Income Taxes

On December 22, 2017, the United States enacted tax reform legislation that included a broad range of business tax provisions, including but not limited to a reduction in the U.S. federal tax rate from 35% to 21% as well as provisions that limit or eliminate various deductions or credits. The legislation also causes U.S. expenses, such as interest and general administrative expenses, to be taxed and imposes a new tax on U.S. cross-border payments. The 2017 provision for income taxes includes a provisional one-time charge of $65 for the transition tax on accumulated foreign earnings and profits, which results in an associated one-time reduction of an estimated $185 in the Company’s net operating loss carryforward.

In response to the enactment of U.S. tax reform, the SEC issued guidance (referred to as “SAB 118”) to address the complexity in accounting for this new legislation. When the initial accounting for items under the new legislation is incomplete, the guidance allows companies to recognize provisional amounts when reasonable estimates can be made or to continue to apply the prior tax law if a reasonable estimate of the impact cannot be made. The SEC has provided up to a one-year window for companies to finalize the accounting for the impacts of this new legislation and the Company anticipates finalizing its accounting during 2018.

The Company's accounting for the above items is based upon reasonable estimates of the tax effects of Tax Reform; however, its estimates may change upon the finalization of its implementation and additional interpretive guidance from regulatory authorities. The Company will complete its accounting for the above tax effects of Tax Reform during 2018 as provided in SAB 118 and will reflect any adjustments to its provisional amounts as an adjustment to the provision for taxes in the reporting period in which the amounts are finally determined.

Additionally, certain provisions of Tax Reform are not effective until 2018. The Company is in the process of evaluating the impact of these provisions and has not yet recorded any impact in the financial statements, nor has the Company made any accounting policy elections with respect to these items.

During 2017, the Company recognized income tax expense of $18, primarily as a result of income from certain foreign operations. Losses in the United States created a deferred income tax benefit which was completely offset by an increase to the valuation allowance. The Company incurred a provisional income tax expense of $167 associated with revaluing its net U.S. deferred tax attributes to reflect the new U.S. corporate tax rate of 21%, as well as an additional $65 provisional income tax expense associated with the estimated transition tax. The Company’s valuation allowance was reduced by $234 as a result of the impact Tax Reform had on reducing its net deferred tax assets.

Due to the newly enacted U.S. tax rate change, estimated balances as of December 31, 2017 represent timing differences, which may change when those estimates are finalized with the filing of the 2017 income tax return. At this time, the Company has not yet gathered, prepared and analyzed the information in sufficient detail to complete the calculations necessary to finalize the amount of the transition tax. As the Company completes its analysis of accumulated foreign earnings and profits and related foreign taxes paid on an entity by entity basis and finalizes the amounts held in cash or other specified assets, the Company will update its provisional estimate of the transition tax and assess the impact on its valuation allowance.

During 2016, the Company recognized income tax expense of $38, primarily as a result of income from certain foreign operations. Losses in the United States created a deferred income tax benefit which was completely offset by an increase to the valuation allowance.

During 2015, the Company recognized income tax expense of $34, primarily as a result of income from certain foreign operations. Losses in the United States created a deferred income tax benefit which was completely offset by an increase to the valuation allowance. Income tax expense detail for the Company for the years ended December 31, 2017, 2016 and 2015 is as follows:



	2017			2016			2015
Current:
State and local	$	2		$	2		$	2
Foreign	19			34			25
Total current	21			36			27
Deferred:
Federal	(5		)	—			—
State and local	—			(1		)	—
Foreign	2			3			7
Total deferred	(3		)	2			7
Income tax expense	$	18		$	38		$	34

A reconciliation of the Company’s combined differences between income taxes computed at the federal statutory tax rate of 35% and provisions for income taxes for the years ended December 31, 2017, 2016 and 2015 is as follows:



	2017			2016			2015
Income tax benefit computed at federal statutory tax rate	$	(77	)	$	(4	)	$	(8	)
State tax provision, net of federal benefits	—			—			1
Foreign tax rate (benefit) differential	(2		)	(18		)	(15		)
Foreign source (loss) income subject to U.S. taxation	(45		)	21			41
Losses (gains) and other expenses (income) not deductible (excluded) for tax	20			(4		)	1
(Decrease) increase in the taxes due to changes in valuation allowance	(129		)	42			17
Additional (benefit) expense on foreign unrepatriated earnings	—			(16		)	18
Additional expense (benefit) for uncertain tax positions	5			(3		)	3
Tax recognized in other comprehensive income	(3		)	—			(1		)
Changes in enacted tax laws and tax rates	167			—			(23		)
Transition tax expense	65			—			—
Write-off of deferred tax assets	17			20			—
Income tax expense	$	18		$	38		$	34

In December 2017, the United States enacted tax reform legislation. As a result, in 2017 the Company incurred a provisional income tax expense of $167 associated with revaluing its net U.S. deferred tax attributes to reflect the new U.S. corporate tax rate of 21%, as well as an additional $65 provisional income tax expense associated with the estimated transition tax. The Company’s valuation allowance was reduced by $234 as a result of the impact Tax Reform had on reducing its net deferred tax assets.

In December 2015, the Protecting Americans from Tax Hikes Act of 2015 (the “2015 Act”) was signed into law. The 2015 Act extended the controlled foreign corporation look-through rule, which provides for the exclusion of certain foreign earnings from U.S. federal taxation through December 31, 2019. The impact of the 2015 Act has been accounted for in the period of enactment. As a result, the company recognized a tax benefit of $23 during the year ended December 31, 2015.

The domestic and foreign components of the Company’s loss before income taxes for the years ended December 31, 2017, 2016 and 2015 is as follows:



	2017			2016			2015
Domestic	$	(143	)	$	(115	)	$	(242	)
Foreign	(77		)	104			220
Total	$	(220	)	$	(11	)	$	(22	)

The tax effects of significant temporary differences and net operating loss and credit carryforwards, which comprise the Company’s deferred tax assets and liabilities at December 31, 2017 and 2016 is as follows:



	2017			2016
Assets:
Non-pension post-employment	$	5		$	5
Accrued and other expenses	53			94
Property, plant and equipment	1			2
Loss and credit carryforwards	477			589
Intangibles	6			6
Pension and postretirement benefit liabilities	47			51
Gross deferred tax assets	589			747
Valuation allowance	(522		)	(651		)
Net deferred tax asset	67			96
Liabilities:
Property, plant and equipment	(52		)	(71		)
Unrepatriated earnings of foreign subsidiaries	(9		)	(9		)
Intangible assets	(9		)	(19		)
Gross deferred tax liabilities	(70		)	(99		)
Net deferred tax liability	$	(3	)	$	(3	)

The following table summarizes the presentation of the Company’s net deferred tax liability in the Consolidated Balance Sheets at December 31, 2017 and 2016:



	2017			2016
Assets:
Long-term deferred income taxes	$	8		$	10
Liabilities:
Long-term deferred income taxes	(11		)	(13		)
Net deferred tax liability	$	(3	)	$	(3	)

Hexion LLC, the Company’s parent, is not a member of the registrant. Hexion LLC and its eligible subsidiaries file a consolidated U.S. Federal income tax return. Therefore, the Company can utilize Hexion LLC's tax attributes or vice versa. Cumulative income at Hexion LLC has reduced the amount of net operating loss carryforwards otherwise available to the Company by $26. However, since the Company accounts for Hexion LLC under the separate return method, the utilization is not reflected in the above gross deferred tax asset - loss and credit carryforwards. Further, the valuation allowance above does not reflect the related $26 offset.

As of December 31, 2017, the Company had a $522 valuation allowance for a portion of its net deferred tax assets that management believes, more likely than not, will not be realized. The Company’s deferred tax assets include federal, state and foreign net operating loss carryforwards. The federal net operating loss carryforwards available are $1,158, which is reduced by the cumulative income from Hexion LLC, as described above. The federal net operating loss carryforwards expire beginning in 2027. A full valuation allowance has been provided against these loss carryforwards. The Company’s deferred assets also include minimum tax credits of $2, which are available indefinitely and have no associated valuation allowance. The Company has provided a full valuation allowance against its state deferred tax assets, primarily related to state net operating loss carryforwards of $90. A valuation allowance of $130 has been provided against a portion of foreign net operating loss carryforwards, primarily in Germany and the Netherlands.

The Company continues to not assert indefinite reinvestment of undistributed earnings of its foreign subsidiaries outside of the United States. Accordingly, a related deferred tax liability of $9 is recorded.

The following table summarizes the changes in the valuation allowance for the years ended December 31, 2017, 2016 and 2015:



	Balance at Beginning of Period		Changes in Related Gross Deferred Tax Assets/Liabilities			Charge			Balance at End of Period
Valuation allowance on Deferred tax assets:
Year ended December 31, 2015	$	588	$	6		$	17		$	611
Year ended December 31, 2016	611		(2		)	42			651
Year ended December 31, 2017	651		—			(129		)	522

Under SAB 118, the Company continues to evaluate its valuation allowance against its net deferred tax assets. At this time, the Company has not yet gathered, prepared and analyzed the necessary information in sufficient detail to estimate future taxable income. In 2017, losses in the U.S. and certain foreign operations in recent periods provisionally provided sufficient negative evidence to maintain a full valuation allowance against the net federal, state, and certain foreign deferred tax assets.

Examination of Tax Returns

The Company conducts business globally and, as a result, certain of its subsidiaries file income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions. In the normal course of business, the Company is subject to examinations by taxing authorities throughout the world, including major jurisdictions such as the United States, Brazil, Canada, China, Germany, Italy, Netherlands and the United Kingdom.

With minor exceptions, the Company’s closed tax years for major jurisdictions are years prior to: 2013 for United States, 2011 for Brazil, 2010 for Canada, 2012 for China, 2014 for Germany, 2007 for Italy, 2010 for Netherlands and 2012 for the United Kingdom.

The Company continuously reviews issues that are raised from ongoing examinations and open tax years to evaluate the adequacy of its liabilities. As the various taxing authorities continue with their audit/examination programs, the Company will adjust its reserves accordingly to reflect these settlements.

Unrecognized Tax Benefits

A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:



	2017			2016
Balance at beginning of year	$	73		$	62
Additions based on tax positions related to the current year	2			4
Additions for tax positions of prior years	1			42
Reductions for tax positions of prior years	(1		)	(35		)
Settlements	—			—
Foreign currency translation	5			—
Balance at end of year	$	80		$	73

During the year ended December 31, 2017, the Company increased the amount of its unrecognized tax benefits, including its accrual for interest and penalties, by $13, primarily as a result of increases in the unrecognized tax benefit for various intercompany transactions, offset by releases of unrecognized tax benefits from negotiations with foreign jurisdictions and lapses of statute of limitations. During the years ended December 31, 2017, 2016 and 2015, the Company recognized approximately $5, $6 and $4, respectively, in interest and penalties. The Company had approximately $49 and $43 accrued for the payment of interest and penalties at December 31, 2017 and 2016, respectively.

$80 of unrecognized tax benefits, if recognized, would affect the effective tax rate; however, a portion of the unrecognized tax benefit would be in the form of a net operating loss carryforward, which would be subject to a full valuation allowance. The Company anticipates recognizing less than $2 of the total amount of unrecognized tax benefits within the next 12 months as a result of negotiations with foreign jurisdictions and completion of audit examinations.