Note 11 – Income Taxes

We review the need to establish a deferred tax asset valuation allowance on a quarterly basis. We analyze several factors, among which are the severity and frequency of operating losses, our capacity for the carryback or carryforward of any losses, the expected occurrence of future income or loss and available tax planning alternatives. Based on our analysis and the level of cumulative operating losses, we have reduced our benefit from income tax through the recognition of a valuation allowance.

For the nine months ended September 30, 2012 and 2011, our deferred tax valuation allowance was reduced by the change in the deferred tax liability related to $7.8 million and $103.9 million, respectively, of unrealized gains on investments that were recorded in other comprehensive income. In the event of future operating losses, it is likely that the valuation allowance will be adjusted by any taxes recorded to equity for changes in unrealized gains or losses or other items in other comprehensive income.

The effect of the change in valuation allowance on the benefit from income taxes was as follows:

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2012			2011			2012			2011
	(In thousands)

Tax benefit before valuation allowance	$	(89,106	)	$	(74,069	)	$	(196,535	)	$	(157,162	)
Change in valuation allowance		86,134			47,939			192,035			122,654

Benefit from income taxes	$	(2,972	)	$	(26,130	)	$	(4,500	)	$	(34,508	)

The decrease in the valuation allowance that was included in other comprehensive income for the three months ended September 30, 2012 was $13.7 million. There was no change in the valuation allowance included in other comprehensive income for nine months ended September 30, 2012 or the three and nine months ended September 30, 2011. The total valuation allowance as of September 30, 2012 and December 31, 2011 was $800.8 million and $608.8 million, respectively.

We have approximately $2,105 million of net operating loss carryforwards on a regular tax basis and $1,225 million of net operating loss carryforwards for computing the alternative minimum tax as of September 30, 2012. Any unutilized carryforwards are scheduled to expire at the end of tax years 2029 through 2032.

The Internal Revenue Service ("IRS") completed separate examinations of our federal income tax returns for the years 2000 through 2004 and 2005 through 2007 and issued assessments for unpaid taxes, interest and penalties related to our treatment of the flow-through income and loss from an investment in a portfolio of residual interests of Real Estate Mortgage Investment Conduits ("REMICs"). This portfolio has been managed and maintained during years prior to, during and subsequent to the examination period. The IRS indicated that it did not believe that, for various reasons, we had established sufficient tax basis in the REMIC residual interests to deduct the losses from taxable income. The IRS assessment related to the REMIC issue is $190.7 million in taxes and penalties. There would also be applicable interest which, when computed on the amount of the assessment, is substantial. Depending on the outcome of this matter, additional state income taxes along with any applicable interest may become due when a final resolution is reached and could also be substantial.

We appealed these assessments within the IRS and, in 2007, we made a payment of $65.2 million with the United States Department of the Treasury related to this assessment. In August 2010, we reached a tentative settlement agreement with the IRS. In July 2012, we were informed by the IRS that it would not finalize our previous settlement. We are exploring our alternatives with respect to this matter. One alternative is to seek to reach a new settlement which, if reached, we expect would be more costly to us than the prior settlement. In the event that we are unable to reach any settlement of the proposed adjustments, we would be required to litigate their validity in order to avoid a full concession to the IRS. Any such litigation could be lengthy and costly in terms of legal fees and related expenses. We adjusted our tax provision and liabilities for the effects of the tentative settlement agreement in 2010. The IRS' reconsideration of the terms of the settlement agreement did not change our belief that the previously recorded items are appropriate. However, we would need to make appropriate adjustments, which could be material, to our tax provision and liabilities if our view of the probability of success in this matter changes, and the ultimate resolution of this matter could have a material negative impact on our effective tax rate, results of operations, cash flows and statutory capital. In this regard, see Note 1 – "Basis of Presentation - Capital."

In March 2012, we received a Revenue Agent's Report from the IRS related to the examination of our federal income tax returns for the years 2008 and 2009. The adjustments that are proposed by the IRS are temporary in nature and will have no material effect on the financial statements. In July 2012, the IRS began an audit of our 2010 federal income tax return.