Income Taxes

The income tax expense applicable to income before income taxes consists of the following:



	Year Ended
	January 31, 2016			January 25, 2015			January 26, 2014
	(In millions)
Current income taxes:
Federal	$	(43	)	$	8		$	8
State	1			1			1
Foreign	25			17			19
Total current	(17		)	26			28
Deferred taxes:
Federal	134			84			17
State	—			—			—
Foreign	—			(1		)	(2		)
Total deferred	134			83			15
Charge in lieu of taxes attributable to employer stock option plans	12			15			27
Income tax expense	$	129		$	124		$	70

Income before income tax consists of the following:



	Year Ended
	January 31, 2016		January 25, 2015		January 26, 2014
	(In millions)
Domestic	$	129	$	174	$	79
Foreign	614		581		431
Income before income tax	$	743	$	755	$	510

The income tax expense differs from the amount computed by applying the federal statutory income tax rate of 35% to income before income taxes as follows:



	Year Ended
	January 31, 2016			January 25, 2015			January 26, 2014
	(In millions)
Tax expense computed at federal statutory rate	$	260		$	264		$	178
State income taxes, net of federal tax effect	1			1			2
Foreign tax rate differential	(95		)	(120		)	(94		)
U.S. federal R&D tax credit	(38		)	(34		)	(30		)
Stock-based compensation	13			4			9
Tax expense related to intercompany transaction	10			10			10
Restructuring and expiration of statute of limitations	(21		)	—			—
Other	(1		)	(1		)	(5		)
Income tax expense	$	129		$	124		$	70

The tax effect of temporary differences that gives rise to significant portions of the deferred tax assets and liabilities are presented below:



	January 31, 2016			January 25, 2015
	(In millions)
Deferred tax assets:
Net operating loss carryforwards	$	57		$	72
Accruals and reserves, not currently deductible for tax purposes	58			109
Property, equipment and intangible assets	50			46
Research and other tax credit carryforwards	404			351
Stock-based compensation	29			30
Convertible debt	9			12
Gross deferred tax assets	607			620
Less valuation allowance	(272		)	(261		)
Total deferred tax assets	335			359
Deferred tax liabilities:
Acquired intangibles	(17		)	(25		)
Unremitted earnings of foreign subsidiaries	(615		)	(500		)
Gross deferred tax liabilities	(632		)	(525		)
Net deferred tax liability	$	(297	)	$	(166	)

We recognized income tax expense of $129 million, $124 million and $70 million during fiscal years 2016, 2015, and 2014, respectively. Our annual effective tax rate, was 17.3% in fiscal year 2016, 16.5% in fiscal year 2015 and 13.8% in fiscal year 2014. The difference in the effective tax rates amongst the three years was primarily due to an increase in the amount of earnings subject to United States tax in fiscal years 2016 and 2015, partially offset by a net income tax benefit related to the Icera modem restructuring in fiscal year 2016, and a higher percentage of research tax credit benefit in fiscal year 2014.

Our effective tax rate for each of the fiscal years was lower than the U.S. federal statutory rate of 35% due primarily to income earned in jurisdictions, including British Virgin Islands, Hong Kong, China, Taiwan and United Kingdom, where the tax rate is lower than the United States federal statutory tax rate of 35%, favorable recognition in these fiscal years of the U.S. federal research tax credit and favorable discrete events primarily attributable to the tax benefit recognized upon the expiration of the applicable statutes of limitations.

As of January 31, 2016 and January 25, 2015 we had a valuation allowance of $272 million and $261 million, respectively, related to state and certain foreign deferred tax assets that management determined not likely to be realized due, in part, to projections of future taxable income. To the extent realization of the deferred tax assets becomes more-likely-than-not, we would recognize such deferred tax asset as an income tax benefit during the period.

Our deferred tax assets do not include the excess tax benefit related to stock-based compensation that are a component of our federal and state net operating loss and research tax credit carryforwards in the amount of $416 million as of January 31, 2016. Consistent with prior years, the excess tax benefit reflected in our net operating loss and research tax credit carryforwards will be accounted for as a credit to shareholders' equity, if and when realized.

As of January 31, 2016, we had federal, state and foreign net operating loss carryforwards of $516 million, $664 million and $289 million, respectively. The federal and state carryforwards will expire beginning in fiscal year 2022 and 2017, respectively. The foreign net operating loss carryforwards of $275 million may be carried forward indefinitely and the remainder of $14 million will begin to expire in fiscal year 2017. As of January 31, 2016, we had federal research tax credit carryforwards of $476 million that will begin to expire in fiscal year 2018. We have state research tax credit carryforwards of $450 million, of which $432 million is attributable to the State of California and may be carried over indefinitely, and $18 million is attributable to various other states and will expire beginning in fiscal year 2017. We have other state tax credit carryforwards of $3 million that will expire in fiscal year 2026 and foreign tax credit carryforwards of $1 million, which may be refunded in fiscal years 2017 through 2020 if not utilized. Our tax attributes, net operating loss and tax credit carryforwards, remain subject to audit and may be adjusted for changes or modification in tax laws, other authoritative interpretations thereof, or other facts and circumstances. Utilization of federal, state, and foreign net operating losses and tax credit carryforwards may also be subject to limitations due to ownership changes and other limitations provided by the Internal Revenue Code and similar state and foreign tax provisions. If any such limitations apply, the federal, states, or foreign net operating loss and tax credit carryforwards, as applicable, may expire or be denied before utilization.

As of January 31, 2016, U.S. federal and state income taxes have not been provided on approximately $2.50 billion of undistributed earnings of non-United States subsidiaries as such earnings are considered to be indefinitely reinvested. We have not provided the amount of unrecognized deferred tax liabilities for temporary differences related to investments in our foreign subsidiaries as the determination of such amount is not practicable.

As of January 31, 2016, we had $230 million of gross unrecognized tax benefits, of which $202 million would affect our effective tax rate if recognized. However, approximately $50 million of the unrecognized tax benefits were related to state income tax positions taken, that, if recognized, would be in the form of a carryforward deferred tax asset that would likely attract a full valuation allowance. The $202 million of unrecognized tax benefits as of January 31, 2016 consisted of $67 million recorded in non-current income taxes payable and $135 million reflected as a reduction to the related deferred tax assets.

A reconciliation of gross unrecognized tax benefits is as follows:



	January 31, 2016			January 25, 2015			January 26, 2014
	(In millions)
Balance at beginning of period	$	254		$	238		$	221
Increases in tax positions for prior years	—			—			—
Decreases in tax positions for prior years	(1		)	(1		)	(1		)
Increases in tax positions for current year	28			23			23
Lapse in statute of limitations	(51		)	(6		)	(5		)
Balance at end of period	$	230		$	254		$	238

We classify an unrecognized tax benefit as a current liability, or amount refundable, to the extent that we anticipate payment or receipt of cash for income taxes within one year. The amount is classified as a long-term liability, or reduction of long-term deferred tax assets or amount refundable, if we anticipate payment or receipt of cash for income taxes during a period beyond a year.

Our policy is to include interest and penalties related to unrecognized tax benefits as a component of income tax expense. As of January 31, 2016, January 25, 2015, and January 26, 2014, we had accrued $11 million, $14 million, and $13 million, respectively, for the payment of interest and penalties related to unrecognized tax benefits, which is not included as a component of our unrecognized tax benefits. As of January 31, 2016, non-current income taxes payable of $78 million consisted of unrecognized tax benefits of $67 million and the related interest and penalties of $11 million.

While we believe that we have adequately provided for all tax positions, amounts asserted by tax authorities could be greater or less than our accrued position. Accordingly, our provisions on federal, state and foreign tax-related matters to be recorded in the future may change as revised estimates are made or the underlying matters are settled or otherwise resolved. As of January 31, 2016, we do not believe that our estimates, as otherwise provided for, on such tax positions will significantly increase or decrease within the next twelve months.

We are subject to taxation by a number of taxing authorities both in the United States and throughout the world. As of January 31, 2016, the material tax jurisdictions that may be subject to examination include the United States, Taiwan, Canada, China, Germany, Hong Kong, France, Japan, and India for fiscal years 2003 through 2015. As of January 31, 2016, the material tax jurisdictions for which we are currently under examination include the state of California for fiscal years 2011 through 2012, and India, Taiwan, France and Germany for fiscal years 2003 through 2015.