11. Income Taxes

The components of income from continuing operations before income tax were as follows:



(in millions of dollars)	2017		2016		2015
Domestic operations	$	68.7	$	33.9	$	60.9
Foreign operations	89.4		91.2		70.5
Total	$	158.1	$	125.1	$	131.4

The reconciliation of income taxes computed at the U.S. federal statutory income tax rate of 35% to our effective income tax rate for continuing operations was as follows:



(in millions of dollars)	2017			2016			2015
Income tax at U.S. statutory rate of 35%	$	55.3		$	43.8		$	46.0
Effect of the U.S. Tax Act	(25.7		)	—			—
State, local and other tax, net of federal benefit	3.6			2.4			2.1
U.S. effect of foreign dividends and withholding taxes	4.9			4.6			3.9
Unrealized foreign currency expense (benefit) on intercompany debt	—			0.7			(0.7		)
Realized foreign exchange net loss on intercompany loans	—			(9.6		)	—
Revaluation of previously held equity interest	—			(12.0		)	—
Foreign income taxed at a lower effective rate	(6.9		)	(4.6		)	(5.6		)
Interest on Brazilian Tax Assessment	2.2			2.8			2.7
Expiration of tax credits	—			10.9			1.0
Decrease in valuation allowance	(0.6		)	(9.9		)	(1.3		)
Excess benefit from stock-based compensation	(5.6		)	—			—
Other	(0.8		)	0.5			(2.6		)
Income taxes as reported	$	26.4		$	29.6		$	45.5
Effective tax rate	16.7		%	23.7		%	34.6		%

2017

For 2017, we recorded income tax expense of $26.4 million on income before taxes of $158.1 million. The lower effective rate for 2017 of 16.7% was primarily driven by a $25.7 million benefit resulting from the U.S. Tax Act, and a $5.6 million benefit due to the impact of the Company's adoption of ASU No. 2016-9, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. ASU No. 2016-9 in 2017.

Tax Reform

On December 22, 2017, the U.S. Tax Act was signed into law. The U.S. Tax Act makes broad and complex changes to the U.S. tax code, including, but not limited to: (i) reducing the future U.S. federal corporate tax rate from 35 percent to 21 percent; (ii) requiring companies to pay a one-time transition tax on certain undistributed earnings of foreign subsidiaries; and (iii) bonus depreciation that will allow for full expensing of qualified property.

The U.S. Tax Act also established new tax laws that will affect 2018, including, but not limited to: (i) the reduction of the U.S. federal corporate tax rate discussed above; (ii) a general elimination of U.S. federal income taxes on dividends from foreign subsidiaries; (iii) a new provision designed to tax global intangible low-taxed income ("GILTI"); (iv) the repeal of the domestic production activity deductions; (v) limitations on the deductibility of certain executive compensation; (vi) limitations on the use of foreign tax credits to reduce the U.S. income tax liability; and (vii) a new provision that allows a domestic corporation an immediate deduction for a portion of its foreign derived intangible income ("FDII").

The SEC staff issued Staff Accounting Bulletin ("SAB") 118, which provides guidance on accounting for the tax effects of the U.S. Tax Act. SAB 118 provides a measurement period that should not extend beyond one year from the enactment date for companies to complete the related accounting under ASC 740, Accounting for Income Taxes. In accordance with SAB 118, a company must reflect the income tax effects of those aspects of the U.S. Tax Act for which the accounting under ASC 740 is complete. To the extent that a company’s accounting for a certain income tax effect of the U.S. Tax Act is incomplete, but it is able to determine a reasonable estimate, it must record a provisional estimate in the financial statements. If a company cannot determine a provisional estimate to be included in the financial statements, it should continue to apply ASC 740 on the basis of the provisions of the tax laws that were in effect immediately before the enactment of the U.S. Tax Act.

Changes in tax rates and tax laws are accounted for in the period of enactment. Therefore, during the year ended December 31, 2017, we recorded a net tax benefit totaling $25.7 million related to our current provisional estimate of the provisions of the U.S. Tax Act.

Transition Toll Tax

The U.S. Tax Act eliminates the deferral of U.S. income tax on the historical undistributed earnings by imposing the Transition Toll Tax, which is a one-time mandatory deemed repatriation tax on undistributed foreign earnings. The Transition Toll Tax is assessed on the U.S. shareholder's share of the foreign corporation's accumulated foreign earnings that have not previously been taxed. Earnings in the form of cash and cash equivalents will be taxed at a rate of 15.5% and all other earnings will be taxed at a rate of 8.0%.

As of December 31, 2017, we have accrued income tax liabilities of $38.0 million under the Transition Toll Tax, of which $3.0 million is expected to be paid within one year. The Transition Toll Tax will be paid over an eight-year period, starting in 2018, and will not accrue interest. The Transition Toll Tax expense, net of foreign tax credit carryforwards of $14.0 million, is $24.0 million.

Effect on Deferred Tax Assets and Liabilities

Our deferred tax assets and liabilities are measured at the enacted tax rate expected to apply when these temporary differences are expected to be realized or settled.

As our deferred tax liabilities exceed the balance of our deferred tax assets as of the date of enactment, we have recorded a tax benefit of $49.7 million, reflecting the decrease in the U.S. corporate income tax rate.

Status of our Assessment

The Company’s accounting for certain components of the U.S. Tax Act is not complete. However, the Company was able to make reasonable estimates of the effects and recorded provisional estimates for these items. In connection with our initial analysis of the impact of the U.S. Tax Act, the Company recorded a provisional benefit of $25.7 million. The benefit consists of an expense of $24.0 million, net of foreign tax credit carryforwards of $14.0 million, for the one-time Transition Toll Tax and a net benefit of $49.7 million in connection with the revaluation of the deferred tax assets and liabilities resulting from the decrease in the U.S. corporate tax rate. To compute the Transition Toll Tax, the Company must determine the amount of post-1986 accumulated earnings and profits of the relevant subsidiaries as well as the total non-U.S. income taxes on the earnings and profits. While the Company made a reasonable estimate of the Transition Toll Tax, further information will be gathered and analyzed in order to compute a more precise final amount. Additionally, the Company was able to make a reasonable estimate of the impact of the reduction of the U.S. corporate tax rate, but it may be impacted by other components of the U.S. Tax Act, including, but not limited to, the state tax effects of adjustments to federal temporary differences, and the impact of changes to limits in connection with the deductibility of executive compensation. Due to the complexity of the GILTI tax rules, the Company continues to analyze this provision and its impact and the proper application of ASC 740. Under GAAP, the Company is allowed to make an accounting policy choice to either treat the taxes due on future U.S. inclusions in taxable income related to GILTI as a current period expense when incurred (the "period cost method") or factor in such amounts in to the Company’s measurement of deferred taxes (the "deferred method"). The Company’s selection of an accounting policy in connection with GILTI is dependent upon additional analysis and potential future modifications to the existing structure, which are yet to be known. Accordingly, the Company has not recorded any adjustments related to GILTI in our financial statements and has not made a policy choice regarding whether to record deferred taxes on GILTI. The Company will continue its analysis of the impact of the U.S. Tax Act on the financial statements. The actual impact of the U.S. Tax Act may differ from the current estimate, possibly materially, due to changes to interpretations and assumptions the Company has made, future guidance that may be issued and actions taken by the Company as a result of the law.

2016 and 2015

For 2016, we recorded income tax expense of $29.6 million on income before taxes of $125.1 million. The lower effective rate for 2016 of 23.7% was due to the following: 1) a tax benefit of $12.0 million on the previously held equity interest; due to no tax expense, under Australian tax law, on the $28.9 million non-cash gain arising from the PA Acquisition due to the revaluation of the Company's ownership interest to fair value and due to the release of a deferred tax liability related to a tax basis difference in the Pelikan Artline joint-venture assets, 2) a tax benefit of $9.6 million on a net foreign exchange loss on the repayment of intercompany loans, for which the pre-tax effect was recorded in equity and 3) earnings from foreign jurisdictions which are taxed at a lower rate. In addition, in 2016, the Foreign Tax Credit Carryover from 2007 of $10.9 million expired, and the associated valuation allowance on the carryover was removed; the combination of these two items does not affect income tax expense.

For 2015, we recorded income tax expense of $45.5 million on income before taxes of $131.4 million. The effective rate for 2015 of 34.6% approximated the U.S. statutory tax rate of 35%.

We continually review the need for establishing or releasing valuation allowances on our deferred tax assets. In 2017, the Company had a net tax benefit from the release and generation of valuation allowances in U.S. state and certain foreign jurisdictions of $0.7 million. In 2016, the Company had a net tax benefit from the release and generation of valuation allowances in U.S. state and certain foreign jurisdictions of $0.7 million. In 2015, the Company had a net tax expense from the release and generation of valuation allowances in U.S. state and certain foreign jurisdictions of $0.3 million.

As of December 31, 2017, the U.S. federal statute of limitations remains open for the year 2014 and forward. Foreign and U.S. state jurisdictions have statutes of limitations generally ranging from 2 to 5 years. As of December 31, 2017, years still open to examination by foreign tax authorities in major jurisdictions include Australia (2013 forward), Brazil (2011 forward), Canada (2009 forward), Germany (2011 forward), Sweden (2011 forward) and the U.K. (2016 forward). We are currently under examination in various foreign jurisdictions.

Deferred tax liabilities of $83.6 million and deferred tax assets of $106.3 million acquired in the Esselte Acquisition, as of January 31, 2017, have been recorded at their estimated fair values. See "Note 3. Acquisitions" for additional details.

The components of the income tax expense were as follows:



(in millions of dollars)	2017			2016		2015
Current expense
Federal and other	$	41.1		$	0.7	$	2.1
Foreign	30.5			22.9		16.0
Total current income tax expense	71.6			23.6		18.1
Deferred expense
Federal and other	(47.4		)	3.5		22.8
Foreign	2.2			2.5		4.6
Total deferred income tax (benefit) expense	(45.2		)	6.0		27.4
Total income tax expense	$	26.4		$	29.6	$	45.5

The components of deferred tax assets (liabilities) were as follows:



(in millions of dollars)	2017			2016
Deferred tax assets
Compensation and benefits	$	18.5		$	20.7
Pension	49.6			28.6
Inventory	10.6			12.4
Other reserves	15.2			19.1
Accounts receivable	5.7			7.0
Foreign tax credit carryforwards	29.1			—
Net operating loss carryforwards	126.6			47.2
Other	5.6			10.3
Gross deferred income tax assets	260.9			145.3
Valuation allowance	(45.0		)	(11.7		)
Net deferred tax assets	215.9			133.6
Deferred tax liabilities
Depreciation	(17.2		)	(12.6		)
Identifiable intangibles	(237.9		)	(240.4		)
Gross deferred tax liabilities	(255.1		)	(253.0		)
Net deferred tax liabilities	$	(39.2	)	$	(119.4	)

The undistributed earnings of all non-U.S. subsidiaries were approximately $500 million as of December 31, 2017. All of the undistributed earnings have become subject to U.S. income taxes due to the enactment of the U.S. Tax Act in 2017. As a result of the U.S. Tax Act, we are analyzing the global working capital and cash requirements, and potential tax liabilities attributable to future repatriation of cash, but we have yet to determine whether we plan to change our prior indefinite investment assertion under ASC 740. We will record the effects of any change in prior assertions in the period in which the change occurs.

As of December 31, 2017, $529.6 million of net operating loss carryforwards are available to reduce future taxable income of domestic and international companies. These loss carryforwards expire in the years 2018 through 2031 or have an unlimited carryover period.

Interest and penalties related to unrecognized tax benefits are recognized within "Income tax (benefit) expense" in the Consolidated Statements of Income. As of December 31, 2017, we have accrued a cumulative $14.7 million for interest and penalties on the unrecognized tax benefits.

A reconciliation of the beginning and ending amount of unrecognized tax benefits was as follows:



(in millions of dollars)	2017			2016			2015
Balance at beginning of year	$	43.7		$	34.8		$	45.9
Additions for tax positions of prior years	2.9			3.0			3.0
Reductions for tax positions of prior years	(0.7		)	(0.5		)	—
Esselte Acquisition	1.6			—			—
Increase resulting from foreign currency translation	—			6.4			—
Decrease resulting from foreign currency translation	(0.3		)	—			(14.1		)
Balance at end of year	$	47.2		$	43.7		$	34.8

As of December 31, 2017, the amount of unrecognized tax benefits increased to $47.2 million, of which $45.5 million would impact our effective tax rate, if recognized. We expect the amount of unrecognized tax benefits to change within the next twelve months, most notably for the Brazilian Tax Assessment (see below) for the 2011 year, which lapsed without being assessed effective January 1, 2018; and for which the Company expects to release $5.5 million of the reserve in the first quarter of 2018. None of the positions included in the unrecognized tax benefit relate to tax positions for which the ultimate deductibility is highly certain, but for which there is uncertainty about such deductibility.

Income Tax Assessment

In connection with our May 1, 2012 acquisition of the Mead Consumer and Office Products business ("Mead C&OP"), we assumed all of the tax liabilities for the acquired foreign operations including Tilibra Produtos de Papelaria Ltda. ("Tilibra"). In December of 2012, the Federal Revenue Department of the Ministry of Finance of Brazil ("FRD") issued a tax assessment (the "Brazilian Tax Assessment") against Tilibra, which challenged the tax deduction of goodwill from Tilibra's taxable income for the year 2007 (the "First Assessment"). A second assessment challenging the deduction of goodwill from Tilibra's taxable income for the years 2008, 2009 and 2010 was issued by FRD in October 2013 (the "Second Assessment"). Tilibra is disputing both of the tax assessments.

Recently, the final administrative appeal of the Second Assessment was decided against the Company. We intend to challenge this decision in court in early 2018. In connection with the judicial challenge, we may be required to post security to guarantee payment of the Second Assessment, which represents $24.6 million of the current reserve, should we not prevail. The First Assessment is still being challenged through established administrative procedures.

We believe we have meritorious defenses and intend to vigorously contest these matters; however, there can be no assurances that we will ultimately prevail. The ultimate outcome will not be determined until the Brazilian tax appeal process is complete, which is expected to take a number of years. In addition, Tilibra's 2012 tax year remains open and subject to audit, and there can be no assurances that we will not receive an additional tax assessment regarding the goodwill for 2012. The time limit for issuing an assessment for 2011 expired in January 2018 and we did not receive an assessment. The time limit for issuing an assessment for 2012 will expire in January 2019. If the FRD's initial position is ultimately sustained, the amount assessed would materially and adversely affect our cash flow in the year of settlement.

Because there is no settled legal precedent on which to base a definitive opinion as to whether we will ultimately prevail, we consider the outcome of this dispute to be uncertain. Since it is not more likely than not that we will prevail, in 2012, we recorded a reserve in the amount of $44.5 million (at December 31, 2012 exchange rates) in consideration of this contingency, of which $43.3 million was recorded as an adjustment to the purchase price and which included the 2007-2012 tax years plus penalties and interest through December 2012. Included in this reserve is an assumption of penalties at 75%, which is the standard penalty. While there is a possibility that a penalty of 150% could be imposed in connection with the First Assessment, based on the facts in our case and existing precedent, we believe the likelihood of a 150% penalty is not more likely than not as of December 31, 2017. We will continue to actively monitor administrative and judicial court decisions and evaluate their impact, if any, on our legal assessment of the ultimate outcome of our case. In addition, we will continue to accrue interest related to this contingency until such time as the outcome is known or until evidence is presented that we are more likely than not to prevail. During the years ended December 31, 2017, 2016 and 2015, we accrued additional interest as a charge to current tax expense of $2.2 million, $2.8 million and $2.7 million, respectively. At current exchange rates, our accrual through December 31, 2017, including tax, penalties and interest is $38.7 million.