Income Taxes

Tax Reform

The Tax Cuts and Jobs Act of 2017 (2017 Tax Act), which was signed into law in December 2017, has resulted in significant changes to the U.S. corporate income tax system. These changes include a federal statutory rate reduction from 35% to 21%, the elimination or reduction of certain domestic deductions and credits and limitations on the deductibility of interest expense and executive compensation. The 2017 Tax Act also transitions international taxation from a worldwide system to a modified territorial system and includes base erosion prevention measures on non-U.S. earnings, which has the effect of subjecting certain earnings of our foreign subsidiaries to U.S. taxation as global intangible low-taxed income (GILTI). These changes became effective in 2018. We do not recognize deferred taxes for basis differences expected to reverse as GILTI is incurred and instead account for any taxes assessed as period costs.

During the fourth quarter of 2017 we recognized within our provision for income taxes a $1.2 billion provisional estimate under the U.S. Securities and Exchange Commission Staff Accounting Bulletin No. 118. Our provisional estimate included an amount of $989.6 million associated with a one-time mandatory deemed repatriation tax on accumulated foreign subsidiaries' previously untaxed foreign earnings (the Transition Toll Tax), as discussed below, and $184.0 million related to the impact of remeasuring our deferred tax balances to reflect the new federal statutory rate and other changes to U.S. tax law. During the six months ended June 30, 2018, we recognized no significant adjustments to these estimates.

Transition Toll Tax

The 2017 Tax Act eliminated the deferral of U.S. income tax on the historical unrepatriated earnings by imposing the Transition Toll Tax. The Transition Toll Tax was assessed on our share of our foreign corporations' accumulated foreign earnings that were not previously taxed. Earnings in the form of cash and cash equivalents were taxed at a rate of 15.5% and all other earnings were taxed at a rate of 8.0%.

At December 31, 2017, we considered none of our earnings to be permanently reinvested outside the U.S. and therefore recorded tax liabilities associated with an estimate of the total withholding taxes expected as a result of our repatriation of earnings. As a result, our estimate of the total withholding taxes may change as the amounts are finalized. As of June 30, 2018 and December 31, 2017, we have accrued income tax liabilities of $713.5 million and $989.6 million, respectively, under the Transition Toll Tax. Of the amounts accrued as of June 30, 2018, no amounts are expected to be paid within one year based on our interpretation of how current year payments are applied. The Transition Toll Tax will be paid in installments over an eight-year period, which started in 2018, and will not accrue interest.

Status of our Assessment

The final determination of the Transition Toll Tax and remeasurement of our deferred assets and liabilities will be completed as additional information becomes available, but no later than one year from the enactment of the 2017 Tax Act.

Our preliminary estimate of the Transition Toll Tax and the remeasurement of our deferred tax assets and liabilities is subject to the finalization of management’s analysis related to certain matters, such as developing interpretations of the provisions of the 2017 Tax Act, changes to certain estimates and amounts related to the earnings and profits of certain subsidiaries and the filing of our tax returns. U.S. Treasury regulations, administrative interpretations or court decisions interpreting the 2017 Tax Act may require further adjustments and changes in our estimates.

For additional information on the 2017 Tax Act, please read Note 17, Income Taxes, to our consolidated financial statements included in our 2017 Form 10-K.

Tax Rate

A reconciliation between the U.S. federal statutory tax rate and our effective tax rate is summarized as follows:



	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2018		2017		2018		2017
Statutory rate	21.0	%	35.0	%	21.0	%	35.0	%
State taxes	0.6		0.8		0.8		0.4
Taxes on foreign earnings	—		(11.7	)	(0.4	)	(11.4	)
Credits and net operating loss utilization	(0.7	)	(0.9	)	(0.8	)	(0.8	)
Purchased intangible assets	0.6		1.4		0.6		1.4
Manufacturing deduction	—		(2.1	)	—		(2.1	)
Other permanent items	0.4		0.7		0.4		0.7
Other	0.5		0.6		0.3		0.8
Effective tax rate	22.4	%	23.8	%	21.9	%	24.0	%

Changes in Tax Rate

For the three and six months ended June 30, 2018, compared to the same periods in 2017, the decreases in our effective tax rates were primarily due to the enactment of the 2017 Tax Act and lower 2018 estimated Branded Pharmaceutical Drug fee expense, which is not tax deductible. The effects of an overall reduction in the federal statutory rate in the U.S. were partially offset by the elimination of the manufacturing deduction, the imposition of the new GILTI tax on international earnings, limits on the deductibility of certain benefits and executive compensation and a reduction in the tax benefit associated with the Orphan Drug Credit, all resulting from the 2017 Tax Act. The effective tax rate for the six months ended June 30, 2017, also reflected the impact of a favorable settlement related to a state tax matter in 2017.

Deferred Tax Assets and Liabilities

In addition to deferred tax assets and liabilities, we have recorded prepaid tax and deferred charges related to intercompany transactions. In October 2016 the FASB issued ASU 2016-16. This new standard eliminates the deferral of the tax effects of intra-entity asset transfers other than inventory. As a result, the income tax consequences from the intra-entity transfer of an asset other than inventory and associated changes to deferred taxes will be recognized when the transfer occurs. We adopted this new standard on January 1, 2018, using the modified retrospective method, through a cumulative-effect adjustment to retained earnings as of that date. Upon adoption, we recognized additional deferred tax assets of approximately $2.0 billion offset by a corresponding increase to deferred tax liabilities of approximately $1.5 billion and an increase to retained earnings of approximately $0.5 billion. We will recognize incremental deferred income tax expense thereafter as these deferred tax assets and liabilities are utilized.

Accounting for Uncertainty in Income Taxes

We and our subsidiaries are routinely examined by various taxing authorities. We file income tax returns in various U.S. states and in U.S. federal and other foreign jurisdictions. With few exceptions, we are no longer subject to U.S. federal tax examination for years before 2013 or state, local or non-U.S. income tax examinations for years before 2010.

The Internal Revenue Service and other national tax authorities routinely examine our intercompany transfer pricing with respect to intellectual property related transactions and it is possible that they may disagree with one or more positions we have taken with respect to such valuations.

International Uncertain Tax Positions

We have made payments totaling approximately $62 million to the Danish Tax Authority (SKAT) for assessments received for fiscal 2009, 2011 and 2013 regarding withholding taxes and the treatment of certain intercompany transactions involving a Danish affiliate and another of our affiliates. We continue to dispute the assessments for all of these periods and believe that the positions taken in our historical filings are valid. It is reasonably possible that we will adjust the value of our uncertain tax positions related to Danish withholding taxes based on potential European court decisions expected in 2018 on similar matters.

Federal and State Uncertain Tax Positions

It is reasonably possible that we will adjust the value of our uncertain tax positions related to our revenues from anti-CD20 therapeutic programs and certain transfer pricing issues as we receive additional information from various taxing authorities, including reaching settlements with such authorities.