21. INCOME TAXES

The components of loss before recovery of income taxes were as follows:

	2012			2011			2010
Domestic	$	(205,612	)	$	(41,374	)	$	(127,269	)
Foreign	(188,616		)	23,374			(108,994		)
	$	(394,228	)	$	(18,000	)	$	(236,263	)

The components of recovery of income taxes were as follows:

	2012			2011			2010
Current:
Domestic	$	7,189		$	3,554		$	5,860
Foreign	56,337			36,337			21,473
	63,526			39,891			27,333
Deferred:
Domestic	(11,886		)	(21,763		)	(49,820		)
Foreign	(329,843		)	(195,687		)	(5,583		)
	(341,729		)	(217,450		)	(55,403		)
	$	(278,203	)	$	(177,559	)	$	(28,070	)

The reported net book recovery of income taxes differs from the expected amount calculated by applying the Company’s Canadian statutory rate to income before recovery of income taxes.

The tax effect of major items recorded as deferred tax assets and liabilities is as follows:

	2012			2011			2010
Loss before recovery of income taxes	$	(394,228	)	$	(18,000	)	$	(236,263	)
Expected Canadian statutory rate	26.9		%	28.3		%	30.6		%
Expected recovery of income taxes	(106,047		)	(5,085		)	(72,296		)
Non-deductible amounts:
Amortization	6,173			22,251			18,304
Share-based compensation	6,258			14,045			8,024
Merger and acquisition costs	24,210			—			7,124
In-process research and development	3,228			—			5,661
Non-taxable gain on disposal of investments	(3,056		)	(15,384		)	(1,679		)
Changes in enacted income tax rates	(4,459		)	(18,313		)	880
Canadian dollar foreign exchange gain for Canadian tax purposes	9,098			40,667			3,358
Change in valuation allowance related to U.S. operating losses	—			—			45,483
Change in valuation allowance on Canadian deferred tax assets and tax rate changes	(34,245		)	(57,249		)	(46,898		)
Change in uncertain tax positions	15,433			(8,568		)	—
Foreign tax rate differences	(218,547		)	(180,301		)	(36,649		)
Loss of U.S. state net operating losses	—			—			9,783
Unrecognized income tax benefit of losses	32,019			22,187			22,768
Withholding taxes on foreign income	7,954			5,473			3,177
Alternative minimum and other taxes	(4,528		)	2,513			—
Taxable foreign income	10,675			—			—
Deferred intercompany profit	(18,588		)	—			—
Other	(3,781		)	205			4,890
	$	(278,203	)	$	(177,559	)	$	(28,070	)

	2012			2011
Deferred tax assets:
Tax loss carryforwards	$	293,547		$	285,003
Tax credit carryforwards	77,426			37,141
Scientific Research and Experimental Development pool	65,718			63,893
Research and development tax credits	67,683			62,766
Provisions	211,486			121,288
Plant, equipment and technology	7,478			11,440
Deferred revenue	60,850			22,414
Deferred financing and share issue costs	118,369			50,097
Share-based compensation	19,828			17,808
Other	23,453			15,599
Total deferred tax assets	945,838			687,449
Less valuation allowance	(124,515		)	(128,742		)
Net deferred tax assets	821,323			558,707
Deferred tax liabilities:
Intangible assets	1,801,515			1,545,807
5.375% Convertible Notes(1)	—			2,268
Prepaid expenses	1,094			441
Other	—			—
Total deferred tax liabilities	1,802,609			1,548,516
Net deferred income taxes	$	(981,286	)	$	(989,809	)

(1) In connection with the issuance of the 5.375% Convertible Notes in June 2009 (as described in note 14), the Company recognized a deferred tax liability of $14.6 million for the original basis difference between the principal amount of the 5.375% Convertible Notes and the value allocated to the liability component, which resulted in a corresponding reduction to the valuation allowance recorded against deferred tax assets. The recognition of the deferred tax liability and the corresponding reduction in the valuation allowance were recorded as offsetting adjustments to additional paid-in capital. In the years ended December 31, 2012 and 2011, the deferred tax benefit recognized in earnings as the debt discount was amortized or extinguished was offset by the deferred tax expense related to the corresponding realization of the deferred tax assets.

In 2012 and 2011, the repurchase of $18.7 million and $205.0 million principal amount of the U.S. dollar-denominated 5.375% Convertible Notes, respectively, resulted in a foreign exchange gain for Canadian income tax purposes of approximately $1.1 million and $24.0 million, respectively.

The realization of deferred tax assets is dependent on the Company generating sufficient domestic and foreign taxable income in the years that the temporary differences become deductible. A valuation allowance has been provided for the portion of the deferred tax assets that the Company determined is more likely than not to remain unrealized based on estimated future taxable income and tax planning strategies. In 2012, the valuation allowance decreased by $4.2 million. The net decrease in valuation allowance resulted from an increase in deferred tax liabilities arising from acquisitions and unrealized foreign exchange gains on intercompany loans, offset by an increase in the valuation allowance for Canadian tax loss carryforwards for the year ended December 31, 2012. The net decrease of $57.7 million in valuation allowance for 2011 resulted from the Company’s decision to write off U.S. federal and state net operating losses which were limited as a result of the Merger ($64.1 million decrease in the valuation allowance), offset by an increase in the valuation allowance for Canadian tax loss carryforwards of $6.4 million for the year ended December 31, 2011. Given the Company’s history of pre-tax losses and expected future losses in Canada, the Company determined there was insufficient objective evidence to release the remaining valuation allowance against Canadian tax loss carryforwards, ITCs and pooled SR&ED expenditures.

As of December 31, 2012, the Company had accumulated losses of approximately $397.5 million (2011 - $318.1 million) available for federal and provincial tax purposes in Canada. As of December 31, 2012, the Company had approximately $44.9 million (2011- $43.6 million) of unclaimed Canadian ITCs, which expire from 2020 to 2030. These losses and ITCs can be used to offset future years’ taxable income and federal tax, respectively. In addition, as of December 31, 2012, the Company had pooled SR&ED expenditures amounting to approximately $255.6 million (2011 - $248.3 million) available to offset against future years’ taxable income from its Canadian operations, which may be carried forward indefinitely. The valuation allowance against the Canadian deferred tax assets is $122.0 million (2011 - $124.6 million).

As of December 31, 2012, the Company has accumulated tax losses of approximately $430.6 million (2011 - $512.1 million) for federal purposes in the U.S., including pre-acquisition losses arising from the Merger of $332.2 million, which expire from 2021 to 2028 of which $185.9 million of the NOLs are subject to annual loss limitation restrictions. As of December 31, 2012 the Company had approximately $22.8 million (2011 - $19.2 million) of U.S. research and development credits, which expire from 2021 to 2031. In 2011 management determined the losses subject to limitation restrictions should be written off and the corresponding valuation allowance reversed as of December 31, 2011. The Company’s accumulated losses are subject to annual limitations as a result of previous ownership changes that have occurred. Included in the $430.6 million of tax losses is approximately $13.5 million of losses related to the exercise of non-qualified stock options and restricted stock awards.

The Company accrues for U.S. tax on the unremitted earnings of its foreign subsidiaries that are owned by the Company’s U.S. subsidiaries. Prior to the Merger, the Company asserted that the unremitted earnings of its Barbados subsidiaries would be permanently reinvested. The Company discontinued making this assertion as of December 31, 2010, but such change did not affect the Company’s deferred tax liabilities since the Barbados earnings can be repatriated to Canada without incurring additional tax. The Company continues to assert that the unremitted earnings of its U.S. subsidiaries will be permanently reinvested and not repatriated to Canada. As of December 31, 2012 the Company estimates there would be no Canadian tax liability attributable to the permanently reinvested U.S. earnings.

As of December 31, 2012, the total amount of unrecognized tax benefits (including interest and penalties) was $128.0 million (2011 - $102.3 million), of which $88.8 million (2011 - $67.3 million) would affect the effective tax rate. In the year ended December 31, 2012, the Company recognized a $27.8 million (2011 - $2.7 million) increase and a $3.4 million (2011 - $11.3 million) net decrease in the amount of unrecognized tax benefits related to tax positions taken in the current and prior years, respectively, which have resulted in a corresponding decrease to current tax expense.

The Company recognizes interest accrued related to unrecognized tax benefits and penalties in the provision for income taxes. As of December 31, 2012, approximately $24.3 million (2011 - $23.0 million) was accrued for the payment of interest and penalties. In the year ended December 31, 2012, the Company recognized approximately $1.3 million (2011 - $2.5 million) in interest and penalties.

The Company and one or more of its subsidiaries file federal income tax returns in Canada, the U.S., Barbados, and other foreign jurisdictions, as well as various provinces and states in Canada and the U.S. The Company and its subsidiaries have open tax years primarily from 2000 to 2012 with significant taxing jurisdictions including Barbados, Canada, and the U.S. These open years contain certain matters that could be subject to differing interpretations of applicable tax laws and regulations, and tax treaties, as they relate to the amount, timing, or inclusion of revenues and expenses, or the sustainability of income tax positions of the Company and its subsidiaries. Certain of these tax years are expected to remain open indefinitely.

In 2012, Valeant Pharmaceuticals International and its subsidiaries closed the IRS audits through the 2009 tax year. Additionally, Valeant closed the examination by the Australian Tax Office for the 2010 tax year. Valeant remains under exam for various state tax audits in the U.S. for years 2002 to 2010. The Company is currently under examination by the Canada Revenue Agency for years 2005 to 2006 and remains open to examination for years 2004 and later. In February 2013, the Company has received a proposed audit adjustment for the years 2005 through 2007. The Company disagrees with the adjustments and is evaluating its options and its response to Canada Revenue Agency. The total proposed adjustment will result in a loss of tax attributes which are subject to a full valuation allowance and will not result in material change to the provision for income taxes.

The following table presents a reconciliation of the beginning and ending amounts of unrecognized tax benefits:

	2012			2011			2010
Balance, beginning of year	$	102,290		$	110,857		$	66,200
Acquisition of Medicis	6,556			—			—
Acquisition of Valeant	—			—			18,916
Additions based on tax positions related to the current year	3,492			2,701			10,133
Additions for tax positions of prior years	19,036			—			15,608
Reductions for tax positions of prior years	(1,396		)	(11,268		)	—
Lapse of statute of limitations	(2,000		)	—			—
Balance, end of year	$	127,978		$	102,290		$	110,857

The Company estimates approximately $14.4 million of the above unrecognized tax benefits will be realized during the next 12 months.

Certain unrecognized tax benefits have been recorded as a reduction of deferred tax assets.

The Company effected an internal reorganization in July 2012 to streamline certain aspects of its operations. As part of this internal reorganization, the Company migrated certain of its intellectual property from Barbados to Bermuda and moved certain of its operational and managerial functions from Barbados to certain European jurisdictions (including Ireland). This is consistent with the evolution of the Company’s business and the Company expects that this internal reorganization will enable the Company to better leverage its existing and future resources on a worldwide basis and support the Company’s international expansion.