INCOME TAXES

12 Months Ended

May 28, 2017

NOTE 14. INCOME TAXES

The components of earnings before income taxes and after-tax earnings from joint ventures and the corresponding income taxes thereon are as follows:

		Fiscal Year
In Millions		2017		2016		2015
Earnings before income taxes and after-tax earnings from joint ventures:
United States	$	1,941.6	$	1,941.4	$	1,338.6
Foreign		329.7		462.2		423.3
Total earnings before income taxes and after-tax earnings from joint ventures	$	2,271.3	$	2,403.6	$	1,761.9
Income taxes:
Currently payable:
Federal	$	368.5	$	489.8	$	392.7
State and local		21.1		30.8		29.3
Foreign		81.7		114.0		139.5
Total current		471.3		634.6		561.5
Deferred:
Federal		201.3		123.0		70.3
State and local		10.2		(6.9)		(8.7)
Foreign		(27.6)		4.5		(36.3)
Total deferred		183.9		120.6		25.3
Total income taxes	$	655.2	$	755.2	$	586.8

The following table reconciles the United States statutory income tax rate with our effective income tax rate:

	Fiscal Year
	2017		2016		2015
United States statutory rate	35.0	%	35.0	%	35.0	%
State and local income taxes, net of federal tax benefits	0.8		0.7		0.7
Foreign rate differences	(3.5)		(2.2)		(3.1)
Repatriation of foreign earnings	-		-		4.5
Non-deductible goodwill	-		2.6		-
Domestic manufacturing deduction	(2.8)		(2.0)		(2.9)
Other, net (a)	(0.7)		(2.7)		(0.9)
Effective income tax rate	28.8	%	31.4	%	33.3	%

(a) Fiscal 2016 includes 0.6 percent tax benefit related to the divestiture of our business in Venezuela. See Note 3

for additional information.

The tax effects of temporary differences that give rise to deferred tax assets and liabilities are as follows:

In Millions		May 28, 2017		May 29, 2016
Accrued liabilities	$	70.0	$	89.9
Compensation and employee benefits		419.2		491.5
Pension		196.3		322.0
Tax credit carryforwards		18.4		4.5
Stock, partnership, and miscellaneous investments		276.4		353.6
Capital losses		29.8		14.5
Net operating losses		109.5		97.9
Other		85.6		84.1
Gross deferred tax assets		1,205.2		1,458.0
Valuation allowance		231.8		227.0
Net deferred tax assets		973.4		1,231.0
Brands		1,310.1		1,311.7
Fixed assets		484.5		476.3
Intangible assets		238.6		221.8
Tax lease transactions		45.8		48.0
Inventories		60.0		53.0
Stock, partnership, and miscellaneous investments		479.4		476.0
Unrealized hedges		45.4		22.6
Other		29.0		21.2
Gross deferred tax liabilities		2,692.8		2,630.6
Net deferred tax liability	$	1,719.4	$	1,399.6

We have established a valuation allowance against certain of the categories of deferred tax assets described above as current evidence does not suggest we will realize sufficient taxable income of the appropriate character (e.g., ordinary income versus capital gain income) within the carryforward period to allow us to realize these deferred tax benefits.

Of the total valuation allowance of $231.8 million, the majority relates to a deferred tax asset for losses recorded as part of the Pillsbury acquisition in the amount of $167.2 million, $53.3 million relates to various state and foreign loss carryforwards, and $11.1 million relates to various foreign capital loss carryforwards. As of May 28, 2017, we believe it is more-likely-than-not that the remainder of our deferred tax assets are realizable.

We have $142.1 million of tax loss carryforwards. Of this amount, $125.3 million is foreign loss carryforwards. The carryforward periods are as follows: $93.2 million do not expire; $3.7 million expire in fiscal 2018 and 2019; and $28.4 million expire in fiscal 2020 and beyond. The remaining $16.8 million are state operating loss carryforwards, the majority of which expire after fiscal 2023.

We have not recognized a deferred tax liability for unremitted earnings of approximately $2.3 billion from our foreign operations because our subsidiaries have invested or will invest the undistributed earnings indefinitely, or the earnings will be remitted in a tax-neutral transaction. It is not practicable for us to determine the amount of unrecognized deferred tax liabilities on these indefinitely reinvested earnings. Deferred taxes are recorded for earnings of our foreign operations when we determine that such earnings are no longer indefinitely reinvested. In fiscal 2015, we approved a one-time repatriation of $606.1 million of historical foreign earnings to reduce the economic cost of funding restructuring initiatives and the acquisition of Annie’s. We recorded a discrete tax charge of $78.6 million in fiscal 2015 related to this action. We have previously asserted that our historical foreign earnings are permanently reinvested and will only be repatriated in a tax-neutral manner, and this one-time repatriation does not change this on-going assertion.

We are subject to federal income taxes in the United States as well as various state, local, and foreign jurisdictions. A number of years may elapse before an uncertain tax position is audited and finally resolved. While it is often difficult to predict the final outcome or the timing of resolution of any particular uncertain tax position, we believe that our liabilities for income taxes reflect the most likely outcome. We adjust these liabilities, as well as the related interest, in light of changing facts and circumstances. Settlement of any particular position would usually require the use of cash.

The number of years with open tax audits varies depending on the tax jurisdiction. Our major taxing jurisdictions include the United States (federal and state) and Canada. Various tax examinations by United States state taxing authorities could be conducted for any open tax year, which vary by jurisdiction, but are generally from 3 to 5 years.

Several state and foreign examinations are currently in progress. We do not expect these examinations to result in a material impact on our results of operations or financial position.

During fiscal 2017, the Internal Revenue Service (IRS) concluded its field examination of our federal tax returns for fiscal 2013 and 2014. The audit closure and related adjustments did not have a material impact on our results of operations or financial position. As of May 28, 2017, we have effectively settled all issues with the IRS for fiscal years 2014 and prior.

During fiscal 2017, the Brazilian tax authority, Secretaria da Receita Federal do Brasil (RFB), concluded audits of our 2012 and 2013 tax return years. These audits included a review of our determinations of amortization of certain goodwill arising from the acquisition of Yoki Alimentos S.A. (Yoki). The RFB has proposed adjustments that effectively eliminate the goodwill amortization benefits related to this transaction. We believe we have meritorious defenses and intend to contest the disallowance.

We apply a more-likely-than-not threshold to the recognition and derecognition of uncertain tax positions. Accordingly, we recognize the amount of tax benefit that has a greater than 50 percent likelihood of being ultimately realized upon settlement. Future changes in judgment related to the expected ultimate resolution of uncertain tax positions will affect earnings in the period of such change.

The following table sets forth changes in our total gross unrecognized tax benefit liabilities, excluding accrued interest, for fiscal 2017 and fiscal 2016. Approximately $62 million of this total in fiscal 2017 represents the amount that, if recognized, would affect our effective income tax rate in future periods. This amount differs from the gross unrecognized tax benefits presented in the table because certain of the liabilities below would impact deferred taxes if recognized. We also would record a decrease in U.S. federal income taxes upon recognition of the state tax benefits included therein.

	Fiscal Year
In Millions		2017		2016
Balance, beginning of year	$	176.5	$	161.1
Tax positions related to current year:
Additions		27.2		31.6
Tax positions related to prior years:
Additions		0.9		23.9
Reductions		(47.9)		(25.7)
Settlements		(9.6)		(4.0)
Lapses in statutes of limitations		(11.6)		(10.4)
Balance, end of year	$	135.5	$	176.5

As of May 28, 2017, we expect to pay approximately $1.8 million of unrecognized tax benefit liabilities and accrued interest within the next 12 months. We are not able to reasonably estimate the timing of future cash flows beyond 12 months due to uncertainties in the timing of tax audit outcomes. The remaining amount of our unrecognized tax liability was classified in other liabilities.

We report accrued interest and penalties related to unrecognized tax benefit liabilities in income tax expense. For fiscal 2017, we recognized a net benefit of $5.6 million of tax-related net interest and penalties, and had $23.1 million of accrued interest and penalties as of May 28, 2017. For fiscal 2016, we recognized a net benefit of $2.7 million of tax-related net interest and penalties, and had $32.1 million of accrued interest and penalties as of May 29, 2016.