Income Taxes


(a)	Provision for Income Taxes

The provision for income taxes consists of the following (in millions):



Years Ended	July 28, 2018			July 29, 2017			July 30, 2016
Federal:
Current	$	9,900		$	1,300		$	865
Deferred	1,156			(42		)	(93		)
	11,056			1,258			772
State:
Current	340			86			78
Deferred	(232		)	56			13
	108			142			91
Foreign:
Current	1,789			1,416			1,432
Deferred	(24		)	(138		)	(114		)
	1,765			1,278			1,318
Total	$	12,929		$	2,678		$	2,181

Income before provision for income taxes consists of the following (in millions):



Years Ended	July 28, 2018		July 29, 2017		July 30, 2016
United States	$	3,765	$	2,393	$	2,907
International	9,274		9,894		10,013
Total	$	13,039	$	12,287	$	12,920

The items accounting for the difference between income taxes computed at the federal statutory rate and the provision for income taxes consist of the following:



Years Ended	July 28, 2018		July 29, 2017		July 30, 2016
Federal statutory rate	27.0	%	35.0	%	35.0	%
Effect of:
State taxes, net of federal tax benefit	0.6		1.1		0.5
Foreign income at other than U.S. rates	(5.2	)	(13.4	)	(14.5	)
Tax credits	(2.5	)	(1.2	)	(1.7	)
Domestic manufacturing deduction	(0.5	)	(0.4	)	(0.6	)
Stock-based compensation	(0.1	)	1.4		1.4
Tax audit settlement	—		—		(2.8	)
Impact of the Tax Act	80.1		—		—
Other, net	(0.2	)	(0.7	)	(0.4	)
Total	99.2	%	21.8	%	16.9	%

On December 22, 2017, the Tax Act was enacted. The Tax Act significantly revises the U.S. corporate income tax by, among other things, lowering the statutory corporate income tax rate (“federal tax rate”) from 35% to 21% effective January 1, 2018, implementing a modified territorial tax system, and imposing a mandatory one-time transition tax on accumulated earnings of foreign subsidiaries. As a fiscal-year taxpayer, certain provisions of the Tax Act impact Cisco in fiscal 2018, including the change in the federal tax rate and the one-time transition tax, while other provisions will be effective at the beginning of fiscal 2019, including the implementation of a modified territorial tax system and other changes to how foreign earnings are subject to U.S. tax, and elimination of the domestic manufacturing deduction.

As a result of the decrease in the federal tax rate from 35% to 21% effective January 1, 2018, we have computed our income tax expense for the July 28, 2018 fiscal year using a blended federal tax rate of 27%. The 21% federal tax rate will apply to our fiscal year ending July 27, 2019 and each year thereafter. We must remeasure our deferred tax assets and liabilities ("DTA") using the federal tax rate that will apply when the related temporary differences are expected to reverse.

As of December 31, 2017, we had approximately $76 billion in undistributed earnings for certain foreign subsidiaries. These undistributed earnings were subject to the U.S. mandatory one-time transition tax and are eligible to be repatriated to the U.S. without additional U.S. tax under the Tax Act. We have historically asserted our intention to indefinitely reinvest foreign earnings in certain foreign subsidiaries. We have reevaluated our historic assertion as a result of enactment of the Tax Act and no longer consider these earnings to be indefinitely reinvested in our foreign subsidiaries. As a result of this change in assertion, we recorded a $1.2 billion tax expense for foreign withholding tax in the second quarter of fiscal 2018. In fiscal 2018, we repatriated $70 billion of foreign subsidiary earnings to the U.S. (in the form of cash, cash equivalents, or investments), and paid foreign withholding tax of $1.2 billion.

In the fourth quarter of fiscal 2018, we recorded adjustments to the provisional amounts originally recorded in the second quarter of fiscal 2018 related to the U.S transition tax on accumulated earnings of foreign subsidiaries and re-measurement of net DTA. These adjustments include an $863 million benefit to the U.S. transition tax provisional amount related to the U.S taxation of deemed foreign dividends in the transition fiscal year. This benefit may be reduced or eliminated in future legislation. If such legislation is enacted, we will record the impact of the legislation in the quarter of enactment.

During fiscal 2018, we recorded a provisional tax expense of $10.4 billion related to the Tax Act, comprised of $8.1 billion of U.S. transition tax, $1.2 billion of foreign withholding tax (discussed above), and $1.1 billion re-measurement of net DTA. We plan to pay the transition tax in installments over eight years in accordance with the Tax Act. The $1.2 billion foreign withholding tax was paid in February 2018.

In December 2017, the Securities and Exchange Commission staff issued Staff Accounting Bulletin No. 118, which addresses how a company recognizes provisional estimates when a company does not have the necessary information available, prepared or analyzed (including computations) in reasonable detail to complete its accounting for the effect of the changes in the Tax Act. The measurement period ends when a company has obtained, prepared, and analyzed the information necessary to finalize its accounting, but cannot extend beyond one year. The final impact of the Tax Act may differ from the above provisional estimates due to changes in interpretations of the Tax Act, any legislative action to address questions that arise because of the Tax Act, by changes in accounting standard for income taxes and related interpretations in response to the Tax Act, and any updates or changes to estimates used in the provisional amounts. We have determined that the $8.1 billion of tax expense for the U.S. transition tax on accumulated earnings of foreign subsidiaries, the $1.2 billion of foreign withholding tax, and the $1.1 billion of tax expense for DTA re-measurement were each provisional amounts and reasonable estimates for fiscal 2018. Estimates used in the provisional amounts include: the anticipated reversal pattern of the gross DTAs; and earnings, cash positions, foreign taxes and withholding taxes attributable to foreign subsidiaries.

During fiscal 2016, the Internal Revenue Service (IRS) and Cisco settled all outstanding items related to the audit of our federal income tax returns for the fiscal years ended July 26, 2008 through July 31, 2010. As a result of the settlement, we recognized a net benefit to the provision for income taxes of $367 million, which included a reduction of interest expense of $21 million. In addition, the Protecting Americans from Tax Hikes Act of 2015 reinstated the U.S. federal R&D tax credit permanently. As a result, the tax provision in fiscal 2016 included a tax benefit of $226 million related to the U.S. federal R&D tax credit, of which $81 million was attributable to fiscal 2015.

Foreign taxes associated with the repatriation of earnings of foreign subsidiaries were not provided for on a cumulative total of $77 million of undistributed earnings for certain foreign subsidiaries as of the end of fiscal 2018. We intend to reinvest these earnings indefinitely in such foreign subsidiaries. If these earnings were distributed in the form of dividends or otherwise, or if the shares of the relevant foreign subsidiaries were sold or otherwise transferred, we would be subject to additional foreign taxes. The amount of unrecognized deferred income tax liability related to these earnings is approximately $15 million.

As a result of certain employment and capital investment actions, our income in certain foreign countries is subject to reduced tax rates. A portion of these incentives expired at the end of fiscal 2015. The majority of the remaining tax incentives are reasonably expected to expire at the end of fiscal 2019. The gross income tax benefit attributable to tax incentives was estimated to be $0.9 billion ($0.19 per diluted share) in fiscal 2018. As of the end of fiscal 2017 and 2016, the gross income tax benefits attributable to tax incentives were estimated to be $1.3 billion and $1.2 billion ($0.25 and $0.23 per diluted share) for the respective years. The gross income tax benefits were partially offset by accruals of U.S. income taxes on foreign earnings.

Unrecognized Tax Benefits

The aggregate changes in the balance of gross unrecognized tax benefits were as follows (in millions):



Years Ended	July 28, 2018			July 29, 2017			July 30, 2016
Beginning balance	$	1,973		$	1,627		$	2,029
Additions based on tax positions related to the current year	251			336			255
Additions for tax positions of prior years	84			180			116
Reductions for tax positions of prior years	(129		)	(78		)	(457		)
Settlements	(124		)	(43		)	(241		)
Lapse of statute of limitations	(55		)	(49		)	(75		)
Ending balance	$	2,000		$	1,973		$	1,627

As a result of the IRS tax settlement related to the federal income tax returns for the fiscal years ended July 26, 2008 through July 31, 2010, the amount of gross unrecognized tax benefits in fiscal 2016 was reduced by approximately $563 million. We also reduced the amount of accrued interest by $63 million.

As of July 28, 2018, $1.7 billion of the unrecognized tax benefits would affect the effective tax rate if realized. During fiscal 2018, we recognized $10 million of net interest expense and reduced penalties by less than $1 million. During fiscal 2017, we recognized $26 million of net interest expense and a $4 million reduction in penalties. During fiscal 2016, we recognized a $55 million reduction in net interest expense and a $40 million reduction in penalties. Our total accrual for interest and penalties was $180 million, $186 million, and $154 million as of the end of fiscal 2018, 2017, and 2016, respectively. We are no longer subject to U.S. federal income tax audit for returns covering tax years through fiscal 2010. We are no longer subject to foreign or state income tax audits for returns covering tax years through fiscal 1999, and fiscal 2008, respectively.

We regularly engage in discussions and negotiations with tax authorities regarding tax matters in various jurisdictions. We believe it is reasonably possible that certain federal, foreign, and state tax matters may be concluded in the next 12 months. Specific positions that may be resolved include issues involving transfer pricing and various other matters. We estimate that the unrecognized tax benefits at July 28, 2018 could be reduced by approximately $300 million in the next 12 months.


(b)	Deferred Tax Assets and Liabilities

The following table presents the breakdown for net deferred tax assets (in millions):



	July 28, 2018			July 29, 2017
Deferred tax assets	$	3,219		$	4,239
Deferred tax liabilities	(141		)	(271		)
Total net deferred tax assets	$	3,078		$	3,968

The following table presents the components of the deferred tax assets and liabilities (in millions):



	July 28, 2018			July 29, 2017
ASSETS
Allowance for doubtful accounts and returns	$	285		$	443
Sales-type and direct-financing leases	171			277
Inventory write-downs and capitalization	289			446
Investment provisions	54			171
IPR&D, goodwill, and purchased intangible assets	63			125
Deferred revenue	1,584			2,057
Credits and net operating loss carryforwards	1,087			976
Share-based compensation expense	190			273
Accrued compensation	370			504
Other	408			559
Gross deferred tax assets	4,501			5,831
Valuation allowance	(374		)	(244		)
Total deferred tax assets	4,127			5,587
LIABILITIES
Purchased intangible assets	(753		)	(1,037		)
Depreciation	(118		)	(340		)
Unrealized gains on investments	(33		)	(203		)
Other	(145		)	(39		)
Total deferred tax liabilities	(1,049		)	(1,619		)
Total net deferred tax assets	$	3,078		$	3,968

As of July 28, 2018, our federal, state, and foreign net operating loss carryforwards for income tax purposes were $703 million, $891 million, and $808 million, respectively. A significant amount of the net operating loss carryforwards relates to acquisitions and, as a result, is limited in the amount that can be recognized in any one year. If not utilized, the federal, state and foreign net operating loss carryforwards will begin to expire in fiscal 2019. We have provided a valuation allowance of $125 million for deferred tax assets related to foreign net operating losses that are not expected to be realized.

As of July 28, 2018, our federal, state, and foreign tax credit carryforwards for income tax purposes were approximately $47 million, $1.0 billion, and $5 million, respectively. The federal tax credit carryforwards will begin to expire in fiscal 2019. The majority of state and foreign tax credits can be carried forward indefinitely. We have provided a valuation allowance of $249 million for deferred tax assets related to state and foreign tax credits that are not expected to be realized.