Income Taxes

3 Months Ended

Mar. 27, 2020



4.	Income Taxes

On March 27, 2020, the U.S. government enacted the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act. The CARES Act was a response to the market volatility and instability resulting from the coronavirus pandemic. It includes provisions to support individuals and businesses in the form of loans, grants, and tax changes among other types of relief. Estimates of the effects of the changes to the U.S. tax code have been incorporated into the Company’s three months ended March 27, 2020 provision for income taxes, as applicable.

The CARES Act income tax provisions applicable to the Company effective within the three months ended March 27, 2020 include, but are not limited to (1) carrybacks of certain net operating losses (“NOLs”) generated in tax years beginning after December 31, 2017 and before January 1, 2021 to the preceding five taxable years, (2) suspension of the 80.0% taxable income limitation for NOLs generated in tax years beginning after December 31, 2017 and before January 1, 2021, (3) increase in the limitation of the interest expense deduction under Internal Revenue Code §163(j) from 30.0% to 50.0% of adjusted taxable income for any taxable year beginning in 2019 or 2020, (4) expansion of the charitable contribution deduction limit to 25.0% of taxable income versus the previous 10.0% limitation for contributions made during 2020, and (5) acceleration of Alternative Minimum Tax credits being refunded incrementally in tax years 2018, 2019, 2020 and 2021 to recover the entire remaining balance in either the 2018 or 2019 tax year.

Accounting Standards Codification Topic 740, "Income Taxes," requires companies to recognize the effects of tax law changes in the period of enactment, which for the Company is the three months ended March 27, 2020. As a result of the CARES Act, the Company is able to carryback a portion of its estimated prior year U.S. Federal NOLs resulting in an anticipated cash tax refund of $91.5 million. A tax benefit of $11.5 million has been recognized primarily due to a remeasurement of the NOLs to the historical statutory tax rates. The carryback of the U.S. Federal NOLs has an ancillary effect on the Company’s unrecognized tax benefits, as disclosed below. These amounts may change when the Federal income tax return for the tax year ended September 27, 2019 is filed with the Internal Revenue Service ("IRS") no later than in the quarter ending September 25, 2020.

The Company recognized an income tax benefit of $18.9 million on a loss from continuing operations before income taxes of $75.6 million for the three months ended March 27, 2020, and an income tax benefit of $204.7 million on a loss from continuing operations before income taxes of $49.5 million for the three months ended March 29, 2019. This resulted in effective tax rates of 25.0% and 413.5% for the three months ended March 27, 2020 and March 29, 2019, respectively. The income tax benefit for the three months ended March 27, 2020 was comprised of $22.4 million of current tax benefit and $3.5 million of deferred tax expense. The deferred tax expense was predominantly comprised of deferred tax expense as a result of the CARES Act partially offset by deferred tax benefit related to previously acquired intangibles. The income tax benefit for the three months ended March 29, 2019 was comprised of $38.5 million of current tax expense and $243.2 million of deferred tax benefit. The deferred tax benefit was predominantly related to previously acquired intangibles as well as the reorganization of the Company's intercompany financing and associated legal entity ownership which eliminated the interest bearing deferred tax obligation.

The income tax benefit was $18.9 million for the three months ended March 27, 2020, compared with a tax benefit of $204.7 million for the three months ended March 29, 2019. The $185.8 million net decrease in the tax benefit included a decrease of $192.8 million attributed to the tax benefit from the reorganization of the Company's intercompany financing and associated legal entity ownership, a decrease in tax benefit of $6.0 million predominately attributed to changes in the timing, amount and jurisdictional mix of income, and a decrease of $1.4 million attributed to net restructuring, partially offset by an increase of $11.5 million attributed to the CARES Act, an increase of $1.7 million attributed to the gain on debt repurchased, and an increase of $1.2 million attributed to separation costs.

During the three months ended March 27, 2020, and fiscal 2019, the net cash payments for income taxes were $12.7 million and $30.7 million, respectively.

On August 5, 2019, the IRS proposed an adjustment to the taxable income of Mallinckrodt Hospital Products Inc. (“MHP”) (formerly known as Cadence Pharmaceuticals, Inc. ("Cadence")) as a result of its findings in the audit of MHP's tax year ended September 26, 2014. The proposed adjustment to taxable income of $871.0 million, excluding potential associated interest and penalties, is proposed as a multi-year adjustment and may result in a non-cash reduction of the Company's U.S. Federal net operating loss carryforward of $765.1 million. The Company strongly disagrees with the proposed adjustment, continues to engage in resolution discussions with the IRS audit team and intends to contest it through all available administrative and judicial remedies, which may take a number of years to conclude. See Note 11 for further details.

The Company's unrecognized tax benefits, excluding interest, totaled $418.9 million and $398.6 million as of March 27, 2020 and December 27, 2019, respectively. The net increase of $20.3 million primarily resulted from an increase to prior period tax positions of $25.1 million offset by a decrease related to releases due to a lapse of statute of limitations of $4.8 million. If favorably settled, $416.6 million of unrecognized tax benefits as of March 27, 2020 would benefit the effective tax rate, of which up to $20.0 million may be reported in discontinued operations. The total amount of accrued interest and penalties related to these obligations was $34.5 million and $32.9 million as of March 27, 2020 and December 27, 2019, respectively.

It is reasonably possible that within the next twelve months the unrecognized tax benefits could decrease by up to $95.5 million and the amount of related interest and penalties could decrease by up to $22.3 million as a result of payments or releases due to the resolution of various United Kingdom ("U.K.") and non-U.K. examinations, appeals and litigation and the expiration of various statutes of limitation.