Note 6 — Income Taxes

The effective tax rate was 74.4% for the nine months ended February 28, 2018 compared to 13.1% for the nine months ended February 28, 2017. The increase in the Company’s effective tax rate was due to the impact of the Tax Cuts and Jobs Act (the “Tax Act”), which included additional income tax expense of $2,030 million in the third quarter of fiscal 2018. The effective tax rate also reflected the tax benefit from stock-based compensation in the current period as a result of the adoption of ASU 2016-09 in the first quarter of fiscal 2018.

Tax Act

On December 22, 2017, the United States enacted the Tax Cuts and Jobs Act, which significantly changes previous U.S. tax laws, including provisions for a one-time transition tax on deemed repatriation of undistributed foreign earnings, a reduction in the corporate tax rate from 35% to 21%, as well as other changes. Under U.S. GAAP, accounting for the effect of tax legislation is required in the period of enactment. For fiscal 2018, the change in the corporate tax rate, effective January 1, 2018, results in a blended U.S. federal statutory rate for the Company of approximately 29%. The Tax Act also includes provisions that are not yet effective for the Company, including a provision to tax global intangible low-taxed income (GILTI) of foreign subsidiaries, which will be effective for the Company beginning June 1, 2018. In accordance with U.S. GAAP, the Company has made an accounting policy election to treat taxes due under the GILTI provision as a current period expense.

Income tax expense for the nine months ended February 28, 2018 includes provisional expense of $2,030 million, which consists primarily of $2,010 million for the one-time transition tax on the deemed repatriation of undistributed foreign earnings, and $107 million resulting from the impact of changes in the tax rate, primarily on the remeasurement of deferred tax assets and liabilities. The remaining provisions of the Tax Act did not have a material impact on the Company’s Unaudited Condensed Consolidated Financial Statements upon enactment.

In accordance with U.S. Securities and Exchange Commission Staff Accounting Bulletin No. 118 (“SAB 118”), the provisional amounts recorded represent reasonable estimates of the effects of the Tax Act for which the analysis is not yet complete. As the Company completes its analysis of the Tax Act, including collecting, preparing and analyzing necessary information, performing and refining calculations and obtaining additional guidance from the U.S. Internal Revenue Services (IRS), U.S. Treasury Department, FASB or other standard setting and regulatory bodies on the Tax Act, it may record adjustments to the provisional amounts, which may be material. In accordance with SAB 118, the Company’s accounting for the tax effects of the Tax Act will be completed during the measurement period, which should not extend beyond one year from the enactment date. At February 28, 2018, there were no provisions for which the Company was unable to record a reasonable estimate of the impact.

Transition Tax

The Company recorded a provisional expense of $2,010 million related to the one-time transition tax on the deemed repatriation of undistributed foreign earnings. The transition tax is based on the Company’s estimated total post-1986 undistributed foreign earnings at a tax rate of 15.5% for foreign cash and certain other specified assets, and 8% on the remaining earnings. The actual transition tax due will be based on actual undistributed foreign earnings and cash and certain other specified assets as of the required measurement date, which could materially affect the amount of the transition tax. The Company expects to pay the transition tax in installments over an eight-year period. Accordingly, the non-current portion of the provisional expense for the transition tax of $1,242 million, net of applicable foreign tax credits the Company expects to utilize, has been recorded in Deferred income taxes and other liabilities on the Unaudited Condensed Consolidated Balance Sheets.

Prior to the enactment of the Tax Act, the Company regularly determined certain foreign earnings to be indefinitely reinvested outside the United States. Following enactment of the Tax Act, the Company no longer considers any historical or future earnings to be indefinitely reinvested with its foreign subsidiaries.

Impact of Changes in the Tax Rate

As a result of the reduction in the corporate tax rate from 35% to 21%, the Company recorded a net provisional expense of $107 million for the impact of changes in the tax rate, primarily on deferred tax assets and liabilities. The Company remeasured certain deferred tax assets and liabilities based on the rates at which they are expected to be realized. The total provisional expense recorded during the period for the remeasurement of deferred tax assets and liabilities was $149 million. This was partially offset by a $42 million tax benefit for the reduction in the tax rate applied to current year earnings. These amounts may be adjusted to the extent that actual operating results differ from the Company’s current estimates.

Other Tax Matters

As of February 28, 2018, total gross unrecognized tax benefits, excluding related interest and penalties, were $718 million, $504 million of which would affect the Company’s effective tax rate if recognized in future periods. The Company’s total gross unrecognized tax benefits, excluding related interest and penalties, as of February 28, 2018, and the portion that would affect the effective tax rate if recognized in future periods, were impacted by the enactment of the Tax Act. As of May 31, 2017, total gross unrecognized tax benefits, excluding related interest and penalties, were $461 million. The liability for payment of interest and penalties decreased $25 million during the nine months ended February 28, 2018. As of February 28, 2018 and May 31, 2017, accrued interest and penalties related to uncertain tax positions were $146 million and $171 million, respectively (excluding federal benefit).

The Company is subject to taxation in the United States, as well as various state and foreign jurisdictions. The Company has closed all U.S. federal income tax matters through fiscal 2014, with the exception of certain transfer pricing adjustments. The Company is currently under audit by the IRS for fiscal 2015 and 2016.

The Company’s major foreign jurisdictions, China and the Netherlands, have concluded substantially all income tax matters through calendar 2007 and fiscal 2011, respectively. Although the timing of resolution of audits is not certain, the Company evaluates all domestic and foreign audit issues in the aggregate, along with the expiration of applicable statutes of limitations, and estimates that it is reasonably possible the total gross unrecognized tax benefits could decrease by up to $126 million within the next 12 months.