Income Taxes

NOTE 13 — INCOME TAXES

The components of the provision for income taxes were as follows:

(In millions)
Year Ended June 30,	2012	2011	2010
Current Taxes
U.S. federal	$ 2,235	$ 3,108	$ 4,415
U.S. state and local	153	209	357
International	1,947	1,602	1,701
Current taxes	4,335	4,919	6,473
Deferred Taxes
Deferred taxes	954	2	(220)
Provision for income taxes	$ 5,289	$ 4,921	$ 6,253
U.S. and international components of income before income taxes were as follows:
(In millions)
Year Ended June 30,	2012	2011	2010
U.S.	$ 1,600	$ 8,862	$ 9,575
International	20,667	19,209	15,438
Income before income taxes	$ 22,267	$ 28,071	$ 25,013
The items accounting for the difference between income taxes computed at the U.S. federal statutory rate and our effective rate were as follows:
Year Ended June 30,	2012	2011	2010
Federal statutory rate	35.0%	35.0%	35.0%
Effect of:
Foreign earnings taxed at lower rates	(21.1)%	(15.6)%	(12.1)%
Goodwill impairment	9.7%	0%	0%
I.R.S. settlement	0%	(1.7)%	0%
Other reconciling items, net	0.2%	(0.2)%	2.1%
Effective rate	23.8%	17.5%	25.0%

The reduction from the federal statutory rate from foreign earnings taxed at lower rates results from producing and distributing our products and services through our foreign regional operations centers in Ireland, Singapore, and Puerto Rico, which have lower income tax rates. In general, other reconciling items consist of interest, U.S. state income taxes, domestic production deductions, and credits. In fiscal years 2012, 2011, and 2010, there were no individually significant other reconciling items. The I.R.S. settlement is discussed below.

The components of the deferred income tax assets and liabilities were as follows:

(In millions)
June 30,	2012	2011
Deferred Income Tax Assets
Stock-based compensation expense	$ 882	$ 1,079
Other expense items	965	1,321
Unearned revenue	571	463
Impaired investments	152	424
Loss carryforwards	532	90
Other revenue items	79	69
Deferred income tax assets	$ 3,181	$ 3,446
Less valuation allowance	(453)	0
Deferred income tax assets, net of valuation allowance	$ 2,728	$ 3,446
Deferred Income Tax Liabilities
International earnings	$ (1,072)	$ (1,266)
Unrealized gain on investments	(830)	(904)
Depreciation and amortization	(670)	(265)
Other	(14)	0
Deferred income tax liabilities	(2,586)	(2,435)
Net deferred income tax assets	$ 142	$ 1,011
Reported As
Current deferred income tax assets	$ 2,035	$ 2,467
Long-term deferred income tax liabilities	(1,893)	(1,456)
Net deferred income tax assets	$ 142	$ 1,011

The valuation allowance disclosed in the table above relates to a portion of a $2.0 billion net operating loss carryforward generated primarily in foreign countries and acquired primarily through our acquisition of Skype that may not be realized.

Deferred income tax balances reflect the effects of temporary differences between the carrying amounts of assets and liabilities and their tax bases and are stated at enacted tax rates expected to be in effect when the taxes are actually paid or recovered.

As of June 30, 2012, we have not provided deferred U.S. income taxes or foreign withholding taxes on temporary differences of approximately $60.8 billion resulting from earnings for certain non-U.S. subsidiaries which are permanently reinvested outside the U.S. The unrecognized deferred tax liability associated with these temporary differences was approximately $19.4 billion at June 30, 2012.

Income taxes paid were $3.5 billion, $5.3 billion, and $4.1 billion in fiscal years 2012, 2011, and 2010, respectively.

Uncertain Tax Positions

As of June 30, 2012, we had $7.2 billion of unrecognized tax benefits of which $6.2 billion, if recognized, would affect our effective tax rate. As of June 30, 2011, we had $6.9 billion of unrecognized tax benefits of which $5.9 billion, if recognized, would have affected our effective tax rate.

Interest on unrecognized tax benefits was $154 million, $38 million, and $193 million in fiscal years 2012, 2011, and 2010, respectively. As of June 30, 2012, 2011, and 2010, we had accrued interest related to uncertain tax positions of $939 million, $785 million, and $747 million, respectively, net of federal income tax benefits.

The aggregate changes in the balance of unrecognized tax benefits were as follows:

(In millions)
Year Ended June 30,	2012	2011	2010
Balance, beginning of year	$ 6,935	$ 6,542	$ 5,403
Decreases related to settlements	(16)	(632)	(57)
Increases for tax positions related to the current year	481	739	1,012
Increases for tax positions related to prior years	118	405	364
Decreases for tax positions related to prior years	(292)	(119)	(166)
Decreases due to lapsed statutes of limitations	(24)	0	(14)
Balance, end of year	$ 7,202	$ 6,935	$ 6,542

During the third quarter of fiscal year 2011, we reached a settlement of a portion of an I.R.S. audit of tax years 2004 to 2006, which reduced our income tax expense by $461 million. While we settled a portion of the I.R.S. audit, we remain under audit for these years. In February 2012, the I.R.S. withdrew its 2011 Revenue Agents Report and reopened the audit phase of the examination. As of June 30, 2012, the primary unresolved issue relates to transfer pricing, which could have a significant impact on our financial statements if not resolved favorably. We believe our allowances for tax contingencies are appropriate. We do not believe it is reasonably possible that the total amount of unrecognized tax benefits will significantly increase or decrease within the next 12 months, as we do not believe the remaining open issues will be resolved within the next 12 months. We also continue to be subject to examination by the I.R.S. for tax years 2007 to 2011.

We are subject to income tax in many jurisdictions outside the U.S. Certain jurisdictions remain subject to examination for tax years 1996 to 2011, some of which are currently under audit by local tax authorities. The resolutions of these audits are not expected to be material to our financial statements.