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INCOME TAXES

12 Months Ended

Dec. 31, 2018

INCOME TAXES

We provide our calculations of ETRs in the following table.



INCOME TAX EXPENSE AND EFFECTIVE INCOME TAX RATES
(Dollars in millions)
	Years ended December 31,
	2018			2017			2016
Sempra Energy Consolidated:
Income tax expense	$	96		$	1,276		$	389

Income before income taxes and equity earnings of unconsolidated entities	$	1,046		$	1,551		$	1,824
Equity (losses) earnings, before income tax⁽¹⁾	(236		)	34			6
Pretax income	$	810		$	1,585		$	1,830

Effective income tax rate	12		%	81		%	21		%
SDG&E:
Income tax expense	$	173		$	155		$	280
Income before income taxes	$	849		$	576		$	845
Effective income tax rate	20		%	27		%	33		%
SoCalGas:
Income tax expense	$	92		$	160		$	143
Income before income taxes	$	493		$	557		$	493
Effective income tax rate	19		%	29		%	29		%


⁽¹⁾	We discuss how we recognize equity earnings in Note 6.

We present in the table below reconciliations of net U.S. statutory federal income tax rates to our ETRs.



RECONCILIATION OF FEDERAL INCOME TAX RATES TO EFFECTIVE INCOME TAX RATES

	Years ended December 31,
	2018		2017		2016
Sempra Energy Consolidated:
U.S. federal statutory income tax rate	21	%	35	%	35	%
Effects of the TCJA	11		55		—
Non-U.S. earnings taxed at rates different from the U.S. statutory income tax rate⁽¹⁾	9		(3	)	(3	)
Utility depreciation	7		6		4
Foreign exchange and inflation effects⁽²⁾	4		3		(2	)
Compensation-related items	3		—		(2	)
Unrecognized income tax benefits	2		—		—
Noncontrolling interests in tax equity arrangements	2		—		—
Resolution of prior years’ income tax items	—		(2	)	—
Impairment losses at Sempra LNG & Midstream	(19	)	—		—
Utility repairs expenditures	(8	)	(6	)	(4	)
Tax credits	(6	)	(4	)	(3	)
State income taxes, net of federal income tax benefit	(5	)	1		1
Self-developed software expenditures	(4	)	(4	)	(3	)
Allowance for equity funds used during construction	(3	)	(3	)	(2	)
Amortization of excess deferred income taxes	(2	)	—		—
Merger-related transaction costs	(1	)	—		—
Other, net	1		3		—
Effective income tax rate	12	%	81	%	21	%
SDG&E:
U.S. federal statutory income tax rate	21	%	35	%	35	%
State income taxes, net of federal income tax benefit	5		3		5
Depreciation	3		7		5
Effects of the TCJA	—		5		—
Resolution of prior years’ income tax items	—		(4	)	(1	)
Compensation-related items	—		—		(1	)
Repairs expenditures	(3	)	(8	)	(4	)
Self-developed software expenditures	(2	)	(6	)	(3	)
Allowance for equity funds used during construction	(2	)	(4	)	(2	)
Amortization of excess deferred income taxes	(1	)	—		—
Other, net	(1	)	(1	)	(1	)
Effective income tax rate	20	%	27	%	33	%
SoCalGas:
U.S. federal statutory income tax rate	21	%	35	%	35	%
Depreciation	7		9		9
Unrecognized income tax benefits	4		—		—
State income taxes, net of federal income tax benefit	2		3		2
Compensation-related items	1		—		(1	)
Repairs expenditures	(7	)	(8	)	(9	)
Self-developed software expenditures	(3	)	(5	)	(6	)
Allowance for equity funds used during construction	(2	)	(3	)	(2	)
Amortization of excess deferred income taxes	(2	)	—		—
Resolution of prior years’ income tax items	(1	)	(2	)	2
Other, net	(1	)	—		(1	)
Effective income tax rate	19	%	29	%	29	%


⁽¹⁾	Related to operations in Mexico, Chile and Peru.

⁽²⁾

Primarily due to fluctuation of the Mexican peso against the U.S. dollar. We record income tax expense (benefit) from the transactional effects of foreign currency and inflation because of appreciation (depreciation) of the Mexican peso. We also recognize gains (losses) in Other Income, Net, on the Consolidated Statements of Operations from foreign currency derivatives that are partially hedging Sempra Mexico parent’s exposure to movements in the Mexican peso from its controlling interest in IEnova.

On December 22, 2017, the TCJA was signed into law. This legislation significantly changed the IRC. Under U.S. GAAP, certain effects of the TCJA were required to be recognized upon enactment, and, as a result, Sempra Energy, SDG&E, and SoCalGas recorded these effects in 2017.

The TCJA reduced the U.S. statutory corporate income tax rate from 35 percent to 21 percent, effective January 1, 2018. U.S. GAAP requires that deferred income tax assets and liabilities, including NOLs, be remeasured at the income tax rate expected to apply when those temporary differences reverse and that the effects of any change to such income tax rate be recognized in the period when the change was enacted. This remeasurement resulted in significant reductions in deferred income tax balances at Sempra Energy Consolidated, SDG&E and SoCalGas in 2017.

The remeasurement of deferred income tax balances at SDG&E and SoCalGas resulted in excess deferred income taxes that previously have been collected from ratepayers at the higher rate. As we discuss in Note 4, these excess deferred income taxes have been recorded as regulatory liabilities at December 31, 2018 and 2017 and will generally be refunded to ratepayers in accordance with the IRC’s normalization provisions and as determined by the CPUC and the FERC. Certain components of deferred income taxes could be attributed to shareholders rather than ratepayers. These components include deferred income taxes generated by activities outside of ratemaking.

We recorded the effects of the TCJA in 2017 using our best estimates and the information available to us through the date those financial statements were issued. In 2018, we adjusted our 2017 provisional estimates and completed our accounting for the income tax effects of the TCJA as permitted by ASU 2018-05, which we describe in Note 2. The primary impacts of the TCJA recorded in 2017 and the related 2018 adjustments were:

▪

Lower U.S. statutory corporate income tax rate: We remeasured our deferred income tax balances because of the change in the U.S. statutory corporate federal income tax rate from 35 percent to 21 percent, which resulted in income tax expense of $182 million for the year ended December 31, 2017 for Sempra Energy Consolidated. In 2018, we recorded $20 million of income tax expense to adjust the 2017 provisional remeasurement amount. SDG&E’s and SoCalGas’ impacts were primarily offset with adjustments to regulatory liabilities; however, they also recorded $28 million and $2 million of income tax expense, respectively, for the year ended December 31, 2017. In 2018, adjustments to 2017 provisional estimates included a decrease of $38 million at SDG&E and an increase of $5 million at SoCalGas of deferred income tax liabilities, with each amount offset by a change in their respective regulatory liabilities.

▪

Deemed repatriation: Sempra Energy recorded income tax expense of $328 million for the year ended December 31, 2017 associated with the one-time deemed repatriation tax on foreign undistributed earnings. In 2018, we accrued income tax benefit of $8 million to adjust our 2017 provisional estimate. We anticipate that we will repatriate our foreign undistributed earnings (estimated to be approximately $4 billion) that have been taxed at the U.S. federal level as a result of the deemed repatriation tax. In 2018, we repatriated $338 million to the U.S. and expect to repatriate an additional $3.7 billion in the foreseeable future as cash is generated by our businesses at the local level through operations or sale. In addition to the deemed repatriation tax, we accrued $360 million in 2017 of U.S. state and non-U.S. withholding tax on our expected future repatriation of foreign undistributed earnings. In 2018, we accrued additional income tax expense of $44 million to adjust our 2017 provisional estimates.


▪	Global intangible low-taxed income: In 2018, Sempra Energy recorded a partial valuation allowance of $29 million against its federal NOL carryforward as of December 31, 2017 due to the impact of the global intangible low-taxed income provisions of the TCJA.

The table below summarizes the effects of the TCJA in 2018 and 2017:



EFFECTS OF THE TAX CUTS AND JOBS ACT OF 2017
(Dollars in millions)
	Sempra Energy Consolidated			SDG&E			SoCalGas
2018:
Consolidated Balance Sheets:
Increase (decrease) in net deferred income tax liabilities
due to remeasurement	$	16		$	(38	)	$	5
Increase (decrease) in net regulatory liabilities from
remeasurement of deferred income tax assets and liabilities	$	33		$	38		$	(5	)

Consolidated Statements of Operations:
Income tax expense related to remeasurement of deferred
income tax assets and liabilities	$	49		$	—		$	—
Income tax benefit related to deemed repatriation	(8		)	—			—
U.S. state and non-U.S. withholding tax expense related to
expected future repatriation of foreign earnings	44			—			—
Total increase in income tax expense	$	85		$	—		$	—
2017:
Consolidated Balance Sheets:
Decrease in net deferred income tax liabilities due
to remeasurement	$	(2,220	)	$	(1,400	)	$	(972	)
Increase in net regulatory liabilities from remeasurement of
deferred income tax assets and liabilities	$	2,402		$	1,428		$	974

Consolidated Statements of Operations:
Income tax expense related to remeasurement of deferred
income tax assets and liabilities	$	182		$	28		$	2
Income tax expense related to deemed repatriation	328			—			—
U.S. state and non-U.S. withholding tax expense related to
expected future repatriation of foreign earnings	360			—			—
Total increase in income tax expense	$	870		$	28		$	2

We have not recorded deferred income taxes with respect to remaining basis differences of approximately $1 billion between financial statement and income tax investment amounts in our non-U.S. subsidiaries because we consider them to be indefinitely reinvested as of December 31, 2018. It is currently not practicable to determine the hypothetical amount of tax that might be payable if the underlying basis differences were realized. On January 25, 2019, our board of directors approved a plan to sell our South American businesses. We are evaluating the effects of the planned sale on our indefinite reinvestment assertion and expect to record any impacts to our tax provision in the first quarter of 2019.

For SDG&E and SoCalGas, the CPUC requires flow-through rate-making treatment for the current income tax benefit or expense arising from certain property-related and other temporary differences between the treatment for financial reporting and income tax, which will reverse over time. Under the regulatory accounting treatment required for these flow-through temporary differences, deferred income tax assets and liabilities are not recorded to deferred income tax expense, but rather to a regulatory asset or liability, which impacts the ETR. As a result, changes in the relative size of these items compared to pretax income, from period to period, can cause variations in the ETR. The following items are subject to flow-through treatment:


▪	repairs expenditures related to a certain portion of utility plant fixed assets;


▪	the equity portion of AFUDC, which is non-taxable;


▪	a portion of the cost of removal of utility plant assets;


▪	utility self-developed software expenditures;


▪	depreciation on a certain portion of utility plant assets; and


▪	state income taxes.

The AFUDC related to equity recorded for regulated construction projects at Sempra Mexico has similar flow-through treatment.

The 2016 GRC FD required SDG&E and SoCalGas to each establish a two-way income tax expense memorandum account to track certain revenue variances resulting from certain differences between the income tax expense forecasted in the GRC and the income tax expense incurred from 2016 through 2018. We discuss the tracking accounts further in Note 4.

We record income tax (expense) benefit from the transactional effects of foreign currency and inflation. Such effects are partially mitigated by net gains (losses) from foreign currency derivatives that are hedging Sempra Mexico parent’s exposure to movements in the Mexican peso from its controlling interest in IEnova.

The table below presents the geographic components of pretax income.



PRETAX INCOME – SEMPRA ENERGY CONSOLIDATED
(Dollars in millions)
	Years ended December 31,
	2018			2017		2016
By geographic components:
U.S.	$	(102	)	$	878	$	773
Non-U.S.	912			707		1,057
Total⁽¹⁾	$	810		$	1,585	$	1,830


⁽¹⁾	See “Income Tax Expense and Effective Income Tax Rates” table above for calculation of pretax income.

U.S. pretax income was lower in 2018 compared to 2017 due to the 2018 impairment of certain assets at Sempra LNG & Midstream and Sempra Renewables (discussed in Notes 5 and 12), offset by the 2018 gain on the sale of assets at Sempra Renewables (discussed in Note 5) and the 2017 write-off of SDG&E’s wildfire regulatory asset (discussed in Note 16). Non-U.S. pretax income was lower in 2017 compared to 2016 primarily due to the noncash gain in 2016 associated with the remeasurement of our equity interest in IEnova Pipelines (discussed in Note 5).

The components of income tax expense are as follows.



INCOME TAX EXPENSE (BENEFIT)
(Dollars in millions)
	Years ended December 31,
	2018			2017			2016
Sempra Energy Consolidated:
Current:
U.S. federal	$	(2	)	$	—		$	—
U.S. state	66			—			1
Non-U.S.	214			116			171
Total	278			116			172
Deferred:
U.S. federal	(120		)	536			78
U.S. state	(159		)	297			9
Non-U.S.	101			327			135
Total	(178		)	1,160			222
Deferred investment tax credits	(4		)	—			(5		)
Total income tax expense	$	96		$	1,276		$	389
SDG&E:
Current:
U.S. federal	$	104		$	100		$	—
U.S. state	30			65			22
Total	134			165			22
Deferred:
U.S. federal	17			29			223
U.S. state	24			(41		)	38
Total	41			(12		)	261
Deferred investment tax credits	(2		)	2			(3		)
Total income tax expense	$	173		$	155		$	280
SoCalGas:
Current:
U.S. federal	$	4		$	—		$	—
U.S. state	10			23			40
Total	14			23			40
Deferred:
U.S. federal	78			144			123
U.S. state	2			(5		)	(18		)
Total	80			139			105
Deferred investment tax credits	(2		)	(2		)	(2		)
Total income tax expense	$	92		$	160		$	143

The tables below present the components of deferred income taxes:



DEFERRED INCOME TAXES – SEMPRA ENERGY CONSOLIDATED
(Dollars in millions)
	December 31,
	2018		2017
Deferred income tax liabilities:
Differences in financial and tax bases of fixed assets, investments and other assets⁽¹⁾	$	3,780	$	4,233
U.S. state and non-U.S. withholding tax on repatriation of foreign earnings	382		360
Regulatory balancing accounts	359		376
Property taxes	41		37
Other deferred income tax liabilities	130		117
Total deferred income tax liabilities	4,692		5,123
Deferred income tax assets:
Tax credits	1,114		1,066
Net operating losses	725		968
Compensation-related items	181		199
Postretirement benefits	255		251
Other deferred income tax assets	92		115
Accrued expenses not yet deductible	69		60
Deferred income tax assets before valuation allowances	2,436		2,659
Less: valuation allowances	164		133
Total deferred income tax assets	2,272		2,526
Net deferred income tax liability⁽²⁾	$	2,420	$	2,597


⁽¹⁾	In addition to the financial over tax basis differences in fixed assets, the amount also includes financial over tax basis differences in various interests in partnerships and certain subsidiaries.


⁽²⁾	At December 31, 2018 and 2017, includes $151 million and $170 million, respectively, recorded as a noncurrent asset and $2,571 million and $2,767 million, respectively, recorded as a noncurrent liability on the Consolidated Balance Sheets.



DEFERRED INCOME TAXES – SDG&E AND SOCALGAS
(Dollars in millions)
	SDG&E				SoCalGas
	December 31,				December 31,
	2018		2017		2018		2017
Deferred income tax liabilities:
Differences in financial and tax bases of
utility plant and other assets	$	1,578	$	1,472	$	1,077	$	987
Regulatory balancing accounts	84		113		283		271
Property taxes	29		26		13		12
Other	10		10		2		1
Total deferred income tax liabilities	1,701		1,621		1,375		1,271
Deferred income tax assets:
Net operating losses	—		—		—		58
Tax credits	6		7		3		15
Postretirement benefits	58		43		140		152
Compensation-related items	5		5		25		25
State income taxes	6		14		3		7
Accrued expenses not yet deductible	4		3		13		12
Other	6		19		14		7
Total deferred income tax assets	85		91		198		276
Net deferred income tax liability	$	1,616	$	1,530	$	1,177	$	995

The following table summarizes our unused NOLs and tax credit carryforwards.



NET OPERATING LOSSES AND TAX CREDIT CARRYFORWARDS
(Dollars in millions)
	Unused amount at December 31, 2018		Year expiration begins
Sempra Energy Consolidated:
U.S. federal:
NOLs⁽¹⁾	$	2,688	2031
General business tax credits⁽¹⁾	417		2032
Foreign tax credits⁽²⁾	624		2024
U.S. state⁽²⁾:
NOLs	1,942		2019
General business tax credits	82		2019
Non-U.S.⁽²⁾
NOLs	264		2019


⁽¹⁾	We have recorded deferred income tax benefits on these NOLs and tax credits, in total, because we currently believe they will be realized on a more-likely-than-not-basis.


⁽²⁾	We have not recorded deferred income tax benefits on a portion of these NOLs and tax credits because we currently believe they will not be realized on a more-likely-than-not-basis, as discussed below.

At December 31, 2018, Sempra Energy recorded a valuation allowance against a portion of its total deferred income tax assets, as shown above in the “Deferred Income Taxes – Sempra Energy Consolidated” table. A valuation allowance is recorded when, based on more-likely-than-not criteria, negative evidence outweighs positive evidence with regard to our ability to realize a deferred income tax asset in the future. Of the valuation allowances recorded to date, the negative evidence outweighs the positive evidence primarily due to cumulative pretax losses in various U.S. state and non-U.S. jurisdictions resulting in a deferred income tax asset related to NOLs, as shown in the “Net Operating Losses and Tax Credit Carryforwards” table above, that we currently do not believe will be realized on a more-likely-than-not basis. Of Sempra Energy’s total valuation allowance of $164 million at December 31, 2018, $20 million is related to non-U.S. NOLs and tax credits, $35 million to U.S. state NOLs and tax credits and $109 million to U.S. NOLs and foreign tax credits. Of Sempra Energy’s total valuation allowance of $133 million at December 31, 2017, $20 million was related to non-U.S. NOLs and tax credits, $30 million to U.S. state NOLs and tax credits and $83 million to U.S. foreign tax credits.

Following is a reconciliation of the changes in unrecognized income tax benefits and the potential effect on our ETR for the years ended December 31:



RECONCILIATION OF UNRECOGNIZED INCOME TAX BENEFITS
(Dollars in millions)
	2018			2017			2016
Sempra Energy Consolidated:
Balance at January 1	$	89		$	90		$	87
Increase in prior period tax positions	7			22			2
Decrease in prior period tax positions	(1		)	(15		)	(2		)
Increase in current period tax positions	24			4			6
Settlements with taxing authorities	—			(12		)	(3		)
Balance at December 31	$	119		$	89		$	90
Of December 31 balance, amounts related to tax positions that
if recognized in future years would
decrease the effective tax rate⁽¹⁾	$	(107	)	$	(77	)	$	(87	)
increase the effective tax rate⁽¹⁾	24			20			36
SDG&E:
Balance at January 1	$	10		$	22		$	20
Increase in prior period tax positions	1			9			—
Decrease in prior period tax positions	—			(11		)	—
Increase in current period tax positions	—			—			2
Settlements with taxing authorities	—			(10		)	—
Balance at December 31	$	11		$	10		$	22
Of December 31 balance, amounts related to tax positions that
if recognized in future years would
decrease the effective tax rate⁽¹⁾	$	(9	)	$	(7	)	$	(19	)
increase the effective tax rate⁽¹⁾	1			1			13
SoCalGas:
Balance at January 1	$	35		$	29		$	27
Increase in prior period tax positions	2			3			—
Decrease in prior period tax positions	—			—			(2		)
Increase in current period tax positions	24			4			4
Settlements with taxing authorities	—			(1		)	—
Balance at December 31	$	61		$	35		$	29
Of December 31 balance, amounts related to tax positions that
if recognized in future years would
decrease the effective tax rate⁽¹⁾	$	(51	)	$	(26	)	$	(29	)
increase the effective tax rate⁽¹⁾	23			20			24


⁽¹⁾	Includes temporary book and tax differences that are treated as flow-through for ratemaking purposes, as discussed above.

It is reasonably possible that within the next 12 months, unrecognized income tax benefits could decrease due to the following:



POSSIBLE DECREASES IN UNRECOGNIZED INCOME TAX BENEFITS WITHIN 12 MONTHS
(Dollars in millions)
	At December 31,
	2018			2017			2016
Sempra Energy Consolidated:
Expiration of statutes of limitations on tax assessments	$	(1	)	$	—		$	(2	)
Potential resolution of audit issues with various
U.S. federal, state and local and non-U.S. taxing authorities	(40		)	(8		)	(36		)
	$	(41	)	$	(8	)	$	(38	)
SDG&E:
Expiration of statutes of limitations on tax assessments	$	—		$	—		$	(1	)
Potential resolution of audit issues with various
U.S. federal, state and local taxing authorities	(6		)	(6		)	(10		)
	$	(6	)	$	(6	)	$	(11	)
SoCalGas:
Potential resolution of audit issues with various
U.S. federal, state and local taxing authorities	$	(2	)	$	(2	)	$	(25	)

Amounts accrued for interest and penalties associated with unrecognized income tax benefits are included in Income Tax Expense on the Consolidated Statements of Operations. Sempra Energy Consolidated accrued $1 million and a negligible amount for interest expense and penalties at December 31, 2018 and 2017, respectively, on the Consolidated Balance Sheets, and recorded $1 million of interest expense and penalties in 2018 and negligible amounts in each of 2017 and 2016 on the Consolidated Statements of Operations. SDG&E and SoCalGas each accrued negligible amounts for interest expense and penalties at December 31, 2018 and 2017 on the Consolidated Balance Sheets, and recorded negligible amounts of interest expense and penalties in each of 2018, 2017 and 2016 on the Consolidated Statements of Operations.

INCOME TAX AUDITS

Sempra Energy is subject to U.S. federal income tax as well as income tax of multiple state and non-U.S. jurisdictions. We remain subject to examination for U.S. federal tax years after 2014. We are subject to examination by major state tax jurisdictions for tax years after 2008. Certain major non-U.S. income tax returns for tax years 2008 through the present are open to examination. We are also open to examination for non-U.S. income tax returns related to our prior interest in our commodities business, which we divested in 2010, for years 1999 through 2010.

In addition, we have filed state refund claims for tax years back to 2006. The pre-2009 tax years for our major state tax jurisdictions are closed to new issues; therefore, no additional tax may be assessed by the taxing authorities for these tax years.

SDG&E and SoCalGas are subject to U.S. federal income tax as well as income tax of state jurisdictions. They remain subject to examination for U.S. federal tax years after 2014 and by state tax jurisdictions for tax years after 2008.