14.	INCOME TAXES

Our effective tax rates for each of the periods presented are the result of the mix of income earned in various tax jurisdictions that apply a broad range of income tax rates. In the third quarter of fiscal 2018 the Tax Act was signed into law. The more significant provisions of the Tax Act as applicable to us are described in Note 1 above under “Impacts of the U.S. Tax Cuts and Jobs Act of 2017”. Our provision for income taxes for fiscal 2018 varied from the 21% U.S. statutory rate imposed by the Tax Act due primarily to the January 1, 2018 effective date of the Tax Act, the impacts of the Tax Act upon adoption, state taxes, the U.S. research and development tax credit, settlements with tax authorities, the tax effects of stock-based compensation and the U.S. domestic production activity deduction. Prior to the January 1, 2018 effective date of the Tax Act, our provision for income taxes historically differed from the tax computed at the previous U.S. federal statutory income tax rate due primarily to certain earnings considered as indefinitely reinvested in foreign operations, state taxes, the U.S. research and development tax credit, settlements with tax authorities, the tax effects of stock-based compensation and the U.S. domestic production activity deduction.

The following is a geographical breakdown of income before the provision for income taxes:

	Year Ended May 31,
(in millions)	2018		2017		2016
Domestic	$	3,816	$	3,533	$	4,033
Foreign		9,075		7,984		7,409
Income before provision for income taxes	$	12,891	$	11,517	$	11,442

The provision for income taxes consisted of the following:

	Year Ended May 31,
(Dollars in millions)	2018			2017			2016
Current provision:
Federal	$	8,329		$	936		$	1,301
State		264			257			271
Foreign		1,084			1,475			1,074
Total current provision	$	9,677		$	2,668		$	2,646
Deferred benefit:
Federal	$	(614	)	$	(201	)	$	(123	)
State		(13	)		(36	)		(21	)
Foreign		16			(249	)		39
Total deferred benefit	$	(611	)	$	(486	)	$	(105	)
Total provision for income taxes	$	9,066		$	2,182		$	2,541
Effective income tax rate	70.3%			18.9%			22.2%

The provision for income taxes differed from the amount computed by applying the federal statutory rate to our income before provision for income taxes as follows:

	Year Ended May 31,
(in millions)	2018			2017			2016
U.S. federal statutory tax rate		29.2	%		35.0	%		35.0	%
Tax provision at statutory rate	$	3,765		$	4,031		$	4,005
Impact of the Tax Act of 2017
One-time transition tax		7,781			—			—
Deferred tax effects		(820	)		—			—
Foreign earnings at other than United States rates		(1,006	)		(1,299	)		(1,284	)
State tax expense, net of federal benefit		155			150			176
Settlements and releases from judicial decisions and statute expirations, net		(252	)		(189	)		(150	)
Domestic production activity deduction		(87	)		(119	)		(155	)
Stock-based compensation		(302	)		(149	)		74
Other, net		(168	)		(243	)		(125	)
Total provision for income taxes	$	9,066		$	2,182		$	2,541

We recorded a provisional adjustment to our U.S. deferred income taxes as of May 31, 2018 to reflect the reduction in the U.S statutory tax rate from 35% to 21% resulting from the Tax Act. The components of our deferred tax liabilities and assets were as follows:

	May 31,
(in millions)	2018			2017
Deferred tax liabilities:
Unrealized gain on stock	$	(78	)	$	(130	)
Acquired intangible assets		(1,254	)		(2,502	)
Unremitted earnings		—			(1,515	)
Depreciation and amortization		(158	)		(180	)
Other		(48	)		(23	)
Total deferred tax liabilities	$	(1,538	)	$	(4,350	)
Deferred tax assets:
Accruals and allowances	$	567		$	532
Employee compensation and benefits		789			1,251
Differences in timing of revenue recognition		310			385
Tax credit and net operating loss carryforwards		2,614			4,029
Total deferred tax assets	$	4,280		$	6,197
Valuation allowance		(1,308	)		(1,164	)
Net deferred tax assets	$	1,434		$	683

Recorded as:
Non-current deferred tax assets	$	1,491		$	1,143
Non-current deferred tax liabilities (in other non-current liabilities)		(57	)		(460	)
Net deferred tax assets	$	1,434		$	683

We provide for taxes on the undistributed earnings and the other outside basis temporary differences of foreign subsidiaries unless they are considered indefinitely reinvested outside the United States. At May 31, 2018, the amount of temporary differences related to other outside basis temporary differences of investments in foreign subsidiaries upon which United States income taxes have not been provided was approximately $7.9 billion. If the other outside basis differences were recognized in a taxable transaction, they would generate foreign tax credits that would reduce the federal tax liability associated with the foreign dividend or the otherwise taxable transaction. At May 31, 2018, assuming a full utilization of the foreign tax credits, the potential net deferred tax liability associated with these other outside basis temporary differences would be approximately $1.5 billion.

Our net deferred tax assets were $1.4 billion and $683 million as of May 31, 2018 and 2017, respectively. We believe that it is more likely than not that the net deferred tax assets will be realized in the foreseeable future. Realization of our net deferred tax assets is dependent upon our generation of sufficient taxable income in future years in appropriate tax jurisdictions to obtain benefit from the reversal of temporary differences, net operating loss carryforwards and tax credit carryforwards. The amount of net deferred tax assets considered realizable is subject to adjustment in future periods if estimates of future taxable income change.

The valuation allowance was $1.3 billion and $1.2 billion at each of May 31, 2018 and 2017, respectively. Substantially all of the valuation allowances as of May 31, 2018 and 2017 related to tax assets established in purchase accounting. Any subsequent reduction of that portion of the valuation allowance and the recognition of the associated tax benefits associated with our acquisitions will be recorded to our provision for income taxes subsequent to our final determination of the valuation allowance or the conclusion of the measurement period (as defined above), whichever comes first.

At May 31, 2018, we had federal net operating loss carryforwards of approximately $806 million, which are subject to limitation on their utilization. Approximately $802 million of these federal net operating losses expire in various years between fiscal 2019 and fiscal 2036. An immaterial amount of these federal net operating losses are not currently subject to expiration dates. We had state net operating loss carryforwards of approximately $2.4 billion at May 31, 2018, which expire between fiscal 2019 and fiscal 2036 and are subject to limitations on their utilization. We had total foreign net operating loss carryforwards of approximately $1.8 billion at May 31, 2018, which are subject to limitations on their utilization. Approximately $1.8 billion of these foreign net operating losses are not currently subject to expiration dates. The remainder of the foreign net operating losses, approximately $92 million, expire between fiscal 2019 and fiscal 2035. We had tax credit carryforwards of approximately $893 million at May 31, 2018, which are subject to limitations on their utilization. Approximately $738 million of these tax credit carryforwards are not currently subject to expiration dates. The remainder of the tax credit carryforwards, approximately $155 million, expire in various years between fiscal 2019 and fiscal 2038.

We classify our unrecognized tax benefits as either current or non-current income taxes payable in the accompanying consolidated balance sheets. The aggregate changes in the balance of our gross unrecognized tax benefits, including acquisitions, were as follows:

	Year Ended May 31,
(in millions)	2018			2017			2016
Gross unrecognized tax benefits as of June 1	$	4,919		$	4,561		$	4,038
Increases related to tax positions from prior fiscal years		200			128			350
Decreases related to tax positions from prior fiscal years		(65	)		(218	)		(111	)
Increases related to tax positions taken during current fiscal year		833			595			461
Settlements with tax authorities		(42	)		(85	)		(73	)
Lapses of statutes of limitation		(273	)		(47	)		(73	)
Cumulative translation adjustments and other, net		13			(15	)		(31	)
Total gross unrecognized tax benefits as of May 31	$	5,585		$	4,919		$	4,561

As of May 31, 2018, 2017 and 2016, $4.2 billion, $3.4 billion and $3.1 billion, respectively, of unrecognized tax benefits would affect our effective tax rate if recognized. We recognized interest and penalties related to uncertain tax positions in our provision for income taxes line of our consolidated statements of operations of $127 million, $125 million and $26 million during fiscal 2018, 2017 and 2016, respectively. Interest and penalties accrued as of May 31, 2018 and 2017 were $992 million and $885 million, respectively.

Domestically, U.S. federal and state taxing authorities are currently examining income tax returns of Oracle and various acquired entities for years through fiscal 2017. Many issues are at an advanced stage in the examination process, the most significant of which include the deductibility of certain royalty payments, transfer pricing, extraterritorial income exemptions, domestic production activity, foreign tax credits, and research and development credits taken. With all of these domestic audit issues considered in the aggregate, we believe that it was reasonably possible that, as of May 31, 2018, the gross unrecognized tax benefits related to these audits could decrease (whether by payment, release, or a combination of both) in the next 12 months by as much as $665 million ($611 million net of offsetting tax benefits). Our U.S. federal income tax returns have been examined for all years prior to fiscal 2007 and we are no longer subject to audit for those periods. Our U.S. state income tax returns, with some exceptions, have been examined for all years prior to fiscal 2004, and we are no longer subject to audit for those periods.

Internationally, tax authorities for numerous non-U.S. jurisdictions are also examining returns affecting our unrecognized tax benefits. We believe that it was reasonably possible that, as of May 31, 2018, the gross unrecognized tax benefits, could decrease (whether by payment, release, or a combination of both) by as much as $162 million ($68 million net of offsetting tax benefits) in the next 12 months, related primarily to transfer pricing. With some exceptions, we are generally no longer subject to tax examinations in non-U.S. jurisdictions for years prior to fiscal 1997.

We believe that we have adequately provided under GAAP for outcomes related to our tax audits. However, there can be no assurances as to the possible outcomes or any related financial statement effect thereof. On July 27, 2015, in Altera Corp. v. Commissioner, the U.S. Tax Court issued an opinion related to the treatment of stock-based compensation expense in an intercompany cost-sharing arrangement. At this time, the U.S. Department of the Treasury has not withdrawn the requirement to include stock-based compensation from its regulations. We have reviewed this case and its impact on Oracle and concluded that no adjustment to the consolidated financial statements is appropriate at this time. We will continue to monitor ongoing developments and potential impacts to our consolidated financial statements.

We are under audit by the IRS and various other domestic and foreign tax authorities with regards to income tax and indirect tax matters and are involved in various challenges and litigation in a number of countries, including, in particular, Australia, Brazil, Canada, India, Indonesia, Korea, Mexico, Spain and the United Kingdom, where the amounts under controversy are significant. In some, although not all cases, we have reserved for potential adjustments to our provision for income taxes and accrual of indirect taxes that may result from examinations by, or any negotiated agreements with, these tax authorities or final outcomes in judicial proceedings, and we believe that the final outcome of these examinations, agreements or judicial proceedings will not have a material effect on our results of operations. If events occur which indicate payment of these amounts is unnecessary, the reversal of the liabilities would result in the recognition of benefits in the period we determine the liabilities are no longer necessary. If our estimates of the federal, state, and foreign income tax liabilities and indirect tax liabilities are less than the ultimate assessment, it could result in a further charge to expense.