Income Taxes

12 Months Ended

Dec. 31, 2018

12. Income Taxes

The components of earnings before income taxes and discontinued operations were:



	Years Ended December 31,
(in millions)	2018			2017			2016
Domestic	$	(34.1	)	$	402.7		$	(51.1	)
Foreign	95.2			(383.3		)	79.2
Total earnings before income taxes and discontinued operations	$	61.1		$	19.4		$	28.1

Income tax (benefit) expense for the years ended December 31, 2018, 2017, and 2016 is comprised of the following:



	Years Ended December 31,
(in millions)	2018			2017			2016
Current:
U.S. Federal	$	(25.0	)	$	28.9		$	—
State and local	0.1			0.1			0.1
Foreign	11.6			11.7			6.8
Total current tax (benefit) expense	$	(13.3	)	$	40.7		$	6.9
Deferred:
U.S. Federal	$	7.8		$	(26.8	)	$	0.8
State and local	0.2			—			0.2
Foreign	0.8			(1.0		)	0.4
Total deferred tax expense (benefit)	8.8			(27.8		)	1.4
Total income tax (benefit) expense	$	(4.5	)	$	12.9		$	8.3

The reconciliation of the U.S. Federal income tax rate to the Company’s effective income tax rate was as follows:



	Years Ended December 31,
	2018		2017		2016
U.S. Federal income tax rate	21.0	%	35.0	%	35.0	%
State and local taxes, net of Federal income tax benefit	0.4	%	(0.2	)%	1.1	%
Foreign operations tax effect	4.0	%	27.0	%	(22.5	)%
Research and experimentation tax credits	(5.0	)%	(11.6	)%	(6.6	)%
Valuation allowance	22.9	%	60.8	%	69.6	%
Tax contingencies	(4.3	)%	6.6	%	(0.6	)%
Tax holiday	(24.3	)%	(78.0	)%	(64.2	)%
Foreign taxes	0.9	%	(5.0	)%	2.8	%
Non-deductible and non-taxable interest	1.4	%	(0.8	)%	3.2	%
Stock-based compensation	3.1	%	9.3	%	9.6	%
Other, principally non-tax deductible items ⁽¹⁾	3.2	%	13.5	%	1.9	%
Transition tax	(28.9	)%	89.7	%	—	%
Tax reform	(1.7	)%	(85.3	)%	—	%
Prior period items	(0.1	)%	5.5	%	0.2	%
Effective income tax rate	(7.4	)%	66.5	%	29.5	%

⁽¹⁾ Includes income tax expense related to the Malaysian tax consequences of the intra-entity intellectual property sale between the U.S. and Malaysia that increases the effective income tax rate by 18.5% for the year ended December 31, 2017.

The Company’s effective tax rate is favorably impacted by two tax holidays granted to us by Malaysia effective through December 31, 2021. These tax holidays are subject to the Company’s satisfaction of certain conditions, including investment or sales thresholds, which the Company expects to maintain. During 2016, the Company applied for and received final approval to modify the terms of its main tax holiday in Malaysia, reducing the rate to 7.2% versus the statutory rate of 24.0%, effective January 1, 2017 through December 31, 2021. If the Company fails to satisfy such conditions, the Company’s effective tax rate may be significantly adversely impacted. The continuing operations benefit of these incentives for the years ended December 31, 2018, 2017, and 2016 is estimated to be $13.3 million, $13.8 million, and $16.3 million, respectively. The continuing operations benefit of the tax holidays on a per share basis for the years ended December 31, 2018, 2017, and 2016 was $0.15, $0.15, and $0.18, respectively.

The components of the Company’s deferred tax assets and liabilities included the following:



(in millions)	December 31, 2018			December 31, 2017
Deferred tax assets:
Accrued compensation, principally post-retirement, and other employee benefits	$	15.1		$	13.7
Accrued expenses, principally for state income taxes, interest, and warranty	4.6			5.9
Net operating loss and other carryforwards	155.9			115.6
Inventories, principally due to reserves for financial reporting purposes and capitalization for tax purposes	3.9			3.6
Convertible Note Hedges	5.7			7.3
Plant and equipment, principally due to differences in depreciation	9.4			9.6
Total gross deferred tax assets	194.6			155.7
Valuation allowance	(131.2		)	(99.7		)
Total deferred tax assets	$	63.4		$	56.0

Deferred tax liabilities:
Intangible assets, principally due to different tax and financial reporting bases and amortization lives	$	(8.7	)	$	(10.3	)
Debt discount on convertible notes	(4.4		)	(5.7		)
Other liabilities	(37.2		)	(17.6		)
Total gross deferred tax liabilities	(50.3		)	(33.6		)
Net deferred tax asset	$	13.1		$	22.4

Classified as follows in the Consolidated Balance Sheets:
Other assets and deferred charges (non-current deferred tax assets)	$	15.2		$	22.4
Deferred income taxes (non-current deferred tax liabilities)	(2.1		)	—
Net deferred tax asset	$	13.1		$	22.4

The Company recorded valuation allowances of $131.2 million and $99.7 million at December 31, 2018 and 2017, respectively, against deferred tax assets from continuing operations as the Company believes it is more likely than not that these assets will not be realized. The Company recorded a $1.0 million benefit due to the reassessment of the beginning of year valuation allowance primarily related to United Kingdom ("U.K.") operations. Management believes that it is more likely than not that the Company will realize the benefits of the remaining deferred tax assets. The amount of the deferred tax asset is considered realizable, however, it could be adjusted if estimates of future taxable income during the carryforward period are reduced or increased or if objective negative evidence in the form of cumulative losses is no longer present, requiring that additional weight be given to subjective evidence such as our projections for growth.

At December 31, 2018, the Company had $30.8 million of Federal net operating losses that are available, of which $11.9 million will expire in the next 5 to 10 years and $18.9 million will expire in the next 10 to 20 years. There are $96.6 million of State net operating losses that are available between 2019 and 2036. There are $379.3 million of non-U.S. net operating loss carryforwards, of which $0.7 million will expire within the next 5 years, $1.9 million will expire in the next 10 to 20 years, and $376.7 million can be carried forward indefinitely.

The Company has $18.7 million of U.S. federal research and development credits that begin to expire in 2020 and $14.6 million of foreign tax credits that begin to expire in 2027. In addition, the Company has $16.8 million of state credits, of which $2.4 million will expire between 2019 and 2034 if unused, and $14.4 million can be carried forward indefinitely.

The Company has not provided for deferred taxes on the undistributed earnings of its international subsidiaries totaling approximately $1.4 billion. Such earnings are reinvested in foreign jurisdictions and it is currently intended that they will continue to be reinvested indefinitely. Our Malaysian principal subsidiary is our primary source of foreign earnings and cash. Any future decision to distribute cash from this subsidiary to the U.S. should not result in a material amount of U.S. or foreign taxes.

Unrecognized Tax Benefits

The Company records interest and penalties associated with unrecognized tax benefits as a component of income tax expense. During the years ended December 31, 2018 and 2017, the Company recorded a potential interest benefit of $0.3 million and $1.1 million, respectively. The Company recorded $0.3 million of potential interest expense during the year ended December 31, 2016. There was no accrued interest at December 31, 2018. Total accrued interest at December 31, 2017 and 2016 of $0.4 million and $1.4 million, respectively, was included in Other liabilities on the Consolidated Balance Sheets. During the years ended December 31, 2018 and 2017, the Company recorded potential penalty expense of $0.1 million and $0.2 million, respectively. Total accrued penalties at December 31, 2018 and 2017 of $0.3 million and $0.2 million, respectively, were included in Other liabilities on the Consolidated Balance Sheets. There was no recorded potential penalty expense or accrued penalties at December 31, 2016.

The Company's tax returns are routinely audited by the tax authorities in the relevant jurisdictions. For tax years before 2017, the Company is no longer subject to U.S. federal income tax examination. For tax years before 2013, the Company’s Malaysian subsidiaries are no longer subject to examination. It is reasonably possible that the gross amount of unrecognized tax benefits will decrease by $0.1 million during the next twelve months. Included in the balance of total unrecognized tax benefits at December 31, 2018 are potential benefits of $3.5 million, which if recognized, would affect the effective rate on earnings from continuing operations. Given the Company's current valuation allowance position, no benefit is expected to result from the reversal of any uncertain tax position associated with the acquired attributes.



Unrecognized tax benefits at January 1, 2016	$	12.8
Reductions for tax positions due to lapsed statutes of limitations	(0.5		)
Foreign exchange fluctuations	(0.5		)
Unrecognized tax benefits at December 31, 2016	$	11.8
Additions based on tax positions related to the current year	2.6
Additions for tax positions of prior years	0.6
Reductions for tax positions due to lapsed statutes of limitations	(1.3		)
Tax reform	(1.5		)
Foreign exchange fluctuations	0.3
Unrecognized tax benefits at December 31, 2017	$	12.5
Additions based on tax positions related to the current year	0.1
Additions for tax positions of prior years	0.3
Reductions for tax positions due to lapsed statutes of limitations	(2.5		)
Settlements	(0.3		)
Unrecognized tax benefits at December 31, 2018	$	10.1

See Note 1. Summary of Significant Accounting Policies for additional information related to the impact of the Tax Reform Act.