Annual report pursuant to Section 13 and 15(d)

Income Taxes

v3.10.0.1
Income Taxes
 12 Months Ended
Jun. 30, 2018
Income Tax Disclosure [Abstract]  
INCOME TAXES
NOTE 12 — INCOME TAXES
The components of income before income taxes are as follows: 
 
Year ended June 30,
(In thousands)
2018
 
2017
 
2016
Domestic income before income taxes
$
716,015

 
$
615,906

 
$
417,803

Foreign income before income taxes
739,916

 
557,340

 
440,389

Total income before income taxes
$
1,455,931

 
$
1,173,246

 
$
858,192


The provision for income taxes is comprised of the following: 
(In thousands)
Year ended June 30,
2018
 
2017
 
2016
Current:
 
 
 
 
 
Federal
$
504,758

 
$
200,831

 
$
94,088

State
6,422

 
4,660

 
6,123

Foreign
41,414

 
38,208

 
37,680

 
552,594

 
243,699

 
137,891

Deferred:
 
 
 
 
 
Federal
98,702

 
444

 
15,645

State
1,526

 
2,852

 
3,583

Foreign
844

 
175

 
(3,349
)
 
101,072

 
3,471

 
15,879

Provision for income taxes
$
653,666

 
$
247,170

 
$
153,770


The significant components of deferred income tax assets and liabilities are as follows:
(In thousands)
As of June 30,
2018
 
2017
Deferred tax assets:
 
 
 
Tax credits and net operating losses
$
171,701

 
$
134,052

Employee benefits accrual
64,707

 
106,637

Stock-based compensation
8,902

 
15,252

Inventory reserves
62,232

 
95,200

Non-deductible reserves
29,841

 
43,140

Depreciation and amortization
701

 
3,415

Unearned revenue
11,104

 
15,757

Unrealized loss on investments
956

 
—

Other
25,602

 
26,538

Gross deferred tax assets
375,746

 
439,991

Valuation allowance
(163,570
)
 
(120,708
)
Net deferred tax assets
$
212,176

 
$
319,283

Deferred tax liabilities:
 
 
 
Unremitted earnings of foreign subsidiaries not indefinitely reinvested
$
(7,146
)
 
$
(13,213
)
Deferred profit
(13,027
)
 
(13,657
)
Unrealized gain on investments
—

 
(2,707
)
Total deferred tax liabilities
(20,173
)
 
(29,577
)
Total net deferred tax assets
$
192,003

 
$
289,706



The Company’s effective tax rate during the fiscal year ended June 30, 2018 was impacted by the Tax Cuts and Jobs Act (“the Act”), which was enacted into law on December 22, 2017. Income tax effects resulting from changes in tax laws are accounted for by the Company in accordance with the authoritative guidance, which requires that these tax effects be recognized in the period in which the law is enacted and the effects are recorded as a component of provision for income taxes from continuing operations. The Company has not fully completed its accounting for the tax effects of the enactment of the Act.

The Act includes significant changes to the U.S. corporate income tax system which reduces the U.S. federal corporate tax rate from 35.0% to 21.0% as of January 1, 2018; shifts to a modified territorial tax regime which requires companies to pay a transition tax on earnings of certain foreign subsidiaries that were previously tax deferred; and creates new taxes on certain foreign-sourced earnings. The decrease in the U.S. federal corporate tax rate from 35.0% to 21.0% results in a blended statutory tax rate of 28.1% for the fiscal year ending June 30, 2018. The new taxes for certain foreign-sourced earnings under the Act are effective for the Company after the fiscal year ending June 30, 2018
As of June 30, 2018, the Company had not fully completed its accounting for the tax effects of the enactment of the Act. The Company’s provision for income taxes for the fiscal year ended June 30, 2018 is based in part on a reasonable estimate of the effects on its transition tax and existing deferred tax balances. For the amounts which the Company was able to reasonably estimate, the Company recognized a provisional tax amount of $441.7 million for the fiscal year ended June 30, 2018. The provisional tax amount is included as a component of provision for income taxes from continuing operations. The components of the provisional tax amounts are as follows:
•
The Company recorded a provisional tax amount of $339.6 million for the transition tax liability. The Company will elect to remit the U.S. transition tax liability in installments over an eight-year period. The Company has not yet completed the calculation of the total post-1986 foreign E&P and the income tax pools for all foreign subsidiaries. Further, the transition tax is based in part on the amount of those earnings held in cash and other specified assets. This amount may change when the Company finalizes the calculation of post-1986 foreign E&P previously deferred from U.S. federal taxation and finalizes the amounts held in cash or other specified assets. In addition, further interpretations from U.S. federal and state governments and regulatory organizations may change the provisional tax liability or the accounting treatment of the provisional tax liability.
•
The Company recorded a provisional tax amount of $102.1 million to re-measure certain deferred tax assets and liabilities as a result of the enactment of the Act. The Company is still analyzing certain aspects of the Act and refining the estimate of the expected reversal of its deferred tax balances. This can potentially affect the measurement of these balances or potentially give rise to new deferred tax amounts.
The Act also includes provisions for Global Intangible Low-Taxed Income (“GILTI”) wherein taxes on foreign income are imposed in excess of a deemed return on tangible assets of foreign corporations. This income will effectively be taxed at a 10.5% tax rate in general. As a result, the Company’s deferred tax assets and liabilities are being evaluated if the deferred tax assets and liabilities should be recognized for the basis differences expected to reverse as a result of GILTI provisions that are effective for the Company after the fiscal year ending June 30, 2018, or should the tax on GILTI provisions be recognized in the period the Act was signed into law. Because of the complexity of the new provisions, the Company is continuing to evaluate on how the provisions will be accounted for under the U.S. generally accepted accounting principles wherein companies are allowed to make an accounting policy election of either (i) account for GILTI as a component of tax expense in the period in which the Company is subject to the rules (the “period cost method”), or (ii) account for GILTI in the Company’s measurement of deferred taxes (the “deferred method”). Currently, the Company has not elected a method and will only do so after its completion of the analysis of the GILTI provisions and its election method will depend, in part, on analyzing its global income to determine whether the Company expects to have future U.S. inclusions in its taxable income related to GILTI and, if so, the impact that is expected.
As of June 30, 2018, the Company had U.S. federal, state and foreign net operating loss (“NOL”) carry-forwards of approximately $23.4 million, $43.1 million and $42.1 million, respectively. The U.S. federal NOL carry-forwards will expire at various dates beginning in 2023 through 2029. The utilization of NOLs created by acquired companies is subject to annual limitations under Section 382 of the Internal Revenue Code. However, it is not expected that such annual limitation will significantly impair the realization of these NOLs. The state NOLs will begin to expire in 2018. State credits of $191.1 million and foreign NOL carry-forwards will be carried over indefinitely.
The net deferred tax asset valuation allowance was $163.6 million and $120.7 million as of June 30, 2018 and June 30, 2017, respectively. The change was primarily due to an increase in the valuation allowance related to state credit carry-forwards generated in the fiscal year ended June 30, 2018. The valuation allowance is based on the Company’s assessment that it is more likely than not that certain deferred tax assets will not be realized in the foreseeable future. Of the valuation allowance as of June 30, 2018, $145.4 million relates to state credit carry-forwards. The remainder of the valuation allowance relates primarily to state and foreign NOL carry-forwards.
 As of June 30, 2018, the Company intends to indefinitely reinvest $2.15 billion of cumulative undistributed earnings held by certain non-U.S. subsidiaries. The U.S. federal tax liability on the undistributed earnings has been accrued in the transition tax under the Act. The potential deferred tax liability on state and foreign taxes associated with the undistributed earnings would be approximately $270.5 million.
KLA-Tencor benefits from tax holidays in Israel and Singapore where it manufactures certain of its products. These tax holidays are on approved investments and are scheduled to expire at varying times in the next one to ten years. The Company was in compliance with all the terms and conditions of the tax holidays as of June 30, 2018. The net impact of these tax holidays was to decrease the Company’s tax expense by approximately $39.7 million, $32.6 million and $19.5 million in the fiscal years ended June 30, 2018, 2017 and 2016, respectively. The benefits of the tax holidays on diluted net income per share were $0.25, $0.21 and $0.12 for the fiscal years ended June 30, 2018, 2017 and 2016, respectively.
One of the Company’s Singapore holidays is scheduled to expire in August 2018. The Company’s tax rate on income earned under this holiday would increase from 5% to 17%.
The reconciliation of the United States federal statutory income tax rate to KLA-Tencor’s effective income tax rate is as follows: 
 
Year ended June 30,
 
2018
 
2017
 
2016
Federal statutory rate
28.1
 %
 
35.0
 %
 
35.0
 %
State income taxes, net of federal benefit
0.5
 %
 
0.4
 %
 
0.9
 %
Effect of foreign operations taxed at various rates
(11.0
)%
 
(12.2
)%
 
(13.0
)%
Tax Cuts and Jobs Act of 2017
30.3
 %
 
—
 %
 
—
 %
Research and development tax credit
(1.4
)%
 
(1.1
)%
 
(1.9
)%
Net change in tax reserves
(0.4
)%
 
1.3
 %
 
(2.2
)%
Domestic manufacturing benefit
(1.1
)%
 
(1.5
)%
 
(1.5
)%
Effect of stock-based compensation
(0.1
)%
 
(0.2
)%
 
0.3
 %
Other
—
 %
 
(0.6
)%
 
0.3
 %
Effective income tax rate
44.9
 %
 
21.1
 %
 
17.9
 %

A reconciliation of gross unrecognized tax benefits is as follows: 
 
Year ended June 30,
(In thousands)
2018
 
2017
 
2016
Unrecognized tax benefits at the beginning of the year
$
68,439

 
$
50,365

 
$
69,018

Increases for tax positions taken in prior years
4,642

 
6,788

 
4,245

Decreases for tax positions taken in prior years
(6,045
)
 
(246
)
 
(1,209
)
Increases for tax positions taken in current year
16,812

 
14,696

 
13,636

Decreases for settlements with taxing authorities
(9,666
)
 
—

 
(8,762
)
Decreases for lapsing of statutes of limitations
(10,188
)
 
(3,164
)
 
(26,563
)
Unrecognized tax benefits at the end of the year
$
63,994

 
$
68,439

 
$
50,365


 
The amount of unrecognized tax benefits that would impact the effective tax rate was $57.9 million, $68.4 million and $50.4 million as of June 30, 2018, 2017 and 2016 respectively. The amount of interest and penalties recognized during the years ended June 30, 2018, 2017, and 2016 was expense of $0.1 million, expense of $2.2 million, and income of $4.3 million as a result of a release of unrecognized tax benefits, respectively. KLA-Tencor’s policy is to include interest and penalties related to unrecognized tax benefits within other expense (income), net. The amount of interest and penalties accrued as of June 30, 2018 and 2017 was approximately $6.0 million and $5.9 million, respectively.
The Company is subject to federal income tax examinations for all years beginning from the fiscal year ended June 30, 2015 and is under United States federal income tax examination for the fiscal year ended June 30, 2016. The Company is subject to state income tax examinations for all years beginning from the fiscal year ended June 30, 2014. The Company is also subject to examinations in other major foreign jurisdictions, including Singapore, for all years beginning from the fiscal year ended June 30, 2014.
It is possible that certain examinations may be concluded in the next twelve months. The Company believes that it may recognize up to $10.0 million of its existing unrecognized tax benefits within the next twelve months as a result of the lapse of statutes of limitations and the resolution of examinations with various tax authorities.