10. Income Taxes

Income Tax Expense

Our income tax expense was as follows:

	For the year ended December 31,
	2017			2016			2015
	(in millions)
Current income taxes:
U.S. federal	$	(4.4	)	$	38.6		$	225.9
State		48.9			(1.9	)		12.3
Foreign		38.1			36.6			32.6
Tax benefit of operating loss carryforward		(21.5	)		(17.5	)		(52.0	)

Total current income taxes		61.1			55.8			218.8
Deferred income taxes (benefits):
U.S. federal		(208.2	)		171.7			79.1
State		42.5			(20.6	)		(1.0	)
Foreign		32.3			23.0			(119.3	)

Total deferred income taxes (benefits)		(133.4	)		174.1			(41.2	)

Total income taxes	$	(72.3	)	$	229.9		$	177.6

Our income before income taxes was as follows:

	For the year ended December 31,
	2017		2016		2015
	(in millions)
Domestic	$	1,848.5	$	1,261.4	$	1,195.3
Foreign		403.7		330.3		235.5

Total income before income taxes	$	2,252.2	$	1,591.7	$	1,430.8

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 was as follows:

	For the year ended December 31,
	2017			2016			2015
U.S. corporate income tax rate		35	%		35	%		35	%
Impact of the Tax Cuts and Jobs Act		(25	)		—			—
Dividends received deduction		(8	)		(10	)		(11	)
Impact of equity method presentation		(2	)		(3	)		(3	)
Tax credits		(2	)		(2	)		(2	)
Interest exclusion from taxable income		(1	)		(1	)		(1	)
State income taxes		2			—			—
Merger of Chilean legal entities		—			—			(7	)
Impact of court ruling on some uncertain tax positions		—			—			3
Other		(2	)		(5	)		(2	)

Effective income tax rate		(3	)%		14	%		12	%

U.S. tax legislation enacted on December 22, 2017 is referred to as the "Tax Cuts and Jobs Act" ("U.S. tax reform"). U.S. tax reform made broad and complex changes to the U.S. Internal Revenue Code applicable to us. The primary impact on our 2017 financial results was associated with the effect of reducing the U.S. statutory tax rate from 35% to 21% on our deferred balances as of December 31, 2017, and a one-time deemed repatriation tax on certain unremitted earnings of foreign subsidiaries. Other provisions of the U.S. tax reform not effective until January 1, 2018, include, but are not limited to: 1) provisions reducing the dividends received deduction; 2) essentially eliminating U.S. federal income taxes on dividends from foreign subsidiaries; 3) retaining an element of current inclusion of certain earnings of controlled foreign corporations; 4) eliminating the corporate alternative minimum tax ("AMT"); and, 5) changing how existing AMT credits will be realized.

Unrecognized Tax Benefits

Our changes in unrecognized tax benefits were as follows:

	For the year ended December 31,
	2017			2016
	(in millions)
Balance at beginning of period	$	207.8		$	219.0
Additions based on tax positions related to the current year		7.2			0.8
Additions for tax positions of prior years		20.2			0.8
Reductions for tax positions related to the current year		(3.3	)		(12.6	)
Reductions for tax positions of prior years		(1.1	)		(0.2	)
Settlements		(36.7	)		—

Balance at end of period (1)	$	194.1		$	207.8

(1)	If recognized, $51.7 million of the above amount of unrecognized tax benefits would reduce our 2017 effective income tax rate. We recognize interest and penalties related to uncertain tax positions in operating expenses within the consolidated statements of operations.

As of December 31, 2017 and 2016, we had recognized $125.5 million and $142.4 million of accumulated pre-tax interest and penalties related to unrecognized tax benefits, respectively. We believe there is a reasonable possibility a significant amount of the unrecognized tax benefits will reverse in the next twelve months considering a settlement with the Department of Justice approved by the Joint Committee of Taxation in August 2017 but still pending final determination as of December 31, 2017. We do not expect the final determination of these unrecognized tax benefits to have a material impact on our net income.

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. The deferred tax balances as of December 31, 2017, were remeasured as a result of the U.S. tax reform reducing the U.S. statutory tax rate from 35% to 21% effective January 1, 2018. This was because the new rate is applicable to the reversal of cumulative temporary differences thereafter. Our significant components of net deferred income taxes were as follows:

	December 31,
	2017			2016
	(in millions)
Deferred income tax assets:
Insurance liabilities	$	26.3		$	100.8
Investments, including derivatives		205.8			352.7
Net operating and capital loss carryforwards		68.3			78.7
Tax credit carryforwards		307.5			275.7
Employee benefits		314.5			500.8
Foreign currency translation		20.4			105.0
Other deferred income tax assets		42.7			49.1

Gross deferred income tax assets		985.5			1,462.8
Valuation allowance		(5.2	)		(7.3	)

Total deferred income tax assets		980.3			1,455.5
Deferred income tax liabilities:
Deferred acquisition costs		(587.0	)		(899.7	)
Investments, including derivatives		(343.9	)		(460.4	)
Net unrealized gains on available-for-sale securities		(597.9	)		(536.7	)
Real estate		(147.1	)		(117.5	)
Intangible assets		(235.1	)		(256.0	)
Repatriation toll charge		(19.8	)		—
Other deferred income tax liabilities		(93.6	)		(53.7	)

Total deferred income tax liabilities		(2,024.4	)		(2,324.0	)

Total net deferred income tax liabilities	$	(1,044.1	)	$	(868.5	)

Our net deferred income taxes by jurisdiction were as follows:

	December 31,
	2017			2016
	(in millions)
Deferred income tax assets:
State	$	10.9		$	67.8
Foreign		37.5			36.1

Net deferred income tax assets		48.4			103.9
Deferred income tax liabilities:
U.S. federal		(803.9	)		(733.3	)
Foreign		(288.6	)		(239.1	)

Net deferred income tax liabilities		(1,092.5	)		(972.4	)

Total net deferred income tax liabilities	$	(1,044.1	)	$	(868.5	)

In management's judgment, total deferred income tax assets are more likely than not to be realized. Included in the deferred income tax asset are tax carryforwards available to offset future taxable income or income taxes. As of December 31, 2017 and 2016, we had tax credit carryforwards for U.S. federal income tax purposes of $307.5 million and $275.7 million, respectively. Alternative minimum, foreign and general business tax credit carryovers were generated during and since the period we utilized net operating losses, primarily attributable to our captive reinsurance companies that joined our consolidated U.S. federal income tax return beginning in 2012 and 2013. Some of these tax credit carryforwards will become refundable starting in 2019 through full recovery by 2021, and others will expire by 2023 if unused. As of December 31, 2017, all accumulated U.S. federal tax credit carryforwards are anticipated to be utilized before expiration; therefore, no valuation allowance has been provided for the related deferred income tax assets.

As of December 31, 2017 and 2016, domestic state net operating loss carryforwards were $366.1 million and $587.7 million, respectively, and will expire between 2021 and 2035. As of December 31, 2017 and 2016, foreign net operating loss carryforwards were $125.6 million and $151.6 million, respectively, with some expiring in 2018 while others never expire. We maintain valuation allowances by jurisdiction against the deferred income tax assets related to certain of these carryforwards and other items, as utilization of these income tax benefits fail the more likely than not criteria in certain jurisdictions. As of December 31, 2017 and 2016, valuation allowances of $5.2 million and $7.3 million, respectively, had been recorded against the income tax benefits associated primarily with 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. Provisions of the U.S. tax reform did not affect the valuation allowance assessment.

The effects of tax legislation are recognized in the period of enactment. The effects of the U.S. tax reform were reflected in the 2017 financial statements as determined or as reasonably estimated provisional amounts based on available information subject to interpretation in accordance with the SEC's Staff Accounting Bulletin No. 118 ("SAB 118"). SAB 118 provides guidance on accounting for the effects of the U.S. tax reform where our determinations are incomplete but we are able to determine a reasonable estimate. A final determination is required to be made within a measurement period not to extend beyond one year from the enactment date of the U.S. tax reform. The provisional amount is primarily associated with estimation of the one-time deemed repatriation tax considering complexity as well as limited and changing technical tax guidance. Further, the provisional amount also applies in regard to other potential technical interpretations of accounting and taxing authorities related to elements of the U.S. tax reform subject to change. Tax legislation increasing the Brazilian tax rate was enacted in September 2015. The three-year rate increase did not have a material impact on our consolidated results.

The U.S. tax reform imposed a one-time deemed repatriation tax in 2017 on the greater of unremitted earnings and profits from foreign operations of our subsidiaries determined as of November 2, 2017 or December 31, 2017, which amounted to $43.0 million. Deferred tax liabilities are recognized for taxes payable on the unremitted earnings from foreign operations of our subsidiaries, except where it is our intention to indefinitely reinvest a portion or all of these undistributed earnings. As of December 31, 2017 and 2016, state deferred income taxes and U.S. federal and state deferred income taxes were not provided on approximately $1,331.2 million and $1,088.4 million, respectively, of such accumulated but undistributed earnings from operations of foreign subsidiaries. We currently do not intend to repatriate these unremitted earnings because we have several liquidity options to fund our domestic operations and obligations. These options include investing and financing activities, such as issuing debt, as well as cash-flow and dividends from domestic operations. As of December 31, 2017 and 2016, it was not practicable to determine the amount of the unrecognized deferred tax liability that would arise if foreign earnings were remitted. This applied to foreign currency gains or losses, foreign withholding taxes, and state income taxes as of December 31, 2017, but also included U.S. federal deferred income taxes as of December 31, 2016, due to the complexity of our international holding company structure, the availability of foreign tax credits, the rules governing the utilization of foreign tax credits, the interplay between utilization of such foreign tax credits and other significant tax attributes and varying state tax laws. As of December 31, 2017, 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 in our foreign subsidiaries. A tax liability will be recognized when we no longer plan to indefinitely reinvest a portion or all of these earnings or when we plan to sell a portion or all of our ownership interest.

Other Tax Information

Income tax returns are filed in 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 U.S. federal income tax returns for years prior to 2009. We are contesting certain issues and have filed suit in the Court of Federal Claims, requesting refunds for the years 1995-2003. We believe there is a reasonable possibility this litigation can be resolved within the next twelve months. As of December 31, 2017 and 2016, we had $231.8 million and $242.9 million, respectively, of current income tax receivables associated with outstanding audit issues reported as other assets in our consolidated statements of financial position.

We filed claims for refund for tax years 2006 through 2008 in 2015 and tax year 2012 in 2016. The IRS commenced audit of our U.S. federal income tax return for 2009 in the fourth quarter of 2011, 2010 in the first quarter of 2012, 2011 in the first quarter of 2013, and 2012 in the third quarter of 2015. The U.S. federal statute of limitations expired for years prior to 2009, except for pending audit issues. The statute was extended until June 30, 2018 for 2009 through 2012, has expired for 2013, and remains open for years thereafter. The ultimate settlement of earlier tax years can be adjusted into subsequent tax years regardless of statute status. We do not expect the results of these audits, subsequent related adjustments 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. Court of Federal Claims denied cross-motions for partial summary judgment on February 4, 2015, and ordered a trial on the previously taxed income issue in the case of Principal Life Insurance Company and Subsidiaries v. the United States. Previously, in the same case, on May 9, 2014, the court ruled against Principal Life's tax treatment of transactions involving the purchase and sale of principal-only certificates. These events caused the re-evaluation of all our pending uncertain tax positions, which resulted in a $30.3 million reduction in net income in the first quarter of 2015. We believe we have adequate defenses against, or sufficient provisions for, the contested issues, but final resolution could take several years while legal remedies are pursued. Consequently, we do not expect the ultimate resolution of issues from tax years 1995-2003 or those that might arise in tax years subsequent to 2003 to have a material impact on our net income.