Taxes on Income

12 Months Ended

Dec. 31, 2019

A reconciliation between the effective tax rate and the U.S. statutory rate is as follows:



	2019					2018					2017
	Amount			Tax Rate		Amount			Tax Rate		Amount			Tax Rate
U.S. statutory rate applied to income before taxes	$	2,408		21.0	%	$	1,827		21.0	%	$	2,282		35.0	%
Differential arising from:
Foreign earnings	(1,020		)	(8.9	)	(245		)	(2.8	)	(1,654		)	(25.4	)
GILTI and the foreign-derived intangible income deduction	336			2.9		(25		)	(0.3	)	—			—
Tax settlements	(403		)	(3.5	)	(22		)	(0.3	)	(356		)	(5.5	)
R&D tax credit	(118		)	(1.0	)	(96		)	(1.1	)	(71		)	(1.1	)
State taxes	(2		)	—		201			2.3		77			1.2
Acquisition of Peloton	209			1.8		—			—		—			—
TCJA	117			1.0		289			3.3		2,625			40.3
Valuation allowances	113			1.0		269			3.1		632			9.7
Acquisition-related costs, including amortization	95			0.8		267			3.1		713			10.9
Restructuring	39			0.3		56			0.6		142			2.2
Other ⁽¹⁾	(87		)	(0.7	)	(13		)	(0.1	)	(287		)	(4.4	)
	$	1,687		14.7	%	$	2,508		28.8	%	$	4,103		62.9	%


⁽¹⁾	Other includes the tax effects of losses on foreign subsidiaries and miscellaneous items.

The Tax Cuts and Jobs Act (TCJA) was enacted in December 2017. Among other provisions, the TCJA reduced the U.S. federal corporate statutory tax rate from 35% to 21% effective January 1, 2018, required companies to pay a one-time transition tax on undistributed earnings of certain foreign subsidiaries, and created new taxes on certain foreign sourced earnings. The Company reflected the impact of the TCJA in its 2017 financial statements. However, since application of certain provisions of the TCJA remained subject to further interpretation, in certain instances the Company made reasonable estimates of the effects of the TCJA, which were since finalized as described below.

The one-time transition tax is based on the Company’s post-1986 undistributed earnings and profits (E&P). For a substantial portion of these undistributed E&P, the Company had not previously provided deferred taxes as these earnings were deemed by Merck to be retained indefinitely by subsidiary companies for reinvestment. The Company recorded a provisional amount in 2017 for its one-time transition tax liability of $5.3 billion. This provisional amount was reduced by the reversal of $2.0 billion of deferred taxes that were previously recorded in connection with the merger of Schering-Plough Corporation in 2009 for certain undistributed foreign E&P. On the basis of revised calculations of post-1986 undistributed foreign E&P and finalization of the amounts held in cash or other specified assets, the Company recognized a measurement-period adjustment of $124 million in 2018 related to the transition tax obligation, with a corresponding adjustment to income tax expense during the period, resulting in a revised transition tax obligation of $5.5 billion. In 2019, the Company recorded additional charges of $117 million related to the finalization of treasury regulations associated with the TCJA. As permitted under the TCJA, the Company has elected to pay the one-time transition tax over a period of eight years through 2025. The Company’s remaining transition tax liability, which has been reduced by payments and the utilization of foreign tax credits, was $3.4 billion at December 31, 2019, of which $390 million is included in Income taxes payable and the remainder of $3.0 billion is included in Other Noncurrent Liabilities. In 2017, the Company remeasured its deferred tax assets and liabilities at the new federal statutory tax rate of 21%, which resulted in a provisional deferred tax benefit of $779 million. On the basis of clarifications to the deferred tax benefit calculation, the Company recorded measurement-period adjustments in 2018 of $32 million related to deferred income taxes.

The foreign earnings tax rate differentials in the tax rate reconciliation above primarily reflect the impacts of operations in jurisdictions with different tax rates than the United States, particularly Ireland and Switzerland, as well as Singapore and Puerto Rico which operate under tax incentive grants (which begin to expire in 2022), where the earnings had been indefinitely reinvested, thereby yielding a favorable impact on the effective tax rate compared with the U.S. statutory rate of 21% in 2019 and 2018 and 35% in 2017. The foreign earnings tax rate differentials do not include the impact of intangible asset impairment charges, amortization of purchase accounting adjustments or restructuring costs. These items are presented separately as they each represent a significant, separately disclosed pretax cost or charge, and a substantial portion of each of these items relates to jurisdictions with lower tax rates than the United States. Therefore, the impact of recording these expense items in lower tax rate jurisdictions is an unfavorable impact on the effective tax rate compared to the U.S. statutory rate.

Income before taxes consisted of:



Years Ended December 31	2019		2018		2017
Domestic	$	439	$	3,717	$	3,483
Foreign	11,025		4,984		3,038
	$	11,464	$	8,701	$	6,521

Taxes on income consisted of:



Years Ended December 31	2019			2018			2017
Current provision
Federal	$	514		$	536		$	5,585
Foreign	1,806			2,281			1,229
State	(77		)	200			(90		)
	2,243			3,017			6,724
Deferred provision
Federal	(330		)	(402		)	(2,958		)
Foreign	(240		)	(64		)	75
State	14			(43		)	262
	(556		)	(509		)	(2,621		)
	$	1,687		$	2,508		$	4,103

Deferred income taxes at December 31 consisted of:



	2019					2018
	Assets			Liabilities		Assets			Liabilities
Product intangibles and licenses	$	442		$	1,778	$	720		$	1,640
Inventory related	32			354		32			377
Accelerated depreciation	—			594		—			582
Pensions and other postretirement benefits	785			191		565			151
Compensation related	322			—		291			—
Unrecognized tax benefits	109			—		174			—
Net operating losses and other tax credit carryforwards	897			—		715			—
Other	764			84		621			66
Subtotal	3,351			3,001		3,118			2,816
Valuation allowance	(1,100		)			(1,348		)
Total deferred taxes	$	2,251		$	3,001	$	1,770		$	2,816
Net deferred income taxes				$	750				$	1,046
Recognized as:
Other Assets	$	719				$	656
Deferred Income Taxes				$	1,470				$	1,702

The Company has net operating loss (NOL) carryforwards in several jurisdictions. As of December 31, 2019, $762 million of deferred taxes on NOL carryforwards relate to foreign jurisdictions. Valuation allowances of $1.1 billion have been established on these foreign NOL carryforwards and other foreign deferred tax assets. In addition, the Company has $135 million of deferred tax assets relating to various U.S. tax credit carryforwards and NOL carryforwards, all of which are expected to be fully utilized prior to expiry.

Income taxes paid in 2019, 2018 and 2017 were $4.5 billion, $1.5 billion and $4.9 billion, respectively. Tax benefits relating to stock option exercises were $65 million in 2019, $77 million in 2018 and $73 million in 2017.

A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:



	2019			2018			2017
Balance January 1	$	1,893		$	1,723		$	3,494
Additions related to current year positions	199			221			146
Additions related to prior year positions	46			142			520
Reductions for tax positions of prior years ⁽¹⁾	(454		)	(73		)	(1,038		)
Settlements⁽¹⁾	(356		)	(91		)	(1,388		)
Lapse of statute of limitations ⁽²⁾	(103		)	(29		)	(11		)
Balance December 31	$	1,225		$	1,893		$	1,723


⁽¹⁾	Amounts reflect the settlements with the IRS as discussed below.

⁽²⁾ Amount in 2019 includes $78 million related to the divestiture of Merck’s Consumer Care business in 2014.

If the Company were to recognize the unrecognized tax benefits of $1.2 billion at December 31, 2019, the income tax provision would reflect a favorable net impact of $1.1 billion.

The Company is under examination by numerous tax authorities in various jurisdictions globally. The Company believes that it is reasonably possible that the total amount of unrecognized tax benefits as of December 31, 2019 could decrease by up to approximately $40 million in the next 12 months as a result of various audit closures, settlements or the expiration of the statute of limitations. The ultimate finalization of the Company’s examinations with relevant taxing authorities can include formal administrative and legal proceedings, which could have a significant impact on the timing of the reversal of unrecognized tax benefits. The Company believes that its reserves for uncertain tax positions are adequate to cover existing risks or exposures.

Interest and penalties associated with uncertain tax positions amounted to a (benefit) expense of $(101) million in 2019, $51 million in 2018 and $183 million in 2017. These amounts reflect the beneficial impacts of various tax settlements, including those discussed below. Liabilities for accrued interest and penalties were $243 million and $372 million as of December 31, 2019 and 2018, respectively.

In 2019, the Internal Revenue Service (IRS) concluded its examinations of Merck’s 2012-2014 U.S. federal income tax returns. As a result, the Company was required to make a payment of $107 million. The Company’s reserves for unrecognized tax benefits for the years under examination exceeded the adjustments relating to this examination period and therefore the Company recorded a $364 million net tax benefit in 2019. This net benefit reflects reductions in reserves for unrecognized tax benefits for tax positions relating to the years that were under examination, partially offset by additional reserves for tax positions not previously reserved for.

In 2017, the IRS concluded its examinations of Merck’s 2006-2011 U.S. federal income tax returns. As a result, the Company was required to make a payment of approximately $2.8 billion. The Company’s reserves for unrecognized tax benefits for the years under examination exceeded the adjustments relating to this examination period and therefore the Company recorded a net $234 million tax benefit in 2017. This net benefit reflects reductions in reserves for unrecognized tax benefits for tax positions relating to the years that were under examination, partially offset by additional reserves for tax positions not previously reserved for, as well as adjustments to reserves for unrecognized tax benefits relating to years which remain open to examination that are affected by this settlement.

The IRS is currently conducting examinations of the Company’s tax returns for the years 2015 and 2016. In addition, various state and foreign tax examinations are in progress and for these jurisdictions, the Company’s income tax returns are open for examination for the period 2003 through 2019.