Income Taxes

Our provision (benefit) for income taxes consists of (table in millions):



	2014			2013			2012
Federal:
Current	$	955		$	698		$	792
Deferred	(308		)	(163		)	(80		)
	647			535			712
State:
Current	81			84			74
Deferred	(70		)	(23		)	(12		)
	11			61			62
Foreign:
Current	228			192			169
Deferred	(18		)	(16		)	(25		)
	210			176			144
Total provision for income taxes	$	868		$	772		$	918

In 2014, 2013 and 2012, we were able to utilize net operating loss carryforwards and tax credit carryforwards to reduce the current portion of our tax provision by $34 million, $54 million and $59 million, respectively.

The effective income tax rate is based upon income for the year, composition of the income in different countries, effect of tax law changes and adjustments, if any, for potential tax consequences, benefits and/or resolutions of tax audits or other tax contingencies. A reconciliation of our income tax provision to the statutory federal tax rate is as follows:



	2014		2013		2012
Statutory federal tax rate	35.0	%	35.0	%	35.0	%
State taxes, net of federal taxes	2.6		0.7		0.5
Resolution of uncertain tax positions	(0.9	)	(0.9	)	(0.5	)
Tax rate differential for international jurisdictions and other international related tax items	(11.3	)	(15.0	)	(13.6	)
U.S. tax credits	(1.9	)	(3.8	)	(0.2	)
Change in valuation allowance	(2.3	)	0.7		0.8
U.S. domestic production activities deduction	(1.8	)	(1.5	)	(1.3	)
International reorganization of acquired companies	—		0.6		0.3
Permanent items	3.9		3.8		2.8
Other	(0.2	)	0.4		0.3
	23.1	%	20.0	%	24.1	%

Substantially all the tax rate differential for international jurisdictions was driven by earnings of our Irish subsidiaries. Changes in valuation allowance are due to our assessment of the realizability of deferred tax assets related to certain state tax credit carryforwards. Based on our 2014 assessment, we released our partial valuation allowance provided in prior years.

On December 19, 2014, the Tax Increase Prevention Act was signed into law. Some of the provisions were retroactive to January 1, 2014 including an extension of the U.S. federal tax credit for increasing research activities through December 31, 2014. Our 2014 effective income tax rate reflects our estimated 2014 federal tax credit for increasing research activities.

On January 2, 2013, the American Taxpayer Relief Act of 2012 was signed into law. Some of the provisions were retroactive to January 1, 2012 including an extension of the U.S. federal tax credit for increasing research activities through December 31, 2013. Because the extension was enacted after December 31, 2012, our 2012 effective income tax rate did not reflect our 2012 federal tax credit for increasing research activities even though it was reported on our 2012 federal income tax returns. Our 2013 income tax provision included the federal tax credit for increasing research activities for 2012 as well as for 2013, which reduced our 2013 effective income tax rate by 3.5%.

The components of the current and non-current deferred tax assets and liabilities are as follows (table in millions):



	December 31, 2014						December 31, 2013
	Deferred Tax Asset			Deferred Tax Liability			Deferred Tax Asset			Deferred Tax Liability
Current:
Accounts and notes receivable	$	59		$	—		$	96		$	—
Inventory	73			—			73			—
Accrued expenses	305			—			311			—
Deferred revenue	472			—			365			—
Equity	148			—			83			—
Credit carryforwards	21			—			4			—
Net operating losses	23			—			28			—
Total current	1,101			—			960			—
Property, plant and equipment, net	—			(323		)	—			(291		)
Intangible and other assets, net	—			(605		)	—			(680		)
Equity	106			—			139			—
Deferred revenue	346			—			253			—
Other non-current liabilities	23			—			—			(13		)
Credit carryforward	234			—			280			—
Net operating losses	93			—			78			—
Other comprehensive loss	103			—			109			—
Total non-current	905			(928		)	859			(984		)
Gross deferred tax assets and liabilities	2,006			(928		)	1,819			(984		)
Valuation allowance	(126		)	—			(211		)	—
Total deferred tax assets and liabilities	$	1,880		$	(928	)	$	1,608		$	(984	)

At December 31, 2014 and 2013, net non-current state and foreign deferred tax assets of $157 million and $133 million, respectively, were included in other assets, net on the consolidated balance sheets.

We have gross federal, state and foreign net operating loss carryforwards of $264 million, $298 million and $24 million, respectively, at December 31, 2014. Portions of these carryforwards are subject to annual limitations, including Section 382 of the Internal Revenue Code of 1986 (“Code”), as amended, for U.S. tax purposes and similar provisions under other countries’ tax laws. Certain of these net operating loss carryforwards will begin to expire in 2015 if not utilized, while others have an unlimited carryforward period. We have provided a valuation allowance of $4 million and $1 million for deferred tax assets related to state and foreign net operating loss carryforwards, respectively, that are not expected to be realized.

We have federal and state credit carryforwards of $4 million and $468 million, respectively, at December 31, 2014. Portions of these carryforwards are subject to annual limitations, including Section 382 of the Code, as amended, for U.S. tax purposes and similar provisions under other countries’ tax laws. Certain of these credit carryforwards will begin to expire in 2019 if not utilized, while others have an unlimited carryforward period. We have provided a full valuation allowance of $121 million for deferred tax assets related to Massachusetts tax credit carryforwards that are not expected to be realized.

Deferred income taxes have not been provided on basis differences related to investments in foreign subsidiaries. These basis differences were approximately $11.8 billion and $10.2 billion at December 31, 2014 and 2013, respectively, and consisted primarily of undistributed earnings permanently invested in these entities. The change in the basis difference in 2014 was mainly attributable to income earned in the current year. At December 31, 2014, our total cash, cash equivalents, and short-term and long-term investments were $14.7 billion. This balance includes approximately $7.1 billion held by VMware, of which $5.0 billion is held outside of the U.S., and $5.3 billion held by EMC in entities outside of the U.S. If these overseas funds are needed for our operations in the U.S., we would be required to accrue and pay U.S. taxes to repatriate these funds. However, our intent is to permanently reinvest these funds outside of the U.S. and our current plans do not demonstrate a need to repatriate them to fund our U.S. operations. Determination of the amount of unrecognized deferred income tax liability related to these earnings is not practicable. Income before income taxes from foreign operations for 2014, 2013 and 2012 was $1.8 billion, $2.3 billion and $1.9 billion, respectively. Income before income taxes from domestic operations for 2014, 2013 and 2012 was $2.0 billion, $1.6 billion and $1.9 billion, respectively.

The following is a rollforward of our gross consolidated liability for unrecognized income tax benefits for the three years ended December 31 (table in millions):



	2014			2013			2012
Unrecognized tax benefits, beginning of year	$	266		$	270		$	197
Tax positions related to current year:
Additions	63			37			25
Reductions	—			—			(1		)
Tax positions related to prior years:
Additions	91			10			64
Reductions	(31		)	(33		)	(4		)
Settlements	(1		)	(5		)	—
Lapses in statutes of limitations	(5		)	(13		)	(11		)
Unrecognized tax benefits, end of year	$	383		$	266		$	270

As of December 31, 2014, 2013 and 2012, $316 million, $261 million and $255 million, respectively, of the unrecognized tax benefits, if recognized, would have been recorded as a reduction to income tax expense. The remainder would be an adjustment to shareholders’ equity.

We are routinely under audit by the Internal Revenue Service (the “IRS”). We have concluded all U.S. federal income tax matters for years through 2008. The IRS commenced a federal income tax audit for the tax years 2009 and 2010 in the third quarter of 2012. The current federal income tax audit is ongoing and is not expected to be completed until 2015. We also have income tax audits in process in numerous state, local and international jurisdictions. In our international jurisdictions that comprise a significant portion of our operations, the years that may be examined vary, with the earliest year being 2005. Based on the timing and outcome of examinations of EMC, the result of the expiration of statutes of limitations for specific jurisdictions or the timing and result of ruling requests from taxing authorities, it is reasonably possible that the related unrecognized tax benefits could change from those recorded in our statement of financial position. We anticipate that several of these audits may be finalized within the next twelve months. While we expect the amount of unrecognized tax benefits to change in the next twelve months, we do not expect the change to have a significant impact on our results of operations or financial position.

We recognize interest expense and penalties related to income tax matters in income tax expense. For 2014, 2013 and 2012, $9 million, $9 million and $4 million, respectively, in interest expense was recognized. In addition to the unrecognized tax benefits noted above, the gross balance of the accrued interest and penalties were $51 million, $42 million and $35 million as of December 31, 2014, 2013 and 2012, respectively.