Note 15: Income Taxes

The components of income (loss) before income taxes were as follows:


	Year Ended
	June 29, 2014		June 30, 2013			June 24, 2012
	(in thousands)
United States	$	78,076	$	(46,392	)	$	(6,950	)
Foreign		645,287		113,050			211,368

	$	723,363	$	66,658		$	204,418

Significant components of the provision (benefit) for income taxes attributable to income before income taxes were as follows:


	Year Ended
	June 29, 2014			June 30, 2013			June 24, 2012
	(in thousands)
Federal:
Current	$	31,762		$	(1,096	)	$	5,038
Deferred		10,692			(60,172	)		(1,033	)

	$	42,454		$	(61,268	)	$	4,005

State:
Current	$	3,192		$	3,332		$	1,297
Deferred		(869	)		(6,351	)		336

	$	2,323		$	(3,019	)	$	1,633

Foreign:
Current	$	49,273		$	20,640		$	33,871
Deferred		(2,976	)		(3,574	)		(3,814	)

	$	46,297		$	17,066		$	30,057

Total Provision (Benefit) for Income Taxes	$	91,074		$	(47,221	)	$	35,695

Deferred income taxes reflect the net tax effect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes, and the amounts used for income tax purposes, as well as the tax effect of carryforwards. Significant components of the Company’s net deferred tax assets and liabilities were as follows:


	June 29, 2014			June 30, 2013
	(in thousands)
Deferred tax assets:
Tax carryforwards	$	170,028		$	169,371
Allowances and reserves		126,895			94,720
Equity-based compensation		18,019			19,586
Inventory valuation differences		16,257			22,833
Other		12,065			11,286

Gross deferred tax assets		343,264			317,796
Valuation allowance		(74,439	)		(76,594	)

Net deferred tax assets		268,825			241,202
Deferred tax liabilities:
Intangible Assets		(87,329	)		(94,836	)
Convertible debt		(117,112	)		(98,482	)
Temporary differences for capital assets		(32,350	)		(41,470	)
Amortization of goodwill		(11,409	)		(9,950	)
Unremitted earnings of a foreign subsidiary		(34,346	)		(2,936	)
Other		(11,017	)		(11,645	)

Gross deferred tax liabilities		(293,563	)		(259,319	)

Net deferred tax assets	$	(24,738	)	$	(18,117	)

The change in the gross deferred tax assets, gross deferred tax liabilities and valuation allowance between fiscal year 2014 and 2013 is primarily attributable to accrual for future tax liability due to the expected repatriation of foreign earnings and amortization of convertible debt, offset by an increase in deferred tax assets related to allowances and reserves. Realization of the Company’s net deferred tax assets is based upon the weighting of available evidence, including such factors as the recent earnings history and expected future taxable income. The Company believes it is more-likely-than-not that such deferred tax assets will be realized with the exception of $74.4 million primarily related to California and certain foreign deferred tax assets.

The provisions related to the tax accounting for stock-based compensation prohibit the recognition of a deferred tax asset for an excess benefit that has not yet been realized. As a result, the Company will only recognize an excess benefit from stock-based compensation in additional paid-in-capital if an incremental tax benefit is realized after all other tax attributes currently available to us have been utilized. In addition, the Company continued to elect to account for the indirect benefits of stock-based compensation such as the research and development tax credit through the consolidated statement of operations.

At June 29, 2014, the Company had federal net operating loss carryforwards of approximately $134.5 million. The majority of these losses will begin to expire in the year 2019, and are subject to limitations on their utilization.

As of June 29, 2014, the Company had state net operating loss carryforwards of approximately $31.9 million. If not utilized, the net operating loss carryforwards will begin to expire in the year 2015, and are subject to limitations on their utilization. The tax benefits relating to approximately $5.0 million of state net operating loss carryforwards will be credited to additional paid-in-capital when recognized.

At June 29, 2014, the Company had federal tax credit carryforwards of approximately $107.8 million, of which $17.9 million will begin to expire in fiscal year 2017 and $87.1 million will begin to expire in fiscal year 2030. The remaining balance of $2.8 million of credits may be carried forward indefinitely. The tax benefits relating to approximately $13.0 million of federal tax credit carryforwards will be credited to additional paid-in-capital when recognized.

At June 29, 2014, the Company had state tax credit carryforwards of approximately $212.0 million. Substantially all state tax credit carryforwards may be carried forward indefinitely. The tax benefits relating to approximately $37.0 million of the state tax credit carryforwards will be credited to additional paid-in-capital when recognized.

At June 29, 2014, the Company had foreign net operating loss carryforwards of approximately $60.3 million, of which approximately $38.5 million may be carried forward indefinitely and $21.9 million will begin to expire in fiscal year 2015.

A reconciliation of income tax expense provided at the federal statutory rate (35% in fiscal years 2014, 2013, and 2012) to actual income expense is as follows:


	Year Ended
	June 29, 2014			June 30, 2013			June 24, 2012
	(in thousands)
Income tax expense computed at federal statutory rate	$	253,177		$	23,332		$	71,546
State income taxes, net of federal tax benefit		1,884			(13,588	)		(4,895	)
Foreign income taxed at different rates		(164,130	)		(40,255	)		(51,425	)
Tax credits		(15,650	)		(42,593	)		(5,791	)
State valuation allowance, net of federal tax benefit		(1,707	)		11,538			5,862
Equity-based compensation		23,167			20,318			14,123
Acquisition costs		—			—			5,683
Other permanent differences and miscellaneous items		(5,667	)		(5,973	)		592

	$	91,074		$	(47,221	)	$	35,695

Effective fiscal year 2014 through June 2023, the Company obtained a new tax ruling for one of its foreign subsidiaries in Switzerland. In the prior years, the Company had a tax holiday in Switzerland which was effective from fiscal year 2003 through June 2013. The impact of the tax ruling decreased income taxes by approximately $7.4 million, $10.8 million and $22.3 million for fiscal years 2014, 2013 and 2012, respectively. The benefit of the tax ruling on diluted earnings per share was approximately $0.04 in fiscal year 2014, $0.06 in fiscal year 2013 and $0.18 in fiscal year 2012.

Unremitted earnings of the Company’s foreign subsidiaries included in consolidated retained earnings aggregated to approximately $2.9 billion at June 29, 2014. These earnings are indefinitely reinvested in foreign operations. If these earnings were remitted to the United States, they would be subject to U.S. and foreign withholding taxes of approximately $697.5 million at current statutory rates. The Company’s federal income tax provision includes U.S. income taxes on certain foreign-based income.

As of June 29, 2014, the total gross unrecognized tax benefits were $352.1 million compared to $333.1 million as of June 30, 2013, and $343.8 million as of June 24, 2012. During fiscal year 2014, gross unrecognized tax benefits increased by approximately $19.0 million. The amount of unrecognized tax benefits that, if recognized, would impact the effective tax rate was $269.4 million, $257.7 million, and $278.2 million as of June 29, 2014, June 30, 2013, and June 24, 2012, respectively. The aggregate changes in the balance of gross unrecognized tax benefits were as follows:


	(in millions)
Balance as of June 26, 2011	$	181.5
Settlements and effective settlements with tax authorities		(0.2	)
Lapse of statute of limitations		(6.6	)
Increases in balances related to tax positions taken during prior periods		1.4
Decreases in balances related to tax positions taken during prior periods		(4.3	)
Increases in balances related to tax positions taken during current period		22.3
Tax positions assumed in Novellus transaction		149.7

Balance as of June 24, 2012		343.8
Settlements and effective settlements with tax authorities		(3.4	)
Lapse of statute of limitations		(51.4	)
Increases in balances related to tax positions taken during prior periods		11.3
Decreases in balances related to tax positions taken during prior periods		(11.3	)
Increases in balances related to tax positions taken during current period		35.2
Tax positions assumed in Novellus transaction		8.9

Balance as of June 30, 2013		333.1
Lapse of statute of limitations		(16.0	)
Increases in balances related to tax positions taken during prior periods		6.2
Decreases in balances related to tax positions taken during prior periods		(4.2	)
Increases in balances related to tax positions taken during current period		33.0

Balance as of June 29, 2014	$	352.1

The Company recognizes interest expense and penalties related to the above unrecognized tax benefits within income tax expense. The Company had accrued $29.5 million, $25.5 million, and $25.2 million, cumulatively, for gross interest and penalties as of June 29, 2014, June 30, 3013, and June 24, 2012, respectively.

The Internal Revenue Service (“IRS”) has contacted the Company for a limited scope audit of Novellus’ U.S. income tax return for the years 2010, 2011, and 2012. In addition, the Company is also subject to audits by state and foreign tax authorities. The Company is unable to make a reasonable estimate as to when cash settlements, if any, with the relevant taxing authorities will occur.

The Company files U.S. federal, U.S. state, and foreign income tax returns. As of June 29, 2014, tax years 2004-2013 remain subject to examination in the jurisdictions where the Company operates.

The Company is in various stages of the examinations in connection with all of its tax audits worldwide and it is difficult to determine when these examinations will be settled. It is reasonably possible that over the next twelve-month period the Company may experience an increase or decrease in its unrecognized tax benefits. It is not possible to determine either the magnitude or the range of any increase or decrease at this time.