Phillips 66

Income Taxes

On December 22, 2017, the U.S. government enacted comprehensive income tax legislation, referred to as the Tax Cuts and Jobs Act (the Tax Act). The material provisions of the Tax Act i) reduced the U.S. federal corporate income tax rate from 35 percent to 21 percent beginning January 1, 2018, ii) required companies to reflect on their 2017 corporate income tax return a liability for a one-time deemed repatriation tax on foreign-sourced earnings that were previously tax deferred, and iii) created a new tax regime for post-2017 foreign-sourced earnings.

To account for the reduction in the U.S. federal corporate income tax rate, we remeasured our deferred tax assets and liabilities based on the rates at which they are expected to reverse in the future, generally 21 percent, which resulted in a provisional deferred tax benefit of $2,870 million. To account for the one-time deemed repatriation income tax, we calculated our provisional liability in accordance with the Tax Act and considered previously accrued current and deferred tax liabilities on undistributed earnings of our foreign subsidiaries and foreign joint ventures. The effects of the one-time deemed repatriation tax resulted in a provisional income tax expense of $149 million.

The provisions in the Tax Act are broad and complex. We have not yet completed our accounting for the income tax effects of the Tax Act as of December 31, 2017, but have made reasonable estimates of those effects on our existing deferred income tax balances and the one-time deemed repatriation tax. The final financial statement impact of the Tax Act may differ from the above estimates, possibly materially, due to, among other things, changes in interpretations of the Tax Act, any legislative action to address questions that arise because of the Tax Act, and changes in accounting standards for income taxes or related interpretations in response to the Tax Act, or any updates or changes to estimates the company has utilized to calculate the provisional impacts. The Securities and Exchange Commission (SEC) has issued rules that would allow for a measurement period of up to one year after the enactment date of the Tax Act to finalize the recording of the related income tax impacts.

Components of income tax expense (benefit) were:



	Millions of Dollars
	2017			2016		2015
Income Tax Expense (Benefit)
Federal
Current	$	9		(105	)	1,128
Deferred	(1,960		)	645		444
Foreign
Current	126			66		(74	)
Deferred	3			(84	)	42
State and local
Current	61			(24	)	227
Deferred	68			49		(3	)
	$	(1,693	)	547		1,764

Deferred income taxes reflect the net tax effect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for tax purposes. Major components of deferred tax liabilities and assets at December 31 were:



	Millions of Dollars
	2017		2016
Deferred Tax Liabilities
Properties, plants and equipment, and intangibles	$	2,942	4,525
Investment in joint ventures	1,923		2,442
Investment in subsidiaries	594		803
Inventory	—		154
Other	18		19
Total deferred tax liabilities	5,477		7,943
Deferred Tax Assets
Benefit plan accruals	314		669
Inventory	10		—
Asset retirement obligations and accrued environmental costs	121		211
Other financial accruals and deferrals	44		188
Loss and credit carryforwards	96		261
Other	3		1
Total deferred tax assets	588		1,330
Less: valuation allowance	28		38
Net deferred tax assets	560		1,292
Net deferred tax liabilities	$	4,917	6,651

The loss and credit carryforwards deferred tax assets are primarily related to a German interest deduction carryforward of $77 million, a U.S. alternative minimum tax credit of $10 million and a capital loss and net operating loss carryforward in the United Kingdom of $7 million. All losses may be carried forward indefinitely and the alternative minimum credit of $10 million, if not utilized sooner, will become refundable with the filing of the 2021 U.S. federal income tax return.

Valuation allowances have been established to reduce deferred tax assets to an amount that will, more likely than not, be realized. During 2017, valuation allowances decreased by a total of $10 million. Based on our historical taxable income, expectations for the future and available tax planning strategies, management expects the remaining net deferred tax assets will be realized as offsets to reversing deferred tax liabilities and the tax consequences of future taxable income.

At December 31, 2017, all undistributed earnings of our foreign subsidiaries and foreign joint ventures have been included in our provisional computation of the one-time deemed repatriation tax associated with the enactment of the Tax Act. After considering the effects of the Tax Act described above, we have not provided a deferred tax liability related to any remaining difference in the book and tax investment in our foreign subsidiaries or foreign joint ventures because such differences are essentially permanent in duration. Based on our preliminary analysis, which is not yet complete, the temporary difference and associated unrecorded deferred tax liability are not material.

As a result of the Separation and pursuant to the Tax Sharing Agreement with ConocoPhillips, the unrecognized income tax benefits related to our operations for which ConocoPhillips was the taxpayer remain the responsibility of ConocoPhillips, and we have indemnified ConocoPhillips for such amounts. Following is a reconciliation of the changes in our unrecognized income tax benefits balance:



	Millions of Dollars
	2017			2016		2015

Balance at January 1	$	70		82		142
Additions for tax positions of prior years	1			5		6
Reductions for tax positions of prior years	(5		)	(17	)	(17	)
Settlements	(32		)	—		(49	)
Balance at December 31	$	34		70		82

Included in the balance of unrecognized income tax benefits for 2017, 2016 and 2015 were $5 million, $13 million and $34 million, respectively, which, if recognized, would affect our effective income tax rate. With respect to various unrecognized income tax benefits and the related accrued liability, approximately $2 million may be recognized or paid within the next twelve months due to completion of audits.

At December 31, 2017, 2016 and 2015, accrued liabilities for interest and penalties, net of accrued income taxes, totaled $8 million, $12 million and $19 million, respectively. As a result of reversing certain of these accruals, earnings increased by $1 million, $7 million and $3 million in 2017, 2016 and 2015, respectively.

We file tax returns in the U.S. federal jurisdiction and in many foreign and state jurisdictions. Audits in significant jurisdictions are generally complete as follows: United Kingdom (2014), Germany (2011) and United States (2010). Certain issues remain in dispute for audited years, and unrecognized income tax benefits for years still subject to or currently undergoing an audit are subject to change. As a consequence, the balance in unrecognized income tax benefits can be expected to fluctuate from period to period. Although it is reasonably possible such changes could be significant when compared with our total unrecognized income tax benefits, the amount of change is not estimable.

The amounts of U.S. and foreign income before income taxes, with a reconciliation of income tax at the federal statutory rate to the recorded income tax expense (benefit), were:



	Millions of Dollars							Percentage of Income Before Income Taxes
	2017			2016		2015		2017		2016		2015
Income before income taxes
United States	$	2,799		1,713		4,983		78.7	%	78.2		82.4
Foreign	756			478		1,061		21.3		21.8		17.6
	$	3,555		2,191		6,044		100.0	%	100.0		100.0

Federal statutory income tax	$	1,244		767		2,115		35.0	%	35.0		35.0
State income tax, net of federal benefit	79			12		150		2.2		0.6		2.5
Tax Cuts and Jobs Act	(2,721		)	—		—		(76.5	)	—		—
Foreign rate differential	(210		)	(152	)	(239	)	(5.9	)	(6.9	)	(3.9	)
Noncontrolling interests	(46		)	(26	)	(13	)	(1.3	)	(1.2	)	(0.2	)
Federal manufacturing deduction	(18		)	—		(77	)	(0.5	)	—		(1.3	)
Change in valuation allowance	(4		)	(81	)	(17	)	(0.1	)	(3.7	)	(0.2	)
Goodwill allocated to assets sold	—			—		41		—		—		0.7
German tax legislation	—			—		(103	)	—		—		(1.7	)
Sale of foreign subsidiaries	—			—		(125	)	—		—		(2.1	)
Other	(17		)	27		32		(0.5	)	1.2		0.4
	$	(1,693	)	547		1,764		(47.6	)%	25.0		29.2

Included in the line item “Sale of foreign subsidiaries” is a $72 million income tax benefit realized in 2015 attributable to the nontaxable gain from the sale of ICHP.

Income tax expense of $81 million and $150 million in 2017 and 2016, respectively, and an income tax benefit of $34 million in 2015 are reflected in the “Capital in Excess of Par” column on our consolidated statement of changes in equity.