Taxes

The provision for income taxes consisted of:



	Year Ended December 31,
(In thousands)	2011			2012			2013
Current:
Federal	$	18,372		$	38,720		$	35,912
Foreign	14,976			19,248			12,071
State	4,011			4,296			4,121
Total current	37,359			62,264			52,104

Deferred:
Federal	4,345			1,359			(3,886		)
Foreign	(877		)	(910		)	(1,621		)
State	(809		)	(124		)	(2,575		)
Total deferred	2,659			325			(8,082		)

Total provision for income taxes	$	40,018		$	62,589		$	44,022

Income before income taxes included income from foreign operations of approximately $51.7 million, $61.6 million and $39.7 million for the years ended December 31, 2011, 2012 and 2013, respectively.

A reconciliation of the statutory federal tax rate to the effective tax rate is as follows:



	Year Ended December 31,
	2011		2012		2013
Statutory federal tax rate	35.0	%	35.0	%	35.0	%
State taxes, net of federal benefit	1.9	%	1.5	%	0.7	%
Tax rate differentials for international jurisdictions	-4.1	%	-2.0	%	-3.8	%
Permanent differences	1.8	%	2.5	%	1.3	%
Other, net	-0.2	%	0.3	%	0.5	%
Effective tax rate	34.4	%	37.3	%	33.7	%

Deferred Taxes

Deferred income taxes reflect the net effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes. Significant components of our deferred tax assets and liabilities are as follows:



(In thousands)	December 31, 2012			December 31, 2013
Deferred tax assets:
Share-based compensation	$	17,703		$	23,487
Accounts receivable	1,232			1,275
State income taxes	590			2,293
Vacation accruals	4,033			5,235
Deferred revenue	3,815			3,793
Deferred rent	10,477			13,736
Accruals not currently deductible	7,212			7,850
Net operating loss carryforwards	5,697			3,534
Charitable contribution carryforward	782			754
Foreign tax credit	1,583			1,723
Research and development credits	3,401			13,871
Other	(348		)	1,674
Total gross deferred tax assets	56,177			79,225

Deferred tax liabilities:
Depreciation	108,208			125,209
Share-based compensation	821			107
Prepaids	2,593			2,981
Total gross deferred tax liabilities	111,622			128,297

Net deferred tax assets (liabilities)	$	(55,445	)	$	(49,072	)

Realization of deferred tax assets is dependent upon future earnings, if any, the timing and amount of which are uncertain. A valuation allowance was not established or deemed necessary based upon the determination that future profits are anticipated to utilize deferred tax assets in the future.

The company has not recognized a deferred tax liability for undistributed earnings of its foreign subsidiaries because such earnings are considered indefinitely invested in a foreign country. As of December 31, 2013, undistributed earnings of the company’s foreign subsidiaries considered indefinitely invested were approximately $175.5 million. We intend to reinvest these earnings in active non-U.S. business operations and do not currently intend to repatriate these earnings to fund U.S. operations through either a dividend, liquidation or other means. Further, it is expected that the undistributed earnings of the company's foreign subsidiaries will be used to fund the additional investments made outside of the U.S. The determination of the amount of unrecognized deferred tax liability related to undistributed earnings is not practicable because of the complexities of the hypothetical calculation.

We have $250.8 million of federal net operating loss carryforwards and $15.6 million of federal tax credit carryforwards expiring at various dates through 2033. The entire balance of federal net operating loss carryforwards is due to gross excess tax benefits from stock option exercises that have not been recorded as of December 31, 2013. We have $21.4 million of foreign net operating loss carryforwards, which have an indefinite expiration date.

Uncertain Tax Positions

We file income tax returns in each jurisdiction in which we operate, both domestically and internationally. Due to the complexity involved with certain tax matters, we have considered all relevant facts and circumstances for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. We believe that there are no other jurisdictions in which the outcome of uncertain tax matters is likely to be material to our results of operations, financial position or cash flows. We further believe that we have made adequate provision for all income tax uncertainties.

A reconciliation of our unrecognized tax benefits, excluding accrued interest, for 2012 and 2013 is as follows:



(In thousands)	2012			2013
Balance, beginning of year	$	16,729		$	18,664
Additions based on tax positions related to the current year	1,946			3,919
Additions for tax positions of prior years	—			663
Reductions for tax positions of prior years	(11		)	—
Balance, end of year	$	18,664		$	23,246

Unrecognized tax benefits of $18.7 million and $23.2 million for 2012 and 2013, respectively, are included in other non-current liabilities on the balance sheet. At December 31, 2012 and 2013, respectively, approximately $3.3 million and $8.2 million of these unrecognized tax benefits, if recognized, would favorably impact our effective tax rate in any future period. Also included in the balance of unrecognized tax benefits at December 31, 2013 are liabilities of $15.1 million that, if recognized, would be recorded as an adjustment to other current and non-current assets. We do not expect the amount of unrecognized tax benefits disclosed above to change significantly over the next 12 months.

We recognize interest expense and penalties related to income tax matters within other income (expense) on our consolidated statements of comprehensive income and not as income tax expense, when applicable. As of December 31, 2012 and 2013, we had no accrued interest or penalties on the consolidated balance sheets. For the years ended December 31, 2011, 2012 and 2013, no amount for interest or penalties related to unrecognized tax benefits was recorded in the consolidated statements of comprehensive income.

We are subject to U.S. federal income tax and various state, local, and international income taxes in numerous jurisdictions. Our domestic and international tax liabilities are subject to the allocation of revenue and expenses in different jurisdictions and the timing of recognizing revenue and expenses. As such, our effective tax rate is impacted by the geographical distribution of income and mix of profits in the various jurisdictions. Additionally, the amount of income taxes paid is subject to our interpretation of applicable tax laws in the jurisdictions in which we file.

We currently file income tax returns in the U.S. and all foreign jurisdictions in which we have entities, which are periodically under audit by federal, state, and international tax authorities. These audits can involve complex matters that may require an extended period of time for resolution. We remain subject to U.S. federal and state income tax examinations for the tax years 2009 through 2013 and in the international jurisdictions in which we operate for varying periods from 2007 through 2013. There are no income tax examinations currently in process. Although the outcome of open tax audits is uncertain, in management’s opinion, adequate provisions for income taxes have been made. If actual outcomes differ materially from these estimates, they could have a material impact on our financial condition and results of operations. Differences between actual results and assumptions or changes in assumptions in future periods are recorded in the period they become known. To the extent additional information becomes available prior to resolution, such accruals are adjusted to reflect probable outcomes.

During 2013 we did not receive any federal income tax refunds. We experienced taxable profits in the U.S. and U.K. in 2013 before consideration of excess tax benefits, and therefore we anticipate utilizing benefits of tax deductions related to stock compensation. As a result, we have recognized an excess tax benefit in the U.S. and U.K.

During 2011, 2012 and 2013, Rackspace US, Inc. sold certain intangible assets to a wholly-owned offshore subsidiary in taxable transactions. As a result of the transactions, there is an asset on the consolidated balance sheet as of December 31, 2013 of $38.4 million (of which $34.8 million was recorded in other non-current assets) that will be amortized through income tax expense over the lives of the applicable intangible assets. Although the transactions were taxable, the resulting gains were entirely offset against existing net operating losses, including excess stock compensation deductions. Thus, there was no cash tax impact from the sales of the intangible assets.

In January 2013, the American Taxpayer Relief Act of 2012 was signed into law. The accounting for income taxes for 2013 included the impact of certain retroactive legislation, such as the Federal tax credit for research and development, as well as the impact of certain extended business provisions, such as bonus depreciation.

At the time of this filing, the provisions for the Federal tax credit and bonus depreciation amongst others have not been extended. If these provisions or other legislation is passed, it will be reflected in the 2014 financial statements in the period of enactment. Given our investments in developing new technologies for our business, the expiration of the Federal tax credit for research and development is expected to result in an increase to our effective tax rate in 2014.