INCOME TAXES

The components of income before income taxes and the provision for income taxes were as follows:



(millions)	2017			2016			2015
Income before income taxes
United States	$	1,109		$	830		$	551
Foreign	565			97			222
	1,674			927			773
Income taxes
Currently payable
Federal	358			173			212
State	31			26			42
Foreign	79			60			74
	468			259			328
Deferred
Federal	(39		)	16			(136		)
State	8			6			(14		)
Foreign	(25		)	(48		)	(19		)
	(56		)	(26		)	(169		)
Total income taxes	$	412		$	233		$	159

The difference between the U.S. federal statutory tax rate and the Company’s effective income tax rate was:



	2017		2016		2015
U.S. statutory income tax rate	35.0	%	35.0	%	35.0	%
Foreign rates varying from 35%	(6.7	)	(5.0	)	(9.6	)
Excess tax benefits on share-based compensation	(0.3	)	(3.7	)	—
State income taxes, net of federal benefit	1.4		2.4		2.3
Cost (benefit) of remitted and unremitted foreign earnings	0.1		0.1		(4.4	)
U.S. deduction for qualified production activities	(1.4	)	(2.8	)	(2.3	)
Statutory rate changes, deferred tax impact	(9.0	)	(0.1	)	(0.8	)
U.S. deemed repatriation tax	10.4		—		—
Intangible property transfer	(2.4	)	—		—
Venezuela deconsolidation	—		1.8		—
Venezuela remeasurement	—		0.4		5.0
VIE deconsolidation	—		—		(2.3	)
Other	(2.5	)	(2.9	)	(2.3	)
Effective income tax rate	24.6	%	25.2	%	20.6	%

As presented in the preceding table, the Company’s 2017 consolidated effective tax rate was 24.6%, as compared to 25.2% in 2016 and 20.6% in 2015.

On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (Tax Act). The Tax Act makes broad and complex changes to the U.S. tax code which impact our year ended December 30, 2017 including but not limited to, reducing the corporate tax rate from 35% to 21%, requiring a one-time transition tax on certain unrepatriated earnings of foreign subsidiaries that may be electively paid over eight years, and accelerating first year expensing of certain capital expenditures.

Shortly after the Tax Act was enacted, the SEC staff issued Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (SAB 118), which provides guidance on accounting for the Tax Act’s impact. SAB 118 provides a measurement period, which in no case should extend beyond one year from the Tax Act enactment date, during which a company may complete the accounting for the impacts of the Tax Act under ASC Topic 740. Per SAB 118, the Company must reflect the income tax effects of the Tax Act in the reporting period in which the accounting under ASC Topic 740 is complete. To the extent that a company’s accounting for certain income tax effects of the Tax Act is incomplete, the Company can determine a reasonable estimate for those effects and record a provisional estimate in the financial statements in the first reporting period in which a reasonable estimate can be determined. If a Company cannot determine a provisional estimate to be included in the financial statements, the Company should continue to apply ASC 740 based on the provisions of the tax laws that were in effect immediately prior to the Tax Act being enacted. If a Company is unable to provide a reasonable estimate of the impacts of the Tax Act in a reporting period, a provisional amount must be recorded in the first reporting period in which a reasonable estimate can be determined.

The Company's year end income tax provision includes $4 million of net additional income tax expense during the quarter ended December 30, 2017, driven by the reduction in the U.S. corporate tax rate and the transition tax on foreign earnings.

Reduction in U.S. Corporate Tax Rate: The tax provision includes a tax benefit of $153 million for the remeasurement of certain deferred tax assets and liabilities to reflect the corporate tax rate reduction impact to the Company's net deferred tax balances. This adjustment is considered complete.

Transition tax on foreign earnings: The transition tax is a tax on the previously untaxed accumulated and current earnings and profits of certain of our foreign subsidiaries. In order to determine the amount of the transition tax, the Company must determine, in addition to other factors, the amount of post-1986 earnings and profits (E&P) of the relevant subsidiaries, as well as the amount of non-U.S. income taxes paid on such earnings. E&P is similar to retained earnings of the subsidiary, but requires other adjustments to conform to U.S. tax rules. As of December 30, 2017, based on accumulated foreign earnings and profits of approximately $2.6 billion, which are primarily in Europe, the Company was able to make a reasonable estimate of the transition tax and recorded a transition tax obligation of $157 million, which the Company expects to elect to pay over eight years. The current portion of $17 million is included within Other current liabilities and the remainder is included within Other liabilities on the balance sheet. However, the Company is awaiting further interpretative guidance, continuing to assess available tax methods and elections, and continuing to gather additional information in order to finalize calculations and complete the accounting for the transition tax liability.

In addition to the transition tax, the Tax Act introduced a territorial tax system, which will be effective beginning in 2018. The territorial tax system will impact the Company’s overall global capital and legal entity structure, working capital, and repatriation plan on a go-forward basis. In light of the territorial tax system, and other new international provisions within the Tax Act that are effective beginning in 2018, the Company is currently analyzing its global capital and legal entity structure, working capital requirements, and repatriation plans. Based on the Company's analysis of the territorial tax system and other new international tax provisions as of December 30, 2017, the Company continues to support the assertion to indefinitely reinvest $2.6 billion of accumulated foreign earnings and profits in Europe and other non-U.S. jurisdictions. As a result, as a reasonable provisional estimate, the Company did not record any new deferred tax liabilities associated with the territorial tax system or any changes to the indefinite reinvestment assertion. Further, it is impracticable for the Company to estimate any future tax costs for any unrecognized deferred tax liabilities associated with its indefinite reinvestment assertion as of December 30, 2017, because the actual tax liability, if any, would be dependent on complex analysis and calculations considering various tax laws, exchange rates, circumstances existing when a repatriation, sale, or liquidiation occurs, or other factors. If there are any changes to our indefinite reinvestment assertion as a result of finalizing our assessment of the new Tax Act, the Company will adjust its provisional estimates, record, and disclose any tax impacts in the appropriate period, pursuant to SAB 118.

As of December 30, 2017, the Company did not identify any items from the Tax Act for which a provisional estimate could not be determined. In addition, other provisions of the Tax Act for which the Company has finalized or is continuing to finalize its accounting are not material (or expected to be material) to the financial statements as of and for the year ended December 30, 2017.

The 2017 effective income tax rate benefited from a deferred tax benefit of $39 million resulting from intercompany transfers of intellectual property under the application of the newly adopted standard. See discussion regarding the adoption of ASU 2016-16, Intra-Entity Transfers of Assets Other Than Inventory, in Note 1.

The 2016 effective income tax rate benefited from excess tax benefits from share-based compensation totaling $36 million for federal, state, and foreign income taxes. During 2016, as described in Note 16, the Company deconsolidated its Venezuelan operations resulting in a pre-tax charge of $72 million with no significant associated tax benefit. As of December 31, 2016 substantially all foreign earnings were considered permanently invested. Accumulated foreign earnings of approximately $1.9 billion, primarily in Europe, were considered indefinitely reinvested. Due to the varying tax laws around the world and fluctuation in foreign exchange rates, it is not practicable to determine the unrecognized deferred tax liability on these earnings because the actual tax liability, if any, would be dependent on circumstances existing when a repatriation, sale, or liquidation occurs.

The 2015 effective income tax rate benefited due to mark-to-market loss adjustments to the Company’s pension plans in primarily higher tax jurisdictions. This resulted in a greater percentage of total income being generated in lower tax jurisdictions and permanent tax differences in the U.S. having a higher percentage impact on the tax rate. In addition, the tax rate benefited from a reduction in tax related to current year remitted and unremitted earnings. The VIE deconsolidation, described in Note 6, included a $67 million non-cash non-taxable gain which positively impacted the tax rate. During 2015, the Company recorded pre-tax charges of $112 million in the Latin America operating segment due to the devaluation of the Venezuelan currency which had no associated tax benefit. As of January 2, 2016 substantially all foreign earnings were considered permanently invested. Accumulated foreign earnings of approximately $2.0 billion, primarily in Europe, were considered indefinitely reinvested. Due to the varying tax laws around the world and fluctuation in foreign exchange rates, it is not practicable to determine the unrecognized deferred tax liability on these earnings because the actual tax liability, if any, would be dependent on circumstances existing when a repatriation, sale, or liquidation occurs.

Management monitors the Company’s ability to utilize certain future tax deductions, operating losses and tax credit carryforwards, prior to expiration. Changes resulting from management’s assessment will result in impacts to deferred tax assets and the corresponding impacts on the effective income tax rate. Valuation allowances were recorded to reduce deferred tax assets to an amount that will, more likely than not, be realized in the future. The total tax benefit of carryforwards at year-end 2017 and 2016 were $239 million and $181 million, respectively, with related valuation allowances at year-end 2017 and 2016 of $153 million and $131 million, respectively. Of the total carryforwards at year-end 2017, substantially all will expire after 2021.

The following table provides an analysis of the Company’s deferred tax assets and liabilities as of year-end 2017 and 2016. Deferred tax assets on employee benefits decreased in 2017 due primarily to the impact of the lower U.S. tax rate as a result of the Tax Act, the impact of favorable pension and postretirement plan asset returns, and a curtailment benefit in conjunction with the amendment of certain defined benefit pension plans in the U.S. and Canada for salaried employees freezing the compensation and service periods used to calculate pension benefits for active salaried employees who participate in the affected pension plans. Deferred tax liabilities related to intangible assets decreased as a result of the lower U.S. tax rate.



	Deferred tax assets						Deferred tax liabilities
(millions)	2017			2016			2017		2016
U.S. state income taxes	$	—		$	—		$	48	$	34
Advertising and promotion-related	13			17			—		—
Wages and payroll taxes	26			42			—		—
Inventory valuation	20			28			—		—
Employee benefits	154			403			—		—
Operating loss, credit and other carryforwards	239			181			—		—
Hedging transactions	42			—			—		51
Depreciation and asset disposals	—			—			208		318
Trademarks and other intangibles	—			—			332		602
Deferred compensation	25			38			—		—
Stock options	33			41			—		—
Other	71			31			—		—
	623			781			588		1,005
Less valuation allowance	(153		)	(131		)	—		—
Total deferred taxes	$	470		$	650		$	588	$	1,005
Net deferred tax asset (liability)	$	(118	)	$	(355	)
Classified in balance sheet as:
Other assets	$	245		$	170
Other liabilities	(363		)	(525		)
Net deferred tax asset (liability)	$	(118	)	$	(355	)

The change in valuation allowance reducing deferred tax assets was:



(millions)	2017			2016			2015
Balance at beginning of year	$	131		$	63		$	51
Additions charged to income tax expense (a)	35			70			23
Reductions credited to income tax expense	(28		)	(4		)	(7		)
Currency translation adjustments	15			2			(4		)
Balance at end of year	$	153		$	131		$	63

(a) During 2017, the Company increased deferred tax assets by $15 million related to a foreign loss carryforward related to the acquisition of a majority ownership interest in a natural, bio-organic certified breakfast company. The entire adjustment of $15 million was offset by a corresponding valuation allowance because it is not expected to be used in the future. During 2016, the Company increased its deferred tax assets by $34 million relating to a revision of 2014 foreign loss carryforwards. The entire adjustment of $34 million was offset by a corresponding adjustment in the valuation allowance because it is not expected to be used in the future. These adjustments are not considered material to the previously issued or current year financial statements. Also during 2016, the Company increased its deferred tax assets by $26 million related to a foreign loss carryforward. The entire amount was offset by a corresponding valuation allowance because it is not expected to be used in the future.

Uncertain tax positions

The Company is subject to federal income taxes in the U.S. as well as various state, local, and foreign jurisdictions. The Company’s 2017 provision for U.S. federal income taxes represents approximately 80% of the Company’s consolidated income tax provision. The Company was chosen to participate in the Internal Revenue Service (IRS) Compliance Assurance Program (CAP) beginning with the 2008 tax year. As a result, with limited exceptions, the Company is no longer subject to U.S. federal examinations by the IRS for years prior to 2017. The Company is under examination for income and non-income tax filings in various state and foreign jurisdictions.

As of December 30, 2017, the Company has classified $8 million of unrecognized tax benefits as a current liability. Management’s estimate of reasonably possible changes in unrecognized tax benefits during the next twelve months is comprised of the current liability balance expected to be settled within one year, offset by approximately $5 million of projected additions related primarily to ongoing intercompany transfer pricing activity. Management is currently unaware of any issues under review that could result in significant additional payments, accruals, or other material deviation in this estimate.

Following is a reconciliation of the Company’s total gross unrecognized tax benefits as of the years ended December 30, 2017, December 31, 2016 and January 2, 2016. For the 2017 year, approximately $47 million represents the amount that, if recognized, would affect the Company’s effective income tax rate in future periods.



(millions)	2017			2016			2015
Balance at beginning of year	$	63		$	73		$	78
Tax positions related to current year:
Additions	6			6			8
Tax positions related to prior years:
Additions	5			1			9
Reductions	(8		)	(14		)	(12		)
Settlements	(4		)	1			(10		)
Lapses in statutes of limitation	(2		)	(4		)	—
Balance at end of year	$	60		$	63		$	73

For the year ended December 30, 2017, the Company recognized $2 million of tax-related interest resulting in an accrual balance of $21 million at year-end. For the year ended December 31, 2016, the Company recognized $2 million of tax-related interest resulting in an accrual balance of $19 million at year-end. For the year ended January 2, 2016, the Company paid tax-related interest totaling $3 million reducing the accrual balance to $17 million at year end.