Income Taxes

12 Months Ended

Dec. 31, 2012

Income Taxes

Income Taxes

10. Income Taxes

Income Tax Expense

        Our income tax expense was as follows:

	For the year ended December 31,
	2012			2011		2010
	(in millions)
Current income taxes (benefits):
U.S. federal	$	(137.0	)	$	115.4	$	74.1
State and foreign		40.4			51.4		34.2
Total current income taxes (benefits)		(96.6	)		166.8		108.3
Deferred income taxes (benefits)		231.3			37.4		(3.4	)
Total income taxes	$	134.7		$	204.2	$	104.9

Effective Income Tax Rate

        Our provision for income taxes may not have the customary relationship of taxes to income. A reconciliation between the U.S. corporate income tax rate and the effective income tax rate is as follows:

	For the year ended December 31,
	2012			2011			2010
U.S. corporate income tax rate		35	%		35	%		35	%
Dividends received deduction		(10	)		(9	)		(11	)
Impact of equity method presentation		(4	)		(4	)		(6	)
Interest exclusion from taxable income		(2	)		(3	)		(3	)
Impact of court ruling on some uncertain tax positions		—			7			—
Other		(5	)		(3	)		(2	)
Effective income tax rate		14	%		23	%		13	%

Unrecognized Tax Benefits

        A summary of the changes in unrecognized tax benefits follows.

	For the year ended December 31,
	2012			2011
	(in millions)
Balance at beginning of period	$	114.3		$	54.8
Additions based on tax positions related to the current year		10.5			1.5
Additions for tax positions of prior years		4.4			67.1
Reductions for tax positions related to the current year		(4.2	)		(1.8	)
Reductions for tax positions of prior years		(5.5	)		(7.3	)
Balance at end of period (1)	$	119.5		$	114.3

(1)

Of this amount, $71.4 million, if recognized, would reduce the 2012 effective income tax rate. We recognize interest and penalties related to uncertain tax positions in operating expenses.

        As of December 31, 2012 and 2011, we had recognized $44.1 million and $43.8 million of accumulated pre-tax interest and penalties related to unrecognized tax benefits, respectively.

Net Deferred Income Taxes

        Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of our net deferred income taxes were as follows:

	December 31,
	2012			2011
	(in millions)
Deferred income tax assets:
Insurance liabilities	$	181.5		$	100.4
Investments, including derivatives		461.2			659.2
Net operating and capital loss carryforwards		383.9			358.6
Employee benefits		754.9			608.8
Other deferred income tax assets		85.8			31.5
Gross deferred income tax assets		1,867.3			1,758.5
Valuation allowance		(2.7	)		(1.3	)
Total deferred income tax assets		1,864.6			1,757.2
Deferred income tax liabilities:
Deferred policy acquisition costs		(664.4	)		(595.0	)
Investments, including derivatives		(423.8	)		(461.0	)
Net unrealized gains on available-for-sale securities		(1,098.6	)		(545.7	)
Real estate		(101.9	)		(103.3	)
Intangible assets		(160.0	)		(144.6	)
Other deferred income tax liabilities		(21.6	)		(100.8	)
Total deferred income tax liabilities		(2,470.3	)		(1,950.4	)
Total net deferred income tax liabilities	$	(605.7	)	$	(193.2	)

        Net deferred income taxes by jurisdiction are as follows:

	December 31,
	2012			2011
	(in millions)
Deferred income tax assets:
State	$	3.9		$	2.9
International		16.9			12.6
Net deferred income tax assets		20.8			15.5
Deferred income tax liabilities:
U.S.		(446.2	)		(68.7	)
International		(180.3	)		(140.0	)
Net deferred income tax liabilities		(626.5	)		(208.7	)
Total net deferred income tax liabilities	$	(605.7	)	$	(193.2	)

        In management's judgment, total deferred income tax assets are more likely than not to be realized. Included in the deferred income tax asset is the net operating loss carryforward for tax purposes available to offset future taxable income. We have net operating losses for federal income tax purposes of $274.5 million and $448.9 million at December 31, 2012 and 2011, respectively, attributed to one of our captive reinsurance companies that joined our consolidated U.S. federal income tax return in 2012. Our other captive reinsurance company, temporarily excluded from our consolidated U.S. federal income tax return, with net operating losses for federal income tax purposes of $710.6 million and $482.6 million at December 31, 2012 and 2011, respectively, will join our consolidated U.S. federal income tax return in 2013. These federal net operating losses will expire between 2021 and 2027. All accumulated federal net operating losses are anticipated to be utilized before expiration. Therefore, no valuation allowance has been provided for the deferred income tax assets attributable to these net operating losses.

        Domestic state net operating loss carryforwards were $328.6 million as of December 31, 2012, and will expire between 2015 and 2032. Foreign net operating loss carryforwards generated in various foreign countries were $70.6 million as of December 31, 2012, with some net operating loss carryforwards scheduled to expire beginning in 2013 while others never expire. We maintain valuation allowances by jurisdiction against the deferred income tax assets related to certain of these carryforwards, as utilization of these income tax benefits fail the more likely than not criteria in certain jurisdictions. A valuation allowance has been recorded on income tax benefits associated with state and foreign net operating loss carryforwards. Adjustments to the valuation allowance will be made if there is a change in management's assessment of the amount of the deferred income tax assets that are more likely than not to be realized.

        U.S. federal and state deferred income taxes have not been provided on approximately $629.2 million of accumulated but undistributed earnings from operations of foreign subsidiaries at December 31, 2012. These earnings are considered to be indefinitely reinvested in the business. It is not practicable to determine the amount of the unrecognized deferred tax liability that would arise if these earnings were remitted due to foreign tax credits and exclusions that may become available at the time of remittance. Deferred taxes were also not provided on the approximately $106.2 million of excess book carrying value over tax basis with respect to the original investment of our foreign subsidiaries. A tax liability will be recognized when we no longer plan to indefinitely reinvest these earnings or when we plan to sell all or a portion of our ownership interest.

Other Tax Information

        Income tax returns are filed in the U.S. federal jurisdiction, as well as, various states and foreign jurisdictions where we and one or more of our subsidiaries conduct business. Although determined by jurisdiction, with few exceptions our tax uncertainties relate primarily to the U.S. federal jurisdiction. The Internal Revenue Service ("IRS") has completed examination of our consolidated federal income tax returns for years prior to 2004. We are contesting certain issues and have filed suit in the Court of Federal Claims, requesting refunds for the years 1995-2003. We had $334.6 million and $263.2 million of current income tax receivables associated with outstanding audit issues reported as other assets in our consolidated statements of financial position as of December 31, 2012 and 2011, respectively. We do not expect the litigation to be resolved within the next twelve months.

        The IRS completed its examinations of tax years 2004 through 2005 and 2006 through 2008 during the second quarter of 2011 resulting in receipt of notices of deficiency dated April 6, 2011 and April 27, 2011, respectively. We paid the deficiencies (approximately $62.1 million for 2004 and 2005 and approximately $46.7 million for 2006 and 2008, including interest) in 2011. We filed claims for refund for tax years 2004 and 2005 during 2012 and will file claims for refund relating to disputed adjustments for tax years 2006 through 2008. The IRS commenced audit of our federal income tax return for 2009 during the fourth quarter of 2011 and for 2010 during the first quarter of 2012. We expect the IRS to commence audit of our federal income tax return for 2011 during 2013. We do not expect the results of these audits or developments in other tax areas for all open tax years to significantly change the possible increase in the amount of unrecognized tax benefits, but the outcome of tax reviews is uncertain and unforeseen results can occur.

        The U.S. District Court for the Southern District of Iowa issued a decision in the case of Pritired 1, LLC ("Pritired"), and Principal Life Insurance Co. v. United States on September 30, 2011. The court ruled that the securities Pritired held should be characterized as debt, not equity, and thus Principal Life was not entitled to foreign tax credits for the years 2002 and 2003. Pritired and Principal Life received favorable clarification from the court on September 12, 2012, that related partnership income should be reversed. No notice of appeal was filed by December 31, 2012, and the decision stands as modified by the post-trial motion as the time to file a notice of appeal expired in January 2013.

        We believe it is reasonably possible that the amount of our unrecognized tax benefits could decrease by $0.0 million to $28.5 million within the next twelve months. This uncertainty is associated with our investment in a transaction that gave rise to foreign tax credits. We believe that we have adequate defenses against, or sufficient provisions for, the contested issues, but final resolution of the contested issues could take several years while legal remedies are pursued. Consequently, we do not expect the ultimate resolution of issues from tax years 1995 - 2003 to have a material impact on our net income. Similarly, we believe there are adequate defenses against, or sufficient provisions for, any challenges that might arise in tax years subsequent to 2003.

        We are a U.S. shareholder in various foreign entities classified as controlled foreign corporations ("CFCs") for U.S. tax purposes. U.S. shareholders of CFCs are generally required to take into account as gross income in the U.S. certain passive income earned by the CFCs ("Subpart F income") even if the income is not currently distributed. A temporary exception (the "active financing exception") was applicable for tax years beginning before January 1, 2012, to avoid the current recognition of Subpart F income derived in the active conduct of a banking, financing, insurance or similar business. The U.S. Congress and the President enacted legislation on January 2, 2013, retroactive to January 1, 2012, to extend the active financing exception. The legislation did not have a material impact on our consolidated results.