Note 5 – Income Taxes

The provision for income taxes for 2015, 2014 and 2013, consisted of the following (in millions):


	2015			2014			2013
Federal:
Current	$	11,730		$	8,624		$	9,334
Deferred		3,408			3,183			1,878

		15,138			11,807			11,212

State:
Current		1,265			855			1,084
Deferred		(220	)		(178	)		(311	)

		1,045			677			773

Foreign:
Current		4,744			2,147			1,559
Deferred		(1,806	)		(658	)		(426	)

		2,938			1,489			1,133

Provision for income taxes	$	19,121		$	13,973		$	13,118

The foreign provision for income taxes is based on foreign pre-tax earnings of $47.6 billion, $33.6 billion and $30.5 billion in 2015, 2014 and 2013, respectively. The Company’s consolidated financial statements provide for any related tax liability on undistributed earnings that the Company does not intend to be indefinitely reinvested outside the U.S. Substantially all of the Company’s undistributed international earnings intended to be indefinitely reinvested in operations outside the U.S. were generated by subsidiaries organized in Ireland, which has a statutory tax rate of 12.5%. As of September 26, 2015, U.S. income taxes have not been provided on a cumulative total of $91.5 billion of such earnings. The amount of unrecognized deferred tax liability related to these temporary differences is estimated to be $30.0 billion.

As of September 26, 2015 and September 27, 2014, $186.9 billion and $137.1 billion, respectively, of the Company’s cash, cash equivalents and marketable securities were held by foreign subsidiaries and are generally based in U.S. dollar-denominated holdings. Amounts held by foreign subsidiaries are generally subject to U.S. income taxation on repatriation to the U.S.

A reconciliation of the provision for income taxes, with the amount computed by applying the statutory federal income tax rate (35% in 2015, 2014 and 2013) to income before provision for income taxes for 2015, 2014 and 2013, is as follows (dollars in millions):


	2015			2014			2013
Computed expected tax	$	25,380		$	18,719		$	17,554
State taxes, net of federal effect		680			469			508
Indefinitely invested earnings of foreign subsidiaries		(6,470	)		(4,744	)		(4,614	)
Domestic production activities deduction		(426	)		(495	)		(308	)
Research and development credit, net		(171	)		(88	)		(287	)
Other		128			112			265

Provision for income taxes	$	19,121		$	13,973		$	13,118

Effective tax rate		26.4%			26.1%			26.2%

The Company’s income taxes payable have been reduced by the tax benefits from employee stock plan awards. For stock options, the Company receives an income tax benefit calculated as the tax effect of the difference between the fair market value of the stock issued at the time of the exercise and the exercise price. For RSUs, the Company receives an income tax benefit upon the award’s vesting equal to the tax effect of the underlying stock’s fair market value. The Company had net excess tax benefits from equity awards of $748 million, $706 million and $643 million in 2015, 2014 and 2013, respectively, which were reflected as increases to common stock.

As of September 26, 2015 and September 27, 2014, the significant components of the Company’s deferred tax assets and liabilities were (in millions):


	2015			2014
Deferred tax assets:
Accrued liabilities and other reserves	$	4,205		$	3,326
Basis of capital assets and investments		2,238			898
Deferred revenue		1,941			1,787
Deferred cost sharing		667			0
Share-based compensation		575			454
Unrealized losses		564			130
Other		721			227

Total deferred tax assets, net of valuation allowance of $0		10,911			6,822

Deferred tax liabilities:
Unremitted earnings of foreign subsidiaries		26,868			21,544
Other		303			398

Total deferred tax liabilities		27,171			21,942

Net deferred tax liabilities	$	(16,260	)	$	(15,120	)

Deferred tax assets and liabilities reflect the effects of tax losses, credits and the future income tax effects of temporary differences between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases and are measured using enacted tax rates that apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.

Uncertain Tax Positions

Tax positions are evaluated in a two-step process. The Company first determines whether it is more likely than not that a tax position will be sustained upon examination. If a tax position meets the more-likely-than-not recognition threshold it is then measured to determine the amount of benefit to recognize in the financial statements. The tax position is measured as the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. The Company classifies gross interest and penalties and unrecognized tax benefits that are not expected to result in payment or receipt of cash within one year as non-current liabilities in the Consolidated Balance Sheets.

As of September 26, 2015, the total amount of gross unrecognized tax benefits was $6.9 billion, of which $2.5 billion, if recognized, would affect the Company’s effective tax rate. As of September 27, 2014, the total amount of gross unrecognized tax benefits was $4.0 billion, of which $1.4 billion, if recognized, would affect the Company’s effective tax rate.

The aggregate changes in the balance of gross unrecognized tax benefits, which excludes interest and penalties, for 2015, 2014 and 2013, is as follows (in millions):


	2015			2014			2013
Beginning Balance	$	4,033		$	2,714		$	2,062
Increases related to tax positions taken during a prior year		2,056			1,295			745
Decreases related to tax positions taken during a prior year		(345	)		(280	)		(118	)
Increases related to tax positions taken during the current year		1,278			882			626
Decreases related to settlements with taxing authorities		(109	)		(574	)		(592	)
Decreases related to expiration of statute of limitations		(13	)		(4	)		(9	)

Ending Balance	$	6,900		$	4,033		$	2,714

The Company includes interest and penalties related to unrecognized tax benefits within the provision for income taxes. As of September 26, 2015 and September 27, 2014, the total amount of gross interest and penalties accrued was $1.3 billion and $630 million, respectively, which is classified as non-current liabilities in the Consolidated Balance Sheets. In connection with tax matters, the Company recognized interest and penalty expense in 2015, 2014 and 2013 of $709 million, $40 million and $189 million, respectively.

The Company is subject to taxation and files income tax returns in the U.S. federal jurisdiction and in many state and foreign jurisdictions. The U.S. Internal Revenue Service (the “IRS”) is currently examining the years 2010 through 2012, and all years prior to 2010 are closed. In addition, the Company is subject to audits by state, local and foreign tax authorities. In major states and major foreign jurisdictions, the years subsequent to 2003 generally remain open and could be subject to examination by the taxing authorities.

Management believes that an adequate provision has been made for any adjustments that may result from tax examinations. However, the outcome of tax audits cannot be predicted with certainty. If any issues addressed in the Company’s tax audits are resolved in a manner not consistent with management’s expectations, the Company could be required to adjust its provision for income taxes in the period such resolution occurs. Although timing of the resolution and/or closure of audits is not certain, the Company does not believe it is reasonably possible that its unrecognized tax benefits would materially change in the next 12 months.

On June 11, 2014, the European Commission issued an opening decision initiating a formal investigation against Ireland for alleged state aid to the Company. The opening decision concerns the allocation of profits for taxation purposes of the Irish branches of two subsidiaries of the Company. The Company believes the European Commission’s assertions are without merit. If the European Commission were to conclude against Ireland, the European Commission could require Ireland to recover from the Company past taxes covering a period of up to 10 years reflective of the disallowed state aid. While such amount could be material, as of September 26, 2015 the Company is unable to estimate the impact.