded the compliance process with respect to fiscal 2016 under the IRS CAP.  The conclusion of this process did not impact the Company’s consolidated financial statements.  As of June 30, 2017, the compliance process was ongoing with respect to fiscal 2017.

 

The Company is currently undergoing income tax examinations and controversies in several state, local and foreign jurisdictions.  These matters are in various stages of completion and involve complex multi-jurisdictional issues common among multinational enterprises, including transfer pricing, which may require an extended period of time for resolution.

 

During fiscal 2017, the Company concluded various state, local and foreign income tax audits and examinations while several other matters, including those noted above, were initiated or remained pending.  On the basis of the information available in this regard as of June 30, 2017, the Company does not expect any significant changes to the total amount of unrecognized tax benefits within the next 12 months.

 

The tax years subject to examination vary depending on the tax jurisdiction.  As of June 30, 2017, the following tax years remain subject to examination by the major tax jurisdictions indicated:

 

 

The Company is also subject to income tax examinations in numerous other state, local and foreign jurisdictions.  The Company believes that its tax reserves are adequate for all years subject to examination.