NOTE 8 – INCOME TAXES

On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “TCJA”). The TCJA includes broad and complex changes to the U.S. tax code that impacted the Company’s accounting and reporting for income taxes in the current year. These impacts primarily consist of the following:

A reduction in the U.S. federal corporate income tax rate from 35% to 21%, effective January 1, 2018, which resulted in a fiscal 2018 U.S. blended statutory income tax rate for the Company of 28.1%.

A one-time mandatory deemed repatriation tax on unremitted foreign earnings (the “Transition Tax”), which may be paid over an eight-year period.

A remeasurement of U.S. net deferred tax assets.

On December 22, 2017, the SEC staff issued Staff Accounting Bulletin No. 118 (“SAB 118”) to provide guidance that companies should apply each reporting period related to the income tax effects of the TCJA. SAB 118 provides that companies (i) should record the effects of the changes from the TCJA for which the accounting is complete (not provisional), (ii) should record provisional amounts for the effects of the changes from the TCJA for which the accounting is not complete, and for which reasonable estimates can be determined, in the period they are identified, and (iii) should not record provisional amounts if reasonable estimates cannot be made for the effects of the changes from the TCJA, and should continue to apply guidance based on the tax law in effect prior to the enactment on December 22, 2017. In addition, SAB 118 establishes a one-year measurement period (through December 22, 2018) where a provisional amount could be subject to adjustment, and requires certain qualitative and quantitative disclosures related to provisional amounts and accounting during the measurement period.

The Company recorded a provisional charge for the Transition Tax of $351 million for the year ended June 30, 2018. As of June 30, 2018, $31 million and $320 million of the provisional charges are included in Other accrued liabilities and Other noncurrent liabilities, respectively, in the accompanying consolidated balance sheet. Such charges remain provisional pending the finalization of earnings estimates of the Company’s foreign subsidiaries. Further, certain technical aspects of the TCJA remain subject to varying degrees of uncertainty and the Company has therefore made interpretations of the enacted legislation in its provisional income tax computations based upon the best available guidance while it awaits expected technical guidance and clarification from the U.S. government. One such calculation requiring further guidance and clarification is the Transition Tax and its interplay with new IRC Section 245A (dividend received deduction) as it relates to a possible unintended benefit for fiscal year companies. The Company believes there is insufficient clarity and significant uncertainty with respect to this issue as of June 30, 2018 and, therefore, has decided not to reduce its Transition Tax provisional charge for the possible benefit at this time.

For fiscal 2018, the combined TCJA impact on U.S. net deferred tax assets, including the enactment date remeasurement, resulting from the statutory tax rate reduction was $53 million. The Company’s net deferred tax assets are included in Other assets in the accompanying consolidated balance sheet as of June 30, 2018. The enactment date remeasurement of U.S. net deferred tax assets is provisional as the final remeasurement cannot be determined until the underlying temporary differences are known, rather than estimated.

In addition, as a result of the Transition Tax, the Company recorded a provisional charge of $46 million for the year ended June 30, 2018 related to foreign withholding taxes in connection with the reversal of its indefinite reinvestment assertion related to certain foreign earnings. The foreign withholding tax liability as of June 30, 2018 represents a deferred tax liability and is recorded as a reduction in net deferred tax assets, which is included in Other assets in the accompanying consolidated balance sheet as of June 30, 2018. This charge remains provisional due to uncertainty at this time related to the U.S. tax treatment of such foreign withholding taxes.

The Company is continuing to analyze the impact of the TCJA. Provisional charges recorded as of the enactment date totaled $427 million. Adjustments to these provisional charges will be recorded as discrete items in the provision for income taxes in the period in which those adjustments become reasonably estimable and/or the accounting is complete. Such adjustments may result from, among other things, future guidance, interpretations and regulatory changes from the Internal Revenue Service, the SEC, the FASB and/or various state and local tax jurisdictions. The Company will complete its analysis no later than December 22, 2018.

There are other impacts under the TCJA that are not effective for the Company until fiscal 2019. These primarily include a further reduction in the U.S. statutory rate to 21%, a new minimum tax on global intangible low-taxed income (“GILTI”) and the potential impact of the base erosion anti-abuse tax. With respect to the new GILTI provision, U.S. GAAP allows companies to make an accounting policy election and record taxes as a period cost as incurred or factor such amounts into the measurement of deferred taxes. The Company has made an accounting policy election to record these taxes as a period cost.

The provision for income taxes is comprised of the following:

	Year Ended June 30
(In millions)	2018			2017			2016
Current:
Federal	$	334		$	218		$	224
Foreign	357			253			293
State and local	(3		)	8			11

	688			479			528


Deferred:
Federal	135			(58		)	(73		)
Foreign	35			(61		)	(22		)
State and local	5			1			1

	175			(118		)	(94		)

	$	863		$	361		$	434

Earnings before income taxes include amounts contributed by the Company’s foreign operations of approximately $2,004 million, $1,676 million and $1,448 million for fiscal 2018, 2017 and 2016, 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:

	Year Ended June 30
	2018		2017		2016

Provision for income taxes at statutory rate	28.1	%	35.0	%	35.0	%
Increase (decrease) due to:
State and local income taxes, net of federal tax benefit	0.5		0.7		0.9
TCJA net income tax impact	22.8		—		—
Stock-based compensation arrangements – excess tax benefits	(2.5	)	—		—
Taxation of foreign operations	(4.7	)	(7.5	)	(8.0	)
China deferred tax asset valuation allowance reversal	—		(4.6	)	—
Income tax reserve adjustments	(0.5	)	(1.2	)	(0.3	)
Other, net	(0.1	)	(0.1	)	0.3

Effective tax rate	43.6	%	22.3	%	27.9	%

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.

During the first quarter of fiscal 2018, the Company adopted a new accounting standard that changes the way companies account for certain aspects of share-based payments to employees. This standard requires that all excess tax benefits and tax deficiencies related to share-based compensation awards be recorded as income tax expense or benefit in the income statement. As a result of the adoption of this new standard, the Company recognized $50 million of excess tax benefits as a reduction to the provision for income taxes in fiscal 2018. See Note 2 – Summary of Significant Accounting Policies - Recently Adopted Accounting Standards, Compensation – Stock Compensation.

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.

The Company has approximately $4,459 million of undistributed earnings of foreign subsidiaries at June 30, 2018. Included in this amount is approximately $1,323 million of earnings considered permanently reinvested. There may be foreign tax ramifications associated with the distribution of such permanently reinvested earnings, which the Company is currently evaluating. Since the application of the relevant foreign tax laws to such distribution is largely uncertain at this time, it is not practicable to determine the amount of associated tax. Any state income taxes associated with the distribution of such earnings is not expected to be material.

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

	June 30
(In millions)	2018			2017
Deferred tax assets:
Compensation related expenses	$	161		$	256
Inventory obsolescence and other inventory related reserves	57			97
Retirement benefit obligations	45			124
Various accruals not currently deductible	175			189
Net operating loss, credit and other carryforwards	48			65
Unrecognized state tax benefits and accrued interest	12			24
Other differences between tax and financial statement values	55			91

	553			846
Valuation allowance for deferred tax assets	(45		)	(42		)

Total deferred tax assets	508			804


Deferred tax liabilities:
Depreciation and amortization	(338		)	(465		)
Other differences between tax and financial statement values	(50		)	(17		)

Total deferred tax liabilities	(388		)	(482		)

Total net deferred tax assets	$	120		$	322

As of June 30, 2018 and 2017, the Company had net deferred tax assets of $120 million and $322 million, respectively, substantially all of which are included in Other assets in the accompanying consolidated balance sheets.

As of June 30, 2018 and 2017, certain subsidiaries had net operating loss and other carryforwards for tax purposes of approximately $173 million and $230 million, respectively. With the exception of approximately $139 million of net operating loss and other carryforwards with an indefinite carryforward period as of June 30, 2018, these carryforwards expire at various dates through fiscal 2030. Deferred tax assets, net of valuation allowances, in the amount of $13 million and $34 million as of June 30, 2018 and 2017, 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, 2018 and 2017, the Company had gross unrecognized tax benefits of $60 million and $68 million, respectively. The total amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate was $41 million.

The Company classifies applicable interest and penalties related to unrecognized tax benefits as a component of the provision for income taxes. During fiscal 2018 and 2017, the Company recognized gross interest and penalty benefits of $3 million and $5 million, respectively, in the accompanying consolidated statements of earnings. The total gross accrued interest and penalties in the accompanying consolidated balance sheets at June 30, 2018 and 2017 were $9 million and $13 million, respectively. A reconciliation of the beginning and ending amount of gross unrecognized tax benefits is as follows:

	June 30
(In millions)	2018			2017

Beginning of the year balance of gross unrecognized tax benefits	$	68		$	82
Gross amounts of increases as a result of tax positions taken during a prior period	8			6
Gross amounts of decreases as a result of tax positions taken during a prior period	(18		)	(23		)
Gross amounts of increases as a result of tax positions taken during the current period	7			10
Amounts of decreases in unrecognized tax benefits relating to settlements with taxing authorities	(3		)	(5		)
Reductions to unrecognized tax benefits as a result of a lapse of the applicable statutes of limitations	(2		)	(2		)

End of year balance of gross unrecognized tax benefits	$	60		$	68

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 2018, the Company formally concluded the compliance process with respect to fiscal 2017 under the IRS CAP. The conclusion of this process did not impact the Company’s consolidated financial statements. As of June 30, 2018, the compliance process was ongoing with respect to fiscal 2018.

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 2018, 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, 2018, 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, 2018, the following tax years remain subject to examination by the major tax jurisdictions indicated:

Major Jurisdiction		Open Fiscal Years

Belgium		2014 – 2018
Canada		2015 – 2018
China		2014 – 2018
France		2013 – 2018
Germany		2013 – 2018
Hong Kong		2012 – 2018
Italy		2014 – 2018
Japan		2016 – 2018
Korea		2014 – 2018
Russia		2015 – 2018
Spain		2014 – 2018
Switzerland		2016 – 2018
United Kingdom		2017 – 2018
United States		2018
State of California		2013 – 2018
State and City of New York		2015 – 2018

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.