INCOME TAXES

Tax Rate

The following tables provide a summary of our reported tax rate:



	Three Months Ended September 30,
	2013		2012
Reported tax rate	87.6	%	(0.1	)%
Impact of certain receipts/charges*	(74.5	)%	16.2	%
	13.1	%	16.1	%




	Nine Months Ended September 30,
	2013		2012
Reported tax rate	18.9	%	0.7	%
Impact of certain receipts/charges*	(5.2	)%	14.5	%
	13.7	%	15.2	%

*These receipts/charges are taxed at different rates than our effective tax rate.

The change in our reported tax rate for the third quarter and first nine months of 2013, as compared to the same periods in 2012, relates primarily to the impact of certain receipts and charges that are taxed at different rates than our effective tax rate and the impact of certain discrete tax items. In the third quarter of 2013, the receipts and charges included debt extinguishment charges, and acquisition-, litigation- and restructuring-related charges. In addition, the reported tax rate in the third quarter of 2013 was affected favorably by discrete tax items, primarily related to re-measurement of uncertain tax positions. In the first nine months of 2013, the receipts and charges included goodwill and intangible asset impairment charges, debt extinguishment charges, acquisition- and divestiture-related net credits, and litigation- and restructuring-related charges. In addition, the reported tax rate for the first nine months of 2013 was affected favorably by discrete tax items primarily related to the reinstatement of tax legislation that has been retroactively applied, offset in part by re-measurement and resolution of uncertain tax positions. In the third quarter of 2012, the receipts and charges included goodwill and intangible asset impairment charges, acquisition- and divestiture-related net credits, and litigation- and restructuring-related charges. In addition, the reported tax rate in the third quarter of 2012 was affected unfavorably by discrete tax items primarily related to the re-measurement of an uncertain tax position. In the first nine months of 2012, the receipts and charges included goodwill and intangible asset impairment charges; litigation and restructuring-related net charges; and divestiture- and acquisition-related credits. In addition, the reported tax rate in the first nine months of 2012 was affected unfavorably by discrete tax items primarily related to the resolution and re-measurement of uncertain tax positions.

As of September 30, 2013, we had $1.080 billion of gross unrecognized tax benefits, of which a net $940 million, if recognized, would affect our effective tax rate. As of December 31, 2012, we had $1.052 billion of gross unrecognized tax benefits, of which a net $902 million, if recognized, would affect our effective tax rate.

We are subject to U.S. federal income tax as well as income tax of multiple state and foreign jurisdictions. We have concluded all U.S. federal income tax matters through 2000 and substantially all material state, local, and foreign income tax matters through 2001.

We have received Notices of Deficiency from the Internal Revenue Service (IRS) reflecting proposed audit adjustments for Guidant Corporation (Guidant) for its 2001 through 2006 tax years and Boston Scientific Corporation for its 2006 and 2007 tax years (Notices). Subsequent to issuing these Notices, the IRS conceded a portion of its original assessment. The total incremental tax liability now asserted by the IRS for the applicable periods is $1.162 billion plus interest. The primary issue in dispute for all years is the transfer pricing in connection with the technology license agreements between domestic and foreign subsidiaries of Guidant. In addition, the IRS has proposed adjustments in connection with the financial terms of our Transaction Agreement with Abbott Laboratories (Abbott) pertaining to the sale of Guidant's vascular intervention business to Abbott in April 2006. We do not agree with the transfer pricing methodologies applied by the IRS or its resulting assessment and we believe that the IRS has exceeded its authority by attempting to adjust the terms of our negotiated third-party agreement with Abbott. In addition, we believe that the IRS positions with regard to these matters are inconsistent with the applicable tax laws and the existing Treasury regulations.

We believe we have meritorious defenses for our tax filings and we have filed petitions with the U.S. Tax Court contesting the Notices for the tax years in challenge. No payments on the net assessment would be required until the dispute is definitively resolved, which, based on experiences of other companies, could take several years. We believe that our income tax reserves associated with these matters are adequate and the final resolution will not have a material impact on our financial condition or results of operations. However, final resolution is uncertain and could have a material impact on our financial condition, results of operations, or cash flows.

We recognize interest and penalties related to income taxes as a component of income tax expense. We had $408 million accrued for gross interest and penalties as of September 30, 2013 and $364 million as of December 31, 2012. The increase in gross interest and penalties was $43 million, which was recognized in our unaudited condensed consolidated statements of operations. We recognized net tax expense related to interest and penalties of $9 million during the third quarter of 2013, $15 million during the third quarter of 2012, $28 million in the first nine months of 2013, and $26 million in the first nine months of 2012.

It is reasonably possible that within the next 12 months we will resolve multiple issues including transfer pricing and transactional-related issues with foreign, federal and state taxing authorities, in which case we could record a reduction in our balance of unrecognized tax benefits of up to approximately $41 million.